G. K. MITTER J. - This is a reference under section 66(1) of the Indian Income-tax Act, the question referred being 'Whether, on the facts and in the circumstances of the case, the amount of interest of Rs. 51,092 payable by the assessee to Gwalior Investment Co. Ltd. was deductible as an allowance under section 10(2)(iii) read with the proviso to the said section ?'
The assessee carried on business at Calcutta with a branch at Gwalior. The assessment year for our consideration is 1949-50 and the previous year for the purpose of assessment being Rathajatra 2006 ending July 7, 1948. At the time Gwalior was not within British India. The assessee claims to have obtained a loan from another company by the name Gwalior Investment Co. Ltd., a company non-resident in British India and carrying on business in an Indian State. The assessee which kept its accounts on the mercantile system claimed deduction of interest of Rs. 51,092 accrued upon the loan to the Gwalior Co. In the account books of the assessee this amount was credited to the account of the said creditor. The assessee seems to have been at first allowed the deduction in respect of the payment of interest shown it its books, but the matter came up again before the Income-tax Officer in respect of a subsequent year and then the Income-tax Officer made an enquiry as to whether any tax had been deducted or otherwise paid on the interest for the years 1950-51 or 1949-50. Receiving and answer in the negative he proceeded to use power under section 34 and issued a notice thereunder. On hearing the assessee the Income-tax Officer took the view that no allowance was permissible in respect of the said sum of Rs. 51,092 shown in the assessees books of account as having been made to the Gwalior creditor. The appeals by the assessee to the Appellate Assistant Commissioner and the Income-tax Tribunal were unsuccessful. The assessee has now come up to this court for determination of the question of law set forth above.
Under section 10 an assessee has to pay tax under the head 'profits and gains of business' after making allowances set out in various subclauses of sub-section (2). The relevant portion of section 10(2)(iii) provides for allowances :-
'In respect of capital borrowed for the purposes of the business, profession or vocation, the amount of the interest paid :
Provided that no allowance shall be paid under this clause in any case for any interest chargeable under this Act which is payable without the taxable territories... except interest on which tax has been paid or from which tax has been deducted under section 18 or in respect of which there is an agent in the taxable territories who may be assessed under section 43 or, in the case of a firm, for any interest paid to a partner of the firm.'
On a plain reading of the above provision it is clear that although under the main section an assessee is to be allowed to deduct the amount of interest paid on capital borrowed, by the first limb of the proviso no allowance is to be made in respect of 'any interest chargeable under the Act' which is payable outside the taxable territories. Even in such a case, however, the assessee is permitted to claim deduction when he has paid the tax or when he has deducted the amount of tax from the interest which he is going to pay under the provisions of section 18 of the Act. It was argued that as the assessee keeps his account on the mercantile system he can claim the benefit of section 10(2)(iii) even without actual payment when he incurs a liability to pay as he has done in this case.
It was further argued that the proviso should not be construed in the way mentioned by me but that the expression 'any interest chargeable under this' must mean 'any interest chargeable under the Act in the hands of the creditor.'
Mr. Meyer arguing for the revenue pointed out to me two authorities which put the second contention beyond controversy. A similar argument seems to have been made before Chakravartti C.J. and Lahiri J. in the case of P. C. Ray & Co. (India) Private Ltd. v. A. C. Mukherjee, Income-tax Officer. Referring to section 18(3B), which for purposes is section 18(3A) in the Act as it stands at present, the learned Chief Justice said :
'Earlier, however, I had also thrown out the suggestion that probably section 18(3B) could be satisfactorily construed and difficulties avoided, if the word chargeable was taken to mean not assessable to tax, but as liable in its nature to be brought into computation in an assessment, that is to say, as belonging to one or other of the heads of income, as set out in section 6 of the Act. In that view, if the amount payable to a non-resident appeared to be, say, income from property or profits and gains of business, profession or vocation or income from other sources, it would come within the purview of the section; but if it was an amount of a kind exempt from tax, such as agricultural income, it would be outside its purview. On a fuller consideration of the terms of the section and the relevant authorities, I have reached the conclusion that the view which I suggested earlier is the correct view. I am led to that conclusion, particularly by the provisions of section 18(3C) of the Act which suggests unmistakably that payments which on receipt by the recipient would be a gross receipt in his hands, only a part or no part of which might be taxable, are not outside the contemplation of the section.'
His Lordship felt himself fortified by the authority of the Supreme Court in the case of Aggarwal Chamber of Commerce Ltd. v. Ganpat Rai Hira Lal. There the Supreme Court had considered whether a particular party could be treated as an agent of a non-resident for the purposes of sections 40(2) and 42(1) on the basis of his having been in receipt of income, profits or gains chargeable under the Act, on behalf of the non-resident. Chakravartti C.J. pointed out that although the case was directly concerned only with sections 40, 41 and 42, the Supreme Court had occasion to refer also to section 18 which indeed was expressly mentioned in the first proviso to section 42(1).
I cannot, therefore, accept the contention which was put forward on behalf of the assessee that the proviso would only come into operation at the time when an actual payment was being made and it was then to be ascertained whether the person to whom the payment was made was liable to assessment under the Indian Income-tax Act in respect thereof. The words of the proviso are clear on this point. 'Interest chargeable under this Act' means 'interest which is not exempt from taxation under the Act' and payable 'without the taxable territories' refers to interest which is due to be paid outside the taxable territories. One can easily appreciate why the proviso was inserted in the section. Unless provision was made for deduction of tax on the interest at source, it might not be possible to recover it from a non-resident. Further, it would be open to an assessee who keeps his account on the mercantile system to go on claiming deduction for interest to creditors resident without the taxable territories when it would be impossible even to check the correctness of the accounts.
Section 18(3A) of the Act as it stood at the time provided that :
'18. (3A) Any person responsible for paying to a person not resident in British India any interest not being interest on securities, or any other sum chargeable under the provisions of this Act, shall, at the time of payment, unless he is himself liable to pay income-tax thereon as an agent, deduct income-tax at the maximum rate :
Provided that where the person so payable is a British subject as defined in section 27 of the British Nationality and Status of Aliens Act, 1914, or a subject of a State in India or Burma, and the Income-tax Officer gives a certificate in writing (which certificate he shall give in every proper case on the application of the assessee) that to the best of his belief the total world income of such person will be less than the minimum liable to income-tax or that his total income will be liable to a rate of income-tax less than the maximum rate, the person responsible for paying any income-tax referred to in this sub-section shall, until such certificate is cancelled by the Income-tax Officer, pay the income-tax without deduction or deduct the tax at such less rate, as the case may be :
Provided further that nothing in this sub-section shall apply to any payment made in the course of transactions in respect of which the person responsible for making the payment is demand under the first proviso to section 43 not to be an agent of the payee.'
It was argued on behalf of the assessee that this proviso shows that the question of deduction of interest could only come in at the time when payment was actually being made while on behalf of the revenue it was contended that if payment be equivalent to incurring or liability in the case of a person who keeps his accounts on the mercantile system 'the time of payment' in the above section must be the time when liability for payment is incurred. I do not think it is necessary to go into this question in any detail. Suffice it to say that an assessee who claims allowance in respect of interest paid to a creditor outside British India must either pay tax thereon or make appropriate deduction therefrom under section 18.
In my view the Tribunal had come to the right conclusion in this case and the answer to the question must be in the negative. The assessee must pay the costs of this reference.
RAY J. - I agree.