LIABILITY ON UNCLAIMED DEBENTURES WRITTEN BACK- HELD INCOME - the decision of Bombay high Court need reconsideration. BY DEV KUMAR KOTHARI

[C.A. DEV KUMAR KOTHARI]

Links and references:

Hindustan Foods Ltd. Versus The Deputy Commissioner of Income-tax [2009 -TMI - 32743- BOMBAY HIGH COURT]

Commissioner of Income-Tax vs. T.V. Sundaram Iyengar and Sons Ltd., reported in [2008 -TMI - 5532 - SUPREME Court]

SECTION 28 and 41 of Income Tax Act, 1961.

Section 205C of the Companies Act, 1956.

Debenture is an instrument to borrow capital:

Debentures are instruments to obtain loan capital. The debenture certificate is a certificate issued to acknowledge loan obtained and various commitments made to the debenture holders as to rate, periodicity and manner of payment of interest, redemption of debentures etc. The debenture may be transferable or non transferable according to the terms of issue. In case of issue of debentures by a public company to the public usually debentures are freely transferable. In case of loss or destruction of debenture certificate, the debenture holder can obtain duplicate certificate after complying with relevant procedures. 

Other instruments for borrowing capital:

Bonds, deposit certificates, bill of exchange, promissory notes, commercial papers, post dated cheques etc. are also different type of instruments to borrow capital.   

Borrowed capital is not a trading receipt but a capital receipt:

It is well known in commercial world, accounting theories, and general common law and also common sense that borrowed capital like simple loans or loan through different borrowing instruments, as discussed earlier, is not a trading receipt but is a capital receipt. When a sum is borrowed as capital, there is commitment to repay the same. The loan may be interest bearing or interest free, yet it remains loan which is repayable.

Loans vis a vis advances from customers:

 Advance from customers is obtained with a promise to supply goods or to  render services, whereas in case of loan there is promise to repay the same. An advance of money from customers can, in one sense be regarded as trading receipt and if the assessee follows cash basis of accounting, then it may be taxable as income in the year of receipt. However, a loan  cannot be regarded as a trading receipt and it cannot be considered as income, in the year of receipt even if the assessee follows cash basis of accounting.  

Therefore, it is clear that loan is not a trading receipt when received, therefore, repayment of loan is also a capital payment and not payment of revenue nature. Accordingly if a loan is waived by money lender/ debenture holder or it is not claimed by the money lender or debenture holder, it will not assume character of trading receipt.

Recent judgment of Bombay High Court:

In Hindustan Foods Ltd. Versus The Deputy Commissioner of Income-tax [2009 -TMI - 32743Bombay High Court] has held that amount on  unclaimed debentures which were not transferred to investors protection fund u/s 205C of the Companies Act and credited to general reserves by the assessee company are taxable as income of the assessee company. The court applied decision of the Supreme Court in the case of Commissioner of Income-Tax vs. T.V. Sundaram Iyengar and Sons Ltd., reported in [2008 -TMI - 5532 - SUPREME Court]

CIT  vs. T.V. Sundaram Iyengar and Sons Ltd., reported in [2008 -TMI - 5532 - SUPREME Court]

In this case matter for consideration was section 28(i) of the Income-tax Act, 1961 for computation of  business income for assessment years 1982-83 and 1983-84. The assessee had  received certain deposits from customers in course of its business which were originally treated as capital receipt (that means sums received were credited to personal accounts of customers, implying that the assessee was maintain mercantile basis of accounting)- Unclaimed credit balances which were time barred were written back by assessee to its profit and loss account. During assessment the A.O. treated such amount as its trading receipt and made addition. In the ultimate stage of litigation the question before the Supreme Court was "whether if an amount is received in course of trading transaction, even though it is not taxable in year of receipt as being of capital character, amount changes its character when amount becomes assessee's own money because of limitation or by any other statutory or contractual right and such amount should be treated as income of assessee? The Supreme Court answered yes. And held that the amount representing unclaimed credit balances written back to profit and loss account by assessee during assessment year under consideration could be treated as assessee's income and is liable to be taxed as income in the year of write back that is when the assessee himself recognize the said sum as income in its profit and loss account.

The case before Bombay High Court is different:

Assessee borrowed money from the public by way of secured loan through the instruments 14% redeemable debentures and as per the terms of the issue, the redemption was due in the year 1995. The relevant assessment year in the present proceedings is 1999-2000.

 On due date, the appellant-Company redeemed the debentures for which it received (should be issued) the redemption notice from (should be to ) the public. However, certain repayments were not claimed by the public by way of redemption and an amount of Rs.49.06 lakhs remained to be paid and was lying with the Assessee as unclaimed debentures. The Assessee-Company, as per Board Resolution, transferred unilaterally this amount to the General Reserve Account and utilized the amount for the purpose of its business. The Assessing Officer (AO) found that this money became the assessee's own money. The Bombay High Court has confirmed the said view. Now let us examine whether the Bombay High Court has rightly applied ruling of the Supreme Court. The distinctive features are as follows:

a.      In the case before Supreme Court in case of T.V. Sundaram Iyengar and Sons Ltd., [2008 -TMI - 5532 - SUPREME Court] was a case of advances received from customers in course of business, if the assessee had supplied goods then the sums will be treated as income. Whereas in case before Bombay High Court the money was borrowed capital by issue of debenture.

b.      In case befoe the SC the assessee had credited the sum to the profit and loss account, whereas in case before the Bombay high Court is was credited to general reserves. (it would have been better option to credit the same as reserves for unclaimed debentures with a board resolution to repay the same as and when demanded by debenture holders -per author).

c.       In case before the SC the assessee had no obligation to deposit unclaimed customers advance to any specific funds, whereas in case before the Bombay high Court the assessee was under obligation to deposit unclaimed debenture amount to investors protection fund, for which the liability continued and it was not exempted.

d.      Incase before SC section 28 was applied as the sums were received as advance from customers in course of business and not in course of raising capital. Therefore, the SC considered it as business receipt when the liability ceased.

Therefore, it appears the honorable Bombay high Court has not properly considered the judgment in the case of TVSIS and it has been wrongly applied. It is not clear why the learned counsels of assessee argued the matter taking advantage of judgments on S. 41 in the case of  Commissioner of Income-Tax vs. Sugauli Sugar Works (P.) Ltd., reported [2008 -TMI - 5715 - SUPREME Court], which pertained to unilateral write back of trading liability (which was allowed in earlier years) and it was held that a unilateral liability does not mean that the liability ahs ceased or that the assessee has obtained any benefit or advantage. It may be noted that subsequently S. 41 has also been amended and now even unilateral write back of trading liability is treated as income.

 In the case of debentures, which was before the Bombay High Court, section 28 as well as section 41 have no application at all. Therefore, with respect the author feels that the decision of Bombay high Court deserves to be reconsidered / appealed against.

Acceptance or approval of Bombay High Court may lead to chaos in financial field:

In the case of corporate restructuring there are reduction of liabilities in several ways. There may be reduction of share capital, the money lenders may waive a part of loans, debenture holders may accept conversion of debentures in equity at a reduced amount, preference shareholders may accept equity shares of a lower amount, money lenders may also accept a part payment of loan, partly issue of shares etc. In all such cases there is reduction of liability in books of account because the capital providers make sacrifice to revive companies and to make a ground for capital appreciation in future, in expectation that the past loss may be recovered by appreciation in future. In many cases, the creditors have gained also because after capital restructuring, the company turnaround and earned profits, could pay dividend and share price appreciated. This in many cases might have given many times better returns after restructuring. In all such cases there is waiver of loans with a view to strengthen capital base. This is an exercise in capital field and not in revenue field. The sacrifice made is of capital and not trading advances. Therefore, reduction of liability on capital account in any manner like unclaimed liability, waiver by money lenders, reduction of face value of shares  or face value of debentures etc, should not be treated as income.