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Case Number

Original Petition No. 92 of 1934.

Attorney(S)

Mr. M. Patanjali Sastri
The Advocate-General and Mr. P. Panini Rao

Judges

Sir Owen Beasley
Kt., C.J
Sir Vepa Ramesam Kt.
King, JJ.

Acts

Section 66(2) of the Indian Income-tax Act.

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Smart Summary

Structured Summary of the Opinion

Factual and Procedural Background

This matter was referred by the Commissioner of Income-tax under Section 66(2) of the Indian Income-tax Act. The assessee, Janab Hajee Mohammad Sadak Khoyee Sahib, carries on a money-lending business in Viziana-garam within the jurisdiction of the Income-tax Officer, Vizagapatam circle. The assessee advanced Rs. 1,50,000 to the Zamindar of Salur (Vizagapatam District) and obtained a mortgage-deed (Ex. A) dated 8 November 1928.

Key features of the mortgage-deed (as stated in the opinion): the document directs payment of the consideration to various creditors of the mortgagor; it provides for interest at 1% per mensem payable at the end of the year; overdue interest not fully discharged at year-end is added to principal and carries compound interest; the principal was to be paid within ten years with a power to sue for sale thereafter. Possession of 10 out of 21 "jeroyati" villages in Schedule A was delivered to the mortgagee; eleven villages were then in the possession of the Maharajah of Vizianagaram (a creditor), whom the mortgagee was to pay off and take possession from. Certain other villages and inam lands were mortgaged without delivery of possession. Thus the instrument had characteristics of both a usufructuary mortgage and a simple mortgage.

Additional contractual terms included a provision that the mortgagee may retain five per cent of gross receipts for establishment charges; after meeting expenses, repairs and payment of peishkush to Government the balance was to be credited to interest on the bond with any surplus credited to principal. The mortgagor reserved limited rights (leasing waste lands, resumption of subsequent inams) but the mortgagee would benefit from additional income. Mining royalties were to go to the mortgagee; both parties could scrutinise mining accounts. The mortgagor had a right to inspect certain records once a year and copies were to be provided on request. The mortgagee entered into possession and was recognised as limited proprietor under the Limited Proprietor's Act, IV of 1911. In the year of account the assessee received Rs. 17,393, slightly less than one year's interest.

Procedurally, the Commissioner sought to assess the receipts on the ground that they were not agricultural income. The assessee claimed exemption under Section 4(3)(viii) of the Act. The matter was considered in light of prior authority, notably a Full Bench decision in Ibrahimsa Rowther v. Commissioner of Income-tax, Madras (1928).

Legal Issues Presented

Whether the amounts received by the mortgagee under the mortgage-deed — specifically the sums collected from tenants and other receipts of the mortgaged land — constitute "agricultural income" exempt from income-tax under Section 4(3)(viii) of the Act, or whether they are taxable as income from money-lending (i.e., interest).
Whether the present mortgage-deed can be distinguished from prior decisions (notably Ibrahimsa Rowther and related authorities) on grounds such as the contractual deduction of five per cent for establishment charges or the mortgagor's right to inspect records, so as to render those decisions inapplicable.

Arguments of the Parties

The opinion does not contain a detailed account of the parties' legal arguments.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
Ibrahimsa Rowther v. Commissioner of Income-tax, Madras (1928) 3 I.T.C. 33 : I.L.R. 51 Mad. 455 : 54 M.L.J. 524 (Full Bench, S.B.)	Held that profit derived from land under a usufructuary mortgage, enjoyed by the mortgagee in lieu of interest, constitutes agricultural income exempt from income-tax.	The court regarded this decision as the controlling precedent and held that its ratio decidendi — looking to who directly receives the rent (the mortgagee) — applies to the present case. The court followed this authority and refused to distinguish the present deed on the grounds advanced.
In the matter of Makund Sarup (1927) I.L.R. 50 All. 495 (Full Bench)	Supports the view that where the mortgagee collects profits of the land (including cases involving lease-back arrangements) those receipts may be treated as agricultural income.	The opinion relied on this case as corroborative authority; it noted a particular point in Makund Sarup (a lease-back to the mortgagor) did not arise here, but that Makund Sarup's general rule supports treating such receipts as agricultural income.
Commissioner of Income-tax, B. & O. v. Kameshwar Singh (1933) I.T.C. 13 Pat. 336 (S.B.)	Affirms that income received by the mortgagee from tenants under a usufructuary mortgage is agricultural income exempt from tax.	The court treated this decision as one of the trilogy of authorities supporting the rule that direct collection by the mortgagee yields agricultural income, and applied that principle to the facts before it.
Commissioner of Income-tax, Madras v. Subrahmanya (2 I.T.C. 152)	Previously accepted the Crown's argument that where the owner received agricultural income and then paid it to the mortgagee, the payment was interest (not agricultural income in the mortgagee's hands).	The opinion notes that this decision was overruled or not accepted in Ibrahimsa Rowther. The court accordingly did not follow Subrahmanya and treated Ibrahimsa Rowther as the correct precedent.

Court's Reasoning and Analysis

The court set out the issue from first principles and examined the nature of receipts under different legal relationships between landowner, tenant and mortgagee.

The court analysed the simplest landlord-tennant situations: when a landlord enjoys produce through tenants and receives rent (in cash or kind), that rent is agricultural income even if the landlord does not personally cultivate.
Distinction between simple and usufructuary mortgages:
- In a simple mortgage the mortgagor typically collects income and, if he pays it to the mortgagee, such payments in the mortgagee's hands are not agricultural income but rather interest.
- In a usufructuary mortgage, possession is transferred to the mortgagee who collects rents directly from tenants; in that case the established line of authority (Ibrahimsa Rowther, Makund Sarup, Kameshwar Singh) treats such receipts in the mortgagee's hands as agricultural income.
The court emphasised the controlling factor in the cited authorities: the identity of the recipient of the rents (i.e., who directly receives the rent from tenants) rather than the subjective characterisation of the receipt as "interest" or the ultimate use to which the mortgagee puts the rents.
The court considered and rejected attempts to distinguish the present mortgage on the following grounds:
- The contractual deduction of five per cent of gross receipts for establishment charges was characterised as ordinary collection expense and not a material distinguishing feature; fixing an agreed percentage did not alter the essential nature of the receipts.
- The mortgagor's right to inspect documents once a year was not sufficient to make the collections effectively under the mortgagor's supervision; nothing in the clause required a mortgagor's representative to be present at collections to prevent collusion.
- The absence of a specified rate of interest (unlike Ibrahimsa Rowther) was held immaterial; the court observed that an effective rate could be worked out arithmetically from average profits if desired.
The court further noted the practical position of the mortgagee: for all practical purposes the mortgagee acted as the landholder — he was recognised as limited proprietor, paid peishkush to Government, undertook the burden of collecting rents and pursuing legal remedies against tenants. That factual situation reinforced the conclusion that the receipts were agricultural in character.
Because the present case fell squarely within the ratio of the earlier Full Bench and other decisions, the court concluded it should follow those precedents rather than depart from them. The court explicitly left to the Commissioner the option to appeal to the Privy Council if he wished to challenge the precedents.

Holding and Implications

Holding: The court held that the income received by the mortgagee under the mortgage-deed is agricultural income and is not assessable as taxable income in the hands of the mortgagee.

The direct consequences for the parties were:

The court ordered costs to the assessee of Rs. 250.
The court ordered a refund of the assessee's deposit of Rs. 100.

Broader implications and precedent: the court followed the existing Full Bench authority in Ibrahimsa Rowther (and related decisions Makund Sarup and Kameshwar Singh). The opinion therefore applied established precedent rather than creating a new principle; the Commissioner was explicitly left free to appeal to the Privy Council if he chose to challenge those authorities.

End of summarized opinion. The summary above is solely based on the content of the provided opinion and does not add or infer facts beyond that text.

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The Commissioner Of Income-Tax, Madras Petitioner v. Janab Hajee Muhammad Sadak Khoyee Sahib (Assessee)

1. This matter comes on before us on a reference by the Commissioner of Income-tax under Section 66(2) of the Indian Income-tax Act. The facts of the case are these. The assessee Janab Hajee Mohammad Sadak Khoyee Sahib, carries on money-lending business in Viziana-garam within the jurisdiction of the Income-tax Officer, Vizagapatam circle. In the course of his money-lending business he advanced a sum of Rs. 1,50,000 to the Zamindar of Salur in the Vizagapatam District and obtained a mortgage-deed which is Ex. A dated the 8th November, 1928. The document directs the amount of consideration to be paid to various creditors of the mortgagor. It provides for payment of interest at one per cent, per mensem at the end of the year. If the interest is not fully discharged at the end of the year, overdue interest will be added to the principal and will carry compound interest. The principal amount was to be paid within ten years. At the end of ten years if the amount is not paid the mortgagee may file a suit for sale. Possession of 10 out of 21 jeroyati villages in Schedule A attached to the document was delivered to the mortgagee. The other eleven villages were then in the possession of the Maharajah of Vizianagaram who was one of the creditors intended to be paid off from the consideration of this mortgage. The mortgagee himself is to pay off the debt and to take possession of those eleven villages. Certain other villages and in am lands were also mortgaged but without possession. So that the document is a mixture of a usufructuary mortgage and a simple mortgage. It is also provided that the mortgagee may take five per cent, of the gross receipts for establishment charges. After meeting the expenses necessary repairs and after payment of peishkush due to Government the balance is to be credited towards the interest on the bond. If there is any surplus it should be credited towards the principal. No objection is to be raised to the accounts kept by the mortgagee. The peishkush to be paid by the mortgagee is to be the proportionate peishkush. The mortgagor reserves to himself the right of leasing out waste lands and unauthorised cultivations and also resumption of subsequent inams. But the mortgagee is to have the benefit of the additional income so realised. Mining leases may also be issued by the mortgagor but the royalty should go to the mortgagee, and both should have the right of scrutinising the accounts of the mining leases. The mortgagor is to be allowed once a year inspection of the D.C.B., irrigation, etc. accounts, the muchilikas and other records that may be maintained by the mortgagee and if the mortgagor requires a copy of any of those documents, it should be given. The mortgagor undertakes to deliver all records such as muchilikas, D.C.B., accounts and other records that are with the Maharajah of Vizianagaram. Whenever the debt is paid off the villages are to be put back in the possession of the mortgagor. Under this document the mortgagee has entered into possession. He has also been recognised as the limited proprietor of the estate under the Limited Proprietor's Act, IV of 1911. In the year of account the assessee received Rs. 17,393 slightly less than one year's interest.

2. On these facts the Commissioner of Income-tax wanted to assess the income on the ground that it is not agricultural income. The assessee claimed exemption under Section 4(3)(viii) of the Act. In Ibrahimsa Rowther v. Commissioner of Income-tax, Madras (1928) 3 I.T.C. 33 : I.L.R. 51 Mad. 455 : 54 M.L.J. 524 (S.B.) a Full Bench of five Judges of this Court held that the profit derived from land under the usufructuary mortgage in that case was exempt from income-tax on the ground that it is agricultural income. In that case the profit of the land was to be enjoyed by the mortgagee in lieu of interest, no particular rate of interest being specified. Except this fact there is no other difference between that case and this case. However it is argued before us that that case is distinguishable from this.

3. It will be convenient first to discuss the matter from first principles. Omitting the case where a cultivator is also the owner of the land which he cultivates and therefore enjoys the produce which is an obvious e, the simplest case for consideration is where a perse enjoys the land through his tenants and the tenants pay rent to him either in cash or in kind. In such a case the rent received by the landlord is undoubtedly agricultural income within the meaning pf the Act. Though he himself does not cultivate and may get the rent in money, still it is agricultural produce of his land which he receives in one shape or other. Though the point does not arise, I may add that the existence of an intermediary between the landlord and tenant makes no difference. For instance if a Zamindar gives a farming lease of several of his villages to a farmer of revenue the farmer collects rent from the various tenants and after deducting some percentage for his profits pays the balance to the Zamindar. In such a case not only the receipts by the farmer from the tenants but also the receipts by the landlord from the farmer would be agricultural income. The contrary cannot be suggested. In some of the districts in this Presidency, especially, Ganjam such farming leases usually called Ijara or Mustagari are very common and in some of the Zamindaris that is the only mode according to which a Zamindar enjoys the income of the Zamindari. So far there is no question of mortgage. But now suppose the owner of the land executes a mortgage of his land to a creditor. If the mortgage is simple, the mortgagor himself collects the income from the land and if he then pays it to the mortgagee, even if he pays in kind, in the mortgagee's hands it is not agricultural income but only interest. Having been once received by the owner of the land as agricultural income, further payments by him would not be in the character of agricultural income. But suppose in such a case instead of of the mortgage being a simple mortgage it is a usufructuary mortgage i.e. possession of the land is transferred to the mortgagee. Thereafter the mortgagee collects the rent from the tenants. In such a case it is held in Ibrahimsa Rowther v. Commissioner of Income-tax, Madras (1928) I.L.R. 51 Mad. 455 : 54 M.L.J. 524 : 3 I.T.C. 33 (S.B.) and also in In the matter of, Makund Sarup (1927) I.L.R. 50 All. 495 at 498 (F.B.) (first part of the judgment pp. 497 and 498) and in Commissioner of Income-tax, B. & O. v. Kameshwar Singh (1933) I.T.C. 13 Pat. 336 (S.B.) that the income received by the mortgagee from the tenants is agricultural income and is exempt from tax, the reason for this being apparently that the mortgagee directly collects it from the tenants just as in the case of a simple mortgage the mortgagor collects it from the tenants. In such a case it might be reasonably argued for the Crown that though the mortgagee collects the rent from the tenants directly, the reason for it is that it is strictly the mortgagor's money but the mortgagor authorises him to collect and take it towards his interest and therefore though it may be agricultural income of the mortgagor when the mortgagee takes it in payment of his own interest it is not agricultural income but merely income from money lending. Though this argument was accepted in the decision reported in Commissioner of Income-tax, Madras v. Subrahmanya 2 I.T.C. 152 which was overed in Ibrahimsa Rowther v. Commissioner of Income-tax, Madras (1928) I.L.R. 51 Mad. 455 : 54 M.L.J. 524 : 3 I.T.C. 33 (S.B.) it was not accepted in the latter case as well as in In the matter of, Makund Sarup (1927) I.L.R. 50 All. 495 at 498 (F.B.) and in Commissioner of Income Tax B. & O. v. Kameshwar Singh (1933) I.L.R. 13 Pat. 336 (S.B.) The only reason for this can be that what one has to look to is who receives the rent from the tenants. If the mortgagor receives it from the tenants it is agricultural income in his hands and when it passes from his hands it is not. Similarly if the mortgagee collects it from the tenants it is agricultural income in his hands. What use he puts it to is immaterial. I am not now discussing the question whether this is sound or not. Obviously this is the ratio decidendi of the three cases mentioned. If so such ratio decidendi applies to all cases of usufructuary mortgage.

4. I am unable to distinguish the case before us from those cases on the ground that in this case there is the provision for a deduction of five per cent from the gross profits, or that the mortgagor may ask for inspection of the documents once a year So far as the deduction of five per cent from the gross income is concerned that is the usual expenditure which all landlords have got to incur in collecting the rent, and the mortgagee also, has necessarily to incur such expenditure. But instead of deducting the amount of the actual expenditure the parties fixed it at a certain figure namely, five per cent of the gross collections. I do not see how this can make a difference for the purpose of argument. In both cases it is either really the money of the mortgagor taken by the mortgagee towards his interest and therefore liable to assessment or income directly collected from the tenants by the mortgagee and hence agricultural income not liable to be assessed. The truth is that it has both these characteristics. But the question is which of these we have to look to. According to the three cases mentioned we have to look more to the fact that the collection is made directly by the mortgagee from the tenants and not to the fact that he afterwards credits it for his interest. Similarly the clause relating to inspection can have no bearing on the matter. I can understand that if there is a clause that at the time of the collection a representative of the mortgagor must always follow the officer of the mortgagee keeping an eye on the collections and preventing any possibility of collusion such a clause makes a good deal of difference. For in such a case the collection is all made under the mortgagor's supervision though he is not allowed to take it and only the mortgagee takes it. But in this case it is not even that. It seems to me that the fact that in Ibrahimsa Rowther v. Commissioner of Income Tax (1928) I.L.R. 51 Mad. 455 : 54 M.L.J. 524 : 3 I.T.C. 33 (S.B.) no particular rate of interest is mentioned is also immaterial. Undoubtedly the profits are taken towards interest. If one is curious enough to know at what rate it works one can easily take the average income and make the arithmetic as to how much it comes to as interest. It is possible that the profits may be slightly varying; the interest too may be slightly varying but on the average there is no difficulty in describing that the interest works at such and such a rate, and the profits are obviously taken by the mortgagee towards his interest though without mentioning the rate at which it works. I do not see therefore how such a thing can make any difference. If in this case we are to hold that the income is not agricultural income but has only the character of interest, it seems to me that we will be doing so in the face of the three cases cited above. It is not possible to hold in that way without dissenting from them.

5. At this stage it may perhaps be mentioned that for all practical purposes the mortgagee is the landholder. He is recognised as proprietor. He pays the peishkush to Government. He undergoes all the trouble of going to the tenants and collecting the rents. It is he who has to exchange muchilikas and Pattas under the Estates Land Act. If a ryot refuses to exchange muchilika or to pay rent it is the landholder that has to undertake legal proceedings for those purposes, and not the mortgagor. It will certainly be anomalous to say that he is not a landholder and the income he collects is not agricultural income though on the other hand it is also true that he is doing all this because interest is due to him on a debt.

6. In my opinion we ought to follow the decision in Ibrahimsa Rowther v. Commissioner of Income Tax, Madras (1928) I.L.R. 51 Mad. 455 : 54 M.L.J. 524 : 3 I.T.C. 33 (S.B.) and leave the Commissioner of income-tax to appeal to the Privy Council if he chooses.

7. There is one point in In the matter of, Makund Sarup (1927) I.L.R. 50 All. 495 at 498 (F.B.) which does not arise in the present case. There is a lease back to the mortgagor and the mortgagee takes from the mortgagor ostensibly as rent but really the interest due to him. Sometimes the two may be different. The rent may be much higher than the interest due but the mortgagee takes only the interest due to him. Still it was held in that case that it is agricultural income. (Vide pp. 498 onwards). Here again the only reason for this can be that the mortgagor pays as lessee to the mortgagee. There is a double relationship of landlord and tenant first between the mortgagor and his tenants and secondly between the mortgagee and the mortgagor. As was pointed out in the earlier part of the judgment that ought not to make a difference. But where under the guise of a lease what is taken is really interest which is different from the rent on the land, one may argue that in such a case the lease is merely a mask and the mortgagee merely gets interest. But this argument did not recommend itself to the learned Judges who decided In the matter of Makund Sarup (1927) I.L.R. 50 All. 495 at 498 (F.B.) This point does not arise in the present case but I only point out that even in a case beyond the facts of this case it was held that it was agricultural income. In the present case there is no such difficulty. It is not the mortgagor that collects but it is the mortgagee himself that directly collects it from the tenants, and there is no lease back to the mortgagor. So this is an a fortiori case looked at from the point of view of In the matter of, Makund Sarup.2 My answer is that the income is not assessable. Costs to the assessee Rs. 250. Refund ordered of his deposit of Rs. 100.

The Chief Justice:

8. I agree.

King, J.

9. I agree.

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