1. This reference relates to the assessment year 1948-49. Killick Nixon & Co., were a partnership concern carrying on trading operations on an extensive scale in India. They owned various textile factories and managing agencies of limited companies. The firm used to employ assistants initially for five years, and if their service were found satisfactory, extensions were given after the initial period at enhanced salary. The assistants could expect in due course to become partners in the firm. The assessee, E. D. Sheppard, was one of such assistant who joined the firm in 1930. The original contract of Sheppard's employment is not on the record : but it is undisputed that the terms of employment were the same as those on which one W. J. Heygate was employed on January 7, 1937. A copy of Heygate's contract of employment was produced before the Income-tax Officer. The assessee was in the first instance employed for a period of five years and he undertook to 'diligently and faithfully serve the firm.' By clause 10 it was provided that notwithstanding anything contained in the agreement the firm may terminate the agreement without assigning any reasons after giving the assessee one calendar month's previous notice of its intention so to do. This initial agreement was extended from time to time on the expiration of the original period of employment. Even the agreements by which the period of the assessee's employment was extended are not on the record, but it is admitted that the terms were the same as the terms of extension of the employment of one J. G. Milne - a copy of whose contract was produced on the record. By this agreement the assessee was to be paid the salary set out therein and a percentage of profits as commission. The assessee received between the years 1930 and 1935 salary rising from Rs. 500 to Rs. 700 per mensem; between the years 1935 and 1938 he received salary rising from Rs. 750 to Rs. 875 per mensem; between 1938 and 1941 he received a salary of Rs. 950 per mensem and 1 per cent. of the net profits as commission; between 1941 and 1944 he received a salary of Rs. 1,050 per mensem and 1 1/2 per cent. of the net profits; and between 1944 and 1947 he received a salary of Rs. 1,200 per mensem and 2 per cent. of the profits. The last extension given to the assessee was from November 1, 1947, to October 31, 1950, and under that agreement he was to receive a salary of Rs. 1,200 per mensem and 2 1/2 per cent. of the net profits as commission. There is no dispute that the total emoluments of the assessee under this agreement would have been approximately Rs. 50,000 per annum.
2. Some time about the last quarter of the year 1947 the firm decided to reorganize its business, and with that end in view decided to convert itself into a public limited company. For that purpose two limited companies were floated : one was the Killick Industries Ltd. - a public limited company - and the other was Killick Nixon & Co. Ltd., a private limited company which was to manage the business of the former company. This arrangement to convert the firm into a public limited company necessitated termination of the services of the firm's employees. On December 29, 1947, a notice was served upon the assessee informing him that it was 'desirable to place on record' that in view of the changes in the firm which, it was anticipated, will be effected 'in the near future', the firm will be unable to continue him in its employment as from January 31, 1948. On January 30, 1948, an allotment of 1,700 shares of the Killick Industries Ltd., was made to the assessee. On February 1, 1948, the assessee entered the employment of the Killick Industries Ltd. For transferring its assets the firm received certain shares of the Killick Industries Ltd., and of Killick Nixon & Co. Ltd. The shares of Killick Industries Ltd., on the Indian market were, at the material time, quoted at Rs. 130 per share, though the face value thereof was Rs. 100 only. Thus by the allotment of 1,700 shares the assessee received assets of the value of Rs. 2,21,000.
3. The Income-tax Officer sought to bring the shares of the value of Rs. 2,21,000 to tax on the footing that these shares were allotted to the assessee in consideration of past services. The assessee produced before the Income-tax Officer a letter purporting to be written by one D. R. C. Hartley on October 1, 1952, on behalf of the firm, in which the assessee was informed that the firm had caused 1,700 shares in Killick Industries Ltd., to be allotted as 'compensation for loss of employment.' In appeal to the Appellate Assistant Commissioner, the order passed by the Income-tax Officer bringing to tax the amount of Rs. 2,21,000 was confirmed. Before the Income-tax Appellate Tribunal the assessee produced an affidavit, dated February 22, 1954, sworn by five out of the six partners who constituted the firm in the month of January, 1948, (the sixth partner having died in the meanwhile), which affirmed the terms of a memorandum submitted to the Income-tax Officer by Messrs. Crawford Bayley & Co. on behalf of the assessee. It was recited in paragraph 8 of the affidavit that the partners had decided to discontinue the firm and prior to such discontinuance and on December 27, 1947, they wrote to each assistant who was then employed by the firm terminating his services from January 31, 1948, and stating that a further communication will be addressed to him regarding 'the question of compensation for loss of employment.' It was further recited in paragraph 8 that the intention of the partners on the discontinuance of the firm in causing allotments of certain shares to be made to the assistants was to compensate them for loss of employment and it was 'in no sense a reward for past services.' It was then recited that all the assistants had accepted the allotment as 'compensation for the loss of employment in terms of the letter of December 27, 1947, and in view of such allotment no claim was made by any assistant against the firm' and that a confirmatory letter from the partners to the assistants was some time thereafter written 'for purposes of the record'. It was stated in paragraph 8 of the memorandum which was submitted by Messrs. Crawford Bayley & Co. that 'the long continued employment (of the assistants) with the firm with the expectations attached thereto came to an end and it was but right that the assistants concerned, most of whom had unexpired agreements, were entitled to claim and did receive compensation for the loss of their employment including future prospects.'
4. The two Members of the Tribunal, Mr. Aggarwal and Mr. Pophale, differed in their views on the true character of the payment received by the assessee. Mr. Pophale was of the view that because the assessee did not suffer any loss as a result of the termination of employment with the firm the shares must be regarded as given to the assessee for past services, and not as compensation for loss of employment. He observed that from February 1, 1948 - the next day after the employment of the assessee with the firm terminated - the assessee was employed with Killick Industries Ltd., and, therefore, the assessee did not suffer any damage, and the amount paid to him was not compensation for loss of employment. He also observed that the payment was not made 'solely for loss of employment' because the compensation was paid 'not merely' for 'loss of bare employment' but for loss of the 'expectations attached thereto' and for loss of 'future prospects'. Finally Mr. Pophale expressed the view that the employment of the assessee was terminable at one month's notice and that in any event as the total remuneration which the assessee would have earned for the unexpired portion of his employment could not have amounted to Rs. 2,21,000, the payment must be regarded as made 'under the contract' and not 'for the loss of the contract'. On all these grounds, Mr. Pophale held that the assets valued at Rs. 2,21,000 transferred to the assessee were not compensation for loss of employment and were liable to tax. With this view Mr. Aggarwal disagreed. He observed that the assessee's services were determined by the firm which was ultimately dissolved and that the allotment of the shares was made to the assessee 'at or in connection with the termination of his employment and solely as compensation for loss of employment' and that there was no 'material on the record in support of the argument of the Departmental Representative that the payment in the alternative is merely in lieu of past services'. In view of the difference of opinion between the two Members constituting the Bench, the following question was referred to the President :
'Whether the sum of Rs. 2,21,000 is a capital receipt in the hands of the appellant (assessee) or is a revenue receipt taxable under section 7 the of Indian Income-tax Act ?'
5. The President of the Tribunal agreed with view of Mr. Aggarwal. He held that the payment made to the assessee was for loss of employment and it was immaterial whether the assessee secured another employment equally advantageous to him on the next day after the termination of his employment with the firm. At the instance of the Commissioner, the Tribunal has referred the following question :
'Whether on the facts and circumstances of the case, the sum of Rs. 2,21,000 being the value of the shares received by the assessee free of payment, is income of the assessee and assessable under section 7 of the Income-tax Act ?'
6. By section 7(1) of the Income-tax Act, as it stood at the material date, it was provided :
'The tax shall be payable by an assessee under the head 'Salaries' in respect of any salary or wages, any annuity, pension or gratuity, and any fees, commissions, perquisites or profits in lieu of, or in addition to, any salary or wages, which are due to him from, whether paid or not, or are paid by or on behalf of the Government, a local authority, a company, or any other public body or association, or any private employer;......'
7. By Explanation 2 to that section it was provided that a payment due to or received by an assessee from an employer or former employer was, subject to certain exceptions which are not material, a profit received in lieu of salary for the purposes of sub-section (1) of section 7, unless the payment was made 'solely as compensation for loss of employment and not by way of remuneration for past services.' Therefore, payment due to or received by an employee from his employer or former employer, which is not of the nature of compensation solely for loss of employment, will be excluded from the connotation of the expression 'profit received in lieu of salary' within the meaning of section 7(1). The assessee was, it is true, able to secure employment elsewhere from the next day after the termination of his employment with the firm, but that, in our judgment, is wholly immaterial in ascertaining the true nature of the payment. If, by an agreement between the assessee and his employers, a certain amount was estimated as compensation for the loss likely to be suffered by the assessee by reason of the termination of his employment with the firm, and was paid to the assessee, the circumstance that the assessee did not in fact suffer any loss will not, for income-tax purposes, alter the nature of the payment made. That the assessee was able to secure employment on the next day after the termination of his services with the firm is wholly irrelevant in assessing the nature of that payment.
8. The majority of the Members of the Tribunal have taken the view that there was no attempt to camouflage the nature of the payment made to the assessee by calling it 'compensation for loss of employment' and that it was intended in fact to be compensation paid to the assessee for termination of his employment together with his future prospects. That conclusion must be regarded as binding upon us in this reference; and the sole question which falls to be determined is whether that compensation is to be regarded as a revenue receipt or a capital receipt in the hands of the assessee.
9. Mr. joshi for the Department has contended that even in the affidavit filed by the employers of the assessee the payment is not stated to have been made solely for loss of employment but as inclusive of compensation for loss of future prospects. But if, under the terms of the employment, an expectation could reasonably be entertained by the assessee that in the course of his employment he will earn promotion, that expectation cannot be divorced from his employment. The expectations or prospects are rooted in the employment : and it will be difficult to distinguish between compensation made for loss of employment and for loss of prospects in that employment. In any event, even assuming that the future prospects are not to be regarded as incidental to the employment of the assessee as at the date of the termination of his employment with the firm, compensation paid for extinction of those future prospects may still not be regarded as salary or other remuneration or as profits in lieu of salary due within the meaning of section 7(1) and the Explanation thereto. It is true that by the Explanation a payment which is due to or received by an assessee from an employer or a former employer is to be regarded as profit received in lieu of salary for the purposes of sub-section (1) and the Explanation thereto. It is true that by the Explanation a payment which is due to or received by an assessee from an employer or a former employer is to be regarded as profit received in lieu of salary for the purposes of sub-section (1) of section 7; but in our judgment the payment must be made because of the relation between the employee and the employer. If the object of the payment is unrelated to the relation between the employer and the employee, it will not fall within the expression 'profit received in lieu of salary' in Explanation 2 to section 7(1). Assuming, therefore, that a part of the compensation paid to the assessee was not solely for loss of employment but was attributable to the loss of future prospects which the assessee had of becoming a partner in future in the firm, that will not, in our judgment, be regarded as 'profit received in lieu of salary' within the meaning of section 7(1) or the Explanation thereto; and if such payment is not regarded as salary or profits in lieu of salary, there is no other head of income, profits or gains under which it will fall so as to decide in this reference whether the payment can be regarded as a capital receipt or a revenue receipt in the hands of the assessee; and if, on the view we have taken, it is not a revenue receipt, then it must be regarded as not liable to tax.
10. On that view of the case, the answer to the question referred will be 'The amount of Rs. 2,21,000 is not income of the assessee assessable under section 7 of the Income-tax Act.' The Commissioner of Income-tax to pay the costs of the assessee.
11. Reference answered accordingly.