Ramanujam, J.:— The ITO excluded a sum of Rs. 7.22 lakhs representing the amount said to be outstanding to Messrs. Joseph Lucas (Industries) Limited, England, on plant account in the computation of capital for the purpose of relief under s. 80J for the assessment year 1968-69.
2. For the assessment year 1972-73, the assessee claimed a deduction of Rs. 14,52,466 as representing the gratuity liability. The ITO allowed deduction only to the extent of Rs. 4,65,944 and disallowed the balance of the claim on the ground that the payment of the said sum had not arisen during the assessment year in question.
3. Aggrieved by the decision of the ITO on those two claims, the assessee took the matters in appeal to the AAC, but without success. Thereafter, the assessee took the matter in appeal to the Income-tax Appellate Tribunal. The Tribunal, however, upheld the claim of the assessee in respect of both the matters. Aggrieved by the order of the Tribunal, the Revenue has sought for and obtained a reference of the following questions to this court for its opinion:
Assessment year 1968-69:
(1) Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that the sum of Rs. 7.22 lakhs representing the amount outstanding to M/s. Joseph Lucas (Industries) Limited, England, on plant account should be included in the computation of capital for the purpose of relief under s. 80J for the assessment year 1968-69 ?
Assessment year 1972-73:
(2) Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that the gratuity amount of Rs. 9,87,422 provided in the accounts should be allowed as a deduction?
4. So far as the first question is concerned, it is seen that the assessee purchased plant and machinery from Messrs. Joseph Lucas (Industries) Ltd., England, and towards the said purchase, a sum of Rs. 7.22 lakhs is outstanding. According to the Revenue, the said sum of Rs. 7.22 lakhs represents the balance of sale consideration due to the supplier and, therefore, it should be taken to be a debt due by the company to the supplier and accordingly the said amount should be excluded in the computation of capital for the purpose of relief under s. 80J. The assessee, on the other hand, contends that the agreement between the supplier and the assessee-company was that the cost of plant and machinery purchased by the asses-see-company had to be paid for by allotment of shares in the assessee-com-pany, that the parties did not contemplate cash payment for the plant and machinery purchased, and that, therefore, as per the Specific terms of the bargain between the parties, the assessee-company is under a liability to allot shares and not to pay the said money to the supplier. It is also contended on behalf of the assessee that in those circumstances the assessee cannot be treated as a debtor to the supplier; nor can the said amount be treated as a debt due by the assessee-company; In support of the said submission of the assessee, reliance is placed on sub-clauses (i) and (ii) of of clause 4 of the agreement between the assessee-company and the supplier dated November 27, 1960. Clause 4(i) of the agreement provides that as much as practicable, after the incorporation of the company, the supplier is to supply from sterling and/or other sources to the assessee-company the plant and machinery referred to in sub-clause (ii). Sub-clause (ii) says that the cost price to the supplier of the items of plant and machinery purchased by the assessee-company shall be satisfied by the issue by the company to the supplier of equity shares of the company at par of an equivalent value. Thus, the terms of the bargain between the parties for the supply of plant and machinery specifically provided for allotment of shares for the value of the supplies made by the supplier towards plant and machinery. If really the allotment of shares is not made, the remedy of the supplier is only to specifically enforce the terms of the contract and get the shares allotted and, therefore, the assessee-company cannot be taken to be a debtor to the supplier to the extent of the said sum of Rs. 7.22 lakhs.
5. The learned counsel for the Revenue would, however, contend that till the equity shares are actually allotted to the supplier, there is a liability on the part of the assessee-company to pay for the plant and machinery and that, therefore, the said liability can be taken to be a debt owed by the company to the supplier.
6. We do not see how the assessee-company can be treated to be a debtor even during the period before the allotment of shares. As already stated, the bargain between the assessee-company and the supplier, so far as the supply of plant and machinery is concerned, is that the consideration for the supply should be by way of allotment of shares in the company and, therefore, even if there is delay in the allotment of shares, that will not make the assessee-company a debtor to the supplier.
7. The learned counsel for the Revenue also refers to regulation 18 of the Regulations for Management of a Company Limited by Shares, which provides for payment of interest on advance share money in support of his plea that the amount payable for the plant and machinery by the company can be taken to be a debt. The said regulation 18 is as follows:
“The Board—
(a) may, if it thinks fit, receive from any member willing to advance the same, all or any part of the moneys uncalled and unpaid upon any shares held by him; and
(b) upon all or any of the moneys so advanced, may (until the same would, but for such advance, become presently payable) pay interest at such rate not exceeding, unless the company in general meeting shall otherwise direct, six per cent per annum, as may be agreed upon between the Board and the member paying the sum in advance”
8. It is well established that the “interest” that may be paid as per this article is not in the nature of dividend but only interest paid as such on moneys advanced as per clause (1) and such payment of interest is not illegal even though it is paid out of capital. However, here we find that the parties have not provided for payment of any interest on the sale consideration for the plant and machinery, even if there is a delay in the allotment of shares as contemplated by the parties. No doubt regln. 18(a) enables a company to receive advances from members towards the value of shares even before their allotment and also to pay interest at a rate not exceeding six per cent, per annum. The provision for payment of interest cannot automatically convert the advance received as a debt due by the company. Any payment towards capital under this provision cannot make the company a debtor to the shareholder in respect of such payments received. This is the view taken by the Supreme Court in Bombay Steam Navigation Co. (1953) Private Ltd. v. CIT [1965] 56 ITR 52. In that case, pursuant to a scheme of amalgamation between two shipping companies, a new company was incorporated. The new company took over the assets which were finally valued at Rs. 81,55,000, and it was agreed that the price was to be satisfied partly by allotment of 29,990 fully paid-up shares of Rs. 100 each and the balance was to be treated as a loan and secured by a promissory note and hypothecation of all movable properties of the new company. The new company has also agreed to pay interest at 6% per annum on the balance remaining unpaid from time to time, and it has been paying interest on the balance outstanding. A question arose as to whether the interest paid was allowable as a deduction under s. 10(2)(iii) or s. 10(2)(xv) of the Indian I.T Act, 1922. The Supreme Court, on those facts, held that the balance amount outstanding and payable by the new company cannot be taken to be a loan and, therefore, the claim for deduction of the amount of interest under s. 10(2)(iii) was not admissible. But it, however, held that the interest paid is none the less a business or revenue expenditure which can be claimed as a deduction under s. 10(2)(xv).
9. Thus, even in a case where the parties have bargained for interest on a certain amount, the said amount cannot be a debt merely on the ground that interest is paid.
10. In Addl CIT v. Bangalore Soft Drinks P. Ltd. [1980] 126 ITR 38 (Kar), a question similar to the one arising in this case came up for consideration before the Karnataka High Court. In that case, a sum of Rs. 6,00,000 was received by the company from non-resident shareholders towards allotment of shares and kept under the head “Share capital account” awaiting permission from the Reserve Bank of India for allotment of shares to them. A question arose as to whether during the relevant assessment year, the said sum of Rs. 6,00,000 constituted a liability and, therefore, was a debt and should have been deducted while computing the capital under s. 19A for the purpose of allowing relief utider s. 80J. The court held that the amounts were paid to the company for the specific purpose of allotment of shares and were not paid by way of loan, that the amounts could be returned only if the Reserve Bank of India did not approve of the allotment of shares, that even if there was a delay in the allotment of shares, the sum of Rs. 6,00,000 received in advance for the allotment of shares could not be treated as a debt in existence owed by the assessee-company to any one on the relevant date and that, therefore, the said sum of Rs. 6,00,000 could not be treated as borrowed money or debt due by the assessee-company within the meaning of r. 19A(3) and could not be excluded from the computation of capital for the purpose of relief under s. 80J.
11. The principle laid down in the said decisions applies squarely to the present case where the facts are more or less similar. In that case, the amount was received from non-resident shareholders for the purpose of allotment of shares after getting the requisite-permission from the Reserve Bank of India. In the present case, the supplier supplied plant and machinery on condition that the sale consideration of the plant and machinery was to be paid in the shape of shares in the company. At the time of the supply of plant and machinery, it was not contemplated either by the supplier or by the assessee-company that the sale consideration would be treated as a debt or amount borrowed. The liability of the assessee-company is only to allot shares in the company to the supplier to the extent of the sale price of the plant and machinery. In those circumstances, the sale value of the plant and machinery cannot be treated as money borrowed or debt due by the assessee-company to the supplier within the meaning of r. 19A(3). Thus, the view taken by the Tribunal, in this case, cannot be taken exception to.
12. Coming to the second question, it is seen that the assessee-company has made a claim for deduction of Rs. 14,52,466. However, the ITO found that only a sum of Rs. 4,65,944 represented the accrued liability on that account during the year of assessment and allowed deduction only to that extent. The Tribunal has, however, found as a fact that the claim made by the assessee-company in this case for deduction of a sum of Rs. 14,52,466 is based on actuarial calculation of the present discounted value of a future liability towards gratuity and, therefore, though the liability for payment of gratuity to the above extent did not actually arise in the relevant assessment year, the same had to be allowed, as the said amount had been shown in the accounts as accrued liability. It is by now well established that if the liability towards gratuity is based on actuarial basis or other scientific method and the present discounted value of the future liability has been claimed as a deduction, the same has to be allowed.
13. In Metal Box Company Of India Ltd. v. Workmen [1969] 73 ITR 53, the Supreme Court has ruled that, while working out the net profits, a trader can deduct from his gross receipts his liability to pay a certain sum for every additional year of service (which he receives from his employees) if such liability is properly ascertainable and it is possible to arrive at a proper discounted present value, and that even if the liability is a contingent one, it can be taken into account, provided its discounted present value is ascertainable on some scientific basis and that such contingent liability discounted and valued as necessary can be taken into account as trading expenses if they are sufficiently certain to be capable of valuation. The principle laid down in the above has been followed by this court in CIT v. Andhra Prahha P. Ltd. [1980] 123 ITR 760. This court specifically dealt with the provision for payment of gratuity in that case and held that where a provision was made for a future payment on a scientific method of calculation, such a provision was allowable in the computation of the profits and that the very concept of profit would require adjustment being made for the claims of the employees in so far as it is possible to relate it to the current year. The learned judges have referred to, with approval, the following passage of Lord Mac Dermott in Southern Railway of Peru Ltd. v. Owen [1957] 32 ITR 727 (HL) (p. 770 of 123 ITR):
“The question, as I see it, on this branch of the case, was not whether, in a given year, the appellant's liability to pay this employee or that was contingent; it was whether the appellant's liability to make some payment in respect of the lump sums accruing for the benefit of all its employees in that year was in any relevant sense contingent. If that is the right view, I think the Crown's contention on this point must fail. It is clear from the accounts that the appellant's employees during the material years were numerous and the chances of all, or even a substantial proportion of them, acting so as to forfeit their lump sum rights seem to me to be much too distant and improbable to merit significance.”
14. This court has again reiterated the same principle in CIT v. Sri Rani-lakshmi Ginning, Spinning & Weaving Mills (P.) Ltd. [1981] 132 ITR 360.
15. Subsequently, the Supreme Court in Vazir Sultan Tobacco Co. Ltd. v. Commissioner Of Income-Tax, A.P [1981] 132 ITR 559 at P. 574 has categorically ruled as follows:
“Ordinarily an appropriation to gratuity reserve will have to be regarded as a provision made for a contingent liability, for, under a scheme framed by a company, the liability to pay gratuity to its employees on determination of employment arises only when the employment of the employee is determined by death, incapacity, retirement or resignation—an event (cessation of employment) certain to happen in the service career of every employee; moreover, the amount of gratuity payable is usually dependent on the employee's wages at the time of determination of his employment and the number of years of service put in by him and the liability accrues and enhances with the completion of every year of service; but the company can work out on an actuarial valuation its estimated liability (i.e, discounted present value of the liability under the scheme on a scientific basis) and make a provision for such liability not all at once but spread over a number of years. It is clear that if by adopting such scientific method any appropriation is made, such appropriation will constitute a provision representing fairly accurately a known and existing liability for the year in question.”
16. Thus, it is clear that if an assessee by adopting a scientific method makes an appropriation towards a future liability, such appropriation will constitute a provision representing fairly accurately a known and existing liability for the year in question and, therefore, such a provision which represents the discounted present value of a future liability under the terms of a gratuity scheme on a scientific basis has to be allowed as a deduction in the relevant assessment year during which such appropriation has been made.
17. Having regard to the above principle laid down by the Supreme Court, we have to hold that the deduction claimed by the assessee-company on an actuarial basis of the present discounted value of the future liability for gratuity has to be allowed. Therefore, we have to agree with the Tribunal on this aspect of the case also.
18. The result is, we have to answer both the questions in the affirmative and against the Revenue. Accordingly, both the questions are answered in the affirmative and against the Revenue. The Revenue will pay the costs of the assessee. Counsel's fee Rs. 500 (rupees five hundred only). One set.