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Commissioner Of Income Tax Central v. Asiatic Textiles Ltd.
Structured Summary of the Provided Opinion
Factual and Procedural Background
The assessee is a limited company acting as selling agents for a textile mill. For the assessment year 1955–56 the company was assessed to a total income of Rs. 1,61,089, with taxes of Rs. 69,973 and a distributable balance of Rs. 91,116. For 1956–57 the total income assessed was Rs. 1,07,429, with taxes of Rs. 46,668 and a distributable balance of Rs. 60,761. The company did not declare any dividends for either accounting year.
The Income-tax Officer required the company to show cause why the provisions of section 23a should not be applied. The company claimed it had suffered a loss of Rs. 11,88,000 in relation to 12,000 shares of Elphinstone Mills Ltd., and accordingly could not reasonably declare dividends. In the income-tax assessments for the two years the company had claimed that Rs. 11,88,000 as a loss on share dealings; that claim was disallowed by the Income-tax Officer, the Appellate Assistant Commissioner and the Tribunal for assessment purposes because the shares had been bought at inflated prices and the loss was treated as a capital loss and not deductible for those assessments.
In the proceedings under section 23a the Income-tax Officer concluded that the capital loss could not be taken into account in determining the company's commercial profits, and he levied additional super-tax on the undistributed balances for each year. On appeal under Section 23A the Appellate Assistant Commissioner accepted the assessee's position, holding that there was no commercial profit warranting application of section 23a in 1955–56 and, if the loss was carried forward, similarly for 1956–57.
The department appealed to the Tribunal. Before the Tribunal the department contended (inter alia) that the loss was capital in nature and in fact only a notional or paper loss because the shares had not been sold and the revaluation at market price produced the loss; and, more generally, that variations in the value of capital assets were not normally recorded in the books and could not be taken into account in determining commercial profits. The Tribunal rejected the departmental contention that the loss was merely notional, accepted that the company had suffered a capital loss (described variously in the record as Rs. 11,88,000 and Rs. 12,00,000), held that the capital loss could be recorded in the books on a commercial principle, and concluded that it would have been unreasonable for the company to distribute dividends in either year because such distributions would have eaten into capital. The Tribunal upheld the Appellate Assistant Commissioner's orders and dismissed the department's appeal.
The Commissioner (revenue) had the Tribunal refer the following question of law to the court under Section 66(1): whether, on the facts and circumstances of the case, the Tribunal was justified in holding that, in view of the capital loss of Rs. 12,00,000 suffered by the assessee on account of depreciation in the value of the shares of Elphinstone Mills Ltd., payment of any dividend at all during any of the two relevant accounting years would have been unreasonable.
Legal Issues Presented
- Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that, in view of the capital loss of Rs. 12,00,000 (as stated in the reference) suffered by the assessee on account of depreciation in the value of the shares of Elphinstone Mills Ltd., payment of any dividend at all during either of the two relevant accounting years would have been unreasonable?
Arguments of the Parties
Departmental (Revenue) Arguments
- The loss arose in respect of 12,000 shares in Elphinstone Mills Ltd. and was a loss on capital account.
- The loss had not actually arisen in the sense of a realized loss; it was a notional or paper loss because the company had not parted with the shares and the loss was the result of revaluation to ruling market price on the last day of the accounting year.
- Variations in the value of any capital asset are not normally recorded in the books of account and, in any event, such variations could not be taken into account in determining the company's commercial profits for the purpose of applying section 23a.
Assessee / Appellate Assistant Commissioner / Tribunal
- The assessee claimed the loss of Rs. 11,88,000 on the Elphinstone Mills shares and said this loss made it impossible to declare dividends in the two years.
- The Appellate Assistant Commissioner accepted that an actual loss had been incurred, concluded there was absolutely no commercial profit in the year of account, and held that the provisions of section 23a were not applicable to the two years under consideration.
- The Tribunal agreed that capital losses should not be taken into account in determining commercial profits for assessment purposes, but held that capital losses, if established, are relevant when considering the reasonableness of dividend distribution under section 23a. The Tribunal rejected the contention that the loss was merely notional, found that funds had been irretrievably expended (in part as a contribution to help Messrs. Soorajmull Nagarmull acquire the managing agency), and regarded the decline in investment value as a legitimate item to be recorded in the books on commercial principles. Consequently the Tribunal held that dividend distribution would have inroads into capital and would be unreasonable.
Table of Precedents Cited
| Precedent | Rule or Principle Cited For | Application by the Court |
|---|---|---|
| Commissioner of Income-tax v. Williamson Diamonds Ltd., [1958] A.C. 41; [1959] 35 I.T.R. 290 (P.C.) | The Judicial Committee of the Privy Council observed that in considering the reasonableness of distribution of a dividend, not only past losses and smallness of profit in the current year but "all other matters relevant to the question" should be taken into account; capital losses, if established, would be one of those matters. | The court noted and approved the Privy Council's observation (as cited with approval by the Supreme Court in the subsequent case). The principle supported the Tribunal's taking capital loss into account when assessing the reasonableness of dividend distribution. |
| Commissioners of Income-tax v. Gangadhar Banerjee and Co. (Private) Ltd. | The Supreme Court quoted with approval the Privy Council's observations in Williamson Diamonds about considering all matters relevant to dividend reasonableness, including capital losses. | The court relied on the Supreme Court's approval of the Privy Council's approach to conclude that capital losses, if established, could be considered in deciding whether dividend payment would be reasonable; the respondent's counsel conceded that the Tribunal was not in error on this point. |
Court's Reasoning and Analysis
The court analysed two interlinked strands: (1) whether the Tribunal was justified in treating the depreciation in value of the investments as an established capital loss relevant to the reasonableness of dividend distribution; and (2) whether the revenue could raise, before the High Court, the contention that the loss was merely notional when that contention had already been raised and decided against them by the Tribunal and had not been included in the question referred under Section 66(1).
On the substantive point, the court observed that the Tribunal had considered and rejected the departmental representative's contention that the loss was merely notional. The Tribunal found (a) that the shares had been purchased at inflated rates with part of the purchase price effectively given over in aid of Messrs. Soorajmull Nagarmull's acquisition of the managing agency, producing an irretrievable depletion of the company's resources, and (b) alternatively that, even if seen strictly as depreciation in value of an investment, the company was entitled to record such depreciation in its books on commercial principles. On that basis the Tribunal treated the reduction as a capital loss properly to be taken into account when deciding the reasonableness of dividend distribution.
The court further emphasised the relevance of higher authority: the Privy Council (in Williamson) and the Supreme Court (in Gangadhar Banerjee) had recognised that capital losses, if established, are among the "other matters relevant" to whether dividend payment is reasonable. The respondent conceded that, if the loss were a capital loss, the Tribunal's conclusion that dividend payment would be unreasonable was correct.
Procedurally, the court held that the department (and the Commissioner before this court) could not be permitted to advance, for the first time in the High Court, the contention that the loss was merely notional when that contention had been raised and rejected by the Tribunal and was not the subject of the specific question referred under Section 66(1). The court noted that the departmental representative attempted to have that issue included at the statement of the case stage but the Tribunal refused; the Commissioner did not pursue a direction under Section 66(2) to compel the Tribunal to refer such a question. In that situation, established authorities prevent the High Court from entertaining a question of law that was not referred by the Tribunal under Section 66(1).
Because the Tribunal's factual finding that a capital loss had been suffered was not challenged in the reference and because binding precedents permitted capital losses to be considered in assessing dividend reasonableness, the court concluded that the Tribunal was justified in its conclusion that dividend payment in either year would have been unreasonable.
Holding and Implications
Holding: The court answered the referred question in the affirmative and against the revenue. In other words, the Tribunal was justified in holding that, given the capital loss (described in the record at Rs. 11,88,000 or rounded to Rs. 12,00,000), payment of any dividend during either of the two accounting years would have been unreasonable. Answer to the referred question: Yes — in favour of the assessee; against the revenue.
Implications:
- Direct effect on the parties: The Tribunal's decision upholding the Appellate Assistant Commissioner's orders (that the company was not required to distribute dividends under section 23a for the two years in question) is sustained; the department's appeal fails in respect of the referred question.
- Costs: The Commissioner will pay the costs of the reference.
- Broader precedent: The court applied and relied on established authority (the Privy Council's observation in Williamson, as approved by the Supreme Court in Gangadhar Banerjee) that capital losses, if established, are relevant in assessing whether dividend distribution is reasonable. The opinion did not purport to lay down a new legal principle beyond applying those authorities and the settled limitation that a High Court cannot entertain a question not referred by the Tribunal under Section 66(1).
End of summary.
1. The assessee is limited company doing business as selling agents of a textile mill. For the assessment year 1955-56 the assessee was assesssd on a total income of Rs. 1,61,089. The taxes payable thereon were Rs. 69,973, leaving a distributable balance of Rs. 91,116. For the assessment year 1956-57, the total income assessed was Rs. 1,07,429 and the taxes payable thereon were determined at Rs. 46,668 leaving distributable balance of Rs. 60,761. The assessee-company did not declare any dividend either in respect of its accounting year for the assessment year 1955-56 or for the assessment year 1956-57. On being required by the Income-tax Officer to show cause why the provisions of section 23a would not be applied to the assessee-company, the assessee claimed that, as it had suffered a loss of Rs. 11,88,000 in respect of 12,000 shares of Elphinstone Mills Ltd. of Bombay purchased by the assessee, it was not possible for reasonable for it to have declared any dividend in either of the two aforesaid years. In its income-tax assessment for the aforesaid two years, the assessee had claimed a loss of Rs 11,88,000 as loss in share dealings. This claim had been disallowed by the Income-tax Officer, the Appellate Assistant Commissioner and the Tribunal as it was found that the 12,000 shares in Elphinstone Mills Ltd. were purchased by the assessee at a price far in excess of the reigning market price in order to enable Messrs. Soorajmull Nagar mull, who were the managing agents of the assessee-company, to acquire the managing agency of the said Elphinstone Mills. The loss was held to be a capital loss and was disallowed as a deduction in the assessee's assessment to income-tax for the aforesaid two years. In the proceedings under section 23a, the income-tax Officer was of the opinion that the capital loss could not be taken into consideration in determining the assessee's commercial profits for either of these two years and accordingly, he passed orders under the aforesaid section levying additional super-tax on the undistributed balance for each of the two aforesaid years.
2. On appeal against the aforesaid order under Section 23A, the Appellate Assistant Commissioner accepted the assessee's contention with the following observation :
It cannot, however, be denied that there was an actual loss in the transactions, and, therefore, the appellate must be taken to have incurred that loss. In view of the fact that there was absolutely no commercial profit in the year of account which could warrant any application of the provisions of section 23a of the Act, the provisions of the aforesaid section were not applicable in 1955-56 assessment. Similarly, if this loss is carried forward, the position in the assessment for the year 1956-57 would also be the same. In my opinion, therefore, the orders under Section 23A are not warranted by the circumstances in the two prevailing years under consideration."
3. Dissatisfied with the aforesaid decision the department appealed to the Tribunal. Before the Tribunal the department representative contended that the loss arose in respect of 12,000 shares in Elphinstone Mills Ltd., and the loss had been held to be on capital account. He pointed out that the loss itself had not actually arisen but was only a notional loss in the sense that the shares were not parted with by the company and the loss arose only on the revaluation of the shares at the ruling market price on the last day of the corresponding accounting year. It was argued that variations in the value of any capital asset of a company were not normally recorded in the books of account and, at any rate, they could not be taken into account in determining its commercial profits. The Tribunal accepted the proposition that in determining the commercial profits, no account should be taken of a capital loss. It was, however, of the opinion that, in considering the reasonableness of the dividend to be declared under Section 23A, capital losses should also be taken into account. It dealt with the argument of the departmental representative that the loss claimed was only a notional loss and not a real loss in the following words :
" In this context we have to examine the argument of the departmental representative that the capital loss was only a notional loss. The income-tax authorities have taken the view that the shares in the Elphinstone Mills Ltd. were purchased at inflated rates because a part of the purchase price was paid for helping Messrs. Soorajmull Nagarmull to acquire the managing, agency of the mills. On that argument itself, we do not see how the loss can be called notional. On that basis there was no loss on the price paid for the shares because the ruling price at the time of the perchase and on the last day of the accounting year were nearly the same. But then the balance of Rs. 11,88,000 has been given over irretrievably by the company as a part of its contribution to help Messrs. Soorajmull Nagarmull to acquire their managing agency. To that extent, there was a depletion of the company's resources. This view of the matter has, however, not been upheld by the Tribunal and according to the Tribunal the shares were purchased at an inflated rate as investment shares and the correct value of the investment as on the last day of the accounting period involved the company in loss on account of depreciation of its investments. This depreciation in the value of its investments the company was entitled to record in its books of account on any commercial principle. We are, therefore unable to accept the contention of the departmental representative that the capital loss was a notional loss. Having held that the capital loss was not a notional loss it is still necessary to consider whether in spite of the capital loss it would be reasonable for the company to distribute the dividends."
4. Ultimately, the Tribunal held that any distribution of dividends on the part of the company wonld have made inroads into the capital of the company for either of the years and it would be unreasonable to insist on the company declaring any dividend in these years. Accordingly the Tribunal up held the order of the Appellate Assistant Commissioner and dismissed the department's appeal.
5. At the instance of Commissioner the following question of low has been referred to this court by the Tribunal :
" Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that, in view of the capital loss of Rs. 12,00,000 suffered by the assessee on account of depreciation in the value of the shares of Messrs. Elphinstone Mills Ltd. payment of any dividend at all during any of the two relevant accounting years would have been unreasonable ?"
6. The Tribunal has recorded in the statement of the case that the department representative suggested that the question to be referred should bring out specifically the department's contention that the loss suffered by the assessee-company was only a notional loss and not a real loss. The Tribunal rejected the suggestion, as no such question had specifically been asked for by the department in its application under Section 66(1). This aspect of the matter would be relevant in dealing with the contention which Mr. Pal, appearing for the Commissioner, raised before this court.
7. In C ommissioners of Income-tax v. Gangadhar Banerjee and Co. (Private) Ltd., , their Lordship of the Supreme Court quoted with approval the observations of the Judicial Committee of the Privy Council in Commissioner of Income-tax v. Williamson Diamongs Ltd., [1958] A.C. 41, [1959] 35 I.T.R. 290 (P.C.), that in considering the reasonableness of distribution of a dividend not only the past losses and smallness of profit in the current year need be considered but all other matters relevant to the question should also be taken into consideration. Capital losses, if established, would be one of them. In view of the approval of these observations by the Supreme Court, Mr. B. L. Pal fairly conceded that he could not argue that the Tribunal was in error in holding that payment of any dividend during any of the two relevant accounting years would have been unreasonable in view of the capital loss of Rs. 12 lakhs suffered by the assessee. He, however, contended that the question as referred to this court by the Tribunal assumes that the loss that arose to the assessee on account of depreciation in the value of the shares was a capital loss. Mr. Pal submitted that the tribunal was in error in holding that depreciation in the value of investments could lead to a loss until and unless the investments were realised. Until such realisation the loss is only a notional loss, or, as Mr. Pal put it, a paper loss, which could not be taken into consideration in determining the reasonableness of the declaration of dividend under Section 23A. In our opinion, Mr. Pal is not entitled to raise the aforesaid contention. As we have already pointed out, this contention was specifically raised before the Tribunal by the departmental representative at the hearing of the appeal but the Tribunal rejected that contention and held that the balance of Rs. 11,88,000 had been given over irretrievably by the company as a part of its contribution to help Messrs. Soorajmull Nagarmull to acquire the managing agency. To that extent there was depletion of the company's resources. The shares were purchased at an inflated rate as investment shares and the correct value of the investment as on the last day of the accounting period involved the company in loss on account of depreciation of its investment. This depreciation in the value of its investment the company was entitled to record in its books of accounts on any commercial principle. In asking for a reference under Section 66(1) the Commissioner never challenged that finding of the Tribunal. Though at the stage of the finalisation of the statement of the case the departmental representative wanted to raise such a question, the Tribunal rejected the prayer of the departmental representative. The Commissioner did not apply to this court under Section 66(2) for a direction on the Tribunal to refer such a question of law. In this state of affairs, Mr. Pal cannot be allowed to argue that the finding of the Tribunal, that Rs. 12 lakhs was a capital loss suffered by the assessee, was erroneous. It is now well settled by several decisions of the Supreme Court that, unless the Tribunal has referred a question under Section 66(1) or if on being asked the Tribunal refuses to refer a question and no application is made to the High Court to direct the Tribunal to refer such a question under Section 66(2), the High Court would have no jurisdiction to entertain a question not referred to it.
8. Mr. Pal did not dispute that if the loss of Rs. 12 lakhs was a capital loss then the Tribunal's decision that it would be unreasonable for the assessee-company to have declared any dividend in any of the two years under reference was correct. Accordingly, we must answer the question referred to this court in the affirmative and against the revenue.
9. The Commissioner will pay the costs of this reference.
Banerjee, J.
10. I agree.
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