Syndicate Bank vs The Commissioner of I.T. Karnataka, Bangalore

Balakrishna, J.-The following questions of law arising out of the orders passed in I.T.A. Nos. 6 and 12 (Bangalore)/1978-79 dated 17-9-1980 have been referred to this Court under Section 256(1) of the Income Tax Act, 1961 by the Income-Tax Appellate Tribunal, Bangalore Bench, for opinion:

(1) Whether on the facts and in the circumstances of the case, the Tribunal was right in holding that the applicant was not entitled to development rebate on safe deposit lockers?

(2) Whether on the facts and in the circumstances of the case, the Tribunal was right in holding that the sum of Rs. 6,12,677/-is taxable as income of the assessee for the assessment year 1973-74?

The facts of the cases behind the above formulation of questions of law are these:

The assessee, which is common to both the cases, is the Syndicate Bank which is a nationalised banking institution and a public limited company. Before we set out further facts, we wish to make it clear that we are confining our attention only to question No. 2 since question No. 1 is covered by the ruling of this Court in the case of the same assessee for the years 1971-72 and 1972-73 rendered on 29-8-1983, reported in (1984) 150 ITR 198 holding that the assessee is entitled to development rebate on the safe deposit lockers. The learned Counsel for the

Commissioner of Income-tax, who is appearing before us, also does not dispute this fact Hence, we answer the first question in the negative and in favour of the assessee

3 Now, we revert to the facts of the case as regards question No. 2.

The Income-tax Officer in his order while referring to a sum of Rs. 6,12,677/- which had been received by the assessee as "brokerage and commission" found that instead of crediting the said amount as a revenue item to the profit and loss account, the assessee had reduced the value of investment, whereas in the earlier years of assessment, the assessee was following a different accounting method (which according to the Income-tax Officer was the proper method) by debiting the investment account at the proper value of the investment and crediting the profit and loss account with brokerage and commission. According to the Income-tax Officer, the said item is a revenue receipt and therefore exigible to tax and hence made taxable.

The assessee appealed against the order of the Income-tax Officer to the Appellate Assistant Commissioner of Income-tax who confirmed the impugned order regarding the alleged revenue receipt amounting to Rs. 6,12,677/-received by the assessee as "brokerage and commission". The Appellate Authority held that the assessee acted in the capacity of an underwriter and not in the capacity of an investor while receiving the "brokerage and commission" and hence the money received is only a revenue income. The Appellate Assistant Commissioner held that the assessee was carrying on the activity of an underwriter in the course of banking business and whatever brokerage and commission was received by the assessee was only in respect of the underwriting which the assessee had done though the assessee was sole subscriber to the debentures and securities though being an underwriter.

6 It is now contended before us by the learned Counsel for the assessee Sri Kumar that though the assessee had acted as an underwriter, the assessee had not received brokerage and commission amounting to a sum of Rs. 6,12,677/-. It would have been the brokerage and commission had the assessee been successful in securing subscription from the members of the public towards the debentures and securities. Since the public did not subscribe and since there was a contractual obligation binding the assessee to subscribe in the event of the public not coming forward to subscribe to the shares, the assessee had to necessarily resort to subscription directly through its own funds. Accordingly, the assessee invested in purchasing the shares at the face value of the shares minus Rs. 6,12,677/-. This the learned Counsel said only reduced the investment and did not result in making any profit equal to the reduced cost of investment. The learned Counsel placed reliance on certain extracts from the book on Accountancy by Pickleys wherein it is stated that, according to one view, the commission may be taken to revenue account and, according to another view, the commission should go to reduce the cost of investment. According to the author of the said book, it is more reasonable to take the view that the commission should go to reduce the cost of investments The learned Counsel placed strong reliance on the advice tendered by the Indian Banks Association. According to the Indian Banks Association, commission and brokerage which was received with reference to the investments made by a Bank was limited to the area of investment only and does not relate to the activity of underwriting which is carried on as a part of banking business. The learned Counsel further contended that the impugned order would lead to the presumption that a person is making profit out of himself. The learned Counsel for the applicant-petitioner has relied upon the decision rendered in (1981) 130 ITR 835 in the case of U.P. State Industrial Development Corporation Ltd. v. Commissioner of Income Tax. In this case, the Allahabad High Court has held that so far as the shares agreed to be underwritten and purchased by the U.P. State Industrial Development Corporation Ltd., is concerned, the transaction in substance results in the underwriter purchasing those shares for a consideration which is equal to the face value of the shares as reduced by the amount of commission and brokerage. In such a case, the Court held that the amount of underwriting commission and brokerage merely goes to reduce the value of the shares and it cannot be considered to be the income of the underwriter. It was further held in the said case that the underwriting commission earned by the assessee on the shares subscribed by the public was taxable, but the underwriting commission in the case of shares held by the assessee itself and not actually subscribed by others merely went to reduce the cost of the shares in the hands of the assessee and was not separately taxable as assessee''s income of that year. The relevant portion of the judgment in the above cited case is reproduced below:

"Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that underwriting commission in the case of shares held by the assessee itself and not actually subscribed by others was reducing the cost of the shares in the hands of the assessee and was not separately taxable as the assessees'' income of that year?

Normally understood, the business of an underwriter is that of guaranteeing to subscribe for an agreed number of shares (or amount of stock) usually being the difference between the shares (or stock) issued and those taken up by the public. In consideration of this guarantee, the company making the issue agrees to pay a commission termed as underwriting commission. An underwriter thus takes the risk of underwriting the shares of a substantial amount of an established company or a company which is not in a position to do its activity due to paucity of funds. The underwriter agrees to purchase the shares of the company floated by it provided it offers to the underwriter certain commission and brokerage on the shares to be purchased by it. In other words, they in such cases subscribe to the company''s share capital by purchasing its shares at a discounted value and the value of the shares is reduced by giving to the underwriter such commission and brokerage. For example, if the shares of Rs. 100 is offered to others at its face value, the underwriter agrees to take them for a smaller price represented by the face value of the shares reduced by the amount of commission and brokerage. Accordingly, whatever the amount the underwriter earns by way of underwriting commission it does not automatically become its income. If the shares are fully subscribed the underwriter merely gets his commission and brokerage. In such a case, he is not called upon to contribute towards the company''s capital by purchasing its shares. An underwriter is required to purchase shares only to the extent they were offered to the public but are not subscribed by the public so as to contribute towards the capital required by the company. The commission earned by the underwriter in respect of the shares offered by the company to and purchased by the public, would undoubtedly be the profits of the assessee which has to be accounted for in its profit and loss account. So far as the shares agreed by the assessee to be underwritten and purchased by it are concerned, the transaction in substance results in the assessee purchasing those shares for a consideration which is equal to the face value of the shares as reduced by the amount of commission and brokerage. In such a case, the amount of underwriting commission and brokerage merely goes to reduce the value of the shares and it cannot be considered to be the income of the assessee. The submission made by the revenue that, in such a case, the assessee notionally purchases the shares at their face value and receives the commission as income, does not appeal to us. Normally, the commission is charged by a person in respect of the transaction entered into between two other persons. Whenever some commission is paid by a seller to the purchaser, payment of such commission, in substance, results in reducing the amount of consideration for which the seller agrees to sell the property. It makes no difference whether the sale consideration is reduced by directly saying that the company agrees to sell the shares to the underwriter at reduced amounts or the company says that it will sell the shares to the underwriter at the face value but will give them certain amount as commission and borkerage. The view expressed by us is fully in accordance with normal trade practice."

According to Sri K. Srinivasan, the learned Counsel for the Commissioner of Income-tax, there is a contradiction in the ruling of the Allahabad High Court which, according to him, is found on page 840. We have carefully examined the questions referred to us and have gone through the reasoning adopted by the Allahabad High Court in the case reported in (1981) 130 ITR 835. We do not find any contradiction in the reasoning adopted by the Allahabad High Court in the said case in relation to the specific question arising for consideration in this case. Instead we find a clear and unmistakable distinction made by the Allahabad High Court while dealing with the case of public subscription of the shares secured by the underwriter and earning commission as against subscription of the shares by the assessee himself in which case the commission resulted in the reducing of the purchase price of shares. The principle enunciated in (1986) 157 ITR 86 Scientific Engineering House P. Ltd., v. C.I.T., relied on by Sri K. Srinivasan is not attracted to the facts and circumstances of this case.

We are of the opinion that the brokerage and commission received by the assessee is by way of discount and that it has to be taken into investment account as it is not business profit because it was not received for any service rendered in procuring share subscription from the public. That no shares were procured by the assessee through public subscription is not in dispute. A realistic approach is warranted since the entire brokerage and Commission is wholly intertwined with the sole investment of the assessee through direct subscription to the shares in the absence of public subscription. That in essence is all that has happened in underwriting done by the assessee. The sum of Rs. 6,12,677/- representing the brokerage and commission does not lend itself to the classification of an income arising out of business of underwriting or business profit. Viewed in this light, the perception that a person cannot make a profit out of himself is contextually relevant. The contentions of Sri Kumar, the learned Counsel for the assessee find favour with us.

We are convinced that the guidelines communicated by the Indian Banks Association in its confidential circular dated 7-5-1975 vide Annexure-B are based on the advise given to it by tax experts to the effect that brokerage received on the Bank''s sub-scription to the government securities and other guaranteed bonds should not be credited to the profit and loss account but on the other hand, should be reduced from the cost of investment, do not deviate from normal and customary trade-usage as well as the accepted principles of accounting. Further light is thrown on this aspect by Pickleys on Accountancy, 3rd Edition and it is not necessary for us to go into further details on the question. That apart, we see no reasons to ignore the guidelines furnished to the assessee by the Indian Banks Association, the credibility of which is not questioned before us.

In Syndicate Bank v. C.I.T. reported in (1984) 150 ITR 198, this Court has taken into consideration the guidelines issued by the National Institute of Bank Management for the purpose of deciding the question whether the assessee is entitled to the benefit of the development rebate. This will lend support to our view expressed in the preceding paragraphs.

Having regard to the fact that we have taken the view that the sum of Rs. 6,12,677/- only reduced the cost of investment and did not constitute income. no tax is leviable on the said receipt as revenue receipt. We answer the second question referred for our opinion in the negative and in favour of the assessee.