Citation Codes

Equivalent Citations

citation codes

Case Number

Income Tax References Nos. 33/72. 61 & 62/77 and 4/78

Attorney(S)

/Assessee: Mr. G.C Sharma, Sr. Advocate with Mr. E.D Helms, Advocate.
For the Applicant: Mr. M.L Verma with Mr. S. Mukherjee, Advocate.

Judges

Mr. Justice S. Ranganathan
Mrs Justice Leila Seth

Acts

Section 15C of the Indian Income-tax Act, 1922,
Section 256(1) of the Income-tax Act, 1961
INCOME TAX ACT 1961
1922 Income-tax Act, Section 15C
2) Act 1967, Section 84

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Smart Summary

Structured Summary of the Opinion (Leila Seth, J.)

Factual and Procedural Background

The Commissioner of Income-tax referred four questions under Section 256(1) of the Income-tax Act, 1961 concerning assessment years 1968-69, 1969-70, 1970-71 and 1971-72. The central factual scenario is that the respondent, a private limited company manufacturing hand tools, operated an original factory at Faridabad and, in the accounting period relevant to assessment year 1968-69 (previous year ending 30 June 1967), set up a separate second factory (a newly constructed building across the road).

The new factory had new machinery, was operated by electric power, employed more than ten persons and maintained separate accounts for assets, liabilities, purchases and sales. Asset acquisitions for the new factory amounted to Rs. 16.57 lakhs during the period ending 30 June 1966 and additions of Rs. 25.50 lakhs in the year ending 30 June 1967. The first factory had assets of about Rs. 43.86 lakhs on 30 June 1966 and adds of Rs. 5.95 lakhs during the year ending 30 June 1967. The company’s share capital was Rs. 10 lakhs and reserves and surplus Rs. 39.04 lakhs.

The assessee claimed exemption under Section 80J of the Income-tax Act in respect of the capital employed in the new factory. The Income-tax Officer denied the exemption concluding that the new unit was an expansion/reconstruction because the company maintained a single head office for financial transactions, there was no increase in the company’s capital, and the new unit produced the same items as the first unit. On appeal the Appellate Assistant Commissioner allowed the claim (relying on a Supreme Court decision and construing provisions liberally), and the Income-tax Appellate Tribunal also affirmed the entitlement, holding inter alia that no fresh capital need be raised if the company had adequate internal resources and that the new factory was a distinct, viable unit. The Department appealed, and the matter came before the court for opinion.

Legal Issues Presented

Whether, on the facts and in the circumstances of the case, the assessee was entitled to relief under Section 80J of the Income-tax Act, 1961 by reference to the capital employed in the industrial undertaking at Faridabad set up in the accounting period relevant to the assessment years 1968-69?

Arguments of the Parties

Commissioner's Arguments

It was contended that because no fresh capital had been raised specifically for the new factory, the exemption under Section 80J was not available.
The Commissioner argued that the capital used for the new unit was effectively the capital of the existing/old business and that the new factory manufactured the same items and was located in close proximity, indicating a splitting up or reconstruction of the existing business rather than a genuinely new industrial undertaking.

Assessee's Position and Administrative/Tribunal Reasoning

The assessee claimed exemption under Section 80J by reference to the capital employed in the new undertaking and, despite making a loss in the relevant assessment year, sought to carry forward the exempted amount under Section 80J(3).
The Appellate Assistant Commissioner held that it was not necessary to raise separate capital for the new unit given the capital and reserves available to the company and, construing the provisions liberally to encourage new undertakings (relying on a Supreme Court decision), directed allowance of the benefit.
The Income-tax Appellate Tribunal concluded that: it was not necessary to issue additional capital where adequate internal resources existed; the assessee had maintained systematic accounts allocating assets and liabilities to the two units; the new factory was a well-defined viable unit; and there was no reconstruction or transfer of assets from the old unit to the new unit. The Tribunal endorsed entitlement to relief under Section 80J.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
Commissioner of Income-tax, Delhi and Rajasthan v. Webbing & Belting Factory Ltd., 68 I.T.R. 186	Authority relied on by the Appellate Assistant Commissioner to support a liberal construction encouraging establishment of new undertakings.	The Appellate Assistant Commissioner followed this decision in directing the ITO to allow the assessee the benefit under Section 80J; the court noted this reliance when summarising administrative reasoning.
Textile Machinery Corporation Ltd. v. Commissioner of Income-tax, West Bengal, 107 I.T.R. 195	Explains that an industrially recognisable new unit (with required employment of workers) will not be treated as reconstruction if there is no transfer of assets from the old business; producing same commodities does not by itself amount to reconstruction; substantial funds invested in new plant and machinery are essential.	The court applied the principles from this Supreme Court decision to hold that the new unit at Faridabad was not a reconstruction of the old business and to explain the requirement that substantial employment of capital be shown for entitlement to Section 80J relief.

Court's Reasoning and Analysis

The court proceeded methodically:

Identified statutory context: Section 80J (inserted after deletion of Section 84 by Finance (No. 2) Act, 1967) grants a deduction of 6% per annum on the return on capital employed in a new industrial undertaking, subject to specified conditions. The court set out the material conditions in summary: (i) not formed by splitting up or reconstruction of existing business; (ii) no transfer of building (other than rented), machinery or plant previously used; (iii) it manufactures articles; and (iv) it employs the minimum required workers.
Observed that conditions (ii), (iii) and (iv) were admittedly satisfied in the present case; therefore the sole contested issue was whether the new unit was formed by splitting up or reconstruction of the existing business.
Examined and applied Textile Machinery Corporation Ltd. (supra), which clarified that a new industrially recognisable unit will not be treated as a reconstruction if there is no transfer of assets of the old business and if the new unit has separate plant and machinery invested with substantial funds. The court emphasized that producing the same commodities as the old business does not in itself constitute reconstruction.
Applied those principles to the facts: there was no transfer of assets (no machinery or buildings moved from the old unit), the identity of the first unit remained unimpaired, and the second unit maintained separate accounts and had a distinct operational identity. The Tribunal’s characterization of the new factory as a "viable unit" with "a separate and distinct personality" was endorsed.
Considered the employment-of-capital requirement: the court held that employment of capital is a condition precedent to attract the Section 80J deduction. However, it reasoned that formal raising of fresh capital is not necessary; where surplus reserves of the company are specifically utilized to acquire assets for the new undertaking, such utilization constitutes employment of capital for the purposes of the section. Thus internal resources properly applied to the new undertaking qualify as capital employed.
Noted policy considerations: the purpose of Section 80J is to incentivize establishment of new industrial undertakings to promote industry, employment and production, and the interpretation must prevent artifices by which old undertakings are camouflaged as new. On the facts, the assessee had not engaged in such a device.

Holding and Implications

Holding: The court answered the referred question in the affirmative and in favour of the assessee: the assessee was entitled to claim relief under Section 80J by reference to the capital employed in the new industrial undertaking at Faridabad.

Direct consequences:

The assessee's entitlement to the Section 80J deduction (as determined by reference to the capital employed in the new undertaking) was affirmed.
The assessee was awarded costs: counsel's fee of Rs. 250/-.

Broader implications:

The opinion explains the legal standard for distinguishing a genuine new industrial undertaking from reconstruction or splitting up of an existing business, and clarifies that internal reserves legitimately and specifically utilized for acquiring assets of a new undertaking constitute "employment of capital" under Section 80J. The opinion does not state that it establishes a new binding precedent beyond its application to these references.

Disposition: Reference answered accordingly in favour of the assessee.

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The Commissioner Of Income-Tax, New Delhi v. M/S. Gedore Tools (India) Pvt. Ltd., New Delhi S Assessee

Leila Seth, J.:— At the instance of the Commissioner of Income-tax these four references, under Section 256(1) of the Income-tax Act, 1961 (to be referred to in short as “the Act”) have been referred to us for our opinion. They pertain to assessment years 1968-69, 1969-70, 1970-71 and 1971-72.

2. The common question of law framed in these references is:

“Whether on the facts and in the circumstances of the case, the assessee was entitled to relief under Section 80J of the Income-tax Act, 1961 by reference to the capital employed in the industrial undertaking at Faridabad set up in the accounting period relevant to the assessment years 1968-69?”

3. The respondent-assessee is a private limited company. It had a factory at Faridabad where it manufactured hand tools. During the assessment year 1968-69 (the corresponding previous year ending on 30th June, 1967) the assessee-company set up another factory to manufacture hand tools. The second factory was housed in a newly constructed separate building at Faridabad across the road from the original factory. New Machinery was installed in this new factory, which was operated by electric power and more than ten persons were employed therein. The assessee-company maintained separate accounts for the two units/factories, both in respect of assets and in respect of liabilities, as also purchases and sales.

4. During the accounting period ending on 30th June, 1966 assets worth Rs. 16.57 lakhs were acquired for the new factory which was under construction. There were additions worth Rs 25.50 lakhs in the year ending 30th June, 1967. The assets of the first factory on 30th June, 1966 were about Rs 43.86 lakhs and there was an addition during the year ending 30th June, 1967 of Rs 5.95 lakhs. The share capital of the company was Rs 10 lakhs while its reserves and surplus were Rs 39.04 lakhs.

5. The assessee-company claimed an exemption as permissible under Section 80J of the Act on the capital employed in the new factory/industrial undertaking. Though for the assessment year 1968-69, this new undertaking suffered a loss, the assessee company wanted to carry forward the exempted amount under the provisions of Section 80J(3) of the Act. The Income-tax Officer rejected the claim for exemption on the basis that the assessee company maintained one set of head office accounts in which financial transactions of borrowing moneys and utilization took place and the units were inter linked not only financially but in the day today transactions further there was no increase in the capital of the company and the new unit was producing the same items as were being manufactured by the first unit. He, therefore, concluded that it was a case of expansion of business and the exemption under Section 80J of the Act was not available.

6. On appeal, the Appellate Assistant Commissioner felt that it was not necessary to raise separate capital for the new unit in view of the capital and reserve available with assessee-company. Moreover, holding that the provisions had to be construed liberally so as to encourage the establishment of new undertakings and relying on the decision of the Supreme Court in Commissioner of Income-tax, Delhi and Rajasthan v. Webbing & Belting Factory Ltd., 68 I.T.R 186(1) to this effect, he directed the Income-tax Officer to allow the assessee-company the benefit claimed under Section 80J.

7. Thereafter the Department appealed to the Income-tax Appellate Tribunal contending that the new undertaking was formed by a reconstruction of the old unit and was not entitled to the exemption. However, the Tribunal held that it was not necessary for the assessee-company to issue additional capital in order to employ it in he now industrial undertaking, and that since it already had adequate internal resources, it could draw on these resources and need not go in for fresh capital or borrowings. In fact the assessee had a capital of Rs 80 lakhs whereas its investment in the equipment of the first unit was approximately Rs 43.8 lakhs only. The Tribunal further held that the assessee had maintained systematic accounts allocating assets and liabilities and transactions in general to the two units to which they related. No exception could be taken to the fact of co-ordination of working of the two units at the head office. Further the new factory was a well defined viable unit, and the old unit had remained intact and there was no question of reconstruction. It, therefore, endorsed the conclusion of the Appellate Assistant Commissioner that the assessee-company was prima-facie entitled to relief under Section 80J by reference to the capital employed in the new undertaking.

8. Before us, learned counsel for the Commissioner has strenuously urged that as no fresh capital had been raised for the new factory under-taking, it was not entitled to the exemption under Section 80J. He also argued that the fact that the capital used was the capital of the assessee-company and, therefore, of the old business and that the new factory manufactured the same items as the old factory and was located in close proximity to it, would indicate that it was a case of splitting up or reconstruction. He, therefore, contended that the unit was not entitled to the exemption under Section 80J of the Act.

9. Section 84 of the Act dealt with the income of new industrial undertakings. By the Finance (No 2) Act 1967, Section 84 was deleted with effect from 1st April, 1968 and Section 80J inserted. In the 1922 Income-tax Act, Section 15C dealt with this matter. Through there area number of differences in the above mentioned three sections, yet for the purposes of this case, they are not relevant. Section 80J stipulates that a new industrial undertaking would be entitled to a deduction of 6 percent on return on the capital employed provided it fulfills the conditions set out therein. These, in brief, are:

(i) it is not formed by the splitting up or reconstruction or the existing business,

(ii) there is no transfer or building other than rented, or machinery or plant previously used,

(iii) it manufactures articles, and

(iv) it employs ten or more workers if power oriented otherwise twenty workers.

10. In the present case, admittedly the above conditions (ii), (iii) and (iv) have been complied with by the new factory/undertaking. Therefore, the point in issue is; has it been formed by the splitting up or reconstruction of the existing business.

11. In Textile Machinery Corporation Ltd. v. Commissioner of Income-tax, West Bengal, 107 I.T.R 195(2), the Supreme Court has dealt with an analogous provision to Section 80J of the Act. The steel foundry division and the jute mill division were the two new units seeking exemption. They were manufacturing articles mostly to be used in the assessee's business of manufacturing wagons, machinery parts, boilers etc. Dealing with the case under Section 15C of the Indian Income-tax Act, 1922, the Supreme Court held that to qualify for the exemption, it is important that the new undertaking be an integrated unit wherein articles are produced and at least a minimum of 10 persons with the aid of power and a minimum of 20 persons without the aid of power have been employed such a new industrially recognizable unit cannot be said to be a reconstruction of an old business if there is no transfer of any assets of the old business to the new undertaking further the fact that the new activity launched by the assessee is to produce the same commodities as the old business or produce under distinct marketable products which feed the old business, would not amount to reconstruction of the old business. However, the establishment of a new unit with new and separate plant and machinery by investing substantial funds is essential.

12. Applying these principles to the present case, it is clear that the new unit has not been formed by the splitting up or reconstruction of the existing business. The second unit has not derived anything from the old unit either by way of equipment or by way of factory buildings. No assets of the old unit have been transferred to the new unit nor has the identity of the first unit been impaired in any way. The mere fact that the second unit manufactures some of the items which were manufactured by the first unit, does not make it an integral part of the first unit. It would survive independently of the first unit. In the words of the Tribunal, the new factory is a viable unit, can run by itself, and has “a separate and distinct personality”.

13. But in order avail of the exemption it is apparent that a substantial employment of new capital is imperative. Section 80J of the Act is intended to encourage, inter alia, the setting up of new industrial undertakings. This is obviously with a view to expand industry, employment opportunities and production of goods. The section provides of a deduction from the profits and gains derived from the new industrial undertaking to the extent it does not exceed “six per cent per annum on the capital employed” in the industrial undertaking calculated in the prescribed manner. It is, therefore, clear that the employment of capital is a condition precedent to attract the exemption under Section 80J of the Act. However, the question posed is, must fresh capital be issued or raised by the assessee-company for the new unit or can it employ the surplus reserves which are available with it?

14. It would appear to us that it is not necessary for the employment of the capital to be formal in the sense of actually raising the capital and putting it into the new industrial undertaking. Employment of capital in a new industrial undertaking is different from the capital belonging to the assessee-company. If surplus/reserve capital is available with the assessee-company it can utilize a specific amount of this capital for the purchase of the plant and machinery, buildings and other assets of the new undertaking. As soon as the capital is so utilized for acquiring assets for the new undertaking, it will be an employment of capital. The actual amount of capital so utilized/employed in the new undertaking would then qualify for the purpose of calculating the deduction. The utilization of a definite amount of capital appears to be contemplated in order to attract the provisions of the section. Further, as the reserves of the assessee-company are distinct from the assets employed in the old unit it would not be a case of transfer of assets of the old unit or business to the new undertaking.

15. Our view appears to be in consonance with the above mentioned decision of the Supreme Court in Textile Machinery Corporation Ltd. (supra) which speaks of investing substantial funds in the new unit without transfer of assets of old business. In fact, in that case raw materials were supplied to the new jute mill division by the old boiler division which were later on returned to the boiler division after forging and mechanising, and yet it was not held to be a transfer of assets of old business.

16. As above noticed, the purpose of the section is apparently to provide tax incentives, to stimulate industry and the manufacture of articles, resulting in more employment and economic gain for the country. In order to see that this end is achieved it is necessary to guard against an assessee availing of the benefit of the exemption by the device of camouflaging or converting and old undertaking into a new one. Since the assessee before us is not guilty of this and the new undertaking fulfilled the required conditions, the assessee was entitled to claim the relief under Section 80J of the Act by reference to the capital employed in the new industrial undertaking at Faridabad.

17. In the result the question is answered in the affirmative and in favour of the assessee and against the revenue. The assessee will be entitled to costs Counsel's fee Rs 250/-.

S.N.CReference answered accordingly

The Commissioner Of ... v. M/S. Gedore Tools (I...