1. This is a reference under section 66(2) of the Indian Income-tax Act 1922 (to be hereinafter referred to as “the Act”). The question of law, referred to this court for its opinion, is:

“Whether the dividend income, on the aforesaid 988 shares of the Britania Biscuit Co. Ltd., Calcutta, belonging to the assessee's wife is assessable in the hands of the assessee under section 16(3)(a)(iii) of the Indian Income-tax Act, 1922?”

2. The facts material for the purpose of deciding this reference are these:

On November 10, 1942, the assessee's wife, Smt. Kailashwati Khanna, purchased out of her own funds from one Raghbir Singh 4 shares in the Delhi Biscuit Co. Ltd. for a sum of Rs. 500, each share being of the face value of Rs. 125. During the year 1948, Smt. Kailashwati Khanna purchased 52 more shares from the Delhi Biscuit Co. Ltd. from out of the funds provided by the assessee. In 1951, the Delhi Biscuit Co., Ltd. sold the concern to Britania Biscuit Co. Ltd., Calcutta, for a consideration of Rs. 4,35,138. The said consideration was discharged in the shape of ordinary shares of the vendee-company. The face value of those shares was Rs. 10 per share; but its market value was Rs. 22. For a consideration of Rs. 4,35,138, the vendee company made over to the vendor 19,779 shares. These shares were made over by the Delhi Biscuit Co. Ltd. to its shareholders at the rate of 19 shares of the vendee-company to 1 share of the vendor-company. In lieu of her 56 snares, the assessee's wife got 1,064 shares of the vendee company. Out of these shares, admittedly 76 shares were given to her in lieu of the 4 shares which she had purchased from out of her own funds. At present there is no dispute that the dividend relating to those 76 shares is not assessable to tax in the hands of the assessee. The controversy is whether the dividend realised by the assessee's wife in respect of her 988 shares, which she got in lieu of the 52 shares of the vendor company, that she had purchased from out of the funds provided by the assessee, is assessable to tax in the hands of the assessee for the assessment year 1957–58, the relevant previous year being 1956–57.

3. After the sale, referred to above, was completed, the liquidator, appointed for the purpose of distributing the assets of the Delhi Biscuit Co. Ltd., wrote to the wife of the assessee as follows on July 16, 1951:

“[Delhi Biscuit Co. Ltd. (In Liquidation)]

Delhi, 16th July, 1951.

In the matter of the Indian Companies Act

In the matter of the Delhi Biscuit Co., Ltd.

(In voluntary liquidation)

To the Shareholders:

Dear Sir,

In terms of the arrangement made with the Britania Biscuit Co. Ltd., we have now received the allotment letters to be handed over to the shareholders of the company.

As you are aware, the arrangement is that for every share that you held in the Delhi Biscuit Co. Ltd., you will receive 19 shares of the Britania Biscuit Co. Ltd.

You are the registered holder as on 31st March, 1961, of 56 shares and you have been allotted 1,064 shares by the Britania Biscuit Co. Ltd.

This allottment letter is lying with us ready to be handed to you. We shall be glad if you will kindly send the share certificates for the 56 shares that you are holding in Delhi Biscuit Co. Ltd., so as to enable us to send you the allottment letter.

In returning the share certificates you will kindly endorse at the back of the share certificate that this is being handed to the liquidators of the Delhi Biscuit Co. Ltd. against the allottment letter in respect of 1,064 shares in the Britania Biscuit Co. Ltd.

The Britania Biscuit Co. Ltd will issue to you a share certificate for the shares allotted to you in exchange for the allotment letter.

Yours faithfully,

For A.C Khanna and Self

S. Vaidyanath Aiyer

Liquidators.”

Shrimati Kailash Vati,

17, Alipur Road, Delhi.

4. From the foregoing, it is seen that from out of the sum of Rs. 6,500 made available by the assessee, his wife purchased 52 shares of the value of Rs. 125 each from the Delhi Biscuit Co. Ltd. in the year 1948. But, later on, she got 988 shares of Britania Biscuit Co. Ltd., Calcutta, in lieu of these 52 shares. The question is whether the dividend realised from these shares during the relevant assessment year can be considered as the income of the assessee under section 16(3)(a)(iii) of the Act. That section says:

“16. (3) In computing the total income of any individual for the purpose of assessment, there shall be included—

(a) so much of the income of a wife….of such individual as arises directly or indirectly…

(iii) from assets transferred directly or indirectly to the wife by the husband….”

5. Now we have to see whether the income, with which we are concerned in this case, arises directly or indirectly from any asset transferred by the assessee to his wife. The asset transferred in this case is the payment of Rs. 6,500 by the assessee to his wife in the year 1948. Can it be said that the dividend, with which we are concerned in this case, directly or indirectly arises from that asset? It is not the case of the assessee that while converting her 52 shares in the Delhi Biscuit Co. Ltd. to 988 shares of the Britania Biscuit Co. Ltd., Calcutta, his wife had made any further payment. She got the share of the Britania Biscuit Co. Ltd., in place of her shares in the Delhi Biscuit Co. Ltd. Therefore, quite clearly, the assessee's wife's shares in the Britania Biscuit Co. Ltd. are directly traceable to the sum of Rs. 6,500 given by the assessee to his wife to purchase shares of the Delhi Biscuit Co. Ltd. The connection between the two is obvious. In every sense of the word, it is direct. Therefore, the dividend with which we are concerned in this case directly arises from the asset transferred by the assessee to his wife.

6. We are unable to agree with Sri B.N Kirpal, learned counsel for the assessee, that in law the assessee's wife must be deemed to have sold her 52 shares in the Delhi Biscuit Co. for about Rs. 22,000 and thereafter purchased 988 shares of the Britania Biscuit Co. from out of that money and the excess money realised by her by the sale of her shares in the Delhi Biscuit Co. Ltd. is her capital gain. On a true understanding of the transaction in this case, it would be seen that there was no sale of the shares of the Delhi Biscuit Co., either really or notionally. All that happened was that the assessee's wife got 988 shares of the Britania Biscuit Co. in place of the 52 shares that she had in the Delhi Biscuit Co.

7. Our conclusion in this regard receives support from the observations of Lord Buckmaster in Westminster Bank Ltd. v. Osier [1933] 1 I.T.R 65, 68 H.L.. The facts of that case and the decision of the House of Lords can be summarised, thus:

During the years 1917 and 1918, the appellant bank paid £ 7,505,000 for National War Bonds which, under the terms of the prospectus, they were entitled to convert into 5 per cent. War Loan 1929/47. On April 21, 1922, the Treasury made an offer to the holders of National War Bonds entitling them to surrender their holdings in exchange for £ 134, 3½ per cent. Conversion loan lor each £ 1005 per cent. National War Bonds. In response to that offer the bank surrendered holdings of bonds to the value of £ 6,205,000 and subsequently, in exercise of their rights under the terms to the original issue, exchanged their remaining holdings into the 5 per per cent. War Loan. If these transactions were equivalent of the realisation of the original holdings the profit would amount to £ 141,750. The Inland Revenue authorities brought that sum into account in determining the profits of the bank's trade for purposes of income-tax under Case I of Schedule D. On the question whether there was a mere accretion of capital and in fact no realisation of profits, the House of Lords held that there had been a realisation for, as soon as the new securities were taken in place of the investment in the original War Bonds, a new venture was begun in relation to the new holding and the fact that this transformation took place by the process of exchange did not avoid the conclusion that there had been arealisation of the security.

8. Lord Buckmaster, who delivered the judgment of the House of Lords, observed thus during the course of his address:

“If such transactions be accepted as the equivalent of the realisation of the original holdings it is agreed that the profit or excess value would amount to £ 141,750, and it was sought on behalf of the Inland Revenue to bring this sum into the account in determining the profits of the appellants' trade for purposes of income-tax under Case I of Schedule D. The bank contended that there had in fact been no realisation of profit, and that there was a mere accretion of capital value which could not be brought into account until in fact it has been realised. The Commissioners decided against this contention, and their opinion had been supported, though with some hesitation, by Rowlatt J. and the Court of Appeal.

On behalf of the appellants, it was plausibly argued before the House that the nature of this transaction was equivalent to the mere exchange of an item in the stock-in-trade of a trader, in which case it was contended that unless an item so taken in exchange was sold, or taken out of the business, no tax would be exigible by reason of the fact that the article taken in exchange was of greater value than that for which it was bartered. I appreciate the strength of this argument, and I am not surprised at the perplexity in which the judges have found themselves, but the wholly different character of the businesses, the uncertainty of values in dealing with a trader's stock, and the probability that articles exchanged in the way of trade would prima facie be of equal commercial value renders the analogy unsound. The exchange effected in the present case was in fact the exact equivalent of what would have taken place had instructions been given to sell the original stock and invest the proceeds in the new security. The investment represented by the original War Bonds came to an end as soon as the new securities were taken in its place, when a new venture was begun in relation to the new holding, and the fact that this transformation took place by the process of exchange does not in my opinion avoid the conclusion that there has been what is described as a realisation of the security. This view is, I think, supported by the authority of this House.”

9. The transaction with which we are concerned in this case was equivalent to an exchange of the stock-in-trade of a trader, in which case it was contended that unless an item so taken in exchange was sold, or taken out of the business no tax would be exigible by reason of the fact that the article taken in exchange was of greater value than that for which it was bartered. As seen earlier, the entire exchange of shares on behalf of the shareholders of the vendor-company was arranged by the vendor company. The shareholders had no voice in that matter. It is not a case of the assessee's wife having sold her shares in the vendor company and then having purchased the shares of the vendee company.

10. Sri Kirpal placed a great deal of reliance on the decision of the Bombay High Court in Popatlal Bhikamchand v. Commissioner of Income-tax, in support of his contention that the dividend that could be traced to the extra value of the shares that the assessee's wife got from the Britania Biscuit Co. is not exigible to tax. In that case, the assessee, who held 350 shares in a company, transferred those shares to his minor son by way of gift. Later, the minor was allotted 744 bonus shares for his original holding of 350 shares. The question was whether the dividend income from the 744 bonus shares, allotted to the minor, could be included in the total income of the assessee under section 16(3)(a)(iv) of the Income-tax Act. Dealing with that question, Shah J. observed thus:

“…. in our judgment, the source of the dividend income from the bonus shares is not the assets transferred but the accretion thereto; and that income cannot be regarded as arising even indirectly from the assets transferred by the assessee.”

11. In that judgment, there is not much discussion in support of the conclusion reached. But we are of the opinion that that High Court had come to the above conclusion on the ground that the bonus shares represented distribution of accumulated income. What can be taxed under section 16(3)(a)(iii) or (iv) is the income directly or indirectly arising from an asset transferred and not an income of an income, which arises from an asset tranferred the case before the Bombay High Court was of an income of an income and not of an income arising directly or indirectly from an asset transferred by the assessee to his wife. Therefore, that case is clearly distinguishable.

12. Reliance was next placed by Sri Kirpal on the decision of the Bombay High Court in Seventhilal Maneklal Sheth v. Commissioner of Income-tax [1965] 57 I.T.R 45, 56.. Therein an assessee had made a gift to his wife of his shares in a limited company which were worth Rs. 69,730 at the time of the gift. The wife sold the shares subsequently for Rs. 1,54,800 making a capital gain of Rs. 70,860. The whole sale proceeds were invested and it fetched an interest of Rs. 9,288 annually. The question was whether the capital gains of Rs. 70,860 realised on the sale of the shares and the interest of Rs. 9,288 received annually were income arising from assets transferred to the wife and could be included in the income of the husband under section 16(3)(a)(iii) of the Income-tax Act. The court held that “though the sum of Rs. 70,860 was capital gains arising from sale of the shares, it was still income arising from the assets transferred within the meaning of section 16(3)(a)(iii) and was properly included in the husband's income”. But dealing with the question of interest accruing from the investment of the sale-proceeds the court held that:

“… as the department had acted on the basis that out of the sum of Rs. 1,54,800 received by the wife, Rs. 69,730 represented the value of the assets transferred and the balance of Rs. 70,860 was income, and had assessed the latter sum as income, such portion of interest as was attributable to Rs. 69,730 (viz., Rs. 4,184) could alone be treated as income arising from the assets transferred to the wife and the balance of the annual interest (viz., Rs. 5,104) was not liable to be included in the total income of the husband.”

13. The ratio of this decision is the same as that of the decision by the Bombay High Court in Popatlal Bikamchand v. Commissioner of Income-tax, referred to earlier. This aspect is made clear by V.S Desai J., who delivered the judgment of the court. This is what his Lordship observed:

“Now, the transaction could be regarded as a conversion of the asset from one form into another: the assets which were transferred to Bai Laxmibai were converted by her into cash which amounted to Rs. 1,54,800 and this amount in cash was held by Bai Laxmibai as the assets held by her in another form. There was another way, however, of looking at the matter, viz., that the sale proceeds which Bai Laxmibai realised on the sale of the assets gave her back the value of the assets and a certain gain over that value. In other words, the amount of Rs. 1,54,800 received by Bai Laxmibai on the sale of the shares held by her, gave her value of the assets, viz., Rs. 69,730, and a gain, viz., Rs. 70,860. The department for the year 1957–58 chose to look upon it in the latter way and took the view that the assets transferred were converted into cash for their corresponding value at the date of the transfer and the rest was the income in the form of capital gains from the said assets. In other words, an amount of Rs. 69,730 represented in cash the transferred asset, while the surplus of Rs. 70,860 constituted the income. That part, which was income, it included within the total income of the husband and brought it to tax. Now that being the basis adopted by the income-tax department, the same must obviously hold good for the subsequent years of taxation. Now, on this basis the amount of Rs. 1,54,800, which Bai Laxmibai deposited with Messrs. Bhivandiwala & Co, constituted the deposit of the transferred assets to the extent of Rs. 69,730 and the deposit of the income which was the balance. The income, which she got in the next year was, therefore, attributable only to the extent of Rs. 4,184 to the transferred assets represented by Rs. 69,730 and the rest was attributable to the balance.”

14. What the learned judge in that case opined is that an income arising from an asset transferred by the assessee to his wife is liable to be taxed in the hands of the assessee, but an income arising from that income is not liable to be so taxed.

15. We are unable to agree with the contention of Sri Kirpal that the dividend in dispute in this case should be considered as an income from an income. For the reasons, already stated, we are of the opinion that the dividend received in respect of the said 988 shares is an income arising from the asset transferred by the assessee to his wife. In the result, our answer to the question referred to us is in the affirmative. The assessee to pay the costs of this reference. Advocate's fee Rs. 250.

16. Question answered in the affirmative.