Skip to content


Commissioner of Income-tax Vs. Travancore Sugars and Chemicals Ltd. - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtKerala High Court
Decided On
Case NumberIncome-tax Reference Nos. 61, 62, 63 and 64 of 1969
Judge
Reported in[1973]90ITR307(Ker)
ActsIncome Tax Act, 1922; Income Tax Act, 1961
AppellantCommissioner of Income-tax
RespondentTravancore Sugars and Chemicals Ltd.
Appellant Advocate P.K. Krishnankutty Menon,; P.A. Francis and; P.K. Raveen
Respondent Advocate C.M. Devan, Adv. for Subbaraya Iyer,; Sethuraman and; Pa
Cases ReferredIndian Radio and Cable Communications Co. Ltd. v. Commissioner of Income
Excerpt:
.....in pursuance to clause (7) of annexure 'a 'read with annexure 'b 'under section 10(2)(xv) of the indian income-tax act, 1922, for the assessment years 1959-60 to 1961-62 and under section 37 of the income-tax act, 1961, for the assessment year 1962-63. 5. the income-tax officer as well as the appellate assistant commissioner disallowed the claim of the assessee for deduction of the amounts. those points nre :(1) whether the payment under clause (7) of the agreement is a diversion of profits by title paramount ? (2) whether the transaction should be treated as a joint venture with an agreement to share profits between the assessee and the government ? and (3) whether the requirements of section 10(2)(xv) of the indian income-tax act, 1922, have been satisfied ? 8. thereafter, the case..........and have been made by the income-tax appellate tribunal, cochin bench, under section 66(1) of the indian income-tax act, 1922, and section 256(1) of the income-tax act, 1961, at the instance of the commissioner of income-tax, kerala, ernakulam. the questions referred to this court are :'(1) whether, on the facts and in the circumstances of the case, the payment of rs. 1,45,969 by the assessee to the kerala government under the agreements dated june 18, 1937, and january 28, 1947, was allowable under section 10 of the indian income-tax act, 1922 ? (2) whether, on the facts and in the circumstances of the case, the payment of rs. 1,14,520 by the assessee to the kerala government under the agreements dated june 18, 1937, and january 28, 1947, was allowable under section 10 of the indian.....
Judgment:

Krishnamoorthy Iyer, J.

1. These references arise out of assessment proceedings against the Travancore Sugars and Chemicals Ltd., hereinafter referred to as the assessee, for the assessment years 1959-60 to 1962-63 and have been made by the Income-tax Appellate Tribunal, Cochin Bench, under Section 66(1) of the Indian Income-tax Act, 1922, and Section 256(1) of the Income-tax Act, 1961, at the instance of the Commissioner of Income-tax, Kerala, Ernakulam. The questions referred to this court are :

'(1) Whether, on the facts and in the circumstances of the case, the payment of Rs. 1,45,969 by the assessee to the Kerala Government under the agreements dated June 18, 1937, and January 28, 1947, was allowable under Section 10 of the Indian Income-tax Act, 1922 ?

(2) Whether, on the facts and in the circumstances of the case, the payment of Rs. 1,14,520 by the assessee to the Kerala Government under the agreements dated June 18, 1937, and January 28, 1947, was allowable under Section 10 of the Indian Income-tax Act, 1922 ?

(3) Whether, on the facts and in the circumstances of the case, the payment of Rs. 1,21,578 by the assessee to the Kerala Government under the agreements dated June 18, 1937, and January 28, 1947, was allowable under Section 10 of the Indian Income-tax Act, 1922 ?

(4) Whether, on the facts and in the circumstances of the case, the payment of Rs. 65,682 by the assessee to the Kerala Government under the agreements dated June 18, 1937, and January 28, 1947, was allowable under Section 37 of the Income-tax Act, 1961 '

2. The assessee is a public limited company incorporated under the Travancore Companies Act carrying on the business of manufacturing sugar, running a distillery and a tincture factory, in the State of Kerala. In the Travancore Sugars Ltd., Thuckalai, incorporated under the Travancore Companies Act, the Travancore Government owned the largest number of shares. Steps were taken to wind up this company and to transfer all the shares to the Government. One of the objects of the assessee was to purchase the assets of the Travancore Sugars Ltd., as well as the Government Distillery at Nagarcoil and the Government Tincture Factory at Trivandrum. An agreement dated 18th of June, 1937, annexure 'A', was entered into between the Government of Travancore and Sir William Wright on behalf of Parry and Co., Ltd., Madras, who were the promoters of the assessee, by which the Government of Travancore agreed to sell the assets of the Travancore Sugars Ltd., the Government Distillery at Nagercoil and the business assets of the Government Tincture Factory at Trivandrum to the assessee for Rs. 3'25 lakhs. Clause (7) of annexure 'A' reads as follows:

' 7. The Government shall be entitled to twenty percent. of the net profits earned by the company in every year subject however to a maximum of Rupees forty thousand per annum, such net profits for the purposes of this clause to be ascertained by deduction of expenditure from gross income and also after :

(i) Provision has been made for depreciation at not less than the rates of allowances provided for in the income-tax law for the time being in force, and

(ii) payment of the Secretaries & Treasurers' remuneration. '

3. Clause (7) of the agreement of 1937 was deleted and in its place the following clause was substituted, by the agreement dated 28th January, 1947, produced as annexure ' B ' :

' The Government shall be entitled to ten per centum of the net profits of the company in every year. For the purpose of this clause net profits means the amount for which the company's audited profits in any year are assessed to income-tax in the State of Travancore. '

4. The assessee claimed deduction of Rs. 1,45,969, Rs. 1,14,520, Rs. 1,21,578 and Rs. 65,682, respectively, paid to the State Government in pursuance to Clause (7) of annexure ' A ', read with annexure ' B ' under Section 10(2)(xv) of the Indian Income-tax Act, 1922, for the assessment years 1959-60 to 1961-62 and under Section 37 of the Income-tax Act, 1961, for the assessment year 1962-63.

5. The Income-tax Officer as well as the Appellate Assistant Commissioner disallowed the claim of the assessee for deduction of the amounts. The Appellate Tribunal, following the decision of the Supreme Court in Travancore Sugars & Chemicals Ltd. v. Commissioner of Income-tax, [1960] 62 I.T.R. 566; [1967] 1 S.C.R. 423 (3) [1964] 51 I.T.R. 24 (Ker.). (S.C.) and that of this court in Commissioner of Income-tax v. Travancore Sugars, and Chemicals Ltd., [1969] 71 I.T.R. 385 (Ker.) upheld the plea of the assessee.

6. For the assessment year 1958-59, the assessee claimed deduction of Rs. 42,480 paid to the Government under Clause (7) of annexures ' A ' and 'B' under Section 10(2)(xv) of the Indian Income-tax Act, 1922. The income-tax authorities disallowed the claim of the assessee while the Tribunal upheld the same. At the instance of the Commissioner of Income-tax, Kerala, the sustainability of the claim of the assessee for deduction was referred to this court under Section 66(1) of the Indian Income-tax Act, 1922. This court by its decision reported in Commissioner of Income-tax v. Travancore Sugars & Chemicals Ltd., [1964] 51 I.T.R. 24 (Ker.) answered the question in favour of the revenue taking the view that payment under Clause (7) of annexures ' A ' and ' B ' is a part of the purchase price and will constitute an expenditure not of a revenue but of a capital nature and the payment is made not for the purpose of carrying on the business of the assessee but for the purpose of acquiring the assets of the assessee. This court, therefore, held that the assessee was not entitled to the deduction under Section 10(2)(xv) of the Indian Income-tax Act, 1922.

7. The assessee filed an appeal against the decision of this court in the Supreme Court. Their Lordships of the Supreme Court, by the judgment reported in Travancore Sugars & Chemicals Ltd. v. Commissioner of Income-tax, reversed the decision of this court and held that payments under clause (7) of annexures 'A' and 'B' are not in the nature of capital expenditure but only revenue expenditure. But, the reference was remanded to this court for answering the question referred after considering the following points which were not considered by this court then. Those points nre :

(1) Whether the payment under Clause (7) of the agreement is a diversion of profits by title paramount ?

(2) Whether the transaction should be treated as a joint venture with an agreement to share profits between the assessee and the Government and

(3) Whether the requirements of Section 10(2)(xv) of the Indian Income-tax Act, 1922, have been satisfied

8. Thereafter, the case was heard by Raghavan J, (as he then was) and Isaac J. Since the revenue did not press the second point this court considered only points 1 and 3. Raghavan J. found on the first point that the effect of Clause (7) of the agreement is a diversion of a portion of the profits by title paramount and on the third point held that the amount is an allowable deduction under Section 10(2)(xv) of the Indian Income-tax Act, 1922. Isaac J. took a contrary view on both the points. The case was, therefore, referred to Mathew J. who agreed with Raghavan J. on both the points. The question referred was thus answered in favour of the assessee and against the department. The decision of this court is reported in Commissioner of Income-tax v. Travancore Sugars and Chemicals Ltd.

9. The questions now before us are identical with the one referred for the assessment year 1958-59. We are bound by the decision in Travancore Sugars & Chemicals Ltd. v. Commissioner of Income-tax, in the interpretation of Clause (7) of annexures ' A ' and ' B '. We, therefore, hold that the payments to the Government under Clause (7) of annexures 'A' and ' B ' during the assessment years 1959-60 to 1962-63 are in the nature of revenue expenditure.

10. It was not contended before us that as a result of annexures ' A ' and ' B ', there was a joint venture between the assessee and the Government to share profits.

11. We are, therefore, left with only two aspects, viz., (1) whether the payments in pursuance to Clause (7) of the agreement amount to diversion of profits by title paramount, and (2) whether the assessee is entitled to deduction of the amounts in question under Section 10(2)(xv) of the Indian Income-tax Act, 1922, and under Section 37 of the Income-tax Act, 1961.

12. Counsel for the revenue pleaded for the acceptance of the view of Isaac J. on both the aspects in preference to the majority view expressed by Raghavan J. and Mathew J.

13. We shall take up the first question whether the payment of the amounts to the Government is a diversion of profits by title paramount. Counsel for the revenue relied on the principle of law stated by Lord Macmillan in Pondicherry Railway Co. v. Commissioner of Income-tax, [1931] 5 I.T.C. 363, 370; A.I.R. 1931 P.C. 165. There the assessee who was a company incorporated in England constructed a railway line within the French territory in India. Under the agreement the assessee was to pay to the French Government a portion of the net profits in return for the land given by the French Government in the French territorry in India for the construction of the railway line. The question arose whether the assessee is entitled to claim deduction of the portion of the profits paid to the French Government for calculating the assessable income under the Indian Income-tax Act, 1922. Lord Macmillan, speaking for the Judicial Committee, observed :

' It is claimed for the company that when it makes over to the Colonial Government their half of the net profits it is making an expenditure incurred solely for the purpose of earning its own profits. The court below has unanimously negatived this contention and in their Lordships' opinion has rightly done so. A payment out of profits and conditional on profits being earned cannot accurately be described as a payment made to earn profits. It assumes that profits have first come into existence. But, profits on their coming into existence attract tax at that point and the revenue is not concerned with the subsequent application of the profits. It was persuasively argued that inasmuch the Pondicherry Company as a condition of making any profits must pay over one-half of them to the French authorities and could never itself reserve the whole profits, the payment so made was of the nature of a rent payable by the company or a charge on the undertaking. But, the analogy in their Lordships' opinion is imperfect, and the form in which the parties have contracted that the French Government shall participate in the success of the undertaking precludes the deduction claimed.'

14. Though the ultimate decision was based on the form of the contract between the parties yet the observations which are rather wide support the revenue. But, these observations have been explained by the same learned judge in a later decision of the House of Lords reported in Union Cold Storage Co. Ltd. v. Adamson (H.M. Inspector of Taxes), [1931] 16 T.C. 293 (H.L.). In this case the assessee had taken on lease certain lands and premises after providing for payment of rent at 960,000 a year. The covenant in the lease provided that if at the end of any financial year it was found that after providing for this rent the result of the company's operations was insufficient to pay both interest on its charges and debentures and dividends the rent should abate to the extent of deficiency. The assessce-company claimed the rent paid in the two respective years to be deducted in computing its profits for assessment to income-tax. The plea of the assessee was upheld. Lord Macmillan explained his observations in the earlier case in the following manner at pages 331 and 332 :

' In that case, Pondicherry Railway Company v. Commissioner of Income-tax [1931] 5 I.T.C. 363 ; A.I.R. 1931 P.C. 165 therefore, the ascertainment of profits preceded the coming into operation of the obligation to pay, and when the profits had been ascertained the obligation was to make over one-half thereof to the French Colonial Government. The obligation was conceived in language entirely different from the language which your Lordships have been considering in the present appeal, where there is a common form obligation in a lease to pay rent. When, therefore, in the passage referred to by the Attorney-General in the Pondicherry case, I said that a ' payment out of profits and conditional on profits being earned cannot accurately be described as a payment made to earn profits', I was dealing with a case in which the obligation was, first of all to ascertain the profits in a prescribed manner, after providing for all outlays incurred in earning them, and then to divide them. Here, the question is whether or not a deduction for rent has to be made in ascertaining the profits, and the question is not one of the distribution of profits at all.'

15. The revenue, therefore, cannot derive much assistance from Pondicherry Railway Company v. Commissioner of Income-tax.

16. At this stage we shall examine the two decisions of the Judicial Committee in Raja Bejoy Singh Dudhuria v. Commissioner of Income-tax, [1933] 1 I.T.R. 135, 138 (P.C.) and P.C. Mullick v. Commissioner of Income-tax, [1938] 6 I.T.R. 206 (P.C.). In Raja Bejoy Singh Dudhuria v. Commissioner of Income-tax, the assessee on the death of his father succeeded to the family ancestral estate. His step-mother brought a suit for maintenance which was compromised. By the terms of the compromise decree the assessee was directed to pay her maintenance every month. The assessee claimed that the maintenance paid by him to his step-mother should be excluded in computing his income for assessment under the Indian Income-tax Act, 1922. Lord Macmillan, on behalf of the Board, observed :

' When the Act by Section 3 subjects to charge 'all income' of an individual, it is what reaches the individual as income which it is intended to charge. In the presnt case the decree of the court by charging the appellant's whole resources with a specific payment to his step-mother hasto that extent diverted his income from him and has directed it to his step-mother; to that extent what he receives for her is not his income. It is not a case of the application by the appellant of part of his income in a particular way, it is rather the allocation of a sum out of his revenue before it becomes income in his hands.'

17. The claim of the assessee in that case was upheld.

18. In P.C. Mttllick v. Commissioner of Income-tax, the assessees were appointed executors by the testator under his will and they were directed to pay Rs. 10,000 out of the income on the occasion of his first anniversary. The executors paid Rs. 5,537 for such expenses .and claimed deduction of this money to determine the assessable income. Their Lordships of the Judicial Committee observed:

' The payment of the Shradh expenses and the costs of probate were payments made out of the income of the estate coming to the hands of the appellants as executors, and in pursuance of an obligation imposed by their testator. It is not a case like the case of Raja Bejoy Singh Dhudhuria v. Commissioner of Income-tax, in which a portion of income was by an overriding title diverted from the person who would otherwise have received it. It is simply a case in which the executors having received the whole income of the estate apply a portion in a particular way pursuant to the directions of their testator, in whose shoes they stand.'

19. The several High Courts in India have applied the above mentioned decisions of the Judicial Committee in diverse manner. It is not necessary, in our view, to examine all of them. Suffice it to say that the Supreme Court in Commissioner of Income-tax v. Sitaldas Tirathdas, [1961] 41 I.T.R. 367. 374, 375. after reviewing the decisions of the Judicial Committee and some of the decisions of the High Courts, has enunciated the principles that should guide us for the decision of the point mooted before us. In the Supreme Court decision the assessee in computing his total income for purposes of income-tax sought to deduct amounts paid by him as maintenance to his wife and children under decree of court passed by consent. There was no charge created in favour of the wife and children for their maintenance in the properties of the assessee. Hidayatullah J. (as he then was), speaking for the court, enunciated the guiding principles in the following words:

' In our opinion, the true test is whether the amount sought to be deducted, in truth, never reached the assessee as his income. Obligations, no doubt, there are in every case, but it is the nature of the obligation which is the decisive fact. There is a difference between an amount which a person is obliged to apply out of his income and an amount which by the nature of the obligation cannot be said to be a part of the income of the assessee. Where by the obligation income is diverted before it reaches the assessee, it is deductible ; but where the income is required to be applied to discharge an obligation after such income reaches the assessee, the same consequence, in law, does not follow. It is the first kind of payment which can truly be excused and not the second. The second payment is merely an obligation to pay another a portion of one's own income, which has been received and is since applied. The first is a case in which the income never reaches the assessee, who even if he were to collect it, does so, not as part of his income, but for and on behalf of the person to whom it is payable. '

20. Then the learned judge examined the facts of the case in the light of the principles stated by him thus :

' In our opinion, the present case is one in which the wife and children of the assessee who continued to be members of the family received a portion of the income of the assessee, after the assessee had received the income as his own. The case is one of application of a portion of the income to discharge an obligation and not a case in which by an overriding charge the assessee became only a collector of another's income. The matter in the present case would have been different, if such an overriding charge had existed either upon the property or upon its income, which is not the case. In our opinion, the case falls outside the rule in Bejoy Singh Dudhuria's case, and rather falls within the rule stated by the Judicial Committee in P.C. Mullick's case.'

21. The test laid down to distinguish between payment out of profits and a payment to earn profits is, therefore, very clear and admits of no doubt. The statement that a payment conditional on profits being ascertained cannot be a payment to earn profits has not been accepted as absolutely correct. In Indian Radio and Cable Communications Company Ltd. v. Commissioner of Income-tax, [1937] 5 I.T.R. 270, 277 (P.C.) Lord Maugham pointed out:

' It may be admitted that, as Mr. Latter contended, it is not universally true to say that a payment the making of which is conditional on profits being earned cannot properly be described as an expenditure incurred for the purpose of earning such profits. The typical exception is that of a payment to a director or a manager of a commisson on the profits of a company. It may, however, be worth pointing out that an apparent difficulty here is really caused by using the word ' profits' in more than one sense. If a company having made an apparent net profit of 10,000 has then to pay 1,000 to directors or managers as the contractual recompense for their service during the year, it is plain that the real nut profit is only 9,000. A contract to pay a commission at 10 per cent. on the set profits of the year must necessarily be held to mean on the net profits before the deduction of the commission, that is, in the case supposed, a commission on the 10,000.'

'There is a decision of the Court of Appeal in British Sugar . v. Harris (Inspector of Taxes), [1937] 21 T.C. 528, 546, 550; [1939] I.T.R. 101 (C.A.) which in this connection can advantageously be referred to. In this case the assessee-company agreed with four other companies to pay them a percentage of the ' net profits ' in consideration of their giving to the assessee-company the full benefit of their technical and financial knowledge. ' Net profits ' are, according to the agreement, to be ascertained alter payment of all expenses and after providing for interest on debentures but before making any provision for depreciation. It was held that in computing the profits the assessee is entitled to deduct the sums paid to the four companies. Greene M.R., at page 105, observed:

'Speaking for myself I find the greatest assistance from two passages, one of them a passage in the case of Union Cold Storage Co. v. Adamson, where Romer L.J. said that, in order to succeed in that case, the Crown would have had to establish the following proposition i ' That where a company, for the purpose of enabling it to carry on its trade and earn profits in its trade, places itself under an obligation to make money payments, the amount of which is dependent upon the profits earned, or the payment of which is contingent upon certain profits being earned, payments made in discharge of that obligation are payments made out of the profits or gains of the company, within the meaning of Rule 3(1).' '

22. He added;

' In my opinion, for that proposition there is no foundation at all in principle or on authority. '

23. Romer L.J. pointed out, at page 108 :

' The payment that has to be made in this case, is in my opinion, a payment that is made, the amount of which has to be ascertained by reference to certain profits of the company ascertained in a particular way. The payment is a payment necessary for the purpose of enabling the company or the trader to earn the profits of its trade, and therefore it is a legitimate deduction from its profits when ascertained for the purpose of assessment under Schedule D. '

24. The above passages therefore are quite sufficient to hold that even a payment which is made conditional on profits being ascertained can be a payment to earn profits. But the difficulty is the application of the principle to decide the particular category in which a given case falls.

25. If Clause (7) of annexures ' A ' and ' B ' is interpreted in the light of these principles it is clear that the expression ' net profits ' referred totherein is not the ' profits and gains of business ' for assessment within the meaning of the Indian Income-tax Act, 1922, or the Income-tax Act, 1961, but only for the purpose of determining the amount payable to the government to enable the assessee to earn the net profits. The obligation under the contract evidenced by annexures' A' and ' B ' is such that the amount involved cannot be considered to belong to the assessee. There is a diversion of the amount even before they reached the assessee. Subba Rao J. (as he then was) in Poona Electric Supply Co. Ltd. v. Commissioner of Income-tax, [1965] 57 I.T.R. 521, [1965] 3, S.C.R. 818 (S.C.) after quoting with approval the Decisions of the Judicial Committee in Indian Radio and Cable Communications Co. Ltd. v. Commissioner of Income-tax and British Sugar . v. Harris, explained the concept of ' real income ' for assessment in the following manner:

' Income-tax is a tax on the real income, i.e., the profits arrived at on commercial principles subject to the provisions of the Income-tax Act. The real profit can be ascertained only by making the permissible deductions. There is a clear-cut distinction between deductions made for ascertaining the profits and distributions made out of profits. In a given case whether the outgoings fall in one or the other of the heads is a question of fact to be found on the relevant circumstances, having regard to business principles. Another distinction that shall be borne in mind is that between the real and the statutory profits, i.e., between the commercial profits and statutory profits. The latter are statutorily fixed for a specified purpose. If we bear in mind these two principles there will be no difficulty in answering the question raised. '

26. The effect of Clause (7) is to provide for a paramount contractual charge over the net profits of the company ascertained in accordance with its terms.

27. In the light of our discussions stated above, we hold that the amounts payable for the assessment years in question in pursuance to Clause (7) of the agreement are on the basis of a paramount right created by the contract between the parties and they are liable to be deducted under Section 10(2)(xv) of the Indian Income-tax Act, 1922, and Section 37 of the Income-tax Act, 1961. We answer these questions in the affirmative, that is, in favour of the assessee and against the department.

28. A copy of this judgment will be forwarded to the Income-tax Appellate Tribunal, Cochin Bench, under the seal of this court and over the signature of the Registrar.


Save Judgments// Add Notes // Store Search Result sets // Organizer Client Files //