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AMICUS AI
Citation Codes
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Case Number
Advocates
  • For the Appellant: J. Jayaraman, K. Ramagopal, S. Swaminathan, V. Balasubramanian, Advocates.
Judges
  • Veeraswami
  • Ramaprasada Rao, JJ.
Acts
  • INDIAN INCOME TAX ACT
  • Section 57(iii) of the Income-tax Act 1961,
  • Section 256(1) of the Income-tax Act 1961.
  • Section 66(1) of the Income-tax Act 1922
  • WEALTH TAX ACT
  • Section 12(2).10.
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Cites
Cited by
Citation Codes
Equivalent Citations
citation codes
Case Number
Advocates
  • For the Appellant: J. Jayaraman, K. Ramagopal, S. Swaminathan, V. Balasubramanian, Advocates.
Judges
  • Veeraswami
  • Ramaprasada Rao, JJ.
Acts
  • INDIAN INCOME TAX ACT
  • Section 57(iii) of the Income-tax Act 1961,
  • Section 256(1) of the Income-tax Act 1961.
  • Section 66(1) of the Income-tax Act 1922
  • WEALTH TAX ACT
  • Section 12(2).10.
See more information ...
Smart Summary

Structured Summary of the Opinion delivered by Veeraswami, J.

Factual and Procedural Background

These tax cases concern whether, on the facts, Wealth Tax paid by individual assessees is deductible as an expenditure in computing income under the Income‑tax Act. Each assessee, an individual, received dividend income and interest in the relevant previous year and paid Wealth Tax in a specified sum on his holding of stock. Each assessee sought to deduct the Wealth Tax from the income comprising dividends and interest as an allowable expenditure under Section 57(iii) of the Income‑tax Act, 1961. The Revenue and the tribunal disallowed the claim. The references came before the Court under Section 66(1) of the Income‑tax Act, 1922 or under Section 256(1) of the Income‑tax Act, 1961.

The tribunal relied on Kumbakonam Electric Supply Corporation Ltd. v. Commissioner of Income‑tax Madras (1963) 50 ITR 809 (Mad) and dismissed the assessee's appeals. The present Court was asked to answer the reference whether the Wealth Tax paid by the assessee is an expenditure allowable under Section 57(iii).

Legal Issues Presented

  1. Whether the Wealth Tax paid by each assessee on the net value of stock held by him is an allowable deduction in computing his income from "other sources" under Section 57(iii) of the Income‑tax Act, 1961.

Arguments of the Parties

Assessee's Arguments (as presented by Mr. Swaminathan)

  • Payment of Wealth Tax is incidental to preservation of assets, and preservation of assets is incidental to the purpose of making or earning income; therefore Wealth Tax should be deductible under Section 57(iii).
  • Default in payment of Wealth Tax could endanger ownership of assets which produce income; hence the tax is, in effect, a condition for making or earning that income.
  • Relied on authorities said to support the proposition that payments necessary to preserve or enable income‑producing assets to continue yielding income are deductible (cases cited included Raja Probhat Chandra Barua v. Commissioner of Income‑tax Bengal, Eastern Investment Ltd. v. Commissioner of Income‑tax West Bengal, Commissioner of Income‑tax, Madras v. Jagannath Govindas, and Harrode (Buenos Aires) Ltd. v. Taylor Gooby).

Revenue and Tribunal's Position

  • The Revenue and the tribunal negatived the claim for deduction of Wealth Tax, relying on precedent (notably Kumbakonam Electric Supply Corporation Ltd.) which held Wealth Tax not allowable as expenditure for computing taxable income under the provision then in question.
  • Implicitly, the position is that Wealth Tax is paid by the assessee in the capacity of owner on the totality of assets and lacks the requisite nexus with the making or earning of income contemplated by Section 57(iii).

Table of Precedents Cited

Precedent Rule or Principle Cited For Application by the Court
Kumbakonam Electric Supply Corporation Ltd. v. Commissioner of Income‑tax Madras, (1963) 50 ITR 809 (Mad) Held that Wealth Tax paid on the net wealth of a company was not an allowable expenditure in computing taxable income (case under Section 10(2)(xv)). The tribunal relied on this decision to dismiss the present appeals. The Court treated the reasoning as a parity to the present cases and regarded it as supportive of the conclusion that Wealth Tax is not allowable under Section 57(iii).
Travancore Titanium Products Ltd. v. Commissioner of Income Tax Kerala, (1966) 60 ITR 277 : AIR 1966 SC 1250 The Supreme Court held that Wealth Tax paid by an assessee was not an allowable expenditure under Section 10(2)(xv); to be deductible the expenditure must be incidental to business, necessitated by commercial expediency and directly and intimately connected with the business, i.e., laid out in the character of trader not merely as owner of assets. The Court relied on the Supreme Court's formulation of the "direct and intimate connection" test and applied that reasoning by analogy to Section 57(iii), concluding that Wealth Tax paid by individuals as owners does not satisfy the required nexus.
Raja Probhat Chandra Barua v. Commissioner of Income‑tax Bengal, 5 ITC 1 : AIR 1930 PC 209 The Privy Council held that the jama (fixed payment) paid by a landholder should be allowed in computing income from the zamindari (viewing jama as a condition of holding the estate). The Court distinguished this authority: it observed the jama was a condition of holding the estate, paid in the capacity of landholder, and its nature and incidence differ from Wealth Tax under the Wealth Tax Act; thus the case did not support allowing Wealth Tax as a deduction under Section 57(iii).
Commissioner of Income‑tax, Madras v. Jagannath Govindas, (1962) 45 ITR 61 (Mad) Allowed deduction of municipal tax paid on talkie cinema equipment when computing income from rents, where the municipal tax's incidence was on the property itself and was paid not merely as owner per se. The Court distinguished this case, noting municipal tax is property‑incidence tax collected from owner/occupier and differed in character and incidence from Wealth Tax; therefore it could not govern the present references.
Eastern Investment Ltd. v. Commissioner of Income‑tax West Bengal, (1951) 20 ITR 1 : AIR 1951 SC 278 Held interest on debentures (issued in lieu of value of shares purchased) was deductible where the company earned income in the capacity of investor and the expenditure was incurred in the same capacity. The Court found this decision of limited assistance: it illustrates that deduction requires the expenditure to be incurred in the same character in which income is earned (a nexus found there), whereas Wealth Tax in the present cases was paid as owner on net worth and not in the same capacity as the income‑earning activity.
Harrode (Buenos Aires) Ltd. v. Taylor Gooby, (1964) 41 Tax Cas 450 (English Court of Appeal) Held a foreign tax charged annually as a percentage of capital was deductible because it was incurred wholly and exclusively for the purpose of the assessee's trade, being a condition precedent to carrying on business in Argentina. The Court noted the decision but observed the circumstances differed: that foreign tax was held to be a condition precedent to trade there; the present cases did not establish such a direct and immediate nexus between Wealth Tax and the earning of income.

Court's Reasoning and Analysis

The Court set out the legal tests required by Section 57(iii) for an expenditure to be deductible:

  • The expenditure must be "laid out or expended wholly and exclusively for the purpose of making or earning such income".
  • The expenditure should be incidental to the making or earning of the income and have a direct nexus with the earning activity — it must be incurred in the character in which the income is earned.

Applying these tests to the facts, the Court reasoned as follows:

  1. The Wealth Tax paid by each assessee was paid by him as owner, and it was assessed on the net worth or the totality of his assets. The tax was not shown to be paid in the character in which the assessee earned the dividends and interest.
  2. The Court found the connection between payment of Wealth Tax and the making or earning of income to be too remote. Although payment of Wealth Tax may be necessary to preserve net assets in a broad sense, that remoteness does not satisfy the statutory requirement that the expenditure be directly and intimately connected with making or earning the particular income.
  3. The Court relied on parity of reasoning from earlier decisions (Kumbakonam and Travancore) which had held Wealth Tax not allowable under analogous provisions (Section 10(2)(xv)). The Supreme Court's articulation in Travancore that allowable expenditure must be "direct and intimate[ly] connected" and "laid out by the taxpayer in his character as a trader" was treated as instructive for construing the similar phrase "for the purpose of making or earning such income" in Section 57(iii).
  4. The Court considered and rejected the principal authorities cited by the assessee by distinguishing them on their facts and the nature of the taxes or payments involved:
    • The Privy Council decision on jama concerned a payment that was a condition of holding a zamindari and hence of a different incidence than Wealth Tax.
    • The municipal tax case involved a tax whose incidence was directly on the property used to produce rents and was paid in the capacity of lessor of the equipment — different in character from Wealth Tax.
    • The Eastern Investment decision involved interest paid in the capacity in which income was earned (investing company), where nexus was present; that factual nexus was absent in these cases.
    • The English decision allowing a foreign capital‑based tax was based on the tax being a condition precedent to carrying on the business in that jurisdiction; the present cases did not establish such a condition precedent nexus.
  5. The Court acknowledged the attractiveness of the assessee's preservation‑of‑assets argument but concluded that such a broad connection does not meet the statutory test requiring an expenditure to be directly and exclusively for the purpose of making or earning the income.
  6. Finally, the Court noted a policy argument raised by the assessee — that disallowing the deduction may make assets a greater liability due to progressive income tax rates — but held that such policy concerns are matters for the Legislature and not for judicial relief in the present proceeding.

Holding and Implications

Holding: The question referred to the Court is answered against the assessee. In other words, the Court held that the Wealth Tax paid by the assessees was not an allowable deduction under Section 57(iii) for computing their income from other sources.

Implications:

  • Direct effect: The assessees are not permitted to deduct Wealth Tax paid on their net assets from income comprising dividends and interest under Section 57(iii); the tribunal's and Revenue's disallowance stands.
  • Costs: The Court ordered that there will be no order as to costs.
  • Broader implications: The opinion did not purport to lay down a new rule of general policy; the Court expressly confined itself to the statutory test of direct nexus and indicated that policy questions (for example, regarding the combined effect of Wealth Tax and progressive income tax rates) are for the Legislature to address. The Court relied on earlier authorities for parallel reasoning rather than announcing a novel principle beyond the application to these facts.

Reference answered accordingly.

Show full summary ...

    K. Mahesh v. Commissioner Of Income-Tax

    The Judgment of the Court was delivered by

    Veeraswami, J.:— These tax cases raise a common question as to whether on the facts and in the circumstances, the claim for deduction of Wealth Tax paid by the assessee as an admissible expenditure is lawful. The Revenue as well as the tribunal negatived the claim and the references have come before us under Section 66(1) of the Income-tax Act 1922 or under Section 256(1) of the Income-tax Act 1961. Each of the assessees as an Individual received dividend income and interest in the relative previous year and paid Wealth Tax in a certain sum on his holding of stock. The sum paid as Wealth Tax was sought to be deducted from the income that comprised of dividends and interest as an allowable expenditure under Section 57(iii) of the Income-tax Act 1961, but unsuccessfully before the Revenue.

    2. The Tribunal relied on Kumbakonam Electric Supply Corporation Ltd. v. Commissioner of Income-tax Madras, (1963) 50 ITR 809 (Mad) and dismissed the assessee's appeal in each case. That was of course a case under Section 10(2)(xv). In which a Division Bench of this Court was of opinion that Wealth Tax paid on the net wealth of the company there was not an allowable expenditure in computing its taxable income.

    3. The assessee in each case as an Individual was charged to income-tax under the head “other sources”. In computing his net income chargeable to tax, he will be entitled to allowance of any expenditure not being in the nature of capital expenditure, laid out or expended wholly and exclusively for the purpose of making or earning such income. The point is whether the Wealth Tax paid by each of the assessees on the net value of the stock held by him is such expenditure. Though the question is by no means capable of an easy answer, we have come to the conclusion that the Wealth Tax paid is not an expenditure of that character. In order an expenditure to come within the ambit of Section 57(iii) it must satisfy the tests which obviously suggest themselves from the language employed by that provision. The expenditure should be laid out or incurred wholly and exclusively and should be for the purpose of making or earning such income. It should be connected with in the sense it must be incidental to the making or earning of the income. In other words, there must be a nexus between the character of the expenditure and the making or earning of income if the sum laid out is on a capacity different from that in making or earning income, that will clearly be outside the scope of Section 57(iii). In the present cases, we fail to see how the wealth tax paid is for the purpose of making or earning income. The assessee paid wealth Tax as Owner and on the value of the totality of his assets that has nothing to do with his making or earning income from such assets. The production of income from the assets appears to be wholly unconnected with the payment of wealth Tax. This view of ours, as we think, receives support from a parity of reasoning in (1963) 50 ITR 809 (Mad) and Travancore Titanium Products Ltd. v. Commissioner Of Income Tax Kerala , (1966) 60 ITR 277 : (AIR 1966 SC 1250). These cases, no doubt, are related to Section 10(2)(xv) but what fell for decision in them was the scope of the words “any expenditure……… laid out or expended wholly and exclusively for the purpose of such business, profession or vocation”. A Division Bench of this Court in the first case and the Supreme Court in the second, have expressed the view that Wealth Tax paid by an assessee was not an allowable expenditure in computing the taxable income of that assessee under Section 10(2)(xv). The Supreme Court in the second case pointed out—

    “In determining whether an amount expended by the assessee is deductible under Section 10(2)(xv) of the Indian Income-tax Act the nature of the expenditure or outgoing must be adjudged in the light of accepted commercial practice and trading principles. The expenditure must be incidental to the business and must be necessitated or justified by commercial expediency it must be directly and intimately connected with the business and must be laid out by the taxpayer in his character as a trader. To be a permissible deduction, there must be a direct and intimate connection between the expenditure and the business i.e between the expenditure, and the character of the assessee as a trader, and not as owner of assets, even if they are assets of the business”.

    4. The Supreme Court repelled an argument on behalf of the assessee in that case that for the purpose of its business, it held assets and by the use of those assets profits were earned, and, therefore, tax paid in respect of those assets was expenditure laid out for the purpose of the business. The deduction sought for is disallowed because the nexus required was not established and the Wealth Tax paid by the assessee there was as an owner on its net worth and not as a trader for the purpose of carrying on its business. It is true that the concluding words if Section 10(2)(xv) are wider in their scope than those of Section 57(iii). But for purposes of answering the reference before us that can make no difference because in the case of both the provisions the question of deductibility of an expenditure depends on the scope of the words “purpose of” which provide the link between the expenditure and the carrying on of business in the one case or making or earning income in the other.

    5. But Mr. Swaminathan, for the assessee, strenuously pressed before us Raja Probhat Chandra Barua v. Commissioner of Income-tax Bengal. 5 ITC 1 : (AIR 1930 PC 209). Eastern Investment Ltd. v. Commissioner of Income-tax West Bengal. (1951) 20 ITR 1 : (AIR 1951 SC 278) Commissioner of Income-tax, Madras v. Jagannath Govindas. (1962) 45 ITR 61 (Mad) and Harrode (Buenos Aires) Ltd. v. Taylor Gooby. (1964) 41 Tax Cas 450. He argues that preservation of assets is incidental to the purpose of making or earning income, that these are cases in which the assets themselves automatically produced Income and that, therefore, payment of Wealth Tax was virtually a condition for making or earning income, because default in payment of such tax will endanger the ownership of the asset which in its turn will destroy the very source of income. The argument thus presented at first sight looks attractive. But on further scrutiny we are of opinion that it cannot be accepted. We do not think that the cases relied on by him support his proposition.

    6. The Privy Council in 5 ITC 1 : (AIR 1930 PC 209) held that in bringing to tax Income derived from lands in permanent settled estates, allowance should be made for the jama paid by the land-holder. The income was brought to charge under the head “other sources” and dealing with the eligibility of the jama to deduction Lord Russell of Killowen, who delivered the judgment for the Board, expressed the view—

    “Their Lordships were unable to ascertain upon what footing the appellant had been assessed in respect of the income derived from his zamindari. i.e, whether on the gross Income or after some allowance had been made in respect of the jama assessed and paid upon the lands. Their Lordships are of opinion that, in assessing the appellant to income-tax in respect of the Income derived from his zamindari his Income, profits and gains from that source should be computed after making proper allowance in respect of the jama assessed and paid”.

    7. A perusal of the Judgment of the Privy Council shows that in taking that view it was persuaded to think that payment of the jama was a condition of the landholder holding the estate. Apart from that, it seems to us that the nature and Incidence of the jama have no relation to those of Wealth Tax under the provisions of the Wealth Tax Act Further, the land-holder paid the jama in that capacity and also was charged to tax on income received by him from the estate which he held as a landholder.

    8. 1962-45 ITR 61 (Mad) allowed deduction of municipal tax paid by the assessee on his talkie cinema equipment including machinery and furniture, in computing his chargeable income consisting of the rents received by him as a lessor of the equipment. It may be seen that the municipal tax was paid by the assessee not as owner per se of the cinema equipment. The nature of such tax is that its incidence is on the property itself and is collected from the owner or occupier thereof, and it is not comparable to Wealth Tax in its character and incidence. While we think that Mr. Swaminathan is justified in reining on this case, we are at the same time not satisfied that the principle of the decision can properly govern the references before us.

    9. 1951-20 ITR 1 : (AIR 1951 SC 278) Is even less helpful to the assessee. There the interest sought to be deducted in the computation of chargeable income of the investing company was paid on certain debentures which were issued by it in lieu of the value of certain shares which it had purchased. The Supreme Court in that case considered that the payment of interest was an expenditure within the ambit of Section 12(2) and was a permissible deduction. The Investing company earned income in that capacity and also paid Interest under the debenture in the same capacity, it was apparently for this reason a nexus was found between the expenditure and its purpose, namely making or earning income within the meaning of Section 12(2).

    10. In (1964) 41 Tax Cas 450 the English Court of Appeal held that a foreign Tax charged annually on percentage of capital was a permissible deduction as the Tax was incurred wholly and exclusively for the purpose of the assessee's trade. The basis for this view appears to be that payment of such tax was a condition precedent to the carrying on of the assessee's business in Argentine.

    11. As we mentioned earlier, we find it difficult to hold that the Wealth Tax was paid by each of the assessees in these cases as Incidental to the making or earning of Income. In a sense it may be that in order to preserve the total net assets, the assessee has to pay Wealth Tax and that without such assets there can be no question of making or earning the income. But these facts do not establish the nexus required for the expenditure by way of Wealth Tax to be a permissible deduction. The connection, if any of the expenditure by way of Wealth Tax with the assessee's making or earning the income appears to be too remote. The expenditure in order to be a permissible deduction, should be directly connected with the purpose of making or earning of Income, for, otherwise it cannot be said that the expenditure is for the purpose of making or earning income.

    12. Mr. Swaminathan appealed to us that if the expenditure tax paid is not allowed to be deducted, the result would be that having regard to the higher slabs of the income-tax rate which the assessee will be subjected to, the assets would prove more a liability. That may be so; not that we express any opinion on that. That is not, however, a matter in respect of which we can possibly give any relief. That is a question of policy which should be left to the Legislature.

    13. The question referred to us is answered against the assessee.

    14. There will be no order as to costs.

    TVN/D.V.C

    15. Reference answered accordingly.

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    Comments

    K. Mahesh v. Commissioner Of Income-Tax
    (Sep 27, 1967)