1. These three appeals by the assessee give rise to a common issue.
They were, therefore, heard together and are disposed of by a common order.
2. The income-tax assessment made for these assessment years provides a convenient entry point to the case before us. It is common ground that the assessee was following straight line method of charging depreciation. Consequently, the amount of depreciation actually booked was less than the depreciation allowed in the income-tax assessments.
The data abstracted below will make the position clear:---------------------------------------------------------------------------------------Accounting I.T. Assessment Deprn.
Deprn. as per Shortfall Progressiveyear ending year provided I.T. records in the totalon in the finally deter- deprn.
books -mined (without booked Rs. Rs. Rs. Rs.---------------------------------------------------------------------------------------31-3-1980 1980-1981 5,51,718 6,99,539 1,47,821 1,47,82131-3-1981 1981-1982 5,43,089 10,02,276 4,59,187 6,07,00831-3-1982 1982-1983 7,46,130 19,46,740 12,00,610 18,07,61831-3-1983 1983-1984 14,02,243 37,52,385 23,50,142 41,57,760--------------------------------------------------------------------------------------- 3. The surtax assessment for the assessment years 1982-83 and 1983-84 were completed on 9-5-1985. While computing the capital base under the Second Schedule to the Companies Profits (Surtax) Act, 1964, the assessing officer did not make any adjustment in respect of the excess depreciation allowed in the income-tax assessments over the depreciation actually booked.
4. In the Surtax assessment for the assessment year 1984-85, however, the assessing officer, following the Bombay High Court case of CIT v.Zenith Steel Pipes Ltd. [1978] 112 ITR 215 reduced the capital base by the aggregate excess depreciation allowed for purposes of income-tax assessments. The CIT(A) declined to interfere in this matter.
5. Invoking the powers vested in him by and under Section 16 of the Surtax Act, 1964, the Commissioner of Income-tax, Coimbatore, called for and examined the assessment records of the assessee relating to the surtax assessment for the assessment years 1982-83 and 1983-84. On such an examination he found that the assessing officer had failed to reduce the capital base by the excess of the depreciation actually allowed for income-tax purposes over that actually booked by the assessee in its books of accounts. Relying upon the aforesaid Bombay case, he concluded that the two assessment orders in question were erroneous in that they were prejudicial to the interests of the revenue. He, therefore, put the assessee on notice of his intention to pass suitable orders in revision. The assessee responded by pointing out that there was no case for reduction of the capital base by the excess depreciation allowance allowed in the income-tax assessments over the amount of depreciation written off in its books of accounts. In this regard, the assessee highlighted the fact that no depreciation reserve was created in its books of accounts.
6. None of the aforesaid arguments found favour with the Commissioner of Income-tax who, following the Bombay case of CIT v. Zenith Steel Pipes Ltd. (supra) directed the assessing officer to reduce the capital base by the aggregate excess depreciation allowed.
7. It may here be highlighted that the aforesaid issue relating to excess depreciation was common to both the assessment years 1982-83 and 1983-84.
8. The Surtax assessment for the assessment year 1982-83, according to the Commissioner of Income-tax, was erroneous in that it was prejudicial to the interests of the revenue on another count also.
According to the Commissioner, the error arose this way. In its accounts relating to the previous year ending on 31-3-1981, the assessee had made provision for taxation in a sum of Rs. 32,05,460. The actual liability determined in the income-tax assessment, however, came to Rs. 33,39,461. According to the CIT, the assessing officer failed to apply Rule 1(iii) of the Second Schedule to the Act and reduce the capital base pro tanto. Rejecting the assessee's contention that no adjustment was warranted, the CIT directed the assessing officer to make the aforesaid adjustment also in the assessment for the assessment year 1982-83.
9. The said directions were issued by the CIT by his common order in revision dated 7-3-1988.
10. Aggrieved not only by the aforesaid common order in revision, but also by the order dated 23-12-1988 of the CIT(A) (relating to the assessment year 1984-85), the assessee is now before us.
11. Shri G. Sarangan, the learned counsel for the assessee, took us through the facts and circumstances of the case and contended that the assessee was entitled to succeed. True, the assessee was following straight line method of charging depreciation. True again, as a result, the depreciation charge in the books of account was less than that allowed in the income-tax assessment. Had he charged in its books of account the depreciation allowed in the income-tax assessments, the distributable profits of the assessee would no doubt have got reduced pro tanto. But, contended Shri Sarangan, it does not follow that the said reduction must necessarily and straightway go to reduce the reserves of the assessee. The assessee had made various provisions, such as provision for taxation including surtax, provision for proposed dividend besides proposing transfer of sums to the general reserve.
According to Shri Sarangan, the assessee had the right of reducing pro tanto either the provision for taxation or the provision for proposed dividends or both. In other words, according to Shri Sarangan, the assessee has the right of attribution. He, therefore, urged that the assessee is entitled to succeed.
12. On his part, Shri G.C. Jain, the learned Departmental Representative, strongly supported not only the impugned common order in revision but also the order of the first appellate authority. In this regard, besides relying on the Bombay High Court case of Zenith Steel Pipes Ltd. (supra) he also referred to and relied upon the following two Madras High Court cases : (1) United Nilgiri Tea Estates Co. Ltd. v. CIT [1974] 96 ITR 734 and (2) Nagammal Mills Ltd. v. CIT [1974] 94 ITR 387.
13. We have looked into the facts of the case. We have considered the rival submissions.
14. We may, at the outset, notice briefly the scheme of the Companies (Profits) Surtax Act, 1964. The Income-tax Act imposes a charge on the total income of the assessee. On its part, the Companies (Profits) Surtax Act, 1964, levies an additional tax on the total income of a company in the manner stipulated by the Act. Surtax is levied basically on the excess of the chargeable profits over the statutory deduction.
The First Schedule to the Act contains the Rules for computing the chargeable profits. Briefly stated, chargeable profits are computed by taking as a starting point the total income computed under the I.T.Act, and by adjusting it in the manner stipulated in the Schedule.
15. The Second Schedule contains Rules for computing the capital base of the company. Broadly stated, under the said Schedule, the capital base is more or less equal to what in corporate accounting phraseology is known as "shareholders' funds". The capital base takes within its fold besides the paid up share capital, reserves (both free and tied) properly so called. It will at once be clear that the size of the capital base is a function of factors such as the size of the paid up share capital and the size of the reserves. Once the capital base is computed, the determination of the statutory deduction is merely an arithmetical exercise because, by definition (see Section 2(8) of the Act), statutory deduction means an amount equal to 15% of the capital base.
16. One thing will be clear from the foregoing and that is that if the capital base is increased-inflated, if you like the statutory deduction will get increased or inflated pro tanto, and the surtax levied will in the process get reduced. The paid up share capital of the company, which is one of the components of the capital base being fixed, does not afford any scope for manoeuvring. Reserves on the contrary, afford large scope for manoeuvring for more than one reason. Firstly, the Companies (Profits) Surtax Act does not contain any definition of the term 'Reserve'. Secondly, even the Companies Act, 1956 contains a negative definition of the said term. Thirdly, there is the anxiety of the taxpayer to enlarge the capital base by bringing under its pale as many items as possible under the head 'Reserves'. Fourthly, the question whether a particular sum set apart by the company is a 'provision' or a 'reserve' was a bone of contention till the Supreme Court handed down its decision in the case of Vazir Sultan Tobacco Co.
Ltd. v. CIT [1981] 132 ITR 559.
17. Parliament has, therefore, built into the Surtax Act certain provisions with a view to ensuring that the capital base does not get inflated. The first safeguard is built into Rule 1 of the Second Schedule - the very rule which lays down the mode and mechanics of computing the capital base. As already pointed out, under the scheme of the Act, reserves (both free and tied) enter the computation of capital base. Rule 1(iii) however, prescribes an important rider and that is that for purposes of computing capital base, reserves [other than those specified in Rule 1 (ii)], as reduced by the amounts credited to such reserves as have been allowed as a deduction in computing the income of the company for the purposes of the Income-tax Act, 1922 or the Income-tax Act, 1961, will be taken into account. Here, the legislative intent is clear that the other reserves should not be taken into account in their entirety. They should be reduced by the amount allowed as a deduction in the assessments made under the Income-tax Acts - old and new.
Further, the focus of Rule 1 (Hi) is on the reserves taken collectively. This will be clear from the fact that, unlike Rule 1 (ii), Rule 1 (Hi) does not identify the reserves by their respective names. It should, therefore, follow that when the said Rule talks of "the amounts credited to such reserves", it does not refer to specific sums credited to specific reserves but to the aggregate of the amounts credited to all the reserves taken together. And the reduction contemplated by the said Rule is by the sum allowed as a deduction for income-tax purposes. Stated differently, all that is necessary to demonstrate under Rule 1 (iii) is that by reason of a revenue deduction allowed in the income-tax assessments, the reserves get reduced pro tanto.
18. The second safe gurard built into the Surtax Act is to be found in Rule 1A of the Second Schedule. The rationale behind the said rule, which was inserted by the Finance Act, 1976 with retrospective effect from 1-4-1975, may thus be stated. Particularly, as respects provision for taxation and provision for proposed dividends, the legislative intent was that they are provisions simpliciter and not a reserve and that consequently they should not be taken into reckoning for purposes of computing the capital base. It was, however, noticed that some of the companies were not showing provisions for taxation or provision for proposed dividends in the balance-sheet; but were taking the sums required on both the counts to 'general reserves', thereby inflating the capital base for purposes of surtax. In order to curb this mischief, the Finance Act, 1976 inserted Rule 1A under the Second Schedule, with retrospective effect from 1-4-1975. The Rule brings the axe down in all cases where no provision is made in the balance-sheet either towards taxation or towards proposed dividends and reduces the reserve by the amounts which ought to have been provided for in the appropriation accounts towards taxation and dividends. It also applies to cases where there is a shortfall in the provision made for taxation and/or proposed dividends.
19. In its application to the latter type of cases (that is to say in cases where there has been a shortfall in the provision made for taxation and/or proposed dividends), the Rule brings in the concept of reasonableness. With the result, Rule 1A is not meant to be applied automatically in all cases where there has been a shortfall in the provision made towards taxation and/or proposed dividends. Where the provision made is reasonable, even if there be some shortfall, such shortfalls should be ignored.
20. The Department's case is that the straight line method of charging depreciation had resulted in a lesser amount being charged to the profit and loss account than what had been allowed as and by way of depreciation in the income-tax assessments. If the depreciation actually allowed in the income-tax assessments is substituted for the depreciation actually booked by the assessee, then the net profit of the assessee would go down. Ergo, the reserves must be reduced pro tanto. According to the Department, thus, there is a direct one-to-one correspondence between the reduction in the net profit and the reduction in reserves. The assessee's case, on the contrary, is that such a direct nexus cannot be predicated and that it has the right to make the corresponding reduction either in the provision for taxation or in the provision for proposed dividends.
21. Before examining the validity of the rival submissions, it is necessary to abstract the relevant data from the balance-sheets concerned. The following are the relevant figures extracted from the balance-sheets, but so arranged as to facilitate a proper appreciation of the issue involved here :----------------------------------------------------------------------------------------Surtax Asst. Year 1982-83 1983-84 1984-85Position as on 1-4-1981 1-4-1982 1-4-1983Balance-sheet as on 31-3-1981 31-3-1982 31-3-1983Profit before depreciation Rs. 63,20,632 Rs. 1,06,96,331 Rs. 1,59,03,811Depreciation Rs. 5,43.089 Rs. 7,46.130 Rs. 14,02,243 -------------- -------------- --------------Profit after depreciation Rs. 57,77,543 Rs. 99,50,001 Rs. 1,45,01,568Surplus in P & L A/c. B/F Rs. 203 Rs. 264 Rs. 527Misc. Adjustment Rs. 21,061 Rs. 42,097 Rs. 90,259 -------------- -------------- -------------- Rs. 57,98,807 Rs. 99,92,362 Rs. 1,45,92,354Misce. Adjustment Rs. 10,583 Rs. 12,525 Rs. 21,846 --------------- --------------- ---------------Profit available for Rs. 57.88,224 Rs. 99,79,837 Rs. 1,45,70,508 --------------- --------------- ---------------and Surtax Rs. 32,05,460 Rs. 53,80,310 Rs. 73,60,690Proposed dividends Rs. 5,50,000 Rs. 10,00,000 Rs. 12,50,000Reserve Rs. 20,32,500 Rs. 35,99,000 Rs. 59,59,000Surplus carried forward Rs. 264 Rs. 527 Rs. 818 --------------- --------------- --------------- Rs. 57,88,224 Rs. 99,79,837 Rs. 1,45,70,508depreciation charged Rs. 4,59,187 Rs. 12,00,610 Rs. 23,50,142---------------------------------------------------------------------------------------- 22. Now the assessee's case is that the excess depreciation allowed in the income-tax assessments should not go to reduce the amount transferred to general reserve but should go to reduce provision for taxation/provision for proposed dividends/surplus carried forward.
According to the assessee, it has the right to 'attribute' the excess depreciation allowed in the income-tax assessments to any one or more of the three heads referred to above.
24. Provision for taxation: It is well-settled that the liability to income-tax arises at a point of time not later than the last day of the year of account. In the case before us, it cannot be disputed that the assessee had earned taxable income. Therefore, its liability to pay income-tax thereon arose at a point of time not later than the last day of the year of account. It should, therefore, follow that the assessee, who, it is common ground, is following mercantile system of account, was obligated to make necessary provision towards income-tax payable by it.
25. Secondly, under Section 210 of the Companies Act, 1956, it is incumbent upon the Board of directors of every company to lay before the annual general meeting of its shareholders : (a) the annual balance-sheet, and (b) the profits and loss account pertaining to the previous financial year. Section 211(1) provides that every balance-sheet of a company shall give a true and fair view of the state of affairs of the company as at the end of the financial year and shall, subject to the provision of this section, be in the form set out in Pt. I of Sch. VI or near thereto as circumstances admit or in such other form as may be approved by the Central Govt. either generally or in any particular case. And Section 211(2) provides that every profit and loss account of a company shall give a true and fair view of the profit or loss of the company for the financial year and shall, subject as aforesaid, comply with the requirements of Pt. II of Sch. VI, so far as they are applicable thereto. In other words, the preparation of balance-sheet as well as profit and loss account in the prescribed forms and laying the same before the shareholders at the annual general meeting arc statutory requirements which the company has to observe. The form of balance-sheet as given in Pt. I of Sch. VI contains separate heads of "Reserves and Surpluses" and "Current Liabilities and Provisions" and under the sub-head "Reserves" different kinds of reserves arc indicated and under sub-head "Provisions" different types of provisions are indicated. And, significantly, provision for taxation is one of the items specifically mentioned under the heading "Provisions" of Part I of Schedule VI. It, therefore, follows that an assessee who is liable to pay tax on the income relating to a particular year of account cannot ignore or fail to take into account its lax liability. In other words, it has no go but to make adequate provision towards taxation. This naturally flows from the mandate of Section 211 of the Companies Act. which makes it incumbent upon a company to give a true and fair view of its state of affairs at the end of the year of account concerned.
26. Thirdly, as pointed out earlier, we also have Rule 1A of the Second Schedule to the Surtax Act which brings the axe down in all cases where no provision is made in the balance-sheet towards taxation or where there is a short fall made in the provision for taxation.
27. Now, the assessee has set apart or appropriated certain sums as and by way of provision for taxation. The normal presumption, favourable to the assessee, is that the assessee has made proper provision for taxation. If the assessee were to have its way, namely that the excess depreciation allowed should go to reduce the provision for taxation, then the assessee would be not only transgressing the statutory obligations cast on it by the Companies Act but also will get caught, in the process, within the mischief of Rule 1A of the Second Schedule to the Surtax Act. It should, therefore, follow that the assessee cannot be heard to say that it has the right to 'attribute' the excess depreciation allowed in the income-tax assessments to provision for taxation.
28. We are aware of the fact that under clause 7 of Part III of Schedule VI of the Companies Act, an excess provision is reserve. In the case before us, there is no evidence to show that the assessee has made excess provision towards taxation. The factual position is, however, to the contrary. Thus, in its accounts for the year ending on March 31, 1984, the assessee has made inter alia a provision in a sum of Rs. 19,42,374 towards income-tax for the earlier years. This is of course in addition to the current year's provision for taxation aggregating to Rs. 86,44,170. It is ex facie clear, therefore, that the case before us is not one of excess provision towards taxation but short provision for taxation.
29. In view of the foregoing, therefore, we hold that the provision for taxation actually made in the relevant accounts cannot be touched.
30. Proposed dividends: The legal position as regards proposed dividends is the same as that relating to provision for taxation. Thus, besides having the provision of Sections 210 and 211 of the Companies Act, we have Rule 1A of the Second Schedule to the Surtax Act which brings the axe down on cases where no provision is at all made towards dividends or where there is a shortfall in the provisions made for dividends. In this regard, as we see it, Explanation to Rule 1A is particularly significant. This Explanation deals with item (9) under the heading 'Current Liabilities' in the column relating to 'Liabilities' in the 'Form of Balance Sheet' given in Part 1 of the Schedule VI to the Companies Act. And the said item (9) is 'Proposed Dividends'. Dealing with 'Proposed Dividends', the Explanation makes it clear that for purposes of Rule 1A the amount of credit which should have reasonably been made by a company in relation to 'Proposed dividends' means the amount of dividend declared or paid by the company on or after the first day of the previous year relevant to the assessment year, for the previous year immediately preceding the first-mentioned previous year. The focus of the said Explanation is, thus, on the dividend actually declared or paid. As in the case of provision for taxation, so in the case of proposed dividends it will be reasonable to go on the footing that the dividend proposed by the Board of directors was approved by the annual general meeting. In any event, there is no evidence to the contrary in this case. It should, therefore, follow that 'Proposed dividends' is also out of bounds.
31. Surplus in the profit and loss Ale: The surplus in the profit and loss account is neither a provision nor a reserve. It is a mass of undistributed or unappropriated profits. And, under the law, it is entirely within the discretion of the Board of directors to decide what amount must be left as a surplus in the profit and loss account.
Indeed, in the recent years, it is not uncommon for the companies to leave as surplus in profit acid loss account an amount much larger than the amount transferred to the general reserve. This is a matter to be dealt with by the Board of directors and ultimately by the general body. It is one amongst the many events which are inter-related with the domestic or indoor management of a company.
32. Given the true legal character of 'Surplus in the Profit and Loss Account', we have no difficulty in agreeing with the learned counsel for the assessee when he says that the excess depreciation allowed in the income-tax assessments could justifiably be 'attributed' by the assessee to the said surplus. But the pratical difficulty in the case before us is that only a couple of hundreds of rupees have been left as surplus in the relevant profit and loss account with the result the assessee is denied the benefit of attribution which it would very much like to have.
33. By the aforesaid process of elimination, we come to the amounts transferred to general reserve. And the excess of depreciation allowed in the income-tax assessments can be reduced, in the facts and circumstances of the case, only from the amounts transferred to general reserve. And this is what the lower authorities have done.
34. Exvisceribus actus is one of the well-known rules of construction.
The rationale behind this rule is that it is the most natural and genuine exposition of a statute to construct one part of a statute by another part of the same statute "for that best express the meaning of the makers...." That is to say, the Act has to be read as a whole. As observed by the Gujarat High Court in CIT v. R.M. Amin [1971] 82ITR 194: When the court is called upon to construe the terms of any provision found in a statute, the court should not confine its attention only to the particular provision which falls for consideration but the court should also consider other parts of the statute which throw light on the intention of the Legislature and serve to show that the particular provisions ought not to be construed as if it stood alone and apart from the rest of the statute. Every clause of a statute, should be construed with reference to the context and other clauses of the statutes so as, as far as possible, to make a consistent enactment of the whole statute.
So construing the provisions of the Second Schedule to the Surtax Act, we have no hesitation in rejecting the assessee's claim in this regard.
We therefore, decline to interfere with the impugned orders in question on this issue.
35. We may now deal with other issues (that is to say those that are not common to all the three assessment years).
36. In the assessment for the assessment year 1982-83, the assessee's grievance is that the Commissioner of Income-tax was not justified in directing the assessing officer to modify the surtax assessment by "reducing the capital base by the amount of income-tax liability determined in the assessment in excess of the book liability for income tax". As pointed out supra, the CIT took the line that the provision for taxation made in the books being less than the liability to taxation as determined in the income-tax assessment, Rule 1(iii) of the Second Schedule must be automatically applied and the capital base reduced pro tanto. Clearly, the CIT has overlooked the significant fact that it is Rue 1A that is applicable and that the said Rule incorporates an element of reasonableness Following the order dated August 29,1991 of the ITAT Madras Bench 'C in the case of Lakshmi Mills Co. Ltd. v. I AC [1991] 39 ITD 38,9 we hold that the CIT was not justified in directing the assessing officer to reduce the capital base by Rs. 1,34,001 (Rs. 33,39,461 - Rs. 32,05,460). We, therefore, set aside the impugned order in revision of the CIT on this issue insofar as it relates to the assessment year 1982-83 and restore that of the assessing officer.
37. In the assessment for the assessment year 1984-85, the assessee's grievance is that the lower authorities were not justified in reducing the capital base by a sum of Rs. 1,07,281 being the 'investment allowance' allowed in excess of reserve. Frankly, we fail to see the rationale behind the aforesaid decision of the lower authorities.
First, the lower authorities have clearly invoked the provisions of Rule 1 (iii) of the Second Schedule to make the said reduction. This will be clear from the reliance on the Bombay case of Zenith Steel Pipes Ltd. (supra). The correct legal position, however, is that the said rule is not applicable to reserves specified in Rule 1 (ii) of the said Schedule. And investment allowance reserve is one of the reserves specified in the said rule.
In this connection, it may be highlighted that in his common order in revision dated 7-3-1988 relating to the assessment years 1982-83 and 1983-84, the CIT had rightly pointed out that no such adjustment is contemplated by Rule 1(ii) of the Second Schedule.
38. Secondly, under the scheme of the Income-tax Act the investment allowance reserve being equal to 75% of the investment allowance to be actually allowed, the said reserve will always be less than the said allowance. Stated differently, investment allowance allowed will always be in excess of the investment allowance reserve.
39. In view of the foregoing, therefore, we hold that there was no legal warrant for reducing the capital base by the sum of Rs. 1,07,281.
We further direct the assessing officer to recompute the capital base without making any reduction on this count.
40. Before taking leave of this case, we may deal with the assessee' s plea of limitation which is common to the assessment years 1982-83 and 1983-84. We fail to see how the impugned common order in revision dated 7-3-1988 could be said to be hit by section I6(2)(b) of the Surtax Act.
It is a matter of record that the surtax assessments for the assessment years 1982-83 and 1983-84 were made on 9-5-1985, that is to say, after the amendment of the said section by the Taxation Laws (Amendment) Act, 1984 with effect from 1-10-1984. This would mean that the amended provisions clearly applied; with the result an order in revision under Section 16 could be passed any time before the expiry of two years from the end of the financial year in which the order sought to be revised was passed. In this case, the surtax assessments in question were passed on 9-5-1985. Therefore, the order in revision could be passed on or before 31-3-1988. The impugned order in revision was passed on 7-3-1988. Therefore, it is not hit by the bar of limitation. We, therefore, reject the assessee's plea based on limitation.
41. In the result, the assessee' appeals relating to the assessment years 1982-83 and 1984-85 are allowed in part; that relating to the assessment year 1983-84 is dismissed.