P.B. Mukharji, J.
1. Has Parliament succeeded in bringing 'Surplus' of a mutual insurance besiness not dealing with life, within the impact of Income-tax, is the main question in this Income-tax Reference.
2. This reference is made by the Tribunal under Section 66(1) of the Indian Income-tax Act at the instance of the assessee, the Calcutta Hospital and Nursing Home Benefits Association Ltd., for the determination by this Court of the following questions of law:
1. Whether the profit arising to the assessee company from miscellaneous insurance transactions of mutual character was assessable under the Indian Income-tax Act.
2. If the answer to question No. 1 is in the affirmative whether on the facts and in the circumstances of the case the balance of the profits as disclosed in the assessee company's profit and loss account after deducting the various reserves should be taxable profits within the meaning of Section 2(6C) read with Rule 6 of the Schedule of the Indian Income-tax Act.
3. There were five applications which have been consolidated into one statement of case covering the different assessment years. The Tribunal disposed of these applications by the consolidated order of the Tribunal dated 4th September, 1956.
4. The essential facts may be briefly stated at the outset. The assessee is a mutual concern carrying on miscellaneous insurance business. It has no share capital and no shareholder. To quote some of the major clauses like 3(1) and (iv) of the Memorandum of Association the objects of the society inter alia, are :
(1) To provide, or help towards providing anywhere in the world for the expense of accommodation and treatment in hospitals and nursing homes and of private nursing for members and their dependents 'by means of insurance on the mutual principle'.
(2) 'To organise insurance on the mutual principle' under regulations to be framed for the purpose with the object of providing such hospital, medical, surgical, nursing and allied services and of relieving members and their dependents in whole or in part from payment of hospital and other charges.
The members are required to pay a monthly premium and the risk covers for the month in which the premium is paid, although a grace period of three months is allowed within which period the premium can be paid covering the risk for the month for which the premium was due. We shall refer to the clauses in the Memorandum and Articles of Association of the assessee and the rules made thereunder at the appropriate place,
5. To proceed with the account of fact, the assessment orders are from 1949-50 to 1953-54 and the relevant accounting years ended on the 31st December 1948, 1949, 1950, 1951 and 1952 respectively. The assessee's published revenue accounts have the usual three classifications --(1) Miscellaneous insurance business revenue account, (2) profit and loss account, and (3) profit and loss appropriation account. In the revenue account were included subscriptions from members, gross premia from the members and from such amounts were deducted general reserve and/ or contingency reserve. Such reserves were transferred to the balance sheet as credit accounts. The claims paid or payable and the expense of management were deducted from this revenue account. The balance of the revenue account was transferred to the profit and loss account to the credit of which was added interest on investment and the debits included provisions for taxation, interest on loan, contribution to provident fund and depreciation. The balance of this profit and loss account was transferred to the profit in one year appropriation account. Therefrom in one year ended 31st December 1949 further deduction was made against contingency reserve and the balance either loss or profit, was earned forward.
6. The major contention of the assesses was that, because it was a mutual insurance company, there was no taxable profit and the profit as disclosed in the assessee's account was not taxable under the Indian Income-tax Act. This contention was based on the principle that in a mutual concern the so called profits payable to or receivable by the members were really 'Surplus' and not taxable and they mean that the members are merely participating in the surplus funds subscribed and provided by themselves. It was a misnomer to call this a profit; it was really in the nature of a refund of one's own money either in cash or in benefits. It was also based on the principle that no one could make a profit by dealing with himself. It was therefore contended by the assessee that technically such a fund in the mutual insurance jurisprudence was 'surplus' and not taxable profit.
7. The Tribunal proceeded on the basis that it was a mutual insurance concern and that the company was only open to policy-holder members and not outsiders. Mr. Mitter, learned Standing Counsel, tried to urge and contend that the asses-see was an ordinary trading concern and as such was earning profits. But that ground obviously is not open to him on the facts and on the case as made out throughout before the proceedings before the Income-tax authorities ending with the Tribunal. The statement of case proceeds on this basis that it was a mutual insurance company; the question raised proceeds on the very same basis that it was a mutual insurance transaction; the Tribunal's order proceeds on the same basis. In fact, even at the stage of the application for reference, the enclosure of facts submitted with the assessee's draft case clearly proceeded on the fact pleaded in paragraph 2 of such enclosure, namely,
'Since it was a mutual association doing miscellaneous insurance in a mutual business, it had no profits in the eye of the Income-tax law and therefore was exempt from taxation in respect of any surplus arising from any such activity'.
To that the taxing authority had occasion to reply and in its reply it did not at all contest that ground of fact by controverting it in any manner.
8. The Tribunal's order also clearly shows the question that the Tribunal was deciding and was asked to decide. To quote the words of the Tribunal:
'If what was taxed was profit or income in the ordinary sense, then undoubtedly the surplus which was returnable to the members would not be liable to tax and, prior to the amendment of Section 2(6C) of the Indian Income-tax Act, it is common ground that these profits were not subject to taxation'.
Therefore, the only point before the Tribunal and which is now open to the taxing authorities is the consideration of the question whether Section 2(6C) of the Indian Income-tax Act has included such surplus within the meaning of taxable profits under the Indian Income-tax Law. It was taken as 'common ground', as the Tribunal says, that without this Section 2(6C) of the Income-tax Act, these profits would not be subject to taxation.
9. Now the Tribunal came to the conclusion that under Section 2(6C) of the Income-tax Act read with Rules 6 and 9 of the Schedule to the Act, the profit of such a mutual concern as the asses-see was income and liable to income-tax.
10. The Tribunal relied on the decision of the Bombay High Court in re: Bombay Mutual Life Assurance Society Ltd. v. Commissioner of Income-tax, Bombay City : AIR1952Bom63 . The decision therefore, of the Tribunal on the first point of objection by the assessee is that the profit as contemplated under Section 2(6C) of the Income-tax Act included profits which were disclosed in the annual accounts.
(i) The second objection of the assessee was based on Rule 6 of the Schedule of the Income-tax Act. The assessee's argument on this point is that the Income-tax Officer must accept the balance of profit disclosed by the annual account after deducting the reserves as the taxable profits. What happened in the assessment year 1949-50 was that the accounts disclosed a net profit of Rs. 1,663/- after allowing a reserve of Rs. 1,000/-. The Income-tax Officer added this amount to compute the profit at Rs. 2,663/-. Similarly for other years, the Income-tax Officer computed the taxable profits by adding back the reserves. The Tribunal held the view and decided that the profit in all cases was a profit before the provision of reserve was made.
12. In expressing this decision the Tribunal says that in a general insurance company of the nature of fire insurance etc. the company reserves generally fifty per cent of the premium to cover the unexpired risks. It proceeds to explain this by saying that this is done because the company is liable to certain risks for the unexpired premium and unless such a reserve was made, the profits could not be taken to be a correct one according to the commercial usage of such general insurance companies. Then the Tribunal notices the executive instructions issued by the Central Board of Revenue to the Income-tax Officers to allow such reserve for computation of the profits but holds that there is no legal sanction behind such executive instructions. The Tribunal proceeds further to say that in the present case the risk covered is generally for a month and on the expiry of the calendar year there was 'little liability' for unexpired risks. In fact, the Tribunal argues that the company thought it prudent to reserve a portion to meet the contingencies etc. and the reserves are provided out of the balance of profit. The Tribunal then says that this provision for the reserve is an expense to be deducted from the profit disclosed by the asses-see in order to arrive at the profits within the meaning of Rule 6.
13. On these findings the Tribunal dismissed the assessee's appeal. This concludes the relevant facts necessary for the decision of this Reference.
14. In considering the law on this point it 13 necessary to bear in mind certain relevant sections and the rules bearing on this point. Section 2 (6C) (vii) of the Income-tax Act provides as follows:
'Income includes the profits and gains of any business of insurance carried on by a mutual insurance association or by a co-operative society' computed in accordance with. Rule 9 in the Schedule' '.
15. This is the governing section so far as this Reference is concerned and was introduced by Section 3 of the Finance Act, 1955 with effect from the 1st of April, 1955.
16. The original Schedule of the Income-tax Act was repealed by the Repealing Act of 1927 and the present Schedule to which reference is made in Section 2 (6C) (vii) was added by Section 84 of the Indian Income-tax Amendment Act, 1939 (Act VII of 1939) and was a pre-existing Schedule at the date of amendment in 1955. A reference to the Schedule is necessary but before doing so it will be more appropriate to notice Section 10(7) of the Income-tax Act which provides as follows:
' 'Notwithstanding anything to the contrary contained in Sections 8, 9, 10, 12 or 18, the profits and gains of any business of insurance and the tax payable thereon shall be computed in accordance with the rules contained in the Schedule to this Act'.
17. The net result of Section 2 (6C) (vii) and Section 10(7) of the Income-tax Act is that they make profits and gains of any business of insurance taxable in accordance with the rules contained in the Schedule to the Act, the former making special and particular reference to mutual insurance and the latter making reference to any business of insurance.
18. With these observations we shall now proceed to notice the relevant rules in the Schedule. The Schedule has a title heading called 'Rules for the computation of the profits and gains of insurance business''. There are altogether nine rules. The first five rules relate to life insurance business. The sixth rule relates to 'any business of insurance other than life insurance'. The seventh, rule relates to what is called 'the dividing society'. The ninth rule provides that all these rules from 1 to 8 apply to the assessment of the profits of any business of insurance carried on by a mutual insurance association or by a cooperative society. The rules appear, therefore, to be based on four broad classifications of insurance society namely (1) the life insurance society (2) insurance other than life insurance, (3) dividing society and (4) insurance carried on by mutual insurance society.
19. In this Reference we are concerned with mutual insurance society. The nature and character of a mutual insurance society must be carefully borne in mind with a view to come to a proper decision. The essential characteristics of a mutual insurance company are (1) that it has no share capital and (2) of which by its constitution only all policy-holders are members. That is expressly provided in Section 95(1)(a) of the Insurance Act. These two tests, of having no share capital and only policy-holders being members, are satisfied by the present assessee. Therefore, it is a mutual insurance company within the meaning of Section 95(1)(a) of the Insurance Act.
20. One other, statutory provision requires tobe noticed on the nature and character of a mutual insurance company. That is provided by Section 27 of the Companies Act prior to the present Act of 1956 and which reads as follows:
'In the case of a company limited by guarantee and not having a share capital and registered after the commencement of this Act, every provision in the memorandum and articles or in any resolution of the company purporting to give any person a right to participate in the divisible profits of the company otherwise than as a member shall be void.'
21. The assessee is a company limited by guarantee and has' no share capital as already noticed. For all practical purposes, its only source of revenue and income is the subscriptions of the members. This particular section of the Companies Act appears to underline the principle that ordinary profit making is not permissible in such a company and the only kind of divisible profits available are such that the member qua member could receive. Indeed, any attempt or device to override that limitation was avoided by law and the express statutory provision.
22. Against this background we can now examine the decision of : AIR1952Bom63 which was applied by the Tribunal to come to its decision.
23. A Division Bench of the Bombay High Court of Chagla C. J. and Tendolkar J. came to the conclusion in that case that the surplus accruing to a life insurance company from insurance transactions of a mutual character was assessable to tax under the Income-tax Act. The ratio of this decision is based on the interpretation of Section 2(6C) as importing into the definition of 'income' profits which might not be profits in the ordinary sense of the term but which were made profits by reason of Rule 2 of the Schedule which rule, according to this decision, gives an 'artificial' extension to the meaning of the word 'profits'. Chagla C. J. delivering the judgment at p. 196 (of ITR ) : (at p. 65 of AIR) observed as follows :
'Therefore a new class of artificial income is created by this rule and that artificial income is included into the meaning of Section 3 by reason of this rule.'
24. In overruling the contention of Sir Jamshedji Kanga for the assessee in that case, Chagla C. J. observed at page 196 (of ITR) : (at p. 65 of AIR) as follows :
'Looking to the scheme of our Act and according to the clear language used in Section 2 (6C) it is difficult to accept Sir Jamshedji's contention that the Legislature while intending to bring the surplus within the ambit of the taxing law has failed to express its intention in sufficiently clear language which would compel us to hold that the surplus to which the participating members are entitled is not subject to tax.'
25. In that view of the matter Chagla C. J. distinguished the leading authority of the House of Lords' decision in Inland Revenue Commissioners v. Ayrshire Employers Mutual Assurance Association Ltd., (1948) 16 ITR (Supp) 8o, also reported in (1948) 27 Tax Cas 331 by observing that Lord Macmillan's observations against the English Legislature that it had plainly missed fire and therefore failed to include such surplus within taxable profits was inapplicable and that the Indian Legislature was a better marksman and had hit the bull's eye. The Bombay decision also was of the view that the amounts paid to of reserved for or expended on behalf of the policy holders of a mutual life insurance company within the meaning of Rule 3(a) of the Schedule to the Income-tax Act did not include the expenses incurred by the company for payment of Income-tax or provision for Income-tax.
26. If the Bombay decision In : AIR1952Bom63 applied to the facts of this case, as the Tribunal thought that it did, then that would have lessened our labours. But the difficulties of applying the Bombay decision to the facts of the present Reference cannot be ignored. In the first place, the Bombay decision is clearly distinguishable from the present Reference. The points of distinction are : (1) The Bombay decision was a life insurance decision and although it was a mutual life insurance society, nevertheless different rules and special rules applied to life insurance and the rules with which the Bombay decision was concerned were Rules 2 and 3 which do not apply to the mutual insurance other than life which we have to consider. The second point of distinction is the very distinctive clauses in the Memorandum of Objects and the Articles of Association of this assessee which we shall presently consider and which appear to indicate forcefully that this surplus, in the facts of this case, is not taxable profit. Thirdly, Mr. Sampath Iyengar appearing for the assessee in this case has challenged the correctness or soundness of the Bombay decision and in support of such challenge has relied on (1) the Report of the Income-tax Investigation Commission, and (2) the legislative history relating to attempted taxation of mutual insurance societies in India.
27. This argument of Mr. Sampath Iyengar requires careful attention as the Bombay case was a life insurance case and a mutual insurance case. Mr. Iyengar refers to paragraphs 124-126 at pages 54-55 of the Income-tax Investigation Commission Report presided over by Sir Srinivasa Varadachariar and occurring in the context of life insurance companies. These observations are :
'Before passing on to the next topic, it seems to us necessary to say a few words on the law relating to taxation of mutual insurance associations. Prior to 1939, mutual insurance companies were not taxed in India on the basis of 'profits apparently in accordance with the decision of the House of Lords in Newyork Life Insurance Co, v. Styles, (1889) 14 A. C. 381. Authoritative, decisions introduced some refinements into the English rule and in 1933 Parliament (by Section 31(1) of the Finance Act of that year) enacted that 'profit or surplus arising from transactions of the company or society with its members' would be taxable as 'profits or gains' in all cases where they would have been taxable as such 'if those transactions were transactions with non-members'. This lead was followed by the Indian Legislature in the legislation of 1939. The new definition of 'income' (Section 2 (6C) J was made to include 'the profits of any business of insurance carried on by a mutual insurance association computed in accordance with Rule 9 in the Schedule' and Rule 9 provided that the preceding Rules (1 to 8) apply to the assessment of the profits of any business of insurance carried on by a mutual insurance association. This rule reproduces in effect the concluding words of Section 31(1) of the English Finance Act 1933.'
'The operation of the above provision in the English Finance Act has practically been nullified so far as mutual insurance companies are concerned by the decision of the House of Lords in 1948-16 ITR (Supp) 80. Relying on the exposition given in Municipal Mutual Insurance Ltd. v. Hill, (1932) 16 Tax Cas 430, as to the basis and effect of the decision in Styles' case, the House of Lords emphasised the distinction between 'surplus' and 'profits' and held that 'the surplus was not profit within the meaning of the Income-tax Acts but merely represented the extent to which the contribution of those participating in the scheme had proved in experience to have been more than was necessary to meet their liabilities. The balance or surplus was the contributors' own money and returnable to them.' Referring to Section 31 (1) of the Finance Act 1933, Lord Macmillan said that the hypothesis on which the section rested was wrong and that 'the Legislature has plainly missed fire.' Even the intended purpose of the legislation was characterised by him as 'not the meritorious object of preventing evasion of 'taxation but the less laudable design of subjecting to tax as profit what the law has consistently and emphatically declared not to be profit. In the recent judgment of the Privy Council in English and Scottish Joint Co-operative Whole-sale Society Ltd. v. Commissioner of Agricultural Income-tax, Assam , the basis of the decisions relating to mutual insurance companies has been explained in the same manner as in the Ayrshire Employers Insurance case, 1948-16 ITR (Supp) 80 : 27 Tax Cas 331.
'The criticism in the latest judgment of the House of Lords against Section 31 (1) of the English Finance Act of 1933 may well be applied to the effort of the Indian Legislature to subject mutual life insurance associations to income-tax. Government must make up its mind whether it is going to treat mutual insurance transactions as transactions yielding profits. If it so decides, it must specifically use charging words to make the surplus arising from such transactions liable to tax, or as has been done in Section 53 (2) (h) of the Finance Act, 1920, relating to Corporation Profits Tax, income must be declared to include, in the case of mutual insurance companies, the surplus arising from transactions with members. As the Indian law now stands, Rule 9 of the Schedule is not a charging provision but only prescribes a method of computation. The charge must be derived by implication from the definition of 'income' but that definition only brings in 'profits' of the mutual insurance business. The definition is based on the assumption that the surplus Can be regarded as profits in such a case and it is this assumption that has been declared by the House of Lords to be wrong. This criticism may not probably apply to the taxation of the investment income of the company as interest and not as profits.'
27-A. But for these weighty observations coming from so eminent a Judge and Jurist as Sir Varadachariar we might have been content to follow the view that the Bombay decision took. But these observations and expression of opinion on the construction against the wealth of legal decisions coupled with the legislative history in the last ten years, make us hesitate to adopt the Bombay decision specially in the case of mutual non-life insurance and compel us to examine more closely the arguments of Mr. Iyengar for the assessee. Clearly Sir Varadachariar was expressing a view different from that expressed by Chagla, C. J., on Section 2 (6C) of the Income-tax Act.
28. Mr. Mitter for the Income-tax Commissioner realised the difficulty in the light of these observations. He, however, tried to nullify the rigour of those observations by himself relying on paragraph for at page 44 of the same Income-tax Investigation Commission Report on mutual associations. But they do not make the position more favourable to the taxing authorities. Those observations are as follows:
'The law relating to the taxability of the income of various kinds of mutual associations can scarcely be said to be clear or definite. In the absence of specific legislative provisions, the case-law both in England and in India has had one may almost say a chequered history. The precise implications of the decision of the House of Lords in Styles case, (1889) 14 AC 381 have long continued uncertain. Decisions of Courts have variously laid stress on the test of mutuality, the test of trade or business, the significance of the term 'profits' and so on. Undue importance has sometimes been attached to the question whether the transaction of the association had been limited to members or did include or could have included non-members also. In Cornish Mutual Assurance Co., Ltd. v. Inland Revenue Commissioner, 1926 AC 281 at p. 287, Viscount Cave, L. C., declined to accede to the proposition that a mutual company could not be held to carry on business. In Thomas v. Richard Evans and Co., Ltd., 1927 (1) KB 33 at pages 46-47 -- Rowlatt, J., saw no difficulty in holding that a company can make a profit out of its members as customers even though its range of customers is limited to its shareholders. The recent decision of the Judicial Committee in 75 Ind App 196 : (AIR 1948 PC 742), has definitely dissented from the proposition laid down by the Madras High Court in unqualified terms that a society could not make taxable profits out of its own component elements. This may call for a reconsideration of some of the decisions of the Indian High Courts and the Income-tax Department may itself have to reconsider certain questions in the light of the rationale of the Privy Council judgment. Beyond sounding a note of caution as to results and implications of the Privy Council judgment, we doubt if it will be expedient to recommend any definite legislative provisions at this stage, either, on the lines of Sections 5 (2) and 5 (2) (h) of the English Finance Act, 1920 and Section 31 (1) of the Finance Act, 1933 01 Section 117 etc., of the Australian Act.'
29. The result is that we will have to examine, what Mr. Iyengar says, the legislative history also, apart from the history of the decisions which Sir Varadachariar has noticed as above.
30. On an examination of the legislative history it appears that after the report of the Income-tax Investigation Commission suggesting express mention of 'surplus' in the case of mutual insurance, if that was intended to be taxed, a comprehensive Bill in 1951 was brought which inter alia attempted to redefine 'income' to include the surplus, if any, in any business of insurance carried on by mutual insurance association computed in accordance with Rule 9 of the Schedule. It has been urged that this attempt in the Bill to bring in surplus for taxation shows that the 'surplus' of the mutual insurance association was not within the tax. The Bill of 1951, however, lapsed and did not become an Act. The result was that the Act remained with the word 'profit' and without the word 'surplus' so far as the mutual insurance associations were concerned. An Indian Income-tax (Amendment) Bill was again introduced in 1952 suggesting various amendments some of which became law, but then this Bill of 1952 did not introduce 'surplus' expressly as taxable, so far as mutual insurance associations were concerned. Finally, by clause 2 (24) (vii) the present Income-tax Bill of 1961, which we are told has been passed by both Houses of Parliament and will be coming into effect very soon, expressly re-introduces 'surplus' of mutual insurance company as taxable in the following-terms:
'The profits and gains of any business of insurance carried on by a mutual insurance company or bv a co-operative society, computed in accordance with Section 44 or any surplus taken to be such profits and gains by virtue of provisions contained in the first schedule.'
On this Mr. Sampath Iyengar quite legitimately and logically submits that the past and the future law in the last ten years serves to indicate that the Indian law was, or at least intended to be, and that, according to him, was not to include surplus of mutual insurance companies as coming vithin the charge of income-tax.
31. He, therefore, submits that the Bombay decision in : AIR1952Bom63 , had not had the benefit of considering either the views of Sir Srinivasa Varadachariar of the legislative history of the ten years from 1951 to 1961. He has therefore submitted before us that this Court should not follow the Bombay decision, at any rate so far as non-life mutual insurance society is concerned.
32. The trilogy of the House of Lords decision in (1889) 14 AC 381 : 2 TC 460, (1948) 27 Tax Cas 331 and Jones v. South-West Lancashire Coal Owners' Association Ltd., 1927 AC 827, need not be examined in greater detail as those decisions and their import have been fully commented upon by Sir Srinivasa Varadachariar in the report quoted above. Some allusion to them however it, necessary for the purpose of this particular Reference. The Styles case, (1889) 14 AC 381 was a mutual life insurance company's case. It had no members other than the holders of participating policies. The surplus was divided between the participating policy-holders who received their dividends in the shape either of a cash reduction from future premium or of a reversionary addition to the amount of their policies. It is significant there that the surplus consisted partly of the excess of the premiums paid by the participating policy-holders and partly of profits arising from non-participating policies, the sale of life and wage and other business conducted by the Society with non-members. No such, complication arises in the present Reference before us, as there is no business with non-members at all. The majority members of the House of Lords consisting of Lords Watson, Bramwell, Herschell, and Macnaghten held that so much of the surplus that arose from the excess contributions of the participating policy-holders was not profit assessable to income-tax. Lord Hals bury, L. C. and Lord Fitzgerald dissented and were in the minority.
33. Lord Watson at p. 470 of the Report in (1889) 2 Tax Cas 460 noticed:
'The excess, if any, of premiums received from these members over expenditure for which they are responsible is, after carrying part to a reserved fund, returned or repaid to them, either in the shape of bonus additions to their insurances, or by a deduction of the future premiums required from them.'
34. Lord Watson further pointed out at the same page that the question before the House for determination was: 'The question which we have to decide is whether that surplus represents annual gains or profits' within the meaning of Schedule D of the Income-tax Act of 1853. He distinguished the decision of the House of Lords in Last v. London Assurance Corporation, (1884) 2 Tax Cas 100 on the ground that the policy-holders in Style's case, (1889) 14 AC 381 were not outsiders and they alone were members of the company. Lord Watson pointed out at p. 470 :
'In Last's case, (1884) 2 Tax Cas 100 the insured and the Corporation stood to each other in no other relation than that of creditor and debtor; they were in all respects separate and independent bodies without community of rights and interests, their sole connection being a right on the one part to pay premiums, with a counter obligation, when these have been duly settled, to pay the sum insured. A member had in that capacity no claim under his policy, and a policy-holder had, as such, no share in the receipts and assets of the Corporation.'
35. Lord Watson emphasised the identity between members of the company in the case of a mutual insurance society where there could be no members other than the policy-holders and 'expressed this crucial distinction in the following terms at pages 470-471: -
'But according to the constitution of the Appellant Company, insurance by means of a participating policy is the only possible qualification for membership; and, as soon as it is effected,the insured is invested with all the rights, and becomes subject to all the liabilities of a partner. The individuals insured and those associated for the purpose of receiving their dividends, and meeting policies when they fall in, are identical, and I do not think that their complete identity can be destroyed or even impaired by their incorporation. The Corporation is merely a legal entity which represents the aggregate of its members; and the members of the Appellant Company are its participating policy-holders.'
36. Lord Herschell, another Member of the majority view of the House in Styles case, at p. 482 of the Report (Tax Cas) put the matter briefly and with great clarity in these terms: -
'Persons who agree to contribute to a common fund for mutual insurance certainly would not, in ordinary parlance, be regarded as carrying on a trade or vocation for the purpose of earning profit. Let us see how the so-called profit arises. It is due to the premiums which the members are required to pay being in excess of what is necessary to provide for the requisite payments to be made upon the deaths of members, and not being, as the case states they were intended to be, commensurate therewith. This may result either from the contributions having, owing to an erroneous estimate or over-caution, been originally fixed at a higher rate than was necessary, or from the death-rate being lower than was anticipated. Can it be properly said that, under these circumstances, the association of mutual insures has earned a profit? The members contribute for a common object to a fund which is their common property; it turns out that they have contributed more than is needed, and therefore, more than ought to have been contributed by them, for this object, and accordingly their next contribution is reduced by an amount equal to their proportion of this excess. I am at a loss to see how this can be considered as a 'profit' arising or accruing to them from a trade or vocation which they carry on. It is true the alternative is allowed them of leaving the excess in the common fund, and so increasing their representative's claim upon it in case of death, but I cannot think that this makes any difference.'
37. Lord Macnaghten, another Member of the majority view at page 484 expressed forcibly the same view on such contribution as distinguished from profit:-
'The practice is to take an account every year of assets and liabilities, and to give the insured the benefit of the surpluses, either by way of reduction of premiums or by way of addition to the sum insured. It can make no difference in principle whether the surplus is so applied, or paid back in hard cash. In either case it is nothing but the return of so much of the amount contributed as may be in excess of the amount really required. I do not understand how this excess can be regarded from any point of view or for any purpose as gain or profit earned by the contributors.'
38. The importance of these observations lies in exemplifying and analysing the real nature of the so-called profits in a mutual insurance society. The real nature is that it is not so muchprofit but a return of their own money contributed but not required ultimately. In essence it is only a refund of their own money. The other importance of these observations lies in the fact that it answers the main argument of the learned Standing Counsel which we shall presently notice that company is an entirely separate legal entity and that the members are distinct and apart from such legal entity. That no doubt is true and is elementary in basic Company law but in a mutual insurance society with no share capital and with no members other than the policy-holders, the situation is very different and the legal notion of the separate juristic entity of a company is not enough to override the complete identity between the Corporation and the corporators in a mutual insurance society of this type which Lord Herschell and Lord Macmillan pointed out above.
39. The next decision of the House of Lords in (1948) 27 Tax Cas 331: is a case of a mutual insurance society indemnifying its members in respect of claims by their workmen for injuries arising out of accidents or alleged accidents, its members being only contributors and only participators. The question there also arose whether surplus arising out of the transactions would be assessable to income-tax. The decision turned on Section 31 of the Finance Act, 1933 in England. The ratio of this decision is that Section 31 which sought to render the surplus of such mutual insurance companies assessable failed because it was based on the wrong assumption that surplus from dealings with non-members would be assessable and sought to put the two kinds of surplus on the same footing and that it was not membership or non-membership which determined the immunity from or liability to tax but the nature of the transaction. It was definitely held by the House of Lords in that decision that if the transactions were of the nature of mutual insurance, the resultant surplus was not taxable whether the transactions were with members or with non-members. Again, the present Reference before us is not complicated with any question of transaction with non-members. At p. 347 of the Report in 27 Tax Cas, Lord Macmillan observed: -
'The structure of Section 31 (1) is quite simple. It assumes that a surplus arising from the transactions of an incorporated company with its members is not taxable as profits or gains, To render such a surplus taxable it enacts that the surplus, although in fact arising from transactions of the company with its members, shall be deemed to be something which it is not, namely, a surplus arising from transactions of the company with non-members. The hypothesis is that a surplus arising on the transactions of a mutual insurance company with non-members is taxable as profits or gains of the company. But unfortunately for the Inland Revenue the hypothesis is wrong. It is not membership or non-membership which determines immunity from or liability to tax, it is the nature of the transactions. If the transactions are of the nature of mutual insurance the resultant surplus is not taxable whether the transactions are with members or with non-members.'
40. It is here in this case that Lord Macmillan at p. 347 made the famous observations: 'The Legislature has plainly missed fire.'
41. Mr. Mitter, the learned Standing Counsel for the taxing authorities relied on the quotation by Lord Fleming of the observation of Lord Dunedin namely:
'Any person, or set of persons, or company, carrying on the business of insurance, charges premiums and has to meet claims on the policies for which the premiums have been paid and if it transpires in the course of business that the amount obtained by the premiums has been more than sufficient to meet the claims, there is surplus. If that surplus is a profit it must bear income-tax, 'secus' if it is not; and whether it is a profit or not depends, as was found in the two cases, upon the question: To whom does it go? If it goes to the insure: or insurers it is a profit. If it simply goes back to the insured either in reduction of his premium or in enhancing the sum insured, it is in essence merely a return of his own money which he has overpaid and is not a profit.'
42. This observation was made by Lord Dunedin in the House of Lords case of (1932) 16 Tax Cas 430 at p. 441.
43. Mr. Mitter tries to utilise this observation in his favour by invoking the objects in the Articles of Association of the present assessee company by saying that the profit here goes to the insured which is the company, which is described as a separate legal entity, and, therefore, profit is taxable within the meaning of Lord Dune-din's dictum. He attempts to show that these objects and Articles of Association of the present assessee indicate that these profits do not go back to the insurer, that is the members themselves.
44. There are two significant answers to this argument of Mr. Mitter and I think that the observations of Lord Dunedin far from helping the taxing authorities are against their contention. The first answer is that there is no dividing rigid line between a mutual insurance company and its members such as Mr. Mitter thought. That part of the argument is already answered by Lord Watson's observations quoted above in Style's case, (1889) 2 AC 460 at pages 470-71, and is especially so in India where such a mutual insurance company can have no share capital and can have no member other than the policy-holders. Therefore, there is no distinction between the insurer and the insured in this case because the company and its members are really one and the same from the point of view of taxing purposes. The second answer is that Mr. Mitter's assumption that the profits do not go back to the insurer, that is the members in this case, is entirely wrong. Clause 4 of the objects of the Memorandum does not help Mr. Mitter. Clause 4 opens with the words:
'The income and property of the Association whencesoever derived shall be applied solely towards the promotion of the objects of the Association as set forth in this Memorandum of Association.'
That object was and is mutual insurance. Thenext portion of clause 4 on which Mr. Mitter really relied is :
'and no portion thereof shall be paid or transferred by way of dividend, bonus or otherwise howsoever by way of profit to the members of the Association.'
On a plain reading of this particular portion of clause 4 and the objects it is clear that it shows that it is not a profit making company at all; that no profit either in the shape of dividend, bonus or otherwise can be paid or transferred to the members. But then Mr. Mitter argues: therefore, these profits are not coming back to the members. To that the answer is provided as already indicated and also by the subsequent provisions in the very same Clause 4 which proceeds to say:
'Provided that nothing herein shall prevent granting to or receiving by a member of the Association any benefit contemplated by Clauses 3 (1) (ii) and (iv) of this Memorandum of Association or any payment, allowance, concession to members by way of rebate or return of subscriptions in accordance with the regulations for the time being of the Association.'
This shows that Clause 4 co-exists with the object of granting benefit back to the members by way of rebate or return of subscriptions. There is therefore, no distinction between the present case and the Styles' case, (1889) 14 AC 381 which Mr. Mitter persistently tried to draw by saying that in Styles case, (1889) 14 AC 381 the benefit was returnable while in the present Reference benefit was not returnable to the members. Clause 4 of the present objects of the assessee shows clearly that it is and can be returnable and is staled to be one of its objects. It also shows that it shall be returned by way of rebate or return of subscriptions in accordance with the regulations of the Association.
45. Turning now to the regulations of the Association, which are expressly permitted by Articles 71 and 72 and particularly Article 72 (15) of the Articles, 'one finds that Rule 2 of the Rules and Regulations provides as follows:-
'The Association is not a commercial enterprise -- it is a co-operative effort designed to allow the whole of the subscriptions (with the exception of the necessary expenses of administration) to be returned in the form of benefits to those members who have the misfortune to incur the expenses of illness or operations.'
46. Rule 3 also expressly provides inter alia that the committee of management has power to vary from time to time the rates of subscriptions, privileges and benefits set out in these Rules. A copy of the Rules and Regulations of the Association effective from 1st July, 1950, which has not been brought on the Paper book is directed to be kept on the records of this Reference.
47. The rules and regulations, therefore, make it abundantly and expressly clear that the whole of the subscriptions has to be returned in the form of benefits to the members. It is essential to emphasise here that on the decisions, the settled law is that this return may be either in cash or in kind and it does not matter whether it is not in cash but in kind so long as the benefit is returned in some shape or other.
48. The attempted distinction, therefore by which Mr. Mitra tried to distingiush the Styles' case (1889) 14 AC 381 from the present reference cannot succeed.
49. The next House of Lords decision is 1927 AC 827. This was a case of mutual insurance. It was a case of a Company limited by guarantee which had for its sole effective purpose the indemnity of its members who were all coal owners against liability for compensation in respect of fatal accidents to workmen in their employment, ft was a purely mutual concern: every person indemnified by the person being a member of the association and every member being indemnified by the association. The House of Lords decided by applying the Styles' case, (1889) 14 AC 381 that the surplus did not constitute profits liable to income-tax. Viscount Cave L. C., at p. 830 of that report cautioned the House by saying:
'My Lords, when a question of law has been clearly decided by this House, it is undesirable that the decision should be weakened or frittered away by fine distinctions; and it appears to me that the decision of the House in the case of (1889) 14 AC 381 completely covers this case.'
50. It is significant that in this decision, Viscount Cave, L. C., rejects the attempted distinction as unsound that in Styles' case, (1889) 14 AC 381 the company returned to 1he participating policy-holders the surplus but in Jones's case, 1927 AC 827 the articles of association required the surplus to be carried to a reserve and not at once returned to the members. This was the very distinction on which Mr. Mitra tried to rely. It is, therefore, necessary to quote the decision oi Viscount Cave, L. C., at p. 832 which meets this argument:-
'Counsel for the appellant contended thatthe present case was distinguishable from NewYork Life Insurance Co.,'s case, (1889) 14 AC381 on the ground that, whereas the companythere in question returned to its participatingshare-holders the surplus of its receipts over itsexpenditure at the end of each year, the articlesof the respondent organisation required that surplus to be carried to reserve and not at once returned to the members. I do notthink this is a sound distinction. In this case, asin the New York Life Insurance Co's case, (1889)14 AC 381 there are no share-holders interested,and the whole of the surplus remains to the creditof the members, and must either be applied tomeet their future claims or to return to them onretirement. Sooner or later, in meal or in malt,the whole of the company's receipt must go backto the policy-holders as a class though not precisely in the proportions in which they have contributed to them; and the association does not inany true sense make profit out of their contributions.'
51. In view of that observation, with which we respectfully agree as laying down the correct law, Mr. Mitra's attempt to show from the objects in the articles of association that the assessee is making a trading profit in this case cannot stand. Clause 5 of the objects in fact, penalises any payment or receipt of any dividend, bonus or profit by a member in contravention of clause 4. Clause 7 of the objects of the memorandum shows that even on winding up or dissolution, any property which remains unpaid or undistributed among the members of the association, such, residue
'shall be given or transferred to some other organisation or institution or organisations or institutions having objects similar to the objects of the Associations to be determined by the members of the Association at or before the time of dissolution or in default thereof by the High Court of judicature in Calcutta.'
Clause 7 far from making possible any profit rather provides to the contrary that residue, if any,shall not be distributable but will be distributed cy-pres to other organisations.
52. Then Mr. Mitter contends that Articles 17, 18 and 19 and Article 72 (3) of the Articles of Association of the assessee show -- (1) that the assessee intends to, make profits, (2) that reserve fund and depreciation fund can only arise out of profits, and (3) that the profits can be used in any manner or even as working capital as the Committee of the Association may decide. We are afraid that these At tides do not make the assessee an ordinary trading and profit making concern. Article 17 provides that -
'The Committee may from time to time set apart any and such portion of the profits of the Association as they think fit as a Reserve Fund to meet contingencies or for the liquidation of any debentures, debts, or other liabilities of the Association or for repairing, improving and maintaining any of the property of the Association and for such other purposes of the Association as the Committee may in their absolute discretion think conducive to the interests of the Association.'
Similarly, Article 18 provides for setting apart the 'profits of the Association' or part thereof as 'Depreciation Fund'. Finally, Article 19 provides that all monies carried to the Reserve Fund
'shall nevertheless remain and be profits of the Association applicable subject to due provision being made for actual loss or depreciation, and such moneys and all other monies of the Association not immediately required for the purpose of the Association may be invested by the Committee in or upon such investment or securities as they may select or may be used as working capital or may be kept at any bank on deposit or otherwise as the Committee may from time to time think proper.'
53. The use of the word 'profit' in Articles 17, 18 and 19 does not make any difference to the nature of this so-called 'profit' which is really nothing more nor less than 'surplus' of a mutual insurance society. The reserve fund and depreciation fund are always made from such profits which, in this case, are really of the nature of surplus. As Lord Cave said in the case quoted above the transfer of this surplus to reserve did not make it taxable profit. The records show that this so-called profits are not the trading profits but are entirely the excess of the subscriptions paid by the members and not utilised or eaten up by expenses. It is on this particular point that the observations quoted above of the House of Lords provide a complete answer. Mr. Mitter tried to rely on Lord Herschell's observation in Russell v. Aberdeen Town and County Bank, (1888) 2 Tax Cas 321 at p. 327 that -
'The profit of a trade or business is the surplus by which the receipts from the trade or business exceed the expenditure necessary for thus purpose of earning those receipts.'
That observation is irrelevant for the purpose of this Reference, because that was made in the case of a Bank and a trading at that, and it was not a case either of mutual insurance company confined only to policy-holder-members and no outsider. In fact, such profit-making is illegal by statute under Section 27 of the Companies Act as indicated above. The technical objection to Mr. Mitter's argument that this is not a mutual insurance society at all but an ordinary profit-making trading company has already been given by saying that this is not a fact which is permissible for Mr. Mitter to reopen. It was not put in issue at any stage before the taxing authorities and does not arise from the Tribunal's order within the meaning of Section 66 of the Income Tax Act. It will do grave injustice to the assessee to reopen that question, because, if it was not a mutual insurance company, then other avenue for exemption from taxation on the ground of charity could be open to the assessee as in Commissioner of Inland Revenue v. Peebleshire Nursing Association, (1927) 2Tax Cas 335.
54. This branch of the law that mutual insurance companies do not make profit but have surplus which are not taxable profits within the meaning of the Income-tax Act is based on the fundamental proposition of more general application that one cannot trade with oneself and earn a profit. The mutual insurance society is a closed society which by the combined operation of statutory provisions of, Section 95(1)(a) of the Insurance Act and Section 27 of the Companies Act arc confined only to policy-holder-members with no share capital and with bar against profit-making as such members of the mutual insurance society. Palles, C.B. emphasises this principle even in a non-mutual insurance company case in Dublin Corporation v. M' Adam, (1887) 2 Tax Cas 387 at p. 397 by making the celebrated observations :
'If these two parties are identical, in my opinion, there can be no trading. No man, in my opinion, can trade with himself; he cannot, in my opinion, make, in what is its true sense or meaning, taxable profit by dealing with himself; and in every case of this description it appears to be a question on the construction of the Act whether the two bodies -- the body that supplies and the body or class that has to pay -- were either identical, or, upon the true construction of the Act, must be admitted to have been held by the Legislature to be identical, and so legislated for upon that basis.'
55. The case which, the Chief Baron was dealing with was not a mutual insurance case buta case of a City Corporation and its supply of water beyond the city boundaries. He enunciated this as a general principle that no one can trade with one self. This general principle applies with particular force and in acute form in the case of mutual insurance society because of the nature and limitation which such society has. So was the principle emphasised by Lord Herschell, in Style's case, (1889) 2 Tax Cas 460, at p. 482 by the observations :
'Persons who agree to contribute to a common fund for mutual insurance certainly would not, in ordinary parlance, be regarded as carrying on a trade or vocation for the purpose of earning profit.'
The same view was also expressed by Chagla, C. J., in Commissioner of Income-tax, Excess Profits Tax, Bombay City v. Homi Metha's Executors : AIR1956Bom415 where it was said -
'It is well established both in English Courts and in our own Courts that there can be no profit subject to tax when there is a sale by a vendor to himself. A vendor cannot make profit out of himself, and therefore the transaction relied upon by the department is not a transaction which was capable of resulting in any profits.'
Chagla, C. J., called in support of that view the decision of the Privy Council in Doughty v. Commissioner of Taxes, 1927 AC 327, and expressed himself : AIR1956Bom415 by saying -
'Although the vendor was a different entity from the vendee, the first being a partnership and the second being a limited company, even so, the Privy Council looked upon the transaction as a mere readjustment of the business position of the partners. At page 332 the Privy Council points out that as the vendors were the takers of the shares they would gain nothing, because in one sense the vendors were selling to themselves and in place of the partnership assets they were getting the shares of the limited company which represented those very partnership assets.'
56. it will be appropriate at this stage to refer to the four decisions on which Mr. Mitter relied. The first was (1832) 16 Tax Cas 430, which has already been mentioned. This was a case where the assessee company was formed by the representatives of various local authorities primarily for the purpose of enabling local authorities and other public bodies by co-operation to insure against five on the most favourable terms. The effective control of the company was in the hands of the fire policy-holders, who alone were entitled, in the event of winding up, to the surplus assets of the company. The company's memorandum of association prohibited transfer of any part of the company's income or property by wayof profits to the members. In course of time the company undertook, in addition to fire insurance, an extensive business in employers' liability and miscellaneous insurance. Cumulative reductionswere all allowed in fire insurance premiums but no similar reductions were allowed in the case of policies other than fire. There a distinction was drawn between thesetwo different classes of insurance. The Crown admitted that the fire insurance policies of the company was a piece of mutual insurance which did not attract income-tax but it was held that the surplus of employers' liability and miscellaneous business done with fire policy holders did not arise from mutual insurance. As indicated above, this complication does not arise in the present Reference at all and there is no question of any business other than mutual insurance business in this case. In fact, as Lord Warrington at p. 443 points out, the whole distinction lay in the fact:
'No part of the surplus arising from the employers' liability or other miscellaneous business is paid to the assured, whether fire policy-holders or not in reduction of premiums or otherwise. In fact, in this part of the business, the principle of mutual insurance business, does not prevail at all. I fail to understand how the surplus arising from any part of this business can be treated otherwise than as profits and gains under Schedule D.'
57. Therefore, on the facts that decision does not help the taxing authorities in this case. Indeed the observation of Lord Macmillan at p. 448 in that case brings out the point, viz.:-
'The cardinal requirement is that all the contributors to the common fund must be entitled to participate in the surplus and that all the participators in the surplus must be contributors to the common fund; in other words, there must be complete identity between the contributors and the participators. If this requirement is satisfied, the particular form which the association takes is immaterial.'
58. Now this cardinal requirement is fully and completely satisfied in the present Reference before us and, therefore, the so-called profits of the assessee as a mutual insurance company can only be regarded as surplus, not taxable.
59. Again, the case of Liverpool Corn Trade Association Ltd. v. Monks. (1926) 10 Tax Cas 442 relied on by Mr. Mitter has no application to this Reference. It was held there that the profit arising from the Association's transactions with members was assessable to income-tax as part of the profits of the business- and that the entrance fees and subscriptions received from members must be included in the computation of such profits.
60. The distinguishing features in that case are incorporation, independent share capital and facilities to non-members with the object of protecting the interests of the corn trade, of providing a clearing house, a market, an exchange and arbitration and other facilities for the persons engaged in that trade. But although the membership was confined to persons engaged in the corn trade as principals, each member had to acquire one share in the company and to pay an entrance fee and an annual subscription and non-members were also allowed to become subscribers. No question of non-membership arises in the present Reference before us. Rowlatt, J., at p. 453 mentions the distinctive features of that case, as incorporation and independent share capital and also facilities for non-member. These features are not present in the Reference before us.
61. The next case on which reliance wasplaced by Mr. Mitter as also by Mr. Sampat Iyengar is the Privy Council decision in the 1948-16 ITR 270, also reported in . There the Privy Council distinguishes Styles's case, (1889) 14 AC 381 from the case before the Privy Council by saying that that the principle of Styles' case, (1889) 14 AC 381 does not apply to an association or company which grows produce on its own land or manufactures goods in its own factory using either its own capital or capital borrowed whether from its members or from others, and sells at a profit its produce or goods to its members exclusively. There the association was an association for carrying on the ordinary business of planters, growers, producers, merchants and manufacturers and brokers of tea. It was held that the society on those facts was not a mutual association society.
62. Lord Normand delivering the judgment of the Privy Council in that case at p. 277 of the report, (ITR) : (at p. 146 of AIR) after discussing the principles of mutual insurance society as common membership and common fund and repayment to members of any balance observed as follows: -
'In the present case the appellant society is not bound by its rules to sell its tea only to its members, but it could make no difference if it were. No matter who the purchasers may be, if the society sells the tea grown and manufactured by it at a price which exceeds the cost of producing it and rendering it for sale, it has earned profits which are, subject to the provisions of the taxing act, taxable profits.'
63. Obviously that observation clearly indicates ordinary trading, growing and manufacturing something and selling the product at a higher price constitute business with profit-making. Nothing comparable to that can be said to exist here in a mutual insurance society in the present Reference. No question of any profit and of any sale of any product in excess of the cost of production only to members or non-members arises in this case. Subsequently Lord Normand makes it clear at p. 279 (of ITR) : (at p. 146 of AIR) that the principles of mutual insurance really rested on certain basic assumptions and according to his Lordship after noticing the decided authorities they were: -
'From these quotations it appears that the exemption was based on (1) the identity of the contributors to the fund and the recipients from the fund, (2) the treatment of the company, though incorporated, as a mere entity for the convenience of the members and policy holders, in other words, as an instrument obedient to their mandate, and (3) the impossibility that contributors should derive profits from contributions made by themselves to a fund which could only be expended or returned to themselves.'
64. We are satisfied that all these teats are met in the present Reference to make the assesses entitled to claim the exemption on the ground of mutual insurance.
65. The next case on which Mr. Mitter relied is Commissioner of Income-tax, Bombay City v. Royal Western India Turf Club Ltd., reportedin : 24ITR551(SC) . There also the Supreme Court distinguished and explained the principles of Styles' case, (1889) 14 AC 381 by saying that the principles of Style's case (1889) 14 AC 381 had no application when the company had, no mutual dealing between the members inter se in the nature of mutual insurance and no contribution to a common fund put up for payment of liabilities undertaken by each contributor to the other contributors, and no refund of surplus to the contributors. The ratio of this decision is against the contention of Mr. Mitter. There the assessee Turf Club was formed for the purpose of carrying on business of a race course company in all its branches and to establish clubs, hotels and other conveniences in connection with the property of the company. It was found as a fact there that the assessee had dealings with its members also in the ordinary course of business and gave the same or similar amenities not only to members but also to non-members and there was no mutual dealing whatever between the members or a common fund for the discharge of common obligations to each other. The Supreme Court in that decision made an exhaustive survey of cases on the point including club cases from pages 303 to 307 of that Report. It is unnecessary for us to deal with these over again because the facts of that case were entirely different as noticed above. Here there is mutual dealing; there is contribution to a common fund and there is refund of surplus either in cash or in kind permitted and indeed required by the objects of the Articles of Association, as well as by its Rules.
66.-67. For the reasons and facts stated above, we are therefore of opinion that the so-called profit of the assessee in this reference is really surplus from miscellaneous mutual insurance business and such surplus cannot be brought in as taxable profits within the meaning of the Indian Income-tax Act in spite of Section 2 (6C) read with Section 10 (7) of the Income-tax Act.
68. We have now to proceed to examine whether this answer requires to be modified by consideration of the specific rules in Schedule which apply to this Reference.
69. Section 2 (6C) of the Income-tax Act, according to our construction, means by the use of the word 'profits' only trading profits and not the technical 'surplus' of a mutual insurance association. It is true that the expression 'profits and gains of any business of insurance carried on by mutual insurance association' must include 'any business of insurance carried on by mutual insurance association', but the word 'profit' retains its connotation as trading profits which the surplus is not as being the member's own money in a mutual insurance association which is repaid or refunded to him either in cash or in kind. This view does not mean that a mutual insurance association cannot indulge in some kind of business of insurance which produces trading profits. It can. For instance, when it invests its so-called surplus and earns profit or interest thereupon, then such profit or interest will be profits of business of insurance carried on by the mutual insurance association, and as such, liable to tax. Indeed in this case, the interest earned on investment is stated and accepted to be taxable. Again for instance, even in the case of any business of insurance carried on by mutual insurance association some property may be sold at a profit, then such sale proceeds will be taxable. That is also what the Privy Council said in 1948-16 ITR 270 : (AIR 1948 PC 142). That is also implicit in the Supreme Court decision in : 24ITR551(SC) . It is only those kinds, of profits that are brought in by the words used in Section 2 (6C) or similar words used in Section 10 (7) of the Income-tax Act. But that which is not 'profit' at all does not become so by these Sections 2 (6C) or 10 (7) of the Income-tax Act.
70. Now we proceed to consider the rules of the Schedule. The particular rules in the Schedule which apply to the present Reference are Rule 6 read with Rule 9. Rule 6 reads as follows : -
'The profits and gains of any business of insurance other than the life insurance shall be taken to be his balance of the profits disclosed by the annual accounts, copies of which are required under the Insurance Act, 1938, to be furnished to the Controller of Insurance after adjusting such balance so as to exclude from it any expenditure other than the expenditure which may under the provisions of Section 10 of this Act be allowed for in computing the profits and gains of a business.'
Rule 9 reads as follows:
'These rules apply to the assessment of the profits of any business of insurance carried on by mutual insurance association or by co-operative society.'
71. Reading Rules 6 and g together, the effect appears to be briefly this. Rule 9 makes Rules 1 to 8 applicable to the case of a mutual insurance association. Then one finds that Rules 1 to 5 are special rules -applicable to life insurance business. Therefore, mutual life insurance business will attract Rules 1 to 5 by force of Rule 9. But special insurance 'other than life insurance' is particularly provided in Rule 6. Rule 6 deals with a business of insurance 'other than life insurance'; that is the first feature of Rule 6. This is a special rule for any business of insurance other than life insurance. Following the principle of generalia specialibus non derogant, it will appear that the case of a mutual life insurance association must be governed by Rule 6 and not by Rules 1 to 5. Therefore, the Bombay decision in : AIR1952Bom63 on mutual life insurance society can be justified on the particular provisions of Rules 2 and 3, which that decision considered, and which are not applicable to a non-life mutual insurance association to which only Rule 6 applies. The Bombay decision can be justified by reason of the fact that the word 'surplus' is used in Rule 2(b) and therefore it can be reasonably said that even 'surplus' was brought within the meaning of profit in the particular case of a mutual life insurance society, with which the Bombay decision was dealing. That argument is not available in Rule 6 which significantly omits to use the word 'surplus'.
72. We shall now make a closer and more detailed, analysis of Rule 6 and its provisions.The Rule prominently declares that the profit shall be taken to be a particular balance. No other profit other than balance can therefore be contemplated. The word 'profit' in Rule 6 has the same meaning as the word 'profit' in Section 2(6C) and Section 10(7) of the Income-tax Act and does not include technical 'surplus' of mutual insurance societies except, if the Bombay decision is taken to be right, the case of a mutual life insurance society where this 'surplus' is expressly brought in by the clear language of Rules 2 and 3 to that effect, but which Rules 2 and 3 are inapplicable in the case governed by Rule 6.
73. The scheme of the Rules in the Schedule follows a particular pattern of definition of profit. For instance, Rule 2 in the case of life insurance business uses the same word that the profits and gains shall be such and such. Similarly, Rule 6 uses the same word that 'the profits and gains of an insurance other than life insurance shall be' such and such. Similarly, Rule 7 follows the same pattern by saying that 'the profits and gains of dividing societies shall be taken to be' such and such. That seems to indicate that profits are to follow special patterns in different kinds of insurance business as laid down in specific and particular rules governing them. No other profits; therefore, can be implied and a tax based upon it by mere debatable implication and inference.
74. The second feature of Rule 6 is that the balance is as disclosed by the annual accounts, copies of which are required under the Insurance Act 1938 to be furnished to the Controller of Insurance. The annual accounts mentioned in Rule 6 are those stated in Section 11 of the Insurance Act which provide for three kinds of accounts: (1) a balance sheet, (2) a profit and loss account and (3) a revenue account. The Forms of these three accounts are set out in the schedules of the Insurance Act. It is said that a reference to these forms, Special Form F of the third schedule, will show that no deduction is permitted thereby for 'General Reserve' and 'Contingency Reserve' as claimed by the present assessee. Superficially that is true because Form F in the third schedule of the Insurance Act provides for 'Reserve for un-expired risks' and 'Additional reserve if any'. The Appellate Assistant Commissioner makes a certain point about it by saying that there is no claim by the assessee in this case for any reserve for un-expired risks and, therefore, such claims as they have made are not formally within the form of reserves allowable in the schedule. He therefore disallowed the reserves. This point is really raised in the second question on this Reference. It may only be said in answer here that the words 'Additional reserve if any' are unqualified words and they may not be confined only to reserve for unexpired risks and both contingency reserves and general reserves may reasonably come under the ordinary meaning of the word 'additional reserve, if any' as used in Form F of the third schedule of Insurance Act. Besides, a part of the reserve may be also for the unexpired risks even though the liability for unexpired risks is limited here as the tribunal indicates in the case of the present assessee having regard to the period of monthly subscription and the three months' grace available.
75. Mr. Mitter advanced his arguments still further an this point by submitting that a mutual insurance association or company need not build any reserve at all because its purpose is not to make a profit or make a surplus. In aid of his argument, he drew our attention to the balance-sheets of 1949 and 1950 to suggest that profits and reserves were being built, accumulated and multiplied by the assessee.
76. It is difficult to accept Mr. Mitter's argument as sound on this particular point. It is difficult to see why a mutual insurance society should not have a reserve or even a larger reserve if that is necessary for the purpose of mutual insurance business and how the existence of that reserve will convert into profit the legal nature and character of a surplus, which is one's own money in surplus and refundable in cash or in kind. It would be very unbusinesslike indeed if mutual insurance company were to live from hand to mouth without keeping or having any reserve. Keeping the 'surplus' in reserve does not convert 'surplus' into taxable profits. It will not be unprofitable at this stage to refer to a recent decision of the English Courts in Faulconbridge v. National Employees Mutual General Insurance Association. (1952) 33 Tax Cas 103. There Upjohn J., reviews almost all the relevant decisions up-to-date in the most detailed and exhaustive manner possible. That was a case of a company limited by guarantee and not having a share capital and its object was to provide mutual insurance for its members against employers liability and workmen's compensation claims. It was held there that the association was a mutual concern not assessable to income-tax in respect of surplus arising from business done with its members. This mutual insurance association during the period under review had as much as one million pounds sterling as 'general reserve' and 380,000 as a 'special reserve' (See the observation of Upjohn, J., dealing with the 'cardinal facts' of that case at p. 127 of that report). In meeting the point which Mr. Mitter tried to raise here that a mutual insurance society cannot build reserve, Upjohn J. observed at p. 128 as follows :
'Further, I do not accept the implication in the broad submission that in reality the Association is really a trading company intent on building up large profits with an eye to future business, and therefore as it was said, not a truly mutual concern. The respondents themselves admit that the Association is an expanding commercial concern, but that does not in my judgment prevent the application of the principle of mutuality. A mutual concern, it is now established, trades with its members (see Commissioners of Inland Revenue v. Cornish Mutual Assurance Co., Ltd., (1926) 12 Tax Cas 841). If members, instead of receiving back part of their surplus contributions by way of bonus, prefer to leave them with the Association to attract more members to come in, or to provide additional reserves to cover additional classes of insurance, T do not see how that alters the character of the surplus, nor why the principle of mutuality is thereby affected. It can scarcely be doubted that the New York Life Assurance Co. carried on a commercially expanding business'.
77. The same is true in the case of this assessee. The statement of the Members of the Executive Committee dated 23rd May 1950 shows that new members were continuing to join the association in each month and that the membership was increasing. It also expressly declares:
'The Committee will continue to bear in mind that it is not the intention to make a, profit but as far as possible to afford the maximum benefits at minimum cost to members. At the same time, your Committee feel that members will appreciate the necessity for building up a modest reserve so that benefits can be, maintained even in the event of an adverse claim experienced in later years''.
78. I should have thought that in the case of a mutual insurance, which by law in India is prohibited from having any share capital or shareholding, it is all the more necessary to have reserves and it is unthinkable that such an association or a company should live from hand to mouth.
79. A few more observations we shall quote from the different portions of Upjohn J. in (1952) 33 Tax Cas 103, in order to show that those observations fully meet pointedly some of the very arguments advanced by Mr. Mitter before us. They are:
(1) At page 125--'The second condition is that a member must be entitled to share in the annual surpluses prior to winding up. There are two observations to be made on that. First, in my judgment, the authorities do not support that proposition. The authorities show that the only essential conditions are that any surplus must ultimately come back to the contributors in meal or in malt on a winding up or otherwise. Secondly, upon the true construction of the articles in my judgment the members are so entitled'.
80. These observations are equally applicable in the present case and we hold the same view of the surplus in this case as well as the present Articles of Association of the assessee.
(2) At page 126--'The Appellant's second main point was that, even if the constitution of the Association was appropriate to a mutual concern, or assuming it had carried on a mutual business up to the year 1921, yet it is permissible to look at the actual business carried on by the Association; and when that business is examined it is said that the business was not carried on as a mutual concern but as a commercial or trading concern ploughing back profits with a view to further expansion. It was said in a mutual concern it was quite unnecessary to put to general reserve the largest sums that have in fact been placed there, and that you would expect in such a case to find some part of the annual surpluses to have been returned by way of bonus. * * * * The absence of continuity in membership was said to show that It was not in truth a mutual concern at all'.
This argument was also advanced by Mr. Mitter in this Reference before us and is met fully by the observations of Upjohn J. which we have already a noted at page 128 showing that the presence of reserve in a mutual insurant association or company is not destructive of the notion of surplus. Upjohn J. proceeds to dispose of at pages 128-129 the point about the absence of continuityin membership in the following terms :
'Nor do I appreciate how the so-called lack oi continuity can affect the principle. Once it be admitted that it applies to a fluctuating body of contributors and that a contributor may go out of the scheme leaving some part of his contributions to his successors, then in my judgment it would apply where the scheme provides that if a contributor goes out he must leave the whole of his contributions behind. Nor in my judgment can the rate of change of contributors affect the principle. Over the years there must in Styles' case have been a complete change of contributors, though the tempo may have been slowed due to the inherent difference between life policies and indemnity policies; but the principle is plainly not confined to the former class of policy'.
81. But the most formidable answer to Mr. Mitter against the applicability of Rule 6 in the Schedule arises from the third feature of that rule which we shall presently explain. Recalling the words of Rule 6 quoted above it will be remembered that the rule permits adjustment of the balance by certain specified and stated exclusions. The material words on this point are:
'Adjusting such balance so as to exclude from it any expenditure which may under the provisions of Section 10 of this Act be allowed for in computing profits and gains of a business'.
It will be clear from this part of the rule that reserves as such are not mentioned and therefore, as they are not specifically excluded under Section 10 of the Act, they must be taken as included in Rule 6. On an examination of Section 10 of the Income-tax Act one finds there are at least 15 kinds of allowances which are permitted to be deducted from the profits. Reserves as such are not within these fifteen kinds of deductible allowances. Therefore the only adjustment of balance that can be made by the Income-tax Officer is by seeing that the deductions permissible under Section 10 are excluded. He has no other powers of adjustment. After all, this portion of Rule 6 makes it clear that what can be excluded is only a kind of 'expenditure'. It is true that that expenditure must have to be an expenditure other than those mentioned in Section 10. But nevertheless it is primarily and pre-eminently to be in the first place an expenditure. The question arises here, -- Is reserve an expenditure? The answer to my mind is in the negative. On this point we need only notice two relevant decisions. (82) The first is a decision of a Division Bench of our Court. In Calcutta Insurance Ltd. v. Commissioner of Income-tax : AIR1953Cal50 the ratio decedendi is that the word 'expenditure' in Rule 2(b), which the Court was considering, did not include depreciation. Chakravartti C. J. of p. 426 of the report (ITR): (at p. 63 of AIR) after making the observation:
'The scheme of the Schedule obviously is that subject to adjustments specifically indicated, the actuarial surplus must stand. Profits of a life insurance business are treated by the Income-tax as a class by themselves and there is no reason to presume that all the general provisions of the Act relating to the computation of business income must occur somewhere or other in the Schedule'. Proceeds to say at page 429 (of ITR): (at p. 65 of AIR):
'In the result, I am of opinion that in the case of life insurance companies, depreciation on furniture, motor cars and books is not governed by either Section 10(2)(vi), read with Rule 2(b) or by Rule 3(b). For practical purposes, it is sufficient for the assessee if Rule 2(b) is excluded, for even if such depreciation does not come under Rule 3(b), it has still to be allowed in full, since there is no other provision in the Schedule for disallowing it or reducing its amount. As I have already explained, subject to the adjustments directed by the Schedule, the actuarial surplus must stand. There is thus either a lacuna in the Schedule or an intention that in the case of life insurance companies, depreciation on the assets mentioned in Section 10(2)(vi), so far as it is debited in the accounts, must be allowed in full'.
83. Remembering that the present Reference before us is not a life insurance case and remembering that Rules 2 and 3 are not applicable to Rule 6, it is still possible to find from this judgment the indication of the scheme of the rules and to find support for the view which we are taking that the Income-tax Officer cannot disallow the reserves on the ground that it is not a permissible expenditure within tbe meaning of Rule 6. Indeed the present Reference is stronger than the Calcutta Insurance Case : 21ITR404(Cal) for the simple reason that this reserve is not expenditure at all and is not connected with: any depreciation either. This view will be supported by the observations of the Supreme Court made by Hidayatullah J. in Indian Molasses Co. (Private) Ltd. v. Commissioner of Income-tax, West Bengal : 37ITR66(SC) . The Supreme Court in that case dealing with Section 10(2) (xv) considered the word 'expenditure' to mean 'what is paid out or away and is something which is gone irretrievably'. Again, the Supreme Court makes it clear in the case at page 80 (of ITR) : (at p. 1060 of AIR) that 'expenditure which is deductible for income-tax purposes is one which is towards a liability actually existing at the time, but the putting aside of money which may become expenditure on the happening of an event is not expenditure'.
84. In that view of the matter it is difficult to see how the reserve in this case can at all be 'expenditure' of any kind within the meaning of Rule 6 and, therefore, we do not think the Income-tax Officer could have interfered with the accounting by saying that these reserves must be disallowed.
85. Before leaving this particular branch I shall make a brief reference to the House of Lords decision in Sun Insurance Office v. Clark reported in (1912) 6 TC 59 and also reported in 1912 AC 443 which was referred to at the Bar. This was a case of fire insurance company which claimed to follow its practice of keeping reserve of 40 per cent, of the yearly premium representing estimated loss on unexpired risks. It is held there that although there is no rule of law as to the admissibility of an allowance for unexpired risk in estimating profits, but the question is one to be decided byreference to the facts of each case and that the facts in that case show that the allowances claimed was a proper allowance which should be permitted. The importance of this case only lies in the fact that it explained the previous House of Lords decision in General Accident, Fire and Life Assurance Corporation Ltd. v. McGowan, 1908 AC 207, on the basis of, three different methods of accounting as explained by Lord Loreburn L. C. at page 77 of (1912) 6 Tax Cas 59 in the following terms:
'There is no rule of law as to the proper way of making an estimate. There is no way of estimating, which is right or wrong in itself. It is a question of fact and figure whether the way of making the estimate in any case is the best way for that case. Experience seems to have satisfied Courts of Law for a considerable time that the method which I have described as the second is a useful working rule. But no one has said in this House that there is any constraint to accept it. It may be that the character or mode of carrying on this insurance business may alter or may have altered, and what was a good method once may become inaccurate or even obsolete'.
It must, however, be remembered that neither the Sun Insurance case, 1912 AC 443 nor the McGowan case which is distinguished was a case on mutual insurance society. We can conclude our reference to eases by noticing the other case cited by Mr. Mitter in ' Commissioner of Excess Profits Tax, West Bengal v. Ruby General Insurance Co., Ltd. : 32ITR82(SC) . This decision, in our opinion, is irrelevant to the point that we have to decide in this Reference. That was a case of a contingent liability arising out of the contract of insurance from business other than life insurance for unexpired risks and the actual construction related to Rule 2 of Schedule 2 to the Excess Profits Tax Act, 1940. There is a reference to Rule 6 of the Schedule at page 845 of that report but it was not on the point that is presented to us in this Reference. Incidentally, it was not a case of mutual insurance association at all, but the case of company carrying on life, fire, marine and general insurance business.
86. It is unnecessary for us to discuss the minor question about the power of the Controller of Insurance to accept or reject the returns submitted to it. The provisions are' clearly made under Section 21 of the Insurance Act and under sub-clause (d) thereof that the Controller can decline to accept any such return. But in the present case the fact whether he actually declined to accept such return is not established.
87. For the reasons stated above, we hold that the surplus, miscalled profit, arising to the I assessee company from the miscellaneous insurance transactions of mutual character was not assessable under the Indian Income-tax Act and that, in any event, the assessee was entitled to deduct the reserves within the meaning of Section 2 (6C) read with Rule 6 of the Schedule of the Indian Income-tax Act. We, therefore, accordingly answer the questions set out above.
88. We answer the first question in the negative and the second question by holding that the assessee was justified in deducting the reserve andanswering the question accordingly. The assessed is entitled to the costs of this reference.
89. Certified for two Counsel.
90. I agree.