TMI Blog1978 (1) TMI 1X X X X Extracts X X X X X X X X Extracts X X X X ..... and 1966-67. Question No. 5 has arisen out of the proceedings of assessment for the years 1965-66, 1966-67 and 1967-68. We will, therefore, deal with these three aspects of the case in the order in which they are referred to above. The facts in brief are that the assessee is a public limited company engaged in the business of manufacturing varieties of paper. Its head office is at Hyderabad. The mill, however, is at Sirpur which came to be known as Khagaznagar. During the year ending on June 30, 1961, relevant to the assessment year 1962-63, there were two fire accidents in the assessee's factory one on December 6, 1960, which affected the paper machine shop No. III; the other was on March 21, 1961, in the boiler house. The machinery and the plant were covered by fire insurance. The company in all received a sum of Rs. 13,12,772 as compensation for the loss occurred on the occasion of both the fire accidents. Out of the said amount Rs. 11,92,146 related to paper machine shop No. III. Out of this amount Rs. 9,41,070 related to the buildings, plant and machinery. The assessee spent a sum of Rs. 1,57,713 in repairing the damages to the above assets and put all of them i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed or destroyed and the moneys payable in respect of such building, machinery, plant or furniture, as the case may be, together with the amount of scrap value, if any, exceed the written down value, so much of the excess as does not exceed the difference between the actual cost and the written down value shall be chargeable to income-tax as income of the business or profession of the previous year in which the moneys payable for the building, machinery, plant or furniture became due : Provided that where the building sold, discarded, demolished or destroyed is a building to which Explanation 5 to section 43 applies, and the moneys payable in respect of such building, together with the amount of scrap value, if any, exceed the actual cost as determined under that Explanation, so much of the excess as does not exceed the difference between the actual cost so determined and the written down value shall be chargeable to income-tax as income of the business or profession of such previous year. Explanation.-- Where the moneys payable in respect of the building machinery, plant or furniture referred to in this sub-section become due in a previous year in which the business or profe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and has been used is the machinery as a whole and not a part of it. In the context of the business the part has no separate existence or utility. Unless such a part works in conjunction and in harmony with all the other parts of the machinery, it would not be possible to say that the part damaged alone was being used for business purposes. It is true that when the whole machinery is used, the part along with it can be said to have been used but it was used only along with the other parts and not independent of them. Second : Now, the word " sold " used in this provision can relate only to the whole machinery and not to any part of it, however important it may be. It may be that separate parts of such machinery can be sold, but then we do not say that the machinery is sold. What we say is that a part of the machinery is sold and not the machinery. Similarly, if a part is damaged or found unworkable we replace it. We may have discarded that part but it is substituted by another part. Therefore, in such cases we do not say machinery is discarded. We only say that a part of the machinery having been found damaged is replaced. The same reasoning perhaps would apply to the words ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... us means the cost, the whole cost, and nothing but the cost. It necessarily removes from its meaning any notional cost. It also does not permit division of cost part-wise in case of a machinery. Thus, " actual cost " represents the real and true cost of the machinery as a whole and not the cost of several parts of the machinery nor any notional cost of separate parts of the machinery. There is no provision under which actual cost of a part can be determined; the provision is to determine the actual cost of the machinery as a whole. It is thus impossible to take a notional actual cost of the destroyed or damaged part of machinery and then work out its depreciation which could have been allowed in order to find out whether there is any excess amount left which can be charged to income-tax under this section. Neither this section nor any other postulates such a procedure. Likewise the term " written down value " is also defined in section 43(6). According to this provision it means " in the case of assets acquired before the previous year, the actual cost to the assessee less all depreciation actually allowed to him under this Act ........" How is it possible to determine firstly t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s made so far as the grant of allowance is concerned between building, machinery or plant and whether it is sold, discarded, demolished or destroyed, their Lordships said : " It is plain that machinery or plant in use in a business is never wholly discarded but, in almost every case, is discarded piecemeal. Indeed the very purpose of this allowance is to compensate the assessee when machinery becomes old and has to be discarded and it is clear that all machinery cannot become obsolete or unusable and be discarded at one and the same time ...... In the context of machinery or plant to be discarded, obviously, the clause can have no meaning if it is confined to the whole of the machinery or plant." It is upon this analogy that the High Court came to the conclusion that the word ' building ' is used in the same context. We, therefore, think that necessarily in the context in which the word ' building ' is used it must also include part of the building ". The second ground in support of that conclusion assigned was "obviously, where a case is contemplated of destruction of a building, machinery or plant, the provision would make no sense if we were to confine its operation to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Appellate Assistant Commissioner and the Tribunal. Apart from the fact that such an approach is not justified under any provision of the Act, the view that the compensation reduce the cost of the machinery itself is of doubtful validity. The damaged machinery and the compensation together represented the total asset. The question of reduction in written down value cannot, therefore, arise. The contention then was that the amount of Rs. 7,83,207 represents really the business profit. We do not find any force in this contention also. To attract section 14 read with the relevant provision the income must arise from profits and gains of business. Surely, it cannot be argued and in fairness we must say that it was not argued that to set fire to the assets and get compensation from the insurance company can be said to be part of the business of the assessee. The Tribunal, in our view, rightly rejected such an approach. Section 56 also cannot be said to be attracted obviously because it is not an income from any other source. The hard fact is that a part of the asset was damaged by the fire for which compensation was received. The compensation, therefore, replaces the asset and is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... The insurance admittedly did not cover any such loss. The compensation was paid for the loss to the capital assets. In Green v. J. Gliksten Son Ltd. : Commissioners of Inland Revenue v. J. Gliksten Son Ltd. [1929] 14 TC 364 (HL), the facts were these : A fire occurred on the premises which destroyed timber, the written down value of which was a certain sum. The timber had been insured. In due course the company received a certain sum from the insurance company representing the replacement value of the destroyed timber but only a small part of the timber in fact was replaced. The balance did not appear in the profit and loss account, but appeared as reserve in the balance-sheet. It was held that the whole sum received was a trading receipt to be taken into account in computing the profits assessable to income-tax. It will be immediately evident that the injury was to the trade and not to the capital. Similar is the case with Ensign Shipping Co. Ltd. v. Commissioners of Inland Revenue [1928] 12 TC 1169 (CA). In the circumstances of that case it was rightly held to be a trading receipt. We do not think A. W. Walker and Co. v. Commissioners of Inland Revenue [1920] 12 T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f its products, expand its volume of production, improve the efficiency of its manufacturing process, develop a wider market for its products and maintain a modem, efficient and expanding operation. The assessee agreed to avail of the scientific knowledge of Kimberly on terms mentioned in the agreement. The parties, therefore, entered into a formal agreement as stated above. The agreement consists in all of nine articles. We are not concerned with most of these articles. It is sufficient to mention that article I relates to the first phase of technical assistance ; article II concerns itself with the second phase of technical assistance. The finding of all the tax authorities is that the agreement was determined immediately after the conclusion of the first phase. This finding was not challenged on any ground before us. The first phase incorporated in article I read as under : Section 1 " Kimberly shall conduct in the United States such technical, engineering, research, designing and development services as in its judgment are required to enable the existing mill of Sirpur to manufacture in an efficient and economical manner quality papers and increase its production. " ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... al know-how. The expenditure was not incurred with a view to bring into existence an asset of an enduring nature. The Tribunal, therefore, allowed the payment as revenue expenditure in terms of section 37(1) of the Act. No argument was advanced before us in regard to the alternative plea under section 35 of the Act. The question, therefore, for our consideration is whether the said payment made to Kimberly under the first phase of article I of the agreement can be said to have been a deductible revenue expenditure. Now, under section 37(1) of the Act any expenditure laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head " Profits and gains of business or profession ". Whether a particular outlay by a businessman can be set against income or must be regarded as capital outlay has proved to be always a difficult question. It has led to a long string of cases in India as well as in England. Although decisions in this respect appear to take conflicting views, they can perhaps be reconciled but it seems more difficult to reconcile all the reasonings they give. In these circ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hat its production may be increased. The second section provides that Kimberly shall supply qualified technicians who shall put into practice the results of the research carried on by Kimberly under section 1. Such technical personnel shall be supplied either on temporary or on permanent basis and in such number as is considered necessary by Kimberly to effectively implement the results of the research. It will thus be seen that in effect Kimberly agreed to carry on research for a certain definite purpose and effectively apply the fruits of the research to the existing mills to increase efficiency and production by effecting economy in the production. That was the limited purpose of phase 1. When once it is found that the payments so far made to Kimberly were meant only for the above purpose under the first phase then there is no difficulty in reaching the conclusion that the amount has not been spent once and for all achieving the purpose for all time to come. Increasing efficiency and production is a thing which is a continuous process like effecting economy. Various devices can even afterwards be employed to achieve further efficiency, enlarge further the production and ef ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... enue expenditure. Commissioner of Income-tax v. Malayalam Plantations Ltd. [1964] 53 ITR 140, 150 (SC) takes the view that the expression " for the purpose of the business " takes in not only the day to day running of business but also the rationalisation of its administration and modernisation of its machinery and may comprehend many other acts incidental to the carrying on of a business. For the reasons we have attempted to give we answer the third question in favour of the assessee and against the department. We then proceed to consider the fourth question. It relates to the accounting year 1964-65. The assessee claimed deduction of Rs. 4,413 as expenditure incurred on the foreign tour of G. P. Birla who is the chairman of the board of directors of the company. It was urged before the Income-tax Officer that he had gone to USA to discuss and finalise with Kimberly the question relating to the modernisation of the assessee-company and its expansion programme. The Income-tax Officer concluded that the foreign tour expenditure brought benefit of a very enduring nature. He, therefore, disallowed the claim. The Appellate Assistant Commissioner for the same reason disallow ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the Commissioner of Income-tax. There were five questions referred to the High Court for its opinion, but out of them only three survive for consideration in these appeals and hence we will state only so much of the facts as bear on these questions. The first two questions relate to the assessment year 1962-63, for which the relevant account year is the year ending 30th June, 1961. During this accounting year there were two accidental fires in the factory of the assessee, one on 6th December, 1960, and the other on 21st March, 1961. The assessee carried on the business of manufacturing different varieties of paper in the factory and as a result of these two fires considerable damage was caused in the factory of the assessee. The first fire caused damage to the building, plant and machinery in paper machine shop No. III and the second fire in the boiler house. The building, plant and machinery were all covered by fire insurance and in respect of the loss caused, the assessee received an aggregate sum of Rs. 13,12,772 by way of compensation. This amount of Rs. 13,12,772 included a sum of Rs. 9,41,070 in respect of damage caused to the building, plant and machinery of paper mac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the entire sum of Rs. 7,83,207 represented receipt of capital nature and in the absence of any specific provision of the Act it was not possible to say " how the surplus amount in this case, namely, Rs. 7,83,207, representing the difference between compensation money received from the insurance companies for the damage caused to its capital assets and the actual expenses incurred for restoring them for use would amount to revenue profits or business profits ". The Tribunal accordingly held that the sum of Rs. 7,83,207, being capital receipt, was not assessable to tax. This led to an application by the revenue for a reference and on the application, the following two questions were referred by the Tribunal for the opinion of the High Court : " 1. Whether, on the facts and in the circumstances of the case, the receipt of Rs. 7,83,207 being part of the amounts received from the insurance companies by the assessee was a capital receipt or revenue receipt ? 2. If it is held to be capital receipt, whether on the facts and in the circumstances of the case the said sum of Rs. 7,83,207 is deductible from the written down value of the plant and machinery as at the commencement of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... old, discarded, demolished or destroyed, and urged that though in the present case only a part of the plant and machinery was damaged, section 41, sub-section (2), was attracted and the entire sum of Rs. 7,83,207 was exigible to tax. Now, it is difficult to see how this argument can at all be sustained on the facts found by the Tribunal. Section 41, sub-section (2), postulates for its applicability that the plant or machinery, whether whole or part, is sold, discarded, demolished or destroyed. It can have no application where the plant or machinery is merely damaged and by repairing the damage it is restored to working condition. Here, it was clearly found by the Tribunal, and that was in fact common ground between the parties, that the plant and machinery was partly damaged by fire and after repairing this damage, the plant and machinery was recommissioned for the factory. It was not the case of the revenue, nor was it so found by the Tribunal, that leaving aside the whole of the plant and machinery, even a part of it was sold, discarded, demolished or destroyed. There was, therefore, no scope for the applicability of section 41, sub-section (2), and in fact this provision was not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n maintenace of the guest house was made in the assessment year 1961-62, and it was allowed by the Tribunal in Income-tax Appeal No. 9252 of 1967-68, and on a reference made at the instance of the revenue, the High Court, in Reference Case No. 93 of 1970, had taken the view that this amount was not in the nature of entertainment expenditure so as to fall within the ambit of the proviso to section 10(2)(xv) of the Indian Income-tax Act, 1922, and was, therefore, allowable as a permissible deduction. The appeals before the Tribunal in respect of the assessment years 1965-66,1966-67 and 1967-68, came to be heard after the decision given by it in the appeal in respect of the assessment year 1961-62, but before Reference Case No. 93 of 1970 came to be decided by the High Court. The Tribunal, following its earlier decision in the appeal in respect of the assessment year 1961-62, held in each of the appeals before it that the expenditure incurred by the assessee on the maintenance of the guest house was not in the nature of entertainment-expenditure and was hence allowable as admissible expenditure. The revenue, being aggrieved by the order of the Tribunal, applied for a reference in each ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... given under the Indian Income-tax Act, 1922, whereas the question in the present case arose under the Income-tax Act, 1961, where the relevant provision was entirely different. We are constrained to observe that this was nothing but gross negligence on the part of the learned advocate who represented the revenue before the Tribunal and the High Court. When the only contention raised by the revenue before the Tribunal was whether the expenditure incurred by the assessee on the maintenance of the guest house was or was not entertainment expenditure and the revenue conceded before the High Court that the determination of the question before it was concluded by the decision given in Reference Case No. 93 of 1970, it is difficult to see how the revenue can now be permitted to argue that this expenditure was not allowable as a permissible deduction under section 37, sub-section (3), of the Income-tax Act, 1961. It is not an aspect of the question which can be decided as a pure point of law because section 37, sub-section (3), provides that the expenditure incurred on the maintenance of the guest house shall be allowed "only to the extent and subject to such conditions, if any, as may be ..... X X X X Extracts X X X X X X X X Extracts X X X X
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