TMI Blog1964 (9) TMI 79X X X X Extracts X X X X X X X X Extracts X X X X ..... their products. As a result of confabulations in 1947, with effect from April 1, 1948, these selling agencies were terminated and the assessee was appointed as sole agent in their places. The I.C.I. (Exports) Ltd. agreed to pay compensation to the ex-selling agents at the rate of 2/5ths, 2/5ths and 1 and 2/5ths of the normal rate of commission payable by the principals for the three years from April 1, 1948. In pursuance of this arrangement the compensation was paid to the ex-selling agents through the assessee's accounts. The method by which the compensation payable to the former agents was shown as paid in the books of accounts of the assessee is as follows: The total compensation payable to the ex-selling agents was spread over three years and assuming the turnover was constant over the said three years, the commission payable to the assessee would be 4/15ths of the commission at the normal rates. Under the aforesaid arrangement the ex-agents were entitled to get 2/5ths of the normal rate of commission in the first year, 2/5ths in the second year and 7/5ths in the third year which would amount to payment of 11/5ths of the normal commission in three years. Accordingly, the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sion calculated at the usual rates and the commission payable to the outgoing agents, or, in other words, the income or actual profit or gain of the assessee is only the differential sum and not the entire amount of commission calculated at the usual rates. He has, therefore, stated that the said sums of ₹ 2,03,503, ₹ 5,41,526, ₹ 5,29,284 and ₹ 4,00,052 paid to the ex-agents as compensation cannot be included in the computation of the total income of the assessee. Secondly, Mr. Meyer has urged that, in any event; having regard to the agreement between the assessee and I.C.I. (Exports) Ltd., the amount payable as compensation to the ex-agents has been diverted from the assessee's income by an overriding title, i.e., the agreement between the assessee and the I.C.I. (Exports) Ltd. to the effect that the amount equivalent to normal rates of compensation would not be receivable by the assessee. Alternatively, Mr. Meyer has argued that the amount paid as compensation to the ex-agents by the assessee in terms of the arrangement between the assessee and I.C.I. (Exports) Ltd. is an expenditure admissible as a deduction under section 10(2)(xv) of the Income-tax A ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... arch, 1947, from Imperial Chemical Industries (Exports) Ltd., Glasgow, to Gillanders Arbuthnot and Co., annexure F to the statement of case, which indicates the terms and conditions of the transfer under which the assessee became the sole agent of I.C.I. (Exports) Ltd. in place of the former agents. The terms as proposed in the said letter may be stated as follows: 1.For the first three post-transfer years we shall pay you 2/5ths of the commission accruing on annual sales in the territory of your agency taken over by Imperial Chemical Industries (India) Ltd., such commission to be computed at the commission rates formally paid to you. 2.In the third post-transfer year we shall pay you, in addition, a sum equivalent to the full commission on sales for that year effected by Imperial Chemical Industries (India) Ltd. in your territory calculated at the same rates. 3.Payment will be made to you after the end of each year as soon as the amount due is ascertained. The second important document is an affidavit of Mr. W.A. Bell, a director of I.C.I. (India) Private Ltd., being annexure A to the statement of case, sworn on 30th September, 1957, the material portions o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ewis, a well-known firm of chartered accountants, dated the 3rd January, 1958, addressed to the assessee, being annexure D to the statement of case which, inter alia, sets out the method of accounting necessary for implementation of the said arrangement. Both the counsel for the assessee and for the Commissioner of Income-tax founded their arguments on the legal effect of the aforesaid documents. Mr. Meyer's main contention before us is that, on a construction of the aforesaid documents, the assessee's only income in respect of this transaction with I.C.I. (Exports) Ltd. is the specific sum representing the difference between the normal rates of commission which would be allowed after April 1, 1951, and the sums of compensation payable to the outgoing agents during the three years commencing from April 1, 1948, and ending on March 31, 1951. The agreement between the I.C.I. (Exports) Ltd. and the assessee provides that the assessee for the first three years will be entitled to receive only a reduced rate of commission which works out as 4/15ths of the usual rate of commission during the first three years. The real bargain between the parties is that the assessee's i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... law as the payment has not been made in conducting or in running the assessee's business. He has laid stress on the fact that in arriving at the real income no deduction is permissible unless it is justifiable on commercial principles or on the basis of the provisions of the relevant taxing statute provided there is no prohibition, express or implied, in the same Act against such deduction. The assessee has already earned the full commission as entered in its books of account and the compensation has only been paid for acquiring a capital asset. The deduction claimed by the assessee in respect of the said four amounts representing compensation cannot be allowed inasmuch as it is not only a capital expenditure but also it has not been incurred for the assessee's own business. Capital expenditure can never be allowed as a deduction because it has been expressly prohibited under section 10(2)(xv). Capital expenditure cannot be supported as a deduction on commercial principles also. He has referred to paragraph 17 of the Tribunal's order where the assessee's business as commission agent and for selling the goods of the principals has been held by the Tribunal as stock-i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion that the loss sustained by the assessee as a result of misappropriation by the agent was one which was incidental to the carrying on of business and should, therefore, be deducted in computing the profits under section 10(1) of the Act, has stated at pages 15-16: The result is that when a claim is made for a deduction for which there is no specific provision in section 10(2), whether it is admissible or not will depend on whether, having regard to accepted commercial practice and trading principles, it can be said to arise out of the carrying on of the business and to be incidental to it. If that is established, then the deduction must be allowed provided, of course, there is no prohibition against it, express or implied, in the Act ...At the same time it should be emphasized that the loss for which a deduction could be made under section 10(1) must be one that springs directly from the carrying on of the business and is incidental to it and not any loss sustained by the assessee, even if it has some connection with his business. Thus, profits and gains which are liable to be taxed under section 10(1) are what are understood to be such under ordinary commercial princ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fits and gains of its business for the accounting year. Subba Rao J., in holding that the estate duty paid by the assessee was not a permissible deduction under section 10(2)(xv) of the Act, has stated at page 150 : The expression 'for the purpose of the business' is wider in scope than the expression 'for the purpose of earning profits'. Its range is wide : it may take in not only the day-to-day running of the business but also the rationalization of its administration and modernisation of its machinery ; it may include measures for the preservation of the business and for the protection of its assets and property from expropriation, coercive process or assertion of hostile title; it may also comprehend payment of statutory dues and taxes imposed as a pre-condition to commence or for carrying on of a business ; it may comprehend many other acts incidental to the carrying on of a business. However wide the meaning of the expression may be, its limits are implicit in it. The purpose shall be for the purpose of the business, that is to say, the expenditure incurred shall be for the carrying on of the business and the assessee shall incur it in his capacity as a p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion' in respect of the profits or gains of any business, profession or vocation carried on by him. The doctrine of real income has often been inducted on the strength of the words of this section. The words profits and gains in respect of a business should be understood in the commercial sense. It is true that the commercial sense may not always correspond to the principles of taxability and very often the doctrine of accrual of income or profits or subsequent application of profits create difficult situations on the facts and circumstances of a case. To say that tax is leviable only on the actual income is to oversimplify the matter. At the same time to examine every case of profits and gains from an academical and doctrinaire approach would lead to complicated consequences in the commercial world. The scheme of the section shows that section 10(1) is the charging section under which profits and gains of business, profession or vocation can be taxed. Section 10(2) provides certain contingencies whereby the profits or gains can be computed after making certain allowances. But before section 10(2) is attracted there must be profits or gains of the business. If there are n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , 8; [1960] 1 SCR 185 the facts of which may be stated as follows : The appellant bought lands and sold them in plots fit for building purposes undertaking to develop them by laying out roads, providing a drainage system and installing lights, etc. When the plots were sold the purchaser paid only a portion of the purchase price and undertook to pay the balance in instalments. The appellant in its turn undertook to carry out the developments within six months. In the relevant accounting year the appellant actually received in cash only a sum of ₹ 29,392 towards sale price of lands, but in accordance with the mercantile system of accounts adopted by it, it credited in its accounts the sum of ₹ 43,692 representing the full sale price of lands. At the same time it also debited an estimated sum of ₹ 24,809 as expenditure for the developments it had undertaken to carry out, even though no part of that amount was actually spent. The department disallowed the expenditure. Bhagwati J., while holding that the sum of ₹ 24,809 was an allowable deduction in arriving at the profits and gains of the business of the assessee under section 10(1) of the Act, stated at pag ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... chargeable to income-tax in respect of a business are the profits and gains of a year; and in assessing the amount of the profits and gains of a year, account must necessarily be taken of all losses incurred, otherwise you would not arrive at the true profits and gains. Further, Bhagwati J. quoted the observations of Venkatarama Aiyar J. in Badridas Daga v. Commissioner of Income-tax [1958] 34 ITR 10 , 14 (SC) : It is to be noted that while section 10(1) imposes a charge on the profits or gains of a trade, it does not provide how those profits are to be computed. Section 10(2) enumerates various items which are admissible as deductions, but it is well-settled that they are not exhaustive of all allowances which could be made in ascertaining profits taxable under section 10(1)... The result is that when a claim is made for a deduction for which there is no specific provision in section 10(2), whether it is admissible or not will depend on whether, having regard to accepted commercial practice and trade principles, it can be said to arise out of the carrying on of the business and to be incidental to it. If that is established, the deduction must be allowed, provided of co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dividual, it is what reaches the individual as income which it is intended to charge. We may not discuss how far these principles would apply to the facts and circumstances of this case. The letter of I.C.I. (Exports) Ltd. dated 11th March, 1943, the affidavits of Mr. W.A. Bell and Mr. J.W. Donaldson and the letter of M/s. Lovelock Lewis establish an agreement between the I.C.I. (Exports) Ltd. and its former agents to the effect that the assessee is entitled to receive for the period between 1st April, 1948, and 31st March, 1951, as commission a specific amount representing the difference between normal rates of commission and the compensation payable to the former agents during this period. The said agreement provides that the compensation for termination of the agencies payable to the former agents is two-fifths of the compensation at normal rates for the first two years and one and two-fifths of commission at normal rates in the third and final year. Thus the assessee's actual profits during the assessment years amount to a definite figure which is calculated on the basis of such reduced rate of commission. The Tribunal at paragraph 13 of its order has stated : T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the I.C.I. (Exports) Ltd. The assessee cannot be held liable for the sums of money paid as compensation to the former agents because the said four sums amounting to ₹ 2,03,503, ₹ 5,41,526, ₹ 5,29,284 and ₹ 4,00,052 were neither due and payable to the assessee under the said arrangement nor they ever accrued to the assessee as its income. It is true that the entries in the books of account of the assessee have not been maintained in strict compliance with the terms of the agreement. It is also true that the entries might give an impression that the full commission was first credited to the assessee company and, thereafter, the compensation amounts had been debited to the foreign principal's account. But it is obvious that on account of the peculiar nature of the terms of the contract, namely, payment of commission to the extent of two-fifths, two-fifths and seven-fifths in three years, the particular system of accounting has been maintained by the assessee. But these entries by themselves could not lead to the conclusion that there was no agreement at all or that it was not acted upon. The system or method of book-keeping cannot override the true and subs ..... X X X X Extracts X X X X X X X X Extracts X X X X
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