(1) The assessee was previously a registered firm of two partners being the proprietors, publishers and printers of the newspapers 'The Hindu'. This business had been assessed under the 1918 Income-tax Act. In 1940, the partnership firm was dissolved and a limited company took its place. The partnership purported to sell to the limited company the entire business as a going concern. The interest in the partnership had been owned in moieties by two brothers, K. Srinivasan and K. Gopalan, who were the karthas of their respective Hindu undivided families. The capital of the limited company of Rs. Nine Lakhs was divided into 900 shares of Rs. 1000 each, and each branch was allotted half the number of shares. In the books of the company, the assets and liabilities were valued at a particular figure. One of the items so transferred was the stock of newsprint the cost price of which was Rs. 73,693. But the valuation adopted at the time of the transfer of he business to the limited company was Rs. 1,74,364.
For the assessment year 1940-41, the assessee claimed the benefit of the succession relief and asked that the profit of a period of 20 months, that is, the period between the end of the previous year and the date of the succession, should not be taxed. This contention was rejected in conformity with the decision of the Supreme Court, and an assessment for the year in question was made. Subsequently, when an appeal against the assessment was pending, the Income-tax officer purported to hold, on an examination of the accounts of the successor company, that profit had been realised by the sale of the stock of the newsprint, represented by the difference between the valuation on the transfer to the limited company and the cost price set down in the books of the partnership. He accordingly issued a notice under S. 34, and revised the assessment, enhancing the taxable income by the profit of Rs. one lakh and odd referred to.
(2) On an appeal to the Appellate Assistant Commissioner, the view of the Income-tax officer was, in so far as this quantum of profit was concerned, upheld. But the Appellate Assistant Commissioner set aside the assessment and directed the Income-tax officer to determine the profits for the two periods of 12 months and 8 months on the bass of the accounts and not on the time basis. A further appeal to the Tribunal however failed as the tribunal held that since the assessment had been set aside, the appeal to it was premature.
(3) Thereafter, the assessee applied to the tribunal for the statement of a case to the High Court on certain questions of law which were claimed to arise form the order of the Tribunal. Four questions stand referred to us. One of these is
'Whether the surplus on transfer of newspaper print, which is the raw material for the business, which the assessee carried on, is taxable?'
We are not setting down the other three questions, for, it is conceded both by the assessee and the department that if this question should be answered in favour of the assessee, the other questions will not arise and they would be withdrawn form the reference.
(4) The short question thus is whether on the transfer of a business as a going concern, the valuation of the stock of newsprint for the purpose of the transfer would, if it should happen to exceed the cost price of the newsprint in the books of the firm, result in taxable profits to the transferor. Mr. S. Padhmanabhan, learned counsel for the assessee, argues that this question has been decided in favour of the assessee in a decision of the Supreme Court in Commissioner of Income-tax, Madras v. West Coast Chemicals and Industries Ltd., : 46ITR135(SC) . Before we refer to the facts of this decision, we may point out that it is agreed that the assessee was not a dealer in newsprint and that the assessee held stocks of newsprint only for the purpose of its business of the publication of the newspaper. It was raw material of the business. In the case cited, the assessee company entered into an agreement for the sale of the land, building, plant and machinery of a match factory with a view to close down the business. There was a default in the payment by the purchaser and a fresh agreement was entered into.
In the latter agreement was included the sale of chemicals and paper used of manufacture. This had not been included in the earlier agreement. Among the terms of the agreement, there was the stipulation that the assessee company should carry on the manufacture on behalf of the purchaser. On the terms of this second agreement, the department purported to bring to tax the 'profit' derived from the sale of chemicals and paper as profits of the business. The assessee objected contending that it s a realisation sale and that the amount would not be liable to tax. It also appears that the memorandum of association of the assessee company permitted the company to manufacture and sell chemicals so that he sale of chemicals could in proper circumstances form a part of its business. It was found as a fact that that power had been rarely exercised and was therefor not of mush significance. Their Lordships held that the transaction inclusive of the sale winding up sale in order to close down the business would depend upon the peculiar facts of each case and there can be no set rule for the decision of that point.
Their Lordships refer to the dividing line between the two classes of cases, one where the sale formed part of trading activities and the other where the realisation was not an act of trading, typified by the well-known cases of the Californian Copper Syndicate v. Harris, (1905) 5 Tax Cas 159 on the one hand, and Tebrau (Johore) Rubber Syndicate Ltd., v. Former (1910) 5 Tax Cas 658 on the other. They then proceed to refer to Doughty v. Commissioner of Taxes, 1927 AC 327. In that case, two partners carrying on business as general merchants sold the partnership to a limited company. The sale was of the entire assets including the goodwill. At the time of the sale, a new balance sheet was prepared in which a value was placed on the stock-in-trade larger than that shown in the last balance sheet. This difference was sought to be brought to tax as profit. The Privy Council held this to be wrong, pointing out that in order that a taxable profit may arise, there should be a trading, and that the mere alteration of entries in the books of account would not lead to such a profit.
(5) Another decision J and R and O'Kane and Co., v. commissioner of Inland Revenue (1920) 12 Tax Cas 303 was also refereed to by their Lordship. In that case the assessees who carried on a business as wine and spirit merchants, decided to retire from business and issued a circular letter to their customers proposing to sell their whole stock to the customers. The question was whether such sales could be regarded as sales made in the ordinary course of trade. While the King's bench Division held the sales were not, in the ordinary course of trade but were part of the realisation of the trading stock and the winding-up of the business, the court of appeal took the opposite view. It was pointed by the Court of appeal that though the assessee wished to retire from business and were not investing in the purchase of more stock, they were still carrying on business of trading till the existing stocks were exhausted. That, view was upheld by the House of Lords. Finally, their Lordships observed thus:
There is no doubt to this case that the assessee company was wound up at least in so far as its match manufacture was concerned. That the business of the company was being sold as a going concern and was in fact worked by the assessee company on behalf of the buyer till the entire consideration was paid makes no difference, because the agreement clearly indicated that he assessee company was keeping the factory going not in its own behalf but entirely on behalf of the buyer. We cannot fairly say therefore that a sale of the chemicals and raw material for match manufacture was anything more than a winding up sale, not with a view to trading in chemical and raw materials, but to close down the business and to realise the assets. There was in fact no identifiable price for the chemicals and raw materials except by comparing the two prices offered to be paid by the buyer, that is to say, the price without the chemicals and raw materials were sold in the ordinary way of business, or that the assessee was carrying on a trading business........'
If at all, the facts of the present case are even clearer. It follows that the question has to be answered in the negative and in favour of the assessee.
(6) Learned counsel withdraws the other question from the reference. They are accordingly not answered. The assessee will be entitled to is costs. Counsel's fee Rs. 250.
(7) Question answered in negative.