S.K. Mal Lodha, J.
1. The Income-tax Appellate Tribunal, Bombay Bench 'E' (for short 'the Tribunal'), has referred the following two questions for the opinion of this court, which are said to arise out of its order dated April 28, 1977, passed in Income-tax Appeals Nos. 256 and 257/JP) 74-75 relating to the assessment years, 1969-70 and 1970-71 :
'1. Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that the reassessment and the disallowance made following the application of Section 40A of the Income-tax Act, 1961, are not justified ?
2. Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that even if the provisions of Section 40A of the Income-tax Act, 1961, are applied, the payments to non-relatives of the directors should not be subjected to the test laid down in Section 40A(2) of the Income-tax Act, 1961 ?'
2. The assessee is M/s. Ayurvedic Sevashram (P) Ltd., Udaipur. It previously had as managing agents, M/s. Jamnalal Sons Pvt. Ltd. After the abolition of the managing agency, it entered into an agreement dated July 20, 1960, with five persons : (1) Shri Ram Krishna Bajaj, who was previously chairman and managing director of the managing agents, Manalal Sons (P) Ltd.; (2) Smt. Vimladevi Bajaj, who was a joint managing director of the managing agents and wife of Ramkrishna Bajaj ; (3) Jankidevi Bajaj, who was the mother of Ramkrishna Bajaj; (4) Smt. Suman Jain, who was the director of managing agents, Jamnalal Sons(P) Ltd., and daughter of the brother of Ramkrishna Bajaj ; and (5) Bharatkumar who was Ramkrishna Bajaj's sister's son, for arrangement of finance to the assessee in consideration of guarantee commission. Subsequently, there was a supplementary agreement by which the original terms between the assessee and the five persons were modified on February 6, 1965. By this, Shri Ramkrishna Bajaj and Smt. Vimladevi Bajaj withdrew and Smt. Mohini-devi Soni and Smt. Rupa Rani Bajaj were introduced in their place. The other terms of the agreement, even after their introduction, remained the same. The five persons were designated as financiers. They were required to arrange finances for the assessee-company up to the limit of Rs, 20 lakhs. It was open to them either to advance any amount up to the limit of Rs. 30 lakhs by themselves or to guarantee the finances by other financiers. Clause 4 of the agreement is material for our purpose. According to it, five persons were entitled to commission of 1% on the net sales of the company. Certain observations were made by the Inspecting Assistant Commissionerof Income-tax during the course of inspection of the records that the amounts of guarantee commission paid to the guarantors was excessive and unreasonable and that the provisions of Section 40A of the Income-tax Act, 1961 (No. XLIII of 1961) (for short 'the Act'), were attracted. After a notice under Section 148 of the Act, at the time of passing the reassessment order, the Income-tax Officer disallowed a sum of Rs. 83,227 of the guarantee commission in respect of the assessment year 1969-70. He also disallowed Rs. 83,860 in respect of the assessment year 1970-71, by invoking the provisions of Section 40A of the Act. The Appellate Assistant Commissioner, by his order dated March 16, 1974, confirmed the disallowances made by the Income-tax Officer in respect of the assessment years 1969-70 and 1970-71. The assessee filed further appeals before the Tribunal. The Tribunal allowed the appeals. The Tribunal, by its order dated April 28, 1977, ordered that the Inspecting Assistant Commissioner was right in ordering for the reassessment and, therefore, the reassessment was justified under Section 147(b) of the Act. On the question relating to the applicability of Section 40A(2) or Section 40(c)(i), it was held that Section 40(c) is applicable and, therefore, no part of the guarantee commission is disallowable. An application was filed by the Department under Section 256(1) of the Act. After allowing the application, the aforesaid two questions have been referred for our opinion.
3. We have heard Mr. B. R. Arora for the Revenue, and Mr. R. L. Maheshwari, learned counsel for the assessee-non-petitioner, and have carefully examined the assessment orders of the Income-tax Officer in respect of the assessment years 1969-70 and 1970-71, the order of the Appellate Assistant Commissioner and the order of the Tribunal. The following facts are relevant in order to decide the questions referred to us.
4. For the assessment year 1969-70, relevant previous year ending on June 30, 1968, the guarantee commission was paid to the following persons :
' Assessment year : 1969-70
Amountof commission paid
1. Shri Ramkrishna Bajaj
He is the father of Shri Shishir Bajaj, director of thecompany - Rs. 19,999
2. Smt. Vimladevi Bajaj
She is the mother of Shri Shishir Bajaj and Shri Shekhar Bajaj, direc-tor of the company - Rs. 19,999
3. Smt. Suman Jain
She is a married sister of ShriShi-shir Bajaj & Shekhar Bajaj, director of thecompany - Rs. 19,999
4. Smt. Janki Devi Bajaj
She is the grandmother of ShishirBajaj & Shekhar Bajaj, directors of thecompany - Rs. 19,999
5. Shri Bharat Narayan Agarwal
This guarantor did not strictlyfall within the definition of ' relative ' as persection 2(41) of the Income-tax Act, 1961. He was also paid guarantee commission - Rs.19,999
5. Similarly, in respect of the assessment year 1970-71, previous year for which ended on Jane 30, 1969, the names of the persons who were paid guarantee commission are as under :
' Assessment year : 1970-71
Amountof commission paid
1. Smt. Janki Devi Bajaj
She is the grandmother ol Shishir Bajaj &Shekhar; Bajaj, directors of thecompany - Rs. 21,117.
2. Smt. Rupa Rani Bajaj
She is the director of the com-pany- Rs. 21,117.
3. Smt. Suman Jain
She is the married sister ofShishir Bajaj & Shekhar Bajaj, directors of the company - Rs. 21,117.
4. Smt. Mohini Devi Soni
She is the wifeof the director of the company - Rs.21,117
5. Shri BharatNarayan Agarwal
This guarantor did not strictly fall within the definition of 'relative' as per section 2(41) of the Income-tax Act, 1961. He was also paid a guarantee commis-sion of Rs.21,117.'
6. It will be clear from the statement made hereinabove that the names of the persons, who have been mentioned as relatives of the directors, are relatives as envisaged by Section 2(41) of the Act. The Tribunal proceeded on the premises that the payments which were made to each individual person was of equal share of the guarantee commission in accordance with the agreement. On these basic facts, we are called upon to decide and determine the question of applicability of Sections 40A(2) and 40(c)(i) of the Act,
7. It will be relevant to read the relevant provisions of the Act. Material part of Section 40A of the Act is as follows :
'Expenses or payments not deductible in certain circumstances.--(1) The provisions of this section shall have effect notwithstanding anything to thecontrary contained in any other provision of this Act relating to the computation of income under the head ' Profits and gains of business or profession '.
(2) (a) Where the assessee incurs any expenditure in respect of which payment has been or is to be made to any person referred to in Clause (b) of this sub-section, and the Income-tax Officer is of opinion that such expenditure is excessive or unreasonable having regard to the fair market value of the goods, services or facilities for which the payment is made or the legitimate needs of the business or profession of the assessee or the benefit derived by or accruing to him therefrom, so much of the expenditure as is so considered by him to be excessive or unreasonable shall not be allowed as a deduction.....
(b) The persons referred to in Clause (a) are the following namely:--.....
(ii) where the assesses is a com-pany, firm, association of persons or Hindu undivided familyany director of the company, partner of the firm, or member of the association or family, or any relative of such director, partner or member ;(iii) any individual who has a substantial interest in the business or profession of the assessee, or any relative of such individual..... ;
(v) a company, firm, association of persons or Hindu undivided family of which a director, partner or member, as the case may be, has a substantial interest in the business or profession of the assessee or any director, partner or member of such company, firm, association or family or any relative of such director, partner or member;.....
Explanation.--For the purposes of this sub-section, a person shall be deemed to have a substantial interest in a business or profession, if-
(a) in a case where the business or profession is carried on by a company, such person is, at any time during the previous year, the beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) carrying not less than twenty per cent. of the voting ppwer ; and
(b) in any other case, such person is, at any time during the previous year, beneficially entitled to not less than twenty per cent. of the profits of such business or profession.'
8. It may be stated here that Section 40A was inserted by Section 7 of Act No. XIX of 1968 with effect from April 1, 1968. Section 40 of the Act deals with the amounts not deductible. Material portion of it is as follows :
' 40. Notwithstanding anything to the contrary in Sections 30 to 39, the following amounts shall not be deducted in computing the income chargeable under the head 'Profits and gains of business or profession',--
(c) in the case of any company-
(i) any expenditure which results directly or indirectly in the provision of any remuneration or benefit or amenity to a director or to a person who has a substantial interest in the company or to a relative of the director or of such person, as the case may be ;
(ii) any expenditure or allowance in respect of any assets of the company used by any person referred to in Sub-clause (i) either wholly or partly for his own purposes or benefit,
if in the opinion of the Income-tax Officer any such expenditure or allowance as is mentioned in Sub-clauses (i) and (ii) is excessive or unreasonable having regard to the legitimate business needs of the company and the benefit derived by or accruing to it therefrom, so, however, that the deduction in respect of the aggregate of such expenditure and allowance in respect of any one person referred to in Sub-clause (i) shall, in no case, exceed-
*(A) Where such expenditure or allowance relates to a period exceeding eleven months comprised in the previous year, the amount of one hundred and two thousand rupees,
*(B) Where such expenditure or allowance relates to a period not exceeding eleven months comprised in the previous year, an amount calculated at the rate of eight thousand five hundred rupees for each month or part thereof comprised in that period ;
Provided that in a case where a such person is also an employee of the company for any period comprised in the previous year, expenditure of the nature referred to in Clauses (i), (ii), (iii) and (iv) of the second proviso to Clause (a) of Sub-section (5) of section 40A shall not be taken into account for the purposes of Sub-clause (A) or Sub-clause (B), as the case may be.
Explanation.--The provisions of this clause shall apply notwithstanding that any amount not to be allowed under this clause is included in the total income of any person referred to in Sub-clause (i).'
9. Section 40(c) is applicable to a company. According to Section 40(c) some items of expenditure are not to be deducted in computing the income as stated in the main para of Section 40. This provision is applicable to an assessee which is a company. It empowers the Income-tax Officer to disallow the whole or part of any expenditure incurred by a companywhich results directly in the provision of any remuneration or benefit or amenity to a director or to a person who has a substantial interest in the company or to a relative of the director or of such person, if in the opinion of the Income-tax Officer any such expenditure is excessive or unreasonable having regard to the legitimate business needs of the company and the benefit derived by or accruing to it therefrom with a further limit or ceiling on the expenditure permissible as a deduction. The deduction, in the present case, regarding which there is no dispute has resulted in the provision of remuneration paid to the relatives of the directors. The provisions of Section 40(c), thus, apply to the payments in so far as they are to the relatives of the directors. Section 40A(2), Clause (b)(ii), refers to an expenditure incurred by an assessee which is a company in respect of which payment has been or is to be made to any director or a relative of such director. This clause, thus, would apparently be applicable to the payments of guarantee commission to the relatives of the directors appearing in the list mentioned above. But the proviso to Section 40A(2) which controls it lays down that the provisions under the section shall not apply in the case of an assessee which is a company in respect of an expenditure to which Section 40(c)(i) applies. It follows that if the expenditure falls under Clause (i) of Section 40(c), that expenditure cannot be brought under Section 40A(2) of the Act. Section 40(c)(i) of the Act is applicable where the expenditure results in the provision of remuneration to a relative of the director of the company. A close examination of Section 40A(2) and Section 40(c)(i) shows that they are not applicable to the persons who are not relatives within the meaning of Section 2(41) of the Act. In our opinion, the guarantee commission paid which is in lieu of the services rendered by the directors in securing the finances for the company is in the shape of remuneration within the meaning of Section 40(c)(i) of the Act. If Section 40(c)(i) is applicable to the guarantee commission paid by the company, then, in view of Section 40(c)(i), no part of the guarantee commission can be disallowed. The necessary consequence is that if Section 40(c)(i) applies, then, by invoking Section 40A of the Act, no reassessment could be made. In our opinion, the Tribunal was right in holding that by invoking Section 40A of the Act, reassessment as well as the disallowance of the guarantee commission are bad in law and could not be sustained. Mr. B. R. Arora, learned counsel for the Revenue, has invited our attention to T. T. (P) Ltd. v. ITO : 121ITR551(KAR) to show that the payments in question fall within Section 40A(2) and not under Section 40(c) of the Act. In that case, the assessee company was carrying on business of manufacture of pressure cookers and allied products at Bangalore. The sale of these products was being effected by the assessee through its selling agents at Madras under an agreement. The assessee had beenmaking payments to the said firm for the services rendered in connection with the sale of its products. The question arose whether the said payments by the assessee could be treated as revenue expenditure and if so, to what extent It was held that the payments made to the selling agents by the company fell within Section 40A(2)(a) and not seection 40(c). It may be stated that the payments in that case were made by the company to its selling agents.
10. In CIT v. Avon Cycles (P) Ltd. , T. T. (P) Ltd.'s case : 121ITR551(KAR) was relied on. It was held that the firm which took the responsibility for the selling of the products of the company was the selling agents and was not covered by Section 40(c) of the Act. The question was, therefore, of the applicability of Section 40(c) of the Act. It was held that a perusal of the provisions of Section 40(c) showed that in case the provisions of Section 40(c) were applicable, the provision of Section 40A would not apply. As stated above, here the question involved in the case was with respect to the payment of guarantee commission by the company to the directors for the services rendered by them for securing finances for the company to the extent of Rs. 30 lakhs. Both the decisions relied on by the learned counsel for the Revenue are, therefore, distinguishable on facts and are of no avail in this case.
11. Having considered the provisions of Section 40A(2) and Section 40(c)(i), we are of the opinion that the Tribunal was right when it held that the reassessment and disallowance made on the basis of Section 40A of the Act are not justified.
12. In view of this, it is not necessary for us to make a probe in regard to question No. 2 for considering the alternative contention of the assessee.
13. The result is that question No. 1 is answered in the affirmative, i.e., in favour of the assessee and against the Revenue. It is not necessary to give a decision on question No. 2.
14. In the circumstances of the case, the parties are left to bear their own costs.
15. Let the Tribunal be informed of this order in accordance with Section 260(1) of the Act.