JUDGMENT
Mrs. Sujata Manohar J.
1. The petitioner is a company established under the laws of the Republic of Panama. It designs, fabricates, constructs platform jackets, decks and piles, bridges, pipelines and does similar on-shore and off-shore construction work. In 1977, the petitioner entered into a contract with the Oil and Natural Gas Commission for laying marine pipelines near Bombay harbour. For this purpose, the petitioner was required to mobilise its vessels which were manned by its expatriate employees. The first of its 31 vessels entered the Indian territorial waters on January 5, 1978. On completion of the contract, the last of the petitioner’s vessels left the Indian territorial waters on June 20, 1978. Thus in the accounting year April 1, 1978, to March 31, 1979, (for the assessment year 1979-80) the expatriate employees of the petitioner were in India for a period of less than 90 days. Each of these employees had worked on and from the vessels which were brought into the Indian territorial waters by the petitioner.
2. Since each of the employees had rendered services of a technical nature for a period of less than 90 days, the petitioner reasonably believed that their salaries were exempt from income-tax under section 10(6)(vi) and section 10(6)(viii) of the Income-tax Act, 1961, for the assessment year 1979-80. The petitioner has filed with the respondents full particulars in respect of each of these 291 employees working on the above contract with their badge number and the claim for exemption.
3. Seven years after the completion of this contract, the petitioner received a notice dated September 11, 1985 from the Income-tax Officer, T. D. S. Circle, Bombay (respondent No. 4), under section 221(1) read with section 201(1) of the Income-tax Act, 1961, calling upon the petitioner to show cause why a penalty should not be levied under section 221(1). This notice was for the assessment year 1979-80. The fourth respondent also issued to Mazgaon Dock Ltd. (respondent No. 7), three notices dated August 10, 1985. September 11, 1985 and September 13, 1985, under section 226(3) of the Income-tax Act, 1961. Under these notices, Mazgaon Dock Ltd. was informed that sums of Rs. 15,73,727, Rs. 8,82,253 and Rs. 3,67,55,170 were due from the petitioner on account of income-tax, super-tax, penalty. interest and fine. Mazgaon Dock Ltd. was required to pay to the fourth respondent forthwith any amount due from it or held by it for and on account of the petitioner up to the above extent. Thereafter, some correspondence ensued which need not be gone into. Ultimately, the second respondent, viz., the Income-tax Officer, Special Ward, Dehradun, issued a notice dated February 25, 1986, addressed to Mazgaon Dock Ltd. under section 226(3) of the Income-tax Act, along with his letter of the same date. The second respondent referred to the earlier three notices under section 226(3) and informed Mazgaon Dock Ltd. that it was required to make payment of Rs 3,92,11,150 at the earliest in respect of tax liability of the petitioner’s employees for the assessment year 1979-80, along with interest under section 201(1A) and penalty under section 221(1). A copy of this notice was sent by Mazgaon Dock Ltd. to the petitioner along with its letter dated March 18, 1986. Mazgaon Dock Ltd. informed the petitioner that in view of this notice, it had already paid the said amount on behalf of the petitioner to the Income-tax authorities. The present petition challenges this action of the income-tax authorities.
4. In respect of the alleged tax liability of the petitioner’s employees for the assessment year 1979-80, there is no assessment order. There is no order for payment of interest and there is no order for payment of any penalty either. No notice of demand has been served on the petitioner. The second respondent has, in his notice dated February 25, 1986, under section 226(3), quantified his demand at Rs. 3,92,11,150 without there being any order of assessment, interest or penalty against the petitioner.
5. Section 226 is a part of Chapter XVII which deals with collection and recovery of tax. In Chapter XVII, Part A is general, Part B deals with deduction at source, Part C deals with advance payment of tax and Part D deals with collection and recovery. Section 220 provides that any amount, otherwise than by way of advance tax, specified as payable in a notice of demand under section 156 shall be paid within 35 days of the service of the notice. Section 221 provides, inter alia, that when an assessee is in default or is deemed to be in default in making a payment of tax, he shall be liable to pay certain penalty. Section 222 prescribes that when an assessee is in default or is deemed to be in default in making payment of tax, the Income-tax Officer may forward to the Tax Recovery Officer a certificate specifying the amount of arrears due from the assessee and the Tax Recovery Officer on receipt of such certificate shall proceed to recover from such assessee the amount under the modes prescribed in the section. Section 226 prescribes other modes of recovery. Section 226(1) says :
“226. (1) Notwithstanding the issue of a certificate to the Tax Recovery officer under section 222, the Income-tax Officer may recover the tax by any one or more of the modes provided in this section……
(3) (i) The Income-tax Officer may, at any time or from time to time, by notice in writing require any person from whom money is due or may become due to the assessee or any person who holds or may subsequently hold money for or on account of the assessee, to pay to the Income-tax Officer either forthwith upon the money becoming due or being held or at or within the time specified in the notice (not being before the money becomes due or is held) so much of the money as is sufficient to pay the amount due by the assessee in respect of arrears or the whole of the money when it is equal to or less than that amount.”
6. A plain reading of these sections suggests that before any notice can be issued under section 226(3), the assessee must be in default in payment of tax. (Section 222). No notice of demand was served on the petitioner. It is not, therefore, an assessee in default.
7. The respondents, however, rely upon section 201, which deals with consequences of failure to deduct or pay tax, inter alia, in respect of salaries of employees. Section 201(1) says that if a person on whom a duty to deduct or pay tax is conferred, does not deduct or, after deducting, fails to pay the tax, he shall be deemed to be an assessee in default in respect of the tax. It is, therefore, submitted by the respondents that since the petitioner has failed to deduct and pay tax from the salaries of its employees, it is an assessee in default. Before, however, any, notice can be issued under section 226(3), it is necessary that there should be an order under section 201 against the assessee which requires him to pay the tax. It is also necessary that the order should quantify the amount of tax to be paid. In fact, section 226(3) requires the third party to pay so much of the money as is sufficient to pay the amount due by the assessee in respect of arrears, The third party may be required to pay either the whole of this amount or something less. But the basis of a notice under section 226(3) is that the assessee should be in arrears of tax. Unless there is an order of assessment against the assessee and a notice of demand, it is difficult to see how the assessee can be said to be having any tax arrears. Even under section 201 of the Income-tax Act, an order must be passed against the assessee. This is clear if one looks at section 246 which provides for appeals to the Appellate Assistant Commissioner. Sub-section (1) of section 246 refers to an order under section 201. In the present case, there is no order under section 201 against the petitioner. Without any such order, a notice under section 226(3) cannot be issued.
8. The respondents rely upon a decision of the Supreme Court in the case of Third ITO v. M. Damodar Bhat [1969] 71 ITR 806. In that case, which relates, inter alia, to tax in respect of assessment year 1961-62 to the extent of Rs. 485 55, assessment proceedings were taken and completed under the old Indian Income-tax Act, 1922, and a tax of Rs. 2,947 56 was imposed and demanded. In appeal, the tax liability was reduced to Rs. 4X5 55. Thereupon, a notice of demand was issued on December 11, 1963, under section 156 of the new Income-tax Act, 1961. The argument on behalf of the assessee was that since the assessment order and the appellate order were made under the old Act, the provisions of section 226 of the new Act were not applicable. This contention was negatived by the Supreme Court and it held that section 226 would apply. It observed (at p. 812) : “Section 226, however, provides for other methods of recovery and there is no reference in section 226(3) to any default on the part of the assessee. Section 226(3) merely states that the Income-tax Officer may’ at any time or from time to time’, by notice in writing, require any person from whom money is due or may become due to the assessee or any person who holds or may subsequently hold money for or on account of the assessee, to pay to the Income-tax Officer either forthwith so much of the money as is sufficient to pay the amount due by the assessee in respect of arrears or the whole of the money when it is equal to or less than that amount. ” These observations have been doubted by a subsequent decision of the Supreme Court in the case of Madan Lal Lohia v. Assistant Controller [1977] 108 ITR 627 at p. 645. The Supreme Court Bench of two judges in that case has said, while referring to this decision, “… In the first place, the decision seems to have overlooked the fact that it is only when a notice of demand is served on the assessee under section 156 and the period for payment of tax mentioned in it expires that the tax becomes payable by the assessee and it is only then that the Income-tax Officer can proceed to recover it from the assessee. The garnishee proceeding under section 226, sub-section(3), is merely one of the modes of recovery prescribed by law and it is difficult to see how it can be resorted to before the tax has become payable by the assessee. Secondly, sub-section (3) of section 226 permits garnishee proceeding to be taken for recovery only of ‘arrears’ and no tax can be said to be in arrears until the expiry of the period for payment of tax specified in the notice of demand, and, thirdly, the concept of recovery by any mode whatever before the expiry of the time allowed for payment of tax is foreign to the whole scheme of recovery both under the Act of 1961 and the Act of 1922. …. ” The Supreme Court, however, accepted the earlier decision, which was of a Bench of three judges, as binding.
9. The decision of the Supreme Court in M. Damodar Bhat’s case [1969] 71 ITR 806, is binding on me. That decision, however, merely lays down that under section 226(3), it is not necessary that there should be any default on the part of the assessee. The decision does not lay down that there need not be any order of assessment against the assessee. In fact, in the case before the Supreme Court, there was not merely an order of assessment under the old Act, but there was also an appellate order under the old Act requiring the assessee to pay tax which was determined under these orders. Even under section 201 of the Income-tax Act, on which reliance has been placed by the respondents, an order is necessary. In the present case, there is no order of assessment against the petitioner at all. In the absence of any order of assessment, it is difficult to see how the assessee can be said to be in arrears in payment of tax. There is also no order levying either interest or penalty. It is also difficult to see on what basis a third party like Mazgaon Dock Ltd. can be called upon to pay a sum of over Rs. 3 crores to the income-tax authorities when the income-tax authorities have not even assessed the tax dues, much less interest or penalty, if any, payable by the petitioner. The notices, therefore, are contrary to the provisions of section 226(3) of the Income-tax Act, 1961. The respondents are liable to return the amount of Rs. 3,92,11,150 together with interest thereon at the rate of 15% p. a. to Mazgaon Dock Ltd. This notice was clearly in violation of the provisions of the section and this is a fit case where the respondents Nos. 1 to 6 must pay interest at 15% p. a. to respondent No. 7. Respondent No. 7, in turn, in directed to hand over the amounts so received together with interest to the petitioners forthwith. Respondent No. 7 has no objection to doing so.
10. Rule is accordingly made absolute in terms of prayers (a) and (b).
11. Respondents Nos. 1 to 6 to pay to the petitioners costs of the petition