Leach, C.J. - The assessee was a creditor of C.K.N. & Son, a firm which carried on a very large business in groundnuts in Madras. In February 1929 C.K.N. & Sons were adjudicated insolvents. The insolvency was one of the biggest insolvencies of recent as in Madras. The firm was indebted to the assessee in the sum of Rs. 26,330 which he wrote off as a bad debt in the year of account 1935-36. The Income-tax Officer considered that he should have written off the debt to the extent of at least 14 annas in the rupee at the time of the adjudication and therefore only allowed a deduction of Rs. 3,291. The Commissioner of Income-tax, Madras, has, as the result of direction by this Court under Section 66 (3) of the Indian Income-tax Act, stated a case and referred the following question of decision :-
'Was there material before the Income-tax Officer to justify his refusal to allow the assessee to write off Rs. 23,039 in the year of account ?'
C.K.N. & Sons had large assets but the schedule showed that their liabilities were larger. The adjudication of the firm was followed any much litigation. The Mercantile Bank of India, Limited, and the Central Bank of India, Limited claimed to be secured creditors for large amounts. In the course of the argument it has been stated that the amounts claimed by the bank were in the region of Rs. 20,00,000. The Official Assignee refused to accept the contention of the banks that they were entitled to rank as secured editors and the case was carried to the Privy Council. The Official Asinine won before the trial Court but the judgment was overused on appeal. The Privy Council confirmed the appellate decision on the 15th October, 1934. (Official Assignee of Madras v. Mercantile Bank of India, Limited, 58 Mad. 181). The Port Trust was also a creditor for a very large amount and claimed priority under Section 49 (1) of the Presidency Towns Insolvency Act. This question came before the Judge sitting in Insolvency (Mockett, J.) on the 11th October 1935. The learned Judge decided that the port Trust was entitled to priority and his decision was confirmed on appeal on the 1st May 1936 (The Official Assignee of Madras v. The Trustees of the Port Trust, Madras 1937 Mad. 178).
On the 15th January 1936 the assessee wrote to the Official Assignee a letter in the following terms :-
'I understand that all the major litigations concerning the estate of the insolvence have been now finally disposed of. I am anxious to know if at least now I may expect something by way of dividend from the estate towards my claim of Rs. 27,644-7-3. I am enclosing a stamped addressed envelop for your real and shall fell thankful if you will be good enough to indicate the time within which you will be able to declare a dividend out of the realisations made and also the likely rate of such dividend. I wish to have the account of the insolvents adjusted during the current year irrespective of any further or final dividend that may be declared and I shall therefore esteem it a great favour if you will in time give the information asked for'.
The Official Assignee replied on 23rd January 1936 saying that there were certain preferential claims pending disposal before the Court and adding that in the meantime there was hardly any prospect of a dividend to the unsecured creditors.
On the 29th January 1936 the assessee wrote to the Official Assignee a letter in which he said :-
'I shall thank you to take the trouble to inform me as to whether you consider that there is no possibility of a dividend being declared at all in favour of unsecured creditors or it is only that you are not now in a position to declare one. I am anxious to have definite information on this question as I wish that the account of the insolvents is finally adjusted if there is no prospect at all of anything being obtained therefor.'
On the 3rd February 1936 the Official Assignee in reply to this letter said :-
'I am afraid there is very little prospect of dividend as apart from the fact that practically all the big cases in which I succeeded in the lower Court were reversed by the Appellate Court and I have lost the money collected, it has now been declared that the Port Trust is a local authority and that they are entitled to preferential payment before any dividend can be declared. As the amount due to them is very large I do not think there is any likelihood of a dividend.'
When the Official Assignee wrote this letter an appeal had been presented against the judgment of Mockett, J., but the assessee was not informed of his and there is no evidence that the ever became aware of the fact.
As the result of the Official Assignees letters to him the assessee on the 12th April 1936 wrote off the amount due to him by the insolvent firm as a bad debt. The correspondence between the assessee and the Official Assignee was placed before the Income-tax Officer, who was also made aware of the litigation between the Official Assignee and the banks and the Official Assignee and the Port Trust. The Income-tax Officer, however, held that the assessee had postponed the writing off of the debt till the year 1935-36 with the object of setting it off against the profit from a contract (referred to in the proceedings as the Vellar bridge Contract) 'and for this purpose created evidence to show that the debt of C.K.N. & Sons became bad only in 1935-36 and not earlier.' The words now quoted are from the statement of the case presented by the Commissioner of Income-tax who agreed with the Income-tax Officers decisions. It is obvious, and in fact it is admitted, that the allegation that the assessee had created evidence in support of his case refers to the correspondence which passed between him and the Official Assignee. The finding of the Income-tax Officer amounted to a finding that the assessee had acted fraudulently. There was not the slightest evidence before the Income-tax authorities to justify this conclusion. It is evident that the assessee was anxious to write off the debt in the account year 1935-36, but it is quite a different thing to say that in doing so he had without justification treated the debt as being an existent debt and has deliberately waited until he had a profitable year before writing it off. The refusal of the Income-tax authorities to allow the assessee to make the deduction in the year 1936 is based entirely on the conclusion that the assessee had acted with a fraudulent intent, and as on the evidence there is no material on which this conclusion can be based the answer to the question referred must be in the negative.
I would point out that it is not the case of the Income-tax authorities that the assessee should have written off the debt when he heard of the decision of the Privy Council relating to the claims of the banks. On the materials before the court I do not consider that there would be any justification for holding that the assessee should have written off the debt before the final decision in the case of the Banks was given. The amount was very large indeed and it is obvious that if the decision of the trial Court had been upheld there would certainly have been a very substantial dividend. But the court is not called upon to decide whether the assessee should have written off the whole or a portion of the debt towards the end of 1934 when the decision of the Privy council was known, because that is not the case for the income-tax authorities. Their case is, as I have already indicated, that he should have written it off long before that and that he had deliberately refrained from doing so until there was a year more favorable to him for the purpose. The true position was not even known until much later than 1934. In 1935 there was the litigation with the Port Trust which would also have meant a large sum for the unsecured creditors if the Official Assignee had been successful. Soon after the Port Trust case was decided by Mockett, J., the assessee wrote to the Official Assignee and inquired what the portion was. The Official Assignee told him that there was then no hope of any dividend as all the big cases which he has fought on behalf of the creditors had been decided against him. On the facts as presented to the court it is certainly not possible to say that the assessee should have written the debt off at an earlier stage. If the case had proceeded on different lines, it might have become apparent that the assessee should have taken the action which he did earlier but the Court cannot be asked to decide the case on speculation of this nature. In these circumstances, I consider that the Income-tax authorities should have allowed the deduction for the whole amount claimed and I would answer the reference in this sense.
The assessee having succeeded is entitled to his costs, Rs. 250. He is also entitled to the refund of the Rs. 100 which he deposited when he applied for the reference.
Mockett, J. - I agree. We are not deciding whether on the materials we agree with the decision of the Income-tax Officer, but whether there were in fact materials before him on which he could have arrived at the conclusion at which he arrived. An Income-tax Officer in dealing with these matters deals with them as laid down by Lord Russell in Income-tax Commissioner v. Chitnavis 59 I.A. 290 upon a consideration of all relevant and admissible evidence. It is on such evidence that questions of fact are to be decided by him, such as whether a debt is bad and when it became bad. The only question in this case before the Income-tax authorities was when the debt became bad. It is evident that the decision was governed by one underlying feature and that was that the correspondence of January and February 1936 was brought into existence solely for the purpose of creating evidence or at any rate creating a basis for an argument that this debt had become bad only in 1935-36. There was in fact virtually no evidence before the Income-tax authorities. An examination of the Income-tax Officers order and of the Commissioners order will show that they both proceeded on the basis that the facts in this matter were so notorious as to be presumed to be known to the assessee and to everybody concerned in the insolvency of C.K.N. & Sons. If that is so the following facts emerge; that immediately after the insolvency, a number of suits were filed and other applications came before the Court. There were suits between the Official Assignee and the Mercantile Bank of India, a between the Mercantile Bank of India and the Central Bank of India, and between the Central Bank of India and the Port Trust. There was also a notice of motion in the insolvency directed against the Official Assignee by the Port Trust. In the proceedings between the official Assignee and the Mercantile Bank of India a very large amount hung in the balance. In the proceedings between the Port Trust and the Official Assignee a sum of Rs. 26,000 was nominally before the Court but it would appear from the letter of the Official Assignee dated 3rd February 1936 that a much larger sum than that depended upon the decision in that case because he says that 'it has now been declared that the Port Trust is a local authority and that they are entitled to preferential payment before any dividend can be declared'. And the necessary inference from that must be that if the Port Trust case had been decided another way there would probably have been a dividend for the creditors of this insolvency. Now, in this state of flux it might well be a matter of greatest difficulty for any creditor to know whether he was or was not going to get a dividend or whether his debt became bad or not. Eventually, the decision must be with the Income-tax authorities and not with the creditor but the conduct of the creditor must clearly be relevant and be considered in the ultimate decision. None of these matters weighed with the Income-tax Officer who stated that in his opinion as soon as the assessee had notice of the insolvency he should have known that only a portion of the debt if at all could be realised by him in the shape of a dividend. That opinion it will be noticed is based on the assumption that the whole of the ultimate decisions of the Privy Council, the appellate Court of Madras and the Original Side of this High court could have safely been prognosticated by the creditor. My Lord the Chief Justice has stated the facts and I have only added these observations because I want to make it perfectly clear that in my opinion apart from matter of conjecture to which I have alluded there was in fact no material whatever on which the Income-tax authorities could have arrived at the conclusion that the correspondence of 1936 was entered into for the purpose of creating evidence that the debt became bad only in 1935-36. In my opinion the only possible inference in the case is that at that time the assessee did not, like a very large number of other people, know what was going to be the ultimate result of the insolvency. There had been an end of the major litigation and by this he refers to the decision in the case between the Port Trust and the Official Assignee. That being so, he wrote for guidance and for that purpose only, to the proper officer, that is the Official Assignee, who was in charge of the estate of the insolvents. Therefore, it seems to me that the decision of the Income-tax Officer confirmed by the Commissioner of Income-tax cannot possibly be allowed to stand it having been based on no material whatever, and I agree that the answer to this reference should be in the manner stated by my Lord the Chief Justice.
Krishnaswami Ayyangar, J. - I concur in the opinion of my Lord the Chief Justice. I confess I had some difficulty in reaching that conclusion but having considered the matter carefully and having listened to the judgment of my Lord, I feel that my doubts have been dispelled.
The question which has been referred is, was there material before the Income-tax Officer to justify his refusal to allow the assessee to write off the sum of Rs. 23,039 in the year of account The doubt in my mind arose on account of the fact that it might be said, as was in fact said by the learned counsel for the Commissioner of Income-tax, that the decision of the Privy council in October 1934 upholding the claim of the Mercantile Bank to be a preferential creditor of the insolvents constituted some material for the decision of the Income-tax Officer. The success of the Mercantile Bank undoubtedly meant, a considerable diminution in the assets available for distribution to the assessee and other unsecured creditors of the insolvent, and it could be urged with reason, that the write off should have been done in that year and not in any later year. It is, however, clear on a reading of the orders of the Income-tax Officer and the Assistant Commissioner that this was not the basis on which either of the officers rested his decision. According to the Income-tax Officer, the debt should have been written off as a bad debt in the year 1929 in which the insolvents were adjudicated. He took the view that as it was possible for the assessee from the schedule of assets and liabilities, to calculate the approximate rate of dividend, he should have written off the balance in that year. This reasoning is quite unsound and has not been pressed before us. The Assistant Commissioner did not disagree from the Income-tax Officer and both of them came to the conclusion that the assessee had deliberately manufactured evidence for the purpose of writing off the debt in the year of account in which there were profits, instead of doing so in the year in which the prospect of recovering the debt had vanished or considerably diminished. True, the Assistant Commissioner did refer to the decision of the Privy Council in the Mercantile Bank case. But the reference was apparently made not for the purpose of supporting the decision of the Income-tax Officer, nor for the purpose of holding that the purpose of repelling an argument of the assessee based on the Privy Council decision. The position might have been, as my Lord pointed out, different if that decision had been relied upon as material to support the conclusion that the assessee had no right to write off the debt in the year of account preceding the assessment year.
Reference answered accordingly.