PETITIONER:
COMMISSIONER OF INCOME TAX, PATIALA
Vs.
RESPONDENT:
M/s. GROZ BACKERT SABOO LTD.
DATE OF JUDGMENT22/11/1978
BENCH:
BHAGWATI, P.N.
BENCH:
BHAGWATI, P.N.
TULZAPURKAR, V.D.
CITATION:
1979 AIR 376 1979 SCR (2) 371
1979 SCC (1) 340
ACT:
Taxable Profits Computation of Taxable property, when
an assessee converts his capital assets received as gift,
into stock-in-trade and starts dealing in them, explained.
HEADNOTE:
During the assessment year 1962-63, the corresponding
accounting year being the financial year ending 31st March,
1962, in respect of goods partly of raw materials and partly
of semi-finished needles gifted by their collaborators in
West Germany, the respondent assessee made entries in their
books of account for the first time on 30th September 1961,
as follows: Rs. 44.448.20 debited to the account of 'wire
and strip' and credited to the 'wire and strip Gift Account'
and Rs. 30,000 debited to the account of 'Semi-processed
needles' and credited to the 'Semi-processed Needles Gift
Account'. The assessee utilised these goods in the
manufacture of finished products and sold the same in the
market and the sale proceeds received by the assessee were
credited in the trading account maintained in the books
account of the business, since they represented revenue
receipts arising from the sale of the finished products. On
31st March 1962, the assessee closed the above two gift,
accounts by transferring the respective sums of Rs.
41,448.20 and Rs. 30,000/- to the credit of the 'Capital
Reserve Account' and debited the aggregate sum of Rs.
74,448.20 to the trading account by making corresponding
contra credit entries in the accounts of 'wire and strip'
and 'Semi- processed Needles'. The net effect of these
entries was that the profit of the assessee was reduced by
Rs. 74,448.20. The income-tax officer, in the course of the
assessment of the assessee to income tax for the assessment
year 1962-63 took the view that the debit of Rs. 74,448.20
was wrongly made in the trading account as on 31st March,
1962 since no monies were expended by the assessee in
acquiring the raw-materials and semi-finished needles, but
they were received by way of gift from the West German
Collaborators and hence no amount was deductible in respect
of the value of these goods. The same view was taken by the
Appellate Assistant Commissioner in appeal and on further
appeal, the Tribunal also affirmed the same view. But the
High Court on a reference at the instance of the assessee,
held that the value of these goods could not be treated as
revenue receipt because they `had been received by way of
gift and in any event, even if they constituted revenue
receipt, they could "in no sense be income" since they were
taken out of the ambit of taxability by sub-section (3) of
section 10 of the Income Tax Act, 1961. The High Court
accordingly answered the questions referred by the Tribunal
in favour of the assessee and against the Revenue. The
Revenue thereupon brought the present appeal with special
leave.
Dismissing the appeal, the Court
^
HELD: 1. The cost of raw materials and semi-finished
needles received by the assessee from their West German
Collaborators and introduced in the books of the business
could not be said to be 'nil", but it would
372
be their market value as on 30th September 1961. They were
received by the assessee as capital assets and subsequently
transferred to the business as part of its stock. [375E-G]
Commissioner of Income Tax v. Shirinbai Kooka, 46
I.T.R. (S.C.) 61; and Commissioner of Income Tax v.
Hantepara Tea Co. Ltd I.T.R. (SC) 258; applied.
2. Where an assessee converts his capital assets into
stock-in-trade and starts dealing in them, the taxable
profit on the sale must be determined by deducting from the
sale proceeds the market value at the date of their con
version into stock-in-trade (since this would be the cost to
the business) and not the original cost to the assessee.
[375G-H. 376A]
In the instant case, the original cost of these raw-
materials and semi-finished needles to the assessee was
undoubtedly nil because these goods were received by the
assessee from the West German Collaborators free of cost,
but they were introduced in the business and converted into
its stock on 30th September, 1961 and, therefore, their
market value as on 30th September 1961 would represent the
cost to the business and that would have to be taken into
account in determining the profit arising from the sale of
the manufactured products. The entries made by the assessee
in the books of account of the business on 30th September,
1961 clearly reflected this position. The assessee debited
the sums of Rs. 44,448.20 and Rs. 30,000/- representing
respectively the market value of these raw-materials and
semi finished needles to the stock accounts of 'Wire and
Strip' and 'Semi-processed Needles, which would clearly show
that these goods were treated by the assessee as having been
introduced in the business as part of its stock at their
market value represented by the sums of Rs. 44,448.20 and
Rs. 30,000/- [376A-D]
Commissioner of Income Tax v. Shirinbai Kooka, 46
I.T.R. (SC) 61; and Commissioner of Income Tax v. Hantepara
Tea Co. Ltd. 89 I.T.R. (SC) 258; applied
3. In principle, the position would have been the same
if instead of giving raw-materials and semi-finished
articles to the assessee free of cost the West German
contractors had gifted sums of money to the assessee and the
assessee had introduced these amounts in the business and an
identical quantity of raw materials and semi-finished
products had been purchased for the business with these
amounts. The cost of raw materials and semi-finished
articles thus purchased would have been clearly liable to be
deducted from the sale proceeds of the finished products
manufactured out of them in determining the profit of the
business. [3376D-F]
In the instant case, the cost of the raw materials and
semi-finished needles. to the business represented by the
sums of Rs. 44,448.20 and Rs. 30,000/- debited in the
respective accounts of 'Wire and Strip' and 'Semi-processed
Needles' was liable to be deducted from the sale proceeds of
the finished products in arriving at the profit of the
business. It is true that initially on 30th September, 1961
the credit entries for the sums of Rs. 44,448.20 and Rs.
30,000/- were made in 'Wire and Strip Gift Account' and
'Semi-processed Needles Gift Account' respectively and it
this only on the last date of the account year, namely, 31st
March, 1962 that these amounts were transferred
373
to the credit of the Capital Reserve Account. But that
cannot make and difference to the correct legal inference
to be drawn from the proved facts because the nomenclature
of the account or accounts in which the credit entries were
made is not material but what is really decisive is that
these amounts were debited to the respective accounts of
'Wire and Strip' and Semi-processed Needles' as representing
their real value on 30th September, 1961. These raw-
materials and semi-finished needles were introduced in the
business as part of its stock at their real value
represented by the sums of Rs. 44,448.20 and 30,000/-. The
aggregate amount of Rs. 74,448.20 made up of Rs. 44,448.20
and Rs. 30,000/- was, therefore, liable to be deducted in
determining the profit of the business and it was rightly
debited to the trading account. [376F-H, 377A-C]
JUDGMENT:
CIVIL APPELLATE JURISDICTION: Civil Appeal No. 1482 of
1972.
Appeal by Special Leave from the Judgment and order
dated 20th September 1971 of the Punjab and Haryana High
Court in Income Tax Reference No. 12/71.
Hardayal Hardy, K. C. Dua and Miss A. Suhhashini for
the Appellant.
G. C. Sharma, P. A. Francis, Anoop Sharma and P. K.
Mukherjee for the Respondent.
The Judgment of the Court was delivered by
BHAGWATI, J.- This appeal by special leave arises out
of an assessment to income-tax made on M/s Groz Backert
Saboo Ltd. (hereinafter referred to as the assessee) for the
assessment year 1962-63 the corresponding accounting year
being the financial year being 31 st March, 1962. The
assessee set up in collaboration with M/s Theodor Groz &
Soehne and Ernst Backert, West Germany (hereinafter referred
to as the West German Collaborators) a factory for
fabrication and manufacture of hosiery needles and it was
not disputed on behalf of the assessee that this factory
started business sometime prior to the commencement of the
relevant year of account. It appears that in the early part
of the relevant accounting year, the assessee received from
the West German Collaborators consignment of machinery
costing Rs. 9,45.545/- and along with this consignment, the
West German Collaborators also sent to the assessee certain
goods free of cost. These goods consisted partly of raw-
materials and partly of semi-finished needles at various
stages of manufacture. The invoice in respect of this
consignment was dated 4th April, 1961 and it showed only the
price of the machinery consigned to the assessee and did not
make any mention of the raw materials and semi-finished
needles supplied to the assessee along with this
consignment, since these goods were supplied free of cost
and no charge was made in respect of the same.
374
The Custom Authorities raised objection in respect of these
goods and a separate invoice had, therefore, to be sent by
the West German Collaborators showing Rs. 44,448.20 as the
value of the raw-materials, namely, wire and strip and Rs.
30,000/- as the value of the semi-finished needles supplied
to the assessee. These goods were not entered in the books
of account of the business immediately on receipt by the
assessee but they were brought into the books for the first
time on 30th September, 1961 by making the following
entries: Rs. 44,448.20 debited to the account of “Wire and
Strip” and credited to the “Wire and Strip Gift Account” and
Rs. 30,000/- debited to the account of “Semi-processed
Needles” and credited to the “Semi-processed Needles Gift
Account”. The assesses utilised these goods in the
manufacture of finished products and sold the same in the
market and the sale proceeds received by the assessee were
credited in the trading account maintained in the books of
account of the business, since they represented revenue
receipts arising from the sale of the finished products. On
31st March, 1962, being the last date of the accounting
year, the assessee closed the “Wire and Strip Gift Account”
and the “Semi-Processed Needles Gift Account” by
transferring the respective sums of Rs. 14,448.20 and Rs.
30,000/- to the credit of the “Capital Reserve Account” and
debited an aggregate sum of Rs. 74,448.20 to the trading
account by making corresponding credit entries in the
accounts of “Wire and Strip” and ‘Semi-processed Needles”.
The net effect of these entries was that the profit of the
assessee was reduced by Rs. 74,448.20. The Income Tax
officer, in course of the assessment of the assessee to
income tax for the assessment year 1962-63, took the view
that the debit of Rs. 74,448.20 was wrongly made in the
trading account as on 31st March, 1962 since no monies were
expended by the assessee in acquiring the raw-materials and
semi-finished needles, but they were received by way of gift
from the West German Collaborators and hence no amount was
deductible in respect of the value of these goods. The same
view was taken by the Appellate Assistant Commissioner in
appeal and on further appeal, the Tribunal also affirmed the
same view. This led to a Reference by the Tribunal at the
instance of the assessee and the following two questions
were referred for the opinion of the High Court:
1. Whether on the facts and in the circumstances of
the case, the sum of Rs. 74,448.20 being the
actual value of raw material received from German
Collaborators free of cost represented Revenue
receipt ?
375
2. Whether on the facts and in the circumstances of
the case, the amount of Rs. 74,448/- being the
actual value of raw material received free of cost
from German collaborators was rightly debited at
that value to the revenue account ?
The High Court misapprehended the true nature and scope of
the controversy between parties and seemed to proceed on the
erroneous impression that what the Tribunal had held was
that the raw materials and semi-finished needles received by
the assessee from the West German Collaborators constituted
revenue receipt and its value was, therefore, liable to be
taxed as income in the hands of the assessee. The High Court
held that the value of these goods could not be treated as
revenue receipt because they had been received by way of
gift and in any even, even if they constituted revenue
receipt, they could “in no sense be income” since they were
take out of the ambit of taxability by sub-section (3) of
section 10 of the Income Tax Act, 1961. The High Court
accordingly answered the questions referred it by the
Tribunal in favour of the assessee and against the Revenue.
The Revenue thereupon brought the present appeal with
special leave obtained from this Court.
It was found as a fact by the Tribunal, and indeed
there was no dispute about it, that the raw-materials and
semi-finished needles were received by the assessee from the
West German Collaborators free of cost by way of gift. These
raw-materials and semi-finished needles were received some
time in April, 1961 and it was only on 30th September, 1961
that they were for the first time introduced in the books of
account of the business. There can, therefore, be no doubt
that these raw-materials and semi-finished needles were
received by the assessee as capital assets and subsequently
on 30th September, 1961 they were transferred to the
business as part of its stock If that be so, the cost of
these raw-materials and semi-finished needles to the
business could not be said to be nil, but, on the principle
laid down by this Court in Commissioner of Income Tax v.
Sherinbai Kooka(1) and subsequently followed in Commissioner
of Income Tax v. Hanrepara Tea Co. Ltd.(2), it would be the
market value of there raw-mate rials and semi-finished
needled as on 30th September, 1961. It is now well settled
by these decisions that where an assessee converts his
capital assets into stock-in-trade and starts dealing in
them, that able profit on the sale must be determined by
deducting from the sale .
(1) 46 I.T.R. 86.
(2) 89 I.T.R. 258
376
proceeds the market value at the date of their conversion
into stock in-trade (since this would be the cost to the
business) and not the original cost to the assessee. Here,
the original cost of these raw materials and semi-finished
needles to the assessee was undoubtedly nil because these
goods were received by the assessee from the West German
Collaborators free of cost, but they were introduced in the
business and converted into its stock on 30th September,
1961 and, therefore, their market value as on 30th
September, 1961 would represent the cost to the business and
that would have to be taken into account in determining the
profit arising from the sale of the manufactured products.
The entries made by the assessee in the books of account of
the business on 30th September, 1961 clearly reflected this
opinion. The assessee debited the sums of Rs. 44,448.20) and
Rs. 30,000/-representing respectively the market value of
these raw-materials and semi-finished needles to the stock
accounts of “Wire and Strip” and “Semi-processed Needles”
which would clearly show that these goods were treated by
the assessee as having been introduced in the business as
part of its stock at their market value represented by the
sums of Rs. 44,448.20 and Rs. 30,000/-. The position was no
different than what it would have been if, instead of giving
these raw-materials and semi-finished needles to the
assessee free of cost, the West German Collaborators had
gifted the sums of Rs. 44,448.20 and Rs. 30,0000/- to the
assessee and the assessee had introduced these amounts in
the business and an identical quantity of raw materials and
semi-finished needles had been purchased for the business
with these amounts. The cost of raw-materials and semi-
finished needles thus purchased would have been clearly
liable to be deducted from the sale proceeds of the finished
products manufactured out of them in determining the profit
of the business. Would the position then be different if
instead, the West German Collaborators gave these raw
materials and semi-finished needles to the assessee free of
cost and the assessee introduced them in the business as
part of its stock. We do not sec and distinction in
principle between these two types of cases and we are
clearly of the view that the cost of these law-materials and
semi-finished needles to the business represented by the
sums of Rs. 44,448.00 and Rs. 30,000/- debited in the
respective accounts of “Wire and Strip” and “Semi-Processed
Needles” was liable to be deducted from the sale proceeds of
the finished products in arriving at the profit of the
business. It is true that initially on 30th September, 1961
the credit entries for the sums of Rs. 44,448.20 and Rs.
30,000 were made in “Wire and Strip Gift Account” and “Semi-
processed Needles Gift Account” respectively and it was only
on the last date of the ac count year, namely, 31st March,
1962 that these amounts were trans-
377
ferred to the credit of the Capital Reserve Account. But
that cannot make any difference to the correct legal
inference to be drawn from the proved facts because the
nomenclature of the account or accounts in which the credit
entries were made is not material but what is really
decisive is that these amounts were debited to the
respective accounts of “Wire and Strip” and “Semi-processed
Needles” as representing their real value on 30th September,
1961. These raw-materials and semi-finished needles were
introduced in the business as part of its stock at their
real value represented by the sums of Rs.. 44,448.20 and Rs.
30,000/-. The aggregate amount of Rs. 74,448.20 made up of
Rs. 44,448.20 and Rs. 30,000/- was, therefore, liable to be
deducted in determining the profit of the business and it
was rightly debited to the trading account.
We accordingly dismiss the appeal and answer the
questions referred by the Tribunal in favour of the assessee
and against the Revenue. The Revenue will pay the costs of
the appeal to the assessee.
S.R. Appeal dismissed.
6-978SCI/78
378