1. The first of these two references has beenmade under Section 66(1) and the second underSection 66(2) of the Income-tax Act of 1922, hereafter referred to as the Act. Reference No.6 of 1962 has been made by the Income-tax Appellate Tribunal (Delhi Bench ' C') on an application of the assesses, in respect of the following four questions:
' (1) Whether the proceedings initiated under Section 34(1) (a) were barred by the periodof limitation ?
(2) Whether it could be said that the assessee had business connection in British India within the meaning of Section 42(1) of the Income Tax. Act?
(3) If the answer to question No. (2) is in the affirmative, then whether the mere purchase of the goods could be said to be an operation within the meaning of Section 42 (3) of the Income Tax Act?
(4) Whether any profits could be attributable to and deemed to arise on mere purchase of the goods?'
As the Tribunal refused to refer the fifth question relating to the adoption of the rate of the profit attributable to the act of purchase of the goods by the assessee in British India, the assessee moved this Court and obtained a direction on August 31, 1962 for the reference of that question as well to this court. This is how reference No, 45 of 1962 has been made in respect of the following question which we have numbered as question No. (5) for facility of reference, --
'Whether in the facts and circumstances of the present case, 20% of the profit could be reasonably attributable to the acts of purchase of the assessee in British India?'
As both the references relate to the same business transactions of the assessee and pertain to the same assessment year, we shall dispose them of together.
2. The assessee is the Bikaner Textile Merchants Syndicate Limited, Bikaner, which was a company incorporated in the former Bikaner State. The company was a non-resident company which commenced its business in October 1946 and the present dispute relates to its first assessment for the assessment year 1948-49 covering the accounting period ended on Diwali 1947. The company was formed because there was acute scarcity of cloth in the then Bikaner State in the year 1946-47 and it was required to operate in accordance with the scheme formulated in letter No. 4113 dated November 6, 1946, of the Minister of Civil I Supplies, Government of Bikaner, which was circulated to all concerned by the Director of Civil Supplies under his endorsement No. 375 T datedNovember 16, 1946.
The scheme set out in that letter was that .the quota of cloth allotted to the State of Bikaner by the authorities concerned in British India would be procured by a syndicate of wholesalers which had already been formed into a joint stock concern. It was stipulated that the Syndicate would sell the cloth procured by it to retailers at 12 per cent above the mill price, but that a part of that income would be apportioned under various heads enumerated in the scheme, leaving a net profit of 1 1/2 per cent to the Syndicate. It was. one of the conditions of the scheme that eight experienced and influential merchants belonging to the Syndicate would work as its active partners andwould receive 1 per cent as commission from the Syndicate by way of remuneration for going to the producing centres to bring the quota allotted to the State from the different stations. One of the eight wholesalers was to be nominated as the 'importer'. Thus far, the facts are not in dispute. It is also not in dispute that the company purchased cloth in British India worth Rs. 39,72,0797-during the assessment year in question and that those purchase? were confined to the following parties, as follows:
(i)Chat turbhuj das Karnani, Ahmedabad12,44,403/-(ii)Chatturbhujdas Karnani11,38,475/-(iii)Chhabildass Hargopal, Ahmedabad3,57,532/-(iv)Dungarmal Chandanmal, Beawar12,30, 894/-(v)Jaichand Lal Gordanmal, Ajmer.775/-
3. The Income-tax Officer, Central Circle IV, Delhi, took up the question of assessing the Company to income-tax under Section 42 of the. Act and held that the net profit attributable to the sales made in respect of the British Indian purchases would be Rs. 41,014/- and that one-thirdof these profits amounting to Rs. 13,671/- should be taken as having accrued in British India and should be chargeable to income-tax. On an appeal by the assessee, the Appellate Assistant Commissioner, by his order dated April 4, 1960, also rejected the assesssee's contention that its case was not covered by Section 42(1) read with Section 42(3) of the Act. The learned. Appellate Assistant Commissioner held that there was 'a continuity in the business relationship between the assessee and the Textile Commissioner of Bombay and the producers and distributors of the textile goods in British India'. In reaching this conclusion, he took note of the series of transactions which wereentered into by the assesee as well as the manner in which the goods were actually purchased by it, and held that the assessee had a business connection to British India within the meaning of Section 42(1).
The learned Assistant Commissioner also rejected the assessee's other contention in regard to the computation of the net profit attributableto the sales of the goods procured or purchased in British India, but he reduced the percentage of the profit from 33 1/2 per cent to 20 per cent. Indoing so, he took note of the fact that under a somewhat contemporaneous agreement for theavoidance of double taxation with Pakistan, only 10 per cent of the profit had been attributed to the purchase operation, but he held that as the profit of the assessee depended mainly on itsefforts to secure or purchase the goods due to theirscarcity, the problem was one of procurement and not of sale. Holding that if the goods could be purchased, the profits were assured, the learned Appellate Assistant Commissioner attributed 20 per cent of the profits to the purchase operations in British India and directed the Income-tax Officer to modify the assessment accordingly.
4. Once again, the assessee went up in appeal.but it was rejected by the Income-tax Appellate Tribunal on October 4, 1960. In that appeal, the assessee raised two preliminary objections challenging the jurisdiction of the Income-tax Officer and raising the question of limitation under Section 34 (1) (a). Both those objections were rejected by the Tribunal. On the substantial question whether the assessee had any business connection in British India within the meaning of Section 42(1) of the Act, the Tribunal reached the conclusion that there was 'a continuity regularity and even flow of the purchase operations in the profit making scheme of the assessee' and that there was therefore a regular business connection under that Section so far as the five suppliers of cloth referred to above were concerned.
The Tribunal also repelled the contention that no profits could be deemed to be related or attributable to the purchase operations. It held that profits in a commercial transaction depended on. the ability to secure goods at a cheap rate and the ability to sell them at a higher rate. It was accordingly decided by the Tribunal that as there was acute scarcity of cloth in the Bikaner State, the profits could be attributable to the assessee's ability to secure the commodity by purchase in British India. The Tribunal took the view that the profits which arose to the assessee could be ascribed to the purchase operations alone, and maintained the order of the Appellate Assistant Commissioner in regard to the rate of 20 per cent at which the assessee was required to pay the income-tax.
5. These are the salient facts and circumstances of the case and we have set them out at some length in order that the controversy before us may be appreciated in its proper perspective.
6. We may start by saying that Mr. M.D. Bhargava, learned counsel for the assessee, frankly conceded that he would not press questions Nos. (1) and (3) (mentioned above) for consideration by us. We would therefore answer question No. (1) in the negative and as, for reasons to be stated presently, we propose to answer question No. (2) in the affirmative, we would answer question No. (3) in the affirmative.
7. We shall now address ourselves to the second question, which is the main point In controversy between the parties, the point for determination being whether it could be said that the assessee had business connections in British India within the meaning of Sub-section (1) of Section 42 of the Act. That sub-section, excluding its three provisos with which we are not directly concerned, stood at the relevant time as follows: --
'42 (1) All income, profits, or gains accruing or arising, whether directly or indirectly, through or from any business connection in British India, or through or from any property in British India, or through or from any asset or source of income in British India, or through or from any money lent at interest and brought into British India in cash or in kind, or through or from the sale, exchange or transfer of a capital asset in British India, shall be deemed to be income accruing or arising within British India, and where the person entitled to the income, profits or gains is not:resident in British India, shall be chargeable to income-tax either in his name or in the name of his agent, and in the latter case such agent shall be deemed to be, for all the purposes of this Act the assessee in respect of suck income-tax'.
It is significant that the preposition 'in' has been used in the sub-section and not the preposition 'with', so that the business connection contemplated by the sub-section is something wider than mere doing business with British India. The expression 'business connection' has not been defined in the Act although Section 2(4) defines 'business' to include any trade, commerce, or manufacture or any adventure or concern in the nature of trade, commerce or manufacture. The definition is obviously an inclusive one and we are in agreement with the view expressed in Commr. of Income-tax, Bombay City I v. Evans Medical Supplies Ltd. : 36ITR418(Bom) that the expression 'business connection' in Section 42(1) is an expression of 'wide and indefinite import' and that that expression is different from, though undoubtedly related to, the expression 'business' as defined in the Act. This view was in fact laid down by their Lordships of the Privy Council as far back as 1935 in Commr. of Income Tax, Bombay v. Currimbhoy Ebrahim and Sons, Ltd. (1935) 3 ITR 395: AIR 1936 PC I.
8. It is now well settled that a business connection of the nature contemplated in Sub-section (1) of Section 42 is a relationship which connotes some element of continuity between the person in British India who helps to make the profits and the person outside British India who receives or realises the profits, and that an isolated transaction between a non-resident and a resident in British India, without any course of dealings which could be described as a business connection does not attract the operation of Section 42. This view has been taken in Commissioner of Income-tax Bombay v. Metro Goldwyn Hayer (India) Ltd. : 7ITR176(Bom) , Bangalore Woollen, Cotton and Silk Mills Co., Ltd. v. Commr. of Income-tax, Madras : 18ITR423(Mad) , Anglo-French Textile Co., Ltd. v. Commr. of Income-tax, : 18ITR888(Mad) , Abdullabhai Abdul Kader v. Commr. of Income-tax : 22ITR241(Bom) and A.P. Damodara Shenoy v. Commr. of Income-tax, Bombay City : 26ITR650(Bom) .
In fact the matter stands concluded by a decision of their Lordships of the Supreme Court in Anglo-French Textile Co. Ltd. v. Commr. of income-tax : 23ITR101(SC) to the same effect. It is thus necessary that in order to establish a business connection within the meaning of Section 42 (1) there should be an element of continuity in the relationship between a non-resident and a resident in British India. It may also be pointed out that it is not the length of time during which the connection has subsisted but the nature of the connection which would determine whether a business connection within the meaning of Section 42(1) has been established or not. Thus a course of numerous dealings within a short time having an element of continuity aboutthem would be sufficient to establish a business connection. We hold accordingly.
9. Mr. Bhargava was however at pains to argue that it is necessary to establish such a connection that the non-resident who is subjected to assessment under Section 42(1) should have an agent in British India and that such an agency has not been proved in the instant case. It was also urged that the assessee was bound, under the permits allotted to it, to restrict its purchase to quantities and persons mentioned in those permits. We have carefully considered this aspect of the case and are unable to agree that agency is the sine qua non of the business connection contemplated by Sub-section (1) of Section 42.
As we have pointed out, the expression 'business connection' cannot be said to be confined to the definition of the term 'business' in Section 2(4) of the Act, although it is related to that definition. In fact it is 'any' business connection in the taxable territories which would attract the application of Sub-section (1) of Section 42 and w' are disposed to hold that such a business conneo tion may exist with or without any regular agency or branch or any definite organisation in the taxable territories. While we agree that usually such a connection exists through an agent or an organisation of the non-resident assessee in the taxable territories, we see no reason, on principle or authority why, if a non-resident principal can establish a business connection with a party in the taxable territories, through an agent or an organisation resident or situate in the taxable territories, such a business connection cannot be directly established between the non-resident principal and the resident parties in the taxable territories between whom there has been a continuous course of dealings so as to establish a business connection. 'The language of Section 42 (1) is very comprehensive and, among other things with which we, are nor concerned, what it requires is a business connection in the, taxable territories and it does not lay down that such a connection must necessarily exist through the instrumentality of an agent or a. branch organisation in the taxable territories.
We are therefore unable to accept Mr. Bhargava's argument that an agency had to be established between the assessee and the persons fromwhom it procured the cloth in, order to attractthe provisions of Sub-section (1) of Section 42, provided, of course, that there is an element of continuity in their relationship. We are fortified, in.coming 'to this conclusion, by the view, adopted inThe Commissioner of Income-tax, v. NationalMutual Association of Australasia Ltd. ILR 57 Bom 519: AIR 1933 Bom 427 wherein RangnekarJ. observed as follows:--
'All that is necessary is that there should be a 'business' in Brtish India and a connection between a non-resident person or company and that 'business' and that the non-resident person or company has earned an income through such connection.'
This test was applied by Rangnekar J. as far back as 1933, but it has stood the test of tune. It was subscribed to by their Lordships of the Allahabad High Court in Hira Mills Ltd. Cawn-pore v. Income-tax Officers, Cawnpore : 14ITR417(All) in which their Lordships observed that they found an explanation of the meaning of the terra 'business connection' in Rangnekar J.'s observation 'which, with great respect, we think approaches as nearly to a definition as possible in the circumstances'. The same view was taken by their Lordships of the Madras High Court in the case of Bangalore Woollen Cotton and Silk Mills Co., Ltd. : 18ITR423(Mad) and by their Lordships of the Bombay High Court in : 36ITR418(Bom) . We are in respectful agreement with this view.
10. We have therefore to see whether there was (1) a business in British India, (ii) a connection between the assesses and that business and (iii) whether the assessee could be said to have earned an income through such a connection whether directly or indirectly and also whether there has been a continuity and regularity of relationship between the assessee and the business in British India.
11. This takes us to the facts of the case for our decision would undoubtedly depend on the facts and circumstances which have been established. There can be no doubt, in our opinion, that' the assessee carried on business in British India inasmuch as it purchased textiles of the value' of Rs. 39,72,079/- in those territories. The next question is whether there was a connection between the assessee and that business. It has been argued by Mr. Bhargava that the assessee had no choice in the matter of purchasing the cloth because the purchases had to be made in accordance with the permits issued by the Textiles Controller of Bombay and that the assessee was merely concerned or had connection with the controlling authorities concerned in the Bikaner State who, in their turn secured the permits and passed them on to the assessee.
The learned counsel has further argued that the actual purchases under the permits were entrusted to a separate agency which had been created under the scheme envisaged in the letter of the Minister of Civil Supplies No. 4113 dated November 6, 1946, to which reference has already been made above, and that the assessee came into the picture only when the goods were actually imported in the Bikaner State and were entrusted to it for distribution to the retail dealers. We find no force in these arguments for it is not in dispute that it was the assessee which had nominated eight of its experienced and influential merchants to work as its active members and that it, were those members who went to British India to purchase cloth from the producing centres for distribution by the assessee. Thus those members functioned on behalf of the assessee and it does not matter that a separate, remuneration of one per cent was allowed to them for their extra labour. The, important fact to remember is that the imports were undoubtedly for and on behalf of the assessee and the provision for the payment of a separate remuneration to the assessee's eight experienced and influential members cannot negative that basic fact.
It is also futile to argue that the permits were entrusted to the assessee in Bikaner and that theassessee came into the picture only on the import of the goods in that State, for we have no doubt that the entire operation of making the purchases in British India was made on behalf of the assessee. So also, it cannot matter that the mills from which the quota was to be purchased were named in the permits. Here again, it is significant that it has not been disputed by the assessee that the choice of selecting the suppliers or distributors of the cloth still rested with the assessee.
We, therefore, hold that there was definitely a connection between the assessee and the firms from whom it purchased the textile goods in question. It can also be easily concluded that there was continuity in that business connection inasmuch as the assessee repeatedly had business dealings with M/s. Chatturbhujdas Karnani from whom it purchased cloth of the total value of Rs. 23,82, 878/- and with M/s. Chhabildass Hargopal of Ahmedabad from whom it purchased cloth of the total value of Rs. 3,57,532/-. It cannot also be doubted that there was a similar connection with M/s Dungarmal Chandanmal of Beawar as the assessee purchased cloth of the total value of Rs. 12,30,894/- from them. It has to be remembered that all these purchases were made within a period of cne year. As has been held in : 26ITR650(Bom) the large number of the orders which were given and executed and the value of the goods involved in the transactions constitute a continuity which is sufficient to establish a business connection within the meaning of Section 42(1) of the Act.
We are, therefore, satisfied that there was a business connection between the assessee and the Mills in British India and the circumstance that this business was controlled by a permit system really does not affect that conclusion.
12. It has then to be seen whether the assesses who is a non-resident could be said to have earned the income through its business connection in British India. The simple answer to this question is that the assessee procured textile goods of the total aggregate value of Rs. 39 lakhs odd from that business connection and was admittedly allowed a net profit of 1 1/2 per cent thereon. If is therefore futile to challenge that the assessee earned the income on account of that business connection.
13. Thus the tests set out by us above for purposes of deciding whether the assessee had any business connection in British India within the meaning of Section 42 (1) of the Act, have been amply fulfilled and we would answer question No. (2) in the affirmative.
14. The next question for consideration iswhether any profit could be attributable and be deemed to ar'se on the mere purchase of the goods by the assessee in British India. On this point Mr. Bhargava has placed reliance on (Bhagwat) Jiwan Das v. Income-tax, Commr. Lahore AIR 1929 Lah 609 . It would be sufficient to say that that was a case of a resident of British India and not a non-resident and turned oil the interpretation which was placed upon Section 4 (1) of the Income-tax Act, the reasoning being that under that sub-section a person residing in 'British Indiawas not liable to be assessed to income-tax on any part of the profits derived from the sale in a foreign country of the goods purchased by him in British India when the profits had neither been received in nor brought into, British India. It was in that context that their Lordships, of the Lahore High Court made the observation that no part of the profits could be said to have accrued or arisen in British India merely because the goods were purchased in British India. That case was not governed by Section 42 (1) or a corresponding provision to that Section and cannot therefore be accepted as authority for the argument that the profits in a case like the present should not be attributable to and be deemed to arise on the mere purchase of the goods.
15. The point to be noted is that the assessee there was able to secure a clear profit of 1 1/2 per cent on the goods purchased by it in British India and as no intermediary operation or process was required in order to earn those profits, there can be little doubt that the profits arose merely as a matter of course as soon as the goods were purchased and were brought into the Bikaner State.
It was held in J. Webb Sons and Co. Inc. Philadelphia v. Commissioner of Income-tax, East Punjab and Delhi that the purchase in British India of wool by a non-resident company as raw material for use in manufacturing carpets is an operation carried out in the coarse of its business by a person or firm which manufactures carpets and that the purchase contributes to an appreciable degree to the ultimate profit which is realised on the sale of the manufactured articles. The learned Judges further observed that a wise purchase of raw materials must contribute to a considerable extent to the profits realised on the sale of manufactured products and one way in which this can be brought about is by the manufacturers' direct purchase of raw materials in the countries where they are best available.
There can be no doubt that the present case stands on a much higher footing. The acquisition of goods which were manufactured at the time with which we are concerned, having regard to their scarcity in the market, was the main thing, and, therefore, we have no hesitation in holding that a part of the profits was certainly attributable to and should be deemed to arise, on the mere purchase of the goods in British India and we would answer question No. (4) in the affirmative.
16. The fifth and the last question for consideration is whether in the facts and circumstances of this case 20 per cent of the profits could be reasonably attributed to the purchase operations in British India within the meaning of Section 42 (3) of the Act.
In this respect Mr. Bhargava has invited our attention to Annamalais Timber Trust and Co. v. Commr. of Income-tax, Madras (1961) 21 ITR 781 for the proposition that the apportionment of profits under Section 42 (3) of the Act should not be arbitrary but should be on a rational basis and he has contended that such an apportionment should be nominal. He has also invitedour attention to the schedule appended to the agreement for the avoidance of double taxation with Pakistan under which 10 per cent of the profit was attributed to the purchase operations. We entirely agree that apportionment of such profits should not be arbitrary and that it should be on a rational basis. We are, however, not persuaded that the case of Annamalais Timber Trust and Co. : 41ITR781(Mad) bears any resemblance to the present case for in that case the contract alone was entered into within the taxable territories whereas all the other trading operations took place outside those territories.
In the instant case, there was an acute shortage of cloth and. the assessee had virtually a monopoly for its import and its profits were assured as soon as it procured the cloth under the permits which were granted to it for its import from British India. This is therefore a case in which, the department's assessment of the profits at 20 per cent cannot be said to be improper or arbitrary for the assessee had no other operation to perform in order to earn the profit once it had procured the cloth from British India. Under the circumstances, we would answer the fifth question in the affirmative.
17. For the reasons mentioned above, we answer question No. (1) in the negative and questions Nos. (2), (3), (4) and (5) in the affirmative and direct that the assessee shall pay the costs of the two references.
18. I agree.