Commissioner of Income Tax vs Tamil Nadu Small Industries Development Corporation Ltd.

N.V. Balasubramanian J.

The assessee is a company promoted by the Government of Tamil Nadu. The assessee is engaged in the business of financing industries and

extending financial assistance to small scale industries. For the assessment year 1974-75, for the purpose of computing the capital under the

provisions of the Companies (Profits) Surtax Act, 1964, the assessee claimed that the amount of Rs. 9,16,688 representing the bond redemption

fund should be treated as a part of the paid-up capital for the purpose of computing the capital under the Act. The Surtax Officer however, was of

the view that this was in the nature of a provision created to meet a known liability since the loan became due for payment in 1983. He, therefore,

held that the said sum of Rs. 9,16,688 cannot be included as part of the capital and completed the assessment under the Surtax Act.

The assessee went in appeal before the Commissioner of Income Tax (Appeals) who confirmed the view of the Surtax Officer holding that the

same could not be treated as ""reserve"" under the provisions of the Companies Act and the action of the Income Tax Officer in excluding the same

was correct in law.

Aggrieved by the order of the Commissioner (Appeals), the assessee preferred an appeal before the Appellate Tribunal. The Appellate Tribunal

noticed the Government order under which the Government of Tamil Nadu accorded sanction to the assessee to borrow money and after noticing

the-decision of the Supreme Court in Vazir Sultan Tobacco Co. Ltd., Hyderabad and Others Vs. Commissioner of Income Tax, Andhra Pradesh,

Hyderabad, , held that the bond redemption fund was created by the assessee by making the appropriation out of the profit and loss account as

and when the financial situation permitted it. Therefore, the reserve was created out of the surplus profit and it cannot be regarded as a charge

against the profit. The Tribunal, therefore, held that the reserve created by the assessee did not diminish the reserve under the head ""Reserve and

surplus"" and in this view of the matter, the Tribunal held that the bond redemption fund should be treated as a ""reserve"" to be included in the capital

and not as a ""provision"". The Revenue being aggrieved by the order of the Appellate Tribunal sought for and obtained a statement of the case and

the Tribunal has referred the following question of law for our consideration :

Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding and had valid materials to hold that the sum of Rs.

9,16,780 being the amount represented by the bond redemption fund is to be treated as ''reserve'' and should be included in the capital base for

the purpose of the Second Schedule to the Companies (Profits) Surtax Act, 1964 ?

Mr. C. V. Rajan, learned counsel for the Revenue, submitted that the order of the Appellate Tribunal is erroneous in law as the Tribunal has not

approached the question in the proper perspective to determine whether the bond redemption fund can be treated as a provision or a reserve. He

submitted that the Tribunal has not addressed itself to the proper question to consider that the said fund can be regarded as a ""reserve"". He

brought to our attention to the recent decision of the Supreme Court in the case of National Rayon Corporation Ltd. etc. Vs. Commissioner of

Income Tax, , wherein the Supreme Court held that the debenture redemption reserve was not a reserve"" and was not includible in the capital of

the company for the purpose of the Surtax Act.

The assessee has been served but there was no representation on behalf of the assessee. The matter came up for hearing on December 2, 1997.

There was no representation on behalf of the assessee and after hearing the arguments of learned counsel for the Revenue, we adjourned the

matter to today December 5, 1997, but even today, there is no representation on behalf of the assessee.

We have carefully considered the submissions of learned counsel for the Revenue and perused the records carefully. We are of the view that the

Tribunal has not approached the problem the way in which it should have done. The Tribunal after noticing the relevant provisions of the

Government order by which the Government of Tamil Nadu has sanctioned the assessee to borrow money, found that the bonds of the value of

Rs. 55 lakhs under the nomenclature of 6 per cent. public loans for 1982 were issued by the assessee. The terms and conditions approved by the

Reserve Bank of India for the issue of a bond read as under :

Bond Redemption Fund : The Tamil Nadu Small Industries Corporation shall provide in each financial year from 1971-72 to 1982-83 inclusive a

sum equal to 8 and 1/3 per cent of the total nominal value of the securities to a debt redemption fund called the Tamil Nadu Industries

Development Corporation Ltd. Bonds Redemption Fund.

The only question that would arise is whether the bond redemption fund created by the assessee is in the nature of a provision or is in the nature

of a reserve. The question when the amount set apart can be regarded as a provision or when it will be regarded as a reserve, came up for

consideration before the Supreme Court and recently in National Rayon Corporation Ltd. etc. Vs. Commissioner of Income Tax, , the apex court

has reviewed the earlier decision and held that the two concepts ""reserve"" and ""provision"" are fairly well known in commercial accountancy and

they are used under the Companies Act dealing with preparation of balance-sheets and preparation of profit and loss accounts. The Supreme

Court, therefore, held that the proper meaning that should be given to this expression should be the same meaning attached to them by the

Companies Act itself. Where a certain money is borrowed, a corresponding liability to repay arises and the borrowed money, according to the

terms of the borrowing, may be repayable whether immediately or in future. Under the terms of the agreement, the repayment can be deferred but

the obligation to repay will not cease on that account. The Supreme Court held that by issuing debentures a company takes a loan and any money

set apart in the accounts of the company must be treated as a money set apart to meet a known liability and merely because the debentures are not

redeemable during the accounting year, the liability to redeem the debentures does not cease to exist whether it is redeemable or repayable on a

future date. The question whether the bond redemption fund can be treated as a ""reserve"" or a ""provision"" has to be decided only in the light of the

test laid down by the Supreme Court in National Rayon Corporation Ltd. etc. Vs. Commissioner of Income Tax, . The assessee by borrowing the

money of Rs. 50 lakhs has undertaken the liability to repay the said sum. The terms of repayment are not before us. However, it may be repayable

immediately or in future, but if the bond redemption reserve has been created to meet a known and existing liability, then it cannot be regarded as a

reserve"" but only a provision made to meet a known and existing liability. The Appellate Tribunal, however, has proceeded on a wrong basis on

the ground that the reserve is created out of the surplus profit of the assessee and, therefore, it should be taken as a part of the reserve. The test

whether the provision was made to meet a known liability or not has not been considered by the Appellate Tribunal. Since the Appellate Tribunal

has not posed the proper question and decided the question in the manner it should be, we are of the view that the Tribunal has committed an error

in law in holding that the bond redemption fund should be treated as reserve and the reserve should be included in the capital of the company for

the purposes of the Surtax Act. Though we answer the question of law referred to us under the provisions of the Companies (Profits) Surtax Act in

the negative and in favour of the Revenue, the Tribunal is directed to decide the question afresh in the light of the decision of the Supreme Court in

National Rayon Corporation Ltd. etc. Vs. Commissioner of Income Tax, , when the matter goes before the Tribunal.