Tambe, J.:— On a requisition made by this court under section 66(2) of the Income-tax Act (hereinafter referred to as the Act) the Income-. tax Appellate Tribunal drew up a statement of case and referred to this court the following question of law:

“Whether, the sums of Rs. 1,00,200 (Rupees on lakh and two hundred) and Rs. 1,04,000 (Rupees one lakh and four thousand) being provisions for retiring gratuities and bonus to the employees should be excluded while determining the applicants' actual accounting profits for the purpose of deciding whether having regard to the smallness of the said profits an order under section 23A of the Indian Income-tax Act, 1922, ought to be made or not?”

2. It has been agreed between the parties that to bring out the real contrpversy the question should be reframed in the following manner:

“Whether, on the facts and in the circumstances of the case, the Tribunal was justified in disallowing the sums of Rs. 1,00,200 and Rs. 1,04,000 in determining the assessee's actual accounting profits for the purpose of deciding whether having regard to the smallness of the said profits an order under section 23A of the Indian Income-tax Act, 1922, ought to be made or not, on the ground that they are in the nature of reserves to meet future expenditure.”

3. Facts giving rise to this question may briefly be stated:

We are concerned with the assessment year 1948-49, the relevant accounting year being the calendar year 1947. The assessee is a private limited company coming under the purview of section 23A of the Act. The business of the assessee company was engineering and manufacturing machinery. For the said assessment year the Income-tax Officer computed its assessable income at Rs. 7,05,821. The tax payable thereon amounted to Rs. 3,08,797, leaving a balance of Rs. 3,97,024. Sixty per cent, thereof amounted to Rs. 2,38,214. The dividend declared by the assessee company at its annual general meeting held on 2nd September, 1948, amounted to Rs. 1,10,000. As this amount was less than 60 per cent, of the said sum of Rs. 2,38,214, the Income-tax Officer, after duly obtaining sanction of the Inspecting Assistant Commissioner of Income-tax, passed an order under section 23A(i) of the Act that the undistributed portion of the assessable income of the assessee company shall be deemed to have been distributed as dividend amongst the shareholders on the aforesaid date of the general meeting. The assessee challenged this order on various grounds. We are, however, here concerned only with the two items, which, according to the assessee, should have been excluded in determining its distributable profits. It appears that the employees of the assessee-company and three other allied companies had formed a union by name Greaves Cotton and Allied Companies Employees' Union. In October, 1946, the union made various demands including a demand for gratuity and payment of bonus for the year 1946. These demands were not conceded by the company. Consequently, there was a threat given by the employees to resort to strike. The dispute, however, was referred to the Industrial Court, Bombay, for adjudication on nth November, 1947. As regards the gratuity the demand was that an employee should be entitled to get gratuity at the rate of half a month's salary (drawn by him at the time of payment of gratuity) for each year of service on completion of 10 years' service or in the case of disability or death, should it occur earlier. As regards the bonus, the demand was that at least two months' salary as bonus should be paid to all the employees every year.

4. As already stated these demands were not conceded by the assessee and other companies. The industrial court made its award on 18th March, 1948. The award granted gratuity to all the monthly paid workers according to the Bank's Award with the alteration that it should be paid at the rate of half a month's salary for each year.of service as demanded. The award further directed the assessee company to give bonus equivalent to i£ months' salary for the year 1946. From its profits of the year 1947, the assessee has set apart a sum of Rs. 1,00,200, which, according to the assessee, represents the amount of gratuity calculated up to the end of the calendar year 1947, in accordance with the scale mentioned in the award. It has further set apart a sum of Rs. 1,04,000 to meet its alleged liability of paying bonus to its workers for the year 1947. Before the Tribunal the assessee contended that these two sums should be excluded in determining the assessee's distributable profits for the purpose of deciding whether, having regard to the smallness of the said profits, an order under section 23A of the Act should be made or not. The argument advanced was that, although these two sums were correctly added back in computing the assessable income of the assessee company, they did not form part of the accounting profits in a commercial sense from which dividend could be distributed. The Tribunal rejected this contention of the assessee and the reasons given by the Tribunal are:

“The provisions made are in the nature of reserves and it is not disputed that they would be allowed as deduction as and when the sums are expended, i.e, paid as gratuity to retiring employees or bonus to the employees. That had been the practice in the past and it is not also disputed that in the subsequent assessments the departmental officers were allowing deduction of actual payment irrespective of the provisions made in prior years. Therefore, the provisions during the year under dispute are nothing but reserves. The section also is perfectly clear. It does not allow for future payments. It reads: the Income-tax Officer shall, unless he is satisfied…that having regard to losses incurred by the company in earlier years or to the smallness of the profits made in the previous year, the payment of a dividend or a larger dividend than that declared would be unreasonable” There is no provision for future expenditure at all. The Appellate Assistant Commissioner, in our opinion, has given the finding in clear terms. We do not see any substance in the appeal. The result is that the appeal is dismissed.”

5. On a requisition made by this court under section 66(2) of the Act the Tribunal has drawn up a statement of case and referred the question of law to this court, which we have now reframed as stated above.

6. The short question that arises is whether the Tribunal was right in refusing to take into account these two sums in considering the question whether, having regard to the smallness of the profits of the company, an order under section 23A of the Act should have been made or not on the sole ground that the sums set apart are in the nature of reserves to meet future expenditure. We find it difficult to accept the contention of the department that the said sums set apart by the assessee can be termed as reserves built up to meet future expenditure. We are not here concerned with the determination of the taxable income of the assessee company or whether these two sums should be allowed as deductions in determining the taxable income of the assessee company. But, on the other hand, we are here concerned with determining the question about the reasonableness or otherwise of the company in declaring the dividends it has declared, having regard to its business profits. In this connection the following observations of their Lordships of the Supreme Court in Commissioner of Income-tax v. Bipinchandra Maganlal & Co. Ltd. [1961] 41 I.T.R 290, 296 afford useful guidance:

“In considering whether a larger distribution of dividend by a company would be unreasonable, for the purpose of deciding whether a distribution order should be made under section 23A of the Income-tax Act in respect of the company, the source from which the dividend is to be distributed and not the assessable income has to be taken into account. The Legislature has not provided in section 23A that in considering whether an order directing that the undistributed profits shall be deemed to be distributed, the smallness of the assessable income shall be taken into account. The test whether it would be unreasonable to distribute a larger dividend has to be adjudged in the light of the profit of the year in question. Even though the assessable income of a company may be large, the commercial profits may be so small that compelling distribution of the difference between the balance of the assessable income reduced by the taxes payable and the amount distributed as dividend would require the company to fall back either upon its reserves or upon its capital which in law it cannot do………The Legislature has deliberately used the expression ‘smallness of profit’ and not ‘smallness of assessable income’ and there is nothing in.the context in which the expression ‘smallness of profit’ occurs which justifies the equation of the expression ‘profit’ with ‘assessable income’. Smallness of the profit in section 23A has to be adjudged in the light of commercial principles and not in the light of total receipts, actual or fictional.”

7. In the light of these observations, the facts of the present case will have to be appreciated. Recapitulating them, the dividends were declared on 2nd September, 1948. Prior to that date an award has been made on 18th March, 1948, and that award provided that gratuity would be payable to those workers who have completed ten years of service and who have to leave their jobs on account of disability or death at the scale stated therein. Liability in the matter of payment of gratuity had thus been incurred by the assessee company as a result of the award so far as its workers who had completed ten years of their service. The assessee company had, in these circumstances, set apart the sum of Rs. 1,00,200 to meet its liability in this respect. The said sum had been calculated in accordance with the scale mentioned in the award. That being the position, it cannot be said that the company was making a provision or building up a reserve fund to meet its future liability.

8. Mr. Joshi, appearing for the revenue, does not contend that making provisions for gratuity to meet the liability in that respect would amount to building up of reserves to meet a future liability. It is, however, his contention that the sum of Rs. 1,00,200 is in no way commensurate with nor represents the actual and factual liability of the assessee company up_to that date. According to Mr. Joshi no amount was payable in 1947. Gratuity might become payable to its workers as and when a worker retires or has to cease work on account of disability or death. It is, therefore, not possible to ascertain what sum then would become payable on account of gratuity. The basis and the mode by which the sum has been calculated is erroneous. A sum equivalent to the entire liability is not deductible in praesenti when that liability has to be discharged at a future date. We are not here concerned as to what sum, on this count, should have been allowed as a deduction in determining the distributable profits. The question is whether any sum should be allowed to be set apart to meet the liability in determining the amount of distributable profits. In our opinion, when liability in this respect had accrued, it was open for an assessee to make provisions to meet it as and when the question would arise. What sum should be allowed to be set apart is a matter for determination on considering the evidence, which the parties may choose to tender in this respect.

9. As regards the second item of Rs. 1,04,000, as already stated, the workers had demanded bonus equivalent to two months' salary every year but the award had granted bonus equivalent to ij months' salary to them for the year 1946. The award, as already stated, was made on 18th March, 1948, prior to the date of declaration of dividend. Calculating bonus for the year 1947 at the rate of two months' salary to its workers, the assessee company had set apart a sum of Rs. 1,04,000. It is contended by Mr. Joshi that so far as payment of bonus for the year 1947 was concerned, there was no accrued liability under the award. The award related only to the year 1946 and no liability was fastened on the assessee company of paying any bonus for the year 1947. A sum set apart to meet its.accrued liability, rto doubt, is deductible in determining the distributable profits of the company, but when there is no accrued liability any sum set apart to meet its future liability would be in the nature of a reserve to meet its future liability and, therefore, not allowable.

10. It is not possible for us to accept this contention of Mr. Joshi in the form it is raised. It is indeed true that the award did not fasten any liability on the assessee to pay any bonus to its workers for the year 1947 and in that sense there was no accrued liability in that respect. But, then, the determination of distributable profits has to be done in a commercial sense. The employees-were agitating for payment of bonus. They had been demanding bonus equivalent to two months' salary. For the previous year 1½months' salary had been granted as bonus by the industrial court. In these circumstances, liability to pay bonus for the year 1947 at the rate of at least 1½months' salary was very imminent, nay even certain in the event the assessee's business had made adequate profits. It was stated at the Bar that large profits were made during the year. If that be so, sums set apart to meet such imminent and certain liability, in our opinion, would be an allowable deduction in determining the distributable profits in a commercial sense. It would not be reasonable to say to a commercial man: “Even though tomorrow in all probability you will have to incur this expenditure, you should not consider that aspect but distribute the profits, which are with you today without making any arrangement to meet the imminent expenditure.” That, in our opinion,. does not appear to be what section 23A requires a businessman to do. The Tribunal, therefore, in our opinion, was not justified in refusing to take into consideration the sum of Rs. 1,04,000 in determining the issue as to the distributable profits of the assessee company on the ground that it is in the nature of a reserve to meet future expenditure. It is indeed true that by the award only 1½months' salary is directed to be paid as bonus. The sum set apart is on the basis of two months' salary. It is also true that, in the accounting year 1947, Rs. 89,000 and odd have been paid as bonus and has been allowed as a deduction. Mr. Joshi, therefore, next contends that the entire sum of Rs. 1,04,000 should, at any rate, not be allowed, but it should be reduced by the sum of Rs. 89,000 and odd which has already been allowed as a deduction in the accounting year 1947. We are not here concerned whether the entire sum of Rs. 1,04,000 should be allowed or any part thereof should be allowed in determining the issue of distributable profits. We are here concerned with ascertaining whether the Tribunal was justified in not taking into account at all the said sum in determining the distributable profits. As already stated, in our opinion, the Tribunal was not justified in doing so. What amount, if any, should be allowed to be set apart to meet its liability in respect of the bonus for the year 1947, will have to be considered on the evidence, which the parties may desire to put before the Tribunal.

11. For the reasons stated above, our answer to the reframed question is in the negative. The assessee shall have his costs from the department.

12. Reference answered accordingly.