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Commissioner Of Income-Tax v. Salem Co-Operative Sugar Mills Ltd.

Madras High Court

Sep 10, 1996

Judgment

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Structured Summary of the Judgment delivered by K.A. Thanikkachalam, J.

Factual and Procedural Background

The assessee is a co-operative society engaged in manufacture and sale of sugar. For the accounting year ending 30 September 1974 (assessment year 1975–76), the assessee collected a specified portion of the sale proceeds of molasses (a by-product) and credited Rs. 91,476 to a separate "molasses storage fund" pursuant to the Molasses Control (Amendment) Order, 1972 (dated 6 February 1972). That order fixed the selling price for molasses and required that a portion of the sale price be accounted for and funded separately for construction of storage facilities; the schedule set the quantum to be transferred for different grades of molasses.

The assessee claimed deduction of the Rs. 91,476 in computing total income. The Income-tax Officer rejected the claim. On appeal to the Commissioner (Appeals), the assessee relied on a Tribunal order in Madura Sugars Ltd. (I.T.A. No. 1675 (Mds) of 1976–77) and contended that the amounts were diverted by overriding title and so were not assessable. The Commissioner (Appeals) confirmed the assessing officer. The Tribunal allowed the assessee's claim, following its earlier Madura Sugars order. Pursuant to a direction dated 1 November 1982 in T.C.P. No. 106 of 1982, the Tribunal referred the following question to the court under section 256(2) of the Income-tax Act, 1961:

“Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the sum of Re. 91,476, being a portion of the sale proceeds of molasses, which was accounted for and kept separately for the construction of storage tanks, cannot be included in the assessee's income?”

This opinion is the court's answer to that referred question. The court heard learned standing counsel for the Department and counsel for the assessee, and delivered judgment answering the referred question.

Legal Issues Presented

Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the sum of Re. 91,476 (a portion of molasses sale proceeds accounted for and kept separately for construction of storage tanks) cannot be included in the assessee's income (i.e., whether there was diversion of income by overriding title at source).

Arguments of the Parties

Learned Standing Counsel for the Department (Revenue)

The Department argued that collection of the amount for the molasses storage fund amounts to application of income but not diversion: the amount reaches the assessee and is only later utilised for construction of the tank.
Submission that ownership of the constructed tank vests with the assessee and therefore the amounts collected cannot be said to have never reached the assessee.
Contended that even where the fund is created under statutory obligation, that does not automatically mean the income has been diverted by an overriding title (relied upon the Supreme Court decision in Associated Power Co. Ltd. v. Commissioner of Income Tax [1996] 218 ITR 195).
Maintained that the molasses storage fund, once utilised to construct tanks, adds to the capital assets of the assessee and therefore the amounts are not deductible as revenue expenditure.
Relied on a number of authorities (listed in the opinion) to support the proposition that diversion by overriding title did not occur in analogous circumstances or that the assessee retained ownership/control.

Learned Counsel for the Assessee

The assessee contended that the Molasses Control (Amendment) Order required collection and immediate accounting into a separate molasses storage fund for the specific purpose of constructing storage tanks, so the income was diverted at source by overriding title and never reached the assessee as its income.
Argued that the assessee acted as agent of the Central Government in collecting the fund; if the assessee failed to collect or to construct the tank, the Government would do so and recover the charges from the assessee, showing the assessee had no domain over the amounts.
Submitted that once collected the amounts had to be used only under directions of the Central Government/Commissioner and so the assessee could not use them for its own purposes; consequently the amounts never formed part of the assessee's real income.
Relied on precedents (including Somaiya and Pandavapura) that supported the view that statutory earmarking of a portion of price for a fund results in diversion at source.
The assessee also argued (later in the hearing) that, alternatively, the expenditure on constructing the storage tank should be allowable as revenue expenditure under section 37, but the court observed the Tribunal had not referred that specific question and therefore the court would not decide it in the present reference.

Table of Precedents Cited

Precedent	Rule or Principle Cited For (as stated in the opinion)	Application by the Court (how the opinion used or treated the precedent)
CIT v. Tollygunge Club Ltd., [1977] 107 ITR 776	The opinion records that the Tribunal below relied on the ratio of this Supreme Court decision in support of allowance of amounts transferred to a fund where the assessee stands in the position of a trustee under legal obligation.	The opinion notes that the assessee before the Commissioner (Appeals) relied on this decision; the court records this as part of the earlier line of authorities considered at lower levels.
Madura Sugars Ltd., Tribunal I.T.A. No. 1675 (Mds) of 1976–77 (31 Aug 1977)	The Tribunal in that case held a deduction for a similar molasses storage transfer was allowable.	The present Tribunal followed that earlier Tribunal order; the High Court records that the Tribunal below followed Madura Sugars Ltd. in allowing the assessee's claim.
Somaiya Orgeno-Chemicals Ltd. v. CIT, [1995] 216 ITR 291 (Bombay HC)	Held there is statutory diversion at source: the amount earmarked for a storage fund does not reach the assessee as income and should be excluded from income (the Bombay HC excluded it under section 28 as recorded).	The opinion discusses this decision at length and treats it as supportive of the conclusion that the earmarked amount is diverted at source; the court uses Somaiya as an influential authority showing loss of domain over the fund.
Associated Power Co. Ltd. v. Commissioner of Income Tax, [1996] 218 ITR 195 (SC)	Supreme Court held that an appropriation to a contingencies reserve under the Electricity (Supply) Act, 1948 was not diversion by overriding title because the monies reached the assessee and remained its monies under statutory restrictions; therefore not deductible as business expenditure.	The opinion distinguishes Associated Power on the facts: the Court held that Associated Power concerns contingency reserves created from monies that reach the assessee and remain under its domain, and thus the Supreme Court decision was not applicable to the present facts where the fund is required to be collected and kept separately and the assessee loses domain.
CIT v. Pandavapura Sahakara Sakkare Kharkane Ltd., [1992] 198 ITR 690 (Karnataka HC)	The Karnataka High Court held the right to the fund got diverted from the assessee by virtue of the Molasses Control Order and the amount was not assessable; the Supreme Court dismissed SLP against that decision.	The opinion cites this decision as supporting diversion at source and notes that the SLP was dismissed; the court aligns with the Karnataka High Court's approach in concluding diversion by overriding title in the present case.
CIT v. Pandavapura Sahakara Sakkare Kharkhane Ltd., [1988] 174 ITR 475 (Kar)	The opinion lists this earlier decision as "applied" in Somaiya; the current opinion does not state a separate rule beyond that listing.	The opinion records that Somaiya considered this earlier decision; beyond listing it, the present opinion does not set out a distinct application beyond its inclusion among cases considered by Somaiya.
Keshkal Co-operative Marketing Society Ltd. v. CIT, [1987] 165 ITR 437 (MP)	The opinion records this case as one of the cases taken into account by the Bombay High Court in Somaiya, but does not set out a specific rule from it in the present text.	The opinion notes it was considered by the Bombay High Court; the present court does not extract a specific, separate principle from this case in its reasoning as set out in the opinion.
Cochin State Power and Light Corporation Ltd. v. CIT, [1974] 93 ITR 582 (Ker)	The opinion records this authority as one of those taken into account by the Bombay High Court in Somaiya; the present opinion does not separately state its rule beyond that context.	Listed by the Bombay High Court as considered; the present opinion refers to it as part of the body of decisions considered in the line of authorities but does not separately apply it beyond that mention.
Amalgamated Electricity Co. Ltd. v. CIT, [1974] 97 ITR 334 (Bom)	Recorded as one of the decisions considered by the Bombay High Court in Somaiya; the current opinion does not state a separate principle from it in detail.	Included in the list of authorities Somaiya considered; the Court notes the case but does not extract a distinct holding from it for its own analysis beyond the listing.
CWT v. Bombay Suburban Electric Supply Ltd., [1976] 103 ITR 384 (Bom)	Recorded in the opinion as relied on in Somaiya; the present opinion does not set out a distinct principle from it beyond that listing.	Listed among authorities considered in Somaiya; the present court references the cluster of authorities but does not separately rely upon this entry for a discrete point in the judgment text.
Jiwajirao Sugar Co. Ltd. v. CIT, [1989] 176 ITR 182 (MP)	The Madhya Pradesh High Court held that a part of the price credited to a separate fund under the Molasses Control Order was an application rather than diversion of income (the MP High Court view).	The opinion records that the Bombay High Court dissented from the Madhya Pradesh High Court's view; the present court sides with the view that there is diversion at source and therefore does not follow the Madhya Pradesh approach.
CIT v. Calcutta Electric Supply Corporation Ltd., [1982] 138 ITR 111 (Cal)	The opinion notes this authority was "distinguished" by the Bombay High Court in Somaiya; the present opinion does not set out the specific rule from Calcutta Electric Supply beyond that reference.	Referenced as a decision that Somaiya distinguished; the present court does not adopt it as determinative for the present facts.
CIT v. Sitaldas Tirathdas, [1961] 41 ITR 367 (SC)	The Supreme Court formulated the test for diversion by overriding title: whether the amount sought to be deducted in truth never reached the assessee as his income (contrast between diversion at source and application after receipt).	The opinion cites Sitaldas as stating the "true test" and uses that articulation in its analysis of whether the molasses storage sums reached the assessee or were diverted before reaching the assessee.
Moti Lal Chhadami Lal Jain v. CIT, [1991] 190 ITR 1 (SC)	Explained Sitaldas: "reaches the assessee" and "has been received" relate to the nature of the obligation and whether an antecedent independent title exists slicing away part of the right to receive income.	The opinion cites Moti Lal as clarifying Sitaldas and uses that formulation to distinguish cases where an independent antecedent title causes diversion from cases of self-imposed application of income.
Vellore Electric Corporation Ltd. v. CIT, [1977] 109 ITR 454 (Mad)	The case relates to a contingency reserve created under the Electricity (Supply) Act, and was relied upon in the Associated Power matter; the present opinion notes its relevance to contingency reserves.	The opinion explains that Vellore (and the Supreme Court's approval in Associated Power) concerns contingency reserves where funds reach and remain under the control/domain of the assessee, and therefore those authorities are distinguishable from the present facts.
CIT v. South Arcot District Co-operative Supply and Marketing Society Ltd., [1981] 127 ITR 467	The opinion records this case as being not applicable because it concerned a contingency reserve created under section 62 of the Tamil Nadu Co-operative Societies Act, which is different in character from the Molasses Control fund.	The court considered this decision and concluded it was distinguishable and not applicable to support the Department's position for the present facts.
Poona Electric Supply Co. Ltd., [1965] 57 ITR 521	Referred to by the Supreme Court in Associated Power as relating to "consumers benefit reserve" where the amount must be returned to consumers and thus never formed part of the assessee's income.	The opinion records the Supreme Court distinction between consumer-benefit style reserves and contingency reserves; Poona Electric is referenced in that context as part of Associated Power's analysis.
Commissioner of Income-Tax v. New India Sugar Mills Ltd., [1994] 206 ITR 212 (Calcutta)	The Calcutta High Court held contribution to a molasses storage reserve for constructing a storage tank to be revenue in nature and allowable under section 37 (as recorded in the opinion).	The opinion records that the assessee relied on New India Sugar Mills Ltd. to support a claim for revenue deduction, but the court notes the Tribunal had not referred the question of allowability under section 37 and therefore did not decide that issue in the present reference.
CIT v. Sijua (Jharriah) Electric Supply Co. Ltd., [1984] 145 ITR 740 (Calcutta)	Recorded in the opinion as an authority relied upon to support the proposition that expenditure wholly and exclusively laid out for business purpose might be allowable as revenue expenditure.	The court notes the assessee relied on this authority in arguing alternatively for revenue treatment, but reiterates the Tribunal did not refer the revenue-expenditure question and the court therefore does not decide it here.

Court's Reasoning and Analysis

The court reviewed the statutory scheme created by the Molasses Control (Amendment) Order, 1972, which fixes the selling price for molasses and prescribes that a portion of that price be separately accounted for and funded to be used for erection of storage facilities under directions of the Government. The court emphasized the following analytical points (as stated in the opinion):

The pivotal test for diversion by overriding title is the Sitaldas formulation: whether the amount in question "in truth, never reached the assessee as his income." The court also relied on Moti Lal to explain that "reaches the assessee" must be understood by reference to the nature of the obligation — whether an antecedent independent title exists that slices away part of the right to receive income.
The court distinguished cases concerning contingency reserves (notably Associated Power and Vellore) because those reserves are created from monies that have reached the assessee and remain under the assessee's domain (albeit with statutory restrictions on disposal). In Associated Power the Supreme Court held that monies appropriated to such contingent reserves were not diverted by overriding title because they remained the assessee's monies for business purposes.
By contrast, under the Molasses Control Order the assessee is required, at the point of sale, to keep a specified portion separately as a molasses storage fund; the amount is to be maintained as a separate account and used only for constructing storage tanks according to government specifications and under the Commissioner’s directions. If the assessee fails to construct the tank, the Government can execute the work and recover the charges from the assessee. Thus, the court concluded the assessee loses domain and control over the fund from the outset.
The court examined and adopted the reasoning of the Bombay High Court in Somaiya and the Karnataka High Court in Pandavapura, finding their approach persuasive with respect to the existence of statutory diversion at source in situations where the statute requires earmarking a portion of the price into a separate fund over which the assessee has no control.
The court therefore held that Associated Power (which dealt with contingency reserves created from the assessee's revenues and where the assessee retained domain) was distinguishable and not applicable to the facts at hand.
The court expressly declined to decide whether the amount expended in constructing the storage tank would be allowable as revenue expenditure under section 37 of the Income-tax Act, noting that the Tribunal had not referred that specific question and that the Tribunal itself had dealt only with whether there was diversion of income by overriding title.

Holding and Implications

Holding: The court answered the referred question in the affirmative and against the Department. In the court's words: the Tribunal was correct in concluding that there is diversion of income by overriding title at the source when the assessee collected a certain amount along with the sale price of alcohol pursuant to the Molasses Control (Amendment) Order, and that the amount credited to the molasses storage fund cannot be included in the assessee's income.

Direct consequences and implications (as stated in the opinion):

The particular sum of Rs. 91,476 credited to the molasses storage fund for the accounting year in question is not includible in the assessee's income (the Tribunal's allowance is upheld).
The court distinguished the Supreme Court decision in Associated Power on the facts and held that Associated Power does not govern the present case where the fund is statutorily earmarked and the assessee loses domain at source.
The court did not determine whether the construction of the storage tank would qualify as revenue expenditure under section 37; this issue was not referred by the Tribunal and therefore remains open for adjudication in an appropriate forum.
No costs were awarded; counsel's fee was fixed at Rs. 2,000 (rupees two thousand only).

Note: This summary is prepared exclusively from the text of the provided opinion. Statements about legal principles, applicability or treatment of cases are reproduced only as they appear in the opinion and not supplemented by extraneous material.

Show all summary ...

The Judgment of the Court was delivered by

K.A Thanikkachalam, J.:— Pursuant to the direction given by this court, dated November 1, 1982, in T.C.P No. 106 of 1982, the Tribunal referred the following question “for the opinion of this court, under section 256(2) of the Income-tax Act, 1961 (hereinafter referred to as “the Act”):

“Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the sum of Re. 91,476, being a portion of the sale proceeds of molasses, which was accounted for and kept separately for the construction of storage tanks, cannot be included in the assessee's income?”

2. The assessee is a co-operative society, carrying on business in manufacture and sale of sugar. The relevant accounting year ended on September 30, 1974, for the assessment year 1975-76. The selling price of molasses, a by-product obtained in the process of refining sugar, is fixed by the Molasses Control (Amendment) Order, dated February 6, 1972. This order provides that a portion of the sale price should be accounted for and funded separately for providing adequate storage facilities in accordance with the guidelines prescribed in this behalf by the Government. The schedule to the order has specified varying rates per quintal for different grades of molasses, for determining the quantum to be transferred from the sale proceeds to the storage fund. The transfer made by the assessee in conformity with the statutory obligation cast by the above order during the accounting year amounted to Rs. 91,476, which the assessee claimed as deduction in the computation of its total income. The Income-tax Officer, however, rejected this claim without assigning any reason, but presumably on the ground that the sum in question was only an appropriation of a reserve and not expenditure incurred by the assessee wholly for the purpose of its business. On appeal, before the Commissioner of Income-tax (Appeals), the assessee relied on the order, dated August 31, 1977, of the Madras “B” Bench (Camp Madurai) of the Tribunal in I.T.A No. 1675.Mds. of 1976-77 in the case of Madura Sugars Limited for the assessment year 1973- 74. In this order, a similar deduction was held to be allowable in the view that although the storage fund is to be used for the purpose of constructing storage tanks, which may ultimately become the assessee's property, the ratio of the Supreme Court in CIT v. Tollygunge Club Ltd., [1977] 107 ITR 776, would apply to the amounts transferred to the fund inasmuch as the assessee vis-a-vis these amounts was in the position of a trustee under a legal obligation to utilise them for the specific purpose as stated in the order. In determining the actual cost under section 43(1) of the storage tank, the portion of the cost met directly or indirectly by utilisation of such funds would have to be deducted as far as the assessee is concerned, but the deduction claimed was admissible. However the Commissioner of Income-tax (Appeals) was of the view that the ratio of the decision of the Supreme Court cited supra would not apply to the facts of this case. Accordingly, he confirmed the view taken by the Income-tax Officer. Aggrieved, the assessee filed a second appeal before the Tribunal. The Tribunal, following the earlier order of the Tribunal, in the case of Madura Sugars Ltd., in I.T.A No. 1675 (Mds) of 1976-77 dated March 31, 1977, held the assessee's claim for deduction should be allowed.

3. Before us, learned standing counsel appearing for the department submitted that while the assessee collecting the amount for the molasses storage fund and construction of molasses storage tank would amount to application of income, there is no diversion of fund. After the assessee received the amount, thereafter the said amount was utilised for the construction of the tank. Hence, it cannot be said that the income was diverted before reaching the hands of the assessee. According to learned standing counsel, the ownership over the tank vests with the assessee, even though the tank was constructed in accordance with the instructions given under the Molasses Control (Amendment) Order. Even if the molasses storage fund was collected under an obligation as per the Molasses Control (Amendment) Order, the amount collected cannot be said to be not reaching the hands of the assessee and the assessee has no ownership over such collection. According to learned standing counsel the decision of the Bombay High Court in Somaiya Orgeno-Chemicals Ltd. v. CIT, [1995] 216 ITR 291, will no longer be good law in view of the later decision of the Supreme Court in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195. According to learned standing counsel, in the abovesaid decision of the Bombay High Court, the Bombay High Court was not correct in stating that they are not concerned with the question of ownership of the fund, especially when the Supreme Court in the above-cited decision categorically held that ownership of the fund is important in deciding the question whether there is any diversion by overriding title. So also learned standing counsel submitted that the decision of the Karnataka High Court in CIT v. Pandavapura Sahakara Sakkare Kharkane Ltd., [1992] 198 ITR 690, would no longer be good law in view of the later decision of the Supreme Court in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195, wherein the Supreme Court held that even if under a statutory obligation cast on the assessee, the molasses storage fund was created, that would not render the income collected for the construction of molasses storage tank would amount to diversion of income by overriding title. According to learned standing counsel after the molasses storage tank was constructed, that would go to add to the capital structure of the assessee. Learned standing counsel also relied upon the decisions in CIT v. Sitaldas Tirathdas, [1961] 41 ITR 367 (SC), Vellore Electric Corporation Ltd. v. Commissioner Of Income-Tax, Madras-I., [1977] 109 ITR 454 (Mad), Jiwajirao Sugar Co. Ltd. v. CIT, [1989] 176 ITR 182 (MP), CIT v. South Arcot District Co-operative Supply and Marketing Society Ltd., [1981] 127 ITR 467 (Mad), Moti Lal Chhadami Lal Jain v. CIT, [1991] 190 ITR 1 (SC), in order to support his contention that the assessee is not entitled to the deduction of the amount claimed under the head “Molasses storage fund” on the ground that at the source there is no diversion of income by overriding title.

4. On the other hand, learned counsel appearing for the assessee submitted that when the assessee created the molasses storage fund, in order to fulfil the legal obligation cast upon it under the provisions of the Molasses Control (Amendment) Order, there is diversion of income by overriding title. Under the Molasses Control (Amendment) Order, the Central Government fixed the price for the spirit and alcohol sold by the assessee and along with the price, the Central Government also directed the assessee to collect a particular amount for the purpose of creating a molasses storage fund in order to construct a molasses storage tank. Out of the amount belonging to the fund, the assessee was directed to construct a molasses storage tank for the purpose of controlling the sale of alcohol and denatured spirit. If the assessee failed to collect the amount as instructed by the Central Government and if the assessee failed to construct the tank, the Central Government itself would construct the tank with the help of the Public Works Department and collect the charges for such construction from the assessee. After the tank was constructed, it has got to be operated only under the instructions from the Central Excise Department. Therefore, the assessee has no right to make use of either the molasses storage fund or the tank constructed for its own purpose. Everything has got to be done after the permission is obtained from the Central Government. Therefore, according to learned counsel appearing for the assessee, the assessee has no domain over the molasses storage fund and it also cannot be said that the tank constructed out of the molasses storage fund absolutely belongs to the assessee. Therefore, learned counsel appearing for the assessee submitted that when the amount for the molasses storage fund was collected along with the sale price, it never reaches the hands of the assessee, since the assessee is collecting the same as the agent of the Central Government. Therefore, there is diversion of title even at the source before the amount is reaching the hands of the assessee. In order to support his submission, learned counsel appearing for the assessee heavily relied upon the decision of the Bombay High Court in Somaiya Orgeno-Chemicals Ltd. v. CIT, [1995] 216 ITR 291. So also learned counsel for the assessee placed reliance on the decision of the Karnataka High Court in CIT v. Pandavaj ura Sahakara Sakkdre Kharhane Ltd., [1992] 198 ITR 690 and pointed out that the special leave petition filed as against the decision of the Karnataka High Court in CIT v. Pandavapura Sahakara Sahkare Kharkane Ltd., [1992] 198 ITR 690, was dismissed by the Supreme Court (See [1992] 195 ITR (St.) 136). In the abovesaid decision, it was submitted that the Supreme Court was concerned with contingent liabilities. According to learned counsel appearing for the assessee, the decision rendered by the Supreme Court in Associated Poiuer Co. Ltd. v. CIT, [1996] 218 ITR 195, will not be applicable to the facts arising in the present case. Learned counsel further pointed out that the special leave petition filed as against the decision of the Karnataka High Court in CIT v. Pandavapura Sahakara Sakhare Kharkane Ltd., [1992] 198 ITR 690, was rejected by the Supreme Court. Therefore, in view of the decision of the Karnakata High Court as well as the Bombay High Court cited supra, the assessee is entitled to deduction of the amount contributed towards the molasses storage fund, since there is diversion of income by overriding title even when the amount was collected for the molasses storage fund along with the price fixed by the Central Government.

5. We have heard both learned standing counsel appearing for the Department as well as learned counsel appearing for the assessee. The assessee, a co-operative society, carrying on business in manufacture and sale of sugar, collected amounts along with the sale price of alcohol for creating a molasses storage fund in accordance with the Molasses Control (Amendment) Order, 1972, dated February 6, 1972. The selling price of molasses, a by-product obtained in the process of refined sugar, is fixed by the Molasses Control (Amendment) Order of February 6, 1972. Such amount, during the accounting year, amounted to Rs. 91,476. According to the assessee, since the amount collected for the molasses storage fund, was diverted even at the source by overriding title, the molasses storage fund is deductible while computing the total income of the assessee. According to the assessee, the molasses storage fund was created in accordance with the statutory obligation created by the Molasses Control (Amendment) Order, of February 6, 1972. While granting relief to the assessee, the Tribunal followed an earlier order of its own in the case of Madura Sugars Ltd., in I.T.A No. 1675.Mds. of 1976-77, dated August 31, 1977, whereunder it is stated as under: “The Molasses Control (Amendment) Order, 1972, is dated February 6, 1972. Under the abovesaid order, the sale price of molasses is fixed in the Schedule. Thereafter, it was provided that a part of the price should be accounted for and funded separately and to be utilised for erection of adequate storage facilities, in accordance with the orders that may be issued by the Government from time to time. The relevant portion of the Schedule reads as under:

“Grade of molasses? Price Grade I Re. 1.00 per 100 kilograms Grade II Re. 0.80 per 100 kilograms Grade III Re. 0.60 per 100 kilograms

Note: For quality of molasses below Grade III, the price will be Rs. 0.60 for every 40 kilograms of reducing sugar content therein.”

(ii) From the price fixed under the abovesaid schedule for different grades of molasses, the below mentioned amounts shall be accounted for and funded separately and shall be utilised for erection of adequate storage facilities in accordance with the orders that may be issued by the Central Government for the regulation of such funds:

Grade I Re. 0.33 per 100 kilograms Grade II Re. 0.27 per 100 kilograms Grade III Re. 0.20 per 100 kilograms Below Grade III molasses Re. 0.20 for every 40 kilograms of reducing sugar content therein.

6. A similar question came up for consideration before the Bombay High Court in Somaiya Orgeno-Cliemicals Ltd. v. CIT, [1995] 216 ITR 291. According to the facts arising in that case under the Ethyl Alcohol (Price Control) Amendment Order, 1971, issued by the Government of India, Ministry of Petroleum and Chemicals and Mines and Metals, dated January 30, 1971, in exercise of the powers conferred by section 18G of the Industries (Development and Regulation) Act, 1951, the Central Government prescribed certain maximum ex-distillery prices of ethyl alcohol as set out therein. Under clause (2) of this order a table is provided which prescribes such maximum ex-distillery prices of ethyl alcohol. Item 2 of this table deals with rectified spirit conforming to ISI Standard No. 323—1959 naked, for equivalent volume at 100 per cent. V.V strength. The maximum price prescribed is Rs. 227.75 per kilo litre. There is, a note at the bottom of this table which is relevant. It is as follows:

“Note: These prices include six rupees (Rs. 6) per kilo litre for putting up adequate storage facilities. This amount shall be separately funded and shall be utilised in accordance with the orders that may be issued for the regulation of such funds.”

7. As per this note, the amount which is to be funded separately has to be utilised in accordance with orders that may be issued. Such an order has been issued by the Government of India, Ministry of Petroleum and Chemicals, and is dated March 26, 1973. The-order states that it is in pursuance of the note to clause 2 of the Ethyl Alcohol (Price Control) Order and that the order is for the utilisation of the separate fund set up for erection of storage facilities for molasses and alcohol. The order, inter alia, requires every distillery to set aside the amount specified in the said note Under a separate head of account called “storage fund for molasses and alcohol account”. The order provides for returns being submitted to the Excise Commissioner by the management of the distillery showing, inter alia, the amount funded in terms of the said order during the period as specified therein. There is also a provision for a monthly return and an annual return showing, inter alia, total production of alcohol, the total sale of alcohol and the amount credited to the said account during the year certified as correct by the chartered accountant of the distillery and the total amount so funded.

8. Clause 5 of the order provides that the amount credited to the said account shall not be used by the distillery for any purpose other than construction or erection of storage facilities for molasses and alcohol. It further provides under sub-clause (2) that when any amount is intended to be withdrawn from the said account, the management of the distillery shall submit proposals to the Commissioner who shall, after satisfying himself about the proposals, permit withdrawal. Under clause 6, the storage tanks for molasses are required to be as per the specification formulated by the Indian Standards Institution and made of pucca covered masonry as may be decided by the Commissioner. The storage tanks for alcohol are required to be as per specifications laid down by the Commissioner. Under clause 7, the Commissioner in consultation with the distillery, is required to fix a time schedule within which storage tanks both for molasses and for alcohol shall be constructed by the distillery. Sub-clause (2) provides that in the event of failure of the distillery to construct storage tanks within the prescribed time schedule, the Commissioner shall have the work executed through the Public Works Department of the Central Government or the State Government or a private agency and the management of the distillery shall place at the disposal of the Commissioner the amount required for pxecuting the work. Clause 9 provides that the amount available in the account shall be maintained as a separate account in the bank of the distillery.

9. On these facts, a question arose whether the amount deducted from the sale proceeds of alcohol and spirit and transferred to the storage fund for molasses and alcohol account under the Ethyl Alcohol (Price Control) Amendment Order, 1971, is an admissible deduction. While answering this question the Bombay High Court held as under (page 296:

“There is, therefore, a statutory diversion at source, of Rs. 6. This amount of Rs. 6 does not reach the hands of the assessee as income at all from the sale of rectified spirit. It is collected as part of the price but is earmarked for the storage fund. It cannot, therefore, be considered as a part of the income of the assessee. The assessee is under a statutory obligation to set aside this amount of Rs. 6 per kilolitre for the said fund at the inception. There is, therefore, a clear diversion at the source of this amount.

In any event, the assessee has lost domain over this amount of Rs. 6 per kilolitre. It has to be utilised in the manner statutorily laid down. Even the storage facilities have to be constructed as per the directions of the Commissioner and the Commissioner has the power, if the assessee fails to construct storage tanks in the prescribed time schedule, to do the work and obtain the said amount from the assessee. Hence, this amount over which the assessee has lost its domain cannot be considered as a part of its real income or its profit. It is, therefore, required to be excluded under section 28 of the Income-tax Act, 1961, for the purpose of calculation of income.”

10. This decision was arrived at by the Bombay High Court after taking into consideration the decisions rendered in the following cases:

(1) CIT v. Pandavapura Sahakara Sakhare Kharkhane Ltd., [1992] 198 ITR 690 (Kar);

(2) CIT v. Pandavapura Sahakara Sakkare Karkahna Ltd., [1988] 174 ITR 475 (Kar) applied;

(3) Keshkal Co-operative Marketing Society Ltd. v. CIT, [1987] 165 ITR 437 (MP);

(4) Cochin State Power and Light Corporation Ltd. v. CIT[1974] 93 ITR 582 (Ker);

(5) Amalgamated Electricity Co. Ltd. v. CIT, [1974] 97 ITR 334 (Bom).

(6) CWT v. Bombay Subwban Electric Supply Ltd., [1976] 103 ITR 384 (Bom) relied on.

(7) Jiwajirao Sugar Co. Ltd. v. CIT, [1989] 176 ITR 182 (MP) dissented from; and

(8) CIT v. Calcutta Electric Supply Corporation Ltd., [1982] 138 ITR 111 (Cal) distinguished.

11. The Karnataka High Court had an occasion to consider a question of similar nature in CIT v. Pandavapura Sahakara Sakhare Kharkana Ltd., [1992] 198 ITR 690, wherein the Karnataka High Court held (headnote): that the utilisation of the amount in question could be only as per the directions that might be issued by the Government from time to time. The right to the fund got diverted from the hands of the assessee by virtue of the Molasses Control Order. The amount was not assessable. As against the decision of the Karnataka High Court cited supra, the Supreme Court had dismissed the special leave petition filed by the Department (vide [1992] 195 ITR (St.) 136).

12. In CIT v. Sitaldas Tirathdas, [1961] 41 ITR 367, the Supreme Court, while considering diversion of income by overriding title, held that (page 374):

“The true test for the application of the rule of diversion of income by an overriding charge, is whether the amount sought to be deducted, in truth, never reached the assessee as his income. Obligations, no doubt, there are in every case, but it is the nature of the obligation which is the decisive fact. There is a difference between an amount which a person is obliged to apply out of his income and an amount which by the nature of the obligation cannot be said to be a part of the income of the assessee. Where by the obligation income is diverted before it reaches the assessee, it is deductible; but where the income is required to be applied to discharge an obligation after such income reaches the assessee, the same consequence, in law, does not follow. It is the first kind of payment which can truly be excused and not the second. The second payment is merely an obligation to pay another a portion of one's own income, which has been received and is since applied.”

13. While explaining the decision rendered in CIT v. Sitaldas Tirathdas, [1961] 41 ITR 367 (SC), the Supreme Court in Moti Lal Chhadami Lal Jain v. CIT, [1991] 190 ITR 1, held as under (headnote):

“The expressions ‘reaches the assessee’ and ‘has been received’ have been used by the Supreme Court in the case of Sitaldas Tirathdas, [1961] 41 ITR 367 not in the sense of the income being received in cash by one person or another. What the court emphasised is the nature of the obligation by reason of which the income becomes payable to a person other than the one entitled to it. Where the obligation flows out of an antecedent and independent title in the former (such as, for example, the rights of dependants to maintenance or of coparceners on partition, or rights under a statutory provision or an obligation by a third party and the like), it effectively slices away a part of the corpus of the right of the latter to receive the entire income and so it would be a case of diversion. On the other hand, where the obligation is self-imposed or gratuitous, it is only a case of application of income.”

14. However, learned standing counsel appearing for the Department submitted that all the decisions cited by learned counsel appearing for the assessee were rendered before the rendering of the decision of the Supreme Court in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195. According to the facts arising in that case, by reason of the provisions of the Electricity (Supply) Act, 1948, and the Sixth Schedule thereto, the assessee appropriated a sum of Rs. 46,460 out of its revenues to a contingent reserve account during the previous year, relevant to the assessment year 1973-74. This amount was claimed by the assessee as a deduction in the computation of its total income for the purposes of income-tax. The Income-tax Officer rejected the claim. The Appellate Assistant Commissioner allowed the assessee's appeal, relying upon the decision of the Kerala High Court in Cochin State Power and Light Corporation Ltd. v. CIT, [1974] 93 ITR 582 and the Bombay High Court in the case of Amalgamated Electricity Co. Ltd. v. CIT, [1974] 97 ITR 334. The Revenue filed an appeal before the Tribunal and cited the judgment of the Madras High Court in Vellore Electric Corporation Ltd. v. Commissioner Of Income-Tax, Madras-I., [1977] 109 ITR 454. The Tribunal relied on the decision of the Madras High Court, which had disagreed with the view taken by the Kerala and Bombay High Courts. It set aside the order of the Appellate Assistant Commissioner, but referred the following question to the court (page 197):

“Whether, on the facts and in the circumstances of the case, the Income-tax Appellate Tribunal was correct in holding that the sum of Rs. 46,460 transferred to the contingencies reserve account is not allowable as a deduction in arriving at the taxable business income of the assessee-company?”

15. While answering this question, the Supreme Court held as under (headnote):

“Clause II of the Sixth Schedule to the Electricity (Supply) Act, 1948, requires the electricity company to create certain reserves if its clear profit exceeds a reasonable return. Monies standing to the credit of the contingencies reserve which are set apart to be utilised by the electricity company for the purposes set out in clause V of the Sixth Schedule are to meet expenses or recoup loss of profits arising out of accidents, strikes or other circumstances which the electricity company could not have ntioned in the Indian Trusts Act makes no difference to this position. The fact that on the purchase of the undertaking the contingencies reserve has to be handed over to the purchaser and maintained as such is only to make explicit the obvious, for the reserve is for the purposes of the undertaking that is being transferred. There is nothing in the statute to suggest that the amount standing to its credit cannot be taken into consideration in arriving at the purchase price. For the purposes of sale to a State Board or Government, a different statute lays down how the price is to be fixed. The amount credited to the contingencies reserve is not diverted by reason of an overriding obligation or title and, in determining the business profits of the assessee, it must be taken into account. The amount appropriated to the contingencies reserve is set apart to meet possible exigencies. It is not a provision for known, existing liabilities. It is not deductible as business expenditure.”

16. In the abovesaid decision, the Supreme Court pointed out that the application of the doctrine of diversion of income by reason of an overriding title is quite inappropriate. The doctrine applies when by reason of the overriding title or obligation, income is diverted and never reaches the person in whose hands it is sought to be assessed. In the present case, the statute requires the electricity company to create certain reserves if its clear profit exceeds a reasonable return (clause II, Sixth Schedule). Again, the contingencies reserve is to be created from existing reserves or from “the revenues of the undertaking”. This clearly indicates that the monies which have to be put in the contingencies reserve reach the electricity company and are not diverted away from it. The Supreme Court further pointed out that the amount standing to the credit of the contingencies reserve could not be said to be an amount which had gone out of the hands or control of the assessee and become the subject-matter of ownership of somebody else. The statute had imposed certain restrictions over the disposal of that amount by the assessee but that did not mean that the amount had ceased to be money belonging to the assessee. What was meant by diversion of profits by overriding title was that a part of the profits earned by an assessee was not really his profit, but it belonged to somebody else and the assessee had no title. As far as the contingencies reserve was concerned, the statute had clearly indicated the purposes for which it could be spent and those purposes clearly showed that they were connected with the business of the assessee and it was the assessee, which would have to utilise it. Equally the fact that the assessee was required to invest the amount standing to, the credit of the contingencies reserve in securities authorised under the Indian Trusts Act, 1882, did not in any way affect this position. The assessee continued to be the owner of the investment and, however limited be the benefit that the assessee might derive from such an investment, it could not be held that the investment was not the assessee's investment, but somebody else's investment.

17. Before the Supreme Court, the assessee contended that there was no distinction between the “consumers benefit reserve”, which had been considered by the Supreme Court in the case of Poona Electric Supply Co. Ltd., [1965] 57 ITR 521, and the “contingencies reserve”. The Supreme Court pointed out that the argument is fallacious. The emphasis is on the fact that the amount paid into the consumers' benefit reserve has to be returned to the consumers. Therefore, it is as if the electricity company had not received the amount, which it was obliged to return. The amount that it was obliged to return was not a part of its income. This is altogether different from the case of monies standing to the credit of the contingencies reserve, which are set apart to be utilised by the electricity company for the purposes set out in clause V of the Sixth Schedule. These are to meet the expenses or recoup loss of profits arising out of accidents, strikes or other circumstances, which the electricity company could not have prevented, to meet expenses on replacement or removal of plant or works; and for payment of compensation required by law for which no other provision has been made. These are all expenses, which the electricity company has to incur. Reservation is made so that money is always available for meeting these expenses and the supply of electricity is not interrupted. For the same reason, payments out of the contingencies reserve can be made only with the State Government's approval. It is particularly noteworthy that the electricity company can make good from out of the contingencies reserve even a loss of profit arising out of strikes, accidents and other circumstances over which it has no control. There can be no doubt, in the circumstances, that the monies in the contingencies reserve belong to the electricity company.

18. But according to the facts arising in the present case, the assessee was directed to collect a certain amount along with the price fixed for alcohol under the Molasses Control (Amendment) Order. Therefore, even before collection of the amount as directed by the Central Government under the Molasses Control (Amendment) Order, the assessee was directed to keep this amount under a separate account under the head “Molasses storage fund”. Though the assessee collects this amount under the statutory obligation, it does not belong to the assessee, but it belongs to the molasses storage fund. The assessee cannot utilise the amount in the said fund for any other purpose. The fund has got to be utilised for the purpose of constructing a storage tank as per the specifications given by the Central Government. If the assessee failed to collect such amount as directed by the Molasses Control (Amendment) Order, the Central Government will construct a molasses storage tank and recoup the construction charges from the assessee. Therefore, there is diversion of title even at the source of the income collected as per the directions given under the Molasses Control (Amendment) Order. But according to the facts arising in the decision of the Supreme Court cited supra, the amount will be standing to the credit of the contingency reserve. The reserve is only for the utilisation by the assessee at a later stage when such contingency arises. Therefore, the assessee is having control and domain over the contingency reserve created according to the statute. After the amount was realised, the assessee was asked to create a contingency reserve, as against the facts arising in the present case where the assessee was directed to collect separately the amount for molasses storage fund, over which the assessee has no control or domain. Further, since it is not a provision for known or existing liabilities, the amount appropriated to the contingency reserve is not deductible as business expenditure according to the Supreme Court. For the foregoing reasons, we are of the opinion that the judgment of the Supreme Court rendered in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195, will not be applicable to the facts arising in this case.

19. According to learned standing counsel, the Bombay High Court was not correct in stating in Somaiya Orgeno-Chemicals Ltd. v. CIT, [1995] 216 ITR 291, that the question of ownership of the fund is not relevant. What the Bombay High Court said was that inasmuch as the assessee was not having any right over the amount in the molasses storage fund and the assessee has lost all the domain over such amount, it was held that the amount collected by way of molasses storage fund had gone out of the hands of the assessee, which is not available for its utilisation, unlike the contingencies reserve occurring in the decision of the Supreme Court in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195. In the present case also, after the amounts were collected as per the directions given by the Molasses Control (Amendment) Order, it goes to the molasses storage fund over which the assessee has no control and domain. Inasmuch as the assessee cannot utilise the same for its own business purpose, we have also here to hold that there is diversion by overriding title at the source itself. Even before the amount reached the hands of the assessee, the assessee was directed to transfer the same towards the molasses storage fund. Therefore, the collection made by the assessee belongs to the molasses storage fund.

20. Reliance was placed upon the decision of the Madhya Pradesh High Court in Jiwajirao Sugar Co. Ltd. v. CIT, [1989] 176 ITR 182, wherein the Madhya Pradesh High Court held that where a part of the price of molasses received by the assessee was credited by the assessee to a separate fund to discharge an obligation imposed upon the assessee by the Molasses Control Order, there is no diversion of income, but of application of income. While considering this decision the Bombay High Court in Somaiya Orgeno-Chemicals Ltd. v. CIT, [1995] 216 ITR 291, held as under (page 298):

“With respect to the Madhya Pradesh High Court, we do not agree with the above view taken by the Madhya Pradesh High Court; and we respectfully agree with the view taken by the Karnataka High Court in the case of CIT v. Pandavapura Sahakara Sakkare Kharkane Ltd., [1992] 198 ITR 690. In order to decide whether the amount forms a part of the income of the assessee or not, we have to see whether it can be considered as a part of its real income or a part of its commercial profits. When the price is statutorily controlled and a fixed portion of that price is statutorily earmarked for the creation of a fund, it has to be kept in a separate account for the utilisation of which the assessee has to abide by the directions which may be given to the assessee by the Registrar. There is, in our view, in such a situation, a clear diversion of a portion of the amount so earmarked at source. It does not at any time form a part of the assessee's real income which it can utilise at will. The question of ownership of the fund in this context is not relevant.”

21. It also remains to be seen that the Madhya Pradesh High Court was not correct in stating that the molasses storage fund vests with the assessee. But it is not so. After the amount was collected along with the sale price of the alcohol, the assessee was directed to transfer that collection to the credit of molasses storage fund. Thereafter the assessee cannot utilise the amount from the molasses storage fund for any other business purpose of his own. Once the amount collected by the assessee is credited to the molasses storage fund, then the molasses storage fund would come under the control of the Central Government. The assessee cannot meddle with the same. Under such circumstances, it is not correct to state that the molasses storage fund vests with the assessee.

22. The decision of the Madras High Court in Vellore Electric Corporation Ltd. v. Commissioner Of Income-Tax, Madras-I., [1977] 109 ITR 454, also relates to the contingency reserve created by the assessee pursuant to the obligation imposed on the assessee by the Electricity (Supply) Act, 1948. This decision was approved by the Supreme Court in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195. The reasons given by us hereinabove to state that the judgment of the Supreme Court in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195, would not be applicable to the facts of this case, would equally apply to the decision reported in Vellore Electric Corporation Ltd. v. Commissioner Of Income-Tax, Madras-I., [1977] 109 ITR 454 (Mad). Therefore, this decision also would render no assistance to the Department to contend that there is no diversion of income by overriding title, but only there is application of income. The decision in CIT v. South Arcot District Co-operative Society, [1981] 127 ITR 467, of this court, would also be not applicable to the facts of this case, for the reasons stated above, since the contingency reserve was created in accordance with section 62 of the Tamil Nadu Co-operative Societies Act, 1961. Thus, on a careful consideration of the facts arising in this case, in the light of the judicial pronouncements cited supra, we hold that the Tribunal was correct in coining to the conclusion that there is diversion of income by overriding title at the source when the assessee collected a certain amount along with the sale price of alcohol as per the obligation imposed by the Molasses Control (Amendment) Order.

23. However, learned counsel appearing for the assessee submitted that the amount collected as per the direction given in the Molasses Control (Amendment) Order, is also entitled to be deducted as revenue expenditure, while computing the total income of the assessee. In order to support this contention, learned counsel appearing for the assessee, relying upon the decision in Associated Power Co. Ltd. v. Commissioner Of Income Tax, [1996] 218 ITR 195 (SC), submitted that inasmuch as the Supreme Court pointed out that deduction cannot be given as revenue expenditure, since the provision is not for known and existing liabilities and inasmuch as in the present case the expenditure for constructing a molasses storage tank is for known and existing liabilities, which should be allowed as revenue expenditure under section 37 of the Act. Reliance was also placed upon the decision of the Calcutta High Court in Commissioner Of Income-Tax v. New India Sugar Mills Ltd., [1994] 206 ITR 212, wherein the Calcutta High Court held that contribution to the molasses storage reserve fund for the purpose of constructing a storage tank would be revenue in nature and accordingly allowable as such under section 37 of the Act. So also, relying upon the decision of the Calcutta High Court in CIT v. Sijua (Jharriah) Electric Supply Co. Ltd., [1984] 145 ITR 740, learned counsel appearing for the assessee submitted that inasmuch as the expenditure incurred for constructing the storage tank is wholly and exclusively laid out for the purpose of the business, it should be allowed as revenue expenditure. On the other hand, learned standing counsel appearing for the Department, by placing reliance upon the passage occurring at page 2451 in the text book of Sampath Iyengar's Law of Income-tax, submitted that inasmuch as the storage tank would ultimately come to the assessee, it would go to increase the capital asset and hence the expenditure incurred for constructing the storage tank cannot be allowed as revenue expenditure. The fact remains that no specific question was referred by the Tribunal on this aspect. Counsel for the assessee submitted that inasmuch as the question postulates that the expenditure incurred by the assessee for constructing the storage tank is allowable as a deduction, it is open to the assessee to claim deduction under section 37 of the Act. It also remains to be seen that while rendering its order, the Tribunal followed an earlier order of its own in I.T.A No. 1675.Mds. of 1976-77, dated August 31, 1977 in the case of Madura Sugars Ltd., Pandiarajapuram. In the decision rendered by the Tribunal in the abovesaid case, the Tribunal has not considered the allowability of the claim as revenue expenditure under section 37 of the Act. The Tribunal was concerned only with regard to the question whether there is any diversion of income by overriding title. Therefore, the Tribunal, while deciding the present case, had not applied its mind for allowing the expenditure claimed for constructing the storage tank as revenue expenditure under section 37 of the Act. In the absence of an order by the Tribunal on this aspect and in the absence of a specific question raised in this regard, it is not possible for us to consider the assessee's submission that the amount incurred for constructing the molasses storage tank should be allowed as a revenue expenditure, since it is laid out wholly and exclusively for the purpose of the business. Accordingly, we answer the question referred to us in the affirmative and against the Department. No costs. Counsel's fee is fixed at Rs. 2,000 (rupees two thousand only).