VEERASWAMI J. - What is in question in this reference is the validity of the orders made under section 23A of the Income-tax Act, 1922, as it stood before the 1955 amendments, for the assessment years 1949-50 to 1952-53. The assessee is a private limited company carrying on business at Madras. In respect of those years it declared dividend which fell short of 60 per cent. of the assessed profits less taxes. The Income-tax Officer, therefore, assumed jurisdiction and directed by his orders that the undistributed balance of the profits should be deemed to have been distributed to its shareholders. In doing so, he proceeded on the basis of assessed profits less taxes. The assessee, on the other hand, claimed that for purposes of application of section 23A the basis would be not assessed profits but book or commercial profits. In computing such profits the assessee deducted not merely the assessed taxes therefrom but also amounts set apart towards doubtful debts. The Income-tax Officer did not agree with the assessee in before the Tribunal, it accepted the assessees contention that the basis for making an order under section 23A should be book or commercial profits; but at the same time it held that, in computing commercial profits for that purposes, business exigencies, however compelling, could not properly be taken into consideration for withholding declaration. In this view, though in arriving at the commercial profits, book profits should be the basis, the only permissible deductions from such profits would be income-tax on such profits and not tax as assessed, compulsory reserve as in the case of a scheduled bank and reasonable bad and doubtful debts with reference to actual facts. The Tribunal considered that no other deductions could be made in computing commercial profits.
At the instance of the assessee, the following question has been referred to us under section 66(1) :
'Whether on the facts and circumstances of the case the provision of section 23A of the Act are applicable to the assessees case for the assessment years 1949-50 to 11952-53 ?'
The question involves the construction and scope of section 23A.
It appears that in the earlier stages the assessees contention was that it was not a company to which section 23A would be applicable. But in view of Commissioner of Income-tax v. Gangadhar Banerjee and Co. (Private) Ltd., this question is no longer raised before us.
Before us, the contention for the assessee is that the Tribunal wholly misunderstood the scope of section 23A, particularly in the matter of computation of commercial profits, their components and deduction therefrom. It is argued that computation of commercial profits, for the purposes of section, should be on the basis of commercial exigencies, and in making the computation one is not confined to the two factors specifically mentioned in section 23A, but it will be permissible to have regard not merely to those factors but all the relevant circumstances to see whether payment of a further dividend than that has been declared would be unreasonable. It is also argued that so far as income-tax deduction is concerned it is tax not on the gross commercial profits, but assessed profits that is deductible. Learned counsel for the assessee further adds that the deduction claimed by the assessee in the computation of commercial profits are those which prudent business man would reasonably allow in the interests of his business and that, therefore, the Tribunal was not right in its view that only certain deductions were permissible and not others.
If the matter were res integra, it would have been necessary for us, to ourselves consider the scope of section 23A. But a recent judgment of the Supreme Court in Commissioner of Income-tax v. Gangadhar Banerjee and Co. (Private) Ltd. has comprehensively settled the principles underlying that section. As pointed out by the Supreme Court, the section is in three parts : the first relevant to jurisdiction, the second with reference to the exercise of jurisdiction, and the third for making an order declaring statutory dividends. The Supreme Court further laid down that the words 'having regard to' in section 23A are not a limiting factor but only indicated that the two factors mentioned in the section should necessarily be taken into account. But the ambit of enquiry as to whether payment of a dividend or a larger dividend than that would be unreasonable would not be limited to those factors, all relevant circumstances should be taken into account. 'Profit', in the context of smallness of profit, meant not assessed profit but book or commercial profit. The Supreme Court went on to observe :
'The Income-tax Officer, acting under this section, is not assessing any income to tax; that will be assessed in the hands of the shareholders. He only does what the director should have done. He puts himself in the place of the directors. Though the object of the section is to prevent evasion of tax, the provision must be worked not from the standpoint of the tax collector but from that of a businessman. The yardstick is that of a prudent business man. The reasonableness or the unreasonableness of the amount distributed as dividends is judged by business consideration, such as the previous losses, the present profits, the availability of the surplus money and the reasonable requirements of the future and similar others. He must take an overall picture of the financial position of the business. It is neither possible nor advisable to lay down any decisive tests for the guidance of the Income-tax Officer. It depend upon the facts of each case. The only guidance is his capacity to put himself in the position of a prudent business man or the director of a company and his sympathetic and objective approach to the difficult problem that arises in each case. We find it difficult to accept the argument that the Income-tax Officer can not take into consideration any circumstances other than losses and smallness of profits. This argument ignores the expression having regard to that precedes the said words.'
On that view the Supreme Court further ruled that section 23A being in the nature of a penal provision, the burden lies upon the revenue to prove that the condition laid down thereunder were satisfied before the order was made. In deducting income-tax from commercial profits, as laid down by the Supreme Court, actual taxes assessed or to be assessed, as the case may be, should be taken into account and not taxes on commercial profits. The commercial profits are no doubt ascertained on the basis of balance-sheet. But the balance-sheet is not final. It is open to the assessee or to the Income-tax Officer to go behind it and establish the point of view of one or the other.
Viewed in the light of these principles, the Tribunal appears to us to be clearly wrong when it observed that business exigencies, however compelling, should not enter into a consideration for withholding declaration. Nor is the Tribunals view correct when it said that the deductions should be limited to the items which it specified. The test which the Income-tax Officer should have before him is to see whether, having regard the relevant circumstances, the amount declared as dividend compared with the balance of profits withheld obviously points to an attempt to evade tax. The section being of a penal nature, the burden is on the revenue to show that the condition for making an order are satisfied. In determining the effect of withheld profits, the Income-tax Officer should put himself in the armchair of the board of directors and, having regard to the particular facts and circumstances and business exigencies, see whether payment of a further or a larger dividend than that declared would be unreasonable. It is not enough that he considers that larger dividend would be reasonable. He must find whether payment of a larger dividend would be unreasonable. This finding he must arrive at with reference to not only the losses incurred by the company in earlier years and the smallness of the profits made during the relevant year but also to all other relevant circumstances. If the consideration are equal, the verdict should be in favour of the assessee. The judgment of the Income-tax Officer in this regard should be that of a reasonable and prudent business-man placed in the particular circumstances.
The Tribunal considered that only compulsory reserve as in the case of a scheduled bank could be deducted. We are unable to accept this view. The amount set apart for reserve and contingent fund by the assessee for each of the years in question appears to be reasonable.
There is no rule that only compulsory reserve should be taken into account in the computation of commercial profits. As to depreciation fund, what apparently the assessee meant by that is rehabilitation fund. This again is a fund, as it appears to us, which a prudent business man may in the circumstances set apart. It is not for the revenue to apply its own ideas and look at things from its own point of view. As we said the revenue would have to put itself in the place of the directors and see whether a rehabilitation fund, having regard to the exigencies, would be necessary and prudent. As regards reserve for bad and doubtful debts, the Tribunal thought that it is only where they could be proved to be reasonable, a doubtful debt could be deducted in the computation of commercial profits. We do not think that this is a reasonable view to take. If debt appear to be clearly irrecoverable, they would of course be written off. But there may be other cases in which the board of directors may have legitimate doubts. In such cases the board of directors may justifiably set apart a reserve for bad and doubtful debts. While too meticulous a scrutiny is not to be made into such reservation, it should not at the same time be unreasonable in the circumstance of the case or based on pure conjecture. We would generally observe what deductions should be made, apart from taxes, from commercial profits, will depend on the given facts and circumstances. There can be no uniform standard or yardstick. The approach to the question should be on business considerations in the light of particular facts. As the Supreme Court observed, the Income-tax Officer should place himself in the place of the board of directors and come to a conclusion on a fair and reasonable survey of all the facts and circumstance.
On facts, in each of the assessment years in question, about fifty per cent. of the commercial profits less taxes was declared as dividend. We are not satisfied that the deductions made by the assessee in each year were unreasonable. Facts do not show any attempt at evasion of tax by withholding profits. In our opinion, the orders under section 23A cannot be supported. We answer the question referred to us in favour of the assessee and against the revenue with costs. Counsels fee Rs. 250.
Question answered in favour of the assessee.