JUDGMENT
Gulati, J.
1. This is a reference under Section 66(2) of the Indian Income-tax Act, 1922 (hereinafter referred to as “the Act”).
2. The assessee is a limited company, which runs a textile mill. On or about 31st July, 1950, some directors, officers and employees of the company were prosecuted under the Essential Supplies (Temporary Powers) Act, for having stamped on the cloth produced by the company prices higher than those fixed under the Textile Control Order, 1948. The company passed a resolution to defray the expenses incurred on the defence of the accused. During the accounting years relevant to the assessment years 1952-53, 1953-54 and 1954-55, the company incurred varying amounts in connection with this litigation and claimed that these expenses should be allowed as deductions in computing its net income for the assessment years in question under Section 10(2)(xv) of the Act. The Income-tax Officer held that the breaches committed by the accused were not in the normal course of discharge of their duties nor were they acquitted honourably. He accordingly disallowed the expenses. The assessee’s appeal before the Appellate Assistant Commissioner of Income-tax also failed. The assessee then preferred a second appeal before the Income-tax Appellate Tribunal. The Tribunal, relying upon its decision on the assessee’s appeal for the assessment year
1951-52, rejected the appeals. The Tribunal also rejected the assessee’s application for a reference under Section 66(1) of the Act, on the ground
that a similar application had been rejected by the High Court under Section 66(2), relating to the assessment year 1951-52. The assessee then
moved the High Court under Section 66(2) of the Act. A Division Bench of
this court, however, allowed the application on the ground that the decision
of the Supreme Court in Commissioner of Income-tax v. H. Hirjee, [1953] 23 ITR 427 (SC) relied upon
by the earlier Bench, could be distinguished and directed the Tribunal to
submit a statement of the case. In compliance with this order the Tribunal
has now referred the following question of law for the opinion of this
court :
” Whether, on the facts and in the circumstances of the case, the assessee-company was entitled to deduct while computing its net income for the assessment years 1952-53, 1953-54 and 1954-55, the sums of Rs. 28,957, Rs. 12,519 and Rs. 4,330 spent by it in defending its directors, officers and employees in the proceedings under the Essential Supplies (Temporary Powers) Act, under Section 10(2)(xv) of the Income-tax Act ?”
3. When this reference came up before a Bench of this court it was argued on behalf of the assessee that the decision of the Supreme Court in the case of Hirjee was distinguishable, inasmuch as in that case it was the assessee who was prosecuted but in the instant case the assessee’s directors, officers and employees were prosecuted and, as such, the principle laid down in that case would not apply. To support this contention reliance was placed on the decision of the Gujarat High Court in Commissioner of Income-tax v. Ahmedabad Controlled Iron & Steel Registered Stockholders Association Pvt. Ltd., [1975] 99 ITR 567 (Guj) The Bench felt that the decision of this court rendered on the assessee’s application under Section 66(2) for the assessment year 1951-52 required reconsideration by a larger Bench. That is how this reference has now come up before us.
4. Section 10 of the Act deals with the computation of income from business. Sub-section (2) of Section 10 enumerates certain deductions to be made in the computation of net income. Clause (xv) of Section 10(2) is a residuary clause, which provides that any expenditure wholly and exclusively laid out for the purpose of the business may be allowed as a deduction. The question arises as to whether the expenses incurred by the assessee in defending its directors and employees could be said to be an expenditure wholly and exclusively laid out for the purpose of the business.
5. The transaction which gave raise to the prosecution no doubt pertains to the assessee’s business but that is not enough. The assessee had further to prove that the expenses in question were laid out wholly and exclusively
for the purpose of the business. In other words, the assessee had to establish that the expenditure in question was incurred purely out of business considerations and not for any other purpose. The finding that an expenditure had been incurred wholly for business considerations is an inference to be drawn from the facts of each case and the attending circumstances. Generally, there is no difficulty in judging whether such an inference has been correctly drawn in respect of expenses incurred on a civil litigation arising out of the conduct of the business of an assessee. The courts have, however, felt some difficulty in answering a similar question relating to expenses incurred in criminal litigation. In Commissioner of Income-tax v. Hirjee the Supreme Court had to deal with a similar question. There the assessee carried on business as selling agent of Bengal Potteries Ltd. He was prosecuted under Section 13 of the Hoarding and Profiteering Ordinance, 1943, on the charge that he had sold the goods at a price which was unreasonable. The Income-tax Officer had disallowed the expenditure. Ultimately, the matter went up before the Income-tax Appellate Tribunal. On behalf of the department it was contended that since in the criminal prosecution there was a chance of the assessee being convicted and punished, any expenditure incurred by the assessee to save himself from punishment could not be said to be wholly and exclusively laid out for the purpose of the business. Repelling this contention the Tribunal held as follows:
” It may be stated straight off that it has not been established by any material that the conviction in cases like this may end in imprisonment. The question that personal liberty was likely to be jeopardised, therefore, will not be considered by us. …. No doubt, the element of saving himself from the fine, if any, might be there, but it is so inextricably mixed up with the main purpose for the defence that we are prepared to ignore that little element. In our opinion, the defence was solely for the purpose of maintaining his name as a good businessman and also to save his stock from being undersold if the court held that the prices charged by the respondent were unreasonable.”
6. On a reference the Calcutta High Court held that the finding recorded by the Tribunal was a finding of fact and was binding on them and, as such, answered the reference in favour of the assessee. On appeal, the Supreme Court held that the finding of the Tribunal was vitiated by its refusal to consider the possibility of the criminal proceedings terminating in prosecution and imprisonment of the assessee, and, as such, the finding of the Tribunal was not binding on the courts. This is what their Lordships observed at page 430:
” We are unable to agree that the finding of the Tribunal, to which reference has been made, is binding on the court as a finding of fact and is decisive of the reference. The finding of the Tribunal is vitiated by its refusal to consider the possibility of the criminal proceeding terminating in the conviction and imprisonment of the respondent. As has been stated, the respondent was prosecuted under Section 13, which provides:
‘Whoever contravenes the provisions of the Ordinance shall be punishable with imprisonment for a term which may extend to five years or with fine or with both.’
The respondent was charged with contravention of Section 6, which by Sub-section (1) prohibits the sale by a dealer or producer of an article for a consideration which is unreasonable and Sub-section (2) defines ‘ unreasonable consideration’. The framers of the Ordinance thus appear to have regarded the offence as one calling for a deterrent punishment in view of its anti-social character, and it is idle to suggest that it is for the income-tax authorities to prove in such cases that the conviction might result in a sentence of imprisonment and that, in the absence of such proof, there was, at the most, only a chance of conviction and fine.”
7. Their Lordships observed further :
” If, as the High Court realised, in every criminal prosecution where the matter is defended to protect the good name of a businessman or a professional man, the fear of possible fine or imprisonment must always be there, it must ordinarily be difficult for any court to say, that the expenses incurred for the defence, even if they are not to be regarded as the ‘personal expenses’ of the person accused, constituted ‘expenditure laid out or expended wholly and exclusively for the purposes of the business’.”
8. This judgment was interpreted differently by various High Courts. Some High Courts held that expenditure incurred in criminal litigation was not to be allowed as a deduction in any case while other High Courts held that such expenses could be allowed if they were incurred in connection with the prosecution of the employees of the assessee and not the assessee himself, because in a case where an employee of the assesses was prosecuted it could not be said that the assessee was trying to save himself from punishment. It is not necessary to notice these decisions, because the law has now been clarified by the Supreme Court itself in Commissioner of Income-tax v. Dhanrajgirji Raja Narasingirji, [1973] 91 ITR 544 (SC).
Repelling the argument of the revenue that litigation expenses incurred in civil litigation alone were deductible under Section 10(2)(xv), the Supreme Court held that that provision did not make any distinction between civil litigation and criminal litigation. All that the court had to see was whether the transaction in respect of which proceedings where taken arose out of and was incidental
to the assessee’s business and whether the expenditure was bona fide incurred wholly and exclusively for the purpose of the business. In that case the assessee was the managing agent and the chairman of the board of directors of a public company promoted by him. The company got into financial difficulties and the assessee entered into a tripartite agreement between himself, the company and one G, who agreed to bring the necessary finance, pursuant to which the assessee gave up the managing agency in favour of G. Under another agreement, G was also given the selling agency. It was further agreed that, if the managing agency and the selling agency were cancelled, they would revert to the assessee. G committed breach of this contract and the assessee had to file a civil suit and also took criminal proceedings against him alleging misappropriation of the company’s funds and other fraudulent acts. The question arose as to whether expenses incurred by the assessee in criminal litigation were allowable deductions under Section 10(2)(xv) of the Act. The Supreme Court held that the expenditure was an allowable deduction. In coming to this conclusion the Supreme Court relied upon the finding of the Tribunal that the criminal litigation was instrumental in bringing about the compromise as a result of which the assessee got back the managing and the selling agency and also the chairmanship of the board of directors. In the opinion of the Supreme Court, on this finding of the Tribunal, it could be easily held that expenditure had been incurred wholly and exclusively for the purpose of the business.
9. Now, in the instant case, the Tribunal has recorded a finding that the expenditure was not wholly and exclusively laid out for the purpose of the business. Before we proceed to examine whether this finding is based on material or not, we must refer to another decision of the Supreme Court in the case of Commissioner of Income-tax v. Indian Mica Supply Co. P. Ltd., [1970] 77 ITR 20, 22 (SC) where the Supreme Court held :
” It is well settled that it is a question of fact in each case whether the amount which is claimed as a deductible allowance under Section 10(2)(xv) of the Income-tax Act, 1922, was laid out wholly and exclusively for the purpose of the assessee’s business. If the fact-finding Tribunal comes to the conclusion on evidence that the expense incurred is wholly and exclusively for the purpose of the business, then the decision of the Tribunal cannot be disturbed, if there is evidence upon which it could arrive at such a conclusion.”
10. Now, let us see what is the material in the instant case upon which the Tribunal has recorded the finding that the expenditure has not been incurred wholly and exclusively for the purposes of the business. The
necessary material is contained in the order of the Tribunal passed on the appeal of the assessee for the assessment year 1951-52 and is as below :
(1) That the accused persons were Mr. M. L. Bagla, secretary; Mr. Parikh, accountant; Mr. Robertson, spinning master ; Mr. W. Oldham, Mr. Bhagwati Dayal, statisticians ; Mr. Lalta Prasad, clerk; Mr. Mangturam Jaipuria, a director, and two other persons; Sita Ram, adopted son of Mangturam Jaipuria, and one nephew or other relation of Mangturam Jaipuria, who were not directors in the relevant period.
(2) That the board of directors of the company had passed a resolution sanctioning expenditure for defence of the accused persons.
(3) That there was no compulsion on the company to shield the accused persons vis-a-vis their offences.
(4) That the offence with which they were charged was, inter alia, stamping excessive price on the cloth manufactured by the company.
11. Clearly, the circumstances taken into consideration by the Tribunal are relevant. The mere fact that all the accused persons were not directors of the company but were relatives of one of the directors is enough to hold that the expenses (at least in part) had been incurred for extra-commercial consideration, viz., to save the relatives of a director from punishment.
12. We agree that these facts are not conclusive and it was open to the company to show that, even though it was under no obligation to defend the accused, yet it did so to protect its business reputation and goodwill or to save its stock from confiscation which is one of the penalties that could be imposed. But the company does not appear to have taken this stand at all and brought no material on the record to show that the motive and intention of the company was not to save the accused from punishment but to save its own reputation and goodwill. On the facts as found by the Tribunal we are obliged to hold that the Tribunal was right in disallowing the said expenses.
13. Mr. Ashok Gupta, the learned counsel for the assessee-company vehemently urged that as the company itself had not been charged of any offence and the prosecution had been launched against its directors and employees only, it must be held that the expenditure incurred was wholly for the purposes of the business. He has placed strong reliance upon the decision of the Gujarat High Court in the case of Commissioner of Income-tax v. Ahmedabad Controlled Iron and Steel Registered Stockholders Association Pvt. Ltd., [1975] 99 ITR 567 (Guj). In that case the Gujarat High Court, after reviewing the case law on the point, has drawn a line between the cases where the assessee himself is prosecuted and the cases where his employees are implicated. In the former category of cases the expenditure cannot be allowed as a
eduction because of the presence of the element of punishment which the assessee tries to avoid but in the second category of cases, there being no such element, the expenses can be said to be wholly and exclusively laid out for the purpose of the business. With respect, we cannot subscribe to this view. It must not be forgotten that in criminal proceedings a company not being a natural person cannot be prosecuted and sentenced to imprisonment. The prosecution can only be launched against its directors and officers. It cannot, therefore, be said that merely because the directors and the officers of the company had been prosecuted, there was no element of punishment which the company was trying to avoid. Secondly, as we have already stated above, the decisive factor in such cases is not as to who is prosecuted, the assessee or its employees, but what is the intention and the motive of the assessee in incurring expenses on a criminal litigation. Such intention and motive must be gathered from the facts of each case and the attending circumstances. No hard and fast rule can be laid down for this purpose. The fact that the assessee incurs expenses on the defence of its employees is no doubt a relevant circumstance to show that the object of the assessee in incurring expenses was to save its business reputation and property but that circumstance is not conclusive.
14. Before parting with this case we might add that the correctness of the decision of this court in Saharanpur Electric Supply Co, Ltd. v. Commissioner of Income tax, [1971] 82 ITR 405, 409 (All) cannot be doubted, as contended for by the learned counsel for the assessee, even after the decision of the Supreme Court in the case of Commissioner of Income-tax v. Dhanrajgirji Raja Narasingirji. That case was no doubt decided on the basis of the decision of the Supreme Court in the case of H. Hirjee but the following extract will show that the decision actually turned on the facts of the case:
“The position, however, with regard to the expenditure incurred on criminal litigation is different. The expenditure incurred in prosecuting Mander Das could not be said to have been incurred for realising or protecting any asset. The primary object of a criminal proceeding is to see that the guilty person is punished. Sri Gopal Behari argued that criminal proceedings had been taken with a view to putting pressure upon Sri Mander Das so that he could make good the loss caused to the assessee-company. There is no finding that that was the intention with which the criminal proceedings were launched against Sri Mander Das nor indeed is there any finding that as a result of criminal action the company was able to recoup its loss.”
15. For all these reasons we answer the question in the negative, in favour of the department and against the assessee. The Commissioner of Income-tax is entitled to the costs which we assess at Rs. 400.