TMI Blog1977 (11) TMI 16X X X X Extracts X X X X X X X X Extracts X X X X ..... 31, 1963, towards compensation payable under section 36 of the said Life Insurance Corporation Act to chief agents and special agents was not expenditure deductible under the provisions of sections 30 to 43 of the Income-tax Act ? (3) Whether, on the facts and in the circumstances of the case, the sum of Rs.1,31,71,276 being the portion of the surplus statutorily payable to the Central Government under section 28 of the Life Insurance Corporation Act, 1956, and so paid is a permissible deduction from the surplus disclosed for the inter-valuation period ended March 31, 1963 ?" It was at the outset stated on behalf of the assessee by Mr. Colah that question No. 1 was not being pressed. The arguments before us were, therefore, restricted to questions Nos. 2 and 3. Before we refer to the facts relevant for the purposes of this reference, it would be convenient to refer to certain provisions of the Life Insurance Corporation Act, 1956, on which arguments of the learned counsel for both the assessee and the revenue are founded. The LIC of India came into being as a corporation with effect from 1st September, 1956, by virtue of s. 3(1) of the Life Insurance Corporation Act, 19 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rs whose controlled business was acquired by the LIC. It provided that where a controlled business of the insurer has been transferred to and vested in the Corporation under this Act, the compensation shall be given to the insurer by the Corporation in accordance with tbe principles contained in the First Schedule. We are not in this case concerned with the principles for determining compensation which was to be paid under s. 16(1). The obligation to determine the compensation was by s. 16(2) placed on the Corporation and after the amount was so determined in accordance with the principles contained in the First Schedule, the amount had to be approved by the Central Government and then it was to be offered to the insurer in full satisfaction of the compensation payable to him under the Act. However, if the insurer disputed the compensation, then the insurer had the right to take the matter to the Tribunal for this issue. Chapter VI of the Act is headed as " Finance, Accounts and Audit ". Since the provisions of ss. 26 and 28 have been relied upon by the assessee, it is necessary to reproduce them in full. They read as follows : " 26. The Corporation shall, once at least in ev ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... pecial agent. Some of those terms refer to the remuneration in the nature of commission payable to the chief agent and the special agent. When the Life Insurance Corporation Act came into force the contracts between the insurer on the one hand and the chief agent and special agent on the other were put an end to statutorily by s. 36 of the Act, which reads as follows : " Notwithstanding anything contained in the Insurance Act or in any other law for the time being in force, every contract appertaining to controlled business subsisting immediately before the appointed day,--- (a) between an insurer and his chief agent or between an insurer and a special agent ; or (b) between the chief agent of an insurer and a special agent ; shall, as from the appointed day, cease to have effect and all rights accruing to the chief agent or the special agent under any such contract shall terminate on that day : Provided that in every such case compensation shall be given by the Corporation to the chief agent or the special agent, as the case may be, in accordance with the principles contained in the Third Schedule, and the provisions of sub-section (2) of section 16 shall, so far ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... id to the chief agents was not related to the carrying on of the business by the Corporation notwithstanding that compensation was payable with reference to renewal premiums received by the Corporation in the first 10 years. With regard to the portion of the surplus paid to the Central Government also, the AAC rejected the contention of the Corporation that the said amount was liable to be deducted because it was not at all the income of the Corporation, there being an overriding title of the Central Government to that portion of the surplus. The Corporation, thereafter, filed an appeal before the Tribunal. The Tribunal held that the compensation paid to the chief and the special agents under s. 36 of the Act was of the same nature as the compensation paid to the insurers whose business had vested in the Corporation and which required to be paid under s. 16 of the Act and that the compensation was in fact a price for taking over the business of the insurers along with the obligation. The Tribunal also negatived the contention of the Corporation that there was an overriding title of the Government to the remainder of the surplus under s. 28 of the Act. The Tribunal took the view ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... al agents would by itself be of no consequence while determining whether the expenditure was of a capital nature or of a revenue nature. It is also apparent that so far as the Corporation was concerned, the Corporation had no choice in the matter. It was by virtue of a statute of Parliament that the life insurance business, which was originally carried on by other insurers, was vested in the LIC. But while providing for vesting of the business of the other insurers in the LIC, Parliament had safeguarded the rights of persons who had entered into different agreements or contracts with the insurers whose business was to vest in the LIC. Thus, any obligation which an insurer was to perform and any liability which was already incurred by an insurer had to be performed or discharged by the LIC after 1st September, 1956. Therefore, if the special agents or the chief agents were entitled to recover overriding commission from the insurers with whom they had entered into an agreement and for whom they had collected life insurance business throughout the length of time during which they were entitled to recover that commission from the insurer by virtue of s. 9 of the Act, that became the li ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... odically. As observed by this court in the case of Assam Bengal Cement Co. Ltd. v. Commissioner of Income-tax [1955] 27 ITR 34, 45, if the expenditure is made for acquiring or bringing into existence an asset or advantage for the enduring benefit of the business it is properly attributable to capital and is of the nature of capital expenditure. If on the other hand it is made not for the purpose of bringing into existence any such asset or advantage but for running the business or working it with a view to produce the profits it is a revenue expenditure ...... The aim and object of the expenditure would determine the character of the expenditure whether it is a capital expenditure or a revenue expenditure. The source or the manner of the payment would then be of no consequence." It is difficult to hold in the instant case that the amount paid to the chief agents and the special agents was paid with a view to acquire an asset or advantage for the enduring benefit of the business. It is, no doubt, true that as a result of the provisions of the Act, the life insurance business of various insurers vested in the Corporation. For the vesting of that business in the Corporation, the pay ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the termination of the managing agency had led to reorientation of the business of the company, that the termination facilitated the company to enter into collaboration with Leylands, that it made possible for the company to get financial assistance from the Government if there be need and that compensation was paid at the behest of the Government and was for a non-business purpose. The Tribunal found as a fact that, in view of the change in the business activities of the company, the continuance of the managing agency became superfluous and would have meant unnecessary business expenditure to the company and hence commercial expediency required the company to terminate the service of the managing agents and the managing agents could be got rid of only by paying reasonable compensation. The Supreme Court in that case, while accepting the contention that the expenditure was in the nature of revenue expenditure, observed as follows : There is no doubt that, as a result of the termination of the services of the managing agents, the company got rid of its liability to pay office allowance as well as the commission it was required to pay under the managing agency agreement not on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... itted to be treated as revenue expenditure, Mr. Joshi for the revenue has relied on three decisions in James Snook Co. Ltd. v. IRC [1952] 33 TC 244, 249 (CA), George Peters Co. Ltd. v. Smith (H. M. Inspector of Taxes) [1963] 41 TC 264, 283 (Ch D) and George J. Smith Co. Ltd. v. Furlong (H. M. Inspector of Taxes) [1968] 45 TC 384 (Ch D). All these three cases deal with the question as to whether certain payments made to the directors to secure their retirement as a part of the scheme of acquisition of the shares of the company could be treated as revenue expenditure. The particular passage which is relied upon by Mr. Joshi from the case of James Snook Co. Ltd. [1952] 33 TC 244 (CA) has to be read in the context of the fact that the payment in that case was in pursuance of a term of an agreement regarding the purchase of shareholding and the payment was not shown to have been made in the interest of trade. An agreement of sale of shares of the appellant company, that is, James Snook Co. Ltd. provided, inter alia, that the purchaser would procure the appellant-company to pay compensation for loss of office to the directors of the appellant- company and to the auditor of the co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed it. The three authorities relied upon by Mr.Joshi, therefore, will be clearly distinguishable inasmuch as payment in those cases, in respect of which deduction was asked, was a part of the bargain of acquisition of the shareholding. When the payment is made as directed by a statutory provision like s.36 made in the Act, such payment cannot be considered analogous to the payment of compensation to retiring directors in pursuance of an agreement to acquire the shareholdings. It appears that the Tribunal has treated the payment of compensation under s. 36 to the agents on the same footing as compensation paid to the insurers under s. 16. It must be mentioned that this part of the reasoning of the Tribunal was not supported on behalf of the revenue and, in our opinion, rightly so, because the two provisions are hardly comparable except that they provide for payment of compensation. The Tribunal was, therefore, in our view, in error in holding that the amount paid to the chief agents and the special agents was in the nature of capital expenditure and not revenue expenditure. Taking up question No. 3 now, the contention of Mr. Colah appearing on behalf of the assessee, is that hav ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he actuaries to the Central Government. How this valuation is to be made is provided in s. 13(1) of the Insurance Act, 1938, read with the provisions of the Schedule. It is not necessary for our purpose in this case to refer to the details of the mode of valuation and the different parts of the report which the actuary is required to submit. It is sufficient to point out that Form I in the Fourth Schedule provides for a valuation balance-sheet, one side of which refers to " the net liability under business as shown in the summary and valuation of policies " and the other side refers to the " balance of life insurance fund as shown in the balance-sheet ". On the basis of these two figures, the surplus or the deficiency, as the case may be, has to be worked out. Where the balance of the insurance fund is more than the net liabilities, there will be surplus. If the net liabilities are more than the balance of the life insurance fund. there will be deficiency. Now, s. 28 operates in a case where there is a surplus. There is no dispute that the surplus referred to here is the surplus indicated in Form I of the Fourth Schedule of the Insurance Act. If there is a surplus, then this surp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed is the surplus as determined actuarially in accordance with s. 13 read with Sch. IV of the Insurance Act. It is difficult to see how in the face of the express provision in r. 2(b) of the First Schedule that what has to be taken into account initially is the surplus, merely because s. 28 of the LIC Act requires a part of the surplus to be handed over to the Central Government, that part of it must be deducted from the actual surplus for the purposes of r. 2(b). The provisions of the I.T. Act and the provisions of s. 28 of the Life Insurance Corporation Act operate in entirely different fields. While s. 28 deals with allocation of the surplus and its application for different purposes, so far as the computation of income is concerned, that is a matter dealt with by rr. 2(b), 3 and 4 in the First Schedule to the I.T. Act. In view of the artificial mode of computation, unless there is a special power vested in the ITO under the provisions of the I.T. Act, it will be difficult to hold that instead of taking the statutory surplus as the starting point for the computation of the profit of the life insurance business, he should take a figure different from the one which represents the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the surplus of the last inter-valuation period had to be deducted as also expenditure allowable under section 10 of the Income-tax Act. This is the basic calculation and they were followed." Thus, so far as the basis of computation is concerned, it must be the surplus which is found on the actuarial valuation that is to be taken into account for the purposes of r. 2(b). There is, therefore, no scope for interfering with the mode of computation by substituting in place of the surplus the surplus as reduced by the amount which was required to be paid under s. 28 of the LIC Act. It is also difficult for us to accept the contention of Mr. Colah that when s. 28 provides for payment of the remainder to the Central Government or for the remainder to be utilised for such purposes and in such manner as that Government may determine, there is a diversion of income by an overriding charge. Even on a plain construction of s. 28, it is clear that s. 28 operates on the surplus and what is first required to be done is that, in the absence of any higher percentage approved by the Government, 95% of the surplus has to be allocated to or reserved for the life insurance policy-holders. After thi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s by a paramount title. On remand, the High Court held that the amount could be said to be diverted by paramount title and was an allowable deduction under s. 10(2)(xv) of the Indian I.T. Act, 1922 (see CIT v. Travancore Sugars and Chemicals Ltd. [1969] 71 ITR 385 (Ker)). While considering this question the Supreme Court, to which the matter was taken in a second round of appeal, made the following observations in CIT v. Travancore Sugars and Chemicals Ltd. [1973] 88 ITR 1, 13 : " It appears to us that the amount to be paid by reference to profits can either be that it is paid after the profits become divisible or distributable or that the amount is payable prior to such distribution or division to be computed by a reference to notional or as in some decisions what is termed as apparent net profits. In the former instance it will certainly be a distribution of profits and not deductible as an expenditure incurred in running the business but in the latter it may, on the facts and circumstances of the case, and the agreement or the nature of the obligation under the particular instrument, which governs the obligation, be an expenditure incurred as a contribution to the profit-earn ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed upon the Corporation by a statute and if that obligation has to be discharged after the income has been received by the Corporation, there was no question of any overriding charge so as to result in diversion of any income to the Central Government. It is obvious that s. 28 is in the nature of a provision enabling the Central Government to exercise a financial control over the affairs of the Corporation. It is not a provision which can be construed as providing for setting apart any particular part of the income of the Corporation so as to earn it for the purposes of the Central Government. The surplus earned is the surplus of the Corporation and it is only when the question of application thereof arises that s. 28 starts operating. If s. 28 operates after the surplus has reached the hands of the Corporation, in our view, there is hardly any substance in the argument of the Corporation that there was a diversion of any income by an overriding charge. In the view which we have taken, it is not necessary for us to deal with the other decisions which were relied upon by Mr. Colah in support of his argument that there was a diversion by an overriding charge. We may, however, menti ..... X X X X Extracts X X X X X X X X Extracts X X X X
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