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income-tax Officer Vs. P.N.B. Finance Ltd. - Court Judgment

LegalCrystal Citation
CourtIncome Tax Appellate Tribunal ITAT Delhi
Decided On
Judge
Reported in(1983)4ITD665(Delhi)
Appellantincome-tax Officer
RespondentP.N.B. Finance Ltd.
Excerpt:
1. the assessee is a limited company which was formerly carrying on banking business in the name of 'punjab national bank ltd.'. the name of the company was changed to 'p.n.b. finance limited' as per fresh certificate of incorporation dated 4-3-1976, issued by the registrar of companies, delhi and haryana, new delhi.2. the president of india promulgated the banking companies (acquisition and transfer of undertakings) ordinance, on 19-7-1969 and it came into force from that very day. under the ordinance, the entire undertaking of the punjab national bank ltd. stood transferred to the corresponding new bank, viz., punjab national bank. the ordinance was replaced by the banking companies (acquisition and transfer of undertakings) act, 1970, which was retrospectively effective from.....
Judgment:
1. The assessee is a limited company which was formerly carrying on banking business in the name of 'Punjab National Bank Ltd.'. The name of the company was changed to 'P.N.B. Finance Limited' as per fresh certificate of Incorporation dated 4-3-1976, issued by the Registrar of Companies, Delhi and Haryana, New Delhi.

2. The President of India promulgated the Banking Companies (Acquisition and Transfer of Undertakings) Ordinance, on 19-7-1969 and it came into force from that very day. Under the Ordinance, the entire undertaking of the Punjab National Bank Ltd. stood transferred to the corresponding new bank, viz., Punjab National Bank. The Ordinance was replaced by the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1970, which was retrospectively effective from 19-7-1969. Under this Act, the amount of compensation for the entire undertaking was fixed at Rs. 10.20 crores. The difference between the compensation of Rs. 10.20 crores and the paid-up capital, viz., Rs. 8.20 crores, was credited to general reserve of the limited company.

3. After the nationalisation of the Punjab National Bank Ltd., the company carried on business in terras of the following resolution adopted at the extraordinary general meeting of the company held on 20-1-1971: Resolved that the company do continue the business of banking as defined in Section 5(b) of the Banking Regulation Act, 1949. subject to the receipt of permission from the Reserve Bank of India and that the company do continue to engage in other forms of business under Section 6(i) of the said Act and in accordance with the provisions of the objects clause of the company's Memorandum of Association.

The board of directors had assured the shareholders that they would come forward with suitable proposals to satisfy both the sections of the shareholders-one desiring the company to continue its business of financing trade and industry and also to undertake trading activities and the other not wanting to continue as members of the company on its ceasing to do banking business. Pursuant to this assurance, the board of directors decided to offer cash option to the shareholders at Rs. 38 per share inclusive of dividend for the year 1972. A circular letter dated 28-2-1973 was issued to the shareholders giving them an option to sell all their shares to the company on or before 30-4-1973. After tabulation of the options the extent of the consequent reduction of capital was to be determined. A general meeting of the shareholders of the company was to be convened on or before 29-6-1973, inter alia, for considering the special resolution for the consequent reduction of capital. The circular letter also stated that after the special resolution approving the reduction of the capital was passed by the shareholders, the High Court at Delhi would be moved on 7-7-1973 for sanctioning and confirming the reduction, in capital. After the High Court order was received a copy of the same was to be filed with the Registrar of Companies at New Delhi. The circular letter further stated that on the Court's order having been registered with the Registrar of Companies, the shares in respect of which the reduction of capital was sanctioned by the Court shall stand cancelled and the holders of such shares shall forthwith cease to be the members of the company.

Thereupon, the company was to make payment of Rs. 38 per share (less the dividend for the year 1972 that may have been declared in the meantime), on the relevant share certificates being received by the company.

4. By circular letter dated 19-4-1973 the offer of the company to purchase the shares of the company at Rs. 38 per share inclusive of dividend for the year 1972 was withdrawn. Instead the shareholders were informed, that the company would purchase the shares from the shareholders who exercised their option at Rs. 40 per share exclusive of dividends that may be declared till the date of payment of the purchase price in place of Rs. 38 inclusive of dividend for 1972. The last date for lodging of letters of option with the company's office was fixed on or before 15-6-1973. The other terms and conditions of the offer of option remained the same as contained in circular letter dated 28-2-1973.

5. A petition under Section 101 of the Companies Act, 1956 was made by the Punjab National Bank Ltd. before the High Court, for confirming the reduction of share capital as proposed by special resolution dated 25-9-1973. The said resolution stated that the company intended to purchase 11,98,711.50 of its own shares valued at Rs. 10 each at the rate of Rs. 40 per share exclusive of dividend which may be declared till the date of the purchase price. The proposed reduction in the share capital was confirmed by the High Court in C.P. No. 86 of 1973, dated 15-11-1973.

6. By a circular letter dated 12-12-1973, the Punjab National Bank Ltd. informed its shareholders that the Delhi High Court had confirmed the reduction of capital of the company from Rs. 20,00,000 to Rs. 80,12,885 in terms of the special resolution passed by the shareholders in the annual general meeting held on 25-9-1973. Certified copy of the judgment when received was to be filed with the Registrar of Companies, Delhi and Haryana, New Delhi, for registration. All the shareholders who exercised their option to sell the shares to the company shall cease to be the members of the company from the date of such registration. These formalities were expected to be completed by 15-1-1974. On Registrar of Companies registering the Delhi High Court's order and after the book closing, the company was to issue a circular to each of the registered shareholder of the shares in respect of which option to sell the same to the company had been exercised, to surrender the relevant share certificates along with the letter of option bearing the company's acknowledgement in respect of such shares. On receipt of these documents the share certificates and letters of option were to be scrutinised and then the payment was to be sent to the shareholders by registered post.

The Punjab National Bank Limited Registered Office: B/45-47, Connaught Place, New Delhi-1.

To the holders of the option for sale of shares in the company exercised in terms of the company's offer vide Circular dated 28th February, 1973 and the two Notices dated 19th April, 1973.

It is hereby notified that certified copy of the order passed by the Delhi High Court confirming purchase of shares in the company by the company and consequent reduction of capital of the company was received on 11th January, 1974 and the same has already been registered by the Registrar of Companies on 30th January, 1974.

Accordingly, effective from 30th January, 1974 you have ceased to be a member of the company.

You are now requested to surrender the relevant share certificates along with the letter of option bearing the company's acknowledgement thereon. On verification of the share certificates and the letter of option, payment of the purchase price of Rs. 40 per share, subject to what is hereinafter stated, will be made to you as soon as possible.

You will recall that in the circular dated 28th February, 1973 it was notified that the company had been advised that the amount payable by the company for purchase of shares in the company in excess of the face value of Rs. 10 was not deemed 'dividend' under Section 2(22) of the Income-tax Act, 1961. It was also stated that to place the matter beyond doubt, a reference was made to the Central Board of Direct Taxes, seeking its confirmation and that the amount will be paid without or after deduction of tax, depending upon the clarification received from the Central Board of Direct Taxes.

Pending receipt of confirmation from the Central Board of Direct Taxes, the company vide its circular dated 12th December, 1973 had intimated to the shareholders that the company would have to deduct Rs. 6.90 per share at source at the rate of 23 per cent on Rs. 30 per share, being the excess of purchase price over the paid-up value of Rs. 10, which might be deemed dividend under the Income-tax Act and make payment of the balance amount to the sellers of the shares.

Several shareholders including Life Insurance Corporation of India and Unit Trust of India wrote to the company that since it would be making payment of the purchase price of the shares, no deduction of tax at source was called for and, if necessary, the company may file a declaratory suit to get the matter decided by a court of law. On legal consultations, the board of directors has been advised that no declaratory suit in the matter can be filed by the company itself.

On the same being brought to the notice of LIC they have suggested the company to make on account payment of Rs. 33.10 per share and the balance of Rs. 6.90 per share should be retained by the company for the present on the specific condition and understanding that the company will be entitled to treat it as tax deduction at source in case a final decision to that effect is made. Thereupon the company will deposit the amount with the Income-tax Department and issue income-tax deduction certificate and you would be entitled to treat the amount as tax deducted at source. However, if the amount retained by the company is not required to be paid to the Income-tax department, the same would be paid to you.

The aforesaid suggestion of LIC has been accepted by the board of directors. Accordingly, the company shall make on account payment towards the purchase price of the shares at the rate of Rs. 33.10 per share and retain the balance of Rs. 6,90 per share to be treated/paid as aforesaid.

The aforesaid procedure is being evolved in the best interest of all concerned, The matter is being pursued further with the Central Board of Direct Taxes as best as possible even by personal discussions. It is hoped that a final decision in the matter may be available now without much further delay, so that the balance amount is also dealt with accordingly.

It is clarified that the persons who have already lodged or will lodge with the company certificates exempting the dividend payments to them from income-tax deduction, would be paid the full purchase price of Rs. 40 per share.

The board of directors has been further pleased to sanction payment of 80 paise per share by way of interest, subject to deduction of tax wherever applicable. No interest will, however, be payable on the amount of Rs. 6.90 per share retained by the company for the time being. The said interest of 80 paise per share will be paid in addition to Rs. 33.10 or Rs. 40 per share as the case may be.

8. The order of the High Court was registered by the Registrar of Companies on 30-1-1974, whereupon the shareholders exercising the option ceased to be the shareholders on 30-1-1974, and, therefore, they were not entitled to any dividend for the year ended 31-12-1973 and for the period thereafter till the date of payment of purchase price. For the delay in finalisation of the scheme, it was decided to pay interest at 80 paise per share in respect of the shares purchased and the amount of interest so payable amounted to Rs. 9,58,969.20. The Life Insurance Corporation of India (LIC) and the Unit Trust of India (UTI)5 the major shareholders of the company, had pressed for the payment of reasonable interest to the shareholders for the period during which the amount of the shareholders was in the control of the company. For this purpose reference is invited to the following extract from the resolution No.12 passed by the board of directors on 13-2-1974: Extract from resolution No. 12 passed by the board of directors of the Punjab National Bank Ltd. in their meeting held on 13-2-1974: The Chairman further stated that the matter of interim dividend raised by Life Insurance Corporation of India and Unit Trust of India was discussed with Life Insurance Corporation of India and they were informed that the question of payment of dividend does not arise. Life Insurance Corporation of India, however, desired that on account of delay in completion of various formalities, reasonable interest per share be paid to the erstwhile shareholders.

The matter was discussed and it was decided that while making 'on account' payment, interest @ 80 paise per share, subject to deduction of tax under Section 194 A of the Income-tax Act, wherever applicable, be also paid to the erstwhile shareholders.

The company had treated the payment of 80 paise per share as interest and tax deducted at source under Section 194A of the Income-tax Act, 1961 ('the Act'). The sum of Rs. 9,58,969 was claimed by the assessee as revenue expenditure. It was claimed that out of the aforesaid amount, a sum of Rs. 9,13,007 had actually been paid during the previous year. For the allowance of this expenditure reliance was placed on the judgments in Bombay Steam Navigation Co. (1953) (P.) Ltd. v. CIT [1965] 56 ITR 52 (SC) and CIT v. Rohtas Industries Ltd. [1968] 67 ITR 783 (Pat.). In view of the provisions of Sections 100 and 103 of the Companies Act, the ITO accepted the position that upon the aforesaid reduction in share capital the company had become indebted to the shareholders to the extent it was liable to pay to the shareholders. This according to the ITO, was a debt due from the company to the shareholders. The ITO was, however, not convinced that the assessee's claim for Rs. 9,58,969 could be allowed either under Section 36(1)(7) or under Section 37 of the Act. The ITO pointed out that the reduction of share capital became effective with effect from 30-1-1974, the resolution for payment of interest was passed on 13 2-1974 and neither the period for which interest was paid, nor the rate of interest, etc., had been indicated in the resolution. According to the ITO, the payment of 80 paise per share styled as 'interest' was in fact an additional price paid by the assessee ex gratia for the purchase of the shares from the erstwhile shareholders. Thus, the ITO held that payment of interest in question was not made wholly and exclusively for purposes of business and he, therefore, disallowed interest of Rs. 9,58,969.

9. The shareholders holding 11,98,711.5 shares surrendered their shares along with letters of option and at the rate of Rs. 40 per share the total amount payable by the company came to Rs. 4,79,48,460, out of which the sum retained by the company at the rate of Rs. 6.90 per share came to Rs. 82,71,109. Out of the aforesaid retained amount of Rs. 82,71,109 certain shareholders produced tax exemption certificates and the amount paid to such shareholders came to Rs. 14,00,056. The balance amount retained came to Rs. 68,71,053 and on this amount the assessee made a provision of Rs. 4,52,344 on account of interest payable to the erstwhile shareholders, whose money, it was claimed, was lying in trust with the assessee-company. This provision for interest was made for the year ended 31-12-1974, relevant to the assessment year 1975-76.

10. At this stage, it may also be stated as to how the rate of interest was fixed. After receipt of circular letter dated 18-2-1974, the LIC to whom a sum of Rs. 49,64>400 became payable in respect of the shares held by it at Rs. 40 per share, wrote a letter dated 12-3-1974, stating inter alia that in case the sum of Rs. 6.90 per share retained by, the company was refunded after a final decision was arrived at on that question, it would be just and fair that the shareholders should be entitled to get interest that may be earned by the company in the meantime and the LIC suggested a reasonable rate of interest at 9 per cent per annum for the period for which the said amount was retained.

It was admitted that no interest will accrue if the amount was not refundable to the shareholders. On 1,24,110 shares surrendered by the LIC, the retained amount at the rate of Rs. 6.90 per share came to Rs. 8,56,359. There was correspondence on this issue between the assessee-company and the LIC. On 27-1-1975 along with a letter the LIC sent an agreement to the assessee-company stating the ease for opinion of the Hon'ble High Court at Delhi under order 36, Rule 1 of the Code of Civil Procedure on behalf of the LIC. Para 22 of the agreement which is given below contains the controversial issues on which the opinion of the Hon'ble High Court was sought: 22. And whereas the parties hereby have agreed that the following are matters on which disputes have arisen and the opinion of the High Court of Delhi be obtained thereupon: (a) Whether the amount of Rs. 30 to be paid over and above the amount of Rs. 10 being the paid-up and nominal value of the shares of the first party to the erstwhile shareholders of the first party who have sold their shares to the first party in pursuance of the first party's circular dated 28th February, 1973 read with the notices dated 19th April, 1973 and 5th June, 1973 is a deemed dividend within the meaning of the Section 2(22) of the Income-tax Act, 1961? (b) Under the circumstances of the case, whether the first party is precluded from deducting the amount of Rs. 6.90 per share purporting to act under the provisions of Section 194 of the Income-tax Act, 1961 and is consequently liable to pay the amount of Rs. 6.90 per share (withheld by it) to all the erstwhile shareholders who have sold their shares to the first party including the second party It was agreed between the parties that the opinion of the High Court of Delhi shall be binding upon the parties. In the said letter, the LIC stated that the said agreement had been executed taking into consideration, the understanding between the parties that the assessee-company shall pay reasonable rate of interest on the amount of Rs. 6.90 per share retained 'on account' basis from the sale consideration pending a decision on the application or otherwise of Section 2(22) of the Act. It was also suggested that on the amount withheld the rate of interest should be paid at 11 per cent per annum because the assessee-company itself had issued an advertisement in The Times of India (Bombay) dated 17-1-1975, inviting fixed deposits from public at varying rates of interest with a minimum of 11 per cent per annum for a period of one year and above but less than two years. The said agreement between the Punjab National Bank Ltd., and the LIC was filed in the Delhi High Court in February 1975. No information has been provided to us regarding the latest position of this matter which was referred to the Hon'ble Delhi High Court. The board of directors of the Punjab National Bank Ltd., however, passed a resolution No. 37 in that meeting held on 21-4-1975 which reads as under: Considered the matter with regard to the retained amount of Rs. 6.90 per share as also letter dated 27th January, 1975, from Life Insurance Corporation of India and it was decided to make provision for interest in the company's accounts for the year ended 31st December, 1974, on the following basis:From 1st April, 1974 to 30th June, 1974 7% p.a.From 1st July, 1974 to 31st October, 1974 9% p.a.From 1st November, 1974 onwards 11% p.a.

The board further approved draft of the circular letter to be sent to the erstwhile shareholders who had sold their shares to the company.

It was on the basis of this resolution that the interest payable on the retained amount of Rs. 6.90 per share was calculated. The assessee claimed the sum of Rs. 4,52,344 as a revenue deduction. The submission made on behalf of the assessee-company was that no part of the purchase price of Rs. 40 per share payable to the erstwhile shareholders was divided and, therefore, no question of deducting any tax at source arose. The claim of the department for deduction of tax at source was being resisted and the entire sum of Rs. 68,71,053 was being held in trust for the erstwhile shareholders. This money was utilised by the assessee-company for its financial operations during the previous year.

The claim of the assessee for deduction of the interest of Rs. 4,52,344 was rejected for the following reasons: (ii) no evidence had been produced to establish that there was any legal liability on the part of the assessee to pay the said interest; (iii) there was no resolution of the board of directors authorising such payment; (v) the retention of the money pending decision of its taxability would not constitute any expenditure for the purpose of the business.

11. Aggrieved, the assessee filed an appeal to the Commissioner (Appeals) and submitted that the disallowance of Rs. 4,52,344 had been made on wrong premises. The assessee-company maintained its books of account on mercantile system of accounting and the interest on market rates debited to the profit and loss account could not be treated as a mere provision. The payment of interest was authorised by the board of directors in their resolution No. 37, dated 21-4-1975. The assessee was a public limited company, its books of account were duly audited and were duly approved in the general body meeting of the shareholders on 15-7-1975. The payment of interest thus stood duly authorised and endorsed by the general body of the shareholders. Reference was invited to the correspondence between the Punjab National Bank Ltd. and the LIC. The actual payment of interest could not be made because of the counter claim of the department in respect of the amount retained by the assessee. The assessee-company's claim was that no part of the sum of Rs. 40 paid for each share was dividend and as such no tax was required to be deducted at source but with a view to meeting any possible claim from the Income-tax Department, the assessee had retained Rs. 6.90 per share which was not on account of deduction of tax at source but was kept in trust for and on behalf of the shareholders. However, with a view to guarding against the Income-tax Department claiming not only the deduction of tax at source, but also the payment of tax on such deduction it was not considered advisable or feasible to disburse the interest in question.

12. Regarding the disallowance of Rs. 9,58,969 it was submitted that the LIC and UTI, the major shareholders of the company, had pressed for payment of reasonable interest to the shareholders for the period during which the amount of the shareholders was in the control of the company.

The company had treated the payment of 80 paise per share as interest and deducted tax at source under Section 194A. The amount so paid could not be treated as an additional price for the purchase of its own shares. The purchase consideration was settled much earlier and the shareholders opting out were required to send irrevocable letters of option to the company so as to reach the company on or before 5-7-1973.

The price of Rs. 40 per share had been agreed upon subject to the approval of the scheme by the High Court. The scheme was approved by the High Court on 15-11-1973 and registered with the Registrar of Companies on 30-1-1974. The decision to pay interest at 80 paise per share in respect of shares purchased was taken much later as per the board of directors' resolution No. 12, dated 13-2-1974. Till the payment of the amount was made to the erstwhile shareholders it was retained and utilised by the assessee-company in its financing business and, accordingly, the payment made could not be regarded as ex gratia payment. The amount had been paid for utilisation of the funds and was for consideration and was also reasonable in the facts and circumstances of the case. Reliance was placed on the judgments in Bombay Steam Navigation Co.'s case (supra) and Rohtas Industries Ltd.'s case (supra). It was thus submitted that the sum of Rs 9,58,969 should be allowed as a deduction under Section 37.

13. The Commissioner (Appeals) considered the assessee's submissions and for the following reasons stated in para 2.6 of his order, reproduced below, allowed the sum of Rs. 4,52,344: 2.6 I am of the opinion that the appellant's objection against disallowance of Rs. 4,52,344 is well-founded. It is the appellant's case that no part of Rs. 40 per share payable to erstwhile shareholders amounts to dividend or deemed dividend and accordingly no tax is required to be deducted at source. However, by way of abundant caution out of the agreed purchase price of Rs. 40 per share, Rs. 6.90 per share was retained to meet any possible demand from the Income-tax Department. The said amount has not been deducted at source and is not in discharge of any statutory obligation. The said amount has been retained by the appellant company for and on behalf of the erstwhile shareholders for meeting any possible future demand from the Income-tax Department. The retained money has been used by the appellant company in its financing business. In consideration of user of the retained amount the appellant company has provided for interest at the prevailing market rate. The provision for the interest payment has been authorised vide resolution No. 37 of the board of directors in their meeting held on 21-4-1975. A circular intimating the provision of interest payment in respect of retained amount has also been sent to the shareholders. It may be added that the appellant company have agreed to pay the said interest at the instance of one of the major shareholders, namely, Life Insurance Corporation of India. In the circumstances, I am of the opinion that the liability in respect of which provision has been made is enforceable legal liability and the appellant company was justified in making provision for the said amount as it maintains the accounts on mercantile system. In mercantile system of accounting provision has to be made for legally enforceable liability the moment it accrues and irrespective of the fact whether or not the amount has actually been paid, the deduction for such liability is admissible. I accordingly held that the Income-tax Officer was not justified in disallowing Rs. 4,52,344.

The addition is deleted.

14. For the following reasons stated in his order the Commissioner (Appeals) allowed the deduction of Rs. 9,58,969: 2.7 I am further of the opinion that the appellant's objection against the disallowance of Rs. 9,58,969 is also well founded. The said payment has been made as authorised by resolution No. 12 of the board of directors passed in their meeting held on 13-2-1974. The said resolution has been passed in pursuance of demand for interest by LIC and Unit Trust of India, the two major shareholders of the appellant company. Irrevocable options were lodged with the appellant company by the shareholders choosing to opt out by 5-7-1973. The agreed purchase consideration was Rs. 40 per share.

Further stipulation was that the shareholders would be entitled to dividend that may be declared till the date of payment of the purchase price. The scheme which involved reduction of capital was approved by the High Court on 15-11-1973 and registered with the Registrar of Companies on 30-1-1974. It was then found that it was not legally permissible to pay dividend to the erstwhile shareholders because they ceased to be shareholders at the material time. Though the options were lodged with the company on 5th July, 1973, yet because of the formality of the scheme being approved by the Delhi High Court and its registration with the Registrar of Companies, the actual payment of agreed purchase consideration was made after January, 1974. On demand from LIC of India and others it was ultimately decided to pay interest at 80 paise per share on account of delay in completion of various formalities. The amount which was required to be paid to the erstwhile shareholders was retained and utilised by the appellant company in its financing business till it was paid to the concerned shareholders. It is, therefore, evident that the payment has been made wholly and exclusively for the purposes of business carried on by the appellant. The ITO erred in holding that the payment was ex gratia payment. I am satisfied that the ITO was not justified in disallowing Rs. 9,58,969. The addition is accordingly deleted.

15. The revenue is aggrieved by this order of the Commissioner (Appeals) and the following grounds of appeal have been raised: On the facts and in the circumstances of the case, the learned Commissioner (Appeals) (I) erred in: I. (i) holding that liability of Rs. 4,52,344 created by the assessee on the amount of Rs. 68,71,053 retained by the assessee out of compensation payable @ Rs. 40 per share to outgoing shareholders, is enforceable legal liability; (ii) reversing the findings given by the ITO that the said liability cannot be allowed in absence of any agreement to this effect with the shareholders and that it was not an expenditure wholly and exclusively incurred for the purpose of business; II. (i) holding that extra payment of 0.80 paise per share to erstwhile shareholders is in the nature of interest and the expenditure has been incurred wholly and exclusively for the purpose of business of the assessee; (ii) reversing the finding given by the ITO that the said payment of 0.80 paise per share is in the nature of additional price paid by the assessee ex gratia, and, therefore, is not allowable under the Income-tax Act; and (iii) deleting the disallowance of Rs. 9,58,969 rightly made by the ITO.16. The learned departmental representative submitted that if the provisions of Section 194 applied, then the entire money retained by the assessee-company belonged to the Government and no interest would thus be payable to any one and, therefore, the claim for interest of Rs. 4,52,344 could not be allowed. Assuming that this contention was not accepted, the learned departmental representative referred to the following para 23 of the agreement between the Punjab National Bank Ltd. and the LIC and contended that the liability to pay any interest was not settled: 23. The parties agree that the opinion of the High Court of Delhi shall be binding upon the parties and that the first party shall pay Rs. 6.90 per share being the balance payable in respect of the said shares to the second party if according to the opinion of the High Court of Delhi the excess price payable in respect of the said shares to the second party over and above the paid-up value of shares is not considered as deemed dividend under Section 2(22) of the Income-tax Act, 1961 and the provisions of Section 194 read with Section 2(22) of the Income-tax Act, 1961 are not applicable to it.

He then argued that no deduction in respect of interest could be allowed under Section 36(1)(iii) as no capital had been borrowed for purposes of business. He then submitted that when there was no legal liability to pay interest or there was only contingent liability to pay interest, the amount of interest claimed could not be allowed as a deduction even under Section 37. According to the learned departmental representative, the claim for interest of Rs. 4,52,344 was not covered even by the provisions of Section 23 of the Act. He further submitted that the Commissioner (Appeals) erred in allowing interest of Rs. 9,58,969 because that amount was purely an ex gratia payment and the payment was not made wholly and exclusively for purposes of business.

In respect of the disallowance of Rs. 9,58,969 he relied on the order of the ITO.17. The learned Counsel for the assessee submitted that the method of accounting followed by the assessee was mercantile and the Commissioner (Appeals) was justified in allowing the amount of Rs. 4,52,344 as the liability to pay this amount of interest was a contractual liability.

He submitted that when the assessee-company had retained the sum of Rs. 68,71,053 and when this amount was used for purposes of financing business, the sum of Rs. 4,52,344 had been rightly allowed. He claimed that this interest was admissible even under Section 36(1)(iii) because the retained amount of Rs. 68,71,053 assumed the character of capital borrowed, after the order of the High Court was registered by the Registrar of Companies on 30-1-1974, and the company became debtor to the share-holders to the extent of Rs. 4,79,48,460. The total retained amount was over Rs. 82 lakhs, the balance amount retained over Rs. 68 lakhs and it was on this amount that the provision of Rs. 4,52,344 for interest was made. He further argued that this amount of interest was admissible even under Section 37 because the amount retained by the company was utilised by the company for its own business. He referred to the agreement between the Punjab National Bank Ltd. and the LIC and also the resolution No. 37 passed by the board of directors on 21-4-1975, and submitted that the liability to pay interest was an admitted liability. He referred to the judgment in Calcutta Co. Ltd. v.CIT [1959] 37 ITR 1 (SC) for the submission that in the mercantile system of accounting even estimated liability had to be allowed as necessary business expenditure. He relied on the judgment in Bombay Steam Navigation Co.'s case (supra), wherein interest on the unpaid balance of the consideration for the assets acquired, was allowed as expenditure under Section 10(2)(xv) of the 1922 Act, corresponding to Section 37(1) of the 1961 Act. He also relied on the judgment in Rohtas Industries Ltd.'s case (supra) wherein, interest paid for acquisition of land through the Government under the Land Acquisition Act was allowed as a deduction under Section 10(2)(xv). He then submitted that the liability to pay interest of Rs. 4,52,344 was not a contingent liability. For this purpose he relied on Metal Box Co. of India Ltd. v.Their Workmen [1969] 73 ITR 53 (SC) and CIT v. Nirmal Kumar Bose & Bros. [1979] 119 ITR 537 (Pat.). He then submitted that if there was any cessation in respect of the liability to pay the aforesaid interest, it could be brought to tax under Section 41(1) of the Act. He thus submitted that the order of the Commissioner (Appeals) in respect of the allowance of interest of Rs. 4,52,344 should not be disturbed.

He also submitted that the sum of Rs. 9,58,969 had been rightly allowed by the Commissioner (Appeals), He submitted that this amount had been paid for facilitating the carrying on of the business and for business expediency. He stated that this amount was admissible even under Section 57 of the Act, in view of the judgment in Eastern Investments Ltd. v. CIT[1951] 20 ITR 1 (SC). He made the point that so far as this amount of Rs. 9,58,969 was concerned, the learned departmental representative had simply relied on the order of the ITO and had not advanced any specific argument assailing the order of the Commissioner (Appeals).

18. In reply, the learned departmental representative submitted that the assessee was a trustee for the Government as well as the shareholders insofar as the retained amount at the rate of Rs. 6.90 per share was concerned. He made the point that no shareholder could file a suit against the company and claim the money retained back, because there was no legal liability to pay the sum of Rs. 6.90 per share to the concerned shareholders. He submitted that the question whether the liability to pay interest was contractual or not would depend on the circular issued to the shareholders after the resolution of the board of directors dated 21-4-1975. He reiterated his submission that the order of the Commissioner (Appeals) should be vacated and that of the ITO should be restored.

19. We have very carefully considered the rival submissions. The question whether any part of the sum of Rs. 40 per share paid on 11,98,771.5 shares could be considered as dividend under Section 2(22), came up for consideration before the Tribunal on two occasions.

Firstly, the matter came in for consideration in IT Appeal No. 3222 (Delhi) of 1976-77 and IT Appeal No. 3933 (Delhi) of 1976-77 (appeals by both the parties) which were decided by Delhi Bench 'C of the Tribunal on 27-3-1979. In that case, the ITO had issued a letter on 1-5-1975 to the assessee-company requesting it to pay the tax deducted at source amounting to Rs. 82,71,109 as required under Section 200 of the Act read with Rule 30 of the Income-tax Rules, 1962. He desired that in addition to the aforesaid tax deducted at source, the assessee should also pay interest under Section 201(1A) of the Act by 7-5-1975.

The assessee filed a writ petition and by its order, dated 24-5-1975 the recovery of the tax demanded was stayed by the Hon'ble Delhi High Court. The department thereupon filed a CM. Petition No, 1059 of 1975 and the High Court ordered on 30-5-1975 that the department would be entitled to proceed with the adjudication of the issue and to determine the legal liability of the assessee. The Court also directed the assessee in the meantime to furnish a security of Rs. 68,55,866 to the satisfaction of the Commissioner. Thereafter the ITO again started proceedings vide a letter dated 23-6-1975 calling upon the company to show cause why the entire amount paid to the shareholders who opted to surrender their shares should not be deemed as dividends in terms of Section 2(22)(d) and why the company should not be treated in default for failing to deposit tax deducted at source from the amount paid to the shareholders and why the company should not be treated in default for not deducting the tax at source on the full amount of Rs. 40 per share. After taking into consideration the various submissions made by the assessee against the charge proposed to be levied by the ITO, the ITO came to the conclusion that there was a default in terms of Section 201 for the total amount of Rs. 96,17,339. On appeal, the AAC came to the conclusion that there was no deemed distribution of dividend, within the meaning of Section 2(22)(d), of Rs. 2,85,69,771 as on the date when entries were passed reducing the share capital and crediting the accounts of the shareholders. The liability to deduct tax and pay the same to the Government, according to the AAC, amounted to Rs. 65,71,047. As no payment was made, the AAC held that the assessee was in default within the meaning of Section 201. He thus varied the order of the ITO and directed him to give effect to his order accordingly.

Both the parties came in appeal to the Tribunal. The grievance made by the revenue was that the AAC erred in reducing the liability of tax deducted at source from Rs. 96,17,339 to Rs. 65,71,047. The assessee's basic objection was that this was not a case of distribution of any deemed dividend. The assessee moved an additional ground of appeal to the effect that the order of the ITO was clearly barred by limitation and his order should be struck down, as bad in law, in limine. The Tribunal held that the order of the ITO was barred by limitation. In this view of the matter, the Tribunal did not go into the question whether the payment in question to the erstwhile shareholders represented dividends in the hands of the recipients. The basic issue whether the payment in question to the erstwhile shareholders represented deemed dividend was thus not decided. That order is, therefore, of no assistance in deciding the controversy before us.

20. The next occasion for considering whether any part of the payment Rs. 40 per share to the erstwhile shareholders constituted deemed dividend within the meaning of Section 2(22)(d) arose before the Tribunal in IT Appeal No. 1696 (Delhi) of 1977-78, dated 27-2-1982, in the case of Justice T.P.S. Chawla, an erstwhile shareholder (the Accountant Member is a party to this order). Following the judgment of the Supreme Court in Punjab Distilling Industries Ltd. v. CIT [1965] 57 ITR 1, the Tribunal held that the reduction of capital took place on 30-1-1974 and it was on that date that the accumulated profits available with the company had to be determined. The Tribunal took note of the fact that out of the balance of Rs. 7,37,55,700 in the general reserve as on 31-12-1973 (the balance sheet as on 30-1-1974 was not available), the assessee had paid Rs. 3,59,51,345 towards purchase price of own shares. The general reserve had been created by crediting Rs. 8.20 crores out of the compensation money of Rs. 10.20 crores.

Thus, it was observed by the Tribunal, that if Rs. 8.20 crores was excluded from the general reserve, there would be no accumulated profit. The Tribunal also noted that there: was no material on record to show as to what was the amount of capital gains taxable for the assessment year 1970-71, because that amount had not been specifically excluded in Explanation 11 to Section 2(22). The Tribunal thus observed: "We are thus unable to give any finding as to whether sum of Rs. 8.20 crores includes any element of capital gains. We, therefore, proceed on the basis that the sum of Rs. 8.20 crores does not include any capital gains and thus we have to hold that the said company did not have any accumulated profits as on 30-1-1974." Assuming for the sake of argument that Punjab National Bank Ltd. had made any capital gains which formed a part of Rs. 8.20 crores, then also the Tribunal held that there would be no deemed dividend as the distribution was not to all the shareholders. According to the Tribunal, "the payment made by the Punjab National Bank Ltd. to a section of its shareholders does not amount to 'dividend' within the meaning of Section 2(22 )(d)". The position remains the same as discussed in the aforesaid order. We, therefore, follow the aforesaid order and hold that there was no declaration of any deemed dividend under Section 2(22)(d) as on 30-1-1974. That being so, no amount was required to be deducted at source from the sum of Rs. 40 paid for each share. Thus, logically the sum of Rs. 6.90 retained in respect of each share remained the money belonging to the shareholders.

21. The question now for consideration is whether the sum of Rs. 4,52,344 is an admissible deduction. It is not an admissible deduction under Section 36(1)(iii), because no capital, as such, was borrowed by the assessee-company. This amount is, however, admissible as a deduction under Section 37 because the sum of Rs. 68,71,055 was closely related to the carrying on of the assessee's financing business and the interest was paid wholly and exclusively for purposes of the assessee's business. In coming to this conclusion, we respectfully follow the judgments in Bombay Steam Navigation Co.'s case (supra) and Rohtas Industries Ltd's case (supra). This amount of interest would also be admissible under Section 28(i). because while determining the income taxable under the Income-tax Act, all the allowable outgoings have to be considered. By utilising the retained amount of Rs. 68,71,053 the assesses earned income and thus the interest, paid on this amount has to be allowed as an expenditure incurred for earning the income. The method of accounting followed by the assessee is mercantile, and in this method, the sum of Rs. 4,52,344 has to be allowed as a revenue deduction. We thus agree with the Commissioner (Appeals) that Rs. 4,52,344 should be allowed as revenue expenditure in this year.

22. We have now to consider whether the Commissioner (Appeals) was right in allowing the sum of Rs. 9,58,969 as having been incurred wholly and exclusively for purposes of the business. It will be noticed that up to the registration on 30-1-1974 by the Registrar of Companies of the order of the Delhi High Court dated 15-11-1973, there was no question of giving an excess sum of Re. 0.80 paise per share over and above the sum of Rs. 40 per share for which opitions were obtained. It appears that the LIC and UTI, who were major shareholders of the Punjab National Bank Ltd., desired payment of an interim dividend, because in terms of the order of the High Court, the shareholders exercising their option would cease to be shareholders on 30-1-1974 and thus they would not be entitled to any dividend for the year ended 31-12-1973 and for the period thereafter till the date of payment of the purchase price.

The mention of the payment of 80 paise per share arises for first time in resolution No. 12 passed by the board of directors on 13-2-1974. The reason given is that this payment was made for the delay in completion of various formalities. Though the words 'on account' payment of 80 paise per share has been called the payment of interest, subject to deduction of tax under Section 194A, we are of the opinion that this payment cannot be called payment of interest. In Law of Income-tax in India by V.S. Sundaram (11th edition) at page 1210 the learned author has observed: 25. What is interest--it is the price of the use of money and should be distinguished from payments of the nature of compensation.

The sum of 80 paise per share, in our opinion, is some kind of compensation to the erstwhile shareholders, because they were not paid any dividend for the year 1973. It could even be similar to the payment of Rs. 40 per share having been sanctioned in the scheme approved by the High Court and registered with the Registrar of Companies, but apparently the payment of Rs. 40 per share approved by the, High Court and registered with the Registrar of Companies could not be increased and called a part of the purchase price of the shares. Whether it was a part of the purchase price of shares or whether it was some kind of compensation, the payment of 80 paise per share cannot at all be considered as payment of interest. Since this payment cannot be called payment of interest, it will not be admissible under Section 36(1)07) as no capital was borrowed for purposes of business. This payment cannot be allowed under Section 37 also because this amount of Rs. 9,58,969 was not paid wholly and exclusively for purposes of the business. The judgments in Bombay Steam Navigation Co.'s case (supra) and Rohtas Industries Ltd.'s case (supra) do not help the assessee in its claim for allowance of this amount under Section 37. This payment cannot also be allowed under Section 28(i) because it was not paid for carrying on the business or facilitating the carrying on of the business. This payment either represents a part of the purchase price of the assessee's own shares or a compensation for non-payment of dividends for the year 1973. This amount cannot be allowed on the basis of the judgment in Eastern Investments Ltd.'s case (supra) because it was not paid for commercial expediency but was paid as consideration for purchasing its own shares from erstwhile shareholders or was some kind of compensation for non-payment of dividend for the year 1973 or up to the period, when the payment of Rs. 40 per share was made. It is extremely difficult to accept the submission that after a period of only 13 days, the erstwhile shareholders who became entitled to receive Rs. 40 per share on 30-1-1974 became entitled to receive interest of 80 paise per share. The board of directors passed the resolution on 13-2-1974 authorising payment of 80 paise per share and it is on that date a debt was created in favour of the erstwhile shareholders. No other date is material for the consideration of the issue before us.

Thus, from whatever angle we look at this amount of Rs. 9,58,969, we are of the firm opinion that this amount cannot be allowed as a revenue expenditure in this year. On this point, we vacate the order of the Commissioner (Appeals) and restore the order of the ITO.


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