PETITIONER: THE MADHYA PRADESH CO-OPERATIVEBANK LIMITED, JABALPUR Vs. RESPONDENT: ADDITIONAL COMMISSIONER OF INCOMETAX MADHYA PRADESH, BHOPAL DATE OF JUDGMENT: 19/01/1996 BENCH: AHMADI A.M. (CJ) BENCH: AHMADI A.M. (CJ) HANSARIA B.L. (J) CITATION: 1996 SCC (2) 541 JT 1996 (1) 487 1996 SCALE (1)511 ACT: HEADNOTE: JUDGMENT:
WITH
CIVIL APPEAL NO. 1196 (NT) OF 1992
Madhya Pradesh Rajya Sahkari
Bank Maryadit, Bhopal
V.
Commissioner of Income Tax, Jabalpur
WITH
CIVIL APPEAL NOs. 2211-12 OF 1996
(Arising out of SLP (C) 5813 & 14 of 1982)
(The Madhya Pradesh Co-operative
Bank Limited
V.
The Additional Commissioner of
Income Tax
J U D G M E N T
AHMADI, CJI
Special leave granted in SLP (C) Nos. 5813-14 of 1982.
The assessee in all these cases is a Co-operative
Society registered under the Madhya Pradesh Co-operative
Society registered under the Madhya Pradesh Co-operative
Societies (Amalgamation) Act, 1957, hereinafter called `the
Act’. While framing assessment for the relevant assessment
years in question, the Income tax Officer, included in the
taxable income of the assessee interest earned on securities
earmarked against reserves and interest earned on Provident
fund deposits. The assessee contended that it was entitled
to the benefit of Section 81 of the Income Tax Act as in
force at all material times. The Income Tax Officer rejected
this claim of exemption from tax put forward by the
assessee. Since the assesee’s contention did not find favour
at the higher levels also, including the reference to the
High Court, the assessee has approached this Court.
Section 81 of the Income-Tax Act on which the
assessee’s case is based read thus at all material times:
“Income of co-operative societies –
Income Tax shall not be payable by a co-
operative society —
(i) in respect of the profits and gains
of business carried on by it, if it is –
(a) a society engaged in carrying on the
business of banking or providing credit
facilities to its members;
xxx xxx xxx
Provided that, in the case of a co-
operative society which is also engaged
in activities other than those mentioned
in this clause, nothing contained herein
shall apply to that part of its profits
and gains as is attributable to such
activities and as exceeds fifteen
thousand rupees.”
On a plain reading of this provision it becomes clear that
every income of a society carrying on banking business is
not exempt from the payment of tax. Only the income from
banking business is exempt from tax. The question which we
are required to answer is whether the income from interest
accruing on government securities ear-marked for Reserve
Fund/Provident Fund can be said to be income derived by the
assessee from the business of banking within the meaning of
Section 81 to qualify for exemption. This question arises in
the backdrop of the following facts.
The assessee is an Apex Body controlling all District
co-operative banks. It is registered under the provisions of
the co-operative Societies Act, 1912 read with Section 6 of
the Act. The assessee filed returns for the relevant years
claiming that the entire income was from banking business
and, therefore, exempt from tax under Section 81 of the
Income Tax Act. The Income Tax Officer rejected the claim in
regard to interest being exempt under the said provision.
There is no dispute, and indeed there can be none, that the
assessee is engaged in carrying on the business of banking
which, inter alia, includes the activity of providing credit
facilities to its members. In the course of its business it
receives deposits and makes advances to borrowers at a rate
of interest higher than what it pays on deposits. A part of
these deposits are, however, invested in the form of
government securities with the State Bank of India or the
Reserve Bank. Under Section 44 of the Co-operative Societies
Act, the assessee is required to invest or deposit its funds
to maintain a cover to the extent necessary and further
provides that the Reserve Fund of the Society shall be
invested and utilised as may be laid down by the Registrar,
which it does by investing in government securities
purchased with the bank’s funds. The question is whether the
interest earned by the assessee from government securities
placed with the State Bank or the Reserve Bank can qualify
for exemption under Section 81 of the Income Tax Act?
Before we proceed to answer this question we may refer
to the M.P. Government’s instructions No.CR 25/26 dated
October 7, 1960 which, insofar as it concerns Apex banks,
reads as under:
“(C) APEX BANK
The Reserve Fund of the Apex Bank shall
be fully invested outside its business
in Government securities. No part of its
reserve fund should be utilised as its
working capital.
3. All investments of Reserve fund shall
be specially marked as “Reserve Fund
Investment” and shall be shown
separately in the annual balance sheets.
The Reserve Fund deposits at every level
shall carry the maximum rate of interest
which a Central bank or Apex bank pays
on fixed deposits for longest period or
3% whichever is higher. No part of the
Reserve Fund deposits shall be drawn
without the previous sanction of the
Registrar, in the case of Apex bank,
Central Banks and Large Sized Societies
and in the case of other primary
societies without the permission of the
Deputy Registrars. Such approval can be
given when the amount is either required
to meet losses, or, when the society is
to be wound up. These eventualities
will, however, be very rare.”
Obviously as per the above instructions no part of the
Reserve Fund can be utilised as working capital nor can any
part of the Reserve Fund deposits be withdrawn except with
the permission of the Registrar to meet losses or at the
time of winding up and not otherwise. In the circumstances
the Revenue contends that the securities relating to the
Reserve Fund can never be considered to be the circulating
or working capital of the bank or its stock-in-trade to
qualify for exemption under Section 81 of the Income Tax
Act.
Insofar as interest on Provident Fund deposits are
concerned, admittedly the same was included in the Profit
and Loss Account of the Bank. It appears from the
observations in paragraph 11 of the appellate order of the
Tribunal that even the assessee’s counsel found it difficult
to justify the claim and said that it ought not to have been
included in the Profit and Loss Account of the Bank since it
belonged to the Provident Fund as the bank was merely
holding those deposits as Trustees. The tribunal did not
examine this contention, and in our opinion rightly, since
the same was not agitated before the authorities below and
no foundation was laid for the same. The Tribunal held that
since the interest earned therefrom was included in the
Profit and Loss Account of the assessee and was shown as
earnings, it was liable to tax since it did not form part of
the assessee’s stock-in-trade or circulating capital and
could not, therefore, be described as income from the
business of banking to qualify for exemption. The Tribunal,
therefore, held that this income was liable to tax. Mr.
Salve, the learned Senior Counsel for the assessee with his
usual fairness stated that in the absence of the
foundational facts, the Tribunal was justified in refusing
to examine the contention of the assessee’s counsel and he
was not in a position to assail the Tribunal’s approach. He,
therefore, did not press the contention under this head. We
are, therefore, left with the first contention only, namely,
whether interest on government securities earned by the
assessee is exempt from tax under Section 81 of the Income
Tax Act.
There can be no doubt that the object of section 81 was
to encourage the co-operative movement in the country by
providing tax exemption to those co-operatives engaged in
activities set out in clauses (a) to (f) thereof. One such
activity is the carrying on of the business of banking or
providing credit facilities to its members by a co-operative
society. The section, therefore, provides that income-tax
shall not be payable by a co-operative society in respect of
the profits and gains of business carried on by it, if it
arises from the business of banking or providing credit
activities for its members. However, if such a co-operative
society also engages itself in activities other than the
business of banking or providing credit facilities the
profits derived from such business shall not be exempt from
tax if it exceeds rupees fifteen thousand. It is, therefore,
obvious that the entire income derived by a co-operative
society from the business of banking or providing credit
facilities to its members is exempt from income tax, but if
that society also engages itself in any other activity and
earns profit therefrom, the income so derived becomes liable
to assessment and payment of income tax if it exceeds the
ceiling amount. The normal banking activity is to receive
deposits and utilise such deposits by advancing loans, etc.,
to borrowers. Since the rate at which interest is paid to
depositors is lower than the rate charged from borrowers,
the difference in the rates generates income for the banks.
The banks may have to maintain certain reserves to meet with
emergencies, e.g. a spurt in withdrawals by depositors for
diverse reasons. Investments which permit withdrawals at
short notice would, therefore, be a part of the requirement
of banking business and interest accruing on such
investments would be outside the tax-net. That is why this
Court in Bihar State co-operative bank Ltd. vs. Commissioner
of Income tax (1960) 39 ITR 114 (SC), while dealing with
income derived by way of interest on short-term deposits by
the bank, held that it was income from normal banking
business and was, therefore, exempt from the liability to
pay income-tax. This Court held that since the society was
engaged in banking activity, its normal business was to deal
in money and credit and, therefore, the money laid out in
the form of short-term deposit did not cease to be a
circulating capital and interest earned thereon cannot be
other than income generated from the business of banking and
was, therefore, exempt from tax. The same view was
reiterated in Commissioner of Income Tax vs. Bombay State
Co-operative bank, Ltd. vs. Commissioner of Income Tax,
Kerala (1975) 101 ITR 87 (Kerala) and Commissioner of Income
Tax, Orissa vs. Orissa State Co-operative Housing Corpn.
Ltd. (1976) 104 ITR 157 (Orissa). The Privy Council in
Punjab Co-operative Bank Ltd. vs. Commissioner of Income Tax
(1940) 8 ITR 635 also held that bankers have always to keep
sufficient cash or readily realisable securities to meet
with any probable demand of depositors in the normal course
of banking business and such funds, counsel argued, would
really form part of the bank’s circulating capital and,
therefore, interest earned thereon would be exempt from tax.
Placing strong reliance on the aforesaid line of
reasoning, counsel for the assessee argued, that interest
earned on government securities placed with the State Bank
or Reserve Bank would be income earned by the bank from its
circulating capital and in any case in the normal course of
banking business and cannot therefore be brought to tax. It
was said that the government securities form part of the
bank’s stock-in-trade and any income earned thereon would be
outside the tax-net. Counsel for the revenue, however,
distinguished the decisions relied on by the assessee mainly
on the ground that the bank’s funds were utilised in short-
term deposits or in government securities which could be
easily encased to meet with a probable sudden rush of
depositors and, therefore, the fund employed for the purpose
never went out of circulation but was kept apart to meet a
probable eventuality and, therefore, a business obligation.
He pointed out that in the case of Reserve Fund Investments
no part of the deposits was permitted to be withdrawn unless
the money was required to meet losses or the society had to
be wound up and that too with the Registrar’s permission
only. Therefore, he submitted, these securities could not be
utilised as a working capital nor did they form part of the
circulating capital or stock-in-trade of the bank and hence
the interest earned thereon and shown as forming part of the
income of the society cannot qualify for exemption.
Counsel for the revenue did not join issue on the
proposition that if circulating capital or stock-in-trade of
a co-operative bank is invested in securities, interest
earned thereon would be income from banking business and
would, therefore, qualify for exemption. However, can the
investment in securities of the Reserve Fund be said to be
investment of circulating capital or stock-in-trade, more so
when it is noticed that the co-operative bank does not have
an absolute and unfettered right to withdraw the same
whenever it liked? We have noticed that the co-operative
bank is legally obliged to place certain government
securities with the State bank/Reserve bank and these
securities cannot be withdrawn by the said bank at its sweet
will and can only be withdrawn in certain situations
referred to earlier. That is because the investment of the
Reserve Fund in securities is not to meet with the probable
eventuality to pay off the depositors should they demand the
same. It is, therefore, difficult to comprehend how such
government securities relating to Reserve Fund can be
considered the bank’s stock-in-trade or circulating capital.
it is clearly understood in banking parlance that
circulating capital is that which is put into circulation or
turned over to earn profits. Government securities coming
out of Reserve Fund which cannot be easily encased and which
can be utilised only when the contingencies mentioned
therein arise cannot be considered to be circulating capital
or stock-in-trade. It is more or less in the nature of a
fixed asset of the society, being out of circulation for an
indefinite period. It is, so to say, at arm’s length from
the normal banking business, to be utilised on the happening
of certain events, events which may virtually bring a
cessation of the business. If that be the purpose and object
of setting a p art the funds in the form of government
securities and the like, it cannot be reasonably contended
that the funds placed in cold storage continue to constitute
the bank’s stock-in-trade or circulating capital. The
learned counsel for the revenue was, therefore, right in
contending that the case law cited at the Bar by the learned
counsel for the assessee cannot come to the rescue of the
assessee.
We may make a brief reference to two more cases to
which our attention was drawn by the learned counsel for the
revenue. The first case is of Commissioner of Income Tax,
Lucknow vs. U.P. Cooperative Federation Ltd. (1989) 176 ITR
435 (SC). In that case, the Apex Co-operative Society, which
was expected to regulate the supply of sugar, coal, cloth,
etc., to its members, had received two sums, namely (i)
Rs.9,000/- as interest on cash security deposit with a co-
operative sugar factory for carrying on sugar agency
business; and (ii) Rs.51,295/- as interest on amounts which
it had advanced to its members since they were not able to
arrange for the entire finance needed to lift the stocks.
This Court held that the first amount did not qualify for
exemption because it represented only interest on security
deposit and could not be mixed up with other sums received
in the course of business. Even the learned counsel for the
assessee did not press for exemption so far as that claim is
concerned. The second claim was allowed on the ground that
the money had to be provided to run the business and
generate profit and the funding was, therefore, in the
nature of `investment’ within the meaning of the relevant
provision, in that, the money was ultimately to be utilised
by the member society for the purchase of stocks. The
distinction is obvious, namely, where the money is
ultimately to be used for business purpose, either directly
or through the member-bank, the interest thereon would
qualify for exemption and not otherwise. The second case to
which our attention was drawn is of Assam Co-operative Apex
Marketing Society, Ltd. vs. CIT (Addl.) (1993) 201 ITR 338
(SC). In that case the appellant was appointed as the
procuring agent for paddy by the Assam Government. The
members of the appellant were primary marketing societies
and societies at the village level, with membership of
agriculturists, being the members of the former. Thus no
agriculturist was the direct member of the appellant. So,
the produce was received by the village level societies from
its agriculturist-members and was then passed on to the
primary societies which in turn made it over to the
appellant. A Commission was charged for the procuring
activity which was divided between the three, the appellant
and the village society each taking 19 paise in a rupee and
the remaining 62 paise went to the primary society. The
question was whether the appellant’s share in the
commissioner could be brought to tax. The Tribunal as well
as the High Court on reference held that the assessee was
not entitled to exemption and this Court affirmed the
finding on the following line of reasoning.
“A reading of clause (i) of section 81
shows that the idea and intention behind
the said clause was to encourage basic
level societies engaged in cottage
industries, marketing agricultural
produce of its members and those engaged
in purchasing and supplying agricultural
implements, seeds, etc., to their
members and so on. The words
`agricultural produce of its members’
must be understood consistent with this
object and if so understood, the words
mean the agricultural produce produced
by the members. it is not so
understood, even a co-operative society
comprising traders dealing in
agricultural produce would also become
entitled to exemption which could never
have been the intention of Parliament.
The agricultural produce produced by the
agriculturist can legitimately be called
agricultural produce in his hands but in
the hands of traders, it would be
appropriate to call it agricultural
commodities; it would not be his
agricultural produce. Accordingly, it
must be held in this case that since the
agricultural produce marketed by the
assessee was not the agricultural
produce produced by its members, namely,
the primary co-operative society, the
assessee cannot claim the benefit of the
said exemption.”
The learned counsel for the assessee tried to
distinguish both these cases but in our opinion the purport
of the decisions is obvious. However, even if we were to
agree with learned counsel for the assessee that both these
cases had no application to the f acts of these appeals, it
would make no difference because we have on first principles
come to the conclusion, for reasons set out hereinbefore,
that the interest on government securities placed with the
State Bank of India/Reserve bank of India, cannot qualify
for exemption under Section 81 (now Section 80 P) of the
Income Tax Act.
Before we part, we must take note of Shri Salve’s
contention that the proviso to section 81 would apply in the
case of that co-operative society alone which is engaged in
an activity other than those mentioned in clauses (a) to (f)
which not being so as regards the appellants, the proviso
has no application; and so, no part of its profit of gain
can attract income tax. We do not think this to be the
correct reading of the proviso, notwithstanding the use of
the word “also”. According to us, what the proviso seeks to
convey is that even if a co-operative society is engaged
only in the business of banking, but part of its activity is
not attributable to engagement in such activity, income
derived from that part of activity would become taxable. And
as held above, the income derived from the investment in
Government securities placed with the State bank of
India/Reserve bank of India cannot be regarded as an
essential part of its banking activity inasmuch as the same
does not form part of its stock-in-trade or
working/circulating capital. Therefore, we see no force in
Mr. Salve’s premises.
For the above reasons we see no merit in these appeals
and dismiss the same with costs.