S.T. Desai, J.
1. A short but interesting question arises for our determination on this reference under Section 66(2). The assessee Messrs. F.E. Dinshaw Ltd. and three others formed the Cement Agencies Ltd. a company which was appointed the Managing Agents of the Associated Cement Companies Ltd. The Associated Cement Companies Ltd. is a public company and was incorporated in 1936 and in the same year the Cement Agencies Ltd. were appointed its managing Agents. There were three other principal share-holders along with F.E. Dinshaw Ltd. in the Cement Agencies Ltd. In order to look after the day to day management of the parent company, the four principal share-holders appointed four persons to act as Managing Directors of Cement Agencies ltd. These persons were to devote all their time and attention to the business and management of Associated Cement Companies ltd. The remuneration of these Management Directors was, however, not to be paid by Cement Agencies Ltd. but by the four principal share-holders. The assessee company appointed Mr. H.S. Captain as one of the Managing Directors on its behalf and the remuneration payable to Mr. Captain was recorded in a letter addressed by Mr. F.E. Dinshaw to him on 29-10-1935. The remuneration was payable to him on a percentage basis relative to dividends declared by Cement Agencies Ltd.; but the minimum remuneration was to be Rs. 60,000/- per year. That arrangement continued till 30-9-1951. On 30-9-1951 the assessee company terminated the services of Mr. Captain. The arrangement between the four principal share-holders and the Cement Agencies Ltd. operative from 1-10-1951 was that the salary of the four Managing Directors was to be paid thereafter not by the four principal share-holder but by Cement Agencies Ltd. itself. The salary in case of Mr. Captain was to be Rs. 3,600/- per month with certain allowances. Under the agreement recorded in the letter of 29-10-1935 Mr. Captain had in the meantime been getting remuneration varying between Rs. 86000/- and Rs. 1,25,000/- every year. Mr. Captain continued to work for the Cement Agencies Ltd. in accordance with the variations in the arrangement already referred to and was remunerated at Rs. 36,000/- per year. There was a resolution by the Board of Directors of Cement Agencies Ltd. recording the fact that the services of Mr. Captain had been taken up by the Cement Agencies Ltd.
2. The Cement Agencies Ltd. had not declared any dividend before 1-10-1951 in respect of the then current accounting year of the company. That dividend was declared about six months later and a sum of Rs. 1,34,400/- was paid to Mr. Captain on account of his salary for the period ending 30-9-1951 till which date he had been in the employment of F.E. Dinshaw Ltd. Over and above that a sum of Rs. 1 lakh was paid by F.E. Dinshaw Ltd. to Mr. Captain. A few days after the resolution passed by Cement Agencies Ltd. of which we have made mention. Mr. Captain wrote to the assessee recording certain facts and claiming a sum of Rs. 3 lacs as compensation for termination of his services. In that letter he stated that he had made a claim for compensation in view of the termination of his employment. In the penultimate para of that letter he stated:
'I further pointed out that my remuneration at present amounted to nearly Rs. 11,000/- a month and it would probably go on increasing every year in the circumstances of the case. I therefore claimed compensation of not less than Rs. 3 lakhs, even allowing for the fact of your having secured me a job with Cement Agencies Ltd.
After discussion at several meetings it has been agreed between you and me that you should pay me the sum of Rs. 1 lakh as compensation for termination of my employment.'
The assessee acknowledged receipt of that letter on 28-12-1951 and confirmed the agreement relating to payment of Rs. 1 lakh to Mr. Captain as compensation for termination of his employment. Along with that letter was sent to him a cheque for Rs. 1 lakh. This amount of Rs. 1 lakh was claimed by the assessee company as a revenue deduction. In this reference we are not concerned with the payment of Rs. 1,34,400/- made by the assessee company to Mr. Captain. The Income-tax Officer disallowed the assessee's claim for this deduction. The appellate Assistant Commissioner, however, allowed the assessee company a deduction of Rs. 33,600/. The view he took of the matter was that in the absence of any specific period of service agreed to between the parties concerned, Mr. Captain was entitled to only a reasonable notice and the damages or compensation payable to him should be salary that he would have earned during that period of notice. He took the view that three months' notice would be reasonable in the circumstances of the case and fixed the permissible deduction at Rs. 33,600/-. In appeal both the President and the Accountant Member gave different reasons for the conclusion reached by the Tribunal. The president was of the opinion that Mr. Captain was entitled to a reasonable notice and held that the amount allowed by the Appellate Assistant Commissioner was reasonable compensation for terminating Mr. Captain's services. The Accountant Member on the other hand took a different view of the matter and in his opinion the claim for deduction relating to Rs. 1 lakh stood on the same footing as the claim relating to payment of Rs. 1,34,400/- as remuneration to Mr. Captain. IN his order, he referred to the letter of 27-12-1951 addressed by Mr. Captain to the assessee company and observed:
'Dealing with the second item of Rs. 1 lac the nature of the payment appears to be the same as the first item. The letter dated 27-12-1951 written by Mr. Captain to the assessee is all a made up affair.'
He did not base his decision on that inference of his. He agreed with the President that the amount of Rs. 33,600/- allowed as deduction was reasonable. The question we are asked to determine on this reference is:
'Whether on the facts and in the circumstances of the case the assessee company was entitled to claim as an allowable deduction the whole sum of Rs. 1,00,000/- (Rupees one lac) paid as compensation of H.S. Captain?'
3. The deduction was claimed by the assessee under Section 10(2) (xv) and the question which the Tribunal had to consider was whether the amount of Rs. 1 lac represented an expenditure laid out or expended wholly and exclusively for the purpose of the business of the assessee. We have very carefully looked into what has been said both by the President and the Accountant Member but we do not find anything there on this point. Both the President and the Accountant member have approached the matter from the point of view of reasonable period of notice in case of an agreement of wrongful termination of services. There is reference to Section 10(2) (xv) in the order of the Accountant Member, but nothing is said there as to whether in his opinion this was or was not an expenditure laid out wholly or exclusively for the purpose of the assessee's business.
4. Mr. Joshi has, however, argued before us that must be taken to be implicit in the order We shall take it that it is implicit in the order that such was the conclusion of the President and the Accountant Member.
5. It has been argued before us by Mr. Kolah, learned counsel for the assessee, that all the facts show that this amount was paid in the circumstances recorded in the two letters. It is said that the genuineness of the two letters and the transaction recorded there has never been questioned by the Department. It is also said that, although the Accountant Member threw a doubt on the letter of 27-12-1951 in his judgment, there is no finding by the Tribunal that the letter was a made up affair. There is nothing in the statement of the case either which may suggest that the Tribunal looked upon the two letters with any doubt or suspicion. The reasoning of the President proceeds on the footing that the letters recorded the true state of affairs, the only question decided being that the sum of a lac of rupees was excessive compensation paid by the assessee and that compensation commensurate with three months' salary would have been adequate in the circumstances of the case. It is further argued that there is not a single factor in this case which may be said as suggesting or showing that the payment was not laid out wholly or exclusively for the purpose of the business of the assessee company. The argument ran that the assessee was bound to make a compensation for termination of Mr. Captain's services without giving a proper legal notice and if it made compensation to the discharged employee bona fide and solely as a matter of business expediency, there was no reason why the Department should not have accepted that payment as permissible revenue deduction.
6.Now, the general principle underlying the subject of allowances or deductions permissible on the ground that the expenditure is laid out wholly or exclusively for the purpose of an assessee's business is firmly established. The prime consideration in case of a claim for any such deduction must be that the expenditure was incurred wholly and exclusively for the purpose of such business. An expenditure can be for the purpose of the business even though it may not be incurred with a view to making profits. In Eastern Investments Ltd. v. The Commissioner of Income-tax, West Bengal : 20ITR1(SC) , the Supreme Court laid down that in the absence of fraud, the questions whether the transaction had the effect of diminishing the assessee's taxable income and whether it was necessary for the assessee to enter into that transaction are irrelevant in determining whether expenditure relating to that transaction should be allowed under Section 12(2). The principle on which that decision is rested is the same and raise the same considerations as are applicable under the present Section 10(2)(xv). The matter has to be viewed in the light of principles of commercial trading and commercial expediency. What is required is that the expenditure must be germane to the business of the assessee and not something which is de hors the business of the assessee. If it is an expenditure of the nature of compensation for termination of the services of an employee, the closer test would seem to us to be that of commercial expediency. This test was approved of by the Supreme Court in the decision referred to above. If the payment is made under the honest belief that the claim by the employee for compensation or damages is justified and the assessee has acted in the matter of the settlement of the claim as an ordinary prudent businessman would act, it would not be for the Department to say that the claim would not have succeeded in its entirety or even partly in a Court of law. In such a case the Department cannot insist on framing its own standard of reasonableness or prudence. It cannot claim the right or discretion to look at the matter subjectively but must examine it objectively. Of course, if the payment is not made wholly or exclusively for the purpose of the business, every little would remain to be said or done. If the Department reaches the conclusion that the payment does not reflect a genuine transaction, it can certainly object to it or if the payment appears to have been made for a collateral purpose, it may not accept the claim for allowance. So also if the payment is made with an indirect or improper motive or for some consideration aliunde the business or out of sheer generosity. The test, in fine, must be of commercial expediency. The indisputable starting point in matters of this kind should be an objective approach and there should be no setting up of any subjective standards. The foremost consideration, as we have mentioned, is the one laid down by the Legislature itself and it is that the expenditure must have been wholly and exclusively laid our for the purpose of the business.
7.Mr. Kolah, learned counsel for the assessee, has relied on a decision of the Madras High Court in Newton Studios Ltd. v. Commissioner of Income-tax, Madras : 28ITR378(Mad) . That case related to payment of remuneration to a member of the staff of the assessee but the principle is the same. Mr. Kolah has particularly relied on the following observations of the Court at p. 385 (of ITR): (at pp. 647-648 of AIR):
'Under our taxing system, it is for the assessee to conduct his business, and in his wisdom or otherwise to fix the remuneration to his staff. The Income-tax Act does not clothe the taxing authority with any power or jurisdiction to determine the reasonableness of the amount so fixed and paid by the assessee. The only test for the deductibility of such remuneration is whether the expenditure has been incurred solely and exclusively for the purpose of the business. If the reality of the payment is challenged or is in dispute different considerations arise; so also in cases where the tax authorities are able to point to some consideration other than the purpose of the business as accounting for any portion of the payment made. In such cases, of course, such portion of the amount claimed, which is either not held to have been paid or is held to have been paid for reasons other than business expediency, could and should be disallowed; but the reason for the disallowance is because either the portion disallowed is not paid, or because the expenditure is not solely and exclusively for the business, and not on the ground that in the opinion of the Income-tax Officer or other taxing authority the remuneration is 'unreasonably' high either because the employee does not, in the authority's opinion, deserve so much, or because the assessee could have secured other employees on more favourable terms.'
We are in respectful agreement with the view expressed by the learned Judge but would prefer to follow a decision of this High Court, where also the same principle came up for consideration and in which case there are observations of the learned Chief Justice which throw light on some further aspects of the matter. They may be said, with respect, to be of the nature of a corollary to the broad general principle enunciated in the judgment of the Madras High Court. Mr. C.N. Joshi, learned counsel for the Department, has relied on those observations in Jethabhai Hirji and Co. v. Commissioner of Income-tax, Bombay City : AIR1950Bom29 . It was there observed:
'Although the payment might have been made and although there might be an agreement in existence, it would be open to the Income-tax Officer to take into consideration various factors which would go to show whether the amount was paid as required by the section. For instance, the Income-tax Officer may take into consideration whether the money were paid to a near relation of the employer. He may take into consideration the extent of the business and the particular services rendered by the employee which called for a special remuneration at the hands of his employer. He may take into consideration the quantum of the payment made with a view to decide whether the payment was or was not grossly out of proportion to the work done by the employee. If after taking these factors into consideration he comes to the conclusion that the payment was not made wholly and exclusively for the purpose of the business of the assessee, it would be open to him to either disallow the whole sum or a part of the sum paid The question whether a particular sum was expended wholly and exclusively for the purpose of such business must essentially be a question of fact to be determined by the Income-tax Officer. But it would be open to the assessee to contend, as it has been contended in this case, that the decision arrive dat by the Income-tax Officer was based on no evidence at all. If the assessee satisfied the Court that apart from the actual payment and existence of the agreement there were no other factors which were taken into consideration by the Income-tax Officer then perhaps the Court would say that the Income-tax Officer was not justified in coming to the conclusion that the did.'
It was urged by Mr. Joshi that these observations do not wholly accord with what was laid down in the madras decision. For our part we read these observations as affirming the identical principle and stating matters which would be of the nature of a corollary to the same principle. We read nothing in these observations which can in any manner be said to qualify or modify the broad general principle and as we have already pointed out the broad general principle is as laid down by the Supreme Court in the decision to which we have already made reference. We may also add that there is nothing in these observations to suggest that it is open to the Department in any such case to look at the matter subjectively and not objectively. The reason of the rule is not far to seek. It is not difficult to conceive of cases where the legal liability of the employer may be a debatable question. When faced with a claim for compensation or damages by a servant whose services have been wrongfully terminated, is the employer to view the matter as one of commercial expediency or strictly as a matter of legal rights as may be ultimately decided by the Court? It would surely be open to the employer in such a case to use his own judgment and act as a prudent business man would act. If he finds that the claim is justified and does not allow any collateral consideration to colour his judgment, it would certainly be open to him to settle the claim for a reasonable amount and it is difficult for us to see how in such a case it should be competent to the Department to set up its own views of the matter and say that the claim of the employee was not legally very sound.
8. To turn to the arguments of Mr. Joshi. It is said that in a case of this kind, even assuming that there was justification in the claim for compensation by the employee, the quantum of compensation could not reasonably have been fixed at anything higher than three months' remuneration. Mr. Joshi has based his argument on the premise that the employee would in such a case be only entitled to a reasonable notice and if no notice is given he would be entitled to claim such damages as would be awarded by a Court of law. We have already discussed the principle of the matter and need not rehearse the same. But we shall proceed to examine Mr. Joshi's argument on the footing that in such a case the consideration would be what was the period of reasonable notice that should have been given by the employer to the employee before terminating his services. Now, this question of reasonable notice has never been one easy for the Court to decide. There is no yardstick applicable to claims of this type which from their very nature and from the nature of different employments must necessarily vary. It would not be proper in a case of this nature to except the employer to settle the claim in a manner which would meet with the approval of the Department since from the very nature of things it would be impossible for the employer to deal with the claim wit plumb-line precision. Difficulty sometimes arise even when the Court has to determine the period of reasonable notice. An instance is point which immediately strikes one is the well-known case of an Insurance Agent who had built up a business of an insurance company for many years. The decision of the trial Court and in appeal and the Privy Council illustrate the difficulties that face the Court in some cases where the employment is not of an ordinary nature but involves complex facts. In case of an employee who does clerical work or of a stenographer, the position would not present any difficulty. But there are employments in which various considerations are bound to arise and do arise for the determination of the Court and the present one certainly is one of those cases in which it would not be easy for the Court to determine the precise period of reasonable notice. Managing directorships in large concerns are not very common. Remuneration in different concerns would depend on various factors, which it is not simple to state. This question of reasonable notice was canvassed before us by Mr. Joshi in the reference decided by us immediately before the present reference. That arose out of a claim made by Mr. Captain, the employee. In the course of his argument Mr. Joshi had there stressed a further aspect of the matter which arose for our determination and submitted that we should take into consideration whether the amount of Rs. 1 lac could be said to be a reasonable amount of damages in the facts and circumstances of the case. In that matter our opinion was in favour of the claim made by the employee who was the assessee. We pointed out in that case that the letter of employment showed that the emolument was payable annually to mr. Captain and we said in our judgment that if we had to consider the question of reasonable notice it would certainly have been a period of more than six months. We also said in our judgment that we were not prepared to consider the amount of Rs. 1 lac as in any sense an inordinate payment. Therefore, even if we have to view the matter solely from the point of view of the period of reasonable notice, we would reach the conclusion that in case of an employee whose services were of the nature of the managing directorship in this case and whose emoluments varied between Rs. 72,000/- and Rs. 1,25,000/- per year compensation of Rs. 1 lac would be reasonable. We may mention that a statement showing the emoluments paid to the employee is part of the record and marked as Annexure 'B'. That statement also shows that the amount of dividend which the Cement Agencies Ltd. received for the year ending 31-12-1952 was Rs. 6,04,800/- and had Mr. Captain continued in the employment of F.E. Dinshaw Ltd. his remuneration would have been Rs. 1,68,960/-.
9. For the reasons already indicated, our answer to the question will be in the affirmative.
10. Commissioner to pay the costs.
11. Answer in affirmative.