income-tax Officer, B-ward Vs. Official Liquidator, Swaraj Motors (P.) Ltd. (In Liquidation) - Court Judgment

Viswanatha Iyer, J.

1. This application has been referred by the learned judge dealing with company matters for decision by a Division Bench in view of the fact that an important question of law regarding the scope of Section 178 of the Income-tax Act, vis-a-vis, Section 530 of the Companies Act arises for consideration in this application. The Company ' Swaraj Motors Private Ltd.' was ordered to be wound up by this court on October 31, 1969. During the course of liquidation the assets of the company were sold by the liquidator and that sale resulted in a ' capital gain', within the meaning of that expression in the Income-tax Act, of Rs. 1,27,460. For the assessment year 1973-74, this was treated as income and assessed to tax. The assessment order was passed on February 3, 1975, and the notice of demand to pay a tax of Rs. 97,037 was served on the liquidator on February 17, 1975. Though the liquidator took up the matter in appeal to the Appellate Assistant Commissioner, he did not succeed in that attempt. The liquidator was not in a position to pay the tax within the time allowed in the notice. He applied for extension of time and the Income-tax Officer extended the time for payment up to June 30, 1975. The liquidator paid a sum of Rs. 40,000 and the balance of Rs. 57,037 and interest still remained due. By the present application the Income-tax Officer has sought permission of the court under Section 446(1) of the Act to take proceedings against the company for the recovery of the balance tax due. On receipt of notice of this application, the official liquidator contended that the tax demand of Rs. 97,037 can only be considered as a 'debt' payable as contemplated in Section 528 of the Companies Act, 1956, that, in any event, the present demand is one coming under the category of ' future and contingent claims' mentioned in Section 528, and that it could be paid only in accordance with the provisions of Section 511 thereof, namely, that the department must prove the claim and get dividend pari passu just like any other simple creditor of the company. It is further stated that the claim made by the department cannot be considered as 'costs, charges and expenses incurred in winding up' and paid as such.

2. The preferential claim made by the Income-tax Officer will not come under either Section 178 of the Income-tax Act or Section 530(1)(a) of the Companies Act. Section 178(1) of the Income-tax Act provides for giving notice of the appointment of a liquidator of a company on its winding up to the Income-tax Officer who is entitled to assess the income of the company. That notice has to be served within 30 days of the appointment. On receipt of such a notice the Income-tax Officer shall, after making such enquiries or calling for such information as he may deem fit, notify to the liquidator within three months from the date on which he receives the notice of the appointment of the liquidator, the amount which, in the opinion of the Income-tax Officer, would be sufficient to provide for any tax which is then or likely thereafter to become payable by the company. On being so notified the liquidator shall set apart an amount equal to the amount notified. The failure to give notice in accordance with the provisions of the section or the failure to set apart the amount as required by the Income-tax Officer or parting with the assets of the company otherwise than as provided for in Sub-section (3) of Section 178 makes the liquidator personally liable for the payment of the tax which the company is liable to pay. This provision shall have effect notwithstanding anything to the contrary contained in any other law for the time being in force. In this case there is no case that the liquidator did not notify the fact of his appointment to the Income-tax Officer. It is also not disputed that the Income-tax Officer did not notify within the period mentioned in sub-section (2) of Section 178 to set apart any amount for tax payment. Further, the tax payment referred to in that section is in respect of the income of a company accrued before its winding up. It has no application to the income accruing to the company after the order for its winding up. In this set of facts it is unnecessary in this case to go into the conflicting views expressed by some of the other High Courts on the scope of Section 178 on the right of the Income-tax Officer to claim preferential payment of tax even if that tax demand is not covered by Section 530(1)(a) of the Companies Act. The view of the Mysore, Rajasthan and Gujarat High Courts is that the section is enacted for the limited purpose of ensuring that the Government's existing rights and priorities under the law are not defeated by sale of the company's assets, or distribution among the shareholders or creditors who under the Companies Act are not entitled to be paid before the Government. It does not confer on the Government any higher rights or wider priorities than those enjoyed by the Government under the company law. (See Income-tax Officer v. Official Liquidator : [1967]63ITR810(KAR) , Commissioner of Income-tax v. Official Liquidator, Golcha Properties (Pvt.) Ltd. and Baroda Board & Paper Mills Ltd. v. Income-tax Officer : [1976]102ITR153(Guj) . The Andhra Pradesh High Court has, however, taken a contrary view on the scope of the section, namely, that this provision enables the income-tax authorities to claim a preferential payment even in cases not coming under Section 530(1)(a) of the Companies Act (See Income-tax Officer v. Official Liquidator ).

3. Equally, this claim will not come under Section 530(1)(a) of the Companies Act, for this tax liability did not become due and payable within twelve months next before the winding-up date.

4. Again, though the company is insolvent and its liabilities exceed its assets, the Government is not entitled to any priority or preferential right or treatment in the administration of its assets save those which are expressly provided for in the company law itself (See Governor-General in Council v. Shiromani Sugar Mitts Ltd. [1946] 14 ITR 248 ; 16 Comp Cas 70 (FC) referred to with approval in Builders Supply Corporation v. Union of India : [1965]56ITR91(SC) ). Our High Court has also come to the same conclusion (See Official Liquidator, Indian Traders Bank Ltd. v. Income-tax Officer, Companies Circle, Ernakulam--A.S. No. 224 of 1968).

5. Before we consider the second argument advanced on behalf of the Income-tax Officer, it is necessary to consider the point urged on behalf of the official liquidator that this tax demand is a 'debt' coming within Section 528 of the Companies Act. Section 528 provides that all claims against the company, present or future, certain or contingent, ascertained or sounding only in damages, on the relevant date are admissible to proof against the company. Such claims must be existing against a company on the date of its winding up. In estimating the value of the debt or other claim the position at the commencement of the winding up is taken into account. Rules 147 to 179 of the Companies (Court) Rules, 1959, provide for the procedure to be followed in the proof of debts against any company in the winding up. According to the advocate for the official liquidator, this tax demand was a contingent liability on the date of the winding up and, therefore, admissible to proof under Section 528. In support of his contention he relied on the decision of the House of Lords in Winter v. Inland Revenue Commissioners [1961] 3 WLR 1062 (HL). That was a case which arose under the English Estate Duty Act. One Sutherland was the owner of 98,700 1 shares in the capital of B. J. Sutherland & Co. Ltd. He died on 29th March, 1953. For the purpose of estate duty the shares had to be valued with reference to the net value of the assets of the company instead of by reference to the open market value of the shares. The assets of the company at the date of the deceased's death included five ships. The cost of these ships for income-tax purposes had been agreed to be 847, 907, and at the date of the deceased's death the company had received capital allowances under the provisions of Part X of the Income-tax Act, 1952, leaving 290,749 of expenditure ' unallowed '. In the event of a sale of the ships for a sum in excess of the amount of such expenditure unallowed, a balancing charge would be imposed of an amount equal to such excess, resulting in an assessment to income-tax and profits tax at the rate appropriate to the year in respect of which such assessment was made. The ships were sold between November, 1953, and February, 1954, for sums amounting in the aggregate to 1,070,505, This gave rise to balancing charges of 548,318, resulting in an anditional income-tax assessment on the company for the year 1953-54 at 9s. in the pound, totalling 246,743 2s., and an additional profits tax assessment at the rate of 22 per cent, for the chargeable accounting period ending on March 31, 1954, amounting to 123,371 11s. The aggregate of this additional tax liability was 370,114 13s. The contention on behalf of the executors of the deceased was that the shares owned by the deceased should be valued for estate duty on the basis of the net value of the assets of the company and in that the balancing charge should be taken into account as a contingent liability. This contention was accepted by the House of Lords. In the course of the judgment their Lordships have stated what is meant by a 'contingent liability'. At page 1076, Lord Hodson has analysed this concept and observed as follows :

' One must start with the word ' liability ' which prima facie connotes a legal liability. When one adds to it the adjective ' contingent' one is not entitled to sail into an uncharted sea and to take into account not only contingent liabilities but all other kinds of liabilities which may be prospective or foreseeable as likely to be incurred.

There can be no true contingent liability unless there is an existing legal obligation under which a payment will become due on the happening of a future unascertained event or events. There must always be an underlying obligation. It does not matter whether one regards the obligation as suspended pending the arising of the contingency or whether one regards the performance of the obligation as suspended. The result to my mind is the same. In the ordinary case no doubt the contingent liability is imposed by contract. A common example is a contract of insurance when the insurance company promises to make a payment to the assured on the happening of a contingency. A car owner may have an accident and be liable to meet an award of damages. If he is insured the contingency is provided for. In some cases the contingent liability may be imposed by statute. An illustration is to be found in the case of Southern Railway of Peru Ltd. v. Owen [1957] AC 334 ; 36 TC 634 ; [1957] 32 ITR 737 . No doubt other examples can be found.

The distinction between a future liability which has not yet matured and a contingent liability is marked in Section 50(1) itself. Those which have not matured are certain as to maturity whereas those which are contingent are uncertain as to maturity. The value of each is capable of estimation by the commissioners as the statute directs. '

6. Under the Indian Income-tax Act also development rebates are allowed in arriving at the total income of an assessee for purpose of income-tax assessment. A development rebate for a plant, machinery or a ship is allowed on the basis that this plant, machinery or ship is not sold for a certain number of years after the assessment year in question. But if a sale takes place within the period allowed by the statute the development rebate will stand cancelled and the amount of rebate allowed in any particular year will be taxed for that year. That is a case of a contingent liability. When the rebate was allowed that gave rise to an obligation and a liability on the happening of an uncertain event, namely, sale of the ship in future. Such a liability is a contingent liability. Similar questions have arisen under the Wealth-tax Act. To find out the net value of the wealth the contingent liabilities are also taken into account. Thus, the principle is that there must be an obligation at the relevant date. That obligation may or may not give rise to a liability on a future date depending on the happening of the contingency. Such a liability is alone called a contingent liability.

7. But that is not the case here. Here, on the date of the winding up, there was no obligation of the type referred to above. Subsequent to the winding up, the company may or may not earn an income, may or may not sell its assets resulting in any capital gains. The assets were sold in the year 1973, long after the winding up. It is only accidental that that resulted in a capital gain The liability to pay a tax arose only when the total income earned exceeded the minimum. Under Section 4 of the Income-tax Act, income-tax is to be charged on the total income of the assessee during the previous year. The liability arises only when the income is earned and there is no obligation to earn an income. This is not a contingent liability on the date of the winding up for being admitted to proof on the winding up. Therefore, there is no analogy between the facts in the House of Lords case and this case. Therefore, Section 528 of the Act has no application.

8. This takes us to the second point urged by the counsel for the income-tax department. According to him, this tax demand is by way of costs, charges and expenses incurred in the winding up and under the principle stated in Section 520 of the Act and Section 476 this amount is payable before the assets are distributed to the unsecured creditors. According to the Income-tax Officer, this is an item of expenditure incurred for realising the assets of the company and, therefore, payable before other debts. The expression ' costs, charges and expenses ' referred to in Sections 520 and 476 of the Companies Act are very general. In this will come the cost of repairs, payment of rent and tax, cost of preservation of any property, cost of realisation including costs of litigation and all expenses incurred with the leave of the court in the winding up. Income-tax which became payable at the winding up also is an expense in the winding up. Income-tax is a necessary consequence of the acts performed by the liquidator in the course of the liquidation for the purpose of realising, as it was his duty to do, the assets of the company. A similar question arose for consideration in In re Beni Felkai Mining Co. [1934] 2 ITR 309 (Ch D). At page 314, Justice Maugham observed as follows :

' I have a difficulty in seeing how a liquidator who, in the course of his liquidation, carries on the business of the company at a profit, the consequence being the assessment of the company to income-tax, can avoid the conclusion that this is one of the expenses in the winding-up. It is curious that in the authorities to which I have referred the phrase does not seem to have been used by the court. In my opinion, rates and taxes--and for this purpose I can group them together, although there is for some purposes a distinction between them--falling due subsequently to the winding-up are part of the expenses of the winding-up.'

9. Again, at page 315, his Lordship further observed as follows :

'I do not see any particular reason for limiting the meaning of the phrase 'expenses of the liquidation', or ' expenses incurred in the winding-up '. The term is not one of art, and I see no reason why it should not include any expenses which the liquidator might be compelled to pay in respect of his acts in the course of a proper liquidation of the company's assets. In my opinion, then, the sums in question are sums which can be properly treated as expenses in the liquidation.'

10. With respect, we agree with this principle. Therefore, before the assets are distributed among the creditors, this is payable as provided for in Section 520 of the Act read with Section 476 of the Act. Section 520 is in the following terms:

' Costs of voluntary winding up.--All costs, charges and expenses properly incurred in the winding up, including the remuneration of the liquidator, shall, subject to the rights of secured creditors, if any, be payable out of the assets of the company in priority to all other claims.'

11. Section 476 reads as follows :

' Power to order costs.--The court may, in the event of the assets being insufficient to satisfy the liabilities, make an order for the payment out of the assets, of the costs, charges and expenses incurred in the winding up, in such order of priority inter se as the court thinks just.'

12. Here the company is insolvent and so the power under the above sections can be invoked by the court and the court can direct the liquidator to pay the tax demand of the Income-tax Officer before distributing the dividend. Therefore, we direct the official liquidator to pay the balance amount due in a month from this date. The application is ordered as above. But, in the circumstances of this case, we make no order as to costs.