This case raises the question of interpretation of section 10(2)(vii) of the Indian Income-tax Act, 1922, as amended by Central Act VIII of 1946 (hereinafter referred to as the Income-tax Act.)
The Sonepat Light, Power & General Mills Ltd., Sonepat (hereinafter referred to as 'the assessee'), now in liquidation, started its business in 1941, under a licence dated April 23, 1935, under the Indian Electricity Act No. 9 of 1910 (hereinafter called 'the Electricity Act'). Section 7(1) of the Electricity Act reads as follows :
'7. (1) Where a licence has been granted to any person not being a local authority, and the whole of the area of supply is included in the area for which a single local authority is constituted, the local authority shall, on the expiration of such period, not exceeding fifty years, and of every such subsequent period, not exceeding twenty years, as shall be specified in this behalf in the licence, have the option of purchasing the undertaking, and, if the local authority, with the previous sanction of the State Government, elects to purchase, the licensee shall sell the undertaking to the local authority on payment of the value of all lands, buildings, works, materials and plant of the licensee suitable to, and used by him for, the purposes of the undertaking, other than a generating station declared by the licence not to from part of the undertaking for the purpose of purchase, such value to be, in case of difference or dispute, determined by arbitration :
Provided that the value of such lands, buildings, works, materials and plant shall be deemed to be their fair market value at the time of purchase, due regard being had to the nature and condition for the time being of such lands, buildings, works, materials and plant, and to the state or repair thereof, and to the circumstance that they are in such a position as to be ready for immediate working, and the suitability of the same for the purposes of the undertaking :
Provided also that there shall be added to such value as aforesaid such percentage, if any, not exceeding twenty per centum on that value as may be specified in the licence, on account of compulsory purchase.'
Clause (a) of sub-section (3) of section 7 is also relevant in the context of this case and is reproduced below :
'(3) Where a purchase has been effected under sub-section (1) or sub-section (2), -
(a) the undertaking shall vest in the purchasers free from any debts, mortgages or similar obligations of the licensee or attaching to the undertaking :
Provided that any such debts, mortgages or similar obligations shall attach to the purchase money in substitution for the undertaking.'
In accordance with the requirements of section 7(1) of the Electricity Act the following provision was made in paragraph 9 of the licence granted to the assessee which was called 'The Sonepat Electric Licence 1935' :
'9. (1) The option of purchase given sub-section (1) of section 7 of the Act, shall first be exercisable on the expiration of twenty years from the date of the notification of this licence and on the expiration of the sub-sequent period of ten years.
The percentage of the value to be determined in accordance with and for the purpose of sub-section (1) of section 7 of the Act of the lands, buildings, works, materials and plant of the licensee therein mentioned to be added under the second proviso of that sub-section to such value on account of a compulsory purchase shall be twenty per cent.'
In Pursuance of the agreement contained in the licence, the Punjab Government exercised its option to purchase the undertaking of the assessee during the financial year ending March 31, 1956, i.e., during the assessment year 1956-57.
In making the income-tax assessment for the aforesaid year, the Income-tax Officer held that the provision of section 10(2)(vii) of the Income-tax Act were attracted and determined the taxable profits on the sale of the machinery, etc., at Rs. 98,415. This figure has ultimately been reduced by the order of the Income-tax Appellate Tribunal (Delhi Bench), dated 22nd April, 1961, to Rs. 44,580. If the provisions of section 10(2)(vii) of the Income-tax Act are applicable to the amount paid by the Punjab Government to the assessee in consideration of the purchase of the machinery, etc., of the undertaking of the assessee, the total amount of profit determined, as stated above, to be Rs. 44,580 is not in dispute.
Against the above-said order of the Income-tax Officer, dated December 31, 1957, an appeal was preferred by the assessee. This appeal was dismissed by the orders of the Appellate Assistant Commissioner of Income-tax dated April 8, 1958. The appellate authority rejected the contention of the assessee that the sale in question amounted to compulsory acquisition and not to a sale as contemplated by section 10(2)(vii) of the Income-tax Act. The second contention raised by the assessee before the Appellate Assistant Commissioner was, in any case, to exclude a sum of 20 per cent. of the value of the machinery, etc., which had been computed in the sale price on account of the agreement contained in the second half of paragraph 9 of the licence and which had to be paid in pursuance of the second proviso to sub-section (1) of section 7 of the Electricity Act. It was argued before the appellate authority that this amount of 20 per cent. was in the nature of a solatium and was not taxable because it was not paid in consideration of the sale but as compensation for cessation or sterilisation of the business of the assessee.
A further appeal preferred by the assessee against the order of the Appellate Assistant Commissioner dated August 4, 1958, was dismissed by the orders, of the Income-tax Appellate Tribunal dated January 19, 1960. Thereupon, the assessee made a petition to the Income-tax Appellate Tribunal under section 66(1) of the Income-tax Act to make a reference to this court. It is in pursuance of the said application of the assessee that the Income-tax Appellate Tribunal (Delhi Bench 'B') has made this reference by order dated August 28, 1961. The question of law referred to this court are enumerated in paragraph 7 of the statement of the case drawn by the Income-tax Appellate Tribunal and those question are reproduced below :
'(1) Whether the surplus realised by the assessee has been correctly assessed under section 10(2)(vii ?
(2) Whether the solatium paid has been rightly included part of the sale pric ?
(3) Whether the loss on the service lines has been rightly ignored in the computation of profits and losses under section 10(2)(vii) ?'
At the hearing of this case before us Shri Hans Raj Sodhi, the learned advocate for the assessee, frankly conceded that in view of the judgment of the Supreme Court of India in Fazilka Electric Supply Co. Ltd. v. Commissioner of Income-tax, affirming on appeal the judgment of a Division Bench of this court (Bhandari C.J. and Bishan Narain J.), this question is no more open. The Punjab judgment is reported in  36 I.T.R. 411. The relevant facts of the Fazilka Electric Supply Companys case and of the instant case in so far as they relate to question No. 1 reproduced above are identical. S. K. Das J., who wrote the judgment of the Supreme Court in the Fazilka Electric Supply Companys case, held in this connection as follows :
'If the whole scheme of the Electricity Act and the rules made thereunder is kept in mind, it becomes obvious that notwithstanding the use of the expression compulsory purchase in the second proviso to sub-section (1) of section 7, there is no compulsory purchase or compulsory acquisition in the sense in which that expression is ordinarily understood. The High Court has rightly pointed out that the scheme of the Electricity Act, as indicated by the relevant provision thereof and the rules made thereunder, shows beyond any doubt that the option of purchase is the result of mutual agreement between the parties, the applicant for the licence on the one hand and the Government on the other. The High Court rightly observed :
The rules show that a draft licence has to be sent by an applicant for licence containing definite and specific terms on which the licence is sought. This amounts to an offer. The Government accepts it or rejects it. If it modifies it in any way, then the applicant or offerer must accept the modification. If the Government accepts the offer with or without modification, then it grants a licence. In my view a licence granted by the Government, in such circumstances amounts to a contract between the parties.
On behalf of the applicant it has been contended, somewhat faintly, that all the elements necessary to constitute a contract are not present here. We are unable to agree. There was an undertaking on the part of the applicant for the licence to sell the undertaking to the local authority or Government upon certain terms set out in the licence, and the time at which the option was to be exercised and the price which was to be paid for the property were specified. There was consideration for the contract as the licence was granted on those terms. Therefore, all the elements necessary for a contract were present, and the sale in pursuance thereof was not a compulsory purchase or acquisition (see Sakalaguna Nayudu v. Chinna Munuswamy Nayakar).'
Question No. 1 referred to us by the Tribunal is, therefore, answered in the affirmative, i.e., in favour of the revenue. The learned counsel for the assessee has not pressed before us question No. 3 reproduced above. Question No. 3 is, therefore, also answered in favour of the revenue, i.e., in the affirmative.
Great stress has been laid by Mr. Hans Raj Sodhi on the dispute involved in question No. 2. His argument is that in view of the judgment of the Supreme Court, it is no doubt that the machinery, etc. has not been compulsorily acquired by the Punjab Government but has been purchased by it. Even so, says Mr. Sodhi, it is only the fair market value of the machinery, etc., referred to in the first provisio to section 7(1) of the Electricity Act which should be treated as 'the amount' for which the machinery has been 'actually sold' within the meaning of section 10(2)(vii) of the Income-tax Act and that the additional stipulated amount paid by virtue of the agreement contained in paragraph 9 of the licence in pursuance of the second proviso to sub-section (1) of section 7 of the Electricity Act is in the nature of a solatium for the cessation of the business of the assessee and cannot be computed as part of the sale price and is, therefore, not taxable under the deeming provisions of clause (vii) of sub-section (2) of section 10 of the Income-tax Act. Reliance has been placed by Mr. Sodhi in support of the argument on the observations of their Lordships of the Privy Council in Commissioner of Income-tax v. Shaw Wallace and Co., which are to the following effect :
'Sum received from a principal by an agent as full compensation for cessation of the agency or as compensation for the loss of office are not sums received for carrying on business, but are as some sort of solatium for the compulsory winding up of an agency, and therefore are not assessable as income, profits and gains within the meaning of the Income-tax Act'.
Though the Privy Council judgment was given before the amendment of section 10(2)(vii) of the Income-tax Act by VII of 1946, we do not think the difference between the unamended provision and the amended provision is material for the purposes of the question before us. In the case of Shaw Wallace and Company, however, there was no question of any sale, nor was any question of the interpretation or application of clause (vii) of sub-section (2) of the section 10 of the Income-tax Act involved therein. On the other hand it was a voluntary agreement between the two companies in that case by which certain amount was paid 'as full compensation for the cessation of the agency' of the other company. Under the Electricity Act, the situation seems to be very different. The provisions of section 7 are not of a confiscatory nature but appear to have been made to help the assessee for whom the electric undertaking would be wholly useless after the termination of his licence for generating and supplying electricity under the Electricity Act. The scheme of the deeming provisions of section 10(2)(vii) of the Income-tax Act is based on the fact that an assessee recovers the value of the capital investment of plant, machinery, etc., by earning an income-tax rebate on account of depreciation and that it is presumed in law that at the end of a certain period the written down value of the machinery etc., as a result of depreciation would be reduced to nil. By this process of allowing rebate on the original capital costs, written down value is obtained every year after deducting the depreciation allowed till that time. If then the assessee sells or disposes of the machinery, etc., at a price higher than the written down value in his books, he is justly deemed to have earned a profit to the extent of the difference between the amount he actually receives against the sale of the machinery and the written down value thereof in his books. But for the legal fiction created by the deeming provision in section 10(2)(vii) of the Income-tax Act such surplus earned by an assessee would certainly not be 'profit' and would not be taxable under section 10(1), as it was not the business of the assessee to sell away his profit-making apparatus.
The next case relied upon by the learned counsel for the assessee is of Commissioner of Income-tax v. Vazir Sultan and Sons. The following observations in the majority judgment of their Lordships of the Supreme Court in that case have been relied upon by Mr. Sodhi :
'The agency agreements in fact formed a capital asset of the assessees business worked or exploited by the assessee by entering into contracts for the sale of the... cigarettes manufactured by the company to the various customers and dealers in the respective territories. This asset really formed part of the fixed capital of the assessees business. It did not constitute the business of the assessee but was the means by which the assessee entered into the business transactions by way of distributing those cigarettes within the respective territories. It really formed the profit-making apparatus of the assessees business of distribution of the cigarettes manufactured by the company. If it was thus neither circulating capital nor stock-in-trade of the business carried on by the assessee it could certainly not be anything but a capital asset of its business and any payment made by the company as and by way of compensation for terminating or cancelling the same would only be a capital receipt in the hands of the assessee.'
While making the above observation their Lordships of the Supreme Court relied on the Privy Council judgment in the case of Shaw Wallace and Company.
For the reasons given above neither the Privy Council judgment nor the above-said judgment of their Lordships of the Supreme Court is relevant for the purpose of deciding the question before us
Mr. Sodhi then relied on the judgment of the Nagpur High Court in Rai Bahadur Jairam Valji v. Commissioner of Income-tax. In that case also the question that arose was regarding the liability to income-tax of an amount received by the assessee as damages or compensation for the 'premature' termination of a contract between two parties. No such question arises in the instant case. This judgment of the Nagpur High Court is, therefore, of no assistance to us in deciding question No. 2 referred to us by the Commissioner of Income-tax.
The learned counsel for the assessee then referred to the dictionary meaning of the word 'solatium'. But it is significant that the word 'solatium' has not been used in this case either in the second proviso to section 7(1) of the Electricity Act or in paragraph 9 of the licence granted to the assessee under the Electricity Act. No charm therefore attaches to the use of the word 'solatium' by the learned counsel for the assessee.
Mr. D. N. Awasthy, the senior counsel appearing for the Commissioner of Income-tax, invited our attention to the scheme of section 10(2)(vii) of the Income-tax Act, to the wording of section (1) of the Electricity Act and to the stipulation contained in paragraph 9 of the licence of the licence of the assessee and argued that the income-tax department has to take into account the substance of the transaction and not to go by mere words.
It appears to us that the relevant part of section 7(1) of the Electricity Act merely provides a mode and furnishes the criteria on the basis of which the sale price for the machinery, etc., payable by the Government to the assessee has to be determined. It was admitted before us by the learned counsel for both the sides that the sale price of the respective parts of the undertaking, i.e., power house, building, sub-station, etc., is inclusive of the fair market value and the 20 per cent. thereof and that the break up of the figures is not available with them. Even the statement of depreciable assets and profit under section 10(2)(vii) of the Income-tax Act for the assessment year in question signed by the voluntary liquidator of the assessee and accepted by the Income-tax Appellate Tribunal, Delhi, shows that the total amount has been shown as sale price and the so-called solatium has not been calculated or provided separately. The relevant words used in section 10(2)(vii) of the Income-tax Act are :
'In respect of any such building, machinery or plant which has been sold, the amount by which the written down value thereof exceeds the amount for which the building, etc., is actually sold.'
After the judgment of the Supreme Court in the Fazilka Electric it is settled that the machinery, plant, etc., were sold by the assessee to the Government. The question which then arises is what is the amount for which those things were actually sold. We think that to ask that question is to answer it. It is the total amount which the assessee received from the Government on account of the sale which is the amount for which the sale took place. It is nobodys case that the so-called solatium was payable independently of or without the sale of the property in question in any circumstances whatsoever.
In the judgment of the Supreme Court in the Fazilka Electric Supply Companys case, the following observation appears to be not only relevant but significan :
'The second proviso is another enabling provision which enables the parties to specify in the licence such percentage, if any, not exceeding twenty per centum, as should be added to the value of the building, plant, machinery, etc., when the option of purchase is exercised. No doubt, the expression used in the proviso is compulsory purchase; but in substance what it provides for is that the parties may agree to increase the market value of the building, plant, etc., by a certain percentage when the option of purchase is exercised and the price has to be paid. The use of expression if any after the word percentage shows that the parties may agree not to increase the market value at all'. (Underlining by us).
There underlined sentences in the above-said observations of their Lord-ships of the Supreme Court further indicate :
(1) that the result of addition of the stipulated amount up to 20 per cent. is to fix a higher market value of the property sold; and
(ii) that the payment of the so-called solatium is also not compulsory under the statute as in the case of compulsory acquisition under the Land Acquisition Act but is subject to an agreement between the parties and the statute only lays down the maximum outside limit of 20 per cent. within which the Government and the licensee may agree to the payment of any amount or no such amount at all.
The Supreme Court judgment further shows that the licence under the Electricity Act is in the nature of a contract between the parties and that there is, in fact, no compulsory purchase in the sense in which that expression is ordinarily understood. This would show that the total amount paid by the Government to the assessee in pursuance of section 7 of the Electricity Act and paragraph 9 of the 'agreement' is the sale price.
It may also be noticed in this connection that in case of difference between the parties as to the value to be paid to the licensee under section 7(1), it has to be decided by statutory arbitration. The additional sum of 20 per cent. over and above the normal market value is part of the consideration for the agreed sale provided in the licence itself and the assessee can compel its payment in appropriate proceedings; it is not in the nature of an ex-gratia payment.
'Purchase money' in section 7(3) of the Electricity Act would include each of the amounts mentioned in the first and second proviso to section 7(1) of that Act. It cannot be argued that the creditors of the assessee can reach that part of the amount which is paid under the first proviso but not sum of 20 per cent. thereon paid in pursuance of an agreement under the second proviso. This also strengthens the view we are taking.
We think that it is not correct to call the amount paid by the Government to the assessee under the second proviso to sub-section (1) of section 7 of the Electricity Act as 'solatium' and that in fact the amount which may become payable and did in this case become payable under that provision is a part of the amount paid for the sale of the undertaking.
We, therefore, hold that the word 'amount' used in section 10(2)(vii) of the Income-tax Act includes the total amount paid by the Government to the assessee by virtue of paragraph 9 of the licence and in pursuance of section 7 of the Electricity Act including what is called 'their fair market value' under the first proviso and the added value up to 20 per cent. by virtue of the second proviso to section 7 of the Electricity Act. In these circumstances we answer question No. 2 also in the affirmative, i.e., in favour of the revenue.
All the three questions referred to us are, therefore, answered in favour of the Commissioner of Income-tax. The parties are, however, left to bear their own costs in this case.
Questions answered in the affirmative.