The Judgment of the Court was delivered by

Sen, J.:— This reference under s. 256(1) of the I.T Act, 1961, at the instance of the Commissioner of I.T and S.P.T, West Bengal-Ill, arises out of the assessment of Messrs. Eyre Smelting Private Ltd., Calcutta, the assessee, to super profits tax in the assessment year 1963-64, the relevant accounting period being the calendar year ended on the 31st December, 1962.

2. The facts found and/or admitted are, inter alia, that in the relevant period the assessee made a provision in its accounts for bad and doubtful debts aggregating to Rs. 1,02,239, respectively, under two separate heads, namely, “Debts outstanding for a period exceeding six months and considered doubtful “under which a sum of Rs. 39,416’19 was provided and also “Advances recoverable in cash or in kind or value to be received unsecured and considered doubtful” the amount provided hereunder being Rs. 62,721 as on the 1st January, 1962. In its assessment to super profits tax the assessee claimed that the said sum of Rs. 1,02,239 should be considered as “reserve” and included in the computation of its capital under the Second Schedule to the S.P.T Act, 1963. The ITO did not accept the assessee's contention and did not include the said amount in the computation of capital. On appeal, the AAC applied what he understood to be the principle laid down in a decision of this court in the case of Indian Steel and Wire Products Ltd. v. CIT, [1958] 33 ITR 579 (Cal) and held that a technical meaning should be given to the word “reserve” which in the case before him applied to the fund in question.

3. There was a further appeal by the revenue to the Income-tax Appellate Tribunal where it was contended that this provision was not a reserve but was strictly a provision made for an ascertained and anticipated liability and, therefore, should not be included in the computation of capital of the assessee. It was further contended that this provision was made by way of a deduction and came within the definition of “provisions” in item 7 of Sch. VI of the Companies Act, 1956.

4. The Tribunal considered the decision of the Supreme Court in the case of Metal Box Company Of India Ltd. v. Workmen, [1969] 73 ITR 53 : 39 Comp Cas 410, where the Supreme Court distinguished the concept of a “provision” and “reserve” in accordance with the principles of commercial accountancy. Following the principles laid down by the Supreme Court, the Tribunal held that the provision made for bad and doubtful debts in the instant case was a provision for some future loss that may or may not arise and the liability therefor was neither known nor could be determined with any substantial accuracy on the relevant date. As such, this item came within the category of a “reserve” and not that of a “provision”. From this order of the Tribunal, the following question has been referred:

“Whether, on the facts and in the circumstances of the case, the amount of Rs. 1,02,239 should be treated as a ‘reserve’ for the purpose of computation of capital under the provisions of the Super Profits Tax Act, 1963?”

5. Mr. Ajit Sengupta, learned counsel for the revenue, has contended at the hearing that the Tribunal erred in both appreciating and applying the principles laid down by the Supreme Court in the case of Metal Box Company of India Ltd., [1969] 73 ITR 53 : 39 Comp Cas 410. He submitted that it was categorically laid down in that case that an amount set aside out of profits designed to meet a diminution in the value of assets known to exist at the date of the balance-sheet was a “provision”. In further support of his contentions he cited several authoritative text books on accountancy which are considered hereafter.

(a) Accountancy by William Pickles, 3rd Edn, was cited for the following statement at pp. 184 and 187.

“Ptovisions.— Amounts set aside out of profits and other surpluses provided for……diminution in value of assets, or (b) any known liability of which the amount cannot be determined with substantial accuracy.”

(b) Book Keeping and Accounts by Spicer & Pegler, 17th Edn., was cited for the following passage at p. 39

“A ‘provision’ means an amount written off to provide for diminution in value, of assets the amount of which cannot be ascertained with any substantial accuracy. A ‘reserve’ must not include an amount set aside for any such purpose………

6. Provisions, made for expected losses and contingencies, are charges against profits, since the true profit can only be ascertained after such provisions are made. Reserves are appropriations of profit, the assets by which they are represented being retained to form part of capital employed in the business.”

7. He also cited page 40 of this book to show how a bad or a doubtful debt should be provided for.

(c) Another text book by the same author, that is, Spicer & Pegler, Practical Auditing, 3rd Indian Edn., was cited for similar observations at pages 158-159 and at page 372.

8. Mr. Sengupta also cited the decision of the Supreme Court in the case of Metal Box Company of India, [1969] 73 ITR 53 as also a decision of this court in the case of Duncan Brothers and Co. Ltd. v. CIT, [1978] 111 ITR 885 (Cal), where a Division Bench of this court considered the concepts of “reserves” and “provisions” in the background of both the S.P.T Act, 1963, and the C. (P.) S.T Act, 1964.

9. Mr. Pranab Pal, learned counsel for the assessee, however, submitted that the Supreme Court in the case of Melal Box Company of India, [1969] 73 ITR 53, has made it clear that a provision can be made only for a known liability and not for an unknown liability, the amount of which cannot be ascertained. He drew our attention to the order of the Tribunal in the instant case, where the Tribunal has found that a provision was being made for a contingent future loss and the liability was unknown and unascertainable accurately.

10. Mr. Pal also cited a decision of the Allahabad High Court in the case of Commissioner Of Income-Tax, Kanpur. v. British India Corporation (P.) Ltd., [1973] 92 ITR 38. The facts in that case were that in the computation of capital for the purpose of super profits tax one of the items in dispute had been described as “bad and doubtful debts reserves”. A statement of case was submitted to the Allahabad High Court on a question materially quoted as follows:

“Whether, on the facts and in the circumstances of the case, the Tri bunal was right in holding that……bad and doubtful debts reserves…… were to be included in the computation of capital according to the provisions in the Second Schedule to the Super Profits Tax Act, 1963?”

11. The Allahabad High Court following the decisions of the Supreme Court in the case of CIT v. Century Spinning & Manufacturing Co. Ltd., [1953] 24 ITR 499 and CIT v. Standard Vacuum Oil Co., [1966] 59 ITR 685 and also relying on the commentaries of the living author A. Ramaiya in his text book on Indian Companies Act, 6th Edn., at page 371, and also the definitions of the terms “reserves” and “provisions” in the text book, Advance Accounting, by R. Keith Yorston held that reserves for bad and doubtful debts were to be included in the computation of capital. Apart from the conclusion there is no particular reason indicated in the judgment on which the decision is based.

12. Mr. Pal next cited a decision of the Bombay High Court in the case of CIT v. Jupiter General Insurance Co., [1975] 101 ITR 370 (Bom). The facts in that case were, inter alia, that in calculating the capital for the purpose of super profits tax the ITO had excluded an amount standing as reserve for doubtful debts on the ground that as the amount was earmarked for a specific liability it could not be regarded as a reserve. The AAC on appeal reversed the decision of the ITO. The matter went up to the Tribunal which upheld the order of the AAC. From this order of the Tribunal, a question was sought to be raised in a reference to the Bombay High Court to the effect whether the sum appearing as a reserve for doubtful debts was correctly included in the capital computation under the S.P.T Act, 1963. The decision of the Supreme Court in the case of Metal Box Company of India Ltd., [1969] 73 ITR 53 was cited and considered by the High Court. It was noted that the clear finding of the Tribunal was that the said amount stood in the books of the assessee for the past several years and that it was not meant to be utilised for writing off bad or doubtful debts and that such debts were invariably debited to the profit and loss account and not to this reserve account. On this finding, the High Court held that the principles laid down by the Supreme Court in the case of Metal Box Company of India Ltd., [1969] 73 ITR 53 had been correctly applied by the Tribunal and discharged the rule.

13. We have carefully considered the respective submissions of the parties as also the decisions cited at the Bar and the diverse principles culled out from the text books as noted above. In our opinion, the question appears to be covered by the decision of the Supreme Court in the case of Metal Box Company of India Ltd., [1969] 73 ITR 53. In that case, the Supreme Court laid down the law as follows (pp. 67, 68)

“The distinction between a provision and a reserve is in commercial accountancy fairly well known. Provisions made against ancitipated losses and contingencies are charges against profits and, therefore, to be taken into acccount against gross receipts in the P & L account and the balance sheet. On the other hand, reserves are appropriations of profits, the assets by which they are represented being retained to form part of the capital employed in the business. Provisions are usually shown in the balance-sheet by way of deductions from the assets in respect of which they are made whereas general reserves and reserve funds are shown as part of the proprietor's interest (See Spicer and Pegler's Book-keeping and Accounts, 15th Edition, page 42). An amount set aside out of profits and other surpluses, not designed to meet a liability, contingency, commitment or diminution in value of assets known to exist at the date of the balance-sheet is a reserve but an amount set aside out of profits and other surpluses to provide for any known liability of which the amount cannot be determined with substantial accuracy is a provision; (See William Pickles Accountancy, second edition, p. 102, Part III, Clause 7, Schedule VI of the Companies Act, 1956, which defines provision and reserve).”

14. From the above observation of the Supreme Court, it appears that the relevant characteristics of a provision are as follows:

(a) Provisions are made against anticipated losses and contingencies.

(b) Provisions are charges against profits.

(c) Provisions are taken into account in the profit and loss account against gross receipts.

(d) An amount set aside out of profits designed to meet a liability or contingency or commitment or diminution in the value of assets known to exist at the date of the balance-sheet can be a provision.

(e) An amount set aside to provide for any known liability of which the amount cannot be determined with substantial accuracy is a provision.

15. The above-noted characteristics of a provision have also been elaborated in the text books of accountancy as discussed and noted earlier. It appears to us that the provision in the instant case was made for an anticipated contingency. This item appears in the profit and loss account and is intended to meet the anticipated diminution of the value of the assets of the assessee, resulting from unrealized debts. The contingency was known and anticipated at the date of the balance-sheet and the amount set apart for this item, though not determined with accuracy, was estimated.

16. Characteristics of a reserve which appear from the observation of the Supreme Court in the cases of Metal Box Company of India, [1969] 73 ITR 53 (SC) and CIT v. Century Spinning and Manufacturing Co. Ltd., [1953] 24 ITR 499 which has been considered in detail in the case of Duncan Brothers and Co. Ltd., [1978] 111 ITR 885 (Cal)] are as follows

(a) Reserves are appropriation of profits which are retained to form part of the capital employed in the business.

(b) A reserve is not designed to meet any liability, contingency, commitment or diminution in the value of assets known to exist at the date of the balance sheet.

(c) A reserve is something set apart for future use or enjoyment.

17. The amount set apart in the instant case does not have the above characteristics of a “reserve” as indicated above but, on the other hand, has all the characteristics of a “provision”. This amount appropriated in the P & L account cannot be said to form part of the capital employed in the business. It appears to us that the Tribunal fell into an error by proceeding on the basis that a provision is only made for a known liability. This view is not in consonance with what has been laid down by the Supreme Court in the case of Metal Box Company of India Ltd., [1969] 73 ITR 53, discussed earlier.

18. The decision of the Allahabad High Court in the case of British India Corporation (P) Ltd., [1973] 92 ITR 38 (All) does not appear to us to be good law in view of the decision of the Supreme Court in the case of Metal Box Company of India Ltd., [1969] 73 ITR 53, which the Allahabad High Court did not consider and respectfully we differ from that decision.

19. The decision of the Bombay High Court in the case of fupiter General Insurance Co., [1975] 101 ITR 370 (Bom) does not advance the case of the assessee at all. The facts in that case were entirely different from the facts in the instant case. It was found as a fact in that case that though the item in question was described as “a reserve for doubtful debts”, it was not meant to be utilised for the purpose described and bad debts were in fact written off otherwise by debiting the P & L account.

20. For the reasons indicated above, the contentions on behalf of the revenue prevail over those made on behalf of the assessee and we answer the question in the negative and in favour of the revenue. There will be no order as to costs.

C.K Banerji, J.:— I agree.