Commissioner of Income Tax vs Parke Davis (I) Ltd.

This reference arises under the Companies (Profits) Surtax Act, 1964, (Surtax Act) in respect of the assessment years 1971-72, 1974-75 and 1975-76.

The questions referred to us by the Tribunal u/s 256(1) of the Income Tax Act, 1961, read with section 18 of the Surtax Act, 1964, for the assessment year 1971-72 are as under :

"(1) Whether, on the facts and in the circumstances of the case, the Internal Audit Objection can be held to constitute ''information'' and whether the reassessment proceedings u/s 8(b) of the Companies (Profits) Surtax Act, 1964, are valid in law ?

(2) Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the balance to the credit of the general reserve account as on December 1, 1969, was required to be reduced by the sum of Rs. 52,50,000 being the interim dividends for the accounting year ending on November 30, 1969, declared by the board of directors on January 14, 1970, and May 5, 1970, and paid thereafter ?"

It is an agreed position that, in view of the decision of the Supreme Court in the case of Indian and Eastern Newspaper Society, New Delhi Vs. Commissioner of Income Tax, New Delhi, , the answer to question No. 1 should be in the negative and in favour of the assessee. We answer the question accordingly.

It is also an agreed position that, in view of the aforesaid answer, the issue raised in question No. 2 does not arise and, therefore, question No. 2 need not be answered.

The facts regarding the other two years are the relevant accounting years ended on November 30, 1973, and November 30, 1974, respectively. The corresponding first days of these accounting years are December 1, 1972, and December 1, 1973. The assessee had declared interim dividend of Rs. 26,25,000 in respect of the assessment year 1974-75 and Rs. 15,75,600 in respect of the assessment year 1975-76. It may be mentioned that the meetings of the board of directors to declare interim dividend were held on September 15, 1972, and November 26, 1975, respectively, for these two years. The dividends were actually paid after the end of the respective accounting years.

In working out the capital base under the Second Schedule to the Surtax Act, the Income Tax Officer has proposed to reduce the general reserve by these two amounts for the two years under reference. The assessee resisted the action of the Income Tax Officer on the ground that these dividends were declared and paid out of the current year''s profits and not out of the general reserve. It was, therefore, urged that the general reserves as they stood on the first day of the respective accounting year, should not be reduced by these two amounts respectively, for the two years under reference. The Income Tax Officer, however, overruled the assessee''s stand and reduced the general reserve by these two amounts resulting in reduction in the capital base as computed under the Second Schedule to the Surtax Act. Before the Appellate Assistant Commissioner of Income Tax (the Appellate Assistant Commissioner), the assessee once again urged that its general reserves for the two years in question should not be reduced by the amount of interim dividends declared by it. In this connection, reliance was placed on the decision of the Supreme Court in the case of J. Dalmia Vs. Commissioner of Income Tax, New Delhi, , with a view to impress upon the Appellate Assistant Commissioner that there is a difference between the dividends normally declared in the general body meeting and the interim dividends declared by the board of directors. The Appellate Assistant Commissioner accepted the assessee''s contention and directed the Income Tax Officer not to reduce the general reserve by the amount of interim dividends declared by the assessee for the two years under reference.

Thereafter, the Revenue came up in appeal before the Tribunal with a grievance that the Appellate Assistant Commissioner ought to have upheld the action of the Income Tax Officer. The assessee, on the other hand, supported the action of the Appellate Assistant Commissioner. In its order under reference, the Tribunal, however, reversed the order of the Appellate Assistant Commissioner. In its order under reference, the Tribunal, however, reversed the order of the Appellate Assistant Commissioner and confirmed the action of the Income Tax Officer.

Thereafter, the assessee had made an application u/s 256(1) of the Income Tax Act, 1961, read with section 18 of the Surtax Act before the Tribunal and the Tribunal has referred the following two question for the opinion of this court :

Assessment year 1974-75 :

"Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the balance in the general reserve account was required to be reduced by Rs. 26,25,000 being the interim dividend for the accounting year ending November 30, 1972, declared by the board of directors on September 15, 1972, and paid after November 30, 1972 ?"

Assessment year 1975-76 :

"Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the balance in the general reserve account was required to be reduced by Rs. 15,75,600 being the interim dividend for the accounting year ending November 30, 1973, declared by the board of directors on November, 26, 1973, and paid after November 30, 1973 ?"

Learned counsel for the assessee reiterated the submissions which were made before the Income Tax authorities as well as the Tribunal and strongly urged that since the assessee had not declared the dividends out of the general reserves as they stood on the first day of the relevant accounting year, there was no justification in reducing the general reserve by the amount of interim dividends declared by the assessee. In this connection, he placed strong reliance on the decision of the Supreme Court in the case of Vazir Sultan Tobacco Co. Ltd., Hyderabad and Others Vs. Commissioner of Income Tax, Andhra Pradesh, Hyderabad, , more particularly the following observations appearing at page 586 of the report :

"It is true that, u/s 205(1) of the Companies Act, 1956, it is open to the directors to recommend and the shareholders to approve payment of dividends either from the current year''s profits or from the past years'' profits. It is also true that on transfer of a portion of current year''s profits to the general reserve the augmented general reserve becomes a conglomerate fund but having regard to the natural course of human conduct of hard-headed men of business and commerce it is not difficult to predicate that the dividends would ordinarily be paid out from the current income rather than from the past savings, unless the directors in their report expressly or specifically state that payment of dividends would be made from the past savings. From the commercial point of view if any amount is required for incurring any expenditure or making any disbursement like distribution of dividends in a current year, then ordinarily the same will come out of the current income of the company if it is available and only if the same is insufficient then the past savings will available and only if the same is insufficient then the past savings will be resorted to for the purpose of incurring that expenditure or making that disbursement; such a course would be in accord with the common sense point of view."

Stressing the observations quoted above, learned counsel for the assessee submitted that, generally, any expenditure or dividend disbursement is required to be made and is made out of the current year''s profit. He, therefore, urged that, since the current year''s profits available were far in excess of the interim dividends declared by the assessee, the general reserves as on the first day of the relevant accounting year should not be reduced. As regards the year ending on November 30, 1973, he was fair enough to state that the current year''s profits of over Rs. 88,00,000 were transferred to the general reserve, however, he pointed out that the assessee had, in fact, a balance of over 2 crores of rupees in the general reserve as on the first day of the relevant accounting year and, therefore, it is not proper to hold that the interim dividends declared by the assessee was out of the general reserve and not out of the current year''s profit. For the year ending on November 30, 1972, the assessee had transferred profits of over Rs. 42 lakhs to the general reserve. He also referred to the decision of the Supreme Court in the case of Indian Tube Co. P. Ltd. Vs. Commissioner of Income Tax, , to support his contention that when the current year''s profits are far in excess of the dividends declared by the assessee, it should be presumed that the dividends are declared out of the current year''s profits and not out of the general reserve as it stood on the first day of the relevant accounting year. He, therefore, strongly argued that the reference should be decided in favour of the assessee.

We have carefully considered the submission made on behalf of the assessee and we are not inclined to accept the same. Interim dividends declared by the assessee have to be deducted from the general reserve as on the first day of the relevant accounting year irrespective of the accounting treatment given by the assessee in its books of account. Further, the fact that interim dividends are declared by the board of director, and not in the annual general body meeting would not in any way affect the provisions of the Second Schedule to the Surtax Act. By now, there are a number of decisions of the Supreme Court as well as of this court wherein it has been held that the dividends declared have to be reduced from the general reserve as it stands on the first day of the relevant accounting year. In this view of the matter, we answer both these questions in the affirmative and against the assessee. No order as to costs.