PETITIONER: COMMISSIONER OF INCOME-TAX, WEST BENGAL,CALCUTTA Vs. RESPONDENT: GUNGADHAR BANERJEE AND CO. (P) LTD. DATE OF JUDGMENT: 22/03/1965 BENCH: SUBBARAO, K. BENCH: SUBBARAO, K. SHAH, J.C. SIKRI, S.M. CITATION: 1965 AIR 1977 1965 SCR (3) 439 CITATOR INFO : E 1968 SC 883 (6) R 1973 SC2323 (9) RF 1976 SC 255 (21) R 1990 SC1277 (29) ACT: Indian Income-tax Act, 1922 (11 of 1922), s. 23A-Dividend- Distribution-Burden of showing whether low-Circumstances to be considered--"Smallness of profit"-Meaning of-"Accounting profits" and "assessable profits", distinction between. HEADNOTE: As the dividend declared to be distributed by the respondentcompany at its General Body Meeting was below 60 per cent of the profits available for distribution, the Income-Tax Officer, with the previous approval of the Inspecting Assistant Commissioner, passed an order under s. 23-A of the Income-Tax Act directing that a certain higher amount shall be deemed to have been distributed as dividends as on the date of the annual general meeting of the Company. He found that, having regard to the profits earned in the earlier years and the capital and taxation reserves, payment of larger dividend would not be unreasonable. This was affirmed, on assessees appeals by the Appellate Assistant Commissioner, and the Income-tax Appellate Tribunal. The Tribunal referred the question to the High Court under sec. 66(1) of the Act, which concluded that having regard to the smallness of the profits, the order of the Income-tax Officer was not justified and answered the question in the assessee's favour. In appeal by certificate. HELD: Section 23A of the Income-tax Act is in the nature of a penal provision. In the circumstances mentioned therein, the entire undistributed portion of the assessable income of the company is deemed to be distributed as dividends. Therefore, the Revenue has strictly to comply with the conditions laid down thereunder. The burden therefore, was upon the Revenue to prove that the conditions laid down thereunder were satisfied, before the order was made. Thomas Fattorini (Lancashire) Ltd. v. Inland Revenue Commis- sion L.R. [1942] A.C. 643 applied. In the present case the Revenue failed to discharge the said burden: indeed, the facts established stamp the order of the Income-tax Officer as unreasonable.. [446F, G] Though the object of the section is to prevent evasion of tax, the provision must be worked not from the stand Point of the tax collector but from that of a businessman. The reasonableness or the unreasonableness of the amount distributed as dividends is judged by business considerations, such as the previous losses, the present profits, the availability of surplus money and the reasonable requirements of the future and similar others. It is neither possible nor advisable to lay down any decisive tests for the guidance of the Income-tax Officer. It depends upon the facts of each case. The only guidance is his capacity to put himself in the position of a prudent businessman. It is difficult to say that the Income-tax Officer cannot take into consideration any circumstances other than losses and smallness of profits. This argument ignores the expression "having regard to" that precedes the said words in s. 23A of the Act. [444B-E] 440 Commissioner of Income-tax v. Williamson Diamond Ltd. L.R. [1958] A.C. 41, applied. Sir Kasturchand Ltd. v. Commissioner of Income-tax, Bombay City, (1949) 17 I.T.R. 493, referred to. The words "smallness of profit" in s. 23A of the Act refer to actual accounting profits in comparison with the assessable profits of the year. The two concepts "accounting profits" and "assessable profits" are distinct. In arriving at the assessable profits the Income-tax Officer may disallow many expenses actually incurred by the assessee; and in computing his income he may include many items on notional basis. But the commercial or accounting profits are the actual profits earned by an assessee calculated on commercial principles. [445F-H.] Commissioner of Income-tax, Bombay City v. Bipinchandra Maganlal and Co. Ltd. (1961)41 I.T.R. 296, followed. In a case where an Income-tax Officer takes action under s. 23A of the Act before the tax for the relevant period is assessed, only the estimated tax can be deducted; but, there is no reason why, when the tax had already been assessed before he takes action under this section. the estimated tax and not the real tax shall be deducted therefrom. [445H- 446B] There is no provision in the Income-tax Act which makes the Balance Sheet final for the purpose of s. 23A of the Act or even for the assessment. It no doubt affords a prima facie proof of the financial position of the company on the date when the dividend was declared. But nothing prevents the parties in a suitable case to establish by cogent evidence that certain items were, either by mistake or by design, inflated or deflated or that there were some omissions. [446B-D] JUDGMENT:
CIVIL APPELLATE JURISDICTION: Civil Appeal No. 807 of 1963.
Appeal from the judgment and order dated September 4, 1961
of the Calcutta High Court Income-tax Reference No. 85 of
1956.
C.K. Daphtary, Attorney General, R. Ganapathy Iyer and
R. N. Sachthey, for the appellant.
A. V. Viswanatha Sastri and S. C. Muzumdar, for the
respondent.
The Judgment of the Court was delivered by
Subba Rao, J. This appeal by certificate raises the question
of the construction of the provisions of s. 23A of the
Indian Incometax Act, 1922, hereinafter called the Act,
before it was amended by the Finance Act, 1955.
The relevant and undisputed facts may be briefly stated.
Messrs. Gungadhar Banerjee & Co. (Private) Ltd., the
respondent herein, is a private limited company. At the
General Body Meeting of the Company held on December 6,
1948, the Directors declared a dividend at the rate of 5 1/2
per cent. per share. The said distribution of dividends
related to the accounting year 1947-48 which ended on April
13, 1948. According to the balance-sheet of the Company for
that year the net profit for the said year was Rs.
1,28,112/7/5. The taxation reserve was Rs. 56,000. The
profit
441
left was Rs. 72,000. The Directors declared a dividend at
the rate of 51 per cent. per share thus making a total
distribution of Rs. 44,000. On that basis the profit that
was available for further distribution was Rs. 28,000.
Though under the balance-sheet the estimated tax was Rs.
66,000, the tax assessed for the year was Rs. 79,400. If
the difference between the tax assessed and the estimated
tax was also deducted from the profits, there would only be
a sum of Rs. 4,000 that would remain as undistributed
profits.
The Income-tax Officer assessed the total income of the
assessee for the year 1948-49 at Rs. 2,66,766. After
deducting the tax payable under the two heads, namely, I.T.
of Rs. 81,517/13/0 and C.T. of Rs. 33,345/12/0, he held that
a sum of Rs. 1,51,902/7/0 was available for distribution to
the shareholders as dividends. As the amount distributed by
the Company was below 60 per cent. of the profits available
for distribution, the Income-tax Officer, with the previous
approval of the Inspecting Assistant Commissioner of Income-
tax, passed an order under s. 23-A of the Act directing that
the amount of Rs 1,07,902 (i.e., Rs. 1,51,902 minus Rs.
44,000= Rs. 1,07,902) shall be deemed to have been
distributed as dividends as on the date of the annual
general meeting of the Company. He found that, having
regard to the profits earned in the earlier years and the
capital and taxation reserves, payment of larger dividends
would not be unreasonable.
The assessee preferred an appeal to the Appellate Assistant
Commissioner against the order made by the Income-tax
Officer under s. 23A of the Act. By the time the appeal
came to be disposed of, in an appeal against the order of
assessment the assessed income was reduced by a sum of Rs.
80,926. Notwithstanding the said deduction, as the amount
of Rs. 44,000 distributed by the Company was less than 60
per cent. of the balance of Rs. 1,64,440 arrived at on the
basis of the revised calculation, the Appellate Assistant
Commissioner held that an action under s. 23A of the Act was
justified. He further held that the assesee incurred no
losses in the previous years, that in almost all the past
assessments the assessee showed substantial profits, that
the profits disclosed in the year of account were not small
and that, therefore, the direction to pay a higher dividend
was not unreasonable.
On a further appeal, the Income-tax Appellate Tribunal held
that the amount of profits should be judged only from the
balancesheet and that judged by the figures given thereunder
a dividend to the extent of Rs. 64,000 being 60 per cent. of
the assessed profits less income-tax. could be distributed
and that such distribution was not unreasonable.
The Tribunal referred the following question under s. 66(1)
of the Act for the decision of the High Court of Calcutta:
“Whether on the facts and in the circumstances
of the case any larger dividend than that
declared by the company could reasonably be
distributed within the meaning
442
of Section 23A of the Indian Income-tax Act
and the application of Section 23A of the
Indian Income-tax Act was in accordance with
law.”
The High Court held that the Tribunal went wrong in taking
into consideration the past profits instead of the past
losses, the taxation reserves without considering the past
liabilities for taxation, and the profits for the year in
question disclosed in the balance-sheet, ignoring the actual
tax assessed for that year. It came to the conclusion that,
having regard to the smallness of the profits, the order of
the Income-tax Officer was not justified. In the result, it
answered both parts of the question referred to it in the
negative. Hence the appeal.
Learned Attorney-General, appearing for the Revenue, con-
tended that the balance-sheet of a company on the basis of
which dividends were declared was final and the profits
disclosed thereunder would be the correct basis for the
Income-tax Officer acting under s. 23A of the Act; and, as
the balance-sheet of the company for the relevant year
showed a sum of Rs. 1,05,950 as “capital reserve brought
forward”, a sum of Rs. 5,73,161 as taxation reserve, and a
sum of Rs. 56,000 as estimated tax, the Income-tax Officer
rightly held that the financial condition of the Company was
sufficiently sound to warrant an order under s. 23A of the
Act. Alternatively he contended that if the respondent
could be permitted to go behind the balance-sheet to
ascertain the real profit, the Department should also be
likewise allowed to go behind the balance-sheet to show that
the commercial profit was larger and the reserves were in
excess of the past liabilities and that in that event to
remand the case for ascertaining the true state of facts.
Mr. A.V. Viswanatha Sastri, appearing for the assessee-Com-
pany, contended that the burden lies on the Revenue to
establish that the dividend declared was not a reasonable
one and that in the present case it had not discharged that
burden. Idle further argued that for the purpose of
“testing the smallness of the profit” the Income-tax Officer
had to take into consideration not the assessable Income but
the commercial profit of the Company and that in the present
case, having regard to the commercial profit, a declaration
of a higher dividend would be unreasonable. He pleaded
that, should this Court hold that the Income-tax Officer
could establish that the reserves were more than the
liabilities, the assessee should also be permitted to prove
what were its real, commercial profits and that the reserves
were far less than the demands.
The contentions of learned counsel turn upon the provisions
of s. 23A of the Act, before it was amended by the
Finance Act of 1955. The material part of that section
reads:
“(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 up to the end of the
443
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 incometax 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 un-
distributed 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
dividends 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.”
The section is in three parts: the first part defines the
scope of the jurisdiction of the Income-tax Officer to act
under s. 23A of the Act; the second part provides for the
exercise of the jurisdiction in the manner prescribed
thereunder-, and the third part provides for the assessment
of the statutory dividends in the hands of the share.-
holders. This section was introduced to prevent
exploitation of juristic personality of a private company by
the members thereof for the purpose of evading higher
taxation. To act under this, section the Income-tax Officer
has to be satisfied that the dividends distributed by the
Company during the prescribed period are loss than the
statutory percentage, i.e., 60 per cent., of the assessable
income of the Company of the previous year less the amount
of Income-tax and super-tax payable by the Company in
respect thereof. Unless there is a deficiency in the
statutory percentage, the Income-tax Officer has no
jurisdiction to take further action thereunder. If that
condition is complied with, he shall make an order declaring
that the undistributed portion of the assessable income less
the said taxes shall be deemed to have been distributed as
dividends amongst the shareholders. But before doing so, a
duty is cast on him to satisfy himself that, having regard
to the losses incurred by the company in earlier years or
“the smallness of the profit made,” the payment of a
dividend or a larger dividend than that declared would be
reasonable. The argument mainly centered on this part of
the section. Would the satisfaction of the Income-tax
Officer depend only on the two circumstances, namely, losses
and smallness of profit? Can he take into consideration
other relevant circumstances? What does the expression
“profit” mean? Does it mean only the assessable income or
does it mean commercial or
444
accounting profits? If the scope of the section is properly
appreciated the answer to the said questions would be
apparent. The Incometax Officer, acting under this section,
is not assessing any income to tax: that will be assessed in
the hands of the shareholders. He only does what the
directors should have done. He puts himself in the place of
the directors. Though the object of the section is to pre-
vent evasion of tax, the provision must be worked not from
the standpoint of the tax collector but from that of a
businessman. The yardstick is that of a prudent
businessman. The reasonableness or the unreasonableness of
the amount distributed as dividends is judged by business
considerations, such as the previous losses, the present
profits, the availability of surplus money and the
reasonable requirements of the future and similar others.
He must take an overall picture of the financial position of
the business. It is neither possible nor advisable to lay
down any decisive tests for the guidance of the Income-tax
Officer. It depends upon the facts of each case. The only
guidance is his capacity to put himself in the position of a
prudent businessman or the director of a company and his
sympathetic and objective approach to the difficult problem
that arises in each case. We find it difficult to accept
the argument that the Income-tax Officer cannot take into
consideration any circumstances other than losses and
smallness of profits. This argument ignores the expression
“having regard to” that precedes the said words.
On the interpretation of the words “having regard to” in s.
23A of the Act, the decision of a Division Bench of the
Bombay High Court, consisting of Chagla C. J., and Tendolkar
J., in Sir Kasturchand Ltd. v. Commissioner of Income-tax,
Bombay City(1) was relied upon by the appellant. Chagla
C.J., speaking for the Court, held in that case that “the
reasonableness or unreasonableness of the payment of a
dividend or a larger dividend has to be judged only with
reference to the two facts mentioned in the section, viz.,
losses incurred by the company in earlier years and the
smallness of the profit.” To put the contrary construction,
the learned Chief Justice said, “would be to import into it
words which the Legislature did not think fit to insert in
that section and to expand the ambit of the discretion
exercised by the Income-tax Officer.” But the learned Chief
of Justice did not expressly consider the scope of the
expression “having regard to” found in the section. The
Judicial Committee in Commissioner of Income-tax v.
Williamson Diamond Ltd.(2) had to consider the scope of s.
21(1) of the Tanganyika Income-tax (Consolidation)
Ordinance, 27 of 1950, which was pari materia with s. 23A of
the Act. Adverting to the argument based upon the words
“having regard to”, their Lordships observed:
“The form of words used no doubt lends itself
to the suggestion that regard should, be paid
only to the two matters mentioned, but it
appears to their Lordships that it is
(1) [1949] 17 I.T.R. 493.
(2) L.R. [1958] A.C. 41.49.
445
impossible to arrive at a conclusion as to
reasonableness by considering the two matters
mentioned isolated from other relevant
factors. Moreover, the statute does not say
“having regard only” to losses previously
incurred by the company and to the smallness
of the profits made. No answer, which can be
said to be in any measure adequate, can be
given to the question of “unreasonableness” by
considering these two matters alone. Their
Lordships are of the opinion that the statute
by the words used, while making sure that
“losses and smallness of profits” are never
lost sight of, requires all matters relevant
to the question of unreasonableness to be
considered. Capital losses, if established,
would be one of them.”
With great respect, we entirely agree with this view. The
contrary view unduly restricts the discretion of the Income-
tax Officer and compels him to hold a particular dividend
reasonable though in fact it may be unreasonable.
The expression “smallness of profit” came under the judicial
scrutiny of this Court in Commissioner of Income-tax, Bombay
City v. Bipinchandra Maganlal & Co. Ltd.(1) Therein, Shah,
J., speaking for the Court observed thus:
“Smallness of the profit in section 23A has to
be adjudged in the light of commercial
principles and not in the light of
total receipts, actual or fictional. This
view appears to have been taken by the High
Courts in India without any dissentient
opinion.”
The learned, Judge laid down the following test: “Whether it
would be unreasonable to distribute a larger dividend is to
be judged in the light of the profits of the year in
question.” If the assessable income was the test and if the
commercial profits are small, the learned Judge pointed out,
the company would have to fall back either upon its reserves
or upon its capital which in law it could not do. This
decision is binding on us and no further citation in this
regard is called for. These two concepts, “accounting
profits” and “assessable profits”, are distinct. In
arriving at the assessable profits the Income-tax Officer
may disallow many expenses actually incurred by the
assessee; and in computing his income, he may include many
items on notional basis. But the commercial or accounting
profits are the actual profits earned by an assessee
calculated on commercial principles. Therefore, the words
“smallness of profit” in the section refer to actual
accounting profits in comparison with the assessable profits
of the year.
Another incidental question is whether for the purpose of
ascertaining the net commercial profits the tax estimated or
the tax actually assessed shall be deducted. In a case
where an Income-tax Officer takes action under s. 23A of the
Act before the tax for the relevant period is assessed, only
the estimated tax can be deduct-
(1) (1961) 41 T.T.R. 290, 296,
p(N)4SCI-
446
ed but, there is no reason why, when the tax had already
been assessed before he takes action under this section, the
estimated tax and not the real tax shall be deducted
therefrom. In this view, in the present case to ascertain
the commercial profits what should be deducted is not the
tax shown in the balance-sheet but the actual tax assessed,
on the income of the Company.
Another question raised is whether the balance-sheet is
final and both the parties are precluded from questioning
its correctness in any respect. There is no provision in
the Income-tax Act which makes the balance-sheet final for
the purpose of s. 23A of the Act or even for the assessment.
It no doubt affords a prima facie proof of the financial
position of the company on the date when the dividend was
declared. But nothing prevents the parties in a suitable
case to establish by cogent evidence that certain items
were, either by mistake or by design, inflated or deflated
or that there were some omissions. It does not also
preclude the assessee from proving that the estimate in
regard to certain items has turned out to be wrong and
placing the actual figures before the Income-tax Officer.
But in this case no attempt was made before the Tribunal to
canvass the correctness of the figures either on the debit
side or on the credit side and we do not think we are
justified to give another opportunity to either of the
parties in this regard. Before the Tribunal there was no
dispute that the actual tax assessed for the relevant year
was much higher than the estimated tax shown in the balance-
sheet.
Section 23A of the Act is in the nature of a penal
provision. In the circumstances mentioned therein the
entire undistributed portion of the assessable income of the
Company is deemed to be distributed as dividends.
Therefore, the Revenue has strictly to comply with the
conditions laid down thereunder. The burden, therefore,
lies upon the Revenue to prove that the conditions laid down
thereunder were satisfied before the order was made: see
Thomas Fattorini (Lancashire) Ltd. v. Inland Revenue
Commissioners(1). In the present case the Revenue failed to
discharge the said burden: indeed, the facts established
stamp the order of the Income-tax Officer as unreasonable.
The assessment orders passed by the Income-tax Officer are
not before the Court. The balance-sheet shows a net profit
of Rs. 1,28,112/7/5 whereas the Income-tax Officer has
computed the assessable income at Rs. 2,66,766, which was
later reduced in appeal by Rs. 80,925. There is no evidence
on the record that the real commercial profits were
artificially reduced in the balance. sheet. Nor is there
evidence to show what part of the income assessed represents
commercial profits, and what part the notional income. In
the circumstances it must be assumed that the amount
mentioned in the balance-sheet correctly represented the
commercial profits.
(1) L.R. [1942] A.C.643.
447
From the figures already extracted at an earlier stage it is
manifest that the net commercial profit was barely Rs. 4,000
and it is not possible to hold that it was not unreasonable
for the Income-tax Officer to make an order to the effect
that the additional sum of Rs. 64,000 should be deemed, to
have been distributed as dividends amongst the shareholders.
In the result we hold that the order of the High Court is
correct and dismiss the appeal with costs.
Appeal dismissed.
448