Ramanujam, J.
1. The assessee, at whose instance both the above cases have been referred to this court, is a partner in two firms, Messrs. Nityakalyana Abarna Maligai and C. Innasi Muthu Mudaliar and Sons, Madurai. He also carried on money-lending and jewellery business in his individual capacity under the name and style of 'Nityakalyani Stores' at No. 40, Sea Street, Colombo.
2. The premises of Nityakalyana Abarna Maligai, Madurai, was searched by the customs authorities in June, 1958, on suspicion that the assess-see was engaged in currency smuggling activities. Certain papers found in the premises were seized by the said authorities but no action was taken against him by the said authorities thereafter based on those papers. The Income-tax Officer, however, pursued the matter with a view to find out whether the assessee in fact carried on business in currency smuggling. The assessee was examined on January 12, 1959, by the Income-tax Officer in this regard. He denied having engaged himself in currency smuggling activities. However, subsequently, he gave a letter on October 25, 1959, to the Income-tax Officer stating, inter alia, that with a view to purchase peace he was prepared to be assessed on a sum of Rs. 1,000 or Rs. 1,500 on this account for each of the assessment years 1957-58 and 1958-59. This letter of the assessee war construed by the Income-tax Officer as an admission on his part that he was engaged in currency smuggling activities and he estimated the turnover of those activities at Rs. 3,00,000 each year, yielding a profit at 10 per cent. He, therefore, included in the income returned a sum of Rs. 30,000 as undisclosed income from these activities in the assessment for 1958-59.
3. The assessee had purchased a film called 'New Life' for Rs. 50,000. He thereafter entered into a partnership agreement with three persons onMarch 1, 1954, under the name and style of 'Nityakalyani Films' for the purpose of exploiting that picture. As per the terms of the said agreement, the other three partners paid Rs. 10,000 each towards the cost of the film. The assessee's books of account showed a sum of Rs. 20,000 as investment in the 'Nityakalyani Films'. There was another account styled 'the Nityakalyani Films Working Account' which showed the results of the working of the film. The film actually yielded only a sum of Rs. 5,925'86, the assessee's share therein being Rs. 2,370.35. A sum of Rs. 17,630, the difference between the sum of Rs. 20,000 contributed by the assessee for the purchase of the film and the sum of Rs. 2,370.35, the assessee's share in the receipts, had been written of as a trading loss in the miscellaneous expenses account of the assessee. But the Income-tax Officer took the view that the said sum represented the loss in investment and as such a capital loss which cannot be allowed.
4. The assessee preferred an appeal to the Appellate Assistant Commissioner against the said inclusion as also the disallowance of loss, and contended : (1) that there was no justification for the assumption of the Income-tax Officer that the assessee was carrying on business in currency smuggling ; (2) that the estimate of the Income-tax Officer of the extent of that business and the alleged profits derived by the assessee was quite arbitrary and excessive ; and (3) that the disallowance of his claim of Rs. 17,630 as trading loss was not justified. However, these contentions were negatived by the Appellate Assistant Commissioner who held that the evidence on record was sufficient to lead to the inference that the assessee must have had currency smuggling activities and that though the estimate of the income from this source at Rs. 30,000 made by the Income-tax Officer was justified, as additions have been made also on the basis of explained cash credits, the addition towards 'currency smuggling' should be restricted to Rs. 25,000, The Appellate Assistant Commissioner also upheld the disallowance of the assessee's claim for loss of Rs. 17,630.
5. There was a further appeal to the Income-tax Appellate Tribunal reiterating the same contentions as were urged before the Appellate Assistant Commissioner. The Tribunal took the view that the admission made by the assessee in his letter dated October 25, 1959, was sufficient to prove that the assessee had indulged in currency smuggling activities during the relevant period and that the estimate of the extent of the smuggling activities at Rs. 3,00,000 was justified. The Tribunal, however, felt that the profit rate at 10 per cent. adopted by the Income-tax Officer was too high and that a rate of 3 per cent alone could be justified. The Tribunal, therefore, restricted the addition towards currency smuggling at Rs. 10,000. On the question of the assessee's claim for loss, the Tribunal observed that, having regard to the circumstances of this case, the assessee might havebeen in a position to claim his share of the loss as a business loss but for the fact that he himself had treated his share of the purchase price of the film as an investment and, therefore, it should be taken to be the loss of investment or capital and, therefore, the claim of the assessee has rightly been disallowed.
6. Aggrieved against the decision of the Tribunal, the assessee has sought a reference to this court, and the following questions have been referred in T.C. No. 3 of 1968:
'I. Whether, on the facts and in the circumstances of the case, the addition of Rs. 10,000 as income of the assessee from currency smuggling business for the assessment year 1958-59 is justified
2. Whether, on the facts and in the circumstances of the case, the disallowance of the assessee's claim of loss of Rs. 17,630 is justified in law ?'
7. The Income-tax Officer, after completion of the assessment, had referred the assessee's case to the Inspecting Assistant Commissioner for penalty action being taken against him in respect of the following additions to the income returned by the assessee :
Rs. (1) Income from M/s. Shanmugam Ornaments Factory, carried on in the name of Srimathi Sorna-valli, second wife of the assessee, estimated in her individual assessment.
10,000(2) Income from currency smuggling30,000(3)Interest on unexplained credits which were treated as assessee's own money.1,229
8. In those proceedings it was contended as regards item (1) that a sum of Rs. 8,317 was actually found to belong to his wife, Sornavalli, in her assessment as against the estimated sum of Rs. 10,000 and, therefore, there is no justification for levying p3nalty for non-disclosure of the said estimated sum. As regards the second item the assessee contended that there was no justification for the inference of the Income-tax Officer that the assessee was carrying on currency smuggling activities and that, in any event, the estimate of the extent of the business and the profit derived therefrom was highly arbitrary and excessive. As records the third item the assessee contended that the Income-tax Officer was not justified in adding the said amount on the basis that it represented interest on credits which has been treated as his own money. But these contentions were rejected by the Inspecting Assistant Commissioner and he levied a penalty of Rs. 10,000 under Section 271(1)(c) of the Income-tax Act for concealing the said three items of income.
9. On appeal the Appellate Tribunal held that the penalty is clearly leviable in respect of the additions covered by items Nos. 1 and 3 above. The Tribunal said that the assessee having agreed that the amount referred to under item No. 1 can be included in his income, it should be taken that he deliberately furnished inaccurate particulars of his income. As regards item No. 3 the Tribunal said that the assessee has agreed to the addition of the cash credits amounting to Rs. 33,000 as well as to the disallowance of the interest thereon and that, therefore, it should be taken that the claim for interest was a false claim.
10. As regards item No. 2 the Tribunal took the view that, though there is no material on record to prove that the assessee had currency smuggling activities, the letter dated October 25, 1959, given by the assessee admitting liability in part cannot be completely ignored in considering the levy of penalty, that a careful reading of the letter showed that the assessee had earned some income from such activities, that the letter could be taken to establish the department's case that the assessee had earned some income from the said source, and that, therefore, he was guilty of concealment in respect of that income. The Tribunal, however, took the view that the assessee can be taken to have concealed only a sum of Rs. 1,500 on the basis of the said letter. In this view the Tribunal took the concealed income in respect of all the three items at Rs. 11,046 (Rs. 8,317 for item No. 1, Rs. 1,500 for item No. 2 and Rs. 1,229 for item No. 3) and directed the Inspecting Assistant Commissioner to work out the amount of penalty on the said basis.
11. At the instance of the assessee, the following questions have been referred to this court in T.C. No. 12 of 1968 :
'1. Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in law in holding that the assessee had concealed his income to the extent of Rs. 10,000 representing the income of Somavalli Ammal for the assessment year 1958-59
2. Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the assessee had concealed his income to the extent of Rs. 1,229 representing the interest on credits for the assessment year 1958-59
3. Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in law in holding that the assessee had concealed his income to the extent of Rs. 1,500 representing income from currency smuggling during the assessment year 1958-59 ?'
12. The learned counsel for the assessee contends that the Income-tax Officer is not justified in taking the letter dated October 25, 1959, given by the assessee as containing an admission that he had in fact indulged in currency smuggling activities and that in any event the estimate of theturnover of such business and the extent of the profits therefrom is highly conjectural and arbitrary. It is pointed out by the learned counsel that much imagination is required to sustain the estimate made by the Income-tax Officer in this regard and that the sum of Rs. 1,500 admitted by the assessee as income has not been calculated at the rate of half a per cent. as assumed by the Income-tax Officer in the place of ten per cent. which is considered to be reasonable. But, a perusal of the letter in question shows that the sum of Rs. 1,500 which he undertook to treat as his income from this source is based on the fact that the commission chargeable by persons dealing in such activities is from 1/4% to one per cent. The Income-tax Officer finds that it is quite normal for the persons engaged in such activities to charge 10 per cent. We cannot, therefore, say that the Income-tax Officer is not justified in estimating the income from the currency smuggling activities taking into account the current rate of commission in relation to these activities. The assessee having expressed his willingness for being assessed on a sum of Rs. 1,500 as income from the currency smuggling activities, the Income-tax Officer is entitled either to accept the said figure or make an estimate of such income on some rational basis. In this case, we are not in a position to say that the revenue is not justified in making an estimate and that the addition should be restricted only to the sum of Rs. 1,500 referred to in the letter. The first question in T.C. No. 3 of 1968 is, therefore, answered in the affirmative and against the assessee.
13. As regards the second question as to whether the assessee is entitled to claim a sum of Rs. 17,630 as trading loss, the learned counsel for the assessee refers to the following observations of the Tribunal:
'It is true that if the assessee had purchased the film and exploited it himself, the result of the transaction might have been a business loss. Or, if all the four persons had worked the venture as an association, the total cost price may have been deductible from the resultant profits and the assessee might have been in a position to claim his share of the loss as a business loss' and contends that the disallowance of the assessee's claim was only on the basis that as per the accounts maintained by the assessee the sum of Rs. 20,000 represented the assessee's capital investment in the partnership which had exploited the film 'New Life' and that, therefore, the loss in question should be taken to be loss of capital. The learned counsel urges that the revenue and the Tribunal are in error in not looking at the substance of the transaction, that the form in which the transaction has been recorded in the books of account of the assessee is not conclusive, that the film in question is the stock-in-trade of the assessee's business in films along with the other partners, that the said sum represents the loss 'in the value of the stock-in-trade and, that, therefore, it is admissible as trading loss. It is said that in the matter of taxation the manner andmethod of keeping accounts will not be conclusive or determinative, and that the question of taxability or otherwise will have to depend on the true nature of the transaction and the amount involved. The learned counsel referred to the circular of the Central Board of Revenue dated May 13, 1937, which directed that all films in the hands of the producer and of their purchasers should be treated as stock-in-trade and that a formula for amortization of the cost of production of a film at 60% in the first year, 25% in the second year and 15% in the third year may be taken as the basis subject, of course, to variation depending upon the merits of each case.
14. In Commissioner of Income-tax v. Modern Theatres Ltd., : [1963]50ITR548(Mad) Jagadisan and Srinivasan JJ. expressed the view that in the hands of a producer and distributor a cinema film is neither a fixed capital asset nor a circulating capital asset and that it partakes more of the character of stock-in-trade and that the amortization allowed by the circular of the Central Board of Revenue is not in the nature of depreciation allowance of capital. In Commissioner of Income-tax v. Mogul Line Ltd., : [1962]46ITR590(Bom) the Bombay High Court had expressed the view that the matter of taxability cannot be decided on the basis of the entries which the assessee may choose to make in his accounts but that has to be decided in accordance with the provisions of law and that even if an assessee had shown a particular item as a profit or loss in his accounts, it has to be seen whether the said item can be regarded either as a profit or loss under the provisions of the Income-tax Act to determine its taxability. In Commissioners of Inland Revenue v. Scottish Automobile and General Insurance Co. Ltd., [1931] 16 T.C. 380,it has been pointed out that:
' The way in which a particular trader keeps his books does not determine, or help much in determining, what is a capital profit and what is a revenue profit .... It is well settled, however, that in revenue cases one must look at the substance of the thing and not at the manner in which the account is stated.'
15. It is on the basis of the above decisions the learned counsel for the assessee contends that in whatever manner the assessee has shown the said sum of Rs. 20,000 utilised for the purchase of the film ' New Life ' it represents only the value of the film which is a stock-in-trade purchased by him, that, therefore, the loss in the value of the stock-in-trade is admissible as a trading loss, that merely because the assessee has shown the sum of Rs. 20,000 as having been invested in the partnership which exploited the film that cannot be taken as conclusive and that the Tribunal has proceeded to disallow the claim of the assessee only because the said sum has been shown in the accounts as an investment in the film. The learned counsel referred to the decision of the Supreme Court in B.D. Barucha v. Commissioner of Income-tax, in support of this plea that even if the assessee had joined with others in exploiting the film, the loss incurred in the course of the exploitation of the film can be taken only to be a trading loss. In that case the assessee advanced initially a sum of Rs. 40,000 to a film firm as a financier. Later, he entered into an agreement with the same firm under which he advanced a further sum of Rs. 60,000 in respect of the distribution, exploitation and exhibition of a picture called 'Shabab'. Till the date of the agreement the firm was to pay a sum of Rs. 1,750 by way of interest on the initial advance of Rs. 40,000, and, thereafter, no interest was to run either on the sum of Rs. 40,000 or on the further advance of Rs. 60,000 but in lieu of interest, the firm was to share with the assessee the profit and loss from the exhibition of the picture. The picture ultimately proved unsuccessful as a result of which the assessee suffered a loss of Rs. 80,759. The question arose as to whether the said loss is a loss of capital or a revenue loss. The Tribunal had taken the view that the true nature of the transaction was an investment of capital for a return in the shape of a share of profits and, therefore, the loss suffered by the assessee was a capital loss. But the Supreme Court held that the loss suffered by the assessee was not a loss of capital but a revenue loss as it was in respect of and incidental to the business which was carried on by the assessee in the relevant accounting year. The test laid down by the Supreme Court to be applied in such cases is this:
'To find out whether an expenditure is on the capital account or on revenue account, one must consider the expenditure in relation to the business. Since all payments reduce capital in the ultimate analysis, one is apt to consider a loss as amounting to a loss of capital. But it is not true of all losses because losses in the running of the business cannot be said to be of capital.'
16. The revenue would, however, contend per contra that the loss in the exploitation of the film will be a trading loss in the hands of the firm, that it will be a capital loss so far as the assessee is concerned and the way in which the assessee has shown the amount of Rs. 20,000 as an investment in the firm strongly supports the inference of the Tribunal that it is a capital loss. According to the revenue the stock valuation cases in Gemini Pictures Circuit Ltd. v. Commissioner of Income-tax, : [1958]33ITR547(Mad) and Commissioner of Income-tax v. Modern Theatres Ltd. are not relevant for the purpose of this case where the assessee himself has shown his share of the purchase price of the film as an investment in that firm.
17. We are, however, of the view that whatever be the manner and the method of treatment of the sum of Rs. 20,000 utilised for the purchase of the film by the assessee in his books of account, the true character of the transaction cannot be lost sight of or ignored for the purpose of ascertaining the tax liability under the statute. If really the assessee has utilised the sum of Rs. 20,000 as his share of the purchase price of the film and has actually suffered loss in exploiting the said film, it will definitely amount to a loss in the film business. The fact that the assessee has shown the amount of Rs. 20,000 as capital invested in the firm will not make much difference, for it is not in dispute that the firm has been constituted only ' for the purpose of exploitation of the said film and that is the only solitary venture. It is also not in dispute that there is no separate assessment on the firm, and that the firm being a foreign firm it is not assessable. Further, on the facts of this case it could be taken that the film in question is a joint purchase by the assessee along with others and his share of the loss in the exploitation of the film by him along with others can be taken to be a loss suffered by him in the film business. As a matter of fact the Tribunal itself proceeds on the basis that but for the assessee showing the sum of Rs. 20,000 in his accounts as an investment made in the firm he would be entitled to sustain the claim in question. As we are of the view that the assessee's treatment of the sum of Rs. 20,000 in his books of account as an investment is immaterial an inconclusive, the loss claimed by the assessee has to be allowed as a business or trading loss, as admittedly the assessee has suffered loss in the exploitation of the film.
18. The learned counsel for the revenue seeks to rely on a judgment of this court in T, C. No. 35 of 1967, Commissioner of Income-tax v. Coimbatore Pictures Private Ltd., : [1973]90ITR452(Mad) in support of his contention that the loss in question is a capital loss. In that case an assessee, who is a distributor, had advanced various sums to a producer amounting to Rs. 31,567 up to June, 1956, for getting a distribution agreement in respect of the film. The distributor's share of total collections up to 30th June, 1961 came to Rs. 21,110 which left a balance of Rs. 10,457 as a bad debt. The Income-tax Officer rejected the claim, but the Appellate Assistant Commissioner allowed the same. The Tribunal held that the assessee was entitled to the claim made as he has shown that Rs. 10,457 became irrecoverable in the year of account and that it was a business loss. When the matter came to this court, this court held that the sum of Rs. 10,457 cannot be treated as a revenue loss for the said amount was paid for the purpose of ensuring the contract which is the very source of the assessee's business, that the advance is de hors the distribution agreement that the return of the money is not dependent on the performance or non-performance of the agreement, thatthe advance is some sort of a temporary investment necessary for keeping a business of distribution and, that, therefore, it was in the nature of an investment of capital and the loss suffered by the assessee is, therefore, a capital loss. The court has said :
'In order to entitled to be a deduction on the ground of business loss, the loss should not only have been incurred in the course of the business but it should also be in the nature of a revenue loss. In our view, the facts of the present case do not show that the advances made to the producer are in the nature of a business or trading expense.'
19. In that case it was held that the advances made are independent of the actual trading activity, that is the exhibition of film, and, therefore, the advances which have become irrecoverable cannot be treated as business or trading loss. In this case it is not possible to say that the sum of Rs. 20,000 utilised for the purchase of the exhibition rights in the film is independent of the assessee's activity as an exhibitor of the film and that the utilisation of Rs. 20,000 for the purchase of the distribution rights in the film is independent of the trading activity in question. It is, therefore, clear that the assessee is entitled to claim the said sum as a business loss. The second question in T.C. No. 3 of 1968 is, therefore, answered in the negative and in favour of the assessee.
20. All the questions referred in T.C. No. 12 of 1968 relate to the penalty proceedings initiated against the assessee for concealment of certain particulars of income and as already stated the concealed items are three in number. The assessee has, right from the beginning, disputed the addition made by the Income-tax Officer in relation to these three items. One of the items of addition relates to the amount said to belong to the assessee's second wife Sornavalli. This item was taken to be concealed income of the assessee by the Income-tax Officer. But the assessee questioned the addition made by the Income-tax Officer by filing an appeal before the Appellate Assistant Commissioner and at the stage of the appeal he did not press his appeal in regard to this item. Apart from the fact that the assessing officer disbelieved the assessee's case there is no material to show that the amount did in fact belonged to the assessee. Therefore, the assessment of this item is based only on the fact that the assessee's explanation was not found acceptable. The mere fact that the assessee has given up his case in relation to this item at the appellate stage will not show that there was in fact concealment of this item. Therefore, in our view there is no justification for the levy of penalty in respect of this item.
21. For the same reasons item 3 amounting to Rs. 1,229 relating to interest on unexplained credits depends not on any concrete material showing that the assessee has made a false claim for deduction of interest but on the fact that the Income-tax Officer has not accepted the explanation given by theassessee as regard the credits found in the account. Even the item relating to income from currency smuggling, it is seen that the assessment is based only on the assessee's willingness to be assessed on a sum of Rs. 1,500. Though the assessee's willingness was to have a sum of Rs. 1,500 assessed as income from that source with a view to buy peace with the department, the Income-tax Officer proceeded to make an' estimate on the basis of the letter of the assessee dated October 25, 1959. Though we have sustained the estimate made by the Income-tax Officer on the basis of the letter given by the assessee, we cannot take the letter as the basis for the levy of penalty, for the letter nowhere contains an admission on the part of the assessee that he indulged in currency smuggling activities. There is no other material to show that the assessee was involved in currency smuggling activities and derived income which he had suppressed. In the special facts and circumstances of this case, we are clearly of the view that the penalty levied cannot at all be sustained. All the questions referred in T.C. No. 12 of 1968 are, therefore, answered in the negative and is favour of the assessee. The assessee will have his costs in T.C. No. 12 of 1968 alone. Counsel's fee Rs. 250. There will be no order as to costs in the other case.