GOVINDAN NAIR J. - A common question arose in relation to the assessments for years 1962-63 and 1963-64 of M/s. Kerala Balers Ltd., Alleppey. This was disposed of by a common order by the Income-tax Appellate Tribunal, Cochin Bench, and that Tribunal has referred the following question to this court :

'Whether, on the fact and in the circumstances of the case, the Appellate Tribunal is justified in law in holding that the payment of a larger dividend would be unreasonable and in cancelling the Income-tax Officers orders under section 104 of the Income-tax Act, 1961, for the assessment years 1962-63 and 1963-64 ?'

The statutory minimum dividend applicable to the company is agreed to be 60 per cent. mentioned in section 109(4)(b) of the Income-tax Act, 1961. It is also an agreed fact that for the relative accounting periods for the two assessment years which ended respectively on December 31, 1961, and December 31, 1962, this statutory minimum of 60 per cent. required by the above section had not been declared by the company as dividend. An order was, therefore, passed by the Income-tax Officer under section 104 of the Income-tax Act, 1961 (hereinafter referred to as 'the Act'). This order though confirmed by the Appellate Assistant Commissioner in appeal was not aside by the Tribunal and the question is whether the Tribunal was justified in holding that in the circumstances in which assessee-company was placed it was unreasonable to insist that the company should have paid higher dividend than it declared in relation to the two years.

We may advert to the essential facts which are mentioned in the order of the Tribunal and in the statement of the case. The company has a subscribed and paid up capital of Rs. 4 lakhs. It has borrowed a sum of Rs. 2,58,965 from the Kerala Financial Corporation under a mortgage deed dated November 9, 1956, which was renewed on August 30, 1962. There was a restriction imposed on the assessee-company by the Corporation that it should not distribute dividend in any financial year at the rate higher than 6 per cent. This limitation was later altered to 10 per cent. From December 31, 1950, to December 31, 1957, the company was consistently incurring losses. Things, however, brightened for the company from the year that ended on December 31, 1958. By December 31, 1960, the losses and unabsorbed depreciation were absorbed by the profits. There was a small profit of Rs. 3,140 for the year that ended on December 31, 1960. The profit for the period that ended on December 31, 1961, which is related to the assessment year 1962-63 as per the account books of the company was Rs. 89,768 and the assessee declared dividend of Rs. 24,000 being 6 per cent. on the paid up capital of Rs. 4 lakhs. The income computed for the purpose of assessment to the income-tax for the accounting period that ended on December 31, 1961, was Rs. 1,01,827. On this figure the distributable income after providing for income-tax and profession tax would amount to Rs. 55,614 and it was the view of the Income-tax Officer that 60 per cent. of this amount, namely, Rs. 33,368, should have been distributed by way of dividend. When the assessee was called upon to show cause why a super-tax should not be levied under section 104 of the Act, the assessee raised objections and one of the objections was that a sum of Rs. 15,000 had to be provided by way of reserve towards bad and doubtful debts and if this was also taken into account it would be unreasonable to declare a higher dividend than that declared by the company.

For the assessment year 1963-64, the income computed for the purpose of assessment was Rs. 2,48,053. After deducting income-tax, super-tax, profession tax, agricultural income-tax, donation under section 88 and super profits tax, the balance of distributable income was Rs. 1,06,768. It was the view of the Income-tax Officer that 60 per cent. of this, namely, Rs. 64,061, should have been distributed by way of dividend. Actually, the company distributed only Rs. 40,000 and hence action was taken under section 104 of the Act relating to that year as well. If the bad and doubtful debt reserve was also taken into account the available surplus would have worked out only to Rs. 27,840 and the assessee had distributed Rs. 48,000. It was, therefore, the contention of the assessee before the Income-tax Officer that there was no justification for applying section 104 of the Act even in relation to the year 1963-64.

The Tribunal accepted the contentions of the assessee and held that it is unreasonable to insist that the assessee should have distributed higher amounts than Rs. 28,000 and Rs. 48,000 actually distributed by way of dividends for the two years 1962-63 and 1963-64. The question is whether the view of the Tribunal is erroneous at law.

It is now well settled that, in determining the question arising under section 104(2)(i) of the Act, it not merely the smallness of the profits made in the previous year, or the losses incurred by the company in earlier years that should be taken into account but all relevant facts and circumstances. Reference may be made to the decisions of the Supreme Court in Commissioner of Income-tax v. Bipinchandra Maganlal & Co. Ltd. and Commissioner of Income-tax v. Gangadhar Banerjee and Co. (Private) Ltd. It is also well settled that the question of reasonableness must be determined from the point of view of the business and not from that of the taxing authority. The decision in Commissioner of Income-tax v. Gangadhar Banerjee and Co. (Private) Ltd. has been recently referred to by the Supreme Court in Commissioner of Income-tax v. Asiatic Textiles Ltd. and approved. These principles are, therefore, to be borne in mind in determining whether an order should be passed under section 104 of the Act by the Income-tax Officer in view of the specific provision in section 104(2)(i) reading as follows :

'104. (2) The Income-tax Officer shall not make an order under sub-section (1) if he is satisfied -

(i) that, having regard to the losses incurred by the company in earlier years or to the smallness of the profits made in the previous year, the payment of a dividend or a larger dividend than that declared would be unreasonable.'

This question has been considered by the Tribunal in paragraph 10 of its order the relevant part of which we may extract along with paragraph 11 and paragraph 12.

'10. On a consideration of all the facts of the case and the respective arguments, we find that the payment of a larger dividend would be unreasonable. A study of the balance-sheet of the company would show that the business is run wholly on borrowed money. As against a paid-up capital of Rs. 4,00,000 the money borrowed from the Kerala Finance Corporation amounted to Rs. 2,58,965 as on December 31, 1961. Therefore, it was highly essential that the companys resources had to be conserved. The attitude of the management in not declaring a larger dividend has come out of ordinary business prudence. There is no question of trying to avoid any tax. It was a compelling necessity in the circumstances of the case. Though the restriction in the mortgage deed in respect of the rate of dividend to be declared cannot over-ride a statutory provision, the assessee cannot possibly act contrary to this without jeopardising its financial position. From 1950 to 1956, the assessee-company had been making losses. It was only in recent years that it had begun making some profits. In view of this and in view of the large liability, there was nothing unreasonable if the directors did not decide to distribute the profits to the hilt. The balance-sheet as at December 31, 1961, disclosed bad and doubtful advances to the extent of Rs. 15,000. The assessee-company had set apart an equal amount to the general reserve. It is probably intended to cover the bad and doubtful advances. Though the reserve had not been clearly ear-marked, the fact of the existence of a fair amount of advance becoming as bad and doubtful, cannot be over-looked. It would be imprudent to treat the whole of Rs. 89,768 as being available for distribution.

11. Judged by these considerations, we have to give the verdict in favour of the assessee. In the first year, after taking into account the tax and the amount of bad and doubtful advance of Rs. 15,000, the available surplus is only Rs. 28,824. Out of this, the assessee had distributed Rs. 24,000 leaving a balance of Rs. 4,000. Having regard to the financial position of the company, its future requirements and the available surplus, we hold that it would be unreasonable to make an order for the further declaration of dividend amounting to Rs. 31,614 as had been done by the Income-tax Officer.

12. In the assessment year 1963-64, the available surplus after taking the reserve for bad and doubtful debts and advances at Rs. 55,000 works out to Rs. 27,840. The assessee had distributed Rs. 48,000. We consider that, in the circumstances already set out earlier, the payment of larger dividend would be unreasonable. The order passed under section 104 cannot be supported and is hereby cancelled.'

The view taken by the Tribunal is in consonance with the well-established principles that we have referred to. It is unreasonable to reckon available surplus for distribution as dividend ignoring bad and doubtful debts and advances made. It these are also taken into account, the dividend distributed satisfies even the percentage provided in section 109(4). In any view of the matter, it is impossible to hold that the Income-tax Officer was not in error in thinking that it was not unreasonable to insist that there should have been a higher percentage of dividend declared.

We answer the question referred to us in the affirmative, that is, in favour of the assessee and against the department.

A copy of this judgment under the seal of the High Court and the signature of the Registrar will be sent to the Appellate Tribunal as required by sub-section (1) of section 260 of the Income-tax Act, 1961.

The assessee will be entitled to his costs including advocates fee Rs. 150.

Question answered in the affirmative.