TMI Blog1981 (11) TMI 15X X X X Extracts X X X X X X X X Extracts X X X X ..... from its cost of investments in terms of clause (ii) of rule 2 of the Second Schedule to the Companies (Profits) Surtax Act, 1964 ? " Therefore, the question before us is whether, in the computation of capital, it is proper to deduct the proposed dividend from its cost of investments in terms of cl. (ii) of r. 2 of the Second Schedule to the C. (P.) S.T. Act, 1964. In order to appreciate the controversy it would be necessary to refer to certain facts. The assessee is M/s. Duncan Brothers Co. Ltd, and the accounting year of the assessee ended on 31st December, 1964, corresponding to the assessment year 1965-66. In the proceeding for assessment of surtax, the appropriate tax officer held that for the purpose of computation of capital the proposed dividend could not be treated as reserve or surplus. It would be appropriate to set out the relevant portion of the order of the ITO. In the order he computed the surtax as follows: Surtax assessment is computed as below : Rs. Total income assessed 48,86,730 Rs. Less ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2,54,58,650 Deduct : Unsecured loans 14,15,377 Acceptances 14,16,353 Outstanding amounts to agency companies 21,10,916 Provision for taxation 31,78,850 Proposed dividend 15,90,000 Profit Loss a/c. balance 22,124 97,33,620 1,57,25,030 --------- --------- ----------- Capital employed 1,32,41,970 Statutory deduction at 100% or above 13,24,197 ----------- Thereafter, the ITO observed that the claim for the deduction from the investments in Indian company was disallowed as being neither reserve nor surplus and also the provision for taxation and the proposed dividend were similarly disallowed by the ITO. Being aggrieved by the aforesaid order of the ITO, the assessee went up in appeal before the AAC. The AAC held, inter alia, as follows: " It is pleaded that provision for taxation and proposed dividend should be deducted from the co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... use (viii) of rule I of the First Schedule is required to be excluded from its total income in computing its chargeable profits, the amount of its capital as computed under rule I of this Schedule shall be diminished by the cost to it of the said assets as on the first day of the previous year relevant to the assessment year in so far as such cost exceeds the aggregate of-... (ii) the amount of any fund, any surplus and any such reserve as is not to be taken into account in computing the capital under rule 1........." The question is, whether the proposed dividend would come within the category of any fund, any surplus or any such reserve which is entitled to deduction under cl. (ii) of r. 2 of the Second Schedule. We may incidentally point out that the expression " reserve " in cl. (ii) of r. 2 of Sch. 11 to the said Act uses the expression " such ", indicating such type of reserve which comes under r. 1 of the Second Schedule. The Supreme Court has said that such item would not come into the computation of capital. The Supreme Court in a judgment in the case of Vazir Sultan Tobacco Co. Ltd. v. CIT [1981] 132 ITR 559, had an occasion to consider some of the aspects. The Supre ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be determined with reference to the substance of the matter ' and went on to determine the true nature and character of the disputed sum by relying upon the provisions of the Indian Companies Act, 1913, the form and the contents of the balance-sheet required to be drawn up and regln. 99 in Table A of the 1st Schedule. " Then the Supreme Court referred to the decision of the Supreme Court in the case of Metal Box Co. of India Ltd. v. Their Workmen [1969] 73 ITR 53; 39 Comp Cas 410. The Supreme Court thereafter went on to observe at page 570 as follows: " On a plain reading of cl. 7(1)(a) and (b) and cl. 7(2) above, it will appear clear that though the term 'provision' is defined positively by specifying what it means, the definition of 'reserve' is negative in form and not exhaustive in the sense that it only specifies certain amounts which are not to be included in the term 'reserve'. In other words the effect of reading the two definitions together is that if any retention or appropriation of a sum falls within the definition of ' provision ' it can never be a reserve but it does not follow that if the retention or appropriation is not a provision it is automatically a reserve ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... aration of the dividend. It is, therefore, open to the directors to withdraw or modify their recommendation at any time before the shareholders accept the same and it is equally open to the shareholders not to accept the recommendation at all or to declare a dividend of an amount lesser than that recommended by directors. In Kesoram Industries' case [1966] 59 ITR 767 (SC), this court has clarified the aforesaid legal position by observing at p. 772 of the report thus : 'The directors cannot distribute dividends but they only recommend to the general body of the company the quantum of dividend to be distributed. Under section 217 of the Indian Companies Act, there shall be attached to every balance-sheet laid before a company in general meeting a report by its board of directors with respect to, inter alia, the amount, if any, which it recommends to be paid by way of dividend. Till the company in its general body meeting accepts the recommendation and declares the dividend, the report of the directors in that regard is only a recommendation which may be withdrawn or modified, as the case may be. As on the valuation date (under the Wealth-tax Act), nothing further happened than a m ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng any disbursement like distribution of dividends in a current year, then ordinarily the same will come out of the current income of the company if it is available and only if the same is insufficient then the past savings will be resorted to for the purpose of incurring that expenditure or making that disbursement; such a course would be in accord with the common-sense point of view. We may point out that this aspect of the matter was not considered by the Andhra Pradesh High Court in Super Spinning Mills Ltd.'s case [1979] 120 ITR 512, and the view of the Bombay High Court in the case of Bharat Bijlee Ltd.[1977] 107 ITR 30 and Marrior (India) Ltd. [1977] 107 ITR 35, commends itself to us. Even in regard to the question of valuing the closing stock the learned authors of the treatise, referred to by the counsel for the assessee-company, merely indicate three methods for such valuation and it will be open to a commercial concern to avail of any one method. In our view in the context of the question whether while incurring any expenditure or making any disbursement a commercial concern will resort to current income or past savings, the normal rule, in the absence of express indicat ..... X X X X Extracts X X X X X X X X Extracts X X X X
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