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Judgment
N.V. Balasubramanian, J.—In compliance with the direction of this court in T. C. P. Nos. 309 to 318 of 1986, dated November 12, 1986,
made u/s 256(2) of the Income Tax Act, 1961 (hereinafter to be referred to as ""the Act""), the Income Tax Appellate Tribunal (hereinafter to be
referred to as ""the Tribunal""), has stated a case in T. C. Nos. 935 to 944 of 1988 and referred the following"" questions of law in relation to the
assessment of the assessee for the assessment years 1972-73, 1973-74, 1976-77 and 1977-78 :
(1) Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was correct in holding and had valid material to hold that
the dividend income received from the subsidiary company should be assessed under the head ''Business'' and not under the head ''Income from
shares'' ?
Whether, the Appellate Tribunal was correct in holding that the interest income in respect of the compensation paid by the Government of
Kerala should not be assessed in entirety on receipt basis in the assessment year relevant to the previous year in which it was received but should
be assessed on actual basis and spread over the years between the date of acquisition and the date of actual payment ?
At the instance of the Commissioner of Income Tax, Tamil Nadu-III, Madras, the Appellate Tribunal has stated a case in T. C. Nos. 1258 to
1260 of 1990 u/s 256(1) of the Act and referred the following two questions of law for the assessment years 1975-76, 1978-79 and 1979-80 :
Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in law in holding that after its acquisition of the
electricity undertaking of the assessee-company in 1963, the assessee was carrying on business through its subsidiaries and that its loss shall be set
off against income of the assessee-company ?
Whether the Appellate Tribunal was right in holding that interest receipt of Rs. 1,160 was assessable as business income and no portion of the
expenses is disallowable ?
The first question referred in T. C. Nos. 935 to 944 of 1988 is common to the two questions referred to in the other tax case batch, T. C. Nos.
1258 to 1260 of 1990 and the second question referred to us in T. C. Nos. 935 to 944 of 1988 is an independent question and in so far as the
said question is concerned, learned counsel for the Revenue has fairly submitted that the issue raised in the question is covered against the Revenue
by the decision of the Supreme Court in the case of Commissioner of Income Tax, Madras Vs. T.N.K. Govinda Raju Chetty, , and following the
said decision of the Supreme Court, we answer the second question of law referred in T. C. Nos. 935 to 944 of 1988 in the affirmative and
against the Revenue.
The relevant facts necessary for the disposal of the first question in T. C. Nos. 935 to 944 of 1988 are that the respondent West Coast Electric
Supplies Corporation Limited, Madras (hereinafter to be referred to as ""the assessee""), was assessed in the status of a public limited company
which was carrying on the business of distribution of electricity. The assessee had three undertakings, and its undertaking at Cannanore and
Tellicherry was acquired by the Government of Kerala on March 30, 1957, and the undertaking at Calicut was acquired by the Government of
Kerala on August 1, 1963 (though in the order of the Tribunal it is wrongly stated as August 1, 1983), while the undertaking at Mahe was sold by
the assessee to the Government of Pondicherry on March 30, 1969. Consequently, after those dates, the assessee had ceased to carry on any
business in the distribution of electricity. The assessee pursued its remedy for compensation and obtained compensation for the undertakings
acquired by the Governments and the assessee with the permission of the Government of India, purchased shares of two industrial units, viz., Shri
Sundar Welders and Engineers (later known as ""Coromandel Steels Limited."") and Spheroidal Castings Limited and the assessee also changed its
name from West Coast Electric Supplies Corporation Limited into Wesco Engineers Limited. The assessee had acquired the entire shares of the
abovesaid two companies and they became wholly owned subsidiaries of the assessee-company. The assessee was in receipt of dividend income
from the said two subsidiary companies during the previous years relevant to the assessment years in question. The Income Tax Officer assessed
the dividend income under the head, ""Income from other sources"" and did not set off the business losses brought forward from earlier years on the
score that the business of the assessee-company, viz., supply of electricity was closed subsequent to the acquisition of its undertakings by the
Governments of Kerala and Pondicherry.
The assessee preferred appeals before the Commissioner of Income Tax (Appeals) and contended that the Income Tax Officer was not correct
in assessing the dividend income of the assessee under the head ""Income from business"" (sic). The Commissioner of Income Tax (Appeals)
rejected the request of the assessee for a direction to assess the dividend income under the head ""Income from business"" on the ground that there
was a total termination in the assessee''s business because of the operation of law and the assessee did not carry on any business during the
accounting years relevant to the assessment years in question. Though an argument was sought to be raised by the assessee that the business of the
assessee was carried on through the subsidiary companies, the argument was not accepted by the Commissioner of Income Tax (Appeals) who
held that the two subsidiary companies were separately assessed to Income Tax and their income was taxed under the head ""Business"". It was also
held that it was not the case of the assessee that its business consisted of managing agency. In this view of the matter, the Commissioner of Income
Tax (Appeals) upheld the order of the Income Tax Officer and held that the Income Tax Officer was justified in not carrying forward the losses of
the earlier years and in assessing the dividend income under the head ""Income from other sources"".
The assessee carried the matter in appeal before the Income Tax Appellate Tribunal. The Tribunal held that the assessee had the intention to
carry on business and had effectuated the intention by acquiring complete control of the said two subsidiary companies and carried on business
through them. The Tribunal, after noticing the minutes of the board meeting, held that the assessee-company had the control over the ventures of
the subsidiaries and the assessee had provided finance and stood guarantee for loans and the assessee was in constant and effectual control over
the business of the said two subsidiary companies. The Tribunal in considering the question whether the subsidiary companies were carrying on the
parent business or their own business, formulated certain tests and held that except the first test, viz., whether the profits were treated as those of
the parent company, other tests were fulfilled. The Tribunal held that the assessee-company was carrying on the business of the subsidiary
companies and the dividend income should be assessed under the head ""Business income"" and the assessee would be entitled to claim that the
carried forward business loss should be set off against the business income.
The order of the Tribunal was followed by the Tribunal in other cases which are the subject-matter of tax cases in T. C. Nos. 1258 to 1260 of
1990.
Mr. C. V. Rajan, learned senior counsel for the Revenue, submitted that the Tribunal was not correct in holding that the assessee-company was
carrying on its business through the subsidiary companies. He submitted that the assessee had invested money in the subsidiary companies and
there is a specific head to charge the income from dividend under ""income from other sources"" and the shares of the assessee were not held by the
assessee as stock-in-trade and the Tribunal was not correct in holding that the income from the subsidiary companies should be treated as income
from the business of the assessee. Learned counsel submitted that since all the tests formulated by the Tribunal are not fulfilled, the Tribunal was
not correct in holding that the assessee-company carried on its business through the subsidiary companies and the dividend income was correctly
assessed under the head ""Income from other sources"".
Mr. P. P. S. Janarthana Raja, learned counsel appearing for the assessee, on the other hand, submitted that except one test, all other tests are
fulfilled, and the Tribunal was correct in holding that the assessee had the intention to carry on business and effectuated the intention by acquiring
the complete control of the subsidiary companies and the assessee had acquired the shares of the subsidiary companies with the permission of the
Government of India. Learned counsel submitted that the assessee was carrying on its business through the subsidiary companies. He made a
reference to the objects of the memorandum and submitted that in view of the fact that the business of the aissessee was holding the subsidiary
companies, the Tribunal was correct in holding that the dividend income derived from the shares of the subsidiary companies should be assessed as
business income"".
Mr. C. V. Rajan, learned senior counsel for the Revenue, in his reply, submitted that it is not the case of the assessee at any point of time that
the business of the assessee was the holding of two subsidiary companies and since the case of the assessee throughout was that the assessee was
carrying on the business of the subsidiary companies, it is not open to the assessee to put forward a new case which was not raised before the
Tribunal and he therefore submitted that the question that was sought to be argued by learned counsel for''the assessee does not arise out of the
order of the Tribunal.
We have carefully considered the submissions of learned counsel. Though the Tribunal has not referred to the decision in Smith, Stone and
Knight Ltd. v. Lord Mayor, Aldermen and Citizens of the City of Birmin gham [1939] 4 All ER 116 , it referred to the tests laid down by Atkinson
J., in the said judgment and the learned judge considered and held the following six points would be relevant to determine the question whether the
subsidiary company was carrying on its parent-company''s business or its own :
Were the profits treated as those of the parent-company ?
Were the persons conducting the business appointed by the parent-company?
Was the parent company the head and brain of the trading venture ?
Did the parent-company govern the adventure and decide what should be done and what capital should be embarked on it ?
Were the profits made by its skill and direction ? and
Was the parent-company in effectual and constant control ?
There is no doubt, on the facts of the case, the first test formulated by Atkinson J., is not satisfied as the profits of the subsidiary companies are
not taken as part of the profits of the assessee-company. Though other criteria are found to have been satisfied as the directors of the subsidiary
companies and the parent-company are the same, however, we are of the view that the guidelines given by the learned judge in Smith, Stone and
Knight Ltd.''s case [1939] 4 All ER 116 (KB) are not conclusive but they are useful guidelines. In Smith, Stone and Knight Ltd.''s case [1939] 4
All ER 116 (KB), the subsidiary company never declared any dividend and the profit was treated as the profit of the holding company. There was
also other evidence to show that the claimant had complete control over the affairs of the other company and it was found that all tests laid down
were satisfied and in the peculiar circumstances, it was held that the business carried on by the subsidiary company could be regarded as the
business of the parent company.
The House of Lords in Odhams Press Ltd. v. Cook [1941] 9 ITR (Supp.) 92, considered a similar question and laid down the following test
to determine whether the profits of one company can be treated as the profit of another company (page 109) :
... there can be no doubt that limited companies who carry on business are separate taxable persons, and the profits and gains of their several
businesses are separate profits and gains for the purposes of the Income Tax Acts. This is none the less true if one of the companies should be the
parent company, and the other or others may be its subsidiaries of which the shares are held are owned by the parent company.
The observation of Viscount Caldecote L.C., in Odhams Press Ltd.''s case [1941] 9 ITR (Supp.) 92 , is also relevant for the purpose of this
case (page 106) :
It is tempting to treat what I have called the subsidiary company as if it was part and parcel of the appellants, but, as the Master of the Rolls points
out, the two companies are separate taxable persons. The trade or business of one company, even though it may affect very closely the trade or
business of another, is not the same as that other''s trade or business.
In Gower''s Principles of Modern Company Law (fourth edition), at page 129, the learned author made the following observation :
The trouble is that the attitude of the courts is unpredictable. Each case where they have regarded the subsidiary as agent of the parent can be
matched with another in which they have refused to do so. Indeed, in one case (Ebbw Vale V. D. C. v. South Wales Traffic Area Licensing
Authority [1951] 2 KB 366), it was said in the Court of Appeal that :
Under the ordinary rules of law, a parent company and a subsidiary company, even a 100 per cent, subsidiary company, are distinct legal entities,
and in the absence of an agency contract between the two companies one cannot be said to be the agent of the other.
In CIT v. United Breweries [1975] 89 ITR 17 , the court held as under (page 25) :
The agency can be implied from the relationship between the parent-company and its subsidiary. The true test appears to be whether there is, in
addition to capitalist control, what one may call as ''functional control'' by the parent over its subsidiary. If the parent-company did exercise
functional control over its subsidiary, the existence of a subsidiary as a separate legal entity could not prevent the business of the subsidiary being
treated as that of the parent.
Applying the above tests, it is clear that because the assessee holds all the shares of the other company, it does not mean that the assessee is
carrying on the business of the subsidiary company and it does not make the other company as its agent for carrying on its business. We have gone
through the materials relied upon by the Tribunal and we are of the view that there are no materials for the Tribunal to come to the conclusion that
the assessee-company carried on the business of the subsidiary companies or the business carried on by the subsidiary companies was not that of
the subsidiary companies, but that of the assessee-company. It is relevant to notice here that the subsidiary companies are treated as separate legal
entities and their profits are separately assessed and there are no materials to show that the entire profits of the subsidiary companies are treated as
the profits of the assessee-company.
The Tribunal, in our view, was not quite justified from the materials produced before it to come to the conclusion that the assessee-company
carried on its business through the subsidiary companies. Though the materials relied upon show that some control over the activities of the
subsidiary companies was exercised by the assessee-company, yet the control was consistent with the investment it made towards the entire share
capital of the subsidiary companies. Since the first test is not satisfied, viz., subsidiary companies'' profits are not treated as profits of the assessee-
company, we are of the opinion that even if the other five tests are satisfied, it does not follow that the assessee-company carried on its business
through the subsidiary companies. We are of the opinion that the control exercised by virtue of voting power would not make the business of the
subsidiary companies the business of the holding company. We hold that the right of the assessee by virtue of holding shares in the subsidiary
companies was to receive dividend and the assessee-company received dividend in the capacity or the character of a shareholder and if the view
of the Tribunal is accepted, the entire profits earned by the subsidiary companies would have to be treated as the profits of the assessee-company.
Moreover, the fact that existence of separate legal entities of both companies is recognised and acted upon would in our opinion disentitle the
assessee from claiming that the assessee was carrying on its business through the subsidiary companies. It is neither the case of the assessee-
company, nor it was also established before the authorities that the assessee was holding shares as its stock-in-trade and if the shares are not held
as stock-in-trade, it must be held that the assessee was holding the shares only as an investment and the dividend income received from such
investment of shares was rightly assessed by the Income Tax Officer as income from other sources. The control exercised by the assessee-
company over the affairs of the subsidiary companies is also in consonance with its position of the holding of the entire shares of the subsidiary
companies by the assessee and from the control exercised, it cannot be inferred that the assessee-company was carrying on its business through
the subsidiary companies.
In this connection, the decision of the Supreme Court in the case of Bengal and Assam Investors Ltd. Vs. Commissioner of Income Tax, West
Bengal, , relied upon by learned counsel for the Revenue is relevant and the Supreme Court has held that for the dividend income on the shares to
be assessed as business income, the assessee must carry on the business in respect of the shares, i.e., the assessee must deal with the shares, but
where an individual or a company merely invests in shares for the purpose of earning dividend, he or it would not be regarded as carrying on
business and the only way to decide the question when the dividend income can be regarded as business income would be by converting the
shares into stock-in-trade, i.e., by carrying on the business of dealing in stocks and shares. The Supreme Court has also held that if a company
merely acquires and holds shares with the object of receiving dividend, it does not carry on business within the meaning of Section 28 of the Act.
The Supreme Court has also held that where a company is incorporated to carry on investment, it does not mean that it is carrying on business.
The above decision of the Supreme Court would squarely apply to the facts of the case and since the assessee-company was not holding the
shares as stock-in-trade, it must be held that the income by way of dividend received from the shares is assessable under the head, ""Income from
other sources"" as it is a specific head of income u/s 56 of the Act.
Realising the difficulty, learned counsel for the assessee submitted that the business of the assessee itself is the holding of the investment in
subsidiary companies. In this connection, he relied upon the decision of this court in the case of Commissioner of Income Tax Vs. Amalgamations
(P.) Ltd., , Learned counsel for the assessee submitted that before the Income Tax Officer, an argument was advanced that the holding of
investment in subsidiary companies was itself a business of the assessee, and hence, he may be permitted to urge that point before this court. We
find that though before the Income Tax Officer, some attempt was made to show that the holding of investment in the subsidiary companies would
amount to carrying on the business, the Income Tax Officer rejected the same. The assessee did not pursue that line of reasoning before the first
appellate authority. The case of the assessee before the Tribunal was that it was carrying on its business through the subsidiary companies, and
hence, the dividend income should be assessed under the head ""Business"" and the new case now put forward by learned counsel for the assessee
that the holding of investment itself would amount to carrying on the business of the assessee was not put forward by the assessee before the
Tribunal and the Tribunal has not considered the same and rendered any finding on that aspect. We therefore hold that it is impermissible for the
assessee to raise a new contention that the holding of investment itself would amount to the business of the assessee, as the contention now raised
is not a pure legal issue but would involve investigation into facts and other materials and establishment of new facts. We hold that on the basis of
the decisions of the Supreme Court in New Jehangir Vakil Mills Ltd. Vs. Commissioner of Income Tax, North, Kutch and Saurashtra, ;
Commissioner of Income Tax, Bombay Vs. Scindia Steam Navigation Co. Ltd., and Gobald Motor Service (P.) Ltd. Vs. Commissioner of
Income Tax, Madras, , it is not open to the assessee to raise a new ground which was not considered by the Tribunal. In other words, we hold
that the argument now sought to be put forward for the first time does not arise out of the order of the Tribunal and, hence, we decline to entertain
the argument that was sought to be advanced by learned counsel for the assessee that the holding of investment would amount to carrying on its
business.
Learned counsel also referred to the permission granted by the Government in acquiring the shares and submitted that the holding of investment
would amount to carrying on its business. As we are not permitting the assessee to raise the new point that is raised for the first time before us
which does not arise out of the order of the Tribunal, we are not inclined to consider the case of the assessee that its business was holding
subsidiary companies. As already held by us, the Tribunal was not correct in holding that the assessee was carrying on its business through its
subsidiary companies. We, therefore, hold that the dividend income received by the assessee was rightly assessed by the Income Tax Officer
under the head ""Income from other sources"" and the Tribunal was not justified in holding that the dividend income should be assessed under the
head, ""Income from business"".
Accordingly, we answer the first question of law in T. C. Nos. 935 to 944 of 1988 in the negative and in favour of the Revenue. We answer
the first and second questions in T. C. Nos. 1258 to 1260 of 1990 also in the nega tive and in favour of the Revenue, as the answer to the said
questions is consequential to the answer rendered by us to the first question in T. C. Nos. 935 to 944 of 1988. In so far as the second question in
T. C. Nos. 935 to 944 of 1988 is concerned, the said question is answered in favour of the assessee and accordingly, we answer the said question
in the affirmative and against the Revenue.
Accordingly, we answer the various questions as under :
First question : Answered in the negative and in favour of- the Revenue.
Second question : Answered in the affirmative andagainst the Revenue.
Tax Cases Nos. 1258 to 1260 of 1990:
First question : Answered in the negative and infavour of the Revenue.
Second question : Answered in the negative and in favour of the Revenue.
In view of the divided success, there will be no order as to costs.