BEAUMONT, C.J. - This is a reference made by the Income-tax Commissioner under Section 66 of the Indian Income-tax Act. The year of assessment is the year 1939-40, but an application was made to the Commissioner to make a reference in July 1940, the Assistant Commissioners order in appeal having being made on the May 31, in that year. For some reason or other the reference was not made until the June 1, 1943. On the January 25, 1941 Part II of the Amended Income-tax Act had come into operation and, therefore, an appeal would lie to the Appellate Tribunal, and it would be for them to make a reference. But Section 14 of Act XL of 1940 reserves power to the Commissioner to make a reference in cases already pending before him when Part II came into operation. So I think the Commissioner was entitled to make the reference.
The questions appear at first sight to be a good deal more formidable than they are shown to be when one understands the position, because the contracts, and the financial arrangements existing between the assessee, Bombay Baroda and Central India Railway Company, and the Secretary of State for India are of a complicated character but the questions raised the really simple.
The first question is : 'Whether the amount of Rs. 4,66,667 representing the 3 1/2 per cent. interest on debenture stock paid by the Secretary of State in England is income of the Company arising without British India within the meaning of Section 4-A(c) of the Act,' Section 4-A defines 'residence in British India,' and sub-section (c) enacts that 'a company is resident in British India in any year (a) if the control and management of its affairs is situated wholly in British India in that year,' -admittedly in this case the control was not in British India - 'or (b) if its income arising in British India in that year exceeds its income arising without British India in that year.' The claim of the company is that its income arising in British India is less than the income arising outside British India, and that depends on whether this sum of Rs. 4 lacs odd of interest on debenture stock can be regarded as income of the company arising out of British India. It is paid in London although out of the revenues of India. I should think that if it can be fairly described as income of the Company, it may be said to arise out of British India. But when one looks at the contract under which the liability of the Secretary of State to pay interest on debentures arises, it seems to me quite that these payments of interest on debentures never formed part of the income of the Company. The contract provides that 'The Secretary of State will, as often as and when the half-yearly or other interest payable in respect of any debentures or debenture stock that may be sanctioned and issued as aforesaid, or in respect of any portion of such debentures or debenture stock, shall become due, pay in London in sterling out of the revenues of India of the Company the aggregate amount of such interest as a fund to meet and provide for the payment of such interest to the persons entitled thereto.' So that, it is paid as a fund to meet a particular debt of the Company, that is to say, interest on debentures, and admittedly the Company keeps the money on a separate account. Therefore, in my opinion, it never forms part of the income of the company. If the contract had been to pay so much a year to the Company, the amount being based on the amount which would have to be paid to the debenture-holders by way of interest, but the money forming part of the general revenue of the Company, then it might be said to be income of the Company, and in that case presumably the company would have to pay income-tax upon it in England. But as the contract is worded, it seems to me that it never formed part of the income of the Company. Analogous questions frequently arise in insolvency and if the assessee were an individual, and became insolvent, I think undoubtedly the debenture-holders could claim this fund as fund earmarked to pay their interest, and would not be required merely to provide with other creditors. The test is whether the money is paid to the company earmarked for a particular purpose, or as part of its general revenue, and I have no doubt that it is paid earmarked for a particular purpose. Therefore, the answer to the first question is in the negative.
The second question is : 'Whether in the circumstances of the case the company has been rightly held to be resident in British India within the meaning of Section 4-A(c) of the Act.' The answer to that question will be in the affirmative. It follows on the answer to the first question.
I may observe that the assessee asked leave to raise a question whether Section 4-A(c) of the Income-tax Act is ultra vires. That question was raised in the last reference which we heard, and we held treat the section is intra vires the Indian Legislature. As the assessee did not ask the Commissioner within the prescribed time to raise that point, I think the Commissioner rightly refused to raise it.
Then the third question is this : 'Whether the payments made in respect of the guaranteed interest of Rs. 8,00,000 are deductible from the income of the Company under section 10(2)(iii) of the Act.' The only point in that question really arises from the inaccurate use of the word 'interest', because when one ascertains the facts, the so-called interest is really dividend on shares. In effect the Secretary of State has guaranteed a dividend of 3 per cent. on certain shares. As we all know, dividends are payable out of profits, and if the profits of the Company are sufficient and a dividend is declared of over 3 per cent., then the Secretary of States obligation does not arise. But if the Company of State has to make up the amount. But the sum is a sum paid in order to make up profits to the amount necessary to enable the dividend to be paid. In no sense it is a deductible liability under section 10(2) of the Act. It makes no difference that in practice the Secretary of State pays the amount to the Company before it is determined whether to pay a dividend, and if so at what rate, and subsequently recovers the amount if his obligation to pay does not in the events arise. The third question must be answered in the negative.
The assessee to pay costs.
RAJADHYAKSHA, J. - I agree.
Reference answered in the affirmative.