TMI Blog1985 (2) TMI 55X X X X Extracts X X X X X X X X Extracts X X X X ..... ded on 30-6-1978 and that for the assessment year 1980-81 on 30-6-1979. With effect from 28-2-1977 the industrial undertaking of SCPL and the business activities of Sarabhai Common Services Division which was a unit of Sarabhai Chemicals were taken over by Elscope (P.) Ltd. (EPL) which in turn, after a short time transferred these undertakings to Ambalal Sarabhai Enterprises (P.) Ltd. (ASEPL). The agreement for sale was made on 28-2-1977 and the deed of assignment was executed on 28-6-1977. It was explained to the ITO that the income earning apparatus of the company has been transferred and, therefore, the only source of income with the assessee was interest from Industrial Development Corporation (IDC), The transfer of the industrial undertaking and the business of Sarabhai Chemicals Division and Sarabhai Common Services Division to EPL was effected as a going concern with all assets, property, rights and benefits thereof including the benefit of goodwill of the said business and the liabilities, duties and obligations relating to or arising out of the said business. The transfer of assets included the transfer of entire plant and machinery, other equipments, stock-in-trade, stock ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the same group. The ITO observed that in respect of these advances no interest was shown as received or receivable. The ITO, therefore, called upon the assessee to show cause as to why firstly income from immovable properties which remained to be transferred by registered deed should not be taxed under section 22 of the Income-tax Act, 1961 ('the Act'), from the beginning of the accounting period till the date of registration. Secondly, why interest on accrual basis be not taxed on the amounts due from EPL as outstanding purchase consideration and on advances made to other concerns of the assessee group. The ITO then examined the assessee's explanation in regard to the above objections in detail and determined the income from property at Rs. 2,69,194 as indicated in his order. As regards the other point the ITO observed that the assessee was de facto an investment company. He examined the balance sheet of the assessee and analysed the position of the assets as indicated in para 9 of his order. He then referred to the account of EPL and found that no interest was charged on the outstanding balance of purchase consideration. The assessee's explanation was that according to the revis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e ITO determined the total income of the assessee at Rs. 75,01,464 in the draft order which was forwarded to the IAC as required under the provisions of section 144B of the Act. 4. The IAC after hearing the assessee upheld the finding of the ITO in regard to the inclusion of income from property. He, however, deleted an addition of Rs. 6,02,260 in regard to the estimate of interest as proposed by the ITO, on outstanding advances made to various parties other than EPL as stated above. He thus directed the ITO to finalise the assessment with the said modification. 5. For the assessment year 1980-81 following his decision for the assessment year 1979-80 interest of Rs. 57,17,750 on accrual basis was sought to be included in the income as disclosed by the assessee. The ITO, thus, prepared a draft order on the above lines and forwarded the same for approval of the IAC under section 144B. The IAC in light of the mistake in computation reduced the said amount to Rs. 55,67,715 and in substance approved the addition as proposed by the ITO, as accrued interest on deferred sale consideration. It may be pointed out that in coming to the above conclusion, the ITO rejected the contention of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... acie the assessee's claim was that its wholly owned subsidiary was offering security for debts payable to its holding company, viz., the assessee. In this connection he referred to the decision of the House of Lords in Solomon v. Solomon Co. Ltd. [1897] ASC 22-51. He also relied on the commentary of Palmer and Gower as also the commentary of the learned author A. Ramaiya in his treatise on the Companies Act, 1956 styled Guide to the Companies Act. He then referred to the decision in the case of CIT v. Sri Meenakshi Mills Ltd. [1967] 63 ITR 609 (SC) as also the decision in the case of Juggilal Kamlapat v. CIT [1969] 73 ITR 702 (SC) as also the decision of their Lordships of the Gujarat High Court in the case of Wood Polymer Ltd., In re. [1977] 109 ITR 177, Imperial Chemical Industries Ltd. v. CWT [1979] 119 ITR 46 (Cal.) and M.N. Kanagasabai Chettiar v. CIT [1970] 75 ITR 672 (Mad.). These decisions, according to him, support the principle of lifting of corporate veil as applicable in India. According to the Commissioner (Appeals) that one of the circumstances in which the said principle could be applied related to transactions between subsidiary and wholly owned companies as well ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... khs was sought to be given up. Thirdly, the interest was forgone for valid reasons like bad financial condition of the company or the firm, etc., such a situation was absent in the instant case. Lastly, in the above-cited cases there were no written agreements or in case the written agreements were made there was a clear stipulation about the intention to charge interest, etc. These decisions according to the Commissioner (Appeals), therefore, were not at all applicable. He, thus, concluded that the interest was clearly receivable by the assessee in accordance with the agreement dated 4-3-1977 and was rightly brought to tax for the assessment year 1979-80. For the same reasons he upheld the addition of interest for the assessment year 1980-81. 7. Being aggrieved the assessee has come up in appeal before us for both the years. Shri S.P. Mehta, the learned counsel for the assessee, at the outset referred to the sale made to the subsidiary EPL on 28-2-1977 which was made effective from 1-3-1977. He next pointed out that a supplementary agreement was entered into on 4-3-1977 in order to set right an omission which was noticed qua original agreement of 28-2-1977. Thereafter there is a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... substantial in terms of money. From an overall angle it cannot be said to be so substantial as to doubt the motive of the assessee about the desirability of the transaction in question. The main reason which has persuaded the assessee-company to enter into the revised arrangement was the substantial security being offered by EPL. The transactions were effectively entered into between the holding company and the subsidiary company and the distinction between the two has been well recognised and if the lifting of veil principle was applied it would amount to payment to self and, therefore, effectively, from this angle no income could be said to have accrued to the assessee. Therefore, the judgments referred to in this connection by the Commissioner (Appeals) had no application. It must be remembered, Shri Mehta argued, that the assessee maintained mercantile system of accounting and the income was sought to be taxed on the basis of accrual or notional basis. There was no effective receipt of income. Therefore, the entire question had to be approached from the principle of real income as laid down by the Supreme Court in the case of CIT v. Shoorji Vallabhdas Co. [1962] 46 ITR 144. S ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tanding and, therefore, the arrangement reached originally under the two agreements dated 28-2-1977 and 4-3-1977 still held the field. Therefore, the contention of the assessee founded on the ground that there was waiver of interest had no basis at all. 9. The learned standing counsel then submitted in the alternative that in the transactions of this type the substance of the matter must be looked into. Assuming for the sake of arguments that the later arrangement reached by the assessee with the vendor was effective, it amounted relinquishment or remission of the interest which had already accrued to the assessee and the subsequent understanding was reached according to the assessee on the plea that the vendee had offered security of a debt which was hitherto unsecured. It must be remembered, Shri Shah submitted, that the supplemental agreement was not a novatio but designed to rectify the original agreement. No new rights or obligations were created under the revised arrangement which is said to have taken place by the vendor's letter dated 15-6-1978 and the resolution of the assessee on 30-6-1978. He then referred to the fact that, according to the original agreement, a sum of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... der the said provisions. The taxing authorities have clearly seen through the game and have found that within four months the entire undertaking was transferred by EPL to ASEPL which was a public limited company and the majority shareholding thus was by the public. Therefore, if the interest payable by ASEPL was not allowed the shareholders who were members of the public would stand to lose. That apart the transaction was on the last day of the year which showed that the assessee having earned the interest thought of a device to avoid its tax liability by adopting a circuitous method in form of revision of the arrangement. The ultimate aim, therefore, was neither to benefit the subsidiary company nor ASEPL nor any worthwhile benefit accrued to the assessee on the ground of commercial expediency except that it tried to avoid its legitimate liability to tax on substantial amount of interest which had accrued to it. The learned standing counsel then referred to the decisions of the authorities below and supported their orders. 10. Shri Mehta in reply pointed out that the offer was designed to vary the original terms of agreement which was set out in letter of 15-6-1978 and was accep ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... purchase price under this agreement shall be set off and applied by the purchaser for and on behalf of, the vendor to credit and pay in full the balance uncalled capital to the extent of Rs. 90 per share in respect of the said 4,90,000 equity shares in the purchaser. 3. The balance of the purchase price shall be paid by the purchaser to the vendor in 8 equal annual instalments, the first of such instalments shall become due and payable on the 1st October, 1979 and each subsequent instalment shall become due and payable on the 1st day of October in each respective year as hereinafter provided. 12 1/2 per cent to be paid on or before the 1st October, 1979. 12 1/2 per cent to be paid on or before the 1st October, 1980. 12 1/2 per cent to be paid on or before the 1st October, 1981. 12 1/2 per cent to be paid on or before the 1st October, 1982. 12 1/2 per cent to be paid on or before the 1st October, 1983. 12 1/2 per cent to be paid on or before the 1st October, 1984. 12 1/2 per cent to be paid on or before the 1st October, 1985. 12 1/2 per cent to be paid on or before the 1st October, 1986. The payment of moneys in the manner aforesaid on or before the stipulated da ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for and on behalf of the vendor to credit and pay in full the uncalled capital at Rs. 90 per share on 4,90,000 equity shares of Rs. 100 each held by the vendor in the purchaser. (c) Rs. 2,00,00,000 as and when demanded by the vendor, and will carry interest at the rate as is equal to the rate of interest which the vendor pays to its bankers in the ordinary course of business. (d) Rs. 4,54,18,760 is payable as under and will carry interest at 11 per cent per annum on the amount remaining outstanding from time to time. The purchaser has agreed to pay the balance of the purchase price, viz., Rs. 4,54,18,760.89 to the vendor in eight equal annual instalments, the first of such instalments shall be due and payable on the 1st October, 1979 and each subsequent instalment payable on the 1st day of October, in each respective year as under : Rs. 56,77,345 being approximately 12 1/2 per cent on or before 1-10-1979 Rs, 56,77,345 being approximately 12 1/2 per cent on or before 1-10-1980 Rs. 56,77,345 being approximately 12 1/2 per cent on or before 1-10-1981 Rs. 56,77,345 being approximately 12 1/2 per cent on or before 1-10-1982 Rs. 56,77,345 being approxima ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the balance sum of Rs. 470 lakhs only with effect from 1st July, 1979. Consequently, the appellant company did not charge any interest on the balance of deferred safe consideration. " 14. The crux of the controversy is whether or not any interest could be said to have accrued to the assessee during the relevant previous year which was liable to tax in his hands. Broadly speaking the assessee's contention that by the subsequent arrangement with EPL there was a modification in the terms of payment of interest as a result of which there was no accrual of income while the revenue's case is that income having been accrued was liable to tax and if the assessee were to claim a benefit it must establish that there was commercial expediency in giving up the income which had accrued to it and, therefore, no income was chargeable on accrual basis. Therefore, it is necessary to consider the relevant decisions on the subject which have evolved certain principles which are applicable to the controversy at issue before us. We shall, therefore, proceed first to deal with those decisions on which reliance has been placed by either side before us as well as before the authorities below and also s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ribunal held that as the intention to forgo was arrived at long after the closing of the accounting year, and at the end of the accounting year the remuneration had already accrued to the assessee, the relinquishment would only mean a diversion of the profits and, therefore, could not be excluded from the total income.... " Their Lordships of the Calcutta High Court upholding the above view of the Tribunal summarised the position as follows : " In the instant case, the unrealised income is liable to assessment of tax, not on the ground of constructive receipt but on the ground that it accrued during the relevant accounting year which ended on the 5th July, 1951. (2) The mere fact that the income was forgone by the assessee beyond the accounting year by resolutions in meetings of the shareholders, cannot entitle the assessee to an exemption from liability to tax. It was decided, inter alia, by the Supreme Court in the case of CIT v. Shoorji Vallabhdas Co. [1962] 46 ITR 144 (SC) that where, however, the income can be said not to have resulted at all, there is obviously neither accrual nor receipt of income, even though an entry to that effect might in certain circumstances ha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and the entries thus made really show nothing more than an accrual or arising of the said profits at the material time. " CIT v. Birla Gwalior (P.) Ltd. [1973] 89 ITR 266 (SC) : " ...As the managing agency commission receivable could have been ascertained only after the managed company had made up its accounts and the respondent had given up the commission even before the managed company made up its accounts, and no date had been fixed in the agreement for payment of the commission, the mere fact that the respondent was maintaining its accounts on the mercantile system did not lead to the conclusion that the commission had accrued to it by the end of the relevant accounting year. The commission given up by the respondent could not be considered to be its real income..... " Shiv Parkash Janakraj Co. (P.) Ltd. v. CIT [1978] 112 ITR 872 (Punj. Har.) : " ...That no interest had actually been paid to the assessee-company nor had it made any debit entries in its account books. No date was fixed in the agreement of loan regarding the payment of interest. Even if the assessee-company had adopted the mercantile system of accounting, it cannot be said that income from interest ha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... any subsequent making up of the accounts or the company's borrowing acts, then the subsequent conduct, subsequent to the year in which income accrued, cannot, in our opinion, be of any help to the assessee.... The real principle seems to be that the root or the germ as to accretion of income must be in the accounting year and if such root or germ fructifies in the subsequent years, that can be taken into account and not otherwise. Now, applying the same principle to the facts and circumstances of this case, if it could be demonstrated that the right of giving up, which stopped the accrual in the year of income which had been laid or planted in the year of account, then the subsequent giving up might help the assessee in the theory of real income.... 15. A broad analysis of the above decisions reveals that the said decisions fall into two distinct categories. The first category relates to those set of decisions in which income is given up before the end of the accounting year with the result that the income is not said to accrue during the accounting year and as a consequence is not found exigible to tax. The second category relates to a set of decisions in which income is give ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s out hereunder : " The letter No. Elscope/MC dated 15th June, 1978 received from Elscope (P.) Ltd. setting out therein the revised mode of payment was placed on the table. " Resolved that, in respect of unpaid purchase price of Rs. 6,54,253.49 due, owing and payable by Elscope (P.) Ltd. to the company for the transfer and assignment of industrial undertaking and business of Sarabhai Chemicals Division and business of Sarabhai Common Services Division as going concerns by the company to the said Elscope (P.) Ltd., the company both hereby approve, accept and adopt the following revised mode of payment as contained in letter No. Elscope/MC dated 15th June, 1978 received from Elscope (P.) Ltd. (a) Rs. 1,84,10,253.49 as and when demanded by the company and will not carry any interest. (b) Rs. 4,70,00,000.00 will be payable in five equal annual instalments, the first of such instalments becoming due and payable on 1st March, 1987, provided that Elscope (P.) Ltd. shall have the option to repay the said sum on the 1st March, 1991 and shall carry simple interest at 11 per cent per annum with effect from 1st July, 1979, and the said amount will be secured to the sat ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... plemented. We are unable to accept this proposition. The minutes of the meeting of the board of directors of the assessee-company form part of record and it is not the case that these minutes do not represent the position indicated therein. It must, therefore, be held that the minutes and the resolution were made in normal course of the assessee's business and was effective in law. The subsequent part of the resolution authorising the director merely indicates the consequential action to be taken to follow up the decision and, therefore, it is not possible to accept the submission that the resolution was ineffective. In fact, no doubt has been cast on the above resolution by the authorities below. Of course, inference have been drawn against the assessee as to the effect of the resolution but that is a different matter. The resolution, therefore, represents the decision between the two parties inter se and must be held to be effective from 30-6-1978. 17. This brings us to consider the mainstay of the submission canvassed on behalf of the assessee as to whether or not this resolution had a retrospective effect nullifying or superseding the earlier agreement. So far as this aspect ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or any shorter period determined by law. 'Profits' do not accrue from day to day or even from month to month and have to be ascertained by a comparison of assets at two stated points. Unless the right to profits comes into existence there is no accrual of profits and the destination of profits must be determined by the title thereto on the day on which they arise. " Thus, the income is said to have 'accrued' or 'arisen' when the right to receive the said income becomes vested in the assessee. Income becomes taxable on the basis of accrual when the right of the assessee to income accrues or arises. In the instant case, the income from interest on unpaid purchase price was a vested right created under the supplemental agreement, as a consequence the income from interest could be said to be accrued or arisen to the assessee during the relevant accounting year. In this connection it is pertinent to note that while the supplemental agreement forms part of the original agreement, there is no indication in the resolution to suggest that the revised mode of payment was effective from any date prior to 30-6-1978. Therefore, this is not a case where the income though given up during the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f commercial expediency must be examined from the standpoint of a trader who gives up his right in the better interest of the company and as pointed out earlier there is nothing to show that this test has been fulfilled in the instant case. Therefore, the inevitable conclusion which can be reached in this regard is that so far as the assessment year 1979-80 is concerned there was accrual of interest as a result of the supplemental agreement as aforesaid and, therefore, the interest was rightly brought to tax on accrual basis by the authorities below. In this view of the matter, therefore, we do not consider it necessary to go into the question about lifting of veil theory dwelt upon by the Commissioner (Appeals). In our opinion, the question could be resolved by applying the first principle which is well settled in regard to the concept of accrual of income and the principle of real income. We, accordingly, decline to interfere with the decisions of the authorities below so far as this ground is concerned. 18. Now we turn to the assessment year 1980-81. As pointed out earlier the previous year had commenced on 1-7-1978 and had ended on 30-6-1979. The resolution of the board of di ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the IAC, there was relinquishment of right to receive interest and as the said relinquishment was without consideration and, therefore, the agreement was void under section 25 of the Indian Contract Act, 1872. The reliance placed by the assessee on section 63 of the Indian Contract Act had no effect at all and was not applicable. Thus he concluded that the assessee had right to receive interest from the date of the sale of the industrial undertaking and the interest, therefore, was chargeable on accrual basis. Reissued directions, accordingly, which were incorporated in the final order as made by the ITO. It may be stated that a calculation error was noticed in the amount of interest proposed for addition by the ITO which was corrected as a result of which the amount of interest brought to tax in the final order was determined at Rs. 55,67,750. 19. The matter was carried in appeal before the Commissioner (Appeals) who, following his decision for the assessment year 1979-80, upheld the said addition. 20. The assessee is in appeal before us. The submissions which were placed before us are already set out earlier while dealing with the appeal relating to the assessment year 1979-8 ..... X X X X Extracts X X X X X X X X Extracts X X X X
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