Skip to content


T.T. Pvt. Ltd. Vs. Income-tax Officer, Company Circle-iii, Bangalore - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtKarnataka High Court
Decided On
Case NumberWrit Appeal Nos. 446 and 447 of 1978
Judge
Reported in[1980]121ITR551(KAR); [1980]121ITR551(Karn)
ActsIncome Tax Act, 1961 - Sections 13, 30, 31, 32, 33, 34, 35, 36, 37, 38, 39, 40, 40A, 40A(1), 40A(2), 40A(5), 66, 66(2), 147 and 148; ;Income Tax Act, 1922 - Sections 10(4A)
AppellantT.T. Pvt. Ltd.
Respondentincome-tax Officer, Company Circle-iii, Bangalore
Appellant AdvocateG. Sarangan, Adv.
Respondent AdvocateS.R. Rajasekhara Murthy, Adv.
Excerpt:
- limitation act, 1963.[c.a. no. 36/1963]. article 57: [n. kumar, j] applicability of held, to apply article 57 of the limitation act, the suit must one for a declaration that an adoption is invalid. it is only when the prayer in the suit is for a declaration that an adoption is invalid, in such a case article 57 would apply. further, article 57 pre-supposes the plaintiff is directly or indirectly admitting the factum of adoption and a cloud is sought to be created on the right of the plaintiff to claim the property by way inheritance. the suit for partition cannot be treated as one for setting aside the adoption merely because one of the dependant set up a claim so as to attract the article of limitation act. therefore, article 57 is not attracted and the suit is not barred by time......venkataramaiah, j.1. these two appeals are filed against the common order passed in writ petitions nos. 7496 and 7497 of 1978 by puttaswamy j. dismissing the petitions. the appellant (hereinafter referred to as 'the assessee') was the petitioner in the said petitions and the ito, company circle iii, bangalore, was the respondent. in the writ petitions the assessee prayed for the issue of an appropriate writ, order or direction quashing the two notices dated march 25, 1978, issued by the respondent under s. 148 of the i.t. act, 1961 (hereinafter referred to as 'the act'), proposing to reassess the income of the assessee for the assessment years 1973-74 and 1974-75 on the ground that he had reason to believe that certain income of the assessee had escaped assessment in each of the above.....
Judgment:

Venkataramaiah, J.

1. These two appeals are filed against the common order passed in Writ Petitions Nos. 7496 and 7497 of 1978 by Puttaswamy J. dismissing the petitions. The appellant (hereinafter referred to as 'the assessee') was the petitioner in the said petitions and the ITO, Company Circle III, Bangalore, was the respondent. In the writ petitions the assessee prayed for the issue of an appropriate writ, order or direction quashing the two notices dated March 25, 1978, issued by the respondent under s. 148 of the I.T. Act, 1961 (hereinafter referred to as 'the Act'), proposing to reassess the income of the assessee for the assessment years 1973-74 and 1974-75 on the ground that he had reason to believe that certain income of the assessee had escaped assessment in each of the above assessment years and for a writ in the nature of prohibition restraining the respondent from taking any steps pursuant to the said notices.

2. Briefly stated the facts are these : The assessee is a private limited company incorporated under the Companies Act and is carrying on business of manufacture of pressure cookers and allied products at Bangalore. The sale of these products is being effected by the assessee through its selling agents, M/s. T. T. Krishnamachari and Company, which is a firm carrying on business at Madras, with whom the assessee has entered into an agreement. The assessee has been making payments to the said firm for the services rendered in connection with the sale of its products. The question whether the said payments could be treated as revenue expenditure and if so to what extent arose for consideration before the income-tax authorities in the earlier assessment years, i.e., 1968-69, 1969-70, 1970-71 and 1971-72, having regard to s. 40A(2)(a) of the Act and the relationship that existed between the directors of the assesses company and the partners of the firm of M/s. T. T. Krishnamachari and Company. Ultimately, by a common order dated October 30, 1976, the said question was settled by the Income-tax Appellate Tribunal, Madras Bench 'C', Madras, in I.T.A. Nos. 366 to 369 (Bang)/1975-76. After perusing the tripartite agreement dated December 20, 1956, entered into between the assessee, the selling agents and the Prestige Group of London and on the basis of the material available on record, the Tribunal concluded that the selling agents, M/s. T. T. Krishnamachari and Company, had been rendering various services and providing various facilities to the assessee such as, (i) giving guidelines to the assessee in the matter of manufacture of various models and range of pressure cookers in the light of their own market research; (ii) giving advice to the assessee in the matter of selection and appointment of distributors for the sale of cookers and fixing the terms and conditions thereof and also advising termination of services of distributors as and when required; (iii) making reports to the assessee on the activities of the competitors; (iv) participation in the finalisation of advertisement and sales promotional campaigns; (v) supervising the activities of the distributors; (vi) attending to complaints of consumers; (vii) helping the assessee in the matter of collection from distributors; (viii) helping the assessee in liaison work with Government authorities; (ix) helping the assessee in procuring raw materials; and (x) helping the assessee in the matter of excise duty, etc. The Tribunal also perused the resolution dated October 17, 1960, passed by the assesses company in its extraordinary general meeting appointing M/s. T. T. Krishnamachari and Company as sole selling agents on a commission of 7 1/3% on cookers and 15% on spare parts and considered that with the passage of time, as and when the assessee came to undertake the after-sale service, the quantum of commission had to be reduced gradually to 5% and 2 1/2%, respectively. The departmental stand that there was no specific agreement entered into by the assessee with M/s. T. T. Krishnamachari and Company was rejected by the Tribunal which held that the various resolutions passed by the assesses company and the tripartite agreement earlier referred to constituted the agreement. Thus, the Tribunal in its elaborate order dated October 30, 1976, held that the payment in question was reasonable in the light of various factors and thus the same was not liable to be disallowed under s. 40A(2)(a) of the Act. The Tribunal, following the said order, dismissed the departmental appeal in respect of the assessment for the subsequent assessment year 1972-73 also. These orders of the Tribunal became final, the department having accepted the same.

3. When the assessment of the income of the assessee arose during the assessment year 1973-74, the ITO disallowed by his order dated August 6, 1976, the claim made by the assessee regarding payments made to the selling agents as the decision of the Tribunal had not yet been rendered on the appeals referred to above. The assessee filed an appeal against the said order of assessment before the AAC. The appeal was allowed on March 5, 1977, and the allowance claimed by the assessee was granted in the light of the appellate orders of the Tribunal regarding earlier assessment years passed on October 30, 1976. The order passed by the AAC was allowed to become final.

4. In the assessment order dated January 31, 1977, passed in respect of the assessment year 1974-75, the ITO himself granted the allowance claimed in respect of payments made to the selling agents as by then the appellate orders of the Tribunal in respect of the earlier years had been pronounced.

5. It would appear that the internal audit party raised an objection regarding allowance having been made in respect of payments made to the selling agents under s. 40A(2)(a) of the Act as according to them the case had to be dealt with under s. 40(c)(i) of the Act. In view of the observations made by the audit party the ITO decided to issue the impugned notices under s. 148 of the Act proposing to reopen the assessments for the assessment years 1973-74 and 1974-75 and to make a reassessment. Aggrieved by the said notices the assessee filed the two writ petitions. The petitions were dismissed at the stage of preliminary hearing by the learned single judge observing that since it was open to the assessee to appear before the ITO and to urge that there was no case for reopening the assessment proceedings already completed, they were not fit cases for interference at this stage. These appeals are filed against the orders of the learned single judge.

6. After the respondent was served with the notices in these appeals, he has filed a statement of objections to the relief claimed by the assessee. The relevant part of the statement of objections reads :

'4. The Internal Audit party of the department in the course of their inspection for the assessment year 1974-75 raised an objection that the allowance of payment of commission to T.T.K. & Co. was not permissible under the Act. They also pointed out that the provisions of section 40(c)(i) of the Act were applicable to the assessee's case.

5. The Income-tax Officer accordingly took action under section 148 and initiated proceedings by issue of notice under section 148 for both the assessment years. The appellant has challenged these notices in the writ appeals on various grounds. The grounds on which the notices are challenged are :

(i) that it was not open to the department to reopen the assessments for the two years, having accepted the Tribunal's order on the same point for the assessment year 1972-73;

(ii) the notices were issued only on a change of opinion;

(iii) that section 40(c) of the Act has no application to the assessee's case and the only section which has application is section 40A;

(iv) neither section 147(a) nor (b) is applicable to the assessee's case.

6. It is submitted that none of the grounds referred to above is available to the assessee to urge in the writ appeals for the following reasons :

(i) that for the assessment year 1972-73 the order of the Tribunal is accepted by the department is not relevant for initiating action under section 148 for the subsequent assessment years;

(ii) the notices are not issued only on account of mere change of opinion on the part of the Income-tax Officer, but were issued as a consequence of audit objections raised by the internal audit party;

(iii) whether the provisions of section 40A or of section 40(c) are applicable to the facts of the case is a matter exclusively within the jurisdiction of the Income-tax Officer to adjudicate under the Act, and this is not a matter for interference by this hon'ble court under art. 226;

(iv) the notices are issued under section 147(b) and the records of assessment contain the information in support of the action and the notices are validly issued.'

7. During the period under consideration, the relevant parts of s. 40 and s. 40A of the Act stood as follows :

'40. Amounts not deductible. - Notwithstanding anything to the contrary in sections 30 to 39, the following amounts shall not be deducted in computing the income chargeable under the head 'Profits and gains of business or profession' - ...

(c) in the case of any company -

(i) any expenditure which results directly or indirectly in the provision of any remuneration or benefit or amenity to a director or to a person who has a substantial interest in the company or to a relative of the director or of such person, as the case may be,

(ii) any expenditure or allowance in respect of any assets of the company used by any person referred to in sub-clause (i) either wholly or partly for his own purposes or benefit,

if in the opinion of the Income-tax Officer any such expenditure or allowance as is mentioned in sub-clauses (i) and (ii) is excessive or unreasonable having regard to the legitimate business needs of the company and the benefit derived by or accruing to it therefrom, so, however, that the deduction in respect of the aggregate of such expenditure and allowance in respect of any one person referred to in sub-clause (i) shall, in no case, exceed -

(A) where such expenditure or allowance relates to a period exceeding eleven months comprised in the previous year, the amount of seventy-two thousand rupees;

(B) where such expenditure or allowance relates to a period not exceeding eleven months comprised in the previous year, an amount calculated at the rate of six thousand rupees for each month or part thereof comprised in that period :

Provided that in a case where such person is also an employee of the company for any period comprised in the previous year, expenditure of the nature referred to in clauses (i), (ii), (iii) and (iv) of the second proviso to clause (a) of sub-section (5) of section 40A shall not be taken into account for the purposes of sub-clause (A) or sub-clause (B), as the case may be.....'

'40A. Expenses or payments not deductible in certain circumstances. - (1) The provisions of this section shall have effect notwithstanding anything to the contrary contained in any other provision of this Act relating to the computation of income under the head 'Profits and gains of business or profession'.

(2) (a) Where the assessee incurs any expenditure in respect of which payment has been or is to be made to any person referred to in clause (b) of this sub-section, and the Income-tax Officer is of opinion that such expenditure is excessive or unreasonable having regard to the fair market value of the goods, services of facilities for which the payment is made or the legitimate needs of business or profession of the assessee or the benefit derived by or accruing to him therefrom, so much of the expenditure as is so considered by him to be excessive or unreasonable shall not be allowed as a deduction :

Provided that the provisions of this sub-section shall not apply in the case of an assessee being a company in respect of any expenditure to which sub-clause (i) of clause (c) of section 40 applies.....'

8. There is no dispute in this case that if s. 40(c)(i) is applicable to the case then the challenge to the impugned notices has to fail. There is also no dispute about the nature of services and facilities that were provided by the selling agents for which payments have been made. Both parties have depended upon the appellate order of the Tribunal. The questions raised in these appeals have, therefore, to be decided on the above basis. They are :

'(i) Whether it is open to this court under article 226 of the Constitution to quash the impugned notices and to issue an order restraining the Income-tax Officer from taking further steps

(ii) Whether the observations made by the internal audit party amounts to 'information' within the meaning of that expression in section 147(b) of the Act and

(iii) Whether, on the facts and circumstances of the case, the Income-tax Officer had in consequence of such information reason to believe that income chargeable to tax had escaped assessment for the assessment years in question ?'

9. The first question arises out of the contention urged on behalf of the department that the petitions are barred under art. 226(3) of the Constitution, which provides that no petition for the redress of any injury referred to in sub-clause (b) or sub-clause (c) of clause (1) of art. 226 shall be entertained if any other remedy for such redress is provided for by or under any other law for the time being in force. The prayers made in the writ petitions are that the notices issued under s. 148 of the Act in contravention of law, which are likely to result in injury of a substantial natural may be quashed and a writ in the nature of prohibition may be issued to the respondent restraining him from taking any further step pursuant to the impugned notices. The question is whether the law provides any alternative machinery through which the assessee can secure the reliefs prayed for in the petitions. It may be possible for a party to a proceeding before an inferior court or Tribunal to urge all his contentions against the jurisdiction assumed by it and challenge its decision on that question either before a higher court or tribunal to which an appeal or revision petition may lie against such decision or by applying for a writ in the nature of certiorari under art. 226 of the Constitution. But we are not on that point now. We are concerned with the question whether the petition for issue of a writ in the nature of prohibition referred to in clause (1) of art. 226 of the Constitution is barred only because after the decision of the inferior court or tribunal, an appeal or a revision or a petition for the issue of a writ of certiorari can be filed. The distinction between a writ in the nature of prohibition and a writ in the nature of certiorari and the stages at which they can be issued are well settled. Rejecting the contention based on Rex v. Electricity Commissioners [1924] 1 KB 171 that there was no difference in law between a writ of prohibition and a writ of certiorari, the Supreme Court observed in Hari Vishnu Kamath v. Ahmad Ishaque, : [1955]1SCR1104 as follows :

'What is stated there is that both writs of prohibition and 'certiorari' have for their object the restraining of inferior courts from exceeding their jurisdiction, and they could be issued not merely to courts but to all authorities exercising judicial or quasi-judicial functions. But there is one fundamental distinction between the two writs, and that is what is material for the present purpose. They are issued at different stages of the proceedings. When an inferior court takes up for hearing a matter over which it has no jurisdiction, the person against whom the proceedings are taken can move the superior court for a writ of prohibition, and on that, an order will issue forbidding the inferior court from continuing the proceedings. On the other hand, if the court hears that cause or matter and gives a decision, the party aggrieved would have to move the superior court for a writ of 'certiorari', and on that, an order will be made quashing the decision on the ground of want of jurisdiction.

It might happen that in a proceeding before the inferior court a decision might have been passed, which does not completely dispose of the matter, in which case it might be necessary to apply both for certiorari and prohibition - 'certiorari' for quashing what had been decided, and prohibition for arresting the further continuance of the proceeding. Authorities have gone to this extent that in such cases when an application is made for a writ of prohibition and there is no prayer for 'certiorari', it would be open to the court to stop further proceedings which are consequential on the decision. But if the proceedings have terminated then, it is too late to issue prohibition and 'certiorari' for quashing is the proper remedy to resort to. Broadly speaking and apart from the cases of the kind referred to above, a writ of prohibition will lie when the proceedings are to any extent pending and a writ of 'certiorari' for quashing after they have terminated in a final decision.'

10. In S. Govinda Menon v. Union of India, : (1967)IILLJ219SC , the Supreme Court further explained the nature of jurisdiction exercised by a superior court while issuing a writ in the nature of prohibition thus (P. 1277) :

'The jurisdiction for grant of a writ of prohibition is primarily supervisory and the object of that writ is to restrain courts of inferior tribunals from exercising a jurisdiction which they do not possess at all or else to prevent them from exceeding the limits of their jurisdiction. In other words, the object is to confine courts or tribunal of inferior or limited jurisdiction within their bounds. It is well settled that the writ of prohibition lies not only for excess of jurisdiction or for absence of jurisdiction but the writ also lies in case of departure from the rules of natural justice (See Halsbury's Laws of England, 3rd edn., Vol. 11, P. 114). It was held for instance by the Court of Appeal in King v. North [1927] 1 KB 491, that as the order of the judge of the Consistory Court of July 24, 1925, was made without giving the vicar an opportunity of being heard in his defence, the order was made in violation of the principles of natural justice and was, therefore, an order made without jurisdiction and the writ of prohibition ought to issue. But the writ does not lie to correct the course, practice or procedure of an inferior tribunal, or a wrong decision on the merits of the proceedings. It is also well established that a writ of prohibition cannot be issued to a court or an inferior tribunal for an error of law unless the error makes it go outside its jurisdiction (See Regina v. Comptroller-General of Patents and Designs [1953] 2 WLR 760 (QB) and Parisians Basket Shoes Proprietary Ltd. v. Whyte, 59 CLR 369. A clear distinction must, therefore, be maintained between want of jurisdiction and the manner in which it is exercised. If there is want of jurisdiction then the matter is coram non judice and a writ of prohibition will lie to the court or inferior tribunal forbidding it to continue proceedings therein in excess of its jurisdiction.'

11. The reason for interfering at this stage in cases of this nature are to be found in Bengal Immunity Co. Ltd. v. State of Bihar : [1955]2SCR603 . In that case, the petitioner was asked by a sales tax authority to apply for registration and to submit returns under the provisions of the Bihar Sales Tax Act, 1947. The petitioner who questioned the jurisdiction of the authority to issue such a notice applied under art. 226 of the Constitution. The High Court of Patna took the view that the Bihar Sales Tax Act undoubtedly conferred jurisdiction on the STO to investigate the question of liability of a dealer to sales tax and accordingly he was well within his jurisdiction in issuing the impugned notice and dismissed the petition observing that if on assessment it was found that the order was erroneous the matter could be agitated in appeal under that Act. On appeal, the Supreme Court repelled the contention that the petition was not maintainable in view of the existence of an alternative remedy in the following terms (p. 457) :

'It has been argued that the application was premature, for there has, so far, been no investigation or finding on facts and no assessment under section 13 of the Act. The appellant-company, contending, as it does, that the Act is ultra vires and void, should have ignored the notice served on it and should not have rushed into court at this stage. This line of argument appears to us to be utterly untenable. In the first place, it ignores the plain fact that this notice, calling upon the appellant-company to forthwith get itself registered as a dealer, and to submit a return and to deposit the tax in a treasury in Bihar, places upon it considerable hardship, harassment and liability which, if the Act is void under article 265 read with article 286 constitute, in praesenti, an encroachment on and an infringement of its right which entitles it to immediately appeal to the appropriate court for redress. In the next place, as was said by this court in Commissioner of Police v. Gordhandas Bhanji, : [1952]1SCR135 , when an order or notice emanates from the State Government or any of its responsible officers directing a person to do something, then, although the order or notice may eventually transpire to be ultra vires and bad in law, it is obviously one which prima facie compels obedience as a matter of prudence and precaution. It is, therefore, not reasonable to expect the person served with such an order or notice to ignore it on the ground that it is illegal, for he can only do so at his own risk and peril. This court has said in the last mentioned case that a person placed in such a situation has the right to be told definitely by the proper legal authority exactly where he stands and what he may or may not do.

Another plea advanced by the respondent State is that the appellant-company is not entitled to take proceedings praying for the issue of prerogative writs under article 226 as it has adequate alternative remedy under the impugned Act by way of appeal or revision. The answer to this plea is short and simple. The remedy under the Act cannot be said to be adequate and is, indeed, nugatory or useless if the Act which provides for such remedy is itself ultra vires and void and the principle relied upon can, therefore, have no application where a party comes to court with an allegation that his right has been or is being threatened to be infringed by a law which is ultra vires the powers of the legislature which enacted it and as such void and prays for appropriate relief under article 226. As said by this court in Himmatlal Harilal Mehta v. State of Madhya Pradesh [1954] 5 STC 115 this plea of the State stands negatived by the decision of this court in State of Bombay v. United Motors (India) Ltd. [1953] 4 STC 113 (SC). We are, therefore, of the opinion, for reasons stated above, that the High Court was not right in holding that the petition under article 226 was misconceived or was not maintainable. It will, therefore, have to be examined and decided on merits.'

12. In Calcutta Discount Co. Ltd. v. ITO : [1961]41ITR191(SC) , where a notice issued under s. 34 of the Indian I.T. Act, 1922, corresponding to s. 148 of the Act was questioned, the Supreme Court observed (p. 207) :

'Mr. Sastri mentioned more than once the fact that the company would have sufficient opportunity to raise this question, viz., whether the Income-tax Officer had reason to believe that under-assessment had resulted from non-disclosure of material facts, before the Income-tax Officer himself in the assessment proceedings and, if unsuccessful there, before the Appellate Officer or the Appellate Tribunal or in the High Court under section 66(2) of the India Income-tax Act. The existence of such alternative remedy is not however always a sufficient reason for refusing a party quick relief by a writ or order prohibiting an authority acting without jurisdiction from continuing such action.'

13. It is no doubt true that the above decisions relate to the period prior to the amendment of art. 226 of the Constitution by the Constitution (42nd Amend.) Act, 1976. But we are of the view that art. 226(3) as it now stands also does not preclude the High Court from exercising the power in appropriate cases to issue a writ, order or direction prohibiting an illegal or unauthorised act. We agree with the view expressed in Ahmedabad Cotton . v. Union of India, AiR 1977 Guj 113 that clause (3) of art. 226 of the Constitution which restricts the scope of power of the High Court under art. 226 should be construed strictly and if the High Court is of opinion that the alternative remedy does not provide adequate relief, jurisdiction under art. 226 has to be exercised in an appropriate case.

14. In Mohindra Mohan Sirkar v. ITO : [1978]112ITR47(Cal) , the Calcutta High Court held that art. 226(3) was no bar to entertain petition in which the validity of a notice under s. 148 of the Act was challenged holding that there was no provision in the Act providing for any remedy for the redress of any injury that might be caused to the assessee if the assessment was allowed to be reopened and that a suit in which the validity of such notice could be questioned could not be considered as an alternative remedy barring the jurisdiction of the High Court under art. 226. The High Court of Orissa also expressed the same view in Dr. H. K. Mahatab v. ITO : [1978]111ITR900(Orissa) in which a notice issued under s. 148 of the Act was quashed under art. 226.

15. It is true that in Jai Hanuman Trading Co. Pvt. Ltd. v. CIT , a Full Bench of the High Court of Punjab & Haryana has held that art. 226(3) of the Constitution precluded an assessee from challenging a notice issued under s. 148 of the Act relying upon the observations made by the Supreme Court in the case of Calcutta Discount Co. Ltd. : [1961]41ITR191(SC) and holding that the Supreme Court had recognised the existence of an alternative remedy. We are of the view that the case has to be examined in the light of the amended art. 226 which imposes a restriction on the power of the High Court and the nature of the alternative remedy available. In that case, the Supreme Court qualified the words 'alternative remedy' with the word 'such' as referring to the remedy by way of an appeal and reference under s. 66 to the High Court which were referred to by the counsel for the department. But it cannot be assumed that the Supreme Court held in that case that the appeal and reference referred to therein did really amount to remedies 'alternative' to a writ or direction that could be issued under art. 226 restraining the continuance of a proceeding which had been commenced without jurisdiction. We respectfully disagree with the above decision of the Full Bench of the High Court of Punjab and Haryana.

16. We respectfully agree with the views expressed in the above decisions of the High Courts of Gujarat, Calcutta and Orissa in so far as the question of issue of a writ in the nature of prohibition is concerned and hold that the writ petitions out of which these appeals arise are not barred by art. 226(3) of the Constitution. There will not be any difference even if it is held that while issuing a notice under s. 148 the ITO acts as an administrative authority to whom a writ of prohibition may not be issued as it is open to the High Court to issue under art. 226 any appropriate order or direction restraining the continuance of an illegal proceeding if on merits the case requires the High Court to do so. Hence, we reject the first contention.

17. On the second question it has to be held that the opinion expressed by the audit party amounts to information within the meaning of that expression in s. 147(b) of the Act and can form the basis of exercise of power thereunder (vide the decision of the Supreme Court in R. K. Malhotra, ITO v. Kasturbhai Lalbhai : 1975CriLJ1545 ).

18. The third question relates to the jurisdiction of the ITO to issue the impugned notices on the facts and in the circumstances of the case. It is argued by Sri S. R. Rajasekhara Murthy, learned counsel for the revenue, that the question whether the information he had was sufficient to issue the impugned notices was a matter for the decision of the ITO and cannot be canvassed before this court in a petition under art. 226. This question is no longer res integra. In the case of Calcutta Discount Co. Ltd. : [1961]41ITR191(SC) , the Supreme Court rejected a similar contention while considering the validity of a notice issued under s. 34 of the Indian I.T. Act, 1922, which correspond to ss. 147 and 148 of the Act in the following terms (p. 206) :

'Mr. Sastri argued that the question whether the Income-tax Officer had reason to believe that under-assessment had occurred 'by reason of non-disclosure of material facts' should not be investigated by the courts in an application under article 226. Learned counsel seems to suggest that as soon as the Income-tax Officer has reason to believe that there has been under-assessment in any year he has jurisdiction to start proceedings under section 34 by issuing a notice provided 8 years have not elapsed from the end of the year in question, but whether the notices should have been issued within a period of 4 years or not is only a question of limitation which could and should properly be raised in the assessment proceedings. It is wholly incorrect however to suppose that this is a question of limitation only not touching the question of jurisdiction. The scheme of the law clearly is that where the Income-tax Officer has reason to believe that an under-assessment has resulted from non-disclosure he shall have jurisdiction to start proceedings for reassessment within a period of 8 years : and where he has reason to believe that an under-assessment has resulted from other causes he shall have jurisdiction to start proceedings for reassessment within 4 years. Both the conditions, (i) the Income-tax Officer having reason to believe that there has been under-assessment, and (ii) his having reason to believe that such under-assessment has resulted from non-disclosure of material facts, must co-exist before the Income-tax Officer has jurisdiction to start proceedings after the expiry of 4 years. The argument that the court ought not to investigate the existence of one of these conditions, viz., that the Income-tax Officer has reason to believe that under-assessment has resulted from non-disclosure of material facts, cannot therefore be accepted.'

19. The above view is reiterated by the Supreme Court in CIT v. A. Raman & Co. : [1968]67ITR11(SC) in which s. 147(b) of the Act arose for consideration in the following terms :

'The High Court may, therefore, issue a high prerogative writ prohibiting the Income-tax Officer from proceeding with reassessment when it appears that the Income-tax Officer had no jurisdiction to commence the proceeding.

The condition which invests the Income-tax Officer with jurisdiction has two branches : (i) that the Income-tax Officer has reason to believe that income chargeable to tax has escaped assessment; and (ii) that it is in consequence of information which he has in his possession that he has reason so to believe. Since the learned judges of the High Court have concentrated their attention upon the second branch of the condition and have reached their conclusion in favour of the assessees on that branch, it would be appropriate to deal with the correctness of that approach. The expression 'information' in the context in which it occurs must, in our judgment, mean instruction or knowledge derived from an external source concerning facts or particulars, or as to law relating to a matter bearing on the assessment. If, as a result of information in his possession, the Income-tax Officer has reason to believe that income chargeable to tax had escaped assessment, the Income-tax Officer has jurisdiction to assess or reassess income under section 147(b) of the Income-tax Act, 1961. Information in his possession that income chargeable to tax has escaped assessment furnishes a starting point for assessing or reassessing income. If he has that information, the Income-tax Officer may commence proceedings for assessment or reassessment. To commence the proceeding for reassessment it is not necessary that on the materials which came to the notice of the Income-tax Officer, the previous order of assessment was vitiated by some error of fact or law.

The High Court exercising jurisdiction under article 226 of the Constitution has power to set aside a notice issued under section 147 of the Income-tax Act, 1961, if the condition precedent to the exercise of the jurisdiction does not exist. The court may, in exercise of its powers, ascertain whether the Income-tax Officer had in his possession any information; the court may also determine whether from that information the Income-tax Officer may have reason to believe that income chargeable to tax had escaped assessment. But the jurisdiction of the court extends no further.'

20. It is thus clear that it is open to this court to examine whether the information was such that prima facie it may be said that the ITO had reason to believe that income chargeable to tax had escaped assessment. This leads us on to the facts of these cases.

21. As mentioned earlier the Tribunal had after an elaborate investigation came to the conclusion that the payments made by the assessee to its selling agents were not either excessive or unreasonable having regard to the services and facilities provided by the selling agents by applying s. 40A(2) of the Act. Even though the non obstinate clause in s. 40A(1) gives the provisions of that section an overriding effect over the other provisions of the Act, the proviso to that section excludes the application of that section to any expenditure to which sub-clause (i) of clause (c) of s. 40 of the Act applies. Since the facts are not in dispute, we shall examine whether sub-clause (i) of clause (c) of s. 40 applies at all to the present case. That sub-clause refers to any expenditure incurred by a company which results directly or indirectly in the provision of any remuneration or benefit or amenity to a director or to a person who has a substantial interest in the company or to a relative of the director or of such person, as the case may be. Section 40(c) provides that it is open to the ITO to determine whether the remuneration, benefit or amenity is excessive or unreasonable having regard to the legitimate business needs of the company and the benefit derived by or accruing to it therefrom and also places a maximum limit on the deduction that may be claimed in respect of the aggregate of such expenditure and allowance in respect of any one person by declaring that in no case it shall exceed Rs. 72,000 and where such expenditure or allowance relates to a period not exceeding eleven months comprised in the previous year, an amount calculated at the rate of Rs. 6,000 for each month or part thereof comprised in that period. It further provides that where such person is also an employee at the company during the relevant period expenditure of the nature referred to in cls. (i) to (iv) of the second proviso to s. 40A(5)(a) shall not be taken into account for the purpose of determining the above-said maximum limit of Rs. 72,000 or Rs. 6,000 per month, as the case may be. A close reading of the above provision shows that s. 40(c) refers to an expenditure incurred by making periodical payments to a person mentioned in that clause apparently for any personal service that may be rendered by him. It cannot have any reference to payments made by the assessee for all kinds of 'services or facilities' referred to in s. 40A(2)(a). It is argued that the proviso thereto suggests that any expenditure incurred for any kind of service which is referred to in the main part of s. 40A(2)(a) and the expenditure referred to in s. 40(c) belong to the same category. This contention is not correct. The expression 'services' in s. 40A(2)(a) is an expression of wider import. We should not forget that as observed by the Supreme Court in Madanlal Fakirchand Dudhediya v. Shree Changdeo Sugar Mills Ltd. [1962] 32 Cas 604 provisos are sometimes introduced to 'allay fears' or to remove misapprehensions. A proviso or an exception cannot be interpreted as to destroy the main provision. The proper rule of construction of a proviso is explained by the Supreme Court in Tahsildar Singh v. State of U.P., : 1959CriLJ1231 as follows :

'The cardinal rule of construction of the provisions of a section with a proviso is succinctly stated in Maxwell's Interpretation of Statutes, 10th edn., at p. 162 thus :

'The proper course is to apply the broad general rule of construction, which is that a section or enactment must be construed as a whole, each portion throwing light if need be on the rest.

The true principle undoubtedly is, that the sound interpretation and meaning of the statute, on a view of the enacting clause, saving clause, and proviso, taken and construed together is to prevail.

Unless the words are clear, the court should not so construe the proviso as to attribute an intention to the legislature to give with one hand and take away with another. To put it in other words, a sincere attempt should be made to reconcile the enacting clause and the proviso and to avoid repugnancy between the two.'

22. The crucial words in s. 40A(2)(a) are 'fair market value of the goods, services or facilities'. If the remuneration, benefit or amenity referred to in s. 40(c) is treated as the same as what is paid in return for 'the goods, services or facilities' then irrespective of the fair market value of the goods, services and facilities provided by a person who may be a director or who has a substantial interest in the company or a relative of the director or of such person, as the case may be, only a maximum of Rs. 72,000 can be allowed to be deducted in computing the income of the company in any one year. We do not think that Parliament even intended that such a result should follow. The goods, services and facilities referred to in s. 40A(2)(a) are those which have a market value and which are commercial in character. Many of the services and facilities referred to above are those which are nowadays provided by independent organisations. They take diverse forms, such as packing and forwarding, transport service, advertisement service, warehousing facilities, processing, collection of price, insurance of goods, etc., which involve investment of large finance and employment of number of persons. The cost of post-manufacture operations in some cases will be in the order of 30% of the price paid by the customer. Marketing and distribution of goods have become important branches of modern industrial and commercial operations, which have not become highly standardised. Their importance in the scheme of the free market system is dealt with by John K. Galbraith in the Chapter entitled 'Services and the Market System' in his book Economics and Public Purpose [1973] as follows :

'Services are rightly assumed to be the domain of the small firm and thus of the market system. In recent times there has been much talk in the United States and other industrial countries of the rise of the so-called service economy. This, in turn, has been taken by determined defenders of the market to prove that the market controlled economy is not only surviving but resurgent. Economics, as it is taught, is being saved from the depredations of the great corporation by the growing demand for services.

On examination this development turns out to be a good deal more complex. Numerous service enterprises are the by-product of the rise of the large firm. They are, in effect, a subsidiary and supporting development of the planning system. This is especially the case with that part of the service sector which, from outward evidence, is expanding most rapidly.

Services, nonetheless, are the favoured domain of the small firm. As mentioned in the last chapter, the growth of the firm is arrested where the task is geographically dispersed and where, accordingly, the activity at any one point is limited and where the task involved is unstandardized. This means that one or a few people work in isolation, i.e., without supervision. Under such circumstances they adopt their preferred pace, which is normally slow. They enhance their input of mental and physical energy only if, in their earning, they reap the rewards and suffer the penalties of the individual entrepreneur.

Geographical dispersion, it may be observed, is not an absolute barrier to organization. If the task is relatively standardized, performance norms can be established for dispersed workers to which they can then be required to conform. Or payment can be according to product or revenue produced. On such dispersed functions can be associated with the capital and technical support of a larger organization as in the case of a local unit of a retail or restaurant chain. In recent times there has also been a great exfoliation of hybrid arrangements, commonly denoted franchises, by which an individual is made responsible for a local enterprise and is thus subject to the comprehensive incentive system, that is, associated with individual entrepreneurship. Ordinarily he is required to put some of his own capital at risk. As the proprietor he is then rewarded for any and all energy and intelligence he expends and punished for failure in this regard, as well as for such errors of optimism and gullibility as he may have made and such other misfortune as he may endure...'

23. Now, in the case of a selling agent who carries on marketing operations it is seen that he has to perform several functions such as, (i) providing godown facilities for the goods of the principal; (ii) providing watch and ward; (iii) arranging collection of price; (iv) providing workshop facilities in the locality in the case of automobiles and machinery; (v) processing of goods; (vi) packing and forwarding; (vii) advertising; (viii) collection of market information; (ix) depositing money with the principal without any interest; (x) insurance of goods, and several other functions. Without the services of a competent selling agent it may not be possible to a big manufacturer to push his goods in the market. We do not think that, in these circumstances, payment made to such a selling agent can be treated as an expenditure referred to in s. 40(c) of the Act. It is also relevant to bear in mind s. 40(c) is a successor to s. 10(4A) of the 1922 Act. But s. 40A was introduced in the year 1968 in the Act apparently for the purpose of preventing the abuse of excessive or unreasonable payments being made by assessee to persons referred to therein in lieu of goods, services and facilities. If the payments represent a fair market value then there is no limitation on the total amount payable during any period. We are of the view that expenditure incurred by way of commission paid to a selling agent who acts as an independent entrepreneur with an independent organization which is not subject to the control and supervision of the assessee, for the services and facilities provided by him, cannot, therefore, be considered as equivalent to remuneration or benefit or amenity referred to in s. 40(c) of the Act.

24. In the instant case it is not disputed that M/s. T. T. Krishnamachari & Company, the selling agents, have been providing the services and facilities under the agreement as independent entrepreneurs and it has been held that the commission paid to them was not excessive. At this stage, it is appropriate to set out a part of the order of the Tribunal dated October 30, 1976, in respect of the assessment years 1968-69 to 1971-72, It reads :

'On a careful consideration of the facts of the case on record, we are of the opinion that the commission paid to the selling agents in this case is neither excessive nor unreasonable having regard to the tests set forth in section 40A(2)(a). The assesses company did not have any establishment in the form of premises, staff, telephone and other facilities in any of the major cities of India, Bombay, Calcutta, Delhi and Madras, which are the principal distribution centers. If the assesses company had these facilities, it would have incurred costs, which the assessee had estimated at about Rs. 7.39 lakhs per year. As regards the legitimate business reeds, we have already set out the background in which the tripartite agreement was entered into between the assesses company, the foreign company and M/s. T. T. Krishnamachari and Company. We have also referred to in great detail the various services rendered by M/s. T. T. Krishnamachari and Company in the matter of promoting sales of 'Prestige' pressure Cookers, appointment of distributors, collection distributors, infringement of trade marks, attending to consumer complaints, etc. The assesses company had also derived benefit by the services rendered by the sole selling agents, M/s. T. T. Krishnamachari and Company, in proof of which the assessee has furnished the following chart of performance :

----------------------------------------------------------------------Year Sales Profit before Commission Profitending charging beforecommission tax----------------------------------------------------------------------Rs. Rs. Rs. Rs.31-10-1967 1,06,37,997 18,64,590 6,44,555 12,20,03531-10-1968 1,37,60,859 34,32,080 7,82,597 26,49,48331-10-1969 1,13,66,749 23,36,303 5,56,155 18,30,14831-10-1970 1,57,02 532 42,24,041 4,34,585 37,89,456------------------------------------------------------------------------ Having carefully considered all the aspects of the caes, we have no hesitation in upholding the findings of the AAC arrived at on the facts of the case. The orders of the AAC setting aside the disallowance of commission payment is accordingly upheld.'

25. The total payment made to the selling agents may be in excess of Rs. 72,000 per year. But as long as the case does fall under s. 40(c), there is no justification for the ITO to issue the impugned notices even though the audit party may have said so. We hold that the present case does not at all fall under s. 40(c) of the Act. We are of the opinion that on the face of it the case did not attract s. 147(b) of the Act. We, therefore, held that the ITO had no jurisdiction to issue the impugned notices under s. 148 of the Act as he could not reasonably entertain any doubt that any part of the assessee's income had escaped assessment by reason of not applying s. 40(c) to the case.

26. In the result, we allow these appeals, reverse the common order passed by the learned single judge and quash the notices issued under s. 148 of the Act which are impugned in these cases. We also direct the respondent in each of these cases not to take any further proceedings pursuant to the impugned notices.

27. Parties shall bear their own costs.


Save Judgments// Add Notes // Store Search Result sets // Organizer Client Files //