BEAUMONT, C.J. - This is a reference made by the Acting Commissioner of Income-tax in which he raises the following question :-
'The Assistant Commissioner having found as a fact that in the triennium under consideration there was an appreciation in the value of the securities held by the assessee, was his action correct in refusing to grant any deduction from the income liable to tax on account of the sum of Rs. 1,74,919 claimed by the assessee under Rule 30 of the Income-tax Rules as an item of expenditure on account of amounts carried to the Investment Reserve Fund meant to provide for depreciation in the value of the said securities ?'
The assessee is a company carrying on life insurance business. The year of assessment is the year 1933-34. Under Rule 25 of the Indian Income-tax Rules framed under sec. 59(2) (a) (ii) it is provided :
'In the case of Life Assurance Companies incorporated in British India whose profits are periodically ascertained by actuarial valuation, the income, profits and gains of the Life Assurance Business shall be the average annual net profits disclosed by the last preceding valuation' with certain statutory additions which may have to be made thereto. Now, in the three years covered by the valuation in the case of assessee company, which were the years 1930, 1931 and 1932, there was a substantial depreciation in the investments held by the company for the year 1930, and the company set aside to a special depreciation account a sum considerably less than the actual amount of depreciation. In 1931 there was a further and heavier depreciation, and the Directors again set aside to the depreciation reserve fund a further sum, again considerably less than the amount of the appreciation, and the Assistant Commissioner of Income-tax has found as a fact that the loss of the two years was wiped out, and in the three years there was a small appreciation. The question is how on those facts Rule 30 has to be applied. Now, Rule 30 provides :- 'Any amount either written off in the accounts or through the Actuarial Valuation Balance-Sheet to meet depreciation, or loss on securities or other assets, or which is carried to a reserve fund formed for that sole purpose and not used for any other purpose, may be treated as expenditure incurred solely for the purpose of earning the profits of the business'.
In the present case for the first two years there was a depreciation of securities, and amounts to meet that depreciation were carried to a reserve fund formed for that sole purpose and the question is whether the assessee can treat those sums as expenditure incurred solely for the purpose of earning the profits of the business without giving credit for appreciation which occurred in the third year.
The contention of the Commissioner of Income-tax is that the words 'may be treated as expenditure' in Rule 30 are permissive and confer an option upon the Income-tax Officer either to allow this expenditure or not. No doubt the word 'may' is permissive. But the question is on whom is, the permissive conferred It seems to me perfectly plain that it is conferred on the assessee. It may also be conferred on the Income-tax Officer, but that is irrelevant. It seems to me clear that when the rule says that these sums placed to reserved may be treated as an expenditure solely for the purpose of earning the profits of the business, that confers the right on the assessee to treat the sums in that way. That rule is not compulsory and it is possible that an assessee might prefer to pay the income-tax on moneys placed to a special reserve fund so that there would be no difficulty in the future in bringing those sums back into revenue. But I am clearly of opinion that the rule gives permission to the assessee to do what the rule allows, and that it does not merely confer an option upon the Income-tax Officer. These sums having been properly placed to the special reserve fund in the first two years of the triennial period, I can find nothing in there rules which require that they be brought back into the revenue account as soon as the depreciation for which they were designed has been made good. The company may well think that it may have to pass through difficult times again, and that it is prudent to keep its reserve in hand even though the reserve at the moment may not be wanted for the purpose for which it was made.
The Advocate-General says that consequences may follow on this interpretation of the Rule, because large sums may be placed in reserve on which tax will not be paid. But it is to be noticed that sums placed to the special reserve fund must be in respect of depreciation or loss, which, in my view, means depreciation or loss which has actually occurred, and that reserve fund can be used for no other purpose. These two consideration afford considerable safeguards against the possibility of a company forming excessive reservations under Rule 30 and evading paying taxation. In my view, the finding of fact of the Assistant Commissioner of Income-tax, which is referred to in the question raised, is really irrelevant, and the questions must be answered in the negative.
BLACKWELL, J. - I am of the same opinion.
The contention of the Commissioner of Income-tax is that the words 'may be treated' in Rule 30 confer upon his and upon him alone, the option to treat sums off to meet depreciation of, or loss on, securities or other assets, or carried to a reserve fund formed for that sole purpose, and not used for any other purpose, as expenditure incurred solely for the purpose of earning the profits of the business. In my opinion this construction does violence to the plain words of the rule. It seems to me that the rule confers an option upon the assessee to write off in his account to meet depreciation or to carry to a reserve fund to meet depreciation any amount which is justified by an actual loss in any particular year. The facts disclosed by the evidence in the present case are that the assessee set aside in the first two years sums much smaller than were sufficient to meet the actual loss which occurred in those years. The mere fact that there was an appreciation in the securities in the third year seems to me to be entirely irrelevant so far as the construction of Rule 30 is concerned in relation to the first and second years, and if there has been a writing off or setting aside to reserve fund in any particular year justified by the state of accounts of the company of that year, the rule seems to me plainly to permit the assessee to treat the amount so written off or set aside as expenditure incurred solely for the purpose of earning the profits of the business. There is nothing in this rule to compel the assessee who has exercised his option to bring back any sums which have been properly set aside by him in accordance with the rule.
I agree, therefore, that the question must the answered in the negative.
Mr. M. C. Setalvad, with Mr. P. B. Gajendragadkar, for the assessee Company.
Sir Kenneth McI. Kemp. Advocate-General, which the Government Solicitor, for the Referor.