H.N. Seth, J.
1. At the instance of the Commissioner of Income-tax, the Appellate Tribunal, Allahabad, has, in connection with the case of the assessee, M/s. Ra me hand and Sons Sugar Mills (P.) Ltd., Barabanki, for the assessment years 1955-56 to 1961-62 stated the case and referred the following two questions of law for the opinion of this court :
'(1) Whether the Tribunal was justified in holding that the penal interest and difference between the depreciation claimed and depreciation allowed should be taken into consideration for judging the smallness of the profit for the assessment years 1957-58 to 1961-62 ?
(2) Whether the Tribunal was justified in directing the deduction of the difference between the depreciation claimed and depreciation allowed out of the undistributed balance of the total income of the previous years for the purposes of calculating the additional super-tax payable under Section 23A(1) for the assessment years 1955-56 and 1956-57?'
Briefly stated the facts giving rise to this reference are that the assessee is a private limited company. It was incorporated in the previous year relevant to the assessment year 1953-54 for taking over the business of a going concern run in the name of 'M/s. Ram Chand & Sons'. At the time of the take over the written down value of the assets in the books of M/s. Ram Chand & Sons stood at Rs. 11,53,512. The assessee-company, however, paid a sum of Rs. 41,69,881 as consideration for taking over all the assets of the said firm. The ITO, acting under the first proviso to Section 10(5)(a) of the Indian I.T. Act, 1922 (hereinafter referred to as 'the Act'), fixed the cost of the said assets at Rs. 24,08,110 for the purposes of calculating depreciation allowance to which the assessee could be entitled. This action of the ITO fixing the cost of the assets at Rs. 24,08,110 for the purpose of computing depreciation allowance was eventually approved by the High Court* when this question was referred to it at the instance of the assessee in connection with its assessment for the year 1954-55.
2. For the assessment years 1955-56 to 1961-62 the assessable income of the assessee was determined by the ITO thus :
Being of the view that the assessee was liable to additional super-tax in terms of Section 23A of the Act, the ITO, after allowing the assessee an opportunity of being heard, determined the surplus for the purposes of levying additional super-tax for the years in question as under and levied tax accordingly:
Surplus determined for levying addl. super-lax
Aggrieved, the assessee went up in appeal before the AAC. During the said appeal it was brought to the notice of the AAC that the assessee had paid the following amounts as penal interest under Section 18A of the Act:
and that whereas it had claimed depreciation allowance treating the value of the assets as Rs. 41,69,881 ; the ITO had allowed depreciation treating the cost of the said assets as Rs. 24,08,110. There was thus a difference between the depreciation claimed and allowed amounting to Rs. 1,16,539 for each of the said assessment years. The assessee, inter alia, claimed that for the purpose of fixing the liability to super-tax under Section 23A of the Act an allowance should have been made both for the amount of penal interest under Section 18A of the Act paid by the assessee in each of the assessment years as also for the difference in the depreciation claimed and allowed by the ITO. The AAC accepted the assessee's claim with regard to the amount of penal interest paid by it in respect of each of the relevant assessment years and held that it was deductible from its assessed income ; but it rejected the assessee's case in respect of the amount of difference between the depreciation claimed and allowed in each of these years.
3. Both the assessee and the Department then went up in appeal before the Income-tax Appellate Tribunal which in its order dated 20th September, 1971, observed thus :
'Respectfully following the decision of the Supreme Court in the case of Capital Matters Service at pages 421 and 422 quoted in paragraph 15 (supra), we hold that even though penal interest cannot be claimed as a deduction once it is held that Section 23A is applicable that is a factor which has to be taken into account in deciding the small ness of profit, as interpreted by Supreme Court in the case of Gangadhar Banerji & Co. (P.) Ltd. : 57ITR176(SC) . So far as the difference between the depreciation claimed and that actually allowed is concerned, we are of opinion that that has to be deducted not only in deciding the applicability of Section 23A, in the context of the smallness of the profit, but has also to be allowed as a deduction even when it is held that Section 23A is otherwise applicable, because, as already stated, the company cannot declare dividend out of capital, as that is prohibited under the Indian Companies Act.'
The Tribunal, after taking into consideration the penal interest paid by the assessee in various assessment years, the difference in depreciation claimed and allowed as also the fact that the paid up capital of the company was over Rs. 37,00,000, held that the provisions of Section 23A were not attracted in the years 1960-61 and 1961-62. The Tribunal, however, opined that distributable surplus in the five years, namely, 1955-56 to 1959-60, were large and the provisions were clearly attracted and had been properly applied in respect of those years. It accordingly directed that the additional super-tax should be levied in respect of the years 1955-56 to 1959-60 after deducting the taxes and the difference of Rs. 1,16,539 between the depreciation claimed and depreciation actually allowed without deducting the penal interest which has been wrongly allowed by the AAC. In the result, it allowed the assessee's appeal for the years1960-61 and 1961-62 and partly allowed the appeals filed by both the assessee and the Department for the years 1953-56 to 1959-60.
4. Subsequently, the departmental representative filed miscellaneous applications on 30th December, 1971, and 13th December, 1973, and brought it to the notice of the Appellate Tribunal that the final figures of the assessed income of the assessee in various years had changed materially and requested it to rectify its order. The Tribunal, vide its order dated 23rd July, 1974, rectified its earlier order. It pointed out that as a result of the final figures submitted before it in respect of each of the assessment years and regarding which there was no dispute the position that emerged was as follows :
Income as finally assessed
Tax thereon excluding penalinterest
Difference in depreciationclaimed & allowed
Net surplus shortfall
It held that in view of the changed circumstances and on the principle already enunciated by it in its order dated 20th September, J971, the assessee was to be liable to additional super-tax under Section 23A of the Act for the assessment years 1955-56 and 1956-57 only and not for the remaining years, and rectified its order dated 20th September, 1971, accordingly. Subsequently, at the instance of the Commissioner the Tribunal has stated the case and has referred the aforementioned questions of law for the opinion of this court.
Relevant portion of Section 23A of the Act, which deals with the subject-matter of assessment of a company to super-tax on undistributed income, reads thus :
'(1) Where the Income-tax Officer is satisfied that in respect of any previous year the profits and gains distributed as dividends by any company within the twelve months immediately following the expiry of that previous year are less than the statutory percentage of the total income of the company of that previous year as reduced by-
(a) the amount of income-tax and super-tax payable by the company in respect of its total income, but excluding the amount of any super-tax payable under this section ;......
the Income-tax Officer shall, unless he is satisfied-
(i) that, having regard to the losses incurred by the company in earlier years or to the smallness of the profits made in the previous year, the payment of a dividend or a larger dividend than that declared would be unreasonable ; or.........
make an order in writing that the company shall, apart from the sum determined as payable by it on the basis of the assessment under Section 23, be liable to pay super-tax at the rate of fifty per cent. in the case of a company whose business consists wholly or mainly in the dealing in or holding of investments, and at the rate of thirty-seven per cent in the case of any other company on the undistributed balance of the total income of the previous year, that is to say, on the total income as reduced by the amounts, if any, referred to in Clause (a), Clause (b) or Clause (c) and the dividends actually distributed, if any.......'
A close scrutiny of the sub-section reveals that the provisions contained therein can be divided into two parts. Whereas the first part of the section requires the ITO to make an order requiring the company to pay super-tax on the undistributed balance of the total income (term explained) of the previous year if he is satisfied that in respect of any previous order the profits and gains distributed by a company by way of dividends are below the statutory percentage of the total income of the company, as reduced by various items specified therein ; the second part of the section, which is in the nature of a proviso to the first part, lays down that no order for payment of super-tax contemplated by the first part shall be made in cases where the ITO is, having regard to losses incurred by the company in any earlier order or to the smallness of the profit made in the previous year, payment of a dividend or a larger dividend than that declared by the company would be unreasonable.
5. This section makes a clear distinction between the total income of a company and its profits and gains which it eventually distributes as dividend. Viewed in the light of the definition of the words 'total income' contained in Section 2(15) of the Act and the provisions contained in Section 4 of the Act, the said expression used in Section 23A obviously refers to the income assessed by the ITO on which the company has been required to pay income-tax. For the purposes of assessment, the total income contemplated by the Act is arrived at by adding to or deducting from the profits and gains of the company as understood in the commercial sense, certain items which, strictly speaking, may not qualify as ingredients constituting such profits and gains. In the case of CIT v. Gangadhar Banerji & Co. (P.) Ltd. : 57ITR176(SC) , Subbarao J., while considering the scope and ambit of the expression 'smallness of profit' for the purposes of the second part of the section (as explained above) observed that the words 'smallness of profit' in Section 23A refers to the actual accounting profits and not to the assessable profits of the year. In arriving at the assessable profits the ITO may disallow many expenses actually incurred by the assessee and in computing his income he may include many items on notional basis. But commercial or accounting profits are the actual profits made by the assessee calculated on commercial principles. These observations made by Subbarao J. appear to have been approved by the Supreme Court in the later case of Gobald Motor Service (P.) Ltd. v. CIT : 60ITR417(SC) . Accordingly, for the purposes of the second part of the section, the question whether or not it was reasonable for the company to declare any dividend or to declare the dividend to the extent it had done, will have to be decided in the light of the extent of the profits made by the company as understood on commercial principles and for that purpose the fact that a particular expenditure or item which is normally taken into consideration for determining profits on commercial principles has, under the Act, been ignored for the purpose of determining assessable income, will not be material. In such cases what has to be worked out is the profits made by the company in accordance with commercial principles and, thereafter, the ITO is required to determine as to whether or not having regard to all the circumstances such profits can be considered to be so small that a prudent businessman would not consider declaration of a dividend or a larger amount of dividend, expedient. However, where a particular item has in fact been accounted for in determining the assessable income and the profits on commercial principles are to be worked out by adding or deleting therefrom certain items, it will not be possible to, while determining such commercial profits, take into account that amount over again.
6. It cannot be doubted that on commercial principles the amount which a company is compelled to spend in connection with and in relation to its profit-yielding activity has necessarily to be accounted for before the amount of actual profits available for distribution by it is worked out. The amount of penal interest paid by a company under Section 18A of the Act, even though it is required to be paid because of some default or lapse on the part of the company, is none the less an expenditure which the company is compelled to incur in connection with and in relation to its profit-yielding activity and any prudent businessman would take it into account before deciding upon the amount which it intends to distribute as dividend from out of the profits made by it. Accordingly, such payment has necessarily to be taken into consideration in judging distributable profits in a particular assessment year.
7. Learned counsel for the Revenue invited our attention to a decision of the Supreme Court in the case of Bhor Industries Ltd. v. CIT : 42ITR57(SC) , wherein while considering the question as to whether or not the interest that was charged to the company under Section 18A ought to have been deducted along with the income-tax before the fictional dividends as contemplated by Section 23A as it stood at the relevant time were computed, observed thus (p. 66) :
'The words of the sub-section are clear to show that interest as interest is added to the tax as determined. There is nothing to show that it is to be treated as tax, and it thus retains its character of interest but is recoverable along with the tax. Indeed, Section 29 of the Income-tax Act makes a distinction between tax, penalty and interest. Since Section 23A speaks of deduction only of income-tax and super-tax, no deduction could be made in respect of this interest.'
and urged that the conclusion in the instant case arrived at by the Income-tax Appellate Tribunal is, in this regard, not in consonance with the observations made by the Supreme Court. We are unable to accept this submission of the learned counsel. The observation made by the Supreme Court merely brings out that for the purposes of the first part of Section 23A and for determining the extent of the amount on which the company would be required to pay super-tax, in case other conditions laid down in the section are fulfilled, the amount paid by the company as penal interest under Section 18A is not to be taken into account. These observations have no bearing for the purpose of considering the question as to whether, as contemplated by the second part of the section in view of the smallness of the profit and the payment of a dividend or a larger dividend than that declared by the company would be unreasonable. In Bhor Industries' case : 42ITR57(SC) , the Supreme Court nowhere observed that while determining smallness of profits under the second part of the section, also, the amount of interest part under Section 18A of the Indian I.T. Act cannot be accounted for. The question with regard to the deducibility of the amount of penal interest under Section 18A of the Act has to be determined on the principles enunciated by the Supreme Court in the case of CIT v. Gangadhar Banerjee and Co. (P.) Ltd. : 57ITR176(SC) . Applying the principles enunciated in that case we are clearly of opinion that the Income-tax Appellate Tribunal was quite justified in holding that the amount of interest under Section 18A paid by the company in respect of the relevant year has to be taken into consideration while determining the smallness of the profit contemplated by the second part of Section 23A(1) of the Act.
8. We now proceed to consider the question as to whether or not the assessee was entitled also to consideration of the difference between the amount of depreciation allowance claimed by it and that allowed by the 1TO. Admittedly, the amount of depreciation was taken into consideration while determining the assessable income of the company. The extent of such depreciation allowance is determined in accordance with the provisions contained in the I.T. Act. Accordingly, such depreciation allowance cannot be taken into consideration over again while determining the smallness of profit unless it can be shown that an amount larger than that allowed under the Act should have been allowed on commercial principles. In the instant case, no material has been placed before the Tribunal on which it could have come to a conclusion that the depreciation admissible under the provisions of the Act is much smaller thanthat what should have been allowed on commercial principles. In the circumstances, no question of considering the difference between the depreciation claimed and allowed by the ITO while determining the question of smallness of profit under Section 23A of the Act arises. We are accordingly of opinion that the Income-tax Appellate Tribunal erred in holding that on the principles of the case of CIT v. Gangadhar Banerjee & Co. (P.) Ltd.  37 ITR 176, the difference between the depreciation claimed and actually allowed should have been deducted not only in deciding the applicability of Section 23A in the context of smallness of profit but also it had to be allowed as deduction even when it was held that Section 23A is otherwise applicable.
9. In the result, our answer to the first question referred to us is that whereas the Tribunal was justified in holding that the penal interest should be taken into consideration for judging the smallness of the profit for the assessment years 1957-58 to 1961-62, it was not justified in holding that the difference between the depreciation claimed and the depreciation allowed should also have been taken into consideration for such a purpose. We answer the second question by saying that the Tribunal was not justified in directing the deduction of the difference between the depreciation claimed and depreciation allowed out of the undistributed balance of the total income of the previous years for the purpose of calculating the additional super-tax under Section 23A(1) for the assessment years 1955-56 and 1956-57.
10. In view of the partial success of the parties, we direct each of them to bear their own costs.