This matter has come before us upon a reference made by the Income-tax Appellate Tribunal in compliance with the mandamus issued by this court under section 66 of the Indian Income-tax Act. The following questions have been referred to us for our opinion :
'1. Whether in the circumstances of this case the transaction in question did not relate to money-lending business of the applicant ?
2. Whether under the circumstances of the case the claim of Rs. 1,15,449 was admissible as a bad debt under section 10(2)(xi) or otherwise as a loss qua money-lending business of the applicant ?
3. Whether under the circumstances of the case the claim of Rs. 1,15,449 is admissible as a business deduction under section 10(2)(xv) or in general terms of the Income-tax Act ?'
The assessee in this case is a firm named Messrs. Brij Mohan Laxmi Narain. The assessment year is 1947-48. The assessment was made in respect of several sources of income consisting of : (1) interest on securities; (2) income derived from property; (3) money-lending and banking business; and (4) remuneration received as director of various companies including a firm, Messrs. Kapurson & Co., in which the assessee held one-third share.
The main business of the assessee is undoubtedly money-lending business. He kept only one account of all the sources of his income and only one assessment was made in respect of his entire income. Loans were advanced by the assessee to Messrs. Kapurson & Co. ever since 1940, when it came into existence and when the assessee became a director of this company. Loans were also sought from the assessee to furnish surety to the extent of Rs. 1,25,000. For this amount the assessee gave security. His object in undertaking this extra liability was that Messrs. Kapurson & Co. would make larger profits owing to the larger turnover and so his own profits constituting one-third of the total profits made by Messrs. Kapurson & Co. would be augmented.
Messrs. Kapurson & Co. went into liquidation in 1946. The Central Bank of India Limited pressed for repayment of its loans which amounted at that time to Rs. 1,15,449. The assets of the company in liquidation were insufficient to meet the demand of the bank and so the bank pressed its guarantee against the assessee, and the assessee thereupon sold his house for a sum of Rs. 1,50,000 and paid the Central Bank Rs. 1,15,449. It may be mentioned that the assessees own loan to Messrs. Kapurson & Co. stood at Rs. 8,656. When the amount became irrecoverable, the assessee wrote off the entire debt in March, 1947, and debited Messrs. Kapurson & Co. with this amount. The debt was written off as a bad debt, and the assessee claimed that this amount was not subject to tax because it amounted to losses in business. The appellants claim, therefore, is that the giving of the guarantee to the bank arose out of his money-lending business, and when it became a bad debt, he was entitled to seek shelter under section 10(2)(xi) of the Indian Income-tax Act and also under section 10(2)(xv) or under the general terms of the Income-tax Act.
It has already been stated that the ordinary business of the assessee was money-lending. The giving of a guarantee can by no stretch of imagination be classed as a loan advanced to the bank or to the person on whose behalf the guarantee is given. When a loan is advanced, money is actually paid out, but when a guarantee is given, the liability may never be enforced, and in this case it would not have been enforced but for the failure of Messrs. Kapurson & Co. and the insufficiency of the companys assets. The transaction must bear an intimate relation with the assessees business and not be connected with it by an illusory tie. There was no consideration for the guarantee to the bank, and the allegation that by giving the guarantee the profits of the assessee from Messrs. Kapurson & Co. were increased to two-thirds instead of one-third is not borne out by the record, and the only thing that has been alleged is that by facilitating the giving of the loan by the bank to the company, the companys business increased and so its ordinary profits went up as also the share of the assessee in the profits. This, however, is a very indirect connection between the giving of the guarantee and the ordinary money-lending business of the assessee. Had the loan given by the assessee himself become a bad debt then undoubtedly he would have been able to claim exemption in respect of it under section 10 and an exemption has been given in respect of the sum of Rs. 8,656 which constituted his loan to the company. In my view, the transaction of guarantee did not arise out of his money-lending business, nor was it related to it in any way.
Counsel for the appellant has cited before us a number of rulings, but none of these really helps him.
In Commissioner of Income-tax v. Khemchand Ramdas, the assessee had a partner who resided outside India. The business resulted in losses and the partner executed a document whereby he agreed to pay his share of the losses in certain instalments. There was default in payment of the instalments and the assessee claimed a deduction of Rs. 10,229, representing the amount which was due to him from his partner and had not been paid. This amount had to be written off as a bad debt, and it was held that the assessee was entitled to claim exemption from it. The view taken by the Sind Judicial Commissioner was that the amount which the partner did not pay was loss for which the assessee was entitled to claim credit in assessing profits which he had made in respect of all kinds of business carried on by him. In this case the loss was sustained by the assessee. His partner had to make good a part of the losses and when he failed to do so, he claimed credit to that extent. It is clear that the loss arose directly out of the ordinary business of the assessee, and the case has no relation to the facts before us.
In Harnand Rai Harbhagat Rai v. Commissioner of Income-tax an assessee advanced large sums of money to a contractor. This was his ordinary business. The contractor absconded, and it was held that the money which the contractor had not been able to repay amounted to loss in the money-lending business. The relationship between the contractor and the assessee was that of a debtor and creditor and the transaction, therefore, related to the ordinary business of the assessee and was part of it.
In Commissioner of Income-tax v. Maharaja of Darbhanga, money-lending business was carried on by a firm in which the assessee firm was styled as principal and one Kanwar Ganesh Singh as agent. A debt due to the firm was assigned by the agent to the assessee and when the assessee could not recover the whole of the amount, he claimed the unpaid portion as a bad debt. It was held that the loss arose out of the assessees business and the assessee was entitled to the benefit of section 10. Here too, therefore, the transaction was a simple one between the debtor and creditor. The creditor was unable to realise a debt due to him in the ordinary course of his business.
In Commissioner of Income-tax and Excess Profits Tax v. Sankara Ayyar, the assessee was the manger of a Hindu undivided family and was carrying on a partnership business with another person. The business of the partnership firm was money-lending. The partnership was discontinued except for the purpose of realising the outstanding dues. Money was due from a debtor to the firm and on the termination of the partnership this amount was debited to M in the books of the new firm consisting of the assessee. It was held that the amount related to the ordinary business of the assessee, and when it became irrecoverable and had to be written off, the assessee could claim deduction under section 10(2)(xi) of the Act. This too, therefore, was not a collateral transaction or a guarantee of a simple transaction of loan being advanced by a money-lender. The fact that the loan was advanced by the partnership firm and later so entered in the books of one of the partners who was continuing the business makes no difference to the case. It is the nature of the transaction which must be looked at and the transaction in this case was nothing more nor less than a loan advanced by a money-lender.
In Alagananda Mudaliar v. Commissioner of Income-tax the assessee was owed money by a firm which became insolvent in 1929. In 1936 the official assignee informed the assessee that there was no prospect of payment. The assessee claimed deduction, but the income-tax authorities took the view that the debt became irrecoverable in 1929 when the firm became insolvent and not in 1936 when the official assignee informed the assessee. The Madras High Court decided in favour of the assessee. This case has no relevance whatever to the point requiring our decision.
The next case cited before us, Commissioner of Income-tax v. Ramaswamy Chettiar, was a case of guarantee. But in that case the finding was that it was a custom among Chettiar to stand surety for one another when they borrowed from banks for the purpose of lending out at higher rates of interest. The assessee was a Chettiar, and in pursuance of this custom he stood surety for a loan. The loan was not repaid and the assessee had to make good the amount under terms of his guarantee. It was held that the assessee was entitled to deduction of this amount. It was clear that the giving of the guarantee was a part of the ordinary business of the assessee, and, therefore, the enforcement of the guarantee caused him loss in the ordinary course of business.
Similarly in Commissioner of Income-tax v. Jagannath Kisonlal the giving of the guarantee was the usual commercial practice in the business of the assessee. This was a case in which the assessee borrowed money jointly and the liability was joint and several. The assessees partner became insolvent and he had to pay the whole amount to the bank from which the loan had been taken. They claimed that he was entitled to deduct that portion of his partners share which had remained unpaid and which he had to pay himself. It was found by the Tribunal 'that the sum of Rs. 50,000 was borrowed by the assessee for the purposes of his business; that it was the usual commercial practice in the business of the assessee to borrow money on joint and several liability and that the bank would not have advanced the money except on the joint and several liability of the assessee and K'. In this view of the matter under section 10(2)(xv) the assessee was entitled to claim deduction.
In an English case, Morley v. Lawford and Company, a contractor gave a guarantee for the expenses of an exhibition to the extent of pounds 500. It was agreed that the giving of this guarantee would entitle the contractor to preferential treatment in the matter of tenders. The contractor was not given a contract and when he had to pay the amount guaranteed he was entitled to claim deduction in respect of it because it amounted to losses in business. It is clear that there was a nexus between the guarantee and the ordinary business of the contractor, in that the giving of the guarantee meant preferential treatment in the giving of contracts.
In the present case there was no clear connection between the money-lending business of the assessee and the giving of the guarantee to the bank. The guarantee was not on behalf of himself and his partner but on behalf of the firm in which he held some shares and of which he was a director. This connection, in my view, is too remote to warrant the assumption that the guarantee was given in the ordinary course of the assessees business. The advantage which he gained by the giving of the guarantee was indirect and it cannot, therefore, be said that the enforcement of the guarantee amounted to losses in business. It was nothing more than a loss in capital. Therefore the assessee is not entitled to claim exemption either under section 10(2)(xi) or 10(2)(xv) or in general terms of the Income-tax Act.
We answer the reference accordingly. The assessee will pay costs of these proceedings which we assess at Rs. 250.
Reference answered accordingly.