1965 (3) TMI 25 - SC - Income Tax

Whether in determining the smallness of profits made by the applicant for the purpose of section 23A the Tribunal correctly included the commission of Rs. 41, 842 and Rs. 1, 16, 690 in the applicant s profits of the accounting periods ended 31st March 1952 and 31st March 1953 respectively ? and Whether on the facts and in the circumstances of the case the Tribunal was justified in upholding the orders under section 23A ? Held that - It follows that the Income-tax Officer in proceedings under section 23A must determine commercial profits. In proceedings under section 23 he is not concerned with this. There he is concerned with assessable income or profits. Therefore it is difficult to appreciate why a finding in the assessment order that a particular income is assessable income or profits necessarily means that that assessable income must form part of the accounting profits. It seems to us that the Appellate Assistant Commissioner was right in going into the question and holding that under the managing agency agreement the assessee-company did not have any right to receive the commission till the general meeting of the managed company was held and therefore it could not form part of its accounting profits. We accordingly accept the appeals set aside the order of the High Court and remand the cases back to the High Court to dispose of the reference in accordance with law and in the light of this judgment.

Summary

Issues:
1. Interpretation of 'smallness of profits' under section 23A for income-tax assessment.
2. Treatment of managing agency commission in accounting profits.
3. Discrepancy in crediting managing agency commission in the books of the assessee-company and the managed company.
4. Application of commercial principles in determining accounting profits for tax purposes.

Analysis:
The judgment involved two appeals arising from a reference made by the Income-tax Appellate Tribunal regarding the treatment of managing agency commission in the income of the assessee-company for the accounting periods ending March 31, 1952, and March 31, 1953. The main issue revolved around the interpretation of 'smallness of profits' under section 23A for income-tax assessment. The managing agency commission was credited in the books of the assessee-company in different financial years than the accounting periods, leading to discrepancies in the assessment of profits. The Income-tax Officer applied section 23A, deeming certain profits as dividends among shareholders. The Appellate Assistant Commissioner and the Appellate Tribunal had differing views on the treatment of the commission in accounting profits.

The High Court affirmed that the time of accrual and payment of managing agency commission did not impact whether the income represented real profits. It held that the Income-tax Officer could not disregard the assessment order completely but must determine commercial profits in section 23A proceedings. The court emphasized the distinction between accounting profits and assessable profits, stating that the former should be calculated based on commercial principles. The court also addressed the argument that the managing agency commission, not due in the accounting period, should not be considered accounting profits merely due to an error in the assessment order.

Regarding the treatment of managing agency commission in accounting profits, the court considered the terms of the managing agency agreement, which specified that the commission became due only after the passing of audited accounts by the shareholders at a general meeting. The court agreed with the Appellate Assistant Commissioner that the commission could not form part of accounting profits until this condition was met. It rejected the notion that the assessment order conclusively determined what constituted accounting profits, emphasizing the need to consider commercial principles in such determinations.

The judgment highlighted the importance of applying commercial principles in determining accounting profits for tax purposes. It emphasized that managing agency commission not due in the accounting period should not automatically be considered accounting profits, especially if the terms of the agreement specified otherwise. The court remanded the cases back to the High Court for further consideration in light of the judgment, without delving into the second question referred.