PETITIONER: COMMISSIONER OF INCOME-TAX, BOMBAY CITY IBOMBAY Vs. RESPONDENT: JUBILEE MILLS LTD. BOMBAY DATE OF JUDGMENT: 05/12/1967 BENCH: RAMASWAMI, V. BENCH: RAMASWAMI, V. SHAH, J.C. BHARGAVA, VISHISHTHA CITATION: 1968 AIR 883 1968 SCR (2) 539 ACT: Income Tax Act, 1922, s. 23-A-Company reconstructing capital to write off accumulated losses and reducing capital-Whether losses prior to reconstruction relevant for determining reasonableness of company not declaring dividend in subsequent year as prescribed by s. 23-A-S. 66(5) -Procedure to be followed by Tribunal after High Court deciding ques- tion against the view taken by Tribunal. HEADNOTE: The respondent company had suffered large losses in the years prior to 1930 and in that year it reconstructed its capital by adjusting a debit balance of Rs. 12,75,000 in the profit and loss account against the paid up capital and reducing the face value of its shares. For the accounting year relative to the assessment year 1948-49, the respondent Company declared a dividend amounting only to Rs. 24,750 although in terms of s. 23-A of the Income-tax Act, 1922, it was prima facie liable to declare a much larger dividend. The Income-tax Officer therefore held that the company should be deemed to have declared a dividend of Rs. 3,98,798. The respondent's appeals against this order to the Appellate Assistant Commissioner and the Appellate Tribunal were dismissed. The Tribunal rejected the respondent's contention that in view of the past losses suffered by the company, it was not reasonable to expect it to declare a larger dividend. It held that after the reconstruction of its capital the company emerged in a new cloak of reduced capital and for the purposes of determining the applicability of s. 23-A the reconstructed capital alone had to be taken into account and not the original capital, a great portion of which bad been wiped out by debiting losses. The High Court, upon a reference, held that the, loss of Rs. 12,75,000 incurred by the company prior to its reconstruction in 1930 could be taken into consideration for the purposes of the applicability of s. 23-A. On appeal to this Court, HELD:(i) The view taken by the Appellate Tribunal was erroneous in law and the High Court had rightly answered the question referred to it in favour of the respondent-company. There is nothing in the language or context of is. 23-A(1) of the Act to suggest that the expression "losses incurred in the earlier years" should be construed go as to exclude losses incurred prior to the reconstruction ,and to include only unadjusted or carried forward losses still outstanding in the books of the company. The section requires the Income-tax Officer to take into consideration "the losses incurred by the company in the earlier years" or the "smallness of profits made". It is well-established that the profits which are to be considered under s. 23-A(1) are the commercial or the accounting profits and not the assessable income or the assessable profits of the company, because it is the commercial or the actual accounting profits which are to form the source from which the dividend is to be distributed and not the assessable income or assessable profits which may have no relation to the commercial or accounting profits and which are not the actual source out of which the dividend could be paid. [544 G-H: 545 A-C] 540 C.I.T. West Bengal v. Gangadhar Banerjee, 57 I.T.R. 176, referred to. If a company which has got over its losses for some years by adjusting them against its capital and reducing its capital makes a profit in the subsequent year it may theoretically be in a position to distribute the whole of its profits for that year but it cannot be said to have acted unreasonably if it chose not to do so and retained a portion of the profits for the purPose of building up a capital reserve which in course of time would enable the company to regain its original strength of capital. It may be that even after taking into consideration losses prior to a reconstruction it is possible to come to the conclusion that the company was not justified-in not declaring a larger dividend than that actually declared. But in the present case the Tribunal had misdirected itself in law in holding that losses incurred prior to the reconstruction are irrelevant for the purpose of application of s. 23-A in subsequent years. [545 E-G; 546 A-B] (ii)The High Court having rightly answered the question referred to it in favour of the assessee meant that the Tribunal must now, in conformity with the judgment of the High Court, act under a. 66(5) of the Act, that is to say, dispose of the case after re-hearing the respondent company and the Commissioner in the light of the evidence and ding to law. [547 B-D] Income-tax Appellate Tribunal, Bombay and Ors. v. SC. Cambatta & Co. Ltd. 29 I.T.R. 118 and Esthuri Aswathiah v. The C.I.T. Mysore, C.A. No. 631/1966 dated 18-4-67, referred to. JUDGMENT:
CIVIL APPELLATE JURISDICTION: Civil Appeal No. 525 of
1967.
Appeal from the judgment and order dated May 3/4, 1963 of
the Bombay High Court in Income-tax Reference No. 40 of
1957.
B. Sen and R. N. Sachthey, for the appellant.
S. P. Mehta, S., E. Dastoor and I. N. Shroff, for the,
respondent.
The Judgment of the Court was delivered by
Ramaswami, J. This appeal is brought, by certificate, from
the judgment of the Bombay High Court dated May 3/4, 1963 in
Income Tax Reference No. 40 of 1957.
The respondent-company is a limited liability company with a
paid up capital of Rs. 15,25,000/- as on June 30, 1947.
Prior to 1930 the respondent-company had suffered large
losses and in 1930 a debit balance of Rs. 12,75,000/- in the
profit and loss account of the respondent-company was
adjusted by reducing the paid up capital. The face value of
the Ordinary shares was reduced from Rs. 100/- to Rs. 10/-
each and of Preference shares from Rs. 100/- to Rs. 25/-
each after obtaining the sanction of the Bombay High Court.
For the assessment year 1948-49, for which the relevant
previous year was the year ended June 30, 1947, the
respondent-company was assessed to a total income of Rs.
7,47,639/-. On that amount tax was calculated at
541
Rs. 3,27,091/- and the balance available for distribution by
way of dividends for the purpose of s. 23A of the Income-tax
Act, 1922 (hereinafter referred to as the ‘Act’) was,
therefore, Rs. 4,20,548/-. Section 23A of the Act requires
a company in which the public are not substantially
interested to declare in the absence of certain special
circumstances a dividend which would not be less than 60% of
the said balance. The respondent company therefore was
prima facie liable to declare a dividend of at least Rs.
2,52,358/- in order to escape the penal consequences of non-
compliance with the provisions of the said section. The
actual dividend which was declared by the respondent-company
was only Rs. 24,750/-. The Income-tax Officer with the
previous approval of the Inspecting Assistant Commissioner,
therefore, applied the provisions of s. 23A of the Act to
the respondent-company and held that the company should be
deemed to have declared a dividend of Rs. 3,95,798/-. The
respondent-company appealed to the Appellate Assistant
Commissioner of Income-tax against the order of the Income-
tax Officer but the appeal was dismissed. The respondent-
company thereafter filed a second appeal to the Income-tax
Appellate Tribunal. By its order dated September 7, 1955
the Appellate Tribunal confirmed the order made under s. 23A
of the Act and dismissed the appeal. It was contended
before the Appellate Tribunal on behalf of the respondent-
company that in view of the past losses suffered by it the
nondeclaration of a dividend larger than that actually
declared was not unreasonable. It was argued that in view
of the past losses of Rs. 12,75,000/- it was not reasonable
to expect the respondentcompany to declare a larger
dividend. The argument of the respondent-company was
rejected by the Appellate Tribunal. It stated as follows in
the course of its order:
“It is true that company incurred large losses in past
years. But it reconstructed its capital in 1930. In that
year, the debit balance in the profit and loss account had
been set off against the paid-up capital thereby reducing
the paid-up capital of the company. After the
reconstruction, the company emerged in a new cloak of
reduced capital. For the, purpose of determining the
applicability of provision of Section 23A, in our view, the
reconstructed capital alone has to be taken into account and
not the original capital, a great portion of which had been
wiped out by debiting losses. Those prior losses had
already been wiped out by writing off against the paid up
capital. They cannot now be taken for consideration.”
At the instance of the respondent-company the Appellate
Tribunal referred the following questions of law for the
opinion of the Bombay High Court:
542
“1. Whether on the facts and in the circumstances of the
case, the Income-tax Officer was competent to pass an order
u/s. 23(1) of the Act after having allowed a rebate of one
anna per rupee in the assessment under the proviso (a) to
paragraph (B) of Part 1 of the Second Schedule of the
Finance Act, 1948 ?
2.If the answer to question No. 1 is in the affirmative
whether on the facts and in the circumstances of the case,
the assessee company is a company in which the public are
substantially interested for the purposes of sec. 23A of the
Act ? and
3.Whether the loss of Rs. 12,75,000/- incurred by the
company prior to its reconstruction in 1930, could be taken
into consideration for purposes of the applicability of sec.
23A (1) of the Act?”
By its judgment dated March 13, 1958 the High Court answered
the first question in the affirmative, holding that the
Income-tax Officer was competent to pass an order under s.
23A(1) and he was not precluded from doing so by reason of
his having granted rebate to the respondent-company. On the
second question also the High Court gave its answer in the
affirmative, holding that the respondent-company was a
company in which the public was substantially interested for
the purpose of s. 23A of the Act. In view of the answer to
the second question the provisions of S. 23A of the Act
would not be applicable to the respondent-company and the
third question became academic, and the High Court declined
to answer it. The Commissioner of Income-Tax took the
matter in appeal to this Court which reversed the answer
which the High Court had given to question No. 2 and held
that the respondentcompany was a company in which the public
were not substantially interested for the purpose of S. 23A
of the Act. In view of the decision of this Court on the
second question it became necessary for the High Court to
consider the third question and this Court therefore
remanded the reference to the High Court for consideration
of the third question. After the remand the High Court
heard the reference again and by its judgment dated May 3/4,
1963 answered the third question in the affirmative and in
favour of the respondent-company. It was held by the High
Court that the losses prior to reconstruction of the
respondent-company in 1930 which were set off against the
paid-up capital could be taken into consideration for the
purpose of application of S. 23A of the Act.
Section 23A of the Act before its amendment in 1955, in so
far as it is material, states as follows:
“23A. Power to assess individual members of certain
companies-
(1)where the income-tax officer is satisfied that in respect
of any previous year the profits and gains distributed as
dividends by any company upto the end of the sixth month
after its accounts for that previous year are laid before
the company in general meeting are less than sixty per cent
of the assessable income of the company of that previous
year, as reduced by the amount of the income-tax and super-
tax payable by the company in respect thereof he, shall,
unless he is satisfied that having regard to losses incurred
by the company in earlier years or to the smallness of the
profit made, the payment of a dividend or a larger dividend
than that declared would be unreasonable, make with the
previous approval of the Inspecting Assistant Commissioner
an order in writing that the undistributed portion of the
assessable income of the company of that previous year as
computed for income-tax purposes and reduced by the amount
of income-tax and super-tax payable by the company in
respect thereof shall be deemed to have been distributed as
dividend amongst the shareholders as at the date of the
general meeting aforesaid and thereupon the proportionate
share thereof of each shareholder shall be included in the
total income of such shareholder for the purpose of
assessing his total income
543
Provided further that this sub-section shall not apply to
any company in which the public are substantially interested
or to a subsidiary company of such a company if the whole of
the share capital of such subsidiary company is held by the
parent company or by the nominees thereof.
Explanation.-For the purpose of this sub-section, a company
shall be deemed to be a company in which the public are
substantially interested if shares of the company (not being
shares entitled to a fixed rate of dividend, whether with or
without a further right to participate in profits) carrying
not less than twenty-five per cent of the voting power have
been allotted unconditionally to, or acquired
unconditionally by, and are at the end of the previous year
beneficially held by the public (not including a company to
which the provisions of this subsection apply), and if any
such shares have in the course of such previous year been
the subject
544
of dealings in any stock exchange in the taxable territories
or are in fact freely transferable by the holders to other
members of the public.”
when it is found that the company in which the public are
not substantially interested has declared a dividend of less
than 60% of the assessable income of the company as reduced
by the amount of income-tax and super-tax payable by the
company in respect thereof for any previous year. The
section, however, has provided that even if the
applicability of the section is attracted, the Incometax
Officer has to consider whether, having regard to the losses
incurred by the company in earlier years or having regard to
the smallness of its profits, it would have been
unreasonable for the company to declare a dividend larger
than which it had actually declared., The object of the
section is to collect super-tax from the shareholders which
would be payable if the company had distributed its income
by way of dividends and to discourage avoidance of tax by
failing to distribute its income.
On behalf of the appellant Mr. B. Sen put forward the argu-
ment that as a result of the reconstruction of the capital
in 1930 a new chapter had opened in the life of the
respondent-company and losses which it had suffered prior to
the reconstruction of its capital were irrelevant and should
not be considered for the purpose of s. 23A of the Act so
far as subsequent years are concerned. It was said that for
determining the application of S. 23A of the Act it was the
reconstructed capital alone and not the original capital
that had to be taken into account. It was pointed on,,,
that though the reduction of the capital had been
necessitated by lcsses suffered, the reconstruction of the
capital had resulted in wiping out the losses and starting
the company afresh with reduced capital as its paid-up
share capital. The argument was stressed that where the
company adjusts losses against the paid-up capital and
reconstructs its capital, the financial position of the
company and its dividend distributing capacity in subsequent
years have to be judged only by the result of its trading
after reconstruction and not with reference to earlier
losses which have disappeared by adjustment. In our
opinion, there is no warrant, for the argument put forward
on behalf of the appellant. There is nothing in the
language or context of s. 23A(1) of the Act to suggest that
the expression “losses incurred in the earlier years” should
be construed so as to exclude losses incurred prior to the
reconstruction and to include only unadjusted or carried
forward losses still outstanding in the books of the
company., In our opinion, the losses which have been ad-
justed in the books of the company at the time of
reconstruction do not cease to be “losses incurred by the
company in the earlier years” within the meaning of S.
23A(1). The section requires
545
the Income-tax Officer to take into consideration “the
losses incurred by the company in the earlier years” or “the
smallness of profits made.” It is Well-established that the
profits which are to be considered under s. 23A(j) are the
commercial or the accounting profits and not the assessable
income or the assessable profits, of the company, because it
is the commercial or the actual accounting profits which are
to form the source from which the dividend is to be
distributed and not the assessable income or assessable
profits which may have no relation to the commercial or
accounting profits and which are not the actual source out
of which the dividend could be paid.-See C.I.T., West Bengal
v. Gangadhar Banerjee(1). On a similar line of reasoning
the consideration of losses in the earlier years should be
made in the setting and context of the inquiry whether the
company could be regarded as acting reasonably in declaring
a smaller dividend. It is true that as a result of the
losses having been adjusted against the paid-up, capital
they no longer remain as unadjusted losses or carried
forward losses but it does not mean that they cease to have
any impact on the financial position of the company in sub-
sequent years. Even if the company resorts to the method of
wiping out the losses by adjusting them against its capital,
the procedure results in crippling its finances and the
company in future years may reasonably take steps for
improving its crippled financial position. If therefore a
company which has got over its losses for some years by
adjusting them against its capital and reducing its capital
makes a profit in the subsequent year it may theoretically
be in a position to distribute the whole of its profits for
that year but it cannot be said to have acted unreasonably
if it chose not to do so and retained a portion of the
profits for the purpose of building up a capital reserve
which in course of time would enable the company to regain
its original strength of capital which had been crippled by
the adjustment of losses at the time of reconstruction. We
are therefore unable to accept the argument put forward on
behalf of the appellant on this aspect of the case. In our
opinion, the Appellate Tribunal misdirected itself in law in
holding that the losses incurred prior to the reconstruction
of the respondent-company are irrelevant for the purpose of
application of s. 23A of the Act in subsequent years. As we
have already said, the losses incurred prior to the
reconstruction having been adjusted are no longer shown in
the books of the company. It does not, however, mean that
the losses cease to have their effect on the financial
position of the company in subsequent years. It cannot
therefore be said that the losses prior to reconstruction do
not fall within the ambit of the expression “losses incurred
by the company in earlier years” for the purpose of the
application of s. 23A of the Act. Such losses are relevant
to be considered even though they may not be surviving in
the books of
(1) 57 I.T.R. 176.
L2S up CI/68-4
546
the company as unadjusted or carried forward losses. It may
be that even after taking such losses into consideration it
is possible to come to the conclusion that the company was
not justified in not declaring a larger dividend than that
actually declared. But what the Tribunal has done in this
case is that it has refused to take such losses into account
at all because it has taken the view that by their
adjustment against the capital the losses do not survive for
consideration for the purpose of the application of s. 23A
of the Act. The view taken by the Appellate Tribunal is
erroneous in law and we are of opinion that the High Court
has rightly answered the third question in the affirmative
and in favour of the respondent-company.
But it is necessary to give certain effective directions, so
that a mere order of dismissal of this appeal may not result
in injustice. Section 66(5) of the Act requires the
Tribunal on receiving a COPY of the judgment of the High
Court to pass such orders as are necessary to dispose of the
case conformably to such judgment. The section clearly
imposes an obligation upon the Tribunal to dispose of the
appeal in the light of and conformably with the judgment of
the High Court. If the High Court agrees with the view of
the Tribunal, the appeal may be disposed of by a formal
order. But if the High Court disagrees with the Tribunal on
a question of law, the Appellate Tribunal must modify its
order in the light of the order of the High Court. If for
example the High Court has held that the judgment of the
Tribunal is vitiated, because it is based on no evidence or
because the judgment proceeds upon a misconstruction of the
statute, the Appellate Tribunal would be under a duty to
dispose of the case conformably with the opinion of the High
Court and on the merits of the dispute, and rehear the
appeal after giving notice to the parties and redetermine it
in accordance with law. In Income-tax Appellate Tribunal,
Bombay and Ors. v. S. C. Cambatta and Co. Ltd.,(1) the
Bombay High Court explained the procedure to be followed as
under :
when a reference, is made to the High Court either under s.
66(1) or section 66(2) the decision of the Appellate
Tribunal cannot be looked upon as final; in other words, the
appeal is not finally disposed of. It is only when the High
Court decides the, case, exercises its advisory
jurisdiction, and gives directions to the Tribunal on
questions of law, and the Tribunal reconsiders the matter
and decides it, that the appeal is finally ‘disposed
of………. it is clear that what the Appellate Tribunal is
doing after the High Court has heard the case is to exercise
its appellate powers under section
(1) 29T.T.R.118
547
33………. The shape that the appeal would ultimately take
and -the decision that the Appellate Tribunal would
ultimately give would entirely depend upon the view taken by
the High Court.”‘
This passage was quoted with approval by this Court in
Esthuri Aswathiah v. The C.I.T., Mysore(1). In the present
case, the High Court has held, and we agree with the High
Court, that the judgment of the Appellate Tribunal is
vitiated in law because it has proceeded on an erroneous
interpretation of the statute. The High Court accordingly
answered the third question in the affirmative and in favour
of the respondent-company. We must make it clear that the
answer of the High Court to this question means that the
Appellate Tribunal must now, in conformity with the judgment
of the High Court, act under s. 66(5) of the Act, that is to
say, dispose of the case after rehearing the respondent-
company and the Commissioner in the light of the evidence
and according to law.
Subject to this direction, the appeal is dismissed with
costs.
R.K.P.S. Appeal dismissed.
(1) Civil Appeal No. 631 of 1966, decided on April 18, 1967.
548