1958 (10) TMI 3 - SC - Income Tax

Whether the commission payable to the managing agents under this agreement is to be ten per cent. of the profits of the assessee without deduction of the excess profits tax payable by it on its profits or after deduction? Held that - nothing turns on the fact that at the date the agreement under consideration was made the Excess Profits Tax Act had not come on the statute book nor perhaps been thought of and therefore could not have been in the contemplation of the parties. If the net profits are the divisible profits everything necessary to be excluded to arrive at the divisible profits has to be deducted whether it was in the contemplation of the parties or not. It is easy to imagine instances. Suppose after the agreement the Government imposed a licence fee on the payment of which alone the business could have been carried on and that licence fee was not in the contemplation of the parties when the agreement had been made. None the less it has clearly to be deducted in finding out the divisible profits. In the result we would answer the question framed in the affirmative. Appeal allowed.

Issues Involved:
1. Construction of the managing agency agreement regarding the calculation of commission.
2. Whether excess profits tax should be deducted from the profits to determine the commission payable to the managing agents.

Detailed Analysis:

1. Construction of the Managing Agency Agreement:

The core issue revolves around the interpretation of the managing agency agreement made in 1936, which stipulates that the managing agents' remuneration comprises a fixed monthly sum and a commission of 10% of the annual net profits. The agreement specifies that net profits should be calculated "after allowing the working expenses, interest on loans, and due depreciation, but without setting aside anything to reserves or other special funds." The primary question is whether the term "net profits" should be construed to include or exclude excess profits tax.

The court emphasized that the agreement did not intend to list all possible deductions explicitly. It acknowledged that various business expenses, such as overhead and litigation expenses, are typically deductible even if not expressly mentioned. The court inferred that the term "net profits" should be understood as "divisible profits" that can be shared between the company (master) and the managing agents (servant). Consequently, the court concluded that excess profits tax must be deducted to ascertain the divisible profits, as it is not available for distribution between the master and the servant.

2. Deduction of Excess Profits Tax:

The court examined whether excess profits tax should be deducted from the profits to determine the commission payable to the managing agents. The Excess Profits Tax Officer and the Appellate Assistant Commissioner initially held that the commission should be calculated on profits after deducting excess profits tax. However, the Appellate Tribunal disagreed, ruling that the commission should be based on profits without such deduction. The High Court subsequently answered the question in the negative, leading to the present appeal by the revenue authorities.

The court reasoned that the agreement was essentially a profit-sharing arrangement, where the managing agents' remuneration would vary with the company's profits. The court held that the term "net profits" referred to the divisible profits, which must be calculated after deducting excess profits tax. This interpretation aligns with the intention of the parties to share the actual profits available for distribution.

The court dismissed the argument that construing the agreement to require the deduction of excess profits tax would add a word ("divisible") to the agreement. It clarified that this interpretation merely explains the parties' intention and does not alter the agreement's wording.

The court also addressed the contention that excess profits tax, like income tax, is part of the profits and should not be deducted. It distinguished between the two, noting that excess profits tax must be deducted to arrive at the divisible profits, which was the parties' primary concern.

Authorities and Precedents:

The court reviewed several authorities and precedents, including English and Indian cases, which generally supported the view that excess profits tax should be deducted in calculating divisible profits. The court noted that each case must be decided based on the specific language of the agreement involved. It found that the present agreement, like others in similar cases, required the deduction of excess profits tax to determine the net profits.

Additional Considerations:

The court addressed an argument based on Section 87C of the Indian Companies Act, 1913, which prohibits the deduction of any tax or duty on income in calculating the net profits for managing agents' remuneration. The court clarified that this section applies only to agreements made after the amending Act came into force, whereas the present agreement was made before that date.

The court also dismissed the notion that the absence of the Excess Profits Tax Act at the time of the agreement's execution affected the interpretation. It stated that any necessary deductions to determine divisible profits must be made, regardless of whether they were contemplated by the parties at the time of the agreement.

Conclusion:

The Supreme Court concluded that the term "net profits" in the managing agency agreement refers to the divisible profits, which must be calculated after deducting excess profits tax. The appeal was allowed, and the question was answered in the affirmative, with costs awarded to the revenue authorities in both the Supreme Court and the High Court.

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