SRINIVASAN J. - The question referred to us is :
'Whether the orders under Section 23A for the assessment years 1947-48 and 1949-50 are valid ?'
The assessee is a private limited company engaged in transport business. During the account years ending with 31st March, 1947, and 31st March, 1949, the relevant assessment years being 1947-48 and 1949-50, there were only two shareholders who were also the directors. It is common ground that this is a company in which the public were not substantially interested and that section 23A is applicable to it. The Income-tax Officer found that the dividends declared by the company during the two years were below 60 per cent. of the assessable income less taxes paid. He was of the view that, having regard to the profits made, the company could have declared a larger dividend. He accordingly, proceeded to make an order under section 23A which resulted in the whole of the assessable income less taxes being deemed to have been distributed among the two shareholders of the company.
It was contended in the appeal before the Appellate Assistant Commissioner that notwithstanding that a certain amount of profits over and above what was distributed as dividends was available, several income-tax assessments were pending against the company and that, therefore, the company could not have made payment of any divided larger than what it actually made. The Appellate Assistant Commissioner, though he appreciated the arguments advanced, was unable to accept that position. He referred to Sir Kasturchand Ltd. v. Commissioner of Income-tax and thought that section 23A did not provide for taking into consideration whether the company would have to meet any liabilities out of the profits available in its hands. He observed :
'As a matter of fact, the section itself is quite clear where it stipulates only two conditions; the smallness of the profit made in this year or the losses made in earlier years. It cannot be stated that the profit made in this year is small. In the prior years, there were no losses... section 23A by itself also does not provide for any other contingency or factors to be taken into consideration...'
On this reasoning, he confirmed the order of the Income-tax Officer.
The appeal to the Tribunal also failed and, on the application of the assessee, the question set out above stands referred to us.
Section 23A, as it was applicable to the assessment year, stood thus :
'23A. (1) Where the Income-tax Officer is satisfied that in respect of any previous year the profits and gains distributed as dividends by any company up to the end of the sixth month after its accounts for that previous year are laid before the company in general meeting are less than sixty per cent of the assessable income of the company of that previous year, as reduced by the amount of income-tax and super-tax payable by the company in respect thereof he shall, unless he is satisfied that having regard to losses incurred by the company in earlier years or to the smallness of the profit made, the payment of a dividend or a larger dividend than that declared would be unreasonable, make with the previous approval of the Inspecting Assistant Commissioner an order in writing that the undistributed portion of the assessable income of the company of that previous year as computed for income-tax purposes and reduced by the amount of income-tax and super-tax payable by the company in respect thereof shall be deemed to have been distributed as dividends amongst the shareholders as at the date of the general meeting aforesaid...'
It is this provision that has to be interpreted. The jurisdiction to apply section 23A of the Act is derived on the occurrence of a stated contingency, viz., that the dividends distributed by the company are less than 60 per cent. of the assessable income of the company of that previous year as reduced by the income-tax and super-tax payable by the company in respect thereof. Thereafter, the Income-tax Officer is to have regard to certain other features before he can make a final order in terms of the section. The relevant part of the section which lays down that duty upon him is contained in :
'.... unless he is satisfied that having regard to losses incurred by the company in earlier years or to the smallness of the profit made, the payment of a dividend or a larger dividend than that declared would be unreasonable...'
He has accordingly to decide whether, on account of the smallness of the profit made, the payment of any larger sum as dividend would be unreasonable. This part of the provision no doubt gives considerable scope for the exercise of the individual discretion to the Income-tax Officer, but nevertheless, he has definitely to come to the conclusion that it would not be unreasonable in the circumstances of the case before him for a larger dividend to have been declared. Unless the exercise of this discretion in this regard is properly made, it is obvious that an order made in terms of the section would stand vitiated. We have accordingly to consider what exactly the scope of this part of the provision is.
We may refer to Ezra Proprietary Estates Ltd. v. Commissioner of Income-tax. That was a case of private limited company, whose main source of income was income from property. During the two accounting years 1938 and 1939, the company made profits of Rs. 30,000 and Rs. 15,000 and the whole of the profit was divided among the shareholders as dividends. The assessable income of the company during the two years was computed at over Rs. 1,20,000. It was contended by the department that since the company had not distributed among its shareholders at least 60 per cent. of the assessable income of the company, the order of the Income-tax Officer made under section 23A could not be disturbed. The learned judges observed :
'This sub-section is aimed at preventing companies from distributing too little of their profits. It had been found that frequently companies made large profits, but distributed very little... The sub-section is applicable where the profits distributed as dividends are less than sixty per cent of the assessable income of the company. The provisions of the section are made to apply unless the Income-tax Officer is satisfied that having regard to loses incurred by the company in earlier years or to the smallness of the profit made, the payment of a dividend or a larger dividend than that declared would be unreasonable. It follows, therefore, that the provisions of this sub-section are not attracted to all cases where the dividend declared is less than sixty per cent of the assessable income. There are cases in which such dividend, though less than sixty per cent. of the assessable income, can be regarded as a proper dividend and there can be cases where the payment of no dividend can be regarded as proper...'
'It is quite clear that this company could not have distributed by way of dividends more than the actual profits which it made in these years. Dividends can only be distributed out of profits and quite clearly a dividend could not be distributed out of the assessable income, because, as I have said, assessable income is in the case of a property owning company a notional income and may be far greater or far less than its real income. Dividends must be paid out of the actual profits made. The payment of dividends out of capital is a breach of trust on the part of the directors and they are jointly and severally liable to make good an amount paid out of capital with interest at five per cent per annum and it makes no difference whatsoever that the payment of a dividend out of capital has been sanctioned by all the shareholders : see National Fund Assurance Co., In re ......'
'It is clear, therefore, that this company could not, in the years in question, have distributed as dividends more than it did. Had it distributed sums equal to its assessable income, it could only have done so by drawing on its capital and distributing the same. That.... is prohibited by law.'
Dealing further with the question of the satisfaction of the Income-tax Officer in this regard, though, no doubt, whether the payment of a larger dividend would be unreasonable by reason of losses in earlier years and the smallness of the profits in the particular year, was a question of fact, the learned judges observed :
'If the Income-tax Officer was satisfied that that was so, then it is clear that his satisfaction was based on no evidence whatsoever. The evidence in this case shows that the whole of the fund available for the payment of dividends was distributed as dividend and there was nothing further which could be distributed as dividend.... If the income-tax Officer ever addressed his mind to this question and did come to the conclusion that a larger dividend could have been declared, then that finding is clearly supported by no evidence whatsoever.'
In Commissioner of Income-tax v. Bipinchandra Maganlal and Co. Ltd., their Lordships of the Supreme Court pointed out that the expression 'smallness of profits' was not the same as smallness of assessable income and that it had to be adjudged in the light of Commercial principles and not in the light of total receipts, actual or fictional. In that case, the question arose whether the difference between the written down value of an asset and the price realised thereof is not really income for the purpose of the computation of the assessable income. It was held that that could not become commercial profit and was not liable to be taken into account in assessing whether in view of the smallness of the profit a larger dividend would be unreasonable. The facts of that case appear to be of some assistance for the present purpose. The total assessable income of the company for the year of account was Rs. 48,761. The tax payable thereon was Rs. 21,332. The company paid dividends which fell short of 60 per cent of the assessable income reduced by the income-tax and super-tax by Rs. 4,458. Their Lordships observed :
'The first condition to the exercise of jurisdiction by the income-tax Officer under section 23A was, therefore, indisputable fulfilled. But the Income-tax Officer had still to be satisfied whether having regard to the smallness of the profit... it would be unreasonable to distribute a dividend larger than the dividend actually declared. The Income-tax Officer did not expressly consider this question; he rested his decision on the rejection of the contention raised by the company that the difference between the price of the machinery realised by sale and the written down value in the year of account could not be taken into account in passing an order under section 23A.'
It may be mentioned that the total assessable income of the company computed at Rs. 48,741 was arrived at by adding a sum of Rs. 15,608 realised in excess of the written down value of the machinery. What is important to note in this connection is that the expression 'profit' occurring in section 23A has to be adjudged in the light of commercial principles and not on the basis of the computation of the assessable income.
This aspect of the matter was further stressed in Indra Singh and Sons Ltd. v. Commissioner of Income-tax. The following extract from the head-note is sufficient :
'...the Income-tax Officer must pay regard to the accountable profits of the company actually at its disposal, which alone are contemplated by the words 'profit made' and not profits, of which it might be deemed to be possessed composed partly of the accounting profits and partly of notional income, coming in either as disallowed items of expenditure or as income computed on some artificial basis.'
We have examined the question of available profits on the basis of the details furnished and checked by counsel on both sides. The following is the resulting position.
For the year 1947-48, the total of the gross profits of Rs. 2,57,440 and the opening balance of Rs. 27,341 comes to Rs. 2,84,781. The estimated tax of Rs. 1,12,630 has to be excluded. This leaves a balance of Rs. 1,72,151. The total demands of tax for the assessment year 1943-44 to 1946-47 worked out to Rs. 1,75,921 as against which Rs. 1,49,877 had been paid. During the year of assessment Rs. 1,00,877 had been paid. Deducting this from the gross available profit of Rs. 1,72,151 the balance would be Rs. 71,274 against which there was during that year an ascertained outstanding arrear of tax of Rs. 1,75,921 minus Rs. 1,49,877, i.e. Rs. 26,044. Making allowance for this demand the available profits with the meaning of the section would be Rs. 71,274 minus Rs. 26,044, i.e., Rs. 45,230.
In the relevant year, a dividend of Rs. 50,000 had been declared. It is obvious that the payment of any larger dividend was impossible and there can, therefore, be no order under section 23A of the Act.
For the year 1949-50, the position is far different. The gross profits inclusive of the opening balance was Rs. 4,92,119. The taxes paid during 1947-48 and 1948-49 and the dividend of Rs. 70,000, declared in the year ending March 31, 1948, came to Rs. 1,42,916 leaving a balance of Rs. 3,49,203. Provision for the estimated taxes on the book profits of this year and the two preceding years, less payments during the year, would account for Rs. 1,96,432. This amount has to be deducted from the gross profits arrived at. This leaves the sum of Rs. 1,52,771 as the available profits, which has to be considered for the application of Section 23A. The dividend declared is only Rs. 45,000. The conclusion reached by the department and the Tribunal that the conditions requisite to the making of an order under section 23A obtain in this case, hardly requires to be underlined.
In the result, we answer the question in favour of the assessee for the assessment year 1947-48 and against him for the year 1949-50. There will be no order as to costs.