Commissioner of Income Tax vs Sree Visalakshi Mills (P.) Ltd.

R. Jayasimha Babu, J.—The proviso to Section 204A(1) of the Companies Act, 1956, which was introduced by the amending Act 41 of

1974, with effect from February 1, 1975, provides that where any appointment of a person who had held the office of managing agent has been

made as secretary, consultant, or adviser, or to any other office under it, by whatever name called in a company, no such appointment shall be

continued by the company after the period of six months from the date of commencement of the amending Act, unless such appointment had been

approved by the company in the general meeting, and by the Central Government before the expiry of that period.

The assessee-company had appointed one Narayanan Chettiar as its chairman prior to the coming into force of the amending Act but had failed

to apply within the six months period to the Central Government for securing its approval of such appointment and consequently, approval was not

granted by the Central Government, and therefore he became disentitled to continue as chairman after the period of six months from February 1,

1975. On an application made by the company thereafter, the Central Government approved his appointment as chairman, but did not approve the

payment of any remuneration to him. During the period from February 1, 1975, to July 31, 1975, he had been paid salary of Rs. 3,000 per month

pursuant to the resolution passed by the general body. The Income Tax Officer has sought to disallow that amount as expenditure incurred by the

company in the course of its business on the ground that the payment made was contrary to the proviso to Section 204A(1) as also to Section

314(2)(a) of the Companies Act. The latter Section requires the expenditure of any money from the company contrary to the provisions of Section

204A, to be refunded to the company. Sub-section (2)(a) of Section 314, prohibits the company from waiving the recovery of any money

refundable under subsection (2)(a) unless permitted to do so by the Central Government.

The Tribunal reversed the order of the Income Tax Officer and held that the sum of Rs. 18,000 paid to the said Narayanan Chettiar between

February 1, 1975 and July 31, 1975, was legal when made and therefore, the expenditure which the assessee incurred was entitled to be deducted

while computing the same, as expenditure of business.

At the instance of the Revenue, that finding of the Tribunal has been called in question.

Learned counsel for the Revenue, contended that the payment has been made without the approval of the general body, that the approval for

such payment has been refused by the Central Government and, therefore, it could not be allowed as business expenditure. Counsel invited our

attention to the decision of the Andhra Pradesh High Court, in the case of Commissioner of Income Tax, Andhra Pradesh Vs. Maddi

Venkataratnam and Co. (P.) Ltd., , and the decision of the apex court in the case of Maddi Venkataraman and Co. (P) Ltd. Vs. Commissioner of

Income Tax, . The decision of this court holding that the payment made contrary to the provision of the Companies Act is nevertheless deductible

as business expenditure in the case of Commissioner of Income Tax Vs. Sree Rajendra Mills Ltd., , had been dissented from by the Andhra

Pradesh High Court in the decision reported in Commissioner of Income Tax, Andhra Pradesh Vs. Maddi Venkataratnam and Co. (P.) Ltd., .

The decision of the Supreme Court in the case of Maddi Venkataraman and Co. (P) Ltd. Vs. Commissioner of Income Tax, , has laid down

that the payment made in contravention of the Foreign Exchange Regulation Act cannot be treated as wholly and exclusively laid out for the

purpose of the assessee''s business and that evasion of law cannot be a trade pursuit. Though in cases where the entire business of the assessee is

illegal and the income of such a person is sought to be taxed, the expenditure incurred in the illegal activity, is also to be allowed as a deduction,

while in the cases of the asses-sees who carry on their business normally in accordance with law but who occasionally violate the law, such

assessees should be denied the deduction of payments made contrary to the provisions of law that being the current state of law, the question that

we are now required to consider is as to whether the payment made to the chairman of the company, after the amending Act came into force

during the period of six months from the date of the commencement of the amendment, during which period, there was no bar against his

continuing to hold the office as chairman notwithstanding the fact that he had been the managing agent of the company before its abolition, was a

payment made in violation of the provisions of the Companies Act.

Section 204A(1), proviso, permits the continuance in office of a person, who had been managing the company for a period of six months from

the date of commencement of the amending Act, Such continuance impliedly includes the payment of remuneration to the person so allowed to

continue. It is only continuation after the expiry of six months period that has been declared illegal, unless such continuation was approved by the

shareholders and the Central Government. The refusal by the Central Government to grant approval for continuation beyond the six months period,

on the ground that the application for such approval, had not been made within the six-month period, clearly does not have the effect of rendering

the continuation in office by Narayanan Chettiar, as chairman of the company, during this six-month period from the date the amending Act came

into force, illegal, The amount paid to him during that period cannot be regarded as illegal. We, therefore, hold that the sum of Rs. 18,000 paid to

Narayanan Chettiar while he was functioning as the chairman of the company from February 1, 1975 to July 31, 1975, is not illegal.

The proviso to Section 314 of the Companies Act comes into play only in cases where the approval sought by the company is not granted and

the person who has received remuneration is liable to refund the amount. The obligation cast on the employee to refund the money, and the

prohibition imposed on the company not to waive the recovery, however do not have the effect of rendering the initial payment illegal. Payment

when made, though lawful is on account of the inaction on the part of the company, or of the failure on the part of the Central Government to grant

approval, becomes refundable to the company and the company is not permitted to waive the recovery. The duty so imposed on the company not

to waive the recovery does not have the effect of making the payment made during the six months period after the coming into force of the

Companies (Amendment) Act illegal. The failure on the part of the company to effect recovery may be characterised as illegal but not the payment

made at the time it was made.

The view of the Income Tax Officer that such payment was illegal, was clearly contrary to the provisions of the Act and the Tribunal has rightly

reversed that part of the order of the Income Tax Officer.

We, therefore, answer the question referred to us in the affirmative, in favour of the assessee and against the Revenue. The assessee shall be

entitled to costs in the sum of Rs. 750.