TMI Blog1975 (9) TMI 36X X X X Extracts X X X X X X X X Extracts X X X X ..... R.C. No. 34 of 1973 has been referred to this court under section 19 of the Super Profits Tax Act, 1963, read with section 256(1) of the Income-tax Act, 1961, for opinion on the question: "Whether, on the facts and in the circumstances of the case, the two sums of Rs. 2,02,696 representing 'provision for breakages and damages on sales' and/or Rs. 1,00,000 representing 'provision for contingencies and bonus' have to be included in the capital computation for the purposes of super profits tax under the Super Profits Tax Act, 1963?" The assessment year relevant in R.C. No. 34 of 1973 is the assessment year 1963-64, corresponding to the previous year ending with December 31, 1962 (the assessee has been adopting the calendar year for its accounting purposes), while R.C. No. 35 of 1973 pertains to the assessment year 1965-66, corresponding to the previous year ending with December 31, 1964. R.C. No. 35 of 1973 has been referred for the opinion of this court under section 18 of the Companies (Profits) Sur-tax Act, 1964, read with section 256(1) of the Income-tax Act, 1961, and the question referred is : "Whether, on the facts and in the circumstances of the case, the said sum ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the said Act, a tax (referred to in the Act as super profits tax) shall be charged on every company for every assessment year commencing on and from the first day of April, 1963, in respect of so much of its chargeable profits of the previous year or previous years, as the case may be, as exceed the standard deduction at the rate or rates specified in the Third Schedule. Against the assessment made by the Super Profits Tax Officer, an appeal is provided to the Appellate Assistant Commissioner of Income-tax and a further appeal to the Income-tax Appellate Tribunal. Section 19 applies certain provisions of the Income-tax Act to the proceedings under the said Act including section 256 of the Income-tax Act, which provides for a reference to this court for its opinion on questions referred. We are not concerned in these cases with other provisions of the Act. The First Schedule contains the rules for computing the chargeable profits, but it is not necessary to examine the said provisions in detail since it is not necessary for the purpose of these cases. The Second Schedule contains the rules for computing the capital of a company for the purpose of Super Profits Tax Act. According to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1973. As indicated above, the assessment year concerned in this case is the assessment year 1963-64, corresponding to the previous year ending with December 31, 1962. The profit and loss account for the year ended December 31, 1962, is printed at pages 12 and 13 of the company's annual report pertaining to the year 1962, while the several schedules to the said profit and loss account are printed at pages 14 to 23 of the annual report. Under the profit and loss account, the two items relevant for our purposes are "provision for breakages and damages on sales" and "provision for contingencies and bonus". The said amounts are dealt with in detail under Schedule "D", at page 16 under the general heading "Current liabilities and provisions". Under the sub-heading "provisions", these two items are mentioned. In respect of "provision for breakages and damages on sales", the amount as on the first day of the previous year, i.e., January 1, 1962 (the annual report gives the date as December 31, 1961, but obviously the same figures hold good for January 1, 1962, also) is shown as Rs. 2,02,686. It is further stated that another sum of Rs. 2,00,000 was added under the said item during the sai ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... implication, all other designated amounts would constitute "reserves" if they do not come under the head "capital or existing liabilities". On the said reasoning, he held that both the amounts constitute "other reserves" and have got to be added to the capital in computation of the same under the Second Schedule to the Act. Aggrieved by the decision of the Appellate Assistant Commissioner, the department went up in appeal to the Income-tax Appellate Tribunal which allowed the appeal by its order dated August 18, 1971. The Tribunal referred to the distinction between the expressions "reserves" and "provisions" pointed out by the Supreme Court in its decision in Metal Box Company of India Ltd. v. Their Workmen, and applying the said reasoning and also relying upon the interpretation of the words "reserves" and "provisions" contained in clause (vii) of para. 3 of Schedule VI of the Companies Act, 1956, held that inasmuch as the said amounts were not meant for meeting a known and certain liability, they are only "provisions" and not "reserves" notwithstanding the fact that the actual quantification of the liability may not be known on the relevant date. The Tribunal also held that admi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 's New International Dictionary, the word "reserve" means: "1. To keep in store for future or special use; to keep in reserve: to retain, to keep as for oneself. 2. To keep back; to retain or hold over to a future time or place. 3. To preserve". However, the said expressions have, as indicated by us above, been the subject-matter of interpretation by the Supreme Court as well as the several High Courts of India. With a view to understand the precise meaning of these expressions, it may therefore be necessary to examine the decisions of the Supreme Court in the first instance. The earliest case in which the expression "reserves" fell for consideration before the Supreme Court is the decision reported as Commissioner of Income-tax v. Century Spinning and Manufacturing Co. Ltd. arising under the provisions of the Business Profits Tax Act. The first question referred by the Tribunal to the High Court, which is relevant for our purposes, was "whether the amount of Rs. 5,08,637 is a part of the 'reserves' of the assessee-company as on April 1, 1946, within the meaning of rule 2(1) of the rules in Schedule II to the Business Profits Tax Act?" The Supreme Court observed that th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ns made against anticipated losses and contingencies are charges against profits, while the reserves are appropriations of profits being retained to form part of the capital employed in the business. Referring to William Pickles Accountancy, second edition, page. 192, and Part III, clause 7, Schedule VI, to the Companies Act, 1956, the court held : "An amount set aside out of profits and other surpluses, not designed to meet a liability, contingency, commitment or diminution in value of assets known to exist at the date of the balance-sheet is a reserve but an amount set aside out of profits and other surpluses to provide for any known liability of which the amount cannot be determined with substantial accuracy is a provision." It was then observed that if under the Income-tax Act, an estimated liability ascertainable with substantial accuracy can be taken into account for arriving at the true profits and gains, there is no reason why the same cannot be done under the Bonus Act unless there is any provision therein forbidding the same. Since reference is made to the decision of the Supreme Court in Kesoram Industries and Cotton Mills Ltd. v. Commissioner of Wealth-tax, ari ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , capital stock and surplus side as "earned surplus". Reference was also made to the case reported as First National City Bank v. Commissioner of Income-tax, where also the court had pointed out the difference between the system of accounting followed in India and the United States. It was, therefore, held on the facts of that case that the balance of the net profits after allocation to specific reserves and payment of dividend and entered in an account under the caption "earned surplus" constitute "reserve" generally referred to in India as "general reserves" We do not think that this case is of any help in deciding the question arising before us. Before proceeding to consider the various decisions of the High Courts in India cited by both the parties, it would be appropriate to deal with the decision of this court in Vazir Sultan Tobacco Company Ltd. v. Commissioner of Income-tax and see whether it runs counter to the decision of the Supreme Court in Kesoram Industries and Cotton Mills Ltd. v. Commissioner of Wealth-tax. The said case arose under the provisions of the Super Profits Tax Act and the question was whether the provision made by the company for (a) taxation, (b) for ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... v. Commissioner of Wealth-tax while really intending and referring to the case of Metal Box Company of India Ltd. v. Their Workmen. In this view, the very basis of the argument that the observations made in the decision of this court in Vazir Sultan Tobacco Co. Ltd. v. Commissioner of Income-tax run counter to the decision of the Supreme Court in Kesoram Industries and Cotton Mills Ltd. v. Commissioner of Wealth-tax disappears and we see no conflict whatsoever between both the decisions. In fact, the decision of this court is wholly consistent with the principle of the decision in Metal Box Company of India Ltd. v. Their Workmen as well as Commissioner of Income-tax v. Century Spinning and Manufacturing Co. Ltd. and applying the said principles, the Bench had come to the conclusion that the provisions for taxation, retirement gratuity and dividends are provisions and not "reserves" for the purpose of the Super Profits Tax Act. We may now refer to the several decisions of the High Courts in India cited by Mr. Srinivasamurthy in support of his submissions. The first decision in this behalf is the decision of the Allahabad High Court in Commissioner of Income-tax v. British India C ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssessee is of the Madras High Court reported in Commissioner of Income-tax v. Indian Steel Rolling Mills Ltd. arising under the Super Profits Tax Act. There also, the question was whether the amounts set apart for payment of gratuity, which was described by the said High Court as a "contingent and future liability" and which was stated to have been used for the purpose of the business of the company, should be treated as a reserve for the purpose of the said Act. This case also does not refer to the principle contained in Metal Box Company of India Ltd. v. Their Workmen. After referring to the various decisions, it was held at page 85 that the amount set apart for payment of gratuity is a "contingent and future liability". No reasons are given for describing the said liability as "contingent and future liability". We feel that the liability though for payment of gratuity is a certain and ascertainable liability, it may have to be paid in future as and when a particular workman retires, and after due quantification. It was further pointed out in that case that the said amount was used for the purpose of the business of the company. The decision, however, does not disclose the facts ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n that it has been so designated only for the purpose of evading tax and that such designation is not genuine or bona fide. But it does not follow that even though an amount is not so designated by the requisite authority, and even though the requisite authority had specifically designated it as a provision, still it can be treated as a "reserve". We are, therefore, of the opinion that this decision or the other decisions dealing with excess/surplus provision are not of any help to the assessee in this case. Another case of the Madras High Court in United Nilgiri Tea Estates Co. Ltd. v. Commissioner of Income-tax is also referred to. In the said decision, the court held that while the amounts actually paid out for meeting a tax liability cannot be called a "reserve", the excess provision which was available to the company for its use has to be treated as a "reserve". From the question referred to the court in that case, it appears that the excess depreciation was adjusted to general reserve and it was, therefore, held to be a reserve and, further, observations were made following the decision in Nagammal Mills Ltd. v. Commissioner of Income-tax that excess provision even in resp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on the subject, but again not the case in Metal Box Company of India Ltd. v. Their Workmen, it was held on the facts before the court that the item of Rs. 4,17,500 being the proposed dividends cannot be treated as reserve inasmuch as the board of directors had made a proposal to the shareholders for distribution of the same by way of dividend for the relevant year. Even in respect of the provision for taxation, it was held that it was only a provision in respect of a current liability which merely awaited quantification and, therefore, was held not to be a reserve. Dealing with the item pertaining to credit balance of the profit and loss account, again it was held that there was nothing to show that it was set apart by the assessee for future use and it was also held to be a provision. The fourth item, namely, the depreciation reserve, was also held to be a provision in the absence of any evidence to show that it was set apart for a future use. No reference was made to the earlier decision of the same Bench reported in Commissioner of Income-tax v. Security Printers of India (P.) Ltd. We must presume that the earlier decision was rendered on the particular facts and findings in tha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e itself treated the said sums as provisions but that no person possessing the requisite authority had earmarked or indicated the same as "reserves". We have indicated our reasoning on this aspect while dealing with the case of the Madras High Court reported in Nagammal Mills Ltd. v. Commissioner of Income-tax . Mr. Srinivasamurthy referred us to a passage to the similar effect at page 11 of the Study Papers published by the Institute of Chartered Accountants of India-Study IV (I.S.P. Ac-14). For the reasons given by us above, it is not necessary to deal with the said passage in detail. Mr. P. Rama Rao, the learned standing counsel for the income-tax department, referred us to the decisions in Commissioner of Income-tax v. Hindustan Milk Food Mfg. Ltd. and Indian Steel and Wire Products Ltd. v. Commissioner of Income-tax. The first among them is a decision of the Punjab and Haryana High Court arising under the Super Profits Tax Act. The question that was referred for the court's opinion in that case was whether, on the facts and in the circumstances of the case, the Appellate Tribunal was justified in holding that the sum of Rs. 8,64,961, being the amount proposed to be distr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rt had awarded the bonus for the previous assessment year, the company's liability to pay bonus at a similar rate for the relevant assessment year also "was very imminent and even certain as the assessee had made large profits during 1947 also" and, therefore, it was held that a sum set apart to meet such imminent and certain liability was an allowable deduction in determining the distributable profits. Though the case arose under the provisions of the Income-tax Act, we are of the opinion that the principle of the said decision, with which we are in agreement, is relevant for answering the question referred to us in these cases. The case in Indian Steel and Wire Products Ltd. v. Commissioner of Income-tax , however, arose under the Business Profits Tax Act, which as we have already noted, is a fore-runner of the Super Profits Tax Act. This case has been cited by the counsel for the department to meet the argument of the assessee with respect to the "surplus/excess provision". Two chargeable accounting periods relevant in that case were periods commencing from April 1, 1946, and ending with March 31, 1947, and commencing from April 1, 1948, to March 31, 1949. Similar questions a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e assessee and it was also further found that the liability to pay the bonus had arisen for the previous year and, therefore, it is evident that a similar liability was certain and definite in view of the profits made by the company for the relevant year. The Tribunal was, therefore, right in holding that both the amounts are merely provisions to meet a known liability of which the amount could not be determined with substantial accuracy on the relevant date, i.e., on January 1 1962. Applying the principle of the decision of the Supreme Court in Metal Box Company of India Ltd. v. Their Workmen we also come to the same conclusion that the said amounts are "provisions made against anticipated losses and contingencies" and that they were amounts set aside out of profits and other surplus to provide for a known liability of which the amount cannot be determined with substantial accuracy on the relevant date. With respect to the contention of the assessee that the surplus/excess provision has to be treated as a reserve, we have already indicated that, on the facts and in the circumstances before us, the said question does not arise and even if it is held to arise, we are of the opinion ..... X X X X Extracts X X X X X X X X Extracts X X X X
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