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Daulatram Rawatmull v. Commissioner Of Income Tax Central
Structured Summary of the Opinion
Factual and Procedural Background
This reference arises under Section 66(1) of the Indian Income-tax Act, 1922 from assessment proceedings for the assessment year 1956-57 (relevant previous year: Deshera year 7 Oct 1954 to 25 Oct 1955). The assessee is a registered firm with head office in Calcutta and a Bombay branch engaged in exporting groundnut oil. The assessee had repeated dealings with Messrs. N. Schrok, N. V. Rotterdam.
On 4 November 1953 the assessee contracted to deliver 200 tons of Indian crude groundnut oil for shipment in January and/or February 1954 at a contract price of 125 per ton. The assessee was unable to secure the export licence required to ship the goods. An arbitrator was appointed pursuant to the contract and on 30 December 1954 gave an award, which was challenged on appeal but ultimately confirmed. The arbitrator directed the assessee to pay the difference between the market rate (141 per ton less 1%) and the contract rate; in Indian currency that difference amounted to Rs. 44,226, which the assessee remitted to the Rotterdam party with Reserve Bank of India sanction.
The assessee claimed deduction of Rs. 44,226 in the assessment for the relevant year. The Income-tax Officer disallowed the deduction treating the payment as a loss in speculation under Explanation 2 to Section 24(1). The Appellate Assistant Commissioner confirmed that view. The Tribunal also held the sum to be a loss in speculation. The following question was referred to the court:
"Whether, on the facts and in the circumstances of the case, the sum of Rs. 44,226 was a loss in speculation within the meaning of Explanation 2 to Section 24(1) or an allowable expenditure under Section 10(1) or Section 10(2)(xv) of the Indian Income-tax Act, 1922?"
Legal Issues Presented
- Whether the sum of Rs. 44,226 paid pursuant to an arbitration award for non-fulfilment of a contract was a "loss in speculation" within the meaning of Explanation 2 to Section 24(1) of the Indian Income-tax Act, 1922, or alternatively an allowable expenditure under Section 10(1) or Section 10(2)(xv).
Arguments of the Parties
Assessee's Arguments
- The payment of Rs. 44,226 was made by way of liquidated damages for breach/non-fulfilment of the contract and therefore could not be treated as a loss in speculation.
- Accordingly, the payment was an allowable expenditure under Section 10(1) or Section 10(2)(xv) of the Act of 1922.
Revenue's Arguments (as advanced by Mr. B.L. Pal)
- The contract is in a standard form prescribed by a London trade association which distinguishes between "default" (Clause 10) and other grounds such as force majeure (Clause 15).
- The present case should be brought within Clause 15(b) (force majeure / prohibition of export or executive/legislative act by government) rather than Clause 10, and hence treated as a settlement of the contract rather than a payment of damages for breach.
- On that basis, the arbitrator's award should be treated as an award in fulfilment or settlement of the contract and the transaction would fall within Explanation 2 to Section 24(1) as a speculative transaction.
Positions of Lower Authorities
- The Income-tax Officer held the payment was a loss in speculation under Explanation 2 to Section 24(1).
- The Appellate Assistant Commissioner confirmed the Income-tax Officer's view.
- The Tribunal upheld that conclusion and treated the sum as a speculative loss.
Table of Precedents Cited
| Precedent | Rule or Principle Cited For | Application by the Court |
|---|---|---|
| Commissioner of Income-tax v. Pioneer Trading Company Private Ltd., [1968] 70 I.T.R. 347 (Cal.) | The principle that a claim based on breach of contract is not the same as a contract being "settled" (periodically or ultimately) within Explanation 2 to Section 24(1); money received or paid in settlement of damages for breach is not a receipt arising from a speculative transaction as defined by Explanation 2. | The court relied on this authority to reason that, where the arbitrator was appointed under a "default" clause and an award for damages was made and confirmed, the payment constitutes damages for breach rather than a settlement of the contract; therefore the transaction does not fall within the Explanation 2 definition of a speculative transaction. |
Court's Reasoning and Analysis
The court began by reproducing Section 24 including the proviso and Explanation 2, which defines a speculative transaction as one in which a contract for purchase and sale of any commodity is periodically or ultimately settled otherwise than by actual delivery.
The court then examined the terms of the contract between the parties, focusing on Clause 10 (a clause dealing with "default", providing for appointment of a price-fixing committee or arbitration, sale/purchase against a defaulter and limitation of damages to the difference between contract price and market price) and Clause 15 (a force majeure clause providing for cancellation or extension where war, prohibition of export or other governmental acts prevent shipment).
The revenue relied on Clause 15(b) to characterise the situation as non-default and hence as a contract settlement falling within Explanation 2. The court declined to entertain that contention on the facts before it because the admitted facts established that an arbitrator had been appointed and an award made in terms of Clause 10 (the "default" clause), and that award had been confirmed on appeal.
Given those uncontested factual findings (arbitration under the default clause, award, confirmation on appeal and payment of damages), the court held it must assume the case involved default within Clause 10 and not the application of Clause 15. The court therefore applied the principle from Commissioner of Income-tax v. Pioneer Trading Company (quoted in the opinion): where the money paid or received is by way of damages for breach of contract, the cause of action is for breach and not the contract itself, and such payment does not constitute a speculative transaction under Explanation 2.
On this basis the court concluded that the payment of Rs. 44,226 was a payment of damages for breach/non-fulfilment of contract and not a settlement of the contract periodically or ultimately, and therefore fell outside Explanation 2's definition of a speculative transaction.
Holding and Implications
Holding: The court's answer to the referred question was that the sum of Rs. 44,226 was not a loss in speculation within the scope of Explanation 2 to Section 24(1) of the Indian Income-tax Act, 1922.
Implications:
- The payment is to be regarded as damages for breach or non-fulfilment of the contract (an award under the contract's default/arbitration clause), not as a speculative loss under Explanation 2.
- The court noted that no argument was advanced before it on whether the payment was allowable specifically under Section 10(1) or Section 10(2)(xv); the court therefore merely stated that the sum is an allowable expenditure under Section 10 of the Act of 1922 without deciding which exact sub‑clause applies.
- The decision resolves the assessment issue in favour of the assessee on the narrow point that the payment is not a speculative loss; there is no broader redefinition of the law beyond applying the established principle from the cited precedent to the admitted facts of default, arbitration and confirmed award.
- Costs: Each party was directed to bear and pay its own costs.
1. This reference under Section 66(1) of the Indian Income-tax Act, 1922, arises out of the assessment proceedings for the assessment year 1956-57. The relevant previous year is the Deshera year commencing on October 7, 1954, and ending on October 25, 1955. The assessee is a registered firm. Its head office is in Calcutta. It has branch in Bombay which was carrying on the business of exporting groundnut oil. The assessee had regular transactions with Messrs. N. Schrok, N. V. Rotterdam. During the relevant year the assessee fulfilled severa contracts with the Rotterdam party by making deliveries of the goods contracted for. On November 4, 1953, the assessee entered into a contract with the party at Rotterdam for delivery of 200 tons (of 2,240 lbs. each) of Indian crude groundnut oil for January and/or February, 1954, shipment at 125 per ton. But the assessee could not secure the export licence for shipping the goods. On the date of the contract the Government of India had not announced its export policy but during the first half of the year exports were normally permitted. The Tribunal observed that the assessee must have thought that by January-February, 1954, the export permit would be available and it would be able to make the supplies of the contracted goods. But the assessee's expectations were belied and it failed to supply the goods contracted for. In pursuance of the contract an arbitrator was appointed. The arbitrator gave an award on December 30, 1954, There was an appeal against this award but the award was confirmed. In the award the assessee was directed to pay the difference between the market rate of 141 per ton (less 1%) and the contract rate of 125 per ton. In Indian money the difference came to Rs. 44,226. The assessee remitted this sum of Rs. 44,226 to the foreign party with the sanction of the Reserve Bank of India.
2. The assessee claimed deduction of the said sum of Rs. 44,226 in the assessment for the relevant year. The Income-tax Officer did not accept the claim. He held that since the contract had been settled by payment of differences, the loss was a loss in speculation falling within the scope of Explanation 2 of Section 24(1) of the Act of 1922.
3. The Appellate Assistant Commissioner confirmed the order of the Income-tax Officer. The assessee's contention before the Tribunal was that the aforesaid sum was paid by way of liquidated damages and could not be treated as a loss in speculation. The assessee submitted that it was, therefore, an expenditure allowable under Section 10(1) or Section 10(2)(xv) of the Act. The Tribunal has held that the said sum of Rs. 44,226 was rightly treated as a loss in speculation.
4. The following question has, in the circumstances, been referred to this court :
"Whether, on the facts and in the circumstances of the case, the sum of Rs. 44,226 was a loss in speculation within the meaning of Explanation 2 to Section 24(1) or an allowable expenditure under Section 10(1) or Section 10(2)(xv) of the Indian Income-tax Act, 1922?"
5. Let us, at the outset, set out the relevant provisions of section 24, They are as follows:
"24. Set-off of loss in computing aggregate income.--(1) Where any assessee sustains a loss of profits or gains in any year under any of the heads mentioned in Section 6, he shall be entitled to have the amount of the loss set off against his income, profits or gains under any other head in that year:
Provided that in computing the profits and gains chargeable under the head 'profits and gains of business, profession or vocation', any loss sustained in speculative transactions which are in the nature of a business shall not be taken into account except to the extent of the amount of profits and gains, if any, in any other business consisting of speculative transactions . . .
Explanation 2.--A speculative transaction means a transaction in which a contract for purchase and sale of any commodity including stocks and shares is periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity or scrips."
6. It would be necessary, to appreciate the contention of the department's counsel, to set out some of the clauses of the contract in the instant case. Clause 10 of the contract runs thus :
"Sellers shall provide the appropriate certificate of origin if required.
If before the fulfilment of this contract, either party, whether an individual, firm or company, shall give notice to any of his creditors that he has suspended, or that he is about to suspend payment of his debts, or shall commit an act of bankruptcy, or being a company shall be unable to pay its debts within the meaning of... of Companies Act, 1948, or have an order made, or pass resolution for . . .winding up (other than for purposes of reconstruction or amalgamation) or have a receiver appointed, the contract shall forthwith be closed at a price to be fixed by the price fixing committee appointed by the London Oil and Tallow Traders' Association. The difference between the contract price and the price so fixed shall be the amount payable or receivable under this contract. The parties shall be bound to furnish to the price committee such information and produce to the committee such books, papers and documents as are incidental to the default.
In default of fulfilment of contract by either party the other party at his discretion shall after giving notice in writing have the right to sell or purchase as the case may be against the defaulter who shall make good the loss if any on such sale or purchase on demand. If the party liable to pay shall be dissatisfied with the price of such sales or purchase or if the above rights is not exercised the damage, if any, payable by the party in default shall be settled by arbitration and such damages shall be limited to the difference between contract price and market price unless the default is caused by a wilful failure of a seller to tender documents after an appropriation has been made in which case in assessing damages arbitrators may in their absolute discretion have regard to .any loss of profit or any liability incurred by buyers under any sub-contract he may have entered into."
7. Reliance has also been placed on Clause 15 of this contract which apparently has not been correctly printed in the paper book at pages 11 and 12 thereto. The relevant portions of this clause (with the corrections) are set out below :
"Force Majeure 15. (a) In the event of war, hostilities or blockade preventing (the shipment) during the contract period, this contract or any unfulfilled part thereof shall be cancelled, (b) Should (the shipment) be delayed by fire, strikes, lock-outs, riots or revolution, prohibition of export or any executive or legislative act done by or on behalf of the Government of the territory where the port and/or ports of shipment named herein is situate or of any cause comprehended in the term "force majeure" other than the reasons given in Clause (a) the time of shipment shall be extended by two months. Should shipment not be possible within these two months the contract (is) to be void ..."
8. Mr. B.L. Pal, learned counsel for the revenue, has urged before us that each reported case on the subject deals with the construction of the relevant contract. The contract in the present case, according to Mr. Pal, was in the standard form prescribed by a well-known trade association in London. In that form, for the convenience of the contracting parties, the association made ample provision for what was to happen in the case of difficulties arising in the performance of the contract. That is why, says Mr. Pal, the association made a distinction between "default" and breach of contract. Clause 10 is the "default" clause; but the present case can be squarely brought within clause 15 (b) which does not involve any "default" at all. In these premises, contends Mr. Pal, the arbitrator's award, in the instant reference, should be treated as an award in fulfilment of the contract itself and the transaction would come within the purview of Explanation 2 to Section 24 (1) of the Indian Income-tax Act, 1922.
9. In our view this contention of counsel for the Commissioner cannot be examined in this reference at all. The admitted facts are that in terms of the contract between the parties there has been an award and that award has also been upheld on appeal. The appointment of the arbitrator and the award of the arbitrator have been provided for in Clause 10 of this contract which is a clause dealing exclusively with "default". On these facts, this court must assume that it is a case of "default" within the meaning of Clause 10 and there is no scope for invoking any of the provisions of Clause 15. In these circumstances, the judgment of this court in Commissioner of Income-tax v. Pioneer Trading Company Private Ltd., [1968] 70 I.T.R. 347 (Cal.).
appears to be relevant. It has been held that a claim based on breach of contract does not come within the meaning of "contract settled", as used in Explanation 2 to Section 24 (1) of the Indian Income-tax Act, 1922; after the breach of contract, the cause of action is no longer based on the contract itself but on its breach; where the money which the assessee received was in settlement of the amount of damages which the assessee had suffered by reason of breach of the contract to deliver, the receipt was not a receipt from a speculative transaction as defined in Explanation 2: and the money so received was not liable to be set of! against speculation loss of earlier years.
10. In the light of the principles decided in this case we find in the present reference that the arbitrators were appointed in terms of the contract between the parties on the basis that the assessee committed default in fulfilment or performance of the contract; the arbitrators made an award; 'there was an appeal against the award: but the award was confirmed and the assessee had to pay the damages which the arbitrators had determined. It also appears that there was no challenge to these facts before the fact finding authorities below. This is, therefore, a case not of settlement of the contract itself either periodically or ultimately, but of payment of damages for breach or non-fulfilment or non-performance of the contract. That being the case, we are of opinion, that this is not a "speculative transaction" within the meaning of Explanation 2 to Section 24 (1) of the Indian Income-tax Act, 1922,
11. Our answer to the question therefore is that the sum of Rs. 44,226 was not a loss in speculation within the scope of Explanation 2 to Section 24 (1)of the Indian Income-tax Act, 1922. No argument has been advanced before us as to whether it is allowable as an expenditure under Section 10 (1) or Section 10 (2) (xv). We, therefore, merely state that this is an allowable expenditure under Section 10 of the Act of 1922. Each party will bear and pay its own costs.
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