Judgment:
Suhas Chandra Sen, J.
1. The Tribunal has referred the following question of law to this court for its opinion under Section 256(1) of the Income-tax Act, 1961 :
'Whether, on the facts and in the circumstances of the case, and on a proper interpretation of the agreement dated December 25, 1965, the Tribunal was correct in holding that the entire amount of Rs. 2,25,000 and not merely the sum of Rs. 18,265 actually incurred by the assessee towards expenditure on account of publicity during the previous year relevant to the assessment year 1968-69, constituted an allowable deduction in making the assessment for the said year ?'
2. The case relates to the assessment year 1968-69 for which the relevant previous year ended on June 30, 1967. The dispute is with regard to computation of profit from the film 'Phool aur Patthar'.
3. The assessee is a distributor of films. It entered into an agreement with M/s. Ralhan Productions for distribution of the film 'Phool aur Patthar' in what is known in the cinema circle as the Bengal Circuit for a period of ten years. The agreement was entered into on December 25, 1965, and the terms and conditions were, inter alia :
'2. In consideration of the appointment of the distributors for the aforesaid picture 'Phool aur Patthar' for the contracted territory, the distributors hereby agree to pay to the producers a sum of Rs. 5,50,000 (Rupees five lakhs and fifty thousand only) as and by way of minimum guarantee for the said territory in the following manner :
Rs. (a)50,000on signing of this agreement(b)50,000on or before January 31, 1965(c)50,000on or before February 28, 1966(d)25,000against delivery of publicity materials as per clause No. 8.(e)3,75,000
against delivery of 16 (sixteen) brand new censored positive prints of 35 mm in colour of thesaid picture. It is further mutually agreed that the producers shall bear the fullexcise levy on all the 16 quota prints. 5,50,000
3. The distributors will accept the delivery of 16 positive censored brand new prints against payment as aforesaid within a month of notice from the producers to the distributors. The producers agree to deliver to the distributors the positive prints duly censored not later than June 30, 1966, or within 60 days of censor, whichever is earlier.
4. In case the producers fail to complete and get the picture censored before June 30, 1966, then the producers agree to show to the distributors the picture so far completed and after viewing the same, if satisfied, the distributors will grant two months' maximum extension, i.e., till August 31, 1966. Thereafter, the distributors will have the option whether to take the said picture or not. The above extension will be granted only in case the distributors are satisfied after viewing the said picture that the picture has been delayed for reasons beyond the control of the producers. In case the distributors decide to leave the picture, the producers will refund forthwith all the moneys paid by the distributors to the producers plus all the publicity expenses incurred by the distributors. The producers undertake not to release the picture directly or indirectly in the contracted territory unless the full amount due to the distributors is paid.
5. The producers sanction a sum of Rs. 2,25,000 (Rupees two lakhs and twenty-five thousand) only towards pre-release, release and post-release publicity and theatre decoration for the said picture in the contracted territory. The distributors shall not be required to submit detailed account of the expenses incurred for the publicity. The distributors will, however, submit a statement of publicity expenses in course of time which will be final and binding on the producers.
6. That in consideration of the distributors paying the sum of Rs. 5,50,000 to the producers and further spending Rs. 2,25,000 for publicity for the said picture in the said territory and further exploiting the said picture in the circuit, the producers have agreed to allow the distributors commission of lump sum amount of Rs. 3,20,000 (Rupees three lakhs and twenty thousand) only. It is specifically made clear that this commission shall only become payable to the distributors after recoupment of the M.G. amount plus Rs. 2,25,000 and the distributors shall not be entitled to adjust the commission allowed to them under this clause.
7. That it is hereby agreed by the producers and distributors that the proceeds of the said picture in the contracted territory shall be reimbursed as under after recouping the M. G. amount of Rs. 5,50,000 and the publicity amount of Rs. 2,25,000.
(a) Towards the recoupment of Rs. 3,20,000 being the fixed commission payable by the producers to the distributors on the minimum guarantee amount and the pre-release, release and post-release publicity.
(b) Towards the recoupment of the cost of extra prints out of gross realisation of the said picture to the extent that the distributors shall not charge commission on such recoupment.
(c) Towards recoupment of extra publicity expenses if allowed in writing by the producers out of the gross realisation of the said picture to the extent that the distributors will not charge commission on such recoupment.
(d) After recoupment of the amounts mentioned in Sub-clauses (a), (b) and (c), further realisation of the said picture will be utilised by the distributors in the following manner : i.e., 50% (fifty per cent.) of such realisations will be retained by the distributors by way of commission and the balance 50% (fifty per cent.) shall be paid to the producers as their share in the realisations of the said picture. The amounts of such share shall be in trust with the distributors for payment to the producers on or before 20th of the following month.
8. The producers shall deliver to the distributors one month before the delivery of the prints, the following publicity materials of the said picture free of cost :
5,000 posters of multi-colour in 20 x 30 and 30 x 40 sizes
2,000 booklets
32 coloured photosets each consisting of 20 photos
16 sets of showcards each consisting of 6 showcards
16 sets of enlargements each consisting of 6 enlargements
80 blocks
300 loose stills (300)
48 slides
16 paper censor certificates and trailers, if prepared to be given at cost price......
25. That the distributors shall make the payments to the producers regularly on the due dates as mentioned in Clause No. 2 hereinabove by cash or bank drafts on any Bombay bank.
26. The cost and credits of the picture shall remain the same as mentioned above and in case of any change in the name of the producers and in case of any change in the artistes as mentioned above, the distributors shall have the option of cancelling the contract and the producers agree to repay all the amounts received by them from the distributors forthwith in case the distributors exercise the option of cancellation. The distributors shall make the producers bound for all the moneys advanced by the distributors on account of the said picture, and all the terms and conditions of this agreement to be observed by the producers.
27. The distributors shall enter into separate booking contracts for the said picture with the exhibitors and copies thereof will immediately be sent to the producers. It is agreed that the distributors shall not give the picture on 'A' grade stations on fixed hire without the written consent of the producers.
28. That the distributors shall submit to the producers a monthly business statement along with the copies of hire bills, contracts and collection reports with the monthly accounts of the publicity charges as of the previous months on or before the 20th of every month. The distributors shall also remit to the producers their share of income mentioned above along with the business statements.'
4. It was also agreed that the producer will be entitled to terminate the agreement upon one month's notice to the distributor if the distributor committed any breach in the matter of payment of the share of the producer, or of any other term of the agreement. It was also agreed that after the period of agency of ten years, the distributor would not be entitled to distribute the picture any more.
5. In its return of income for the assessment year 1968-69, the assessee disclosed a profit of Rs. 1,07,177. The assessee claimed a sum of Rs. 2,25,000 as deductible on the ground that it was liable to spend the amount as publicity expenses of the film 'Phool aur Patthar' under the agreement dated December 25, 1965. The Income-tax Officer, however, allowed only a sum of Rs. 18,000 on account of publicity because he found that a sum of only Rs. 18,000 approximately was actually spent for publicity. The assessee appealed to the Appellate Assistant Commissioner, It claimed that the assessee followed the mercantile system of accounting. The profit could only be computed after deduction of the minimum guarantee of Rs. 5,50,000 and the publicity expenditure of Rs. 2,25,000. The Appellate Assistant Commissioner, however, held that the full amount of Rs. 2,25,000 sanctioned as publicity expenditure by the producer could not be allowed during the year under appeal inasmuch as the actual expenditure was only of Rs. 18,265.
6. The assessee appealed to the Tribunal and argued that under the agreement, the entire amount of Rs. 2,25,000 had to be spent for publicity of the picture over a period of ten years. It was argued that the assessee would be entitled to commission only after it had paid the sum of Rs. 5,50,000 being the minimum amount of guarantee and also a further amount of Rs. 2,25,000 on account of publicity to the producer under the agreement. The question of sharing of the surplus profits could only arise after providing for the above amounts and after meeting the expenditure of printing the picture and after providing for the commission of Rs. 3,20,000 payable to the assessee. It was submitted that the assessee was lucky to have recouped all the amounts during the year under appeal and a surplus of Rs. 1,76,864 was shared by the assessee and the producer.
7. The Tribunal, on a review of the facts, held, following the decision of the Supreme Court in the case of Calcutta Co. Ltd. v. CIT : [1959]37ITR1(SC) , that 'profits and gains' must be understood in a commercial sense and there could be no computation of profits until the expenditure necessary for the purpose of earning the receipts was deducted therefrom. If the liability had accrued in respect of the expenditure in the relevant year of account, the amount had to be allowed as deduction even though the liability had to be discharged at some future date. The Tribunal held : 'We, therefore, hold that the assessee was entitled to deduct the entire amount of Rs. 2,25,000 as part of the cost of the picture before its profit from the venture could be computed. The Department will, of course, be free to withdraw the reliefs allowed to the assessee in the subsequent years in accordance with the relevant provisions of the Act.'
8. At the instance of the Commissioner, the question of law set out earlier in this judgment has been referred to this court by the Tribunal.
9. It has been contended by Dr. Pal that the assessee was following the mercantile system of accounting and the liability of the assessee to spend the entire amount of Rs. 2,25,000 arose as soon as the assessee entered into the agreement with the producer. Under the agreement, the assessee was clearly under an obligation to spend the sum of Rs. 2,25,000 as pre-release, release and post-release publicity and theatre decoration and as such, the Tribunal was right in holding that the assessee was entitled to deduct the amount of Rs. 2,25,000 in the computation of its total income in the assessment year 1968-69.
10. In my judgment, this argument is entirely without any merit. In this reference, we are concerned with the assessment year 1968-69 for which the relevant year of account is July 1, 1966, to June 30,1967. The agreement was signed on December 25, 1965, which falls within the previous year ended on June 30, 1966. If the contention of the assessee is to be accepted that a definite ascertained liability in respect of the sum of Rs. 2,25,000 was incurred by the assessee as soon as the agreement was entered into, then logically, it must be held that this amount would qualify for deduction, if at all, on accrual basis in the assessment for the assessment year 1967-68 and not in the assessment year 1968-69 for which the relevant previous year ended on June 30, 1967.
11. It is difficult to comprehend how the assessee can claim the entire amount of Rs. 2,25,000 as deduction in the computation of its income for the period July 1, 1966, to June 30, 1967, on the ground that its accounts were kept on mercantile basis. If a definite and ascertained liability in respect of the sum of Rs. 2,25,000 came into existence as soon as the agreement was signed on December 25, 1965, then that amount should have been claimed as deduction in that year of account, that is the accounting period July 1, 1965, to June 30, 1966.
12. There is no dispute that the film 'Phool aur Patthar' was released within the period, July 1, 1966, to June 30, 1967. The assessee under the agreement was under an obligation to spend in all a sum of Rs. 2,25,000 on account of publicity before the release of the film, at the time of the release of the film and also over a period of ten years after the release of the film. The film was likely to be exhibited in various parts of the country. The Income-tax Officer allowed a deduction of Rs. 18,265 being the expenditure actually incurred by the assessee on account of publicity during the relevant previous year. In order to claim the entire amount of Rs. 2,25,000 as deduction, the assessee must establish that a definite ascertained liability in respect of this amount came into existence in the relevant year of account. The contract was to run for a period of ten years. It is not the case of the assessee that he placed orders with newspapers or other publicity agents and thereby became liable to spend the amount of Rs. 2,25,000 as soon as the film was released.
13. The contract is for commercial exploitation of a film belonging to the producer. The assessee has agreed to distribute the film on the terms and conditions set out in the contract. One of the conditions is that the assessee will be responsible for publicity of the film and will spend at least Rs. 2,25,000 on that account before, at the time of and after the release of the film. The producer will, under the contract, be bound to deliver to the assessee free of cost various publicity materials like multi-colour posters, booklets, coloured photosets, etc. The contract really creates mutual rights and obligations between the producer and the distributor. Merely because the assessee has undertaken the responsibility for publicity of the film for the next ten years, it does not mean that the assessee has incurred a liability to spend Rs. 2,25,000 in the year in which the film was released. The assessee in order to discharge his obligations under the contract will have to make arrangements for publicity of the film. The assessee will have to take steps to insert advertisements in newspapers or make other arrangements with agents for publicity of the film. It is only when a definite financial commitment is made by the assessee by placing orders with the newspapers or other agents that a financial obligation to pay will arise. It will be at that point of time that the assessee will be entitled to claim deduction on accrual basis of the financial obligation undertaken by the assessee. A mere contract to render service for a period of ten years does not cast upon the assessee any immediate obligation to incur the expenditure. Under the contract, the assessee is merely obliged to make arrangement for publicity of the film and the value of such publicity must not be of less than Rs. 2,25,000, but no liability to pay arises even before arrangements for publicity have been made. It cannot be said that a perfected debt has come into existence in this particular year of account.
14. Moreover, the agreement not only fastens upon the assessee a liability to spend Rs. 2,25,000 on account of publicity but also gives the assessee a right of recoupment of that amount from the proceeds of the film. In Clause 5 of the agreement, it is provided that 'the producers sanction a sum of Rs. 2,25,000 towards pre-release, release and post-release publicity and theatre decoration of the said picture in the contracted territory'. Clause 7 of the agreement provides that the proceeds of the said picture in the contracted territory shall be shared equally by the producer and the distributor after recoupment of, inter alia, the minimum guarantee amount of Rs. 5,50,000 and the publicity amount of Rs. 2,25,000. In Sub-clause (c) of Clause 7, it has been provided that the assessee will be entitled to recoupment of 'extra-publicity expenses if allowed in writing by the producers out of the gross realisation of the said picture......'
15. Therefore, it will be seen that the contract not only casts an obligation upon the assessee to make arrangements for publicity of the film but also confers upon the assessee a right of recoupment from the sale proceeds of the film. I fail to see how the amount of Rs. 2,25,000 can be allowed as deduction in the relevant year of account as expenditure on account of publicity on the basis of the mercantile system of accounting in the facts of this case.
16. When there is a long term contract for supply of goods or services, debit or credit entries can only be made when the goods are actually supplied or services rendered. If the assessee enters into a long term contract with a supplier to purchase goods over a period of ten years, it is only as and when the goods are delivered that the assessee will be entitled to debit his accounts for the price of the goods irrespective of actual payment. It is because the delivery of the goods casts upon the assessee an obligation to pay that a perfected debt comes into existence at that point of time. But the assessee will not be entitled to deduction of the estimated price of the goods as soon as the contract is signed even before the actual delivery of the goods. Similarly, in the case of a service contract, until and unless services are actually rendered, the assessee will not be entitled to debit his account.
17. Dr. Pal, on behalf of the assessee, has, however, argued on the strength of the judgment of the Supreme Court in the case of Calcutta Co. Ltd. v. CIT : [1959]37ITR1(SC) , that the real profit of the assessee has to be ascertained and for that purpose, the entire expenditure that will have to be made under the contract will have to be excluded.
18. In Calcutta Co.'s case : [1959]37ITR1(SC) , the assessee was a dealer in land and property. It sold plots of land for building purposes, undertaking to develop them by laying out roads, providing a drainage system and installing lights. When the plots were sold, the purchaser paid only 25% of the purchase price and undertook to pay the balance in ten instalments with interest. The assessee, in its turn, undertook to carry out the development within six months. In the relevant accounting period, the assessee actually received in cash a sum of Rs. 29,392 towards the sale price of lands but it credited in its accounts the entire sum of Rs. 43,692 representing the full sale price of lands. At the same time, it also debited an estimated sum of Rs. 24,809 as expenditure for the development it had undertaken to carry out even though no part of that amount was actually spent.
19. The facts of that case are important. The assessee not only claimed an estimated sum of Rs. 24,809 as expenditure for the development to be carried out by it in respect of the plots which had been sold during the year but also credited the entire amount of the sale price of the plots being Rs. 43,692-11-9 even though it had received only a sum of Rs. 29,392-11-9 during the accounting year in question.
20. The Supreme Court in that case held that apart from Sections 10 to 15, the case came within the purview of Section 10(1) of the Indian Income-tax Act, 1922. The Supreme Court held that the assessee was being assessed in respect of profits and gains of its business and went on to observe at page 10 :
'Before we conclude, we are bound to observe that having accepted the receipts of Rs. 43,692-11-9 in their totality even though a sum of Rs. 29,392-11-9 only was actually received by the appellant in cash, thus making the appellant liable for income-tax on a sum of Rs. 14,300 which had not been received by it during the accounting year, it was hardly open to the Revenue to urge that the sum of Rs. 24,809 should not have been allowed as a permissible deduction before arriving at the profits or gains of the appellant which were liable to tax.'
21. The Supreme Court also observed (at page 10) :
'Turning now to the facts of the present case, we find that the sum of Rs. 24,809 represented the estimated expenditure which had to be incurred by the appellant in discharging a liability which it had already undertaken under the terms of the deeds of sale of the lands in question and was an accrued liability which according to the mercantile system of accounting the appellant was entitled to debit in its books of account for the accounting year as against the receipts of Rs. 43,692-11-9 which represented the sale proceeds of the said lands.'
22. In Calcutta Company's case : [1959]37ITR1(SC) , the assessee showed the entire amount of profits, received and receivable, arising out of the contract and debited the entire estimated expenditure from these profits. That is not what is being sought to be done in the present case. The assessee did not offer the entire amount receivable under the contract as its profits. It is difficult to see how the assessee can claim the deduction of the entire expenditure which will have to be made on the basis of the principle of Calcutta Company's case : [1959]37ITR1(SC) . Moreover, in the case of Calcutta Company Limited, the entire accrued income as well as accrued liability were shown in the books of account as soon as the contract was signed. That has also not been done in this case. It is only in the year of release of the film that the deductions on account of what is alleged to be accrued liability are being claimed. That apart, the contract gives the assessee a right to recoup whatever expenditure it had incurred from the sale proceeds. In my judgment, the principle laid down in the case of Calcutta Company : [1959]37ITR1(SC) , cannot be made applicable to the facts of this case.
23. Lastly, it was argued that the assessee was under an obligation ultimately to pay for the publicity of the film. Therefore, the assessee was entitled to retain a part of the profit made in the current year for meeting its future liabilities.
24. The assessee as a prudent man may retain a part of his profit for meeting its future liabilities. But whatever is set apart for meeting future commitments or contingencies cannot be allowed as a deduction in the year in which the income has been earned. In order to justify deduction, the assessee must establish that there is a present accrued liability. Some-thing must happen during the relevant accounting period giving rise to the liability. In a case of deduction, it is for the assessee to establish facts which will justify the deduction. The assessee has not been able to show that anything has happened in the year of account which makes the assessee liable for the entire amount of Rs. 2,25,000.
25. Lastly, on behalf of the assessee, it was argued that this amount of Rs. 2,25,000 should be allowed as a deduction on the ground that the real income of the assessee could not be arrived at without making any allowance for this expenditure.
26. The income that has arisen in this case is by exploitation of the film 'Phool aur Patthar '. The assessee in its usual course of business has earned this income by commercially exploiting the film. I fail to see how this income is not the assessee's real income. The income that has arisen to the assessee has not been diverted at source by an overriding title. Clause 7 of the agreement has given the assessee a right to retain an amount spent on publicity out of the sale proceeds before sharing it with the producer. The producer's right to share the profit arises only after the recoupment of the expenditure mentioned in the agreement by the distributor. In other words, the assessee will be entitled to retain the profits for the purpose of recoupment of whatever expenditure he has incurred on account of publicity before sharing the profits with the producer. The contract is expected to last for ten years and the expenditure on account of publicity will be incurred over the period of ten years. Whatever expenditure is incurred by the assessee in a particular year, will come out of the sale proceeds of that year. But if the total expenditure exceeds Rs. 2,25,000, the assessee will not have any right of recoupment unless such expenditure in excess was sanctioned in writing beforehand by the producer (clause 7 of the contract). The real income of the assessee in a given year will be its actual share of the sale proceeds after adjusting whatever it has spent on publicity.
27. Moreover, it is to be noted that Clause 7 speaks of 'recoupment' of the expenditure. The word 'recoup' according to the Concise Oxford Dictionary of Current English means '(Law) deduct, keep back, (part of sum due) make such deduction ; compensate (person loss, person for loss, loss:--(oneself), recover what one has expended or lost) ; hence--meant'. The parties to the contract have clearly agreed that the distributor will incur expenditure on account of publicity and will be entitled to withhold some sale proceeds on account of the expenditure actually incurred on account of publicity up to a limit of Rs. 2,25,000. The contract envisaged that the expenditure is to be made over the entire period of the contract. The expenditure will commence even before the release of the film and will continue after the release of the film. The recoupment of the expenditure will be from the sale proceeds as and when the expenditure is incurred. In my opinion, neither the system of accounting adopted by the assessee nor the clear wording of the contract nor the principle of real income will justify the deduction claimed by the assessee.
28. Assuming that a certain amount of its income has been set apart by the assessee to be spent in future on account of publicity, the retained amount will not cease to be its income. The income was earned in its usual business of film distribution by the assessee. How the amount will be utilised in future is quite irrelevant for the purpose of the enquiry whether the amount can be regarded as the assessee's income. As Lord Macmillan observed in the case of Pondicherry Railway Co. Ltd. v. CIT [1931] 5 ITC 363 :
'...profits on their coming into existence attract tax at that point and the revenue is not concerned with the subsequent application of the profits.'
29. In that case, reliance was also placed by Lord Macmillan upon the principle laid down by Lord Chancellor Halsbury in Gresham Life Assurance Society v. Styles (Surveyor of Taxes) [1892] 3 TC 185 at (pages 188 and 189) :
'The thing to be taxed is the amount of profits and gains. The word 'profits', I think, is to be understood in its natural and proper sense--in a sense which no commercial man would misunderstand. But when once an individual or a company has in that proper sense ascertained what are the profits of his business or his trade, the destination of those profits, or the charge which has been made on those profits by previous agreement or otherwise is perfectly immaterial.'
30. This case was cited by Bhagwati J. with approval in the case of E.D. Sassoon and Co. Ltd. v. CIT : [1954]26ITR27(SC) . Bhagwati J. observed :
'It appears to me that these passages constitute a clear recognition of the principle that when once income accrues to a person, an assignment operative in respect thereof does not affect his taxability for that income.'
31. In my judgment, the question referred by the Tribunal must be answered in the negative and against the assessee. There will be no order as to costs.
Dipak Kumar Sen, J.
32. I agree.