Skip to content


Commissioner of Income-tax Bombay City-ii Vs. D.G. Goenka - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtMumbai High Court
Decided On
Case NumberIncome-tax Reference No. 48 of 1971
Judge
Reported in[1981]129ITR260(Bom)
ActsIncome Tax Act, 1961 - Sections 14, 56, 56(2), 86, 99, 183, 263 and 297
AppellantCommissioner of Income-tax Bombay City-ii
RespondentD.G. Goenka
Excerpt:
- - the question which has been referred is an follows :whether, on the facts and in the circumstances of the case, the dividend received by the assessee on the shares held by him as stock-in-trade of his share business was earned income ?' 2. the assessee is admittedly a broker as well as a dealer in shares and carried on in the relevant assessment years 1963-64, 1964-65 and 1965-66 a regular business of purchasing and selling shares. the judicial member took the view that the dividend income was received as accretion to the stock-in-trade and such accretion to the stock-in-trade was like any other accretion to the stock-in-trade. 25 (3) in respect of interest on securities as well, observed that there was no reason to restrict the condition of the applicability of the exemption under.....chandurkar, j.1. the answer to the question referred in this reference at the instance of the revenue depends upon the construction of the definition of 'earned income' in s. 2 (7) of the finance act. the question which has been referred is an follows :'whether, on the facts and in the circumstances of the case, the dividend received by the assessee on the shares held by him as stock-in-trade of his share business was earned income ?'2. the assessee is admittedly a broker as well as a dealer in shares and carried on in the relevant assessment years 1963-64, 1964-65 and 1965-66 a regular business of purchasing and selling shares. during the course of his business, he often sold shares-cum-dividends. at times, when he could not deliver the shares to the purchasers before the transfer books.....
Judgment:

Chandurkar, J.

1. The answer to the question referred in this reference at the instance of the revenue depends upon the construction of the definition of 'earned income' in s. 2 (7) of the Finance Act. The question which has been referred is an follows :

'Whether, on the facts and in the circumstances of the case, the dividend received by the assessee on the shares held by him as stock-in-trade of his share business was earned income ?'

2. The assessee is admittedly a broker as well as a dealer in shares and carried on in the relevant assessment years 1963-64, 1964-65 and 1965-66 a regular business of purchasing and selling shares. During the course of his business, he often sold shares-cum-dividends. At times, when he could not deliver the shares to the purchasers before the transfer books of the company were closed for the declaration of dividend, the assessee would receive and collect the dividend being the registered shareholder of such shares and would pay the dividend to the purchaser by giving credit for the dividend amount towards the price recoverable by him. In the three assessment years in question, the assessee received total dividends of Rs. 1,26,118 and Rs. 69,227 during the course of his share business. Out of these amounts he paid back to the purchasers the dividends received by him on the shares sold by him and the amounts so refunded to the purchasers amounted to Rs. 85,769, Rs. 42,927 and Rs. 46,160, respectively, in the three years under appeal. The ITO deducted these amounts out of the income from brokerage and the income from share business while he included the gross dividends received by the assessee as his income under the head 'Other sources'. The ITO treated the dividend income as unearned income. However, at the instance of the assessee, the assessment orders were rectified by the ITO and the dividend incomes were classified as earned income.

3. The Commissioner of Income-tax, Bombay, exercised his revisional jurisdiction under s. 263 of the I. T. Act, 1961, and modified the assessment orders in respect of the three years in question by treating and assessing the dividend as unearned income.

4. The assessee challenged this action of the Commissioner by three separate appeals in respect of the three years in question. It was contended on behalf of the assessee before the Tribunal that the share business carried on by the assessee which yielded profit partly in the form of dividend income, required effort, endeavour, exertion, study and application of mind and the dividend income was earned by the assessee as an integral part of his income from the share business and was thus indistinguishable from the rest of the income from the business in shares. According to the assessee, when the rest of the income from share business was treated as earned income, there was no reason for the dividend income to be treated differently though dividend income was separately chargeable under the head 'Others sources'. According to the revenue, the dividend income accrued to the assessee effortlessly and automatically by reason of his being the owner of the shares in question and he could not, therefore, be said to have exerted himself for earning the said income.

5. There was a difference of opinion between the Judicial Member and the Accountant Member of the Tribunal. The Judicial Member took the view that the dividend income was received as accretion to the stock-in-trade and such accretion to the stock-in-trade was like any other accretion to the stock-in-trade. He took the view that whatever effort, exertion and application of mind was necessary for earning the rest of the income from the share business was also required for earning the dividend income and since the said effort produced both the parts of the income, it was impossible to distinguish the exertion required for earning one part of the income from the exertion required for earning the other part of the income. The two segments of the income of the share business, according to the Judicial Member, formed an integral and inseparable part of the same income and possessed identical features, character and quality. Thus, according to the Judicial Member, the dividend income was earned income for the purposes of the Finance Act.

6. The Accountant Member took a contrary view and he held that the dividend enures to a shareholder by the ownership of the shares irrespective of the question whether the shares were held as stock-in-trade or as investment and the motive for acquiring the shares and circumstances in which the shares bought were immaterial. According to the Accountant Member, the mere ownership of shares generated income and no activity on the part of the shareholder is needed to earn the same. The dividend income was, therefore, in his view, unearned income.

7. There being difference of opinion, the question as to whether the dividend received by the assessee on the shares held by him as his stock-in-trade was earned income was referred to the President of the Tribunal. The President of the Tribunal agreed with the view taken by the Judicial Member. He observed that the declaration of dividend by a company and the assessee being a registered shareholder is not the immediate source of the dividend income, but it establishes the shareholder's right to get the income and not the source of the income. According to the learned President of the Tribunal, the proximate source of the income was his personal exertion in timing the purchase, in the choice of the shares and in the judgment he exercised as to whether they were to be retained or not and whether by selling ex-dividend, he could recoup the expenses incurred or having the shares registered in his own name. The learned President observed that personal exertion in the context can only mean exercise of judgment, acumen and vigilance. Since the President agreed with the view taken by the Judicial Member, the appeal of the assessee came to be allowed and the order of the Commissioner was set aside.

8. Aggrieved by the order of the Tribunal, the revenue sought the reference of the question reproduced earlier.

9. The question which, therefore, falls for determination in this reference is whether when the assessee earned dividend from the shares which admittedly formed his stock-in-trade, the dividend falls within the definition of 'earned income' in the Finance (No. 2) Act, 1962. It is necessary to reproduce the relevant definition of earned income in s. 2 (7) (iii) of the Finance (No. 2) Act, 1962. The definition reads as follows :

'For the purposes of this section, and of the rates of tax imposed thereby-.......

(iii) The expression 'earned income' means any income of an assessee who is an individual, Hindu undivided family, unregistered firm or other association of persons or body of individuals, whether incorporated or not, not being a company, a local authority, a registered firm or a firm assessed under clause (b) of section 183 of the said Act -

(a) which is chargeable under the head 'Salaries'; or (b) which is chargeable under the head 'Profits and gains of business or profession' where the business or profession is carried on by the

COMMISSIONER OF INCOME-TAX, BOMBAY CITY-II v. D. G. GOENKA.

Continued from Citation : 1981(129) ITR

assessee or, in the case of a firm, where the assessee is a partner actively engaged in the conduct of the business or profession; or

(c) which is chargeable under the head 'Income from other sources' if it is immediately derived from personal exertion or represents a pension or superannuation or other allowance given to the assessee in respect of the past services of any deceased person; and

includes any such income which, though it is the income of another person, is included in the assessee's income under the provisions of the Income-tax Act, 1961 (43 of 1961), but does not include any such income on which tax is not payable under clause (iii) or clause (v) of section 86 or clause (i) or clause (ii) of sub-section (1) of section 99 of that Act or which is exempted from tax under a notification issued under section 60 of the Indian Income-tax Act, 1922 (11 of 1922), as continued in force by clause (1) of sub-section (2)of section 297 of the Income-tax Act, 1961 (43 of 1961).'

10. We are not, for the purposes of this reference, concerned with the inclusive part of the definition. The definition is in three parts. Under cl. (a) the income of an assessee which is chargeable under the head 'Salaries' is statutorily made earned income. Under cl.(b) the income of an assessee which is chargeable under the head 'Profits and gains of business or profession' where the business or profession is carried on by the assessee or, in the case of a firm, where the assessee is a partner actively engaged in the conduct of the business or profession, is also statutorily made earned income. However, when we come to the third category in cl. (c) of the definition, before an income which is chargeable under the head 'Income from other sources' can qualify for being classified as earned income, it has to satisfy the test laid down in cl. (c) and the test is that the income must be immediately derived from personal exertion (which would be relevant) in so far as the facts of the present reference are concerned. In other words, the income of the assessee which is chargeable under the head 'Income from other sources' can qualify for being classified as earned income only if it is immediately derived from personal exertion. Earned income entitles the assessee to certain reliefs with which we are not concerned in this reference.

11. Now, according to the learned counsel for the assessee, though the income from dividends earned on the shares held by the assessee as his stock-in-trade is for the purposes of the I. T. Act, 1961, made chargeable under s. 56(2)(i) under the head 'Income from other sources', the real nature of the income in such a case is that it arises out of the business activity of the assessee and, therefore, it really partakes of the nature of profits and gains of business. The learned counsel has commended to us the acceptance of the line of reasoning which found favour with the Judicial Member and the President of the Tribunal, and, according to the learned counsel, the dealing in shares by the assessee is a composite activity of the assessee and receipt of dividend income is a part of the scheme of the business of the assessee. The learned counsel contended that the earning of the difference in price of shares purchased and sold by the assessee and the dividend income earned by the assessee on these shares, both together, go to make the business income of the assessee. According to him, these are really two segments of the same business income and both these incomes possessed identical features, character and quality. Thus, according to the learned counsel, notwithstanding the fact that for the purpose of assessment they are chargeable under the head 'Income from other sources, ' the dividend income does not cease to be income from business. The next step in the argument was that since the business of the assessee which consists of purchasing and selling of shares demands a certain amount of skill and attention and continuous study of the manner in which prices of shares are moving, the business of purchasing and selling of shares calls for a certain amount of business acumen and, therefore, the entire business income including the dividend income must be said to be immediately derived from personal exertion for the purposes of cl. (c) of s. 2 (7) (iii).

12. The learned counsel for the assessee has referred us to a decision of the Supreme Court and to another decision of this court, to which we shall make a reference, in support of the contention that where shares form the stock-in-trade of an assessee, the income is in the nature of business income.

13. Mr. Joshi appearing on behalf of the revenue has, however, contended that it is no doubt true that the shares in respect of which dividend income is received by the assessee were acquired by him as his stock-in-trade, but, according to the learned counsel, having regard to the definition of earned income in s. 2 (7) (iii) of the Finance Act, (No. 2) 1962, in the case of income chargeable under the head 'Income from other sources', unless the income can be said to have been derived immediately from the personal exertion of the assessee, it cannot qualify for being classified as earned income. According to the learned counsel, though the acquisition of shares by the assessee may have been the result of personal exertion on his part, the dividend income cannot be said to be a result of any personal exertion. The learned counsel contended that the important words in the section are 'immediately derived from' and these words indicate that the direct source of the must be personal exertion before any income can be classified as earned income. Section 56 of the I. T. Act, 1961, deals with the categories of income which are chargeable under the head 'Income from other sources'. Sub-s. (1) of s. 56 provides that income of every kind which is not to be excluded from the total income under the Act shall be chargeable to income-tax under the head 'Income from other sources' if it is not chargeable to income-tax under any of the heads specified in s. 14, items A to E. Section 14 gives a classification of the income under six heads for the purposes of charge of income-tax and computation of total income, such as salaries, interest on securities, income from house property, profits and gains of business or profession, capital gains and income from other sources. Any income which is not to be excluded from the total income under the Act is chargeable to income-tax under the last head 'Income from other sources' if it is not chargeable to income-tax under the five earlier heads. Clause (i) of sub-s. (2) of s. 56, however, specifically provides that dividends will be chargeable to income-tax under the head 'Income from other sources'. Therefore, for the purposes of chargeability of tax, income from dividends does not fall within the classification of profits and gains of business or profession. However, undisputably in the case of an assessee who deals in shares and shares are his stock-in-trade, though for the purposes of chargeability, dividends fall under the classification 'Income from other sources', it has not been disputed before us that the nature of the income in such a case is the same as business income because such income in the case of a dealer in shares arises in the course of business.

14. That appears to be the settled position as will be clear from the decision in Western States Trading Co. P. Ltd. v. CIT : [1971]80ITR21(SC) . Noticing the fact that dividends were included income from other sources in s. 12 (1A) of the Indian I. T. Act, 1922, which was the residuary head, the Supreme Court has pointed out that if shares are held by a assessee as part of his trading assets, dividends on those shares would form part of the income from the business of the assessee. Indeed, substantially, it is this decision of the Supreme Court on which the whole superstructure of the argument that dividend income must be treated on the same footing as business income and must consequently be also treated as earned income has been sought to be build up.

15. Our attention was also invited to the earlier decision of the Supreme court in CIT v. Chugandas & Co. : [1965]55ITR17(SC) . That was a case in which the assessee-firm was a dealer in securities holding securities as its stock-in-trade. The assessee had received interest on securities in the years 1946 and 1947, respectively, and the firm discontinued its business on 30th June, 1947. The question was whether the interest on securities formed part of the assessee's business income for the purpose of exemption from tax under s. 25 (3) of the Indian I. T. Act, 1922. The Supreme Court holding that the assessee was entitled to exemption under s. 25 (3) in respect of interest on securities as well, observed that there was no reason to restrict the condition of the applicability of the exemption under s. 25 (3) only to income on which tax was payable under head 'Profits and gains of business, profession or vocation' and that exemption under s. 25 (3) was general. Dealing with the limited purpose of classification of income under the different heads under the Indian I. T. Act, 1922, the Supreme Court observed as follows (p. 24) :

'The heads described in section 6 and further elaborated for the purpose of computation of income in section 7 to 10 and 12, 12A, 12AA and 12B are intended merely to indicate the classes of income : the heads do not exhaustively delimit sources from which income arises. This is made clear in the judgment of this court in United Commercial Bank Ltd.'s case : [1957]32ITR688(SC) that business income is broken up under different heads only for the purpose of computation of the total income; by that break up the income does not cease to be the income of the business, the different heads of income being only th e classification prescribed by the Indian Income-tax Act for computation of income.'

16. Now, while it cannot be disputed that in the case of an assessee who holds shares as his stock-in-trade, the dividend income earned by him on the shares held by the assessee does not cease to be income which arises in the course of business, though for the purposes of chargeability to tax, it is included under the head 'Income from other sources', the question whether such income qualifies for being classified as earned income has to be decided on the definition in s. 2 (7) of the Finance (No. 2) Act, 1962. What the Finance Act provides is not that all income arising in the course of business automatically qualifies for being classified as earned income. There is a clear distinction between cl. (b) and cl. (c) of the definition. While under cl. (b) income chargeable under the head 'Profits and gains of business or profession' is made earned income within the definition of 'earned income' in s. 2 (7) (iii), the test which has to be satisfied in order that income which is chargeable under the head 'Income from other sources' is an entirely different test laid down in cl. (iii). The test is that such income which is chargeable under the head 'Income from other sources' must be immediately derived from personal exertion before it can be called earned income. Now, what is contended before us is that the acquisition of shares is a result of personal exertion by the assessee and equally, therefore, must the dividend income be the result of the personal exertion. We must accept the findings recorded by the Tribunal that a person dealing in shares has to know and study the financial position of the various companies, their working in the current year as well as in the past, their dividend record, growth prospect and ability and that the study of these and several other details including the economic trends in thecountry, the economic policy of the Government, the import policy of the Government, etc., necessarily involves personal exertion on the part of the assessee. That, however, does not solve the problem because unless it is possible to hold that the dividend income is immediately derived from the personal exertion referred to above, it will not qualify for being classified as earned income. The word 'derive' has several meanings and one of the meanings given in the Oxford English Dictionary is : 'To trace or show the derivation, origin, or pedigree of; to trace the origination of (anything) from its source'. Another meaning is 'To draw, fetch, get, gain, obtain (a thing from a source) '. The words 'immediately derived from' have been advisedly used in the definition in order to indicate that only income of which the direct source is the personal exertion of the assessed can be classified as earned income. The words 'derived from' were intended to indicate that the source must be the personal exertion and the word 'immediately' which has been used clearly indicated that the income must be directly derived from personal exertion. It is vehemently contended before us on behalf of the assessee that even dividend income is directly derived from the acquisition of shares. What is, however, intended by the definition is that the dividend income must be the direct resultd of the person exertion. In other words, between the personal exetion and the receipt of income in the form of dividend, there must be no intervening stage or event. The personal exertion referred to above in the instant case results in the acquisition of shares and the dividend is received as an incident of the ownership of the shares. Where a shareholder receives dividend in respect of the shares held by him, the dividend is received because of the fact of his holding the shares. When an assessee deals in shares and buys them in order to sell them, his main activity is the purchase and sale of shares. It may no doubt be true that the possibility of earning substantial dividend from the shares is one of the circumstances which a dealer in shares taken into account. But his business really consists of purchase and sale of shares. He does not purchase shares with a view to get dividend, but the object of purchasing his shares is to earn profit by the sale of those shares. Earning of dividend is thus merely the incidental result of the main activity of the purchase of shares. Receipt of dividends does not, therefore, directly flow from any personal exertion of an assessee who is a dealer in shares.

17. The words 'derived from' have been the subject-matter of discussion by the Privy Counsil. We may refer to the decision of the Privy Council in CIT v. Kamakhya Narain Singh [1948] 16 ITR 325. The question which fell for decision before the Privy Council was whether interest received on arrears of rent payable in respect of land used for agricultural

COMMISSIONER OF INCOME-TAX, BOMBAY CITY-II v. D. G. GOENKA.

Citation continued from : 1983 (129) ITR 260

purposes is exempt from income-tax as being agricultural income within the definition of the phrase contained in s. 2 (1) of the Indian I. T. Act, 1922. 'Agricultural income' was defined as 'any rent or revenue derived from land which is used for agricultural purposes.....' The argument on behalf of the assessee was that the interest in respect of arrears of rent payable for land which was used for agricultural purposes could not be included in the income of the assessee as such interest was derived from land. After holding that the interest was clearly not rent and that it was not revenue derived from land, the Privy Council indicated the nature of the enquiry which must be made where the word 'derived' is used. It was observed by the Privy Council as follows (p. 328) :

'The word 'derived' is not a term of art. Its use in the definition indeed demands an enquiry into the genealogy of the product. But enquiry should stop as soon as the effective source is discovered. In the genealogical tree of the interest land indeed appears in the second degree, but the immediate and effective source is rent, which has suffered the accident of non-payment. And rent is not land within the meaning of the defintion.'

18. As indicated by the Privy Council, when the word 'derived' is used in the definition, we must enquire into the genealogy of the product. In the instant case, we must go to the genealogy of the dividend. The dividend is derived from the shares. The shares may be acquired by personal exertion. But, as pointed out by the Privy Council, the moment we are able to trace the source of the dividend, we must stop and if this source is not personal exertion as indicated in the definition, the dividend income cannot qualify for being classified earned income.

19. In J. K. Trust v, CIT : [1953]23ITR143(Bom) a Division Bench of this court was called upon to construe the meaning of the words 'derived from property held under trust' in s. 4 (3) (i) of the Indian I. T. Act, 1922. A trust known as 'J. K. Trust' was created by the members of the Singhania family for a sum of Rs. 1 lakh and admittedly the trust was for charitable purposes. The trustees of the trust were appointed as managing agents of the Raymond Woollen Mills and as such managing agents they earned commission and the question was whether the commission earned by the trustees is exempt from taxation. The trustees were empowered under the trust deed to carry on with the help of the trust for and on behalf of and for the benefit of the trust such business including the taking up and conducting the managing agency or selling agency of any company and the trustees availing themselves of the powers conferred upon them under the trust deed acted as managing agents of the Raymond Woollen Mills. Under the agency agreement the trustees had deposited a sum of Rs. 1lakh which constituted the trust fund and under the agreement the trustees received interest at the rate of 3 1/2% p. a. The I. T. Dept. did not dispute the fact that this interest was exempt under s. 4 (3) (i) of the Indian I. T. Act, 1922. The question, however, was whether the managing agency commission contsituted income derived from the sum of Rs. 1 lakh settled upon the trust. What was argued on behalf of the assessee that there was an obligation upon the trustees to apply every anna of the commission earned by them as managing agents and that the trust deed impressed the commission earned by the trustees with the same trust as the sum of Rs. 1lakh which was settled upon trust. It was not disputed that there was an obligation upon the trustees to apply the whole of the commission earned by them to the charitable objects of the trust. The Division Bench held that when the managing agency commission came to their hands, it came to them not as income derived from property settled upon trust, but it came to them as managing agents, who had rendered services to the company. An argument was advanced before the Division Bench that the trustees had invested a sum of Rs. 1 lakh in the managing agency business. It was found that the only part that the trust fund of Rs. 1 lakh had played in the managing agency business was that it had served as a deposit for the discharge of the obligations of the managing agents and there was no connection whatsoever between the commission earned by the managing agents and the keeping in deposit of the sum of Rs. 1 lakh and it was pointed out that the managing agency commission was derived neither from the sum of Rs. 1 lakh nor from any business which had been started with the assistance of the sum of Rs. 1 lakh. Referring to the decision of the Privy Council in Kamakhya Narain Singh's case [1948] 16 ITR 325, it was observed as follows (p. 151 of 23 ITR);

'It is true that their Lordships were there considering the question of agricultural income, but the interpretation placed upon the expression 'derived' by their Lordships is not without assistance for interpreting the same expression in section 4(3)(i). The expression used in this section is 'any income derived from property held under trust', and to put upon it the interpretation put by the Privy Council, the property must be the effective source from which the income arises. It is not sufficient that the property should be indirectly responsible for the income. The income must directly and substantially arise from the property held under trust, and on the facts of the case before us it is impossible to contend that the managing agency commission effectively and substantially arose from the sum of Rs. 1,00,000 which was settled on trust.'

20. Just as in the case of J. K. Trust : [1953]23ITR143(Bom) the property had to be shown to be the effective source from which the income arose, in the instant case, the personal exertion must be shown to be the effective source from which the dividend arose. It was not enough that the personal exertion was indirecly responsible for the dividend because the shares were acquired as a result of personal exertion.

21. In support of the contention that dividend income arises in the course of business in the case of an assessee who deals in shares, we were referred to the decision of this court in CIT v.Ahmuty & Co. Ltd. : [1955]27ITR63(Bom) . It is no doubt true that in this case, the Division Bench of this court has observed that on facts found in that case, the shares of the assessee were its stock-in-trade and the dividends were paid in respect of these shares and it was, therefore, difficult to understand how this dividend income did not arise to the assessee in the course of its business. What is, however, important to point out is that the dividend income was considered as being incidental to the shares by the Division Bench, as will be clear from the following observations (p. 66).

'The dividends which it received were incidental to the shares which it held as stock-in-trade and it received these dividends only because it was dealing in shares and the shares were its stock-in-trade.'

22. It was no doubt held in that case that if the income from the dividends can be included under s. 10 in a case where an assessee is dealing in shares and the shares constitute its stock-in-trade, then that income cannot be taken out of the head 'Business' under s. 10 and be included as income from other sources under s. 12. It is apparent from the facts that the decision was rendered prior to the amendment of s. 12 of the Indian I. T. Act, 1922, and before the introduction of s. 12 (1A), which is introduced with effect from 1st April, 1955. But, as already pointed out above, the introduction of s. 12 (1A) in the Indian I. T. Act of 1922 or the inclusion of dividend specifically in s. 56 (2) in the income from other sources may not affect the basic proposition that in the case of an assessee who deals in shares, income from dividend arises in the course of business and, therefore, may partake of the nature of business income. what is, however, important is that the Division Bench had pointed out that the dividends were received as incidental to the shares held as stock-in-trade. The assessee received the dividend income because he owned the s hares and the income from dividend was, therefore, directly derived from the ownership of the shares and not from any personal exertion.

23. Mr. Joshi has brought to our notice a decision in Bucks v. Bowers [1969] 46 TC 267 . The appellant-assessee was a partner in a firm of merchant bankers and worked full-time in its business. In the course of the business, the firm held from time to time, and constantly varied, a great number of investments, the income of which was taxed by deduction. such investments included foreign investments, the interest on or dividends from which were charged under Case IV or case V of Sch. D. The assessee claimed earned income relief for the assessment year 1964-65 in respect of so much of his share of profit as was properly allocable to interest or dividend as was within the charge to tax under Case IV or V of Sch. D. It was contended that the interest or dividend received by the partners in respect of the loans made and shares and securities acquired in the ordinary course of trade was income immediately derived from the carrying on of the trade and, therefore, in so far as such interest and dividends were charged to tax under Sch. D, the share of the appellant therein was earned income. For the Crown it was contended that income charged to tax by way of deduct in could not be treated as income immediately derived from a trade for the purpose of earned income relief. The question was whether the share of profit earned by the assessee was earned income under the definition in s. 525 of the Income Tax ACt, 1952 (U. K.). The relevant part of that section read as follows :

'Subject to the provisions of sub-section (2) of this section, in this Act, 'earned income' means, in relation to any individual-...

(c) any income which is charged under Schedule B or Schedule D and is immediately derived by the individual from the carrying on or exercise by him of his trade, profession or vocation, either as an individual or, in the case of a partnership, as a partner personally acting therein.'

24. Dealing with the question as to whether the requirement in clause (c) was satisfied, Pennycuick J. observed as follows (p. 274) :

'Quite apart from authority, I do not think that, in the context of an income tax Statute, one would naturally treat income received under deduction by a trader in the carrying on of his trade as 'derived', still less 'immediately derived', from the carrying on of that trade. It is certainly derived by him in the course of that trade; but the word 'from' suggests that the trade must be the source of the income, and that is not so in the case of income charged by deduction. The source of interest is not the trade but the loan obligations from which the interest springs. Equally, the source of the income from the foreign investments is not trade, but the foreign investment. Again, the word 'immediately' rather suggests that the trade must be the direct source, so as to exclude income derived from a different source itself owned by a trader in carrying on of his trade.'

25. Thus, as pointed out by Pennycuick J., where the words used in the definition of 'earned income' are 'immediately derived from', the direct source has to be ascertained and, as further pointed out by him, in the case of dividends, the direct source is the investment.

26. Our attention has also been invited to a later decision under the English Income Tax ACt, 1952, reported in North end (H. M. Inspector of Taxes) v. White & Leonard and Corbin Greener [1975] 1 WLR 1037; 50 TC 121 . That was a case in which a firm of solicitors in which one Mr. Beveridge was the partner paid certain clients' moneys received in the course of their practice into a clients'deposit account their bank. Under the Solicitors Act, 1965, the solicitors were entitled to keep the interest received thereon although the principal moneys did not belong to the firm of solicitors. The General Commissioners had held that the partner of the firm was entitled to earned income relief on his share of such interst, as being immediately derived from the carrying on or exercise by him of his profession. When at the instance of the revenue a case was stated for the opinion of the High Court, it was held that the partner was not entitled to the relief claimed because the interst was not immediately derived from the carrying on of the practice but from the loan to the bank on the terms that interest should be paid. The relevant statutory provision for consideration was s. 525 (1) (c) which we have reproduced earlier. It was contended on behalf of the assessee that the firm of solicitors was entitled to retain interest because of the Solicitors Act, 1965, and they were bound to pay interest which ought in fairness to be earned for the clients and if the firm were not exercising the profession of solicitors, there would be no clients deposit account and no interst and, therefore, the immediate derivation of the interest was the exercise by the firm of the profession of solicitors. On behalf of the revenue it was contended that the interst was not immediately derived from the carrying on of the practice but from the loan to the bank on terms that interst should be paid and interst could be more accurately described as deriving from a loan or investment than from the carrying on of the profession of a solicitor. The contention of behalf of the revenue was accepted and the learned judge observed as follows (p. 1040).

'Of course, if the Solicitors Act, 1965, had not been passed, or if the firm had not carried on the exercise of the profession of solicitors, there would have been no deposit account and no interst. But it does not follow that the interst was 'immediately derived' from the carrying on of the profession. To produce the interest there must be an intervening event which could not be described as the carrying on of the profession of a solicitor, namely, the loan of money by a customer to a bank on terms that interest should be paid. The fact that the money lent did not belong to the customer did not prevent the interest deriving from the intervening event, namely, the loan and the contract between the customer and the bank.'

27. These observations, therefore, will clearly point out that where there is an intervening event, the income earned cannot be said to be immediately derived from the carrying on of the profession.

28. So far as the facts in the present case are concerned, the intervening event between the personal exertion and the dividend income is the acquisition of shares and once that event intervenes, the dividend income cannot be said to be immediately derived from the personal exertion of the assessee.

29. Mr. Munim, appearing on behalf of the assessee, has invited our attention to a decision of the Orissa High Court in Ramchandra Mardaraj Deo v. CIT : [1955]27ITR667(Orissa) , where the Division Bench was called upon to construe the definition of 'earned income' in s. 2 (6AA) (c) of the Indian I, T. Act, 1922, which is identical to the definition of earned income in s. 2 (7) (iii) (c) of the Finance (No. 2) Act, 1962. The Division Bench in that case has held that the income must be brought into being immediately by the personal exertion of the assessee and not by the exertion of an intermediate agency. The assessee owned zamindari estates and a part of his income consisted income from forestry, interest on arrears of rent, fisheries, royalties received from quarries, etc., which has assessable to income-tax as income from other sources. The assessee claimed that he was entitled to earned income relief in respect of his forest income, but the Appellate Tribunal held that having regard to the position of the assessee and the nature of the source of the income exploited, namely, forest, he could not have exerted himself personally to produce the income and he has necessarily to appoint assistants and labourers for the purpose and, therefore, the income was not earned income. On facts it was held that it was not shown that the assessee had direct personal control over the operations with regard to the forests and the Tribunal was justified in holding that the income was not earned income under s. 2 (6AA) (c). It appears that the attention of the Division Bench was mainly directed towards the question as to whether the income was derived from personal exertion and the judgment seems to deal mainly with the scope of the words 'personal exertion'. The Division Bench pointed out that the word 'exertion' is qualified by the adjective 'personal' and this made it clear that the income in respect of which relief is claimed must have been brought into being immediately by the personal exertion of the assessee and not by the exertion of any intermediate agency. The Division Bench pointed out that in the case of big estates, the owner leaves the management in the hands of diwans and managers whom, of course, he will have to appoint in the natural course of events, but in such a case, it could not be said that the income is immediately derived from personal exertion of the assessee so as to entitle him to the benefit of earned income. It, therefore, appears that this decision turned mainly on the facts and on the scope of the concept of personal exertion in the contents of the facts in that case and cannot, therefore, be of any assistance to the assessee.

30. We are, therefore, satisfied that in this case, though dividend income cannot be said to have arisen in the course of business of the assessee, it was immediately derived from the ownership of the shares and not from personal exertion. Consequently, the question referred to us has to be answered in the negative and in favour of the revenue. The assessee to pay the costs of this reference.


Save Judgments// Add Notes // Store Search Result sets // Organizer Client Files //