1. This is a reference under sub-section (1) of section 66 of the Income-tax Act. We are here concerned with the assessment year 1949-50, the account year ending 31st March, 1949. The assessee was appoint as manager as from June 1, 1948, by one S. P. Gallini, proprietor of Rayon Yarns Import Company. We would hereinafter refer to Mr. Gallini as the employer. The terms agreed to between the assessee and the employer were evidenced by a document dated 30th of May, 1948. In the said agreement, the employer had agreed to pay to the assessee a salary of Rs. 1,600 per month as also commission of half percent. on all the sales of the employer effected after June 1, 1948. The relevant year of account of the employer was the year ending 31st January, 1949. Up to 31st January, 1949, the commission found payable to the assessee amounted to Rs. 2,45,557. In the assessment of the employer for the assessment year 1949-50, for the account year ending 31st January, 1949, the employer, inter alia, claimed the aforesaid payment of commission as revenue deduction. The claim of the employer was rejected by the Income-tax Officer on the ground that 'the payment of commission is only a way to reduce his income and his tax liability.' As the employer did not carry the matter any further to the Appellate Assistant Commissioner or the Tribunal, the aforesaid order of the Income-tax Officer wash the final order in the assessment of the employer for that year. The assessee in his assessment claimed that inasmuch as the payment of the said commission was disallowed to the employer in his assessment on the ground that it was only a ways to reduce his income and his tax liability and inasmuch as the said amount had been charged to tax in the hands of his employer, he was entitled to exemption from payment of tax on the said amount of commission of Rs. 2,45,557. The claim was made on the strength of the Notification No. 878-F, dated 21st March, 1922, as amended by the Notification No. 8 dated 24th March, 1928. We would hereafter refers to this notification as the 'notification'. This claim of the assessee was rejected both by the Income-tax Officer and the Appellate Assistant Commissioner, the Appellate Assistant Commissioner taking the view that the commission paid to the assessee was not paid out of profits, but it was actually a prior charge before the employer's profit were arrived at. He further held that it also could not be said that it was disallowed in the employer's case on the ground that it was a division of profits. The assessee took a second appeal to the Tribunal, and reiterated his contentions in this respect. Following the decision of this court in M. K. Kirtikar v. Commissioner of Income-tax, the Tribunal allowed the appeal and accepted the aforesaid claim made by the assessee. At the instance of the Commissioner of Income-tax, the Tribunal has drawn up the statement of the case and referred to us the following question of law :
'Whether on the facts and in the circumstances of the case the commission of Rs. 2,45,557 was exempt in the hands of the assessee by virtue of the Notification No. 878-F dated March 21, 1922, as amended by Notification No. 8 dated March 24, 1928 ?'
2. The contents of the said notification have been analysed by their Lordships of the Supreme Court in Commissioner of Income-tax v. M. K. Kirtikar and the conclusions are at page 363 of the report :
'A perusal of the notification clearly indicates that exemption from taxation in respect of the sum received by an assessee from a business on account, inter alia, of commission can be claimed only on three conditions, namely :
'(1) Where such sum has been paid out of, or determined with reference to, the profits of the business;
(2) where by reason of such mode of payment or determination the sum paid has not been allows as a deduction but has been included in the profits of the business; and
(3) where on the sum so disallowed in the computation of the profits of the business, income-tax has been assessed and charged under the head 'business'.'
These three conditions are cumulative and all of them have to be fulfilled before the assessee can claim the benefit of exemption. The obvious purpose of this notification is to avoid double taxation by providing that, if the amount in question has been assessed and charged in the hands of the firm (employer), the same should not be assessed and charged over again in the hands of the assessee (employee).'
3. It is not in dispute that the third condition has been fulfilled in this case. On the said amount of commission of Rs. 2,45,557 disallowed in the computation for the profits of the business of the employer, income-tax has been assessed and charged under the head 'business' in the hands of the employer. The dispute between the department and the assessee is confined as to whether the first and the second conditions have been fulfilled.
4. It is the contention of Mr. Joshi that, having regard to the agreement between the employer and the assessee, the payment of the commission of half per cent. on all the sales of the employer is irrespective of the employer's making any profit. It is in fact a prior charge before the employer's profits are arrived at. It, therefore, cannot be said that the commission paid to the assessee by the employer was paid out of profits of the business or determined with reference to the profits of the business. The first condition, therefore, according, to Mr. Joshi, has not been fulfilled in this case. It is also Mr. Joshi's contention that the employer in his assessment had claimed the payment of the said commission as a revenue expenditure and that has been disallowed by the Income-tax Officer. Disallowance, therefore, was on the ground that it was not expenditure laid out or expended wholly and exclusively for the purpose of business within the meaning of section 10(2) (XV) of the Act. He also referred us to two decisions of this court in Commissioner of Income-tax v. Mulraj Karsondas and Ramanlal C. Parekh v. V. Krishnamachari, Commissioner of Income-tax and the decision of the Madras High Court in V. Narayanaswami Iyer v. Commissioner of Income-tax. Mr. Kolah, on the other hand, contended that having regard to the facts of the present case, both the conditions have been satisfied. The sum paid to the assessee by way of commission was in fact paid out of the profits of the business. The ground on which the Income-tax Officer has disallowed the said amount in the assessment of the employer was that that amounted to sharing profits between the employer and the assessee. He also referred us to two decisions on this court in M. K. Kirtikar v. Commissioner of Income-tax and Ramanlal C. Parekh v. V. Krishnamachari, Commissioner of Income-tax. According to Mr. Kolah, the present case fully falls within the ration of M. K. Kirtikar v. Commissioner of Income-tax.
5. We would now proceed to consider whether the said two conditions have been fulfilled. To claim that the first condition has been fulfilled, the assessee must establish that the commission paid to him was either paid out of profits of the business or was determined with reference to the profits of the business. It has been the case of the assessee that the commission paid to him was paid out of profits of the business. The facts in Kirtikar's case are to a certain extent similar to the facts of the present case. The assessee was employed by Dadajee Dhackjee & Co. In the assessment year 1945-46 and in the relevant year of account, he received commission at the rate of one per cent. on the turnover of the company in its colour department. Some other employees also similarly received commission. The total amount of commission paid by the employer amounted to Rs. 84,540. Out of the amount of Rs. 84,540, Rs. 56,360 were disallowed and were included in the total income of the employer which was assessed at Rs. 4,11,084. Thereafter, the employer ceased to do business and by reason of section 25(4) the employer did not pay tax on the said assessed income. The assessee, amount of commission received by him on the strength of the Notification. His claim was disallowed by the income-tax authorities as well as by the Tribunal. It was allowed by this court. This court on the first question held that, even though commission paid to an employee was calculated at a certain percentage on the gross turnover, it would be exempted under the Notification if it was in fact paid out of profits. At page 912, it was observed :
'The mode of computation of the commission of the assessee was undoubtedly 1 per cent. of the turnover. What the Finance Department Notification requires is that the source out of which this commission is paid is the profit of the employer and there is no finding before us that in fact this commission was not paid out of the profits. One has only to look at the assessment order to be satisfied that his commission in fact was paid out of the profits. As we pointed out the total income under the head 'business' of the assessee of Rs. 4,11,084.' (The word 'assessee' appears to be a mistake for 'employer').
6. These observation lead to the inference that even though the agreement between the employer and employee may be that the commission is paid at a certain percentage on there gross turnover of the business, if in fact the business has resulted in a profit and as a result of disallowance of the amount of commission paid to the employee in the assessment of the employer it has been added to his profit, then, it would amount to payment of the commission out of profits. It is true that on this aspect of the case there is a certain diversity of judicial opinion and it has been said that the ultimate result is not the relevant factor, but the terms of the agreement between the parties as to the mode of payment would be the determining factor. If, under the terms of the agreement, payment for services rendered has to be paid irrespective of the fact as to whether the employer makes profit or not, then the payment is not out of the profits. Against the decision of the cost in Kirtikar's case, an appeal was taken to the Supreme Court. Their Lordships held that the employer's income had not been assessed to tax and no tax had been charged in the sense of being levied. The third condition was not fulfilled and therefore the assessee was not entitled to the exemption. On the view taken by them, they did not consider it necessary to express any opinion as to whether the first and the second conditions were fulfilled or not. We would, for the purpose of this case, assume that to hold that the first condition is fulfilled the assessee must establish that on the agreement between the parties payment of commission was to come out of the net profits. To get at the true import of an agreement of this nature, it will have to be read in the context of the nature of the business of the employer. As already stated, the agreement was that commission of half per cent. on all sales of the employer was to be paid to the assessee by the employer. The nature of the business of the employer is stated in the following terms by Income-tax Officer in his order of assessment of the employer :
'The assessee makes forward contracts with Italian manufacturers of art silk and afterwards transfers those contracts to the local merchants at a profits varying between 2 to 5%. The merchants use their own quotas and open letters of credit also. The bills of lading are made out in the names of respective merchants. In the case of Italisca the goods are sold at the very rate at which they are purchased as the assessee is given 2% discount by the manufacturer.'
7. These observations indicate that the trading assets of the assessee are the forward contracts made by him on the strength of his business contacts with foreign contractors. The benefits of these contracts he transferred to local merchants at a profit of 2 to 5%. This kind of business hardly required any investment of capital. The incomings of the employer's business was nothing but the profits earned by him in the sale transactions. It is out of this amount that was coming into his hands that he agreed to pay half per cent. on sales effected by him to the assessee. If there was no sale, the assessee earned no commission. If there was a sale, it only brought resulting profits to the hands of the employer. That being the factual position, there cannot be any doubt that, on the agreement between the parties, the commission paid to the assessee was paid out of the profits of the business of the employer.
8. Now, coming to the question as to whether the second conditions has been fulfilled, i.e., as to whether disallowance was on the ground of such mode of payment, we have again to refer to the reasons or the ground on which the claim of the employer to allow this amount as revenue expenditure was rejected by the Income-tax Officer. The reasons given by the Income-tax Officer in short are : The employer was a shrewd man of business. In the year 1948, there was a big increase in business and the demand was increasing. Further, the restrictions on import were removed in April, 1948. The employer, therefore, anticipating huge profits, entered in this contract with the assessee on 30th May, 1948, so as to reduce his income and his tax liability. The antecedents of the assessee were that he had no knowledge about the Bombay yarn market and the way in which business was transacted there. Previous to his engagement by his employer, he was doing business in machinery on a very small scale. The assessee had no knowledge about the different qualities of rayon yarn. He was, under the circumstances, not in a position to put up the business of his employer. For the purpose of the business, the employer had other brokers who were working in the market and securing orders from the customers. The employer's explanation was that he wanted to pay a short visit to Italy to renew his agreement with Italisca which was to expire shortly and, therefore, he took up the assessee on the terms noted above, and that he had no knowledge that he would be making huge profits. It was not accepted. On the basis of these facts, the Income-tax Officer recorded his finding in the following terms :
'In the year 1948, there was big increase in business and the demand was increasing. To add to this, restrictions on import were removed in April or May, 1948; naturally, therefore, he expected much increase in rayon yarn business and in his income also, and the payment of commission is but a way to reduce his income and his tax liability. I therefore do not allow the commission of Rs. 2,45,557 paid to Mr. Francescanto (assessee).'
9. That being the finding of Income-tax Officer, it is not possible to agree with Mr. Joshi that the disallowance of the item of Rs. 2,45,557 in the assessment of the employer was on the ground that it was not a permissible deduction under section 10(2) (xv) of the Act. It is indeed true that the employer had shown in the profit and loss account payment of commission as expenses and had claimed it in his assessment as revenue expenditure and that has been disallowed. But that by itself is not sufficient to hold that the Income-tax Officer had disallowed the said sum on that ground. In view of the finding of the Income-tax Officer reproduced above, in our opinion, the ground on which this payment was disallowed falls within the second condition of the Notification. In this view of the matter, in our opinion, the Tribunal was right in holding that the assessee was entitled to exemption from payment of tax on the said amount of Rs. 2,45,557.
10. We do not consider it necessary to deal with the other decision referred to by counsel for the prices inasmuch as in our view the decision in each case turned on the facts of that case and none of them is a direct authority on the question which falls for our consideration in this case.
11. Before parting with the case, it has to be said that a notice of motion was taken out by the counsel for Commissioner for correction of the statement of the case. It was not opposed on behalf of the assessee. The notice of motion is allowed and the statement of the case would stand so corrected. In the print supplied to us, a copy of the appellate order of the Tribunal was not included. But the copies were filed before us during the course of the hearing. They be taken on record.
12. In the result, our answer to the question referred to us is in the affirmative. The Commissioner shall pay the costs of the assessee.
13. Question answered in the affirmative.