Commissioner of Income-Tax, Madras v. K. R. M. T. T. Thiagaraja Chetty & Co.

Judgment

Oct. U. [1954] COMMISSIONER OF INCOME-TAX, MADRAS K. R. M. T. T. THIAGARAJA CHETTY & CO. [PATANJALrSASTRI C.J., S. R. DAs, VIVIAN BosE, GHULAM HASAN and BHAGWATI JJ.] India,n focome-tax Act (XI of 1922), ss. 4 (1) (b), 13-Cominission agency-Accou,nts kept on. mercantile system--Oomniission, credited to aae1it and debited as b1tsi-ness expendit·ure, but withheld and car1·ied Over snbseqnently to sn.~pense acconnt pending dispntes-Whether i1nconie ha.s a.cc1·1ted-Oo1npu,ta.tion of profits, ~ohether Cj)ndition prececlent to accrnal. \Vhere, under the terms of a managing agency agree1nent, the assesses firm who· wera the 1nanaging agents of a company \Vere entitled to a certain percentage of the profits as their commission and in the books of the company maintained by the firm a su1n of Rs. 2,26,850 odd was shown as co1nmission due to the fir1n on the profits for the year 1.941-42 and the said sum was also debited as an item of business expenditure and credited to the inn.naging agents' commission account, but the aforesaid sum was ·subsequently carried to a suspense account by a resolution of the company as a result of a request made by the firm that a debt due by the firm to the company may be written off:

Held, that, as the assessee kept the accounts on the mercantile system the commission accrued to the assesses \\•hen the commis- _sion was credited to it in the accounts, and t]1e subsequent carrying over of the amount of the commission to a suspense account pending the settlement of the dispute between the company and the assessee could not affect the assessee's liability to be taxed on this income. Held fnrther, that the fact that the profits of the business could be computed only after the 31st of March, 1942, was immaterial as quantification of the commission is not a condition precedent to its accrual. CIVIL APPELLATE JURISDICTION: Civil Appeals Nos. 131, 131-A and 131-B of 1952. Appeals from the Judgment and Decree dated the 2nd day of February, 1950, of the High Court of Judicature at Madras (Satyanarayana Rao and Viswanatha Sastri JJ.) in Cases Referred Nos, 76 :i,nd 78of 1946 flln<l 32 and 56 of 194 7, I J s.c.R. C. K. Daphtary, Solicitor-General for India (G. N. Joshi'., with him) for the appellant.

B. Somayya (Alladi Kuppu.swami, with him) for the respondent. Oom.niissioner of I ncom-e·tax, Madras 1953. October 14. The Judgment of the· Court K. R. M. T. T. was d.elivered by Thiagaraja Ghetty GHULAM HASAN J.-These three appeals arise from the judgment and order of the Madras High Court dated 2nd February, 1950, delivered on a reference by the Income-tax Appellate Tribunal (hereinafter referred to as 'The Tribunal'), whereby the High Court answered the first referred question in the negative, and as regards the second question, Satyanarayana Rao J. answered it in the affirmative, while Viswanatha Sastri J. answered it in the negative, as a result of which the judgment of Satyanarayana Rao J. ultimately prevailed. They relate to the assessment for 1942-1943 and are filed by the Commissioner of Incometax, while Appeal No. 132 of 1952 which relates to 1943-1944 is filed by the assessee, and is dealt with separately.

The two questions which were referred in respect of the first group of appeals are as follows:- (1) Whether there is any material for the Tribunal's finding that the appellants (respondents in this case) were being assessed on cash basis in the prior years? (2) Whether on the facts and in the circumstances of the case the Appellate Tribunal's finding that the sum of Rs. 2,26,850 could not be assessed for the assessment year 1942-43 is correct in law? The assessee is a registered firm (hereinafter referred to as 'the firm') consisting of K.R.M.T.T. Thiagaraja Chetty and his two sons. The firm is the managing agent of Shri Meenakshi Mills, Ltd. (hereinafter referred to as the Company) owning .a spinning mill at Madura. The firm also conducted insurance business and the business of ginning cotton in a ginning factory at another place. Under tbe terms of the agreement and Oo. [1954] 11>53 the managing agents were entitled to a remuneration ,, of Rs. 1,000 per mensem and a commission of ~- per om-11iiss1one:r oJ Income.tax, cent. on all purchases, 1 per cent. on all sales and Madras 10 per cent. commission on the net profits of the mills before allowing for depreciation.

The firm had plenary K: R. M. T. 2'. powers of management of the affairs of the company Thwaar~J~ Ohetty subject to general supervision of the directors. It was 0 to have charge and custody on behalf of the company Gholam HasanJ. of all the property, books of acco'i:mts, papers and documents and effects belonging to the company. It was required to keep at the expense of the company proper and complete books of account of all purchases and sales and of all payments made and moneys received on behalf of the company. It had to defray all the expenses of maintaining a suitable office and a staff of assistants and clerks sufficient to transact the business of the firm as managing agents of the company.

Clause 16 is most important and lays down that the firm shall be at liberty to retain, reimburse, and pay themselves out of the funds of the company, all charges and expenses, legal or otherwise and all the costs and expenses of providing and maintaining offices for the company and the salaries of clerks, servants, agents or workmen and all moneys expended by them on behalf of the company and all sums due to the .firm for commission or otherwise. The company made considerable profit in the assessment year 1942-1943 and the firm became entitled to commission to the tune of Rs. 2,26,850-5-0. The firm did not show this sum in the return on the ground that it was not actually received in the year of account, viz., by the 31st March, 1942.

It relied upon a resolution of the Board of Directors of the company, dated the 30th March, 1942, by which they had decided to keep the aforesaid amount in suspense without paying it on the ground that an amount of two lakhs odd was due to the company from the firm. It appears that the firm owedadebttothecompany for a long time past which was outstanding. The firm wrote on the 30th March, 1942, to the company requesting that the debt be written off. The firm also wrote that oI) accouI)t, of the extraordinary i_ncrease in the volume T . ' S.C.R. of business, it found it difficult· to bestow adequate attention on all the aspects of the mill business and 0 l mnmitssiontr a, proposed that the direct respons1b1bty iOr sa es an Income-tax, purchases may be transferred to some other agency, Madras leaving the general supervision over the entire management in the firm's hands. The firm agreed to forego K: R. :fr~. T. T. its commission on purchases and sales and agreed to ThiagaraJa Ohcuy take half of the commission on the net profits.

The and !!_ 0 directors by their resolution, passed on the same date, Ghulain Hasan J. refused to write off the amount without consulting the general body of shareholders and pending the settlement of the dispute resolved to keep the amount in suspense.· The Income-tax Officer held that the firm followed the mercantile method of accounting and not the cash basis and that the income having accrued became assessable whether received or not. The actual am<:mnt payable to the firm in accordance with the terms and conditions of the agreement for the year 1942-1943 was not disputed. The Appellate Assistant Commissioner confirmed the assessment and dismissed the appeal of the assessee. The Commissioner upheld the view that the income was determined on the mercantile basis and that the income had accrued or arisen to the assessee within the meaning of section 4( 1) ( b)

(i) of the Income-tax Act, and the mere fact that the amount was put in the suspense account did not alter the fact that the income had accrued to the firm. Upon the matter being carried further in appeal by the assessee, the Tribunal held that the income had not accrued to the firm and that the amount should be excluded fron1 taxation as not having been received during the accounting year. The two questions aforementioned were then referred at the instance of the Commissioner by the Tribunal to the High Court.

As already stated, the opinion on the first question was unanimous, both the learned Judges Satyanarayana Rao J. and Viswanatha Sastri J. holding against the assessee that there was no material for the Tribunal's finding that the firm was being assessed on cash basis in previous years, the latter observing that [1954] findings in respect of 1942-1943 and 1943-1944 were 0 ·' mutually inconsistent, for in respect of the latter assessomm-iesioner o; lncome-!ax, ment year the Tribunal had held that the sum of Madras Rs. 2,20,702 was assessable to income-tax, though the amount merely stood as a credit to the firm in the K. R. M. 1'. T. books of the company and has not been drawn by the Thiagaraja Ohetty firm. andOo. It is contended by Mr. Somayya on behalf of the Ohnlam Hasan J. firm that the finding of the Commissioner that the firm was not paid in cash in the prior years was set aside by the Tribunal and being a finding of fact ought not to have been interfered with by the High Court.

The firm had raised this question before the Tribunal at the time of the reference and. had contended that no question of law arose from its order, as it was concluded by finding of fact. The Tribunal, however, repelled this contention observing that the question was one of law, as it related to the existence of any material for the finding. The High Court upon such question being referred applied its mind to the precise question and came to the conclusion that there was no material for the finding that the firm was being assessed on cash basis in the prior years. The case of Commissioner of Income-tax, Bihar and Orissa v. Maharajaiihiraja of Darbhanga(') does not support the contention of Mr. Somayya.

There the Income-tax Officer had computed the profits of the business for a particular year by taking into account both actual receipts of interest in that year and sums treated by the assessee in that year as receipts of interest by their transference to the interest register from what might be regarded as a suspense account. The Privy Council held that there was nothing illegal or contrary to principle in the computation arrived at by the Income·- tax Officer. The High Court under section 66(1) had to decide the question of law raised by the first question and decided it against the assessee. Nor can it be said that in answering the question, the High Court acted illegally or contrary to principle. Admittedly, the firm kept no separate books of accounts other than (1) 60 I.A. 146. s.c.:R. SUPREME COUR~ REPORTS the books of accounts of the company in which there was a ledger containing entries relating to the remu- T Oommiseioner. of neration and commission pai in cas to t e firm. he Incom•-ta.r,, sum of Rs. 2,26,850-5-0 was debited as a revenue Madras expenditure of the company as having been paid to the firm in the books of accounts of the company kept K R. M_· 1'.

1'. by the firm and was also allowed as a deduction in ThiagaraJaOhetty computing the profits and gains of the company for the and 00· purposes of income-tax for 1941-1942. The fact that Ghulam Hasan J. certain moneys were drawn in cash by the firm from time to time does not necessarily lead to the inference that the firm kept its accounts on a cash basis. Anyone familiar with commercial transactions knows that even in accounts kept on a mercantile basis there can be entries of cash credits and debits. We see no flaw in the conclusion reached by the High Court on the first question. The next question that' falls to be determined is whether the sum of Rs. 2,26,850-5-0 was part of the profits and gains which had accrued to the firm during the accounting year 1941-1942. The undisputed facts are that the amount in question was the commission earned by the firm as managing agents of the company.

In the books of the company maintained by the firm the aforesaid sum was debited as an item of revenue expenditure. and the profits were computed after deducting that sum. The amount was simultaneously credited to the managing agents' commission account. Under these circumstances, it is idle to contend that the aforesaid sum had not accrued. There can be no doubt under the circumstances that the aforesaid sum was income which had accrued to the .firm. The only question is whether the aforesaid sum ceased to be income by reason of the fact that on the 30th March the sum was carried to the suspense account by a resolution of the directors as a result of the request made by the firm that the outstanding debt due from it may be written off. It is true that the sum was not drawn by the firm but that can hardly affect the question of its liability to tax, once it is established that the income had accrued or.arisen to [1954] the firm.

The mere fact that the company was with- ,, holding payment on account of a pending dispute can- 01n1ntssioner o, Inconle-tax, not be held to mean that the amount did not accrue Madras to the firm. The resolution of the directors itself shows beyond K. R. M. T. 1'- doubt that the amount in question was treated a.s 1 I. Thiagaraja Ohetty b l fi and Go. e ongmg to t e rm t ?ug its payment was deferred on account of a pendmg dispute. As Viswanatha Glwlam Hasan J. Sastri J. tersely put it "The sum had irrevocably entered the debit side of the company's account . as a disbursement of managing agency commission to the firm and had been appropriated to the firm's dues and the same sum could not again be entered in a suspense account at a later date. The sum, therefore, belonged to the firm and had to be included in the computation of the profits and gains that had accrued to it unless the firm had regularly kept its accounts on a cash basis, which is not the case here".

A reference to the ledger folios in the books of the · company shows t.hat a.part from the managing agents' monthly rernunerntion of Rs. 1,000 which has duly entered in their account the amount in question also finds a place in the ledger as outstanding charges against the company and as credits in favour of the firm. The journal entries in the company's books are the same. Section 10 of the Act makes "profits and gains of business, profession or vocation" carried on by an assessee liable to tax. Section 12 makes "income from other sources in respect of income, profits and gains of every kind" 'liable to tax.

By section 13 income, profits and gains shall be computed for the purposes of both those sections in accordance with the method of accounting regularly employed by the assessee, but there is a proviso that, if no method of accounting has been regularly employed, or if the method employed is such that, in the opinion of the Income-tax Officer, the income, profits and gains cannot properly be deduced therefrom, then the computation shall .be made upon such basis and in such manner as the Income-tax Officer may determme. S.C.R. The Income-tax Officer in computing the income of the assess~e woul~ ha v~ followed the mercantile system Comm:;;:,ner of or the cash basis wh10hever was employed by the Income-tax, assessee. There is some evidence, though not conclu- Madras sive, on the record that the assessee followed the mercantile system of accountancy. This appears from K. R. M. T. T. fil d .

Thiagaraja Chetty t ~ assessment or ers e m t e case, ut apart rom and Co. this, the Income-tax Officer had full authority under the proviso to compute the profits upon such basis and Ghulam Hasan J. in such manner as he thought fit. The ca~ie of St. Lucia Usines and Estates Oornpany, Ltd. v. Colonial Treasurer of St. Lucia(') was relied upon strongly before us as it was in the High Court in support of the contention that the sum not having been paid to or realized by the firm no income can be . said to have accrued to the firm. In that case the assessee company sold all its property in St. Lucia in 1920 and ceased'toreside or carry on business there .. In 1921 interest upon the unpaid part of the purchase price was payable to it, but was not paid. The company was liable to· pay income-fax for the year 1921 under the Income-tax Ordinance, 1910, of St. Lucia, only if the interest above mentioned was 'income arising and accruing' to it in 1921.

It was held that though the interest was a debt accruing in 1921, it was not 'income arising or accruing' in 1921, and that the company was not liable. The decision was based upon the meaning of the word 'income' as used in the Ordinance which was said to connote the idea of something "coming in". Lord Wrenbury who delivered the judgment of the Privy Council construed the words "income arising or accruing" as money arising or accruing by way of income and not "debts arising or accruing". The learned Law Lord observed "A debt has accrued to him (taxpayer) but income has not". It is clear that the case related to the meaning of the the word "income" as used in the Ordinance and can be no authority on the question of the assessment of profits and gains under thA Indian Income-tax Act. The next case relied upon is Dewar v. Oornrnissioners of Inland Revenue('). In that case one of the executors (1) [1924) A.C. 508, (2) [1935] 2 K.B. 351, [1954] ms became entitled to a legacy which carried interest for such time as it remained unpaid.

The testator's 0 •;;,::;::~:~ of ~state was suffic~ent at all material times to enable Madra• mterest to be paid on the legacy but the legatee acting on the advice of his accountant did not demand the K. R. M. T. T. legacy or interest thereon. It was held that as the Thiagaraja. Ohetty legatee had not received interest, there was no income andOo. in respect of which he could be charged to sur-tax. ch11lam Ha•an J. The decision turned upon the language of Schedule D, clause 1, sub-clause (b) of the English Income Tax Act of 1918, as distinguished from clause 1 (a). Clause 1 (a) deals with annual profits or gains arising or accruing from any kind of property whatever ...... butclause (b) imposes a ta'X in respect of "all interest of money, annuities and other annual profits." Lord Hanworth. M. R. drew the distinction between the two clauses and observed that the case was one of interest of money and fell under clause (b) and' not under clause (a).

Under that clause the tax was limited to any interest of money whether the same is received and payable half-yearly or any shorter or more distant period. The learned Master of the Rolls observed: "If the interest on the legacy in this case has not arisen to the respondent, if he had not become the dominus of this sum, if it does not lie to his order in the hands of his agent, can it he said that it has arisen to him? I think the answer definitely upon the facts must be: No, it has not." . Lord Maugham L .. J. put the question thus: "I think in the present case two circumstances may be accurately stated in regard to the sum of £40,000 which it is said can he brought into charge. The first is that the sum of£ 40,000 was not during the year of assessment a debt due by the executors to Mr. Dewar, and secondly, that the· sum in question may never be paid or received at all." The case of Gornrnissioner of Taxes v. The Melbourne Trust, Lirnited(') turned on the construction of the charging section in the Income Tax Act 1903 of Victoria, whereby a company was liable to pay tax upon the profits earned in or derived in or from Victoria .. , ...

In (1) (1914j A,.C, 1001 S.C.R. this case the surplus realized by the assessees over the Purchase price for the assets sold after making all just Com.niissioner of deductions was taxed as profit but it was held that Income-tax, they were entitled to hold in suspense part of the sur- Madras plus realised to meet possible losses on other assets and that under the circumstances the profit was earned for KR. M: T. T. the purposes of the Act only when distributed to the ThzagaraJaOhetty and Go. shareholders. Having considered all these cases, we are of opinion Ghulam Hasan J. that neither of them has any bearing upon the facts and circumstances of the present case. Lb.stly it was urged that the commission could not be said to have accrued, as the profit of the business could be computed only after the 31st March, and therefore the commission could not be subjected to tax when it is no more than a mere right to receive.

This argument involves the fallacy that profits do not accrue unless and u~til they are actually computed. The computation of the profits whenever it may take place cannot possibly be allowed to suspend their accrual. ·In the case of income where there is a condition that the commission will not be payable until the expiry of a definite period or the making up of the account, it might be said with some justification, though we do not decide it, that the income has not accrued, but there is no such condition in the present case. Clauses 7 & 8 of the agreement which relate to the payment of the commission and the calculation of the profits mean no more than this that the commission will be quantified only after certain deductions had been made and not that the commission will not accrue until the profits have been ascertained. The quantification of the commission is not a condition precedent to its accrual.

If the profits of the company are said to have accrued on the 31st of March, upon a parity of reasoning, it must be conceded that the commission also accrued on the same date. The date has as much to do with the accrual of the commission as it has to do with the accrual of the profits. Ip was faintly suggested that the managing agency was not a business b'ut this is immaterial for income. tax purposes because section 13 will apply to cases [1954) both under sections 10 and 12, so we refrain from if deciding the point. We may, however, point out in omm"·''°"'' 0 th T I"' d El Incomc·tax passmg at m wo cases ata , y roectric gencies, Madms' Ltd. v. Commissioner of Income-tax, Bombay(') and Gammissioner of Income-tax, Bombay Presidency v. Tata Sons K 11. 111: T. T. Ltd.(') it was assumed that the managing agency is busi- ThiayaraiaChetty ness but the point was directly decided in Inderchand and Co. ,f I t ari am v. ommissioner OJ ncomeax, . . an G!n//am HasanJ. G.P.( 3) that it is so.

Oct. 20. For the foregoing reasons, we accept the view taken by Viswanatha Sastri J. and allow the appeals. The respondent shall pay the costs of the CommissiOner both in this court and before the High Court. Appeals allowed. Agent for the appellant: G. H. Rajadhyaksha. Agent for the respondent: S. Subra.manian. KSHETR.A MOHAN-SANNYASI. CHARAN SADHUKHAN COMMISSIONER OF EXCESS PROFITS TAX, WEST BENGAL. [PATAN.JALI SASTRI C.J., S.R. DAS, VIVIAN BosE, GHULAM HASAN and BHAGWATI JJ.] Excess Profits Tax Act (XV of 1940), s. 8(1)-PartnersMp bet. ?veen kartas of two Iiindn 'lt,ndivided Janiilies-Death of lcartas- .Partn.ership contin1terZ by sons-Nature of such partnership-Separrttion of nie1nbers of each branch-Whether e:O'ects change in consti. t.1t.fion of firtn-Oarry for1va1·d of deficiencies.

ThOugh a partnership entered into by the kartas of two Hindu undivided fa.milies is popularly described as one between two Hindu undivided families, .in the eye of the laW it is a partnership between the two kartas, and the other members of the family do not ipso facto become partners. It is open to the individual members of a Hindu undivided fa.mily to enter into a pitrtnership with the individual ine1nbers of another Hindu undivided family but in such a case it cannot be called a partnership between two Hindu undivided fa1nilies. {r) [1937] 5 I.T.R. 202. (3) [r952] 22 I.T.R. 10S. (2) [r939] 7 I.T.R r95.