BRIJLAL GUPTA J. - This is a reference under section 66(1) of the Income-tax Act. The question which has been referred to us for opinion is :
'Whether from a true construction of the agreements the amounts paid under the term of the lease were expenses admissible under section 10(2)(xv) of the Indian Income-tax Act ?'
The only facts stated by the Tribunal in the statement of the case are : The assessee is a private limited company incorporated on October 27, 1944, for carrying on the business of dealing in timber and other products of the forest and also to carry on the business of cattle breeding. It took leases of three forests known as Salwan forest, Dhak forest and Chiryapur forest. The first two leases were executed on June 17, 1948, and the third lease on June 30, 1948. The first lease was for a period of thirty years and the second and the third leases were for a period of six years each. The question is whether the lease monies paid by the assessee are admissible expenditure under section 10(2)(xv). The authorities below treated the expenditure as capital expenditure and disallowed the deduction. The Tribunal, however, at the instance of the assessee has stated the case to us on the question mentioned above. The Tribunal has only made annexures of the three lease deeds and its appellate order and has made no attempt whatsoever to incorporate in the statement any facts or findings. When the reference came up for hearing before this court on an earlier occasion it, by an order dated October 24, 1960, asked the Tribunal for a further statement of the case in respect of the particular amounts and the dates on which they were paid in regard to particular leases and which were claimed as admissible deductions in the two years in question. That statement has since been submitted to this court by the Tribunal and is contained in the supplementary paper book in a tabular form.
It has been pointed out by this court and by other courts including the Supreme Court more than once that the statements of cases submitted by the Tribunal very often lack in necessary details regarding facts and findings. The present case is one of the worst of its kind. Here no facts or findings at all have been given in the statement of the case. The statement should have been self-contained and should have included the relevant terms as extracted by the Tribunal from the various agreements and the inferences drawn by the Tribunal from those terms. Nothing of the kind has been done. Only, as already stated above, the agreements and the appellate order have been annexed to the statement of the case leaving it to us to examine the annexures and to glean the facts and the findings ourselves from those annexures. We have done so instead of sending the case back to the Tribunal once again for a further and better statement of the case to avoid delay. We cannot, however, help expressing our firm disapproval of the slipshod manner in which the Tribunal has drawn up the statement of the case.
The three leases with their dates, their period, the advance money payable under them and the amount of yearly payments may be stated in a tabular form as below :
Name of forest
Date of agreement
(1956) F. to 1385 F.)
(to be adjusted in the last to years)
(1356 F. to 1361 F.)
(to the adjusted in the last yer)
(1356) F. to 1361 F.)
(to be adjusted in the last two years)
The rights and liabilities of the lessee under the three leases and which are material for the disposal of this reference may be set out leasewise follows :
First lease. - The lessee shall be entitled to cut sal trees and all other kinds of trees subject to the conditions that no sal tree having a circumference of less than two feet will be cut (paragraph 7); to appropriate all kinds of produce of the jungle during the term of the lease (paragraph 8); to sublet his lessee rights on the same terms (paragraph 9); to use the existing kachha houses, thatched with grass and other houses existing on the demised premises (paragraph 10); to erect sheds thatched with grass or covered with iron sheets for purposes of the lease and for taking care of the cattle but not to construct buildings or pucca houses (paragraph 11); the main object of the lease was stated to be the improvement of cattle-breeding and the lessee was therefore to have the right to establish a cattle-breeding farm in the jungle and to use the jungle in any manner for this object (paragraph 12).
The lessee was liable to keep the jungle safe from fire (paragraph 12); to cut the jungle on all sides within a line of 60 feet (paragraph 13); to look after the young plants which were planted after the date of the lease (paragraph 16); to pay the lease money regularly and to restore the jungle after the expiry of the term of the lease. The lessor was entitled to shoot game in the jungle and to give leave to his friends and relatives to use the jungle similarly for that purpose and the lessee was bound to help them and not to stop them (paragraphs 14 and 15). The lessor was also entitled to take out one garifuel from the jungle every day without paying any consideration for it.
Second lease. - The lessee will be entitled to cut all kinds of katruk trees along with shisham trees and also to cut grass and reeds and weeds and appropriate all kinds of produce of the jungle and to do grazing of cattle and scrape grass of the jungle (paragraph 6); to sublet his lessee rights on the same terms (paragraph 7). It was stated in paragraph 11 that the lessee had only taken the lease of the produce of the jungle and was to have no concern with the land within its limits which was already under cultivation or which may be cultivated thereafter and the right to collect the rent of the said land was to remain vested in the lessor. In paragraph 12 it was stated that all 'goods' were to be taken out of the jungle under the supervision of the servants of the lessor. The lessee was not to have any right to utilise the jungle in any other way or for any other purpose (paragraph 13); the right to shoot in the jungle was reserved by the lessor for himself and his friends and relations as in the earlier lease and the lessee was to help the lessor in this respect. The lessee was also to prevent poachers from stealing game from the jungle and to prevent fire or damage therein. The lessee was also to look after young plants which already existed or were planted in the jungle after the date of the lease.
Third lease. - The lessee was to be entitled to cut every kind of tree of katruk including kher, sambhal and also grass and reed and to appropriate every kind of wild produce and was also to have the right to establish a factory for preparing kathha from kher trees and was also entitled to graze cattle (paragraph 5); the lessee could also sublet the lease on the same terms and conditions (paragraph 6); the lessee was to be entitled to take only the produce of the jungle and was to have no concern with the land which was being cultivated and the rent of which the lessor had the right to collect (paragraph 10). The goods were to be taken out by the lessee from the jungle under the supervision of the lessors servants (paragraph 11); the lessee was not to utilise the jungle in any other way or for any other purpose (paragraph 12); the lessee was to prevent poaching and to protect young plants already planted or to be planted after the date of the lease; for the purpose of keeping intact the future produce of the jungle the lessee was to leave trees having a girth of less than 1 1/2 feet (paragraph 9); the lessor and his friends and relations were to have the right to shoot in the jungle and the lessee was bound to help them (paragraph 7).
The object for which the assessee company was formed were dealing in purchase and sale of wood, fuel and produce of the jungle. The objects are fully set out in the extract from the memorandum of association of the assessee company included in the paper book. It is stated thereunder :
'The objects for which the company is established are to deal in all products and by-products of forests and all major and minor forest produce including vegetable extract, forest product, produce of the soil and trees of every nature and description, cattle-breeding.... and to set up and operate factories for kathha.'
In support of their conclusion the Tribunal relied upon the decision of the Privy Council in Kauri Timber Co. Ltd. v. Commissioner of Taxes. That was a case which went to the Privy Council from the Court of Appeal of New Zealand. In that case a company carried on the business of cutting, milling and selling timber, and for the purpose of that business it had acquired, upon its incorporation and from time to time subsequently, rights over freehold and leasehold bush lands bearing natural timber, in some cases by purchasing the lands and in other cases by purchasing the timber thereon with the right to remove the timber within a stated period. It was held by the Privy Council on those facts that, in its assessment for income-tax, the company was not entitled to make any deduction from the gross proceeds of its business in respect of the value of the standing timber which it had cut. Certain instructive principles are to be gleaned from the case. The leases there were acquired for a period of 99 years and there was no obligation upon the company immediately to cut down and remove the timber. The right to cut and remove the timber was co-extensive in time with the currency of the leases. It was observed by their Lordships that on this last ground the case was distinguishable from cases of sale of standing timber coupled with the duty of its instant removal. In view of these facts it was held that the company, under the leases, acquired an interest in lands and not merely possession of goods by a contract of sale. It was also observed that so long as the timber remained upon the land it derived its sustenance and nutriment from it. The additional growth became ipso jure the property of the company. All rights of possession in land necessary for working the business of cutting or even preserving uninjured the standing and growing stock of timber were ceded under the leases. Their Lordships went on to observe that thus not only in the eye of law but in a practical sense also an interest in land was acquired under the leases. From the point of view of accounting and finance also the cost of acquisition of possession of, and interest in, land, and of the timber rights thereon, was a capital cost and on proper accounting was not debitable against revenue.
They further observed that the law as to leases of coal mines and nitrate deposits as settled in Coltness Iron Co. v. Black and Alianza Co. Ltd. v. Bell was in no way different when it came to be applied to timber bearing lands. The principle was long settled that whenever at the time of the contract it was contemplated that the purchaser should derive a benefit from the further growth of the things sold, from further vegetation and from the nutriment afforded by the soil, the contract is to be considered as for an interest in land, but where the process of vegetation is over or the parties agree that the things sold shall be immediately withdrawn from the land, the land is to be considered as a mere warehouse of the things sold and the contract as one for goods.
It is true that the case was under the provisions of the New Zealand Income Tax Acts but the principles laid down are general and the case was decided not merely from the legal but the practical and the accountancy point of view also.
The distinction upon which the decision of the question, whether an expenditure is a capital expenditure or a revenue expenditure depends, is whether the expenditure is incurred to acquire trading stock as such or to acquire a source of supply. In other words whether the expenditure is to acquire stock-in-trade or an asset of an enduring nature. The principles which emerge from the Privy Council case may be summarised as follows :
1. Where under a lease of timber bearing lands there is a duty of instant removal of standing timber, it may be possible to say that there is case of acquisition of stock-in-trade.
2. Where the right of removal is co-existent with the period of the lease and the cutting and the removal may be postponed till the end of the period of the lease and particularly in a case where the lease is for a fairly long period, it is inevitable that the timber should derive its sustenance and nutriment from the soil and in such a case the acquisition is of an interest in land and not merely of stock-in-trade.
3. Where by reason of the length of the term of the lease and the postponement of the duty of removal till the end of the term of the lease the additional growths become ipso jure the property of the lessee that also indicates that the interest is in land and is not merely in the possession of goods or stock-in-trade.
4. Where the process of vegetation is over or the parties agree that the things sold shall be immediately withdrawn from the land, the land has to be considered as a mere warehouse of the things sold and the contract of lease a contract for the sale of goods.
5. The broad principles applicable to cases of leases of timber bearing lands are the same as the principles relating to lease regarding the working of coal mines or nitrate deposits.
Applying these principles to the facts of our case the position emerges somewhat as follows :
Here there is no duty for the instant cutting and removal of the trees or other forest produce. The trees and the forest produce could remain on the land for the duration of the leases in the case of the first lease for thirty years and in the case of other two leases for six years each. It is true that in the Privy Council case the duration of the lease was 99 years and here the duration is very much less. In the case of the first lease, however, it is considerable, namely, thirty years. But there is this fact to be taken note of, viz, that in the Privy Council case the lease was only in respect of timber, whose growth is very slow. In this case the leases are not merely in respect of timber but in respect of all kinds of forest produce including grass and reeds and fuel wood. The only exclusion in the first lease is in respect of sal trees having a circumference of less than two feet. In the third lease the exclusion is only in respect oftrees having a girth of less than one and a half feet, while in the second lease there is no exclusion of any trees by reference to their girth. In the two leases in which there is reference to exclusion by girth, there must be many trees which are just under the prohibited girth and it is inevitable that in the course of thirty years term of the first lease and in the course of the six years term of the third lease the trees so excluded would exceed the prohibited girth and become liable to be cut and carried away. In the meanwhile they would inevitably derive sustenance and nutriment from the soil. In the case of the second lease where there is no prohibition to cutting of trees by reference to their growth many trees would derive considerable sustenance from the soil even though the term of the second lease is also only six years and thus very much less than the term of the lease in the Privy Council case. If this is so even in the case of timber which as already stated takes a long time to grow this is much more so in the case of other forest produce and fuel wood. A forest is a living organism. It grows from day to day. It produces various kinds of articles for human and animal use. It is inevitable that, however short the period of the lease might be, there is bound to be accession or increase in its produce by reason of sustenance which the trees and the plants and the reeds and the grass continue to draw from the soil until they are severed from the same. Thus it appears to be clear that looking at the timber and the forest produce alone by reason of the fact that there was no duty on the lessee for immediate removal and taking away of the produce the lease money was laid out and expended not for acquisition merely of the stock-in-trade but for the acquisition of an asset of an enduring nature.
The matter does not rest there. The lessee acquired various other rights under the leases, e.g., in the case the first lease the main object was expressed to be the improvement of cattle-breeding. For this purpose the lessee acquired the right to establish a cattle-breeding farm in the jungle and to use the jungle in any manner for achieving that object. He also acquired the right to use the existing kachha houses and to erect sheds thatched with grass or covered with iron sheets for purposes of the lease and for taking care of the cattle. Not only this but he also acquired the right of subletting his lessee rights. These rights are of an altogether different nature than a mere right for the acquisition of the stock-in-trade. The rights clearly amount to an interest in land.
Under the second lease in addition to the right to cut trees of all kinds and to cut grass and reeds and weeds and appropriate all kinds of jungle produce the lessee also acquired the right of grazing cattle and scraping the grass. He could also sublet his lessee rights. Here the rights acquired by the lessee were of a more limited kind than the rights acquired under the first lease but even here the right of grazing cattle and the right of subletting the lease are wholly inconsistent with the acquisition of merely the stock-in-trade. It has already been noticed that the lessee was under no duty of immediate removal of the trees and other forest produce.
Under the third lease the lessee had acquired the right to establish a factory for preparing kathha from kher trees and also the right to graze cattle and to sublet the lease. Those rights also clearly amount to acquisition of interest in land. Thus except in the matter of the term of the leases the present case is on a much lower footing than the Privy Council case. So far as the duration of the lessee right as a determinative factor on a question of this kind is concerned the Supreme Court in Pingle Industries Ltd. v. Commissioner of Income-tax observed as follows :
'..... the duration of the right which seems to have weighed with the Full Bench in the Punjab High Court (viz., Benarsidas Jagannath, In re) has little to do with the character of the expenditure even if it be a relevant factor to consider.'
The case before the Supreme Court was one relating to a contract regarding the right to extract stones from quarries but as observed by the Privy Council in the Kauri Timber case, the principles applicable to leases of timber lands are not different from leases of coal mines or nitrate deposits. It follows that the observation of the Supreme Court regarding the indecisiveness of the duration of the lease on a question of this kind even though made in the case of a stone quarry should equally apply in the present case of leases of timber rights to forest produce.
The learned counsel for the assessee mainly relied on the Privy Council case in Mohanlal Hargovind v. Commissioner of Income-tax. In that case the assessee carried on business as manufacturers and vendors of biris. Under the contracts in consideration of certain sums payable by them in instalments the assessees were granted the exclusive rights to pick and carry away tendu leaves from the forest area. The assessee were allowed to coppice small tendu plants a few months in advance to obtain good leaves and pollard tendu trees also a few months in advance to obtain better and bigger leaves. The picking of leaves had, however, to start at once or practically at once and to proceeds continuously. On those facts the Privy Council held that the contracts were entered into by the assessee wholly and exclusively for the purpose of supplying themselves with one of the raw materials of their business, they were held not to have been granted any interest in land or in trees or plants. Under the contracts nothing but tendu leaves were acquired. The right to pick the leaves or to go on the land for the purpose of picking were merely ancilliary to the real purpose of the contracts and even if not express would have been clearly implied by law in the sale of a growing crop. In these circumstances the acquisition of the right to pick and carry away tendu leaves was just as much acquisition of raw material in a business sense as if the right was merely to go into a shop or a store-house and to carry away the stock or store of raw material. It will at once be seen that this case is entirely different from the case before us and the principles laid down in that case have no application to the present case. It follows that the question referred to this court for opinion should be answered in the negative and against the assessee.
DESAI C.J. - I agree with my brother, Brijlal Gupta, that the question should be answered in the negative. The leases of the three forests could not be treated as stock-in-trade of the business of cattle-breeding carried on by the assessee. It undoubtedly also carries on the business of selling timber and forest produce, but the advance rent paid for the leases could not be said to be expenditure incurred in acquiring timber and forest produce for sale in the course of the business. The assessee did not acquire timber and forest produce but only a right to collect them at any time it liked before the periods of the leases expired. It had the right of allowing the timber and the forest produce to remain attached to the soil and to receive sustenance from it. The forests were not to be used exclusively in the business of timber and forest produce; they were also to be used in the business of cattle-breeding, and is not known how much of the rent paid for the leases was attributable to the use of the forests in the business of cattle-breeding and how much to the use of the forests in the business of timber and forest produce. If an expenditure is partly deductible and partly not deductible it is for the assessee to show which is the part that is deductible and, if he fails, the whole of the expenditure should be disallowed. In this case the assessee has failed to show how much of the rent paid for the leases could be attributable to the use of the forests in the business of timber and forest produce. The present case is governed more by the cases of Kauri Timber Co. Ltd., Coltness Iron Co. and Alianza Co. referred to by my learned brother, than by the case of Mohanlal Hargovind.
BY THE COURT. - Our answer to the reference is in the negative. Let the reference be returned to the Income-tax Appellate Tribunal along with a copy of the judgment under the seal of the court and the signature of the Registrar as required under section 66(5) of the Income-tax Act. The department shall be entitled to its costs, which we assess at Rs. 200.
Reference answered in the negative.