1. The following questions of law have been referred by the Tribunal under Section 256(2) of the I.T. Act, 1961 in compliance with the directions of this court:
'1. Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in law in holding that the general overhead expenses should be allocated against the income from coffee on the basis indicated in Rule 9 of the Madras Agricultural Income-tax Rules, 1955, and treat the balance of general overheads as allocable to income from tea ?
2. Whether the Tribunal was also right in holding that the managing agency remuneration payable by the company should be allocated to teaand coffee on the basis of profits from tea and coffee and if there are losses from coffee estates and profits from tea estates the entire managing agency remuneration should be allocated to tea?'
2. The assessee is a company owning coffee and tea plantations. In computing the income for the assessment years 1963-64, 1964-65 and 1965-66, the assessee claimed that the general overhead expenses should be allocated on gross receipts basis between (a) coffee which is not chargeable to Central income-tax, and (b) tea, 40% of which alone is chargeable to Central income-tax, and that the managing agency remuneration paid by the assessee should be allocated on the basis of the profits of the company. The ITO did not accept the method adopted by the assessee as the proper basis, and he allocated the overhead expenses including the managing agency remuneration on the basis of the direct expenses incurred on tea and coffee. The way in which the assessee claimed the expenditure and the ITO allowed the same can be illustrated with reference to one of the years before us. For instance, taking the assessment year 1963-64, the general overhead expenditure came to Rs. 32,451. The managing agency remuneration came to Rs. 40,000. The total of these two amounts came to Rs. 72,451. The ITO allowed Rs. 45,687 as expenditure relating to the tea business and disallowed the balance of Rs. 26,764.
3. The assessee disputed the disallowance so made before the AAC by filing an appeal before him. The AAC confirmed the method adopted by the ITO as, according to him, that would be a better method, based on production. He rejected the assessee's claim to deduct the entire managing agency remuneration from the profits on tea on the ground that as the managing agents were to manage both the tea and coffee plantations, the managing agency remuneration was allocable between the activities for raising tea and coffee.
4. Against the order of the AAC, the assessee preferred an appeal to the Tribunal for each of these years. The Tribunal allowed the appeals holding that the overhead expenses referable to income from coffee, which was agricultural income, should be computed in the proportion which the agricultural income bore to the sum total of the agricultural and non-agricultural incomes, that is, from coffee and tea and the balance of overhead expenses would have to be allocated towards the gross income from manufacture of tea. As regards the managing agency remuneration, the Tribunal held that the allowance should be on the basis of the net profits of the managed company in proportion to the income from tea and coffee. It is this order of the Tribunal which has given rise to the questions which are already set out.
5. The two questions relate to two types of expenses, namely, (i) the general overhead expenses ; and (ii) the managing agency remuneration.
6. The general overhead expenses would ordinarily be the head office expenses and the managing agency remuneration is for services rendered to the whole business and has to be computed on the basis of the agreement that existed between the assessee and the managing agents. As regards the general overhead expenses, the Tribunal has followed or adopted Rule 9 of the Madras Agricultural Income-tax Rules and the said rule runs as follows:
'9, Computation of deduction in regard to common charge.--Where a deduction in respect of any item, admissible under Section 5 or under Rule 3, 4 or 5 is a common charge incurred for the purpose of deriving both agricultural income assessable under the Act and income chargeable under the Indian Income-tax Act, 1922 (Central Act XI of 1922), the deduction admissible under the Act shall be such proportion of the common charge as the agricultural income under Section 2(a) of the Act bears to the total of such agricultural income and the income chargeable under the Indian Income-tax Act, 1922 (Central Act XI of 1922), in respect of which such common charge is incurred. Where, however, the income chargeable under the Indian Income-tax Act, 1922 (Central Act XI of 1922) is not ascertainable or has not been determined by the Indian Income-tax Officer, the Agricultural Income-tax Officer shall determine the deduction under the Act, to the best of his judgment.'
7. The above rule contemplates, so far as this State is concerned, taking the receipts of a composite estate consisting of coffee and tea plantations. From out of the receipts from the tea plantations, the expenditure relating to the operations regarding tea will be separately allocated, and the balance of the income from the tea plantations will be arrived at. Similar would be the case with coffee. While deducting the expenses mentioned above, the general overhead expenses and the managing agency remuneration will not be taken into account. The overhead expenses and the managing agency remuneration will thereafter be allocated between the two in proportion to the respective incomes. It is this rule that was applied by the Tribunal on the ground that the State Legislature had adopted this as the basis, and that there was no reason why the same basis should not be adopted for purposes of assessment under the Central Income-tax Act. The adoption of the rule enacted under the State Act would in a way provide against any double allowance in a composite estate. For instance, if any other basis than the proportionate income method is adopted, then the result would be that the assessee may get a larger allowance under the Central Act on the basis of proportionate expenditure than what is due under Rule 9 extracted above with the result that the deduction under the two Acts may exceed the total expenditure or he may get a smaller allowance under the Central Act than what is due under the Act, if the expenditure under tea happened to be less than in respect of coffee. The consequence will be that the assessee would have paid tax on a larger amount or would have paid tax on a smaller amount, as the case may be, taking into account the extent of expenditure which may even be manipulated in any particular year. In the case of general overhead expenses and the managing agency remuneration, it is not possible to allocate the same by restricting it to any particular activity as direct expenditure. Such expenditure has necessarily to be allocated on the. basis of some formula. The best formula will be one that is of universal application and is also easy to compute. In other words, it should not be complicated. Considered in this manner, the expenditure method which is suggested by the revenue would not be a proper one. For instance, between two estates, one estate may be in a position to get away with a smaller wage bill than the other which, because of certain circumstances, namely, labour being more vociferous, had to pay a larger amount of salaries and wages. In such an event, the allocation would be different. The net receipts, if taken into account, would avoid any such fluctuation on the basis of the difference existing between the two estates. Further, all the expenses are incurred only to get the receipts, and should thus be linked to the net receipts. . In the case of commodities like coffee and tea the prices realised, though they may fluctuate in each year, will still have the same kind of uniformity throughout the country or at any rate throughout a particular State, depending upon the quality of the products and the demand for them. In such a case, we consider that the more equitable method is to take the income, that is, the receipts minus other expenditure, and then allocate the overhead expenses.
8. The learned counsel for the revenue drew our attention to a circular which had been issued on November 29, 1941, by the CBR, as it was then called, and contended that the said circular had been in operation for such a long time, that there is no reason why that circular should be given a go by in the years in question. The Tribunal has pointed out in the present case that the department itself had adopted the same basis as that adopted by the assessee-company, namely, gross receipts basis, for general overheads and profits basis for managing agency remuneration. Therefore, the department itself had not been consistent in applying the circular or had not considered it as of universal application. The circular also, except for merely stating that the expenditure should be allocated on the basis of indirect expenses, does not give any reason as to why that method is adopted in preference to the income method, which is certainly a recognised method and which has been evolved by the State Govt. Even the circular does not appear to have brought out any fixed formula. In para. 2 of the circular it is stated :
'General management expenses may be allocated in proportion to direct expenses. But where separate accounts are not maintained for direct expenses, the allocation may be made on the basis of the data available from the accounts of similar assessees who keep separate accounts. Interest charges should be normally allowed according to the purpose for which the borrowing was made. If this is not possible, they may be allocated in proportion to the average capital employed in each kind of estate.'
9. Thus, there are three different methods of allocating the expenditure suggested in this circular. One is, in proportion to the direct expenditure ; the second is, where accounts are not maintained for direct expenses, then one has to allocate the same on the basis of what similar assessees, who keep separate accounts, do ; and the third is, the average capital method.
10. It is rather difficult to apply the circular which sets out different methods in the matter of allocation of the expenditure. As we have pointed out earlier, it would be conducive to promote a just assessment, to have a uniform formula which will stand the test of universal application and equitable apportionment. On this basis, we are satisfied that the Tribunal acted rightly in adopting the method prescribed by Rule 9 of the Madras Agrl. I.T. Rules as far as this State is concerned, in regard to overheads.
11. The only question that remains is, whether any different method requires to be adopted as regards the managing agency remuneration. This aspect has been discussed by the Tribunal in para. 6 of its order. There is absolutely no reason given as to why the Tribunal adopted a different basis for the managing agency remuneration as contrasted with the overhead expenses. It may be that the assesses has been adopting different methods in the matter of allocation of overhead expenses and managing agency remuneration. In a matter like this, where the managing agency remuneration has to be considered for allocation with reference to all activities, the basis adopted for the general overhead expenses would appear to be a proper one. There is nothing in the nature of the managing agency remuneration which would require a different method to be adopted. Therefore, the allocation made by the Tribunal with reference to the managing agency remuneration is not equitable or proper. To allocate it wholly to tea when there is loss in coffee is neither logical nor equitable. The same method adopted for overheads should be adopted for allocation of managing agency remuneration.
12. The questions are, accordingly, answered as follows:
Tha first question is answered in the affirmative and in favour of the assesses. The second question is answered in the negative and the properamount will have to be worked out in the light of what we have observed above. There will be no order as to costs.