TMI Blog1972 (8) TMI 29X X X X Extracts X X X X X X X X Extracts X X X X ..... ether, on the facts and in the circumstances of the case, the Appellate Tribunal is correct in law in holding that the amount standing to the credit of the 'retirement gratuity reserve' is to be treated as a 'reserve' and has to be taken into account for the purpose of calculating the capital under the provisions of the Second Schedule to the Companies (Profits) Surtax Act, 1964 ? " The assessee is a public limited, company owning certain estates and deriving income from tea, coffee and cardamom. Its issued and subscribed capital during the relevant periods was Rs. 57,94,880. In the balance-sheet of the company as on March 31, 1963, the following sums were shown under the heading " reserves and surplus " : Rs. General reserve 19,00,000 Reserve for retirement gratuity 11,50,000 Development reserve 1,68,711 Profit and loss account balance 58,308 For determining the capital for the purpose of standard deduction under the Companies (Profits) Surtax Act (hereinafter referred to as " the Act " ), for the assessment year 1964-65, the assessee claimed that the sum of Rs. 11,50,000 shown as " reserve for retirement gratuity " must also be taken into account. For the year 1965 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . It is not a specific provision to meet any known liability. We consider that the Explanation to rule 1 in the 2nd Schedule does not affect the character of this reserve. We direct the officer to recompute the capital by taking the reserve for retirement gratuity as part of the assessee's capital. " The reference is at the instance of the revenue and the case of the revenue is that, on the facts and in the circumstances, the retirement gratuity reserve cannot be treated as a reserve and, therefore, cannot be taken to be part of the capital. Before us, it is urged by counsel for the department that the amount in dispute is not a reserve at all and even if it be a reserve in any sense of the term, since it is in the nature of one or other of the items falling under the heading " current liabilities and provisions " in the column relating to liabilities in the form of balance-sheet given in Part I of Schedule VI to the Companies Act, 1956 (hereinafter referred to as " the Companies Act "), it has to be excluded from the computation of capital. We will now refer to the relevant provisions of the Act to which we may have to advert to in due course. Section 4 of the Act is the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... x Act, 1961; (iv) its debentures, if any ; and (v) any moneys borrowed by it from Government or the Industrial Finance Corporation of India or the Industrial Credit and Investment Corporation of India or any other financial institution which the Central Government may notify in this behalf in the Official Gazette or any banking institution (not being a financial institution notified as aforesaid) or any person in a country outside India : Provided that such moneys are borrowed for the creation of a capital asset in India and the agreement under which such moneys are borrowed provides for the repayment thereof during a period of not less than seven years. Explanation.- For the removal of doubts it is hereby declared that any amount standing to the credit of any account in the books of a company as on the 1st day of the previous year relevant to the assessment year which is of the nature of item (5) or item (6) or item (7) under the heading 'Reserves and surplus' or of any item under the heading 'Current liabilities and provisions' in the column relating to 'Liabilities' in the 'Form of balance-sheet' given in Part I of Schedule VI to the Companies Act, 1956, shall not be reg ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as a reserve. Before examining this question further, we will refer to the decisions relied on by counsel for the revenue and also by counsel for the assessee before us to support their respective view-points. There was a provision very much analogous to the provision in section 4 of the Act in the Business Profits Tax Act, 1947. That Act was designed to assess large profits made by the companies. Section 4 of the Business Profits Tax Act permitted the levy of tax on the amount of the taxable profits equal to sixteen and two-thirds per cent. of such taxable profits. " Taxable profits " was defined as the amount by which the profits during a chargeable accounting period exceeded the abatement in respect of that period. " Abatement " was defined in section 2(1) of that Act thus : " 'Abatement' means, in respect of any chargeable accounting period ending on or before the 31st day of March, 1947, a sum which bears to a sum equal to--- (a) in the case of a company, not being a company deemed for the purposes of section 9 to be a firm, six per cent. of the capital of the company on the first day of the said period computed in accordance with Schedule II, or one lakh of rupees, whi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e time or place. 3. To preserve.' . . . Thus the profits lying unutilized and not specially set apart for any purpose on the crucial date did not constitute reserves within the meaning of Schedule II, rule 2(1). " When, in a later case, before the Supreme Court, First National City Bank v. Commissioner of Income-tax a similar question arose, the court referred to what it had said about the scope of reserve in the earlier decision and said thus : " As to what the word 'reserves' as used in the Business Profits Tax Act connotes, was considered by this court in Commissioner of Income-tax v. Century Spinning and Manufacturing Co. Ltd. It was held that the true nature and character of a sum disputed as reserve was to be determined with reference to the substance of the matter. The amount in dispute in that case was the profits after the deduction of depreciation and tax which amount was carried to the balance-sheet and was later recommended by the directors to be appropriated mainly to dividends and balance to be carried forward to the next year's account. Thus, on the crucial date, i.e., April 1, 1946, from which the chargeable accounting period began the sum in dispute had not b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ent of gratuity was a permissible deduction in valuing the assets of the business of the assessee under section 7(2)(a) of the Wealth-tax Act. The High Court did not accept the contention. At the hearing before the Supreme Court, it was contended that no such concession was made and, therefore, the question had to be decided on the merits. That question was examined by the Supreme Court. Referring to the character of gratuity, the court said thus : " The right to obtain gratuity under the awards arises only when there is determination of employment and not before. The liability does not exist in praesenti : it is contingent upon the determination of employment. " Referring to the earlier decision of the court in Kesoram Industries and Cotton Mills Ltd. v. Commissioner of Wealth-tax the Supreme Court said : " ' ..... the following definition is unanimously accepted : " a debt is a sum of money which is now payable or will become payable in future by reason of a present obligation : debitum in praesenti, solvendum in futuro" '. " The Supreme Court further said that : " The said decisions also accept the legal position that a liability depending upon a contingency is not a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ner of Income-tax. The latter case purports to follow the earlier decision. In the case of Greaves Cotton Crompton Parkinson Ltd. v. Commissioner of Income-tax the court was concerned with the application of section 23A of the Indian Income-tax Act, 1922. The provision authorises the Income-tax Officer to assess companies to super-tax on undistributed income in certain cases. Sub-section (2) of that section provides that such order shall not be made by the Income-tax Officer in certain cases. It is in connection with this that the question arose before the Bombay High Court and what had to be decided in the reference was the admissibility of the claim by the assessee that a sum of Rs. 1,00,200 which was a provision for retirement gratuity and another provision for bonus of a sum of Rs. 1,04,000 should be excluded in determining the applicant's actual accounting profits. That was for the purpose of deciding whether, having regard to the smallness of the profits, an order under section 23A ought to be made or not. Therefore, the question that had to be decided was whether these sums could be deducted in arriving at the net profit. The sum of Rs. 1,04,000 was a debt payable in th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... iew of this that the amount was set apart. It was contended for the assessee that the amount was a provision for a liability which had to be provided for. Following the earlier decision of the Bombay High Court, the court took the view that the amount of Rs. 78,500 cannot be regarded as accumulated profits and reserves. Referring to the earlier case, the court said : " This court, however, was not inclined to accept the submission that the provision made for gratuity could be regarded as a reserve. What it pointed out was that a reserve was a fund set apart to meet a future expenditure or a liability which would fall at a future time. Where a liability has actually fallen though the quantum of the liability has not yet been determined, a provision made to meet the present liability is not a provision by way of a reserve. " According to us, the principle has been correctly stated by the Bombay High Court. Possibly, in that case the liability for payment had already arisen by reason of the award. That again is not quite clear from the facts stated. Whatever that be, the principle stated is quite consistent with what we have said in this judgment. We proceed to consider the next ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ation to rule 1 to Schedule II of the Act and the declaration for removal of doubts in the Explanation that such item shall not be reserve would, according to counsel, be sufficient to hold that the reserve for retirement gratuity cannot be treated as " other reserves " within the meaning of rule 1 in Schedule II. In fact, this is the main argument of counsel. We have already dealt with the question of liability for gratuity. In so far as no current liability has arisen in the accounting year it cannot find a place either in the items of expenditure for the year or in provisions for meeting liabilities. There is no current liability. In regard to a liability which has not arisen (in the sense no debt has become due from the assessee by reason of retirement) any amount reserved does not have the character of amount reserved by way of provision to meet a liability. The argument of counsel for revenue is that even such a reserve is in the nature of liability mentioned in the heading " current liabilities and provisions ". It is easy to see that it is neither a current liability nor one in the nature of such liability. If " provision " has to be understood in relation to a balance-s ..... X X X X Extracts X X X X X X X X Extracts X X X X
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