(1) Both the assessee and the Department were aggrieved, each with a part of the order of the Appellate Tribunal. On applications presented by them the Tribunal made a consolidated reference under S. 66(1) of the Income-tax Act and submitted three questions for the determination of this court.
(2) The questions arose out of the assessment proceedings for the assessment years 1949-50 and 1950-51.
(3) The second of the question, which is easiest answered, ran:
'Whether the dividends of Rs. 36,820 and Rs. 32,603 received in the previous years for assessment years 1949-50 and 1950-51 from Plantation Companies whose main business was agriculture can be said to include any agricultural income exempt under S. 4(3) of the Income-tax Act.'
The issue is no longer res integra and it is concluded by the decision of the Supreme Court in Mrs. Bacha F. Guzdar v. Commr. of Income-tax Bombay : 27ITR1(SC) . Dividends do not constitute agricultural income. The question is answered in the negative and against the assessee.
(4) We shall deal next with the first question 'Whether the aforesaid sum of Rs. 60,000 compensation received from the Tallier Estates Ltd., is assessable as a trading profit under the Income-tax, Excess Profits Tax and Business Profits Tax Acts.'
(5) The relevant facts as found by the Tribunal are as follows: The assessee company is incorporated in the United Kingdom. It has an office at Kozhikode among other places in India. In the course of its varied business activities the assessee took up the managing agencies of Plantation Companies, to which the assessee also acted as Secretaries. Whenever a managing agency was terminated, as for example when the plantations were sold and the Plantation company itself wound up its operations the assessee was paid compensation, the quantum of which was decided by agreement. In 1945-1946 the assessee company held such managing agencies for sixteen Plantation Companies. Tallier Estate Ltd. was one of such Plantation Companies, and the agreement between that company and the assessee was in 1937 (Annexure A). In 1945 Tallier Estate sold its plantation, which was in India, and, the company subsequently went into liquidation. On 24-7-1945 Tallier Estates passed a special resolution which ran:
'That the Liquidator be authorised to pay the Secretaries and Agents, Pierce Leslie and Co., Ltd., London, 4500 by way of compensation for loss of office.'
In accordance with that resolution the assessee received Rs. 60,000, in the year of account which ended on 30-6-1946. That was treated as a trading receipt by the department for the purpose of assessment to income-tax, excess profits tax and business profits tax. When the assessee appealed to the Tribunal it purported to apply the principles laid down by this court in Commr. of Income-tax and Excess Profits Tax v. South Indian Pictures Ltd. : 20ITR605(Mad) and upheld the claim of the assessee, that this sum of Rupees 60,000 constituted a capital receipt not liable to tax. At the instance of the Commissioner the Tribunal referred to this court the question we have set out above.
(6) The decision of this court in : 20ITR605(Mad) was reversed by the Supreme Court in Commissioner of Income-tax and Excess Profits Tax v. South India Pictures Ltd. : 29ITR910b(SC) . But that may not include the question at issue. It is with reference to the facts of this case we have to decide whether the sum of Rs. 60,000 constituted a trading receipt or a capital receipt in the hands of the assessee.
(7) The approach to the question should be that indicated by the Supreme Court at p. 915 of the report : 29ITR910b(SC) . S. R. Das C. J. observed:
'It is not always easy to decide whether a particular payment received by a person in his income or whether it is to be regarded as his capital receipt. Income, said Lord Wright in Kamakshya Narain Singh v. Commr. of Income-tax, B. and O. , is a word of the broadest connotation and difficult and perhaps impossible to define in any precise general formula. Lord Macmillan said in Van Dan Berghs Ltd. v. Clark, (1935) 19 Tax Cas 390, that though in general the distinction between an income and a capital receipt was well recognised and easily applied, cases did arise where the item lay on the border line and the problem had to be solved on the particular facts of each case. No infallible criterion or test can be or has been laid down and the decided cases are only helpful in that they indicate the kind of consideration which may relevantly be borne in mind in approaching the problem.' The learned Chief Justice observed further at p. 915 (of ITR): (at p. 495 of AIR):
'The assessee before us is a company carrying on a business and it received the sum in question in connection with that business. We have, therefore, to ask ourselves as to what is the substance of the matter from the point of view of a businessman.'
(7a) No doubt normally a businessman would view a managing agency as a capital asset, acquired to produce income. Some of the cases in which it was so viewed including Commr. of Income-tax, Bombay City v. Asiatic Textile Co. Ltd., Bombay : 27ITR315(Bom) , of the report (ITR): (at p. 439 of AIR) in Rangasami Naidu v. Commissioner of Income-tax : AIR1957Mad437 . The learned counsel for the assessee was equally well found in his contention that the managing agency could not be viewed even in the case of the assessee as part of its stock-in-trade. That the compensation of Rs. 60,000 was paid for the loss of the Managing agency a Tallier Estates, among other rights secured by the assessee under the agreement (Annexure A) with the Tallier estates, may not be conclusive to show that it was a capital receipt in the hands of the assessee, that is, that the amount was paid to the assessee as compensation for the loss of an item of its apparent capital assets.
(7b) The relevant facts in : 29ITR910b(SC) as set out in the headnote were as follows:
'The assessee (South India Pictures Ltd.) which carried on the business of distribution of films entered into three agreements for advancing monies to certain motion picture producers towards the production of three films and acquiring the rights of distribution thereof. The agreements, inter alia, provided that the assessee would advance certain sums of money in instalments for the production of the firms, the assessee acquiring the sole right to distribute the films for a period of five years from the date of release of each film. The assessee was to pay itself from the money realised by the distribution of the films its commission and the amount advanced to the producers and to pay the balance to the producers. The assessee had a charge by way of security on the negative and positive copies of the films for amounts due on account of advance. If the producers failed to deliver the films within the time specified, the assessee had the right to complete the picture at its own cost. On the expiry of the period of five years the assessee had to return to the producers all copies of the films and the balance stock of publicity materials. After the assessee had exploited to a certain extent its right of distribution, of three films, the agreements were cancelled and the producers paid an aggregate sum of Rs. 26,000 to the assessee towards commission. In the relevant accounting year the assessee had distribution rights in respect of eleven films including these three.'
(8) With reference to these Facts, Das C. J. said at pages 916-917 (of ITR): (at pp. 495-496 of AIR):
'The termination of the agreement in each of the circumstances herein before mentioned could well be said to have been brought about in the ordinary course of business and money paid or received by the assessee as a result of or in connection with such termination of agreements would certainly be regarded as having been so paid or received in the ordinary course of its business and therefore a trading disbursement or trading receipt... In fact in the accounting year the assessee had distribution rights in respect of eleven films including these three. These three agreements would have come to an end on the expiration of the period of five years from the respective dates of release of the films and had only a part of the period to run, a fact which may also be relevantly borne in mind. The cancellation of these agreements must have left the assessee free, if it so chose, to secure other films which could be distributed in the place of these films and which might have brought in better box office collections. In the language of Lord Hanworth M. R. in Short Bros. Ltd. v. Commissioner of Inland Revenue, (1927) 12 Tax Cas 955, the sum paid to the assessee was not truly compensation for not carrying on its business but was a sum paid in the ordinary course of business to adjust the relation between the assessee and the producers of the films. The agreements which were cancelled were by no means agreements on which the whole trade of the assessee had for all practical purposes been built and the payment received by the assessee was not for the loss of such a fundamental asset as was the ship managership of the assessee in Barr, Crombie and Co. Ltd. v. Commr. of Inland Revenue, (1945) 26 TC 406. Nor can one say that the cancelled agreements constituted framework or whole structure of the assessee's profit making apparatus in the sense the agreement between the two margarine dealers concerned in (1935) 19 TC 390 was. Here were three agreements entered into by the assessee in the ordinary course of his business along with several similar agreements, these three agreements were by mutual consent put an end to. The termination of these three agreements did not radically or at all affect or alter the structure of the assessee's business. Indeed the assessee's business of distribution of films proceeded apace notwithstanding the cancellation of these three agreements.'
(9) After pointing out that what the South India Pictures Ltd. entered into were composite agreements, and that even under the financing part of the agreements the South India Pictures Ltd. did not acquire any capital assets, the learned Chief Justice proceeded to observe at pp. 918-9 (of ITR): (at p. 497 of AIR):
'Assuming that to start with the films constituted capital assets the entire capital outlay had been recovered and the security had been extinguished and that part of the agreements which constituted financing agreements had been fully worked out and had come to an end and the three films ceased to be capital assets and the assessee was holding the films only under that part of the agreements which constituted the distributing agency agreements which only were subsisting. In the premises the amount received by the assessee was only so received 'towards commission,' that is to say, as compensation for the loss of the commission which it would have earned had the agreements not been terminated. In our opinion, in the events that had happened, the amount was not received by the assessee as the price of any capital assets sold or surrendered or destroyed or sterilised but in the language of Rowlatt J. in Short Bros. case, (1927) 12 TC 955, the amount was simply received by the assessee in the course of its going distributing agency business from that going business. In our judgment, on the facts and in the circumstances of the present case, it falls within the principles laid down in Short Bros., (1927) 12 TC 955 and Kelsall parsons and Co.'s cases, (1937) 21 Tax Cas 608, rather than within those laid down in Commr. of Income-tax, Bengal v. Shaw Wallace and Co. or Van Den Bergh's case (1935) 19 TC 390, or Barr Crombie's case 1947 15 ITR (Sup). 56.'
(10) In the case of the assessee, taking up managing agency along with secretaryship to the Plantation company and other trading rights was part of the assessee's normal trading activities. The assessee dealt with among other things, the export of tea produced in India, and obtaining managing agencies and other rights from the Plantation companies certainly facilitated that trade in tea. The managing agencies the assessee obtained were liable to termination, in which event the assessee received the compensation it was entitled to by agreement. We should point out that the agreement (Annexure A) was not a contract for securing simpliciter the managing agency, for Tallier estates.
It was a composite agreement securing other rights as well to the assessee, which helped it in its trading activities in tea. The assessee was in a position to obtain such contracts with Plantation companies because of its large experience in handling tea for export and also in managing plantations in India. Even confining ourselves to the managing agency, the loss of one of several such managing agencies could have little effect on the structure of the assessee's business even in tea or on its profit earning apparatus as a whole. They endured virtually unimpaired by he termination of the managing agency for the Tallier Estates even as the business o the assessee remained unimpaired when other managing agencies were terminated in the past.
The assessee's business in tea proceeded apace notwithstanding the termination of such agreements, to adapt the words of Das C. J. at p. 916 of the report (ITR): (at p.. 495 of AIR) in : 29ITR910b(SC) the termination of the agreement with the Tallier Estates could well be said to have been brought about in the ordinary course of the business of the assessee and the money paid to the assessee as a result of or in connection with the termination of such agreements should certainly be regarded as money received in the ordinary course of the business of the assessee and that therefore it was a trading receipt.
(11) Mr. Rama Rao Sahib, learned counsel for the department, referred us also to Anglo French Exploration Co. Ltd. v. Clayson : 30ITR309(Cal) , Lord Evershed M. R. said at page 316:
'If the matter were res integra, I think that there is much to be said for the simple view that a sum of money received in consideration for the giving up or destruction of an agreement under which you look to earn an annual sum if capital and not income; for in such case the sum received might be described fairly as the capitalised equivalent at the present time of income prospects.'
(12) After pointing out that the real question for determination was whether it was a profit or gain arising from the trade of the recipient within the terms of Sch. D. the learned Master of the Rolls proceeded.
'And the matter is not in any case res integra. The line of cases to which we have had our attention directed starting from the well known trilogy: Inland Revenue Commrs. v. Newcastle Breweries Ltd., (1927) 12 TC 925: (1927) 12 TC 955 and Inland Revenue Commrs. v. Northfleet Coal and Ballast Co. Ltd., (1927) 12 TC 1102, seem to me to emphasise that sums received for the cancellation of an agency or of other similar agreements which have been entered into by the recipient in the ordinary course of its trade will themselves, prima facie, be regarded as received in the ordinary course of trade unless the transaction involves a parting by the recipient with a substantial part of its business undertaking. The case of 1947 15 ITR 56 was a case of that exceptional character.'
At page 318, the learned Master of the Rolls pointed out:
'It is true that the facts show that Anglo French (that was the assessee in that case) held some eight agency and secretarial contracts and had done so far a considerable time with little variation. Nevertheless, the making of such contracts was part of the business of Anglo-French, and the cancellation of this one contract in no sense affected the 'profit making apparatus' of the company which retained its offices and staff, in Johannesburg exactly as before.'
The case of the assessee before us was certainly analogous to that the Court of Appeal had to consider in : 30ITR309(Cal) .
(13) In our opinion, in the circumstances in which the assessee company carried on its trading operations the amount of Rs. 60,000 constituted a trading receipt received in the usual course of its business activities.
(14) We answer the first question in the affirmative and against the assessee.
(15) The third question ran:
'Whether the credit balances in the capital profits accounts, profit and loss account and business profits tax post war refund suspense account form part of the 'reserve' of the assessee within the meaning of rule 2(1) of Sch. II of the Business Profits Tax Act ?'
The relevant chargeable accounting periods for the assessment to business profits tax were: (1) 1-4-1946 to 30-6-1946; (2) 1-7-1946 to 31-3-1947; (3) 1-4-1947 to 30-6-1947; and (4) 1-7-1947 to 30-6-1948. The assessee company which as we pointed out was incorporated in the United Kingdom, prepared its balance sheets on a sterling basis. It claimed an 'abatement' under rule 2(1) of Sch. II to the Business Profits Tax Act of the amounts specified in paragraph 11 of the statement of the case submitted by the Tribunal. The Tribunal upheld the claim of the assessee and at the instance of the Commissioner referred the question set out for the determination of this court.
(16) The principles on which such claims for abatement should be decided, which were laid down by the Supreme Court in Commissioner of Income-tax v. Century Spinning and . : 24ITR499(SC) , were explained and applied by a Divisional Bench of this court in Commr. of Income-tax v. Vasantha Mills Ltd. : 32ITR237(Mad) . It is on the application of those principles that we have to answer the second question which we have set out above.
(17) The sums in question apparently represented the undistributed profits and were shown in the balance sheet partly as capital and partly as revenue receipts. During the arguments before us the learned counsel for the assessee limited the claim for abatement to the following amounts: .27857 (capital profits account) and .219 (profit and loss account) for the chargeable accounting periods 1 and 2 we have mentioned above; .9812-0-5 (capital profits account) and .30-7-4 (profit and loss account) for the chargeable accounting periods 3 and 4. In addition the assessee claimed abatement with reference to the chargeable accounting periods 2, 3 and 4 of another sum of .19236, which amount was shown in the balance sheets under the head excess profits tax post war Refund suspense account.
(18) Did these amounts constitute reserves within the meaning of rule 2(1) for the relevant chargeable accounting periods is the question, which, as we have said, has to be answered in the light of the principles explained in : 32ITR237(Mad) . The Tribunal had no occasion to apply these principles when it upheld the claim of the assessee. Possibly the assessee had no opportunity to place before the authorities and the Tribunal the relevant material on the basis of which the claim for abatement should have been investigated. The assessee preferred T. C. M. P. No. 42 of 1958 to produce further documents to decide the question. Even so the material furnished does not appear to be complete. It is however primarily for the Tribunal to investigate the facts and record the findings necessary before we can answer the question referred to us
(19) As pointed out in : 24ITR499(SC) , and by this Court in : 32ITR237(Mad) , the crucial date is the first day of the relevant chargeable accounting period. What was merely a mass of undistributed profits on that date will not constitute a reserve. The Supreme Court stated in : 24ITR499(SC)
'the profits lying unutilised and not specially set apart for any purpose on the crucial date did not constitute reserves within the meaning of Sch. II, rule 2(1)'
on this basis of what was pointed out by this court at page 245 (of ITR): (at p. 327 of AIR) in : 32ITR237(Mad) , what the Tribunal will have to decide in this case is whether, with reference to each of the sums we have mentioned above, any one possessed of the requisite authority indicated on or before the crucial dates, with reference to each of the chargeable accounting periods, the manner of disposal or the destination of the funds of the company which constituted its profits. Was any portion of the profits specifically set apart for any purpose on or before the crucial date and was it so set apart by one having the requisite authority? It was on an erroneous view of the law that the Tribunal upheld the claim of the assessee, and as we said there was no occasion at that stage to investigate the question at issue on a proper basis. We therefore direct the Tribunal to examine the question afresh, after affording an opportunity to both the assessee and the department to place all the relevant material on record, and submit a further statement of the case. The documents filed by the assessee with T. C. M. P. No. 42 of 1958 will be forwarded to the Tribunal, and the Tribunal will afford the assessee an opportunity to produce further documents, if any, as are relevant for the determination of the question.
(20) The Tribunal will submit the further statement of the case within three months from the date of the receipt of the records by the Tribunal. It may not be necessary to print the further statement of the case. The Department will furnish typed papers after which the case will be posted for disposal.