Judgment:
Ajit K. Sengupta, J.
1. Pursuant to the directions of this court under Section 256(2) of the Income-tax Act, 1961, the Tribunal has referred the following questions of law relating to the assessment years 1964-65 and 1965-66 :
'1. Whether, on the facts and in the circumstances of the case and on a proper construction of the agreements dated June 28, 1963, and November 22, 1963, the Tribunal was right in holding that there was no transfer of any capital asset by the assessee and there could consequently be no question of any capital gains arising to the assessee for the purpose of liability ensuing under Section 45 of the Income-tax Act, 1961
2. Whether, on the facts and in the circumstances of the case, the Tribunal was right in cancelling the order of the Additional Commissioner under Section 263 of the Income-tax Act, 1961, and restoring the assessment order of the Income-tax Officer for the assessment year 1964-65 ?'
2. Shortly stated, the facts are that the assessee is a company which is a 'non-resident'. The 'previous year' is the financial year preceding the relevant assessment year. The assessee is a member of the Iscon Consortium. The consortium had taken contracts for construction work from M/s. Hindusthan Steel Ltd. Apart from the contracts given to the Consortium, the assessee, in its individual capacity, was given contracts by the Hindusthan Steel Ltd. in their 1.6 million ' expansion ' programme. In the appeals before the Tribunal, the only contracts which fell for consideration, whether given by the Hindusthan Steel or others, were those awarded to the assessee in its individual capacity. The accounts of the assessee are, made up on completed contract basis and thus the income resulting from completed contracts alone was offered for assessment in each year. Most of the contracts undertaken by the assessee had a rupee portion and a sterling portion. The method of computing the income in respect of completed contracts, as adopted by the Income-tax Officer in respect of the rupee portion, was to deduct from the rupee portion, the prime cost which gave the gross profit, and thereafter, the rupee overheads, which gave the net profit or loss. Regarding the sterling portion of the contract, 20 per cent. of the sterling profits was estimated to accrue in the taxable territories and was included in the total income.
3. For the assessment year 1964-65, the assessment was made on a total income of Rs. 13,75,757, of which Rs. 13,05,258 was income from 'business ', Rs. 15,001 income from 'other source ' (technical service fees, etc.) and Rs. 55,498 represented ' capital gains ',
4. For the assessment year 1965-66, the total income was assessed at Rs. 2,04,447 which represented ' capital gains'. There was also a loss from business of Rs. 1,31,391 set off against the profit of Rs. 3,88,717 on saleof assets. The assessment order mentions that, during the previous year, the assessee transferred most of its assets to a rupee company, Simon Carves India Ltd. Briefly put, the total income of the assessee represented ' capital gains'.
5. The transfer was effected for a consideration of Rs. 35 lakhs and after discussions with the Controller of Capital Issues. The application to the Controller of Capital Issues was made on September 12, 1962. The Indian company was incorporated on February 11, 1963. There was an agreement dated June 28, 1963, between the assessee and the Indian company for the sale of goodwill along with land, buildings, machinery, etc., and the sale was to be completed by December 31, 1963. According to the agreement, the sale price fixed was Rs. 36,95,553. The agreement was stated to be provisional, being subject to the approval of the appropriate authorities for the issue and allotment of shares. After discussions with the Controller of Capital Issues, the consideration was fixed at Rs. 35 lakhs and the Government's consent was conveyed by the Controller's letter dated August 14, 1963. On November 22, 1963, a supplemental agreement was entered into between the assessee and the Indian company whereby the sale price was fixed at Rs. 35 lakhs and the time for completion of sale was extended up to March 31, 1964, unless extended by mutual consent. The relevant clauses of the two agreements have been set out in paragraph 6 of the Tribunal's order. Clauses 1 to 5 and Clause 15 of the agreement dated June 28, 1963, read as under :
(The term ' vendor' refers to the assessee and the term 'company' to the Indian company)
' 1. The vendor shall sell and the company shall purchase the goodwill of the said business of the vendor in India with the right to use the name of Simon-Carves as part of the name of the company and represent the company as carrying on such business in continuation of the vendor's business in India and in succession thereto and all trade marks and patent rights connected therewith.
2. Notwithstanding anything contained in Clause 1 above the vendor shall be entitled to carry out and complete all pending contracts, engagements and orders in India in the name of the vendor and on its account and to retain all benefits in connection therewith subject however to the payment and discharge of all liabilities in connection therewith.
3. It is hereby declared to be the intention of the parties that all contracts to be performed in India in the future will be taken by in the name of and carried out and performed on account of the company andit is also agreed that if there are any contracts to be performed in India which may not suitably be taken up in the name of the company and which the parties consider to their mutual interests should be taken up in the name of the vendor, such contracts may with the consent of the parties be taken up in the name of the vendor provided that the vendor (where permitted) enters into a sub-contract with the company for carrying out and performing that part of such sub-contract as may be suitably performed by the company.
4. The vendor shall sell and the company shall purchase all the right, title and interest of the vendor in the land, hereditaments and premises specified in the schedule hereto and all the plant, machinery, office furniture, licences, motor andother vehicles, stock-in-trade implements and utensils, particulars of which are set out in a separate list or statement signed by the parties hereto at or before the execution hereof.
5. The consideration for the said sale shall be the sum of rupees thirty-seven lakhs ninety-five thousand five hundred and fifty-three, out of which rupees thirty lakhs shall be satisfied by the allotment to the vendor or its nominees of three lakhs fully paid equity shares of rupees ten each in the capital of the company and the balance of rupees seven lakhs ninety-five thousand five hundred and fifty-three shall be satisfied by an on demand promissory note to be given by the company to the vendor carrying interest at the rate of three per cent per annum.
15. This agreement is provisional only and is not to become absolute unless and until the company has obtained the necessary sanction for the issue and allotment of shares and security from the appropriate authorities in India in terms of clause 5 of this agreement or on such other terms and conditions as may be prescribed by such authorities and/or agreed to by the parties hereto.'
6. By the supplemental agreement of November 22, 1975, Clause 5 was replaced by the following clause :
' 5(1). The consideration for the said sale shall be the sum of Rs. 35,00,000 (rupees thirty-five lakhs only) detailed as below :
Rs.(a)Leasehold land and building13,95,650(b)Furniture 1,68,438(c)Equipment17,33,465(d)Goodwill 2,04,447
35,00,000
5(2). The said sum of Rs. 35,00,000 (rupees thirty-five lakhs only) shall be satisfied by the allotment by the company to the vendor or its nominees of 3,50,000 (three lakhs fifty thousand only) fully paid equity shares of Rs. 10 (rupees ten only) each in the capital of the company.'
7. The amount of goodwill of Rs. 2,04,447 as mentioned already was assessed by the Income-tax Officer as capital gains for the assessment year 1965-66 and he had also considered, in making the assessment, a profit of Rs. 3,88,717 on the transfer of the other assets.
8. The Additional Commissioner reviewed the assessment orders and he was of the view that they were prejudicial to the Revenue. He considered eight contracts particulars of which have been set out in paragraph 7 of the Tribunal's order. The Additional Commissioner mentioned that, in respect of these eight contracts, which were completed subsequently, there was a profit of Rs. 48,34,717 on contract receipts of Rs. 4,71,02,420. The entire profits, it was stated, was accounted for only by the Indian company and not by the assessee. It was stated in the order under Section 263 that it was never the assessee's case that the contracts were not profitable and that was why they were given by the assessee to the Indian company on sub-contract without taking any profit. According to the interpretation placed by the Additional Commissioner on the terms of Clause 2 of the agreement, the assessee was entitled to complete the eight contracts which, according to the Additional Commissioner, were pending contracts and retain all benefits thereunder, and were not profitable and that was why they were given by the assessee to the Indian company on sub-contract without taking any profit. It was thereafter held by the Additional Commissioner that the consideration of Rs. 35 lakhs would cover only the advantages obtained by the Indian company in terms of Clause 3, but would not cover the eight contracts referred to for which no consideration had passed. The plea of the assessee that the contracts were stock-in-trade was not accepted. The contention that, by giving out sub-contracts, there was no 'transfer' of any 'capital asset' because the assessee was still fully responsible for executing the contracts did not also find favour with the Additional Commissioner. It was finally held by the Additional Commissioner that, by relinquishing the right to benefits under the pending contracts and entering into sub-contracts without the assessee receiving any consideration, and the Indian company, on the other hand, receiving the full contract price, resulted in the extinguishment of the assessee's right in relation to capital assets, i.e., extinguishment of the assessee's right to obtain the benefits relating to the principal contracts. The Additional Commissionerconcluded that a consideration of the facts clearly indicated that the transaction between the assessee and the Indian company in respect of the eight contracts was of such a nature as to attract capital gains and as the assessee did not take any consideration, the provisions of Section 52(1) or (2) of the Income-tax Act, 1961, were applicable. As some of the contracts were entered into in the accounting period relevant to the assessment year 1964-65 and others in the accounting period relevant to the assessment year 1965-66, the assessments for both years were cancelled and were directed to be made afresh in the manner referred to.
9. The assessee appealed to the Tribunal and submitted that no capital gains arose out of the transactions. Even if any capital gains could be envisaged as arising, it was submitted that the question of the assessee entering into transactions with the intention of avoiding capital gains was never there and the provisions of Section 52(1) or 52(2) were not applicable on the facts of the case.
10. On behalf of the Department, it was submitted that the contracts in question, or even for that matter the right to perform the contracts was a 'capital asset' within the meaning of Section 2(14) of the Income-tax Act, 1961, and there was a 'transfer' of such assets within the meaning of Section 2(47) and as no consideration was taken by the assessee, there was already avoidance of capital gains and the provisions of Sections 52(1) and 52(2) applied and, therefore, the Additional Commissioner was justified in cancelling the order of assessment.
11. The Tribunal examined the legal aspects and held that, in the abstract, the right to perform a contract may fall within the definition of 'capital asset' and, in appropriate circumstances, the extinguishment of such a right may fall to be regarded as a ' transfer'. The Tribunal, however, made it clear that acceptance of the legal principle did not imply that there was 'transfer' of any 'capital asset' under the terms of the contract in the present case or any assumption that the provisions of Section 52(1) or 52(2) applied.
12. The Tribunal also proceeded to examine whether it could be said that the provisions of Section 52(1) or 52(2) were applicable. The Tribunal held that there is nothing to suggest that the transfer was made with the object of avoidance or reduction of the liability of the assessee to pay proper tax on the capital gains.
13. The Tribunal then considered whether any dates were available to show that the market value on the date of transfer (assuming it to be so)was such as to bring the transactions within the mischief of Section 52(2). The Tribunal held that the assignment of the contract work to the Indian company did not constitute any transfer of the right under the contract work, but merely amounted to a sub-contract, the assessee, however, undertaking the liability for the performance of the contract with the Hindusthan Steel Ltd.
14. Before us, the contentions urged before the Tribunal have been reiterated. We have considered the rival contentions. These contentions have to be considered in the light of the finding of the Tribunal. Contract No. C 5 was in respect of the Durgapur Power Plant and had been entered into between the assessee and the Hindusthan Steel Ltd. Total contract price was the equivalent of Rs. 1,93,37,044. The break-up of the same was as under :
Rs.(i)Plant and equipment 720,72948,35,623(ii)Civil engineering 9,70215,38,375(iii)Erection 30,86,338(iv)Commission
1,37,628
730,431
95,97,964
15. There was, thus, a rupee portion and a sterling portion for this contract. The value of the rupee portion of Rs. 95,97,964 was later varied to Rs. 1,03,03,374.41 as is evident from the details filed with reference to the contract price register. This is the amount referred to in the order of the Additional Commissioner (items Nos. 11(3) and V(3) in paragraph 7).
16. By a letter dated September 3, 1963, the assessee wrote to the Indian company that they intended to sub-let the entire Indian portion of the order to the Indian company, and the sub-contract would be subject to all the terms and conditions in the order received from the Hindusthan Steel Ltd. in so far as was applicable to the rupee portion. Pending issue of the formal sub-contract, the Indian company was requested to treat the letter as a letter of intent. On October 7, 1963, the assessee wrote to the Controller of Purchases and Stores, the Hindusthan Steel Ltd. seeking for specific approval of their proposal to sub-contract to the Indian company, the Indian portion of work with a view to facilitating speedy and efficient execution of the above contract. The letter also referred to the Indian company stationing sufficient experts for the work, and that the assessee in consideration for the work done would pay the Indian company the full contract price of the rupee portion. It was also clarified that regardless of the sub-contract, the assessee undertook the full responsibility for the execution of the entire contract work. The letter also set out details of incorporation, etc., of the Indian company, forwarded copies of its articles and memorandum of association, and further stated that the assessee was to hold 60 per cent. of the equity share capital of the Indian company. The Hindusthan Steel Ltd. replied, vide its letter of November 2, 1963, that they had no objection to the proposed sub-contract. The letter, thereafter, stated :
' However, notwithstanding the permission to sublet the contract, you will be held fully responsible for the proper execution of the entire contract in accordance with the terms and conditions agreed upon by yourselves and Hindusthan Steel Ltd. The performance by the sub-contractor shall be entirely at your risk and responsibility and we will not deal directly with your sub-contractor.'
17. The assessee, by letter dated December 27, 1963, placed a firm order with the Indian company for executing the work relating to the rupee portion and in consideration agreed to pay them Rs. 95,97,964 (this was the price before the variation ). Payments were made in due course to the assessee by the Hindusthan Steel Ltd. who effected payments to the Indian company. The contract, it appears, was finally completed in 1968.
18. It was found that the assessee had in June 1963, 299 employees in India. In March, 1965, the employees were only 5 and in March, 1966, there was only one employee. If the rupee portion of the contract had to be executed by the assessee themselves, it is clear, they could not have achieved it with the dwindling number of its own employees. As the assessee-com-pany ceased to maintain a large number of staff in India, the facts bear out the assertion of the assessee that the rupee portion of the contract had to be sublet for facilitating the speedy execution of the work. Apart from this, even though the rupee portion of the contract was sublet, the assessee had clearly stated to the Hindusthan Steel Ltd. that the assessee would still be responsible for the proper implementation of the contract. The Hindusthan Steel Ltd. had also made it clear that the assessee alone would be fully responsible for honouring the contract and they would not deal directly with the sub-contractor. The liability of the assessee to perform the full contract, therefore, did not abate, notwithstanding the rupee portion having been given on sub-contract to the Indian company.
19. On the aforesaid facts, the Tribunal, in our view, was justified in holding that, in the present case, there was no transfer by the assessee tothe Indian company of the contract. There was also no transfer by the assessee to the Indian company of the right to perform any of the contracts. There was, thus, no 'transfer' of any 'capital asset' and there could consequently be no question of any capital gains arising to the assessee and liability ensuing under the provisions of Section 45 of the Income-tax Act, 1961. All that has happened is that a portion of the contract, i.e., the rupee portion, was got done by the assessee through the Indian company, for which they passed on to the Indian company the remuneration received from the Hindusthan Steel Ltd. without retaining, at that stage, any portion thereof for themselves.
20. It may also be mentioned that it is not as if any benefit eventually' came to the assessee out of the revenue profits made by the Indian company. All the eight contracts were completed only subsequent to December 31, 1963. The Indian company was incorporated on December 11, 1963. As on December 31, 1963, the assessee did not hold any shares, but on December 31, 1964, the shareholding was 86.03 per cent. and on December 31, 1965, and December 31, 1966, was 78.31 per cent. In the latter two years, out of dividends declared by the Indian company in each year of Rs. 4,20,000, Rs. 3,28,888 in each year fell to the assessee's share.
21. In our view, the assignment of the contract work to the Indian company did not constitute any transfer of the right under the contract work, but merely amounted to a sub-contract, the assessee, however, undertaking the liability for the performance of the contract with the Hindusthan Steel Ltd. Where the principal contractor appoints a sub-contractor to perform the contract work and continuing to bear the liability under the contract to the contractee, it cannot be said that there is any transfer of the right under the contract. It is a pure case of appointment of a sub-contractor for performance of the contract. That being the case, we have to hold that the Tribunal rightly came to the conclusion that there was no transfer of any capital asset by the assessee by assigning the contract job to the Indian company.
22. The Tribunal was fair enough to go into the question of the applicability of Section 52(1) or 52(2) in the case, even after holding that on facts there was no transfer in the case so as to attract Section 45. Yet. the Tribunal has recorded elaborate discussion as to whether, on the hypothesis that Section 45 was attracted, Section 52(1) or 52(2) could operate on the facts and in the circumstances of the case. We are in agreement with the Tribunal's ultimate conclusion that, even on the assumption of a transferhaving taken place, there was no scope of either Section 52(1) or Section 52(2) coming into operation.
23. The prospectus of the Indian company referred to reasons of restrictions by international monetary capital regulations or the nature of technical skill or performance guarantees involved, or other similar reasons, as the objects for which the assessee would give sub-contracts to the Indian company. The assessee in its letter dated October 7, 1963, to the Hindusthan Steel Ltd. sought permission to sublet the rupee portion of the contract with a view to facilitating speedy and efficient execution of the contract. On the facts, there is not the remotest suggestion of a colourable transfer effected with the ulterior objective of avoiding tax or reduction of tax liability. On the contract as the holding company of the Indian company, the assessee derived large amount of dividend income and suffered tax under the arrangement. Thus, the question of operation of Section 52(1) is ruled out.
24. As for the applicability of Section 52(2), the Revenue has not brought an iota of evidence to show that the consideration that actually passed was more than the amount accounted for as the consideration or, in other words, the consideration declared is less than the consideration that actually passed.
25. Merely because some contracts on finalisation several years later may have actually resulted in profits, or even substantial profits at that, it does not follow that the contracts or the right to perform the contracts were, in fact, freely transferable, and if freely transferable that the market value would have been high and a high price realised and that there would have been a surplus, if costs of securing the contract (this would include various items such as, cost of drawings, etc.) were deducted. The market value in such a case would be dependent on several factors. These would include, to detail only a few, the extent to which the contracts, or rights therein, were capable of being freely transferred, the number of contracts possessing the necessary financial resources, expertise and above all spare capacity to take on works of the magnitude and complex technical features involved, etc. Thus, the conditions precedent not having been satisfied, the question of invoking the provisions of Section 52(2) could not arise.
26. Accordingly, we hold that there is no transfer involved, leave alone the question of operation of Section 52(1) or 52(2). Even otherwise, in the light of the decision of the Supreme Court in K. P. Varghese v. ITO reported in : [1981]131ITR597(SC) , the Tribunal rightly cancelled the order of theCommissioner under Section 263 and restored the order of the Assessing Officer.
27. We, therefore, answer both the questions in this reference in the affirmative and against the Revenue.
28. There will be no order as to costs.
ShyamalKumarSen, J.
29.I agree.