K.S. Paripoornan, J.
1. At the instance of the Revenue, the Income-tax Appellate Tribunal has referred the following two questions of law for the decision of this court:
'(1) Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the sum of Rs. 3,95,229 cannot be considered to be a revenue receipt in the hands of the assessee ?
(2) Whether, on the facts and in the circumstances of the case, the Tribunal was justified in finding that the sum of Rs. 3,95,229 is not the income of the assessee for this assessment year and directing the Income-tax Officer to modify the assessment ?'
2. The respondent, a public limited plantation company, is an assessee to income-tax. We are concerned with the assessment year 1977-78. The original assessment for the year was made on August 20, 1980. It was the subject-matter of an order under Section 144B of the Income-tax Act by the Inspecting Assistant Commissioner, The Income-tax Officer, in the draft assessment order, proposed to treat a sum of Rs. 3,95,229, representing the amount of earnest money and advance received by the assessee towards sale of old rubber trees which was forfeited, as income of the assessee. The Inspecting Assistant Commissioner, in his order under Section 144B of the Act, directed the Income-tax Officer not to include this amount as the income of the assessee, since he took the view that it was not a revenue receipt but a capital receipt, in the hands of the assessee. The Commissioner of Income-tax initiated proceedings under Section 263 of the Act and, by order dated August 2, 1982, held that, the said sum represented receipt of an income nature in the hands of the assessee. The objection of the assessee to the proposed revision was rejected. From the aforesaid order of the Commissioner of Income-tax under Section 263 of the Act holding that the said sum of Rs. 3,95,229 is a revenue receipt attracting assessment to tax, the respondent/assessee filed an appeal before the Income-tax Appellate Tribunal and assailed the order. After considering the rival pleas of the assessee and the Revenue, the Income-tax Appellate Tribunal held that there is no justification for treating the above amount as income of the assessee for the year. Holding that the sum of Rs. 3,95,229 cannot be considered to be a revenue receipt in the hands of the assessee, the Appellate Tribunal, on facts, held that the said amount will not be the income of the assessee for this assessment year (1977-78). The order of the Appellate Tribunal is dated June 8, 1983. It is thereafter at the instance of the Revenue that the questions of law formulated herein-above have been referred for the decision of this court.
3. We heard counsel for the Revenue, Mr. P. K. R. Menon, as also counsel for the respondent/assessee, Mr. Joseph Vellappally. The Appellate Tribunal itself has narrated, in the statement of the case sent to this court dated August 7, 1977, the reasons which persuaded the Tribunal to delete the addition of Rs. 3,95,229. They are as follows :
'(1) The sum of Rs. 3,95,220 could not be considered to be a revenue receipt in the hands of the assessee because it was held by the Supreme Court in Agrl. I.T. v. Kailas Rubber and Co. Ltd. : [1966]60ITR435(SC) that the sale of old and unyielding rubber trees would result in a capital receipt in the hands of the seller. So this was not a revenue receipt.
(2) At the time of receipt of this amount, it did not have the character of a trading receipt but as earnest money and advance towards the sale price to be adjusted as and when the contracts were concluded.
(3) If the contracts were carried out by the buyers, then these amounts would have been adjusted against the sale price and the proceeds would have been treated as the sale price of the rubber trees for computing the surplus as capital gains.
(4) Since these amounts have not been received as trading receipts, these receipts would not assume such character merely because of the subsequent event, viz., the breach of the contracts.
(5) Even if it is considered that the sale of these trees forms part of the business activity of the assessee, the trees were not the stock-in-trade of the assessee but only a capital asset in the assessee's hands.
(6) The sale of the trees can be likened to the sale of old machinery by a manufacturer. Such a sale would be part of the business activity of the manufacturer but it would still be only on capital account and not on revenue account.
4. It is seen that the respondent/assessee-company entered into three agreements with one Sri P.M. Joseph dated July 10, 1975, with one Sri George Joseph dated July 19, 1975, and with one Sri N. Viswam dated August 8, 1975. The assessee-company agreed with Sri. P.M. Joseph to sell approximately 9,804 trees standing on 163.8 acres of land for a total consideration of Rs. 16,87,500. The purchaser paid the company a sum of Rs. 25,000 towards earnest money and another sum of Rs. 1,03,125 as advance and also agreed to pay the balance of Rs. 15,84,375 in 24 equal monthly instalments on or before the 5th day of each month commencing from August, 1975. By an agreement with the second purchaser, Shri George Joseph, the assessee-company agreed to sell 9,812 old rubber trees standing on 165 acres of land for a total consideration of Rs. 16,87,500. He also paid Rs. 25,000 to the company as earnest money and Rs. 1,03,125 as advance. The balance amount was agreed to be paid in 25 equal monthly instalments commencing from August, 1975. Similarly, as per the agreement with the third purchaser, Shri N. Viswam, the company agreed to sell approximately 6,538 old rubber trees for a sum of Rs. 11,25,000. The purchaser paid Rs. 25,000 as earnest money and Rs. 1,50,000 as advance and agreed to pay the balance amount in 23 equal instalments commencing from August, 1975. The total amount of Rs. 3,95,229 composed of earnest money, in the sum of Rs. 75,000 and the balance by way of advance. The purchasers did not conform to the terms of the contract and so the amounts received from the above three purchasers were forfeited. The amounts so forfeited consist of both earnest money and advance amount, as stated above.
5. The crux of the reasoning of the Appellate Tribunal to hold that the said amount of Rs. 3,95,229 did not-constitute receipt by way of income in the hands of the assessee was that the business of the assessee consists in growing rubber trees and utilising the latex from the trees and not the sale of rubber trees, and as per the decision of the Supreme Court in Commr. of Agrl. I.T. v. Kailas Rubber and Co. Ltd. : [1966]60ITR435(SC) , the sale of old and unyielding rubber trees would result in a capital receipt in the hands of the seller, and, in this background, amounts received by way of earnest money and advance towards the sale price to be adjusted as and when the contracts were concluded cannot be said to be amounts received by the assessee as trading receipts. At the time when the amounts were received, they were not trading receipts and the mere fact that, by a subsequent event, namely, by the breach of the contract, the assessee could appropriate the amount would not render the receipts as revenue receipts.
6. The Appellate Tribunal was of the view that, if the receipt is not, in the first instance, a trading or revenue receipt, it cannot become a trading or revenue receipt by any subsequent process.
7. Before us, counsel for the Revenue placed strong reliance on the following decisions and contended that the amounts received by way of earnest money and advance would be entered only in a suspense account when received and it could be carried forward to the regular account only when the purchaser did not carry out the terms of the contract. It is then, after the accrual, that the first receipt arose. In this case, the first receipt after the accrual of the income arose only when the intending purchaser did not carry out the terms of the contract. At that point of time, the said amount received by way of earnest money and advance forfeited, can only be a revenue receipt. Strong reliance was placed on the following decisions : B.M. Kamdar, In re : [1946]14ITR10(Bom) ; Keshav Mills Ltd. v. CIT : [1953]23ITR230(SC) ; Smt. Tarulata Shyam v. CIT : [1977]108ITR345(SC) and Raghuvanshi Mills Ltd. v. CIT 0043/1952 : [1952]22ITR484(SC) .
8. On the other hand, counsel for the assessee contended that a receipt which is not, in the first instance, a trading or revenue receipt cannot become a trading receipt by any subsequent process. In this case, when earnest money and advance were received under the contracts for the sale of old trees which is a capital asset, they cannot be considered to be a trading or revenue receipt. The fact that, by a subsequent event, the purchasers did not carry out the terms of the contract cannot, by any stretch of reasoning, lead to the conclusion that the amount accrued or arose only when the breach occurred. Strong reliance was placed on the decision in Morley (Inspector of Taxes) v. Tattersall : [1939]7ITR316(Cal) .
9. We considered the rival pleas urged before us by counsel for the Revenue and also counsel for the assessee. On a fair reading of the order of the Appellate Tribunal, we are of the view that the Appellate Tribunal has oversimplified the question that arose before it for consideration. Admittedly, the amount of Rs. 3,95,229 received from the three persons, in pursuance of contracts entered into with them, comprised of two categories--a sum of Rs. 75,000 representing earnest money and a sum of Rs. 3,20,229 representing advance received by the assessee. The amounts received on the above two counts have different legal import and incidence. Earnest deposit or earnest money is distinct and different from advance. It may be that the amounts paid under both counts will be given credit to if the contract is carried out. But, in case the purchaser fails to carry out the terms of the contract, the legal consequences flowing therefrom regarding the earnest deposit and advances are distinct and different. In Shree Hanuman Cotton Mills v. Tata Air Craft Ltd., AIR 1970 SC 1986, 1994, para 24, the Supreme Court stated the law regarding 'earnest' money, thus :
'24. From a review of the decisions cited above, the following principles emerge regarding 'earnest money' ;
(1) It must be given at the moment at which the contract is concluded.
(2) It represents a guarantee that the contract will be fulfilled or, in other words, 'earnest' is given to bind the contract.
(3) It is part of the purchase price when the transaction is carried out.
(4) It is forfeited when the transaction fads through, by reason of the default or failure of the purchaser.
(5) Unless there is anything to the contrary in the terms of the contract, on default committed by the buyer, the seller is entitled to forfeit the earnest money.'
10. As stated in Meenakshinada Deikshtar v. Murugesa Nadar, AIR 1970 Mad 391, paragraph 5, 'earnest money' is not part of the price bargained for, but it is unambiguously money paid for the due performance of the contract. In Halsbury's Laws of England, volume 9, pages 459 and 460, paragraph 672, the difference between deposits and part payments has been dealt with as follows :
'The courts have drawn a distinction between deposits and part payments, though generally speaking their incidents are a matter of construction.
The following rules in relation to deposits are displaced insofar as they are inconsistent with any express agreement between the parties. Where money is deposited during the negotiations for a contract not in fact concluded, prima facie the amount is recoverable by the depositor, unless he acted in such a way as to show his acceptance of the document as a binding contract, Where money is deposited with the other contracting party on the formation of a contract, prima facie it will be interpreted as a security for performance, and hence be forfeited if the depositor in breach of contract fails to perform his side of the bargain though not if he rightfully refuses to perform and the contract is rescinded.'
11. In Cheshire and Fifoot's Law of Contract, 9th edition, page 586, the learned authors stated the law thus :
'If their intention was that the money should be deposited as an earnest or guarantee for the due performance of the purchaser's obligations, the rule at common law is that it is forfeited to the seller upon the discharge of the contract for the default of the purchaser, notwithstanding that it would have gone in part payment of the price had the contract been completed.'
12. In 'The Law of Contract' by G. H. Treital, 3rd edition, at page 825, the author has dealt with deposit and part payment. The law is stated thus :
'A contract of sale may provide that the purchaser shall make an advance payment, but fail to provide what is to happen to the payment if the contract is not performed. Clearly, the money must be paid back if the vendor, in breach of contract, refuses to perform. If the purchaser, in breach of contract, refuses to perform, the question whether he can recover back his money depends on the intention with which it was paid. It may have been paid as a deposit or as part payment. A deposit is a sum of money paid as 'a guarantee that the contract shall be performed.' It is irrecoverable unless the contract otherwise provides. A part-payment is simply payment of part of the purchase price : it is recoverable unless the contract validly provides the contrary.'
13. Without noticing the above distinction between 'earnest money' or 'deposit' on the one hand and 'advance' on the other, the Appellate Tribunal has assumed that the amounts received under both the counts have the same legal incidence and has proceeded to state that, at the time of receipt of the amounts aforesaid, they did not have the character of trading receipts. We are of the view that the Appellate Tribunal has reached the above conclusion ignoring the following aspects :
(1) The true nature of the agreements entered into between the parties was not adverted to or evaluated. The agreements do not form part of the paper book. How the parties have adjusted their rights and liabilities as per the agreements is anybody's guess. Once it is admitted or conceded that the parties reduced the terms of their bargain into writing, the said writing or deed should be first looked into to determine the rights and liabilities of the parties. That has not been done in the instant case by the Appellate Tribunal. This is a serious error.
(2) The difference between earnest money or deposit on the one hand and the advance on the other is vital. That has been omitted to be noticed. It is only after an appraisal and evaluation of the terms of the agreement entered into between the parties and noticing the difference in import between the two amounts, whether it is earnest deposit or advance, the Appellate Tribunal could fix the nature of the receipt of the amounts at the time when they were received.
14. Prima facie, the moment an earnest money or deposit is received, certain legal incidents are attached to it. It is a security received for due performance of the contract. Whether the contract is effectuated or not, the amount could and will ordinarily be retained by the seller. If the purchaser commits breach of the agreement, earnest money can be forfeited. If, on the other hand, the transaction goes through, the earnest money received will be given credit to, towards the consideration fixed in the agreement.
15. Either way, once earnest money or deposit is received, it is not a refundable amount This is a great factor to be reckoned in determining whether the receipt of earnest money is a trading or revenue receipt or a capital receipt. It should also be noticed that the company, in carrying on its business, has entered into the deal for the sale of old trees. As part of the bargain, it has stipulated payment of earnest money or deposit for the due performance of the contract. Prima facie, the earnest money received has got immediate nexus with the 'business' carried on by the assessee-company. It is a part of the bargain in the course of carrying on a business. On the other hand, counsel for the assessee submitted that the earnest money or deposit was received in connection with the sale of old rubber trees of the company. In the case of sale of such trees, it is only a capital receipt and earnest money received will be given credit to in the total consideration received. In this perspective, earnest money is relatable to the consideration received or receivable for the sale of old rubber trees and has nexus only with the capital nature of the receipt. It is unnecessary for us to decide which of these rival pleas is entitled to acceptance. Similarly, regarding the amount received as advance, even if the purchaser commits default, he will normally be entitled to the return of the amount, unless the seller is able to prove that, as a result of the breach of the contract damages resulted to him. That again depends on how the goods contracted to be purchased were subsequently sold whether for a higher value or a lower value, and whether the seller had made a profit or loss. If the seller, the assessee-company, sold the goods for a higher price which resulted in a profit, the advance amount is returnable. On the other hand, if the seller, the assessee-company, sold the goods for a lesser price and damages accrued, it will be open to the seller to put forward a claim for damages against the purchaser in which case a portion or the entire advance may be adjusted against the damages that accrued to the seller. That again is another aspect which depends upon the nature of the contract entered into between the parties for the sale of the trees and the subsequent sale of the trees by the seller. These are vital aspects which are germane for consideration of the question that really arises for consideration in this case. We are highlighting these aspects only to show that the matter called for the interpretation of the agreements entered into by the assessee-company with the various purchasers to understand the legal import flowing therefrom and also the difference between the two counts of amounts received by the assessee-company from the purchasers' earnest money or deposit and advance. Without adverting to these salient aspects, the Appellate Tribunal seems to have oversimplified the question that arose before it and dealt with the matter in a very elementary and summary fashion. We are satisfied that the Appellate Tribunal has failed to advert to relevant and material aspects that arose for consideration and also failed to pose the correct or proper question that arose before it for consideration. The Appellate Tribunal has not acted in accordance with law. This is a patent, error.
16. We are of the view that, in so far as the above important aspects have not been borne in mind by the Appellate Tribunal nor considered specifically, the conclusion, that at the time of the receipt of the amounts they did not have the character of trading receipts and so they cannot subsequently assume the character of trading receipts because the contracts have not gone through, has been arrived at perfunctorily and arbitrarily. We, therefore, decline to answer the questions referred to this court by the Income-tax Appellate Tribunal at the instance of the Revenue. But, at the same time, we direct the Income-tax Appellate Tribunal to restore the appeal to file and decide the matter afresh in accordance with law.
17. We may incidentally observe that the observations in Kanga and Palkhivala's 'The Law and Practice of Income Tax', 8th Edition, volume 1, pages 123 and 197, as also the decisions in CIT v. Motor and General Finance Ltd. : [1974]94ITR582(Delhi) ; CIT v. Surendra Overseas Ltd. : [1982]136ITR553(Cal) ; CIT v. A.V.M. Ltd. : [1984]146ITR355(Mad) and CIT v. Balaji Chitra Mandir : [1985]154ITR777(AP) contain useful discussion about some aspects of the matter that may fall for consideration.
18. The reference is disposed of as above.
19. A copy of this judgment under the seal of this court and the signature of the Registrar shall be forwarded to the Income-tax Appellate Tribunal, Cochin Bench.