Commissioner of Income Tax vs Industrial Credit and Development Syndicate Ltd.

S. Rajendra Babu, J.—The matter under reference arises under the Companies (Profits) Surtax Act, 1964 (''the Act''). The Syndicate Bank

came to be amalgamated with the assessee- company. For the assessment year 1973-74, the assessee claimed that a sum of Rs. 1,68,20,000

should be treated as a reserve for the purpose of the Act. The ITO held that the said sum was not a reserve as this amount represented the surplus

''received as compensation'' when the company''s business was taken over on the nationalisation of the bank and rejected the contention. He also

stated that in working out the capital, he took note of the reduction in capital and in spite of the objection from the assessee, overruled the same.

On appeal, the AAC held that the company itself had not treated this amount as a reserve and it represented an existing liability which is liable to

be distributed among the shareholders. He also held that it was not a reserve within the meaning of the Companies Act, 1956 or in the parlance of

commercial accountancy. As regards the computation of capital, he held that the certificate issued u/s 103 of the Companies Act alone is

conclusive and the date of registration should be taken as the effective date for reduction or date of special resolution to reduce the capital. In that

view of the matter, he affirmed the findings of the ITO.

On further appeal to the Tribunal, the Tribunal found that the capital has to be computed as on 1-1-1972, and the relevant balance sheet as on

31-12-1971, should be looked into. The amount of Rs. 1,68,20,000 stood as ''excess of compensation over paid-up share capital and premium

as at 18-7-1969'' and it is only in the subsequent period that this sum was shown as ''funds of the shareholders of Syndicate Bank Ltd.'' and

considered that the latter treatment was irrelevant in considering the assessee''s claim. On 1-1-1972, it is not the funds of the shareholders of the

Syndicate Bank even though it may not be treated as a reserve in the balance sheet and looking into the circumstances of the case, it is, in

substance, a reserve, and allowed the contention of the assessee. On the question relating to the reduction of capital, the Tribunal held that the date

of filing of the return to the Registrar of Companies u/s 103(2) would be the effective date. Thus, the Tribunal allowed the appeal of the assessee in

toto.

Aggrieved by the order of the Tribunal, the revenue sought for a reference to this Court on the following two questions:

Whether, on the facts and in the circumstances of the case, the Appellate Tribunal is right in law in holding that the amount of Rs; 1,68,20,000

representing the excess of compensation received at the time of nationalisation of the bank should be treated as a ''reserve'' for the purpose of

capital computation?

Whether, on the facts and in the circumstances of the case, the Appellate Tribunal is right in law in holding that for the purpose of rule 3 of the

Second Schedule to the Companies (Profits) Surtax Act, the date of filing of the return with the Registrar of Companies u/s 103(2) of the

Companies Act is the relevant date?

We shall take up the second question for consideration:

Section 103(2) of the Act reads as follows:

Registration of order and minute of reduction.- (1)****

(2) On the registration of the order and minute, and not before, the resolution for reducing share capital as confirmed by the order shall take effect.

In view of the plain meaning of section 103(2) of the Act, the view of the Tribunal is that the date of filing- of the return with the Registrar of

Companies u/s 103(2) of the Act, would be the effective date, which is 13-12-1972. Hence, we answer this question in the affirmative and against

the revenue.

On the first question, in order to appreciate the contentions raised by the learned counsel, a brief reference to the various provisions of the Act

may be necessary.

Section 4 of the Act provides for charging of tax on such chargeable profits of the previous year or previous years, as the case may be, as

exceed the statutory deduction, at the rate or rates specified in the Third Schedule.

Surtax is to be charged on the amount by which the chargeable profits exceed the amount of the statutory deduction and the Second Schedule

to the Act provides for computing the capital of a company for the purposes of surtax which reads as follows:

(i) its paid-up share capital;

(ii) its reserves, if any, created under the proviso (b) to clause (vib) of sub-section (2) of section 10 of the Indian income tax Act, 1922 (11 of

1922), or under sub-section (4) of section 32A, or subsection (3) of section 34 of the income tax Act, 1961 (43 of 1961);

(iii) its other reserves as reduced by the amounts credited to such reserves as have been allowed as a deduction in computing the income of the

company for the purposes of the Indian income tax Act, 1922 (11 of 1922), or the income tax Act, 1961 (43 of 1961);

(iv) and (v) ****

Explanation : For the removal of doubts, it is hereby declared that any amount standing to the credit of any account in the books of a company as

on the first day of the previous year relevant to the assessment year which is of the nature of item (5) or item (6) or item (7) under the heading

''Reserves and Surplus'' or of any item under the heading ''Current Liabilities and Provisions'' in the column relating to ''Liabilities'' in the ''Form of

balance sheet'' given in Part I of Schedule VI of the Companies Act, 1956 (1 of 1956), shall not be regarded as a reserve for the purposes of

computation of the capital of a company under the provisions of this Schedule.

The question, therefore, for consideration is:

Whether the excess of compensation over paid-up share capital and premium of Rs. 1,68,20,000 could be treated as a reserve and not attract

surtax?

The expressions ''provision'' and ''reserve'' have been the subject- matter of several decisions of the Supreme Court. In Metal Box Company

of India Ltd. Vs. Their Workmen, the Supreme Court held that reserves are amounts set aside out of profits and other surpluses, not designed to

meet a liability, contingency, commitment or diminution in the value of assets known to exist at the date of the balance sheet; but an amount set

aside out of profits and other surpluses to provide for any known liability of which the amount cannot be determined with substantial accuracy in a

provision. This concept is reiterated in Vazir Sultan Tobacco Co. Ltd. v. CIT [1981] 132 ITR 659 (SC) wherein it has been held that a provision

was meant to provide for any known liability and the essence or the substance of the matter had to be kept in view. This view was further

reiterated by the Supreme Court in Commissioner of Income Tax, Kanpur Vs. Elgin Mills Ltd., Kanpur, However, different types of reserves and

their effect for the purposes of the Act were considered by the Supreme Court in Commissioner of Income Tax, Kanpur Vs. Saran Engineering

Co. Ltd,

The contention of the Department is that there was no earmarking of the amount as a reserve for a specific purpose as held by the Supreme

Court in Elgin Mills Co. Ltd.''s case (supra), that reserve is an appropriation of profit to provide for an asset which it represented and that the

Tribunal was wrong in holding that the same is a reserve. However, it may be seen that the Supreme Court in that case was concerned with

different types of reserves, viz., (i) investment reserve; (ii) rehabilitation reserve; (iii) capital reserve; and (iv) depreciation reserve. In analysing the

same, the Supreme Court took the view that the reserve is an appropriation of profit to provide for an asset which it represented. That was the

observation made in the context of that case. In the case of Saran Engg. Co. Ltd. (supra), the Supreme Court categorically observed that so far as

the capital reserve is concerned, that amount representing the reserve fund and not earmarked for being utilised for any existing liability by the

company, it must be held to be a reserve.

A close reading of the various observations of the Supreme Court leads to the inference that the substance of the matter has to be looked into.

In the present case, when the banks were nationalised and the company''s business was taken over, the amount of Rs. 1,68,20,000 paid to them

by way of compensation was the amount left with the company and, in fact, on the day, there was no known liability of the company at all. In view

of the fact that it is not to be appropriated towards any known liability, a liability known and existing on the date of the balance sheet, it is to be

treated as a reserve in accordance with the well known practice of commercial accountancy.

In this connection, a reference may be made to Advanced Accounts by M.C. Shukla and T. S. Grewal, Sixth Edition, at pages 196-197.

Examples of reserves are, general reserve, capital reserve, dividend equalisation reserve, contingency reserve, etc. This finds support from the

Sixth Schedule to the Companies Act, which deals with various reserves that are referred to by the learned authors.

In this view of the matter, the Tribunal is right in reaching its conclusion. Therefore, we answer the first question referred to us in the affirmative

and against the Revenue.