1. The facts found and/or admitted in these proceedings are as follows:
In the assessment year 1961-62, the corresponding previous year ending on the 30th September, 1960, the total income of M/s. New Gujarat Cotton Mills Ltd. was assessed at Rs. 4,34,618. The income-tax levied thereon was Rs. 1,91,069 leaving a surplus of Rs. 2,43,549. The assessee was held to be a company in which the public was not substantially interested and, therefore, it was required under Section23A of the Indian I.T. Act, 1922, to distribute 50% of the surplus by way of dividend, i.e., a sum of Rs. 1,21,774. The assessee, in fact, declared a dividend of Rs. 90,000, leaving a sum of Rs. 31,774 undistributed.
2. The assessee contended that its commercially distributable profit was only Rs. 60,870, which was computed by taking into account the loss brought forward, depreciation and development rebate. The ITO did not accept the computation of the assessee and held that of the depreciation of Rs. 7,95,482, only Rs. 5,92,093 was relevant for the purpose of determining commercial profit as the balance constituted additional depreciation which should not be taken into account in the computation. He held further that the reserve required to be debited on account of development rebate was only Rs. 46,724 and not Rs. 48,545 as claimed by the assessee. Accordingly, he levied additional super-tax on the undistributed balance.
3. Being aggrieved, the assessee preferred an appeal to the AAC who held that the additional depreciation of the earlier years could not be excluded for ascertaining the commercial surplus and that the entire amount of Rs. 7,95,482, being the total depreciation, had to be deducted for the purpose of computation of such surplus. He also held that the book loss carried forward from the earlier year, i.e., Rs. 72,361, had been arrived at after crediting Rs. 79,262 under Section 10(2)(vii) and, therefore, the said sum of Rs. 79,262 could not be considered as part of the profits available for distribution as dividend. This real loss carried forward had to be set off for ascertaining the reasonableness of the distribution of the dividend. On such computation, the AAC held that the distribution of Rs. 90,000 was not unreasonable and no additional super-tax was leviable under Section23A.
4. Being aggrieved, the revenue went up on further appeal to the Tribunal. Before the Tribunal, the order of the AAC was sought to be impugned for inclusion of Rs. 2,03,389, being the additional depreciation allowed for the earlier years and for exclusion of Rs. 79,262 being profits arising under Section 10(2)(vii) of the Act. It was contended that additional depreciation had been allowed as a special privilege and did not affect the commercial profits of the company.
5. On behalf of the assessee, its past financial performance was brought to the notice of the Tribunal with particular reference to the following :
(a) In 1957, the financial position of the assessee was precarious. A fire had occurred and a part of its plant had been absolutely gutted.
(b) In the accounting year ending 30th September, 1957, the assessee did not charge any depreciation and if the same had been charged there would have been a loss of Rs. 3 lakhs. In that year, no bonus was paid nor any dividend was declared and only a minimum amount of agency commission was paid.
(c) In the next year, ending 30th September, 1958, there was a surplus of only Rs. 31,854. For this year also, no depreciation had been charged. No remuneration was paid to the managing agents nor any bonus paid. No dividend was declared. The actual loss suffered by the assessee in this year was Rs. 4 lakhs approximately.
(d) In the next year, ending on the 30th September, 1959, there was a loss of Rs. 72,631. In this year, the remnants of the burnt mill were sold and there was a surplus of Rs. 79,262 over the written down value. In this year, no depreciation was charged nor any dividend declared nor any bonus paid.
(e) In the relevant assessment year, the pending dispute as to the method of allocation of depreciation was decided by the Tribunal by its order dated the 30th March, 1960. Pursuant to such order, depreciation in respect of assessment years 1955-56 and 1956-57 were allocated and depreciation was charged for the earlier years,
(f) In the relevant assessment year, the assessee had initiated modernisation to improve its organisation and had spent a sum of Rs. 1,83,716. The following year a further substantial sum was spent for the same purpose.
6. The Tribunal took note of the aforesaid and after consideration of the respective submissidns held that, though the financial position of the assessee in the relevant year was very hopeful, its stringent commercial position in the earlier years could not be overlooked. The provision of Rs. 7,95,782 made on account of depreciation included depreciation from the years 1953 to 1959 and had been made in terms of the allocation made by the Tribunal. Out of the total amount of depreciation of Rs. 18,55,655 a sum of Rs. 10,60,173 had been actually provided for by the assessee in its books up to the accounting year 1956. The Tribunal held further that the development rebate was a statutory reserve and had been claimed bona fide as a deduction. The Tribunal also found that in the previous assessmentyear, i.e., accounting year ended 30th September, 1959, there was loss of Rs. 72,683 and this loss had been computed by taking into account the surplus of Rs. 79,262 resulting from the sale of the burnt mill in terms of its written down value. On the basis of the aforesaid, the Tribunal rejected the contentions of the revenue and dismissed the appeal.
7. Pursuant to the directions of this court under Section 66(2) of the Indian I.T. Act, 1922, the Tribunal has drawn up a statement of case and has referred the following questions as questions of law arising from its order :
'(1) Whether, on the facts and in the circumstances of the case, additional depreciation of Rs. 2,03,389 allowable under Section 10(2)(via) of the Indian Income-tax Act, 1922, relating to the assessment years 1955-56 to 1958-59, but provided for in the assessee's accounts in the relevant previous year is deductible from the profits of the relevant previous years in order to ascertain the commercial profits available for distribution of dividend for the purpose of considering the applicability of Section 23A(1) of the Indian Income-tax Act, 1922 ?
(2) Whether, on the facts and in the circumstances of the case, the profit of Rs. 79,262 under Section 10(2)(vii) of the Indian Income-tax Act, 1922, credited in the assessee's books in the earlier years should be added to the book loss of earlier years for the purpose of considering the applicability of Section 23A(1) of Indian Income-tax Act, 1922 ?
(3) Whether, on the facts and in the circumstances of the case, the payment of a larger dividend than that declared by the assessee (i.e., Rs. 90,000) would be unreasonable within the meaning of Section 23A(1) ofthe Indian Income-tax Act, 1922 ?'
8. The law relating to levy of additional super-tax on undistributed profits by way of penalty as imposable under Section23A of the Indian I.T. Act,1922, is well settled by various decisions of the Supreme Court as also ofthe different High Courts. In proceeding under Section 23A, the ITO has to firstof all ascertain whether the preliminary conditions as specified in the saidsection do exist in a particular case. After such ascertainment, the ITOthereafter has to consider whether by reason of the previous commercialperformance of the company, taking into account its past profits and losses,whether the dividend distributed within the available surplus has been reasonable or not. This adjudication of the reasonableness of the quantumof the dividend distributed has to be made on the basis of commercial feasibility. The ITO has to put himself in the position of a prudent directorand to decide what should have been the reasonable dividend to be distributed.
9. In the instant case, Rs. 2,03,389 allowed as additional depreciation and allocated finally by the Tribunal no doubt related to an earlier assessment year but was provided for in the accounts of the assessee in the relevant year. In our opinion, this item could not have been ignored by a prudent director in determining the amount of dividend to be distributed. The object in allowing an additional depreciation is to enable the assessee to provide for replacement of its capital assets and it does not appear to us that the gain, if any, to a company arising in respect of such an allowance is to be distributed as part of its commercial profits.
10. The contentions of the revenue that the book profit of Rs. 79,262 was a capital gain of the relevant year and should be considered only in this year and not in respect of the earlier years' profit and loss account has little substance. The Tribunal has found that if the said capital gain is to be treated as profits of this year then the previous year's loss would be correspondingly increased and carried forward in this year and the net result would be the same. In any event, amounts received as capital gain are not normally intended to be distributed as dividend but are meant to be kept in reserve for the purpose of the replacement of the assets sold. (Vide CIT v. Cannon Dunkerley and Co. Ltd. : 79ITR637(Bom) ).
11. We find that the Tribunal has duly considered the past performance of the assessee and taking into account its past losses and/or smallness of profits of earlier years has come to the conclusion that the dividend declared was reasonable. In our opinion, the order of the Tribunal cannot be said to be erroneous.
12. For the above reasons, the assessee succeeds in these proceedings. Question No. 1 is answered in the affirmative and in favour of the assessee. In view of the finding of the Tribunal, the book profit of Rs. 79,262 whether included in this year or the earlier year would not make any difference to the ultimate position. Question No. 2 does not call for any answer and we decline to answer the same. Question No. 3 is answered in the affirmative and in favour of the assessee. There will be no order as to costs.
C.K. Banerji, J.
13. I agree.