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Commissioner of Income-tax, Bombay City-iii Vs. Zenith Steel Pipes Ltd. - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtMumbai High Court
Decided On
Case NumberIncome-tax Reference No. 12 of 1976
Judge
Reported in[1978]112ITR215(Bom)
ActsCompanies (Profits) Surtax Act, 1964; Companies (Profits) Surtax Rules, 1964 - Rule 1
AppellantCommissioner of Income-tax, Bombay City-iii
RespondentZenith Steel Pipes Ltd.
Appellant AdvocateR.J. Joshi, Adv.
Respondent AdvocateR.H. Toprani, Adv.
Excerpt:
.....depreciation actually allowed and actually provided in accounts of year be deducted by respective 'general reserves' and balance to be taken into account in capital computation base for year concerned - as per rule 1 (iii) before any reduction is to be made said amount should have been allowed as reductions and should have been credited to other reserves - having regard to rule 1 (iii) when for purposes of surtax capital has to be computed whether depreciation has been allowed under income tax act for relevant year and if it is so allowed then if provisions of rule 1 (iii) are attracted they are to be given affect to - question referred answered in affirmative. - - 5,59,756 being the dividend recommended by the board of directors of the assessee for the respective years ended 30th..........sum of rs. 7,86,610 as depreciation. when this amount of depreciation is totalled up with the last year's depreciation amount of rs. 4,86,298 then the total depreciation provided in the two years will be rs. 12,72,908. such depreciation was provided by the company as it was following the straight-line method of depreciation. from the surplus profits for this year as sum of rs. 29,50,000 was provided as general reserve and when this amount of general reserve is added to the last year's general reserve of rs. 7,50,000, they aggregate to rs. 37,00,000. at the time of assessment the income-tax officer took the view that for these years an aggregate depreciation of rs. 27,59,923 ought to have been provided. he, therefore, took the view that the sum of rs. 14,87,015 (the difference between rs......
Judgment:

Kantawala, C.J.

1. The following three questions are referred to for our determination by the Tribunal :

'1. Whether, on the facts and in the circumstances of the case, the sums of Rs. 4,20,000 and Rs. 5,59,756 being the dividend recommended by the board of directors of the assessee for the respective years ended 30th April, 1963, and 30th April, 1964, were to be treated as part of 'other reserves' for the purpose of computation of capital base for the year concerned

2. Whether, on the facts and in the circumstances of the case, the entire difference between the depreciation actually allowed to the assessee for the assessment year 1964-65/1965-66, and actually provided in the accounts of the year concerned should be deducted by the respective 'general reserves' amounts of Rs. 7,50,000 and Rs. 37,00,000 and the balance amount should be taken into account in the capital computation base for the year concerned

3. Whether, on the facts and in the circumstances of the case, for the purpose of computation of 'other reserve' under rule 1(iii) of the Second Schedule to the Companies (Profits Surtax Act, 1964, deduction for depreciation under the Income-tax Act for the assessment years 1964-65 and 1965-66 could be said to have been allowed to the assessee as on the respective first day of the previous year concerned, even though, factually, its income-tax assessments for the said assessment years were completed after the respective first day of the previous year ?'

2. Question Nos. 1 and 2 are referred to at the instance of the revenue while question No. 3 is referred to at the instance of the assessee.

3. At the outset we may state so far as question No. 1 is concerned it is covered by our decisions of I.T. Reference No. 154 of 1970 [Commissioner of Income-tax v. Geoffrey Manners and Co. Ltd. : [1977]108ITR987(Bom) ] and I.T. Reference No. 316 of 1975 [subsequently reported as Commissioner of Income-tax v. Marrior (India) Ltd. [1974] 107 ITR 35]. Following the said decisions question No. 1 is answered in the negative. It is, therefore, necessary to state the relevant facts as regards the remaining two questions. The two questions arise out of surtax liability under the Act for the assessment years 1965-66 and 1966-67. Having regard to the provisions of the Act the relevant date for computation of capital under rule 1 of Schedule II to the Act is May 1, 1963. and for the other year it is May 1, 1964. Out of the profits for the year ended April 30, 1963, the assessee-company provided for the sum of Rs. 4,86,298 as and by way of depreciation in its books and out of the surplus profits for the said year transferred a sum of Rs. 7,50,000 to general reserve. The balance-sheet and the profit and loss account as prepared in this manner were ultimately approved of by the shareholders at the annual general meeting. Such depreciation was provided by the assessee-company because it following the straight-line method of depreciation. When the matter came up for consideration for the purpose of surtax before the Income-tax Officer he had to compute the capital employed in the business on May 1, 1963. He was of the view that in respect of the period ending April 30, 1963, the company ought to have provided a sum of Rs. 17,39,255 by way of depreciation. He took the view that as the depreciation actually provided was much less than what ought to have been provided according to his view the whole of the sum of Rs. 7,50,000 which was transferred to the general reserve was not liable to be taken into account in the computation of capital as on May 1, 1963.

4. For the assessment year 1966-67, the capital employed in the business has to be computed as on May 1, 1964. Out of the profits for the period ending April 30, 1964, the assessee-company provided a sum of Rs. 7,86,610 as depreciation. When this amount of depreciation is totalled up with the last year's depreciation amount of Rs. 4,86,298 then the total depreciation provided in the two years will be Rs. 12,72,908. Such depreciation was provided by the company as it was following the straight-line method of depreciation. From the surplus profits for this year as sum of Rs. 29,50,000 was provided as general reserve and when this amount of general reserve is added to the last year's general reserve of Rs. 7,50,000, they aggregate to Rs. 37,00,000. At the time of assessment the Income-tax Officer took the view that for these years an aggregate depreciation of Rs. 27,59,923 ought to have been provided. He, therefore, took the view that the sum of Rs. 14,87,015 (the difference between Rs. 27,59,923 actually allowed and Rs. 12,72,908 written off in the books of account of the assessee) was to be deducted from the total amount of general reserve of Rs. 37,00,000 for the purpose of computation of capital. He rejected the contention of the assessee that the entire amount standing to the credit of the general reserve ought to be taken into account for computation of capital. Aggrieved by the orders passed by the Income-tax Officer in respect of the two years appeals were preferred by the assessee-company before the Appellate Assistant Commissioner. It was contended before the Appellate Assistant Commissioner on behalf of the assessee that, having regard to the provisions of clause (iii) of rule 1 of the Second Schedule to the Act, before a reduction could made in respect of any amount from, the item of other reserve the following two conditions ought to be fulfilled.

(1) that the amount in question should have been allowed as reductions; and

(2) such amount should have been credited to other reserves

5. So far as the first condition was concerned, it was urged that such allowance as reduction ought to have been made in fact prior to the crucial date, i.e., May 1, 1963, in the first year and May 1, 1964, in the second year. So far as the second condition was concerned, it was urged that the word 'credited' indicated a deliberate act on the part of the assessee which was absent in the present case. Both these contentions were rejected by the Appellate Assistant Commissioner. He, however, noticed that there was some factual mistake in the order passed by the Income-tax Officer in the matter of depreciation actually allowed to the assessee and he, therefore, rectified the said mistake. According to him the depreciation actually allowed to the assessee in respect of the period ending May 1, 1963, was Rs. 10,54,410 (instead of Rs. 17,39,255 as determined by the Income-tax Officer in the present case. Thus, the difference between the depreciation actually allowed in the income-tax assessment and the depreciation written off in the books of account for the period ending April 30, 1963, was Rs. 5,68,112 (i.e., Rs. 10,54,410 minus Rs. 4,86,298).He was, therefore, of the view that the amount standing to the credit of the general reserve in that year, viz., Rs. 7,50,000 was liable to be reduced by Rs. 5,68,112 in computation of capital for the purpose of surtax. For the year ending April 30, 1964, he took the view that the difference between the depreciation actually allowed in the income-tax assessment and the depreciation written off in the books of the assessee for the assessment year 1965-66 was Rs. 15,21,257 and directed that the said amount ought to be deducted from the account of general reserve as on May 1, 1964. Aggrieved by the orders passed by the Appellate Assistant Commissioner two separate appeals were preferred by the assessee for the two years before the Tribunal.

6. The very same contentions were urged by the assessee before the Tribunal. The Tribunal took the view that the income-tax authorities erred in holding that the difference between the depreciation actually allowed for the assessment years 1964-65 and 1965-66 and actually provided for in the books of account should be deducted from the general reserve amounts of Rs. 7,50,000 and Rs. 37,00,000 referred to above. The Tribunal was further of the view that the Income-tax Officer was bound to take into consideration the entire amount standing to the credit of the general reserve in the computation of capital for the years under consideration. Such a view was taken by the Tribunal by reason of the fact that in its opinion even though the amounts in question had been allowed as a deduction in computing the income of the assessee under the Act, the second condition that the said amounts should have been credited to other reserves in question was not fulfilled. The Tribunal took the view that the words 'credited therein' implied a conscious and deliberate act on the part of the assessee to credit to the general reserve the amounts in question, which in the case in question related to the depreciation amount as allowed by way of deduction in calculating the income for the purposes of the Income-tax Act.

7. Question No. 2 is raised at the instance of the revenue because the Tribunal has set aside the order of the Appellate Assistant Commissioner directing deduction to be made from the amounts of general reserves of Rs. 7,50,000 and Rs. 37,00,000 while question No. 3 is raised at the instance of the assessee on the ground that upon proper interpretation of the provisions of clause (iii) of rule 1 of the Second Schedule to the Act, deduction in respect of depreciation ought to have been allowed prior to the crucial date, i.e., May 1, 1963, in the first year and May 1, 1964, in the second year and as such depreciation was not in fact allowed prior to the crucial dates, it was not liable to be deducted.

8. Mr. Joshi on behalf of the revenue submitted that, for purposes of the Act, in respect of statutory deductions, capital has to be computed in accordance with the rules laid down in the Second Schedule to the Act. He submitted that in the present case clause (iii) of rule 1 of the Second Schedule has to be interpreted. The amounts that were credited to the general reserve in the two years were according to him 'other reserves' within the meaning of this clause and the said amounts of general reserves were to be reduced by the actual amounts of depreciation allowed in computing the income of the assessee-company for the purpose of the Income-tax Act. If that is done, then even though the assessee-company provided for depreciation in its books of account at a lesser amount than that allowed by the Income-tax Officer for the purpose of the Income-tax Act, the difference ought to be deducted from the amount standing to the credit of the general reserve. Mr. Toprani on the other hand on behalf of the assessee submitted that upon proper interpretation of clause (iii) of rule 1 of the Second Schedule to the Act, deduction has to be made in respect of depreciation allowed for the purpose of the Income-tax Act only if such depreciation was in fact allowed by the Income-tax Officer on or before the crucial dates, i.e., before May 1, 1963, in the first year and May 1, 1964, in the second year. He submitted that the words used in this clause are 'as have been allowed' and not 'as have been allowable'. He emphasised that having regard to the language used, unless depreciation was allowed prior to the crucial dates, it could not be taken into account by way of depreciation from the amount standing to the credit of 'other reserves'. According to his submission this was the only interpretation as per the provisions contained in clause (iii) and, besides, he also submitted that such should be the interpretation put upon this clause having regard to the circular issued by the Central Board of Direct Taxes bearing No. 2-P (XV-6) relating to the Super Profits Tax Act, 1963, reproduced in [1968] 69 ITR 25.

9. The two questions which are for our consideration, one at the instance of the revenue and the other at the instance of the assessee, depend upon the interpretation of the provisions contained in clause (iii) of rule 1 of the Second Schedule of the Act. Under section 4, which is a charging section of the Act, surtax is leviable in respect of so much of the chargeable profits of the company of the previous year or previous years, as the case may be, as exceed the statutory deduction, at the rate or rates specified in the Third Schedule. The expression 'statutory deduction' is defined in section 2(8) as meaning an amount equal to ten per cent. of the capital of the company as computed in accordance with the provisions of the Second Schedule or an amount of two hundred thousand rupees, whichever is greater. there are two provisos to this definition but they are not relevant for the present purpose. The Second Schedule lays down the rules for computation of capital of a company for the purpose of surtax. We are concerned in the present case with the provisions of clause (iii) of rule 1 and its provisions are as under :

'1. Subject to the other provisions contained in this Schedule, the capital of a company shall be the aggregate of the amounts, as on the first day of the previous year relevant to the assessment year, of -

(i) its paid-up share capital;

(ii) its reserves, if any, created under the proviso (b) to clause (vib) of sub-section (2) of section 10 of Indian Income-tax Act, 1922, or under sub-section (3) of section 34 of the Income-tax Act, 1961;

(iii) its other reserves as reduced by the amounts credited to such reserves as have been allowed as a deduction in computing the income of the company for the purposes of the Indian Income-tax Act, 1922, or the Income-tax Act, 1961.......;' The sum of Rs. 7,50,000 which stands to the credit of the general reserve as on May 1, 1963, and the sum of Rs. 37,00,000 which stands to the credit of the general reserve as on May 1, 1964, are 'other reserves' within the meaning of clause (iii). The short question that we have to consider is whether in computation of capital the entire amount of 'other reserves' is to be included or any deduction has to be made therefrom for the two respective years in view of the provisions contained in clause (iii). If regard be had to be very plain language used in clause (iii), it is very clear that the entire amount of other reserve is not to be included in the computation of capital but it is the balance of the amount of 'other reserves' as subjected to the deductions therein provided which is to be included. The reduction has to be made 'by the amounts credited to such reserves as have been allowed as a deduction in computing the income of the company for the purposes of the Indian Income-tax Act, 1922, or the Income-tax Act, 1961. It is common ground and it cannot be disputed having regard to the facts determined by the taxing authorities and the Tribunal that the assessee, as it was following the straight-line method of depreciation, provided depreciation at an amount lesser than that was permitted to it in its assessment under the Indian Income-tax Act. For the year ending April 30, 1963, it merely provided a sum of Rs. 4,86,298 as and by way of depreciation while the Appellate Assistant Commissioner found as a fact that the assessee-company was entitled to provide Rs. 10,54,410 by way of depreciation in respect of its profits for the period ending April 30, 1963. Similarly, the aggregate depreciation provided as on April 30, 1964,in the books of the assessee-company was Rs. 12,72,908 while the Appellate Assistant Commissioner allowed by way of depreciation up to that year the sum of Rs. 27,59,923. Thus for the year ending April 30,1963, a sum of Rs. 5,68,112 was allowed as depreciation in addition to the sum provided in the books of the assessee-company, while for the year ending April 30, 1964, a sum of Rs. 12,52,957 was allowed as depreciation in excess of what was provided by the assessee-company in its books. The questions which are raised are in relation to these amounts and whether any part thereof is liable to be deducted merely on the ground that they are credited to 'other reserve', i.e., general reserve in the present case. As the assessee-company provided lesser amount by way of depreciation than what was allowed in the computation of the income of the assessee-company for purposes of the Income-tax Act, 1961, the difference between the amount of depreciation actually allowed to the assessee and the amount actually provided in its books, was forming part of the general reserve. It is therefore, quite apparent that the assessee-company when it asked for deduction of depreciation for the purposes of income-tax was conscious of the fact that the depreciation provided for was insufficient as per the provisions of the Income-tax Act and, in fact, the contention of the assessee-company was accepted because the depreciation in its books of account was provided on the footing of straight-line method while in fact the depreciation to be calculated in accordance with the provisions of the Income-tax Act was much larger. For computing its income for the purposes of the Income-tax Act such larger amount of depreciation was allowed and the excess amount, i.e., the amount of difference between the amount of depreciation actually allowed for the purposes of the Income-tax Act and the amount of depreciation actually provided in the books of the assessee-company, was diverted as forming part of the general reserve and actually the amounts that were credited to the general reserve included within its item such difference between the amount of depreciation allowed for the purposes of the Income-tax Act and the amount of depreciation actually provided in the books. Thus, on a plain interpretation of the language used in clause (iii) of rule 1 of the Second Schedule to the Act, it is quite apparent that if the amount of depreciation provided in the books of the assessee-company for a particular year is less than the amount of depreciation actually allowed Income-tax Officer for computation of the income, then the difference between these two amounts has to be deducted from the amount standing to the credit of 'other reserves', namely, general reserves, so far as the facts of this case are concerned. Thus the Appellate Assistant Commissioner was right in taking the view that for the first year a sum of Rs. 5,68,112 ought to be deducted from the amount of general reserve of Rs. 7,50,000 and a sum of Rs. 12,52,957 ought to have been deducted from the amount of general reserve of Rs. 37,00,000 for the second year.

10. Reliance was placed by Mr. Toprani upon the circular issued by the Central Board of Direct Taxes relating to the Super Profits Tax Act, 1963, on February 5, 1968 (reproduced in [1968] 69 ITR 25). This circular was primarily issued in relation to the amounts credited to the development rebate reserve account and it relation to the computation of capital of the company for the purposes of the Super Profits Tax Act, 1963. In that circular it is laid down that the provisions of rule 1 of the Second Schedule to the Super Profits Tax Act, 1963, in so far as they are relevant, are that the capital of a company shall be the sum of the amounts of - (a) its paid up capital; (b) its reserves, if any, created under proviso (b) to section 10(2)(vib) of the Act of 1922 or section 34(3) of the Act of 1961; and (c) its other reserves in so far as the amounts credited to such other reserves have not been allowed in computing the profits of the company for the purposes of the Indian Income-tax Act, 1922, or the Income-tax Act, 1961. It is stated in this circular in respect of other reserves that the rule makes it explicit that such other reserve shall be taken into consideration for the computation of the capital only in so far as the amounts credited to such reserves have not been allowed in computing the company's profits for the purposes of the Act of 1922 or the Act of 1961. The words 'have not been allowed' cannot be equated with the words 'are not allowable'. They have to be understood as meaning 'have not in fact been allowed'. It is also laid down in this circular that the corresponding provisions of rule 1 of the Second Schedule to the Companies (Profits) Surtax Act, 1964, are identical to the provisions in the Super Profits Tax Act, and the above interpretation will hold good also for the purposes of computing the capital of a company under that Act. Relying upon this circular, the argument of Mr. Toprani is that, as on the crucial date, i.e., on May 1, 1963, in the first year and on May 1, 1964, in the second year, the depreciation for the purposes of the Income-tax Act was not in fact allowed, such deduction ought not to have been made form the item of 'other reserves'. It may be stated that, so far as this circular is concerned, there is nothing therein to indicate that the amount to be deducted ought to have been allowed prior to the crucial date. In fact, it is quite apparent that when, for purposes of surtax, capital has to be computed under the Act as on the particular date, which is the first day of the previous year prior to the accounting year, on that date neither the actual amount of the reserve is known not even any provision is made in the books of account of the company as regards depreciation nor can there be any assessment actually on or prior to that date. So far as the amounts of reserves are concerned, they are crystallised when the balance-sheet and the profit and loss account are prepared by the directors as approved by the shareholders at the annual general meeting. Similarly, depreciation provided will be known when these accounts are passed by the shareholders, but as and when the shareholders pass such accounts, the entries in regard to other reserves as well as depreciation will relate back to the crucial date. Similarly, when reduction as regards depreciation has to be allowed under the Indian Income-tax Act that will be only in respect of the assets of the company for the accounting year. Such depreciation has taken place by reason of the use of the assets of the company during the accounting year and it is only quantified later on when assessment order is made by the Income-tax Officer. Such quantification would only relate back to the year in which the assets were used because the depreciated value of the assets at the end of the year can only be determined after deducting the amount that may be allowed by the Income-tax Officer as and by way of depreciation. What is required to be considered having regard to the language of clause (iii) of rule 1 of the Second Schedule to the Act as well as the circular referred to by Mr. Toprani is when the purposes of surtax the capital has to be computed as required by the Second Schedule to the Act whether depreciation has been allowed under the Income-tax Act for the relevant year, and if it is so allowed, then if the provisions of clause (iii) of rule 1 are attracted, they are to be given effect to.

11. In our opinion, the view that has been taken by the Appellate Assistant Commissioner in the present case is quite correct and, accordingly, our answer to question No. 2 is in the affirmative and our answer to question Nos. 3 is also in the affirmative. The assessee shall pay the costs of the revenue.


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