Commissioner Of Income-Tax, Bombay vs Ahmedbhai Umarbhai and Co., Bombay

Rewritten Version Notice: This is a rewritten version of the original judgment.

Court: supreme-court

Case Number: Civil Appeal No. LXVIII of 1949

Decision Date: 04/05/1950

Coram: Hiralal J. Kania, Saiyid Fazal Ali, Mehr Chand Mahajan, B.K. Mukherjea

In this case the parties were the Commissioner of Income-Tax for Bombay as petitioner and Ahmedbhai Umarbhai & Co., a Bombay firm, as respondent. The matter was heard by the Supreme Court of India on 4 May 1950. The judgment was authored by Justice Hiralal J. Kania, who sat as Chief Justice, and the bench also comprised Justices Saiyid Fazal Ali, Mehr Chand Mahajan and B. K. Mukherjea together with several other judges listed in the report. The official citation of the decision is 1950 AIR 134 and 1950 SCR 335, and the case has been subsequently reported in a number of law reports as shown by the citator references. The substantive dispute concerned the application of Section 5 of the Excess Profits Tax Act, 1940, together with its proviso, and the relevance of Section 42(3) of the Indian Income-Tax Act, 1922. Section 5 provides that the Act applies to every business of which any part of the profits earned in the charge-able accounting period is chargeable to income tax. The proviso adds that the Act shall not apply to any business whose whole profits accrued or arose wholly within an Indian State, and further declares that if only a part of the business earns profits that accrued or arose in an Indian State, that part shall be treated as a separate business whose entire profits are deemed to have accrued or arisen in that State, while the remaining part of the business is treated as another separate business. The respondent firm was a resident of British India engaged in the manufacture and sale of groundnut oil. It owned several oil mills located in British India and also owned a mill situated in Raichur, which at the time lay in the Hyderabad State. The mill at Raichur produced groundnut oil that was subsequently sold partly within the Hyderabad State and partly in Bombay. The Full Court, consisting of Chief Justice Kania and Justices Patanjali Sastri, Fazal Ali, Mehr Chand Mahajan, Mukherjea and Das, considered the meaning of the phrase “part of a business” used in the proviso to Section 5. The Court held that the expression does not require the identification of a distinct, self-contained unit comprising all activities of the enterprise, nor does it demand a complete cross-section of the entire operation. Rather, the phrase is sufficiently broad to encompass one or more individual operations that constitute the business. Accordingly, the manufacturing activity carried out at the Raichur mill was deemed to be “a part of the business” for the purposes of the proviso to Section 5. The Court further concluded that the profits arising from the manufacturing activity at Raichur were considered to have accrued or arisen in Raichur, even though the oil produced there was later sold in Bombay and the proceeds were received in Bombay. Consequently, the portion of the overall profit that was attributable to the Raichur manufacturing operation and that corresponded to the sales made in Bombay was exempt from liability to excess profits tax under the proviso to Section 5. The Court also observed that the first limb of subsection (1) of Section 42 of the Income-Tax Act applied to the respondents, because the expressions “business connection in British India” and “asset or source of income in British India” were sufficiently wide to include the respondents’ selling organisation located in Bombay. Thus, the profits received in Bombay from the sale of the oil fell within the ambit of Section 42.

The Court observed that the oil-manufacturing activities carried out at Raichur formed “a part of the business” of the assessees within the meaning of the proviso to section 5 of the Act. It was held, speaking for Kania C.J., Fazl Ali, Mehr Chand Mahajan, Mukherjea and Das JJ., that the profits generated by that portion of the business – namely the manufacture of oil at the Raichur mill – accrued or arose in Raichur as meant by the proviso, even though the oil was sold in Bombay and the sale price was received there. Consequently, the share of the Bombay sales profits that could be traced back to the manufacturing operations in Raichur was exempt from excess-profits tax under the proviso to section 5 of the Act. 42-A 336 Per Patanjali Sastri J. – The Court explained that the first part of sub-section (1) of section 42 of the Income-Tax Act applied to the assessees, because the expressions “business connection in British India” and “asset or source of income in British India” were sufficiently wide to include their selling organisation in Bombay. As a result, the profits received in Bombay from the sale of oil manufactured in Raichur had to be apportioned under sub-section (3) of section 42 between the manufacturing operation and the selling operation, and only the portion of profit attributable to the Bombay sale could be deemed to have accrued or arisen in British India. By implication, the remainder of the profit attributable to the Raichur manufacturing had to be regarded as accruing or arising in the Hyderabad State and therefore was exempt under the proviso to section 5 of the Act. The Court then posed the question whether, in the absence of any statutory requirement, it is consistent with business principles or practice to arbitrarily divide a continuous business process into two or more segments and to apportion the resulting profits between them, and whether the principle laid down in Kirk’s case is applicable to assessments under Indian statutes. Per Mahajan J. – The judgment noted that although profits may not be realised until the manufactured article is sold, profits are not wholly created by the act of sale and do not necessarily accrue at the place of sale; to the extent that profits are attributable to the manufacturing operations, they accrue where those operations are carried out. Per Mukherjea J. – It was held that when raw material is transformed into a new product by manufacturing, the value of the product increases, and this increase represents the income or profit resulting from the manufacture. Because this profit accrues by reason of the manufacturing process, it must be located at the place where the manufacturing is performed. The fact that the manufactured goods are later sold at various locations is immaterial; even if the manufacturer is also the seller, he may receive the entire profit – including that attributable to manufacture – only at the time of sale, but a portion of the profit has already accrued at the place of manufacture.

In this case the Court noted that although the total profit from a manufactured article is usually realized only at the time of its sale, a portion of that profit actually accrues at the place where the manufacturing process is carried out. That portion exists in a nascent or inchoate form until the sale is completed, and only after the sale can the exact amount attributable to the manufacturing stage be ascertained. For the purposes of tax computation the Court explained that the two segments of the business – the manufacturing activity and the selling activity – may be conceptually treated as if they were carried on by two distinct sets of persons, each of which would be liable for the portion of profit that arises from its own activity. The judgment concerned a civil appeal numbered LXVIII of 1949, which was filed against a judgment of the High Court of Bombay dated 18 March 1948 delivered by Chief Justice Chagla and Justice Tendolkar. The appeal arose from a reference made under the Excess Profits Tax Act, 1940. Counsel for the appellant included the Attorney-General for India, assisted by a junior, while counsel for the respondents was led by a senior advocate, also assisted by junior counsel. The appeal was decided on 4 May 1950, and the judgment was delivered by the Chief Justice of India.

The factual backdrop involved a firm that was the respondent and also the assessee in the tax proceedings. The firm was a registered entity under the Indian Income-Tax Act and was resident in Bombay. It operated three oil-manufacturing mills in Bombay and an additional mill in Raichur, where groundnuts were processed into oil. Oil produced at the Raichur mill was sold partly within Raichur and partly in Bombay. While the firm’s liability to pay income tax on its total profits was not in dispute, the issue before the Court was whether any part of the profit earned from the oil manufactured at Raichur but sold in Bombay should be subject to tax under the Excess Profits Tax Act. The assessee contended that the profit attributable to the manufacturing activity at Raichur ought to be excluded from the Excess Profits Tax, arguing that it should not be taxed as part of the business of selling oil in Bombay. The tax authorities rejected this contention, and the Income-Tax Tribunal affirmed the rejection. On reference, the High Court disagreed with the Tribunal and held that the assessee’s argument was correct. Consequently, the Commissioner of Income-Tax appealed the High Court’s decision. The Court then referred to the definition of “business” in section 2(5) of the Excess Profits Tax Act, which states that “Business includes any trade, commerce or manufacture or any adventure in the nature of trade, commerce or manufacture … Provided further that all businesses to which this Act applies carried on by the same person shall be treated as one business for the purposes of this Act.” Section 5 of the same Act was also quoted, providing that the Act applies to every business of which any part of the profits made during the chargeable accounting period is chargeable to income-tax under specified provisions of the Indian Income-Tax Act, subject to certain exclusions.

The Court examined the qualifications contained in section 5 of the Excess Profits Tax Act. That provision states that the Act does not apply “to any business the whole of-the profits of which accrue or arise without British India where such business is carried on by or on behalf of a person who is resident but not ordinarily resident in British India unless the business is controlled in India.” It further provides that if only a part of a business carried on by a person who is not resident in British India or not ordinarily resident there accrues or arises in British India, or is deemed to accrue or arise under the Indian Income-tax Act, 1922, then, except where the business belongs to a person who is resident but not ordinarily resident in British India and is controlled in India, the Act shall apply only to that part of the business, and that part shall for all purposes of the Act be treated as a separate business. The provision continues with another exception, stating that the Act shall not apply “to any business the whole of the profits of which accrue or arise in an Indian State; and where the profits of a part of a business accrue or arise in an Indian State, such part shall, for the purposes of this provision, be deemed to be a separate business the whole of the profits of which accrue or arise in an Indian State, and the other part of the business shall for all the purposes of this Act, be deemed to be a separate business.” The Court also noted section 21 of the Act, which had not been referred to in the arguments, and which reads: “21. The ‘provisions of sections 4-A, 4-B, 10, 13, 24-B, 29, 36 to 44-C (inclusive), 45 to 48 (inclusive), 49-E, 49-F, 50, 54, 61 to 63 (inclusive), 65 to 67-A (inclusive) of the Indian Income-tax Act, 1929, shall apply with such modifications, if any, as may be prescribed as if the said provisions were provisions of this Act and referred to excess profits tax instead of to income-tax, and every officer exercising powers under the said provisions in regard to income-tax may exercise the like powers under this Act in regard to excess profits tax in respect of cases assigned to him under sub-section (3) of section 3 as he exercises in relation to income-tax under the said Act: Provided that references in the said provisions to the assessee shall be construed as references to a person to whose business this Act applies.” Finally, the Court reproduced the relevant portion of section 42 of the Indian Income-tax Act, which reads: “42. (1) All income, profits or gains accruing or arising, whether directly or indirectly, through or from any business connection in British India, or through or from any property in British India, or through or from any asset or source of income in British India, or through or from any money lent at interest and brought into British India in cash or in kind, shall be deemed to be income accruing or arising within British India, and where the person entitled to the income, profits or gains is not resident in British India, shall be chargeable to income-tax either in his name or in the name of his agent ….”

Section 42 of the Indian Income-Tax Act provides that any income, profit or gain that accrues or arises, whether directly or indirectly, through any business connection, property, asset or source situated in British India shall be treated as income accruing or arising within British India. The provision further states that if the person entitled to such income, profit or gain is not a resident of British India, the income shall be chargeable to income-tax either in the name of that person or in the name of his agent. Sub-section (2) adds that where a person who is not resident or not ordinarily resident in British India carries on business with a person who is resident in British India, and the Income-Tax Officer is satisfied that, because of the close connection between the parties, the arrangement of the business is such that the resident party either obtains no profit or receives less than the ordinary profit that would be expected from that business, then the profits derived therefrom, or those that may reasonably be deemed to have been derived, shall be chargeable to income-tax in the name of the resident. For the purpose of the Act, the resident shall be deemed to be the assessee with respect to such income-tax. Sub-section (3) provides that where a business does not carry out all of its operations in British India, only those profits and gains that can be reasonably attributed to the portion of the operations actually performed in British India shall be deemed to accrue or arise in British India.

On behalf of the appellant it was argued that, in order to obtain an exemption under the Excess Profits Tax Act, the assessee must demonstrate that his case falls within the ambit of section 5, proviso 3 of that Act. The appellant contended that the assessee’s business consisted of the manufacture and sale of oil, and that unless each of those operations occurred at Raichur, a part of the business could not be said to be situated in the Hyderabad State. Consequently, the appellant claimed that the assessee was not entitled to the exemption. A further argument was advanced that, even if the first contention were accepted, the profits attributable to the portion of the business carried out at Raichur did not accrue or arise in the Hyderabad State because those profits derived from the sale of oil in Bombay. Hence, the appellant maintained that the assessee’s claim was untenable.

Proviso 3 to section 5 of the Excess Profits Tax Act requires the assessee to satisfy three conditions to qualify for the exemption: (1) there must be a part of a business; (2) that part must be located in an Indian State; and (3) the profits in respect of which the exemption is sought must accrue or arise from that part of the business. The appellant’s position was that the “part of the business” must constitute a complete unit, or, as described by the appellant, a complete cross-section of the business. It was further argued that, because the sale of the oil in question took place in Bombay, the cross-section comprising manufacture and sale could not be said to be situated in Raichur or in the Hyderabad State, and therefore the appellant’s claim to exemption should fail.

The Court observed that the appellant’s contention—that because the manufacture and the sale of oil did not both occur within Hyderabad State the assessee could not claim the exemption—was unsound. The Court explained that the definition of “business” in the Excess Profits Tax Act expressly includes manufacturing as a distinct business activity. The Act does not require a manufacturer to also be a trader in the same commodity, nor does it imply that when a person engages both as a manufacturer and as a trader the two activities merge into an inseparable whole from which profits cannot be separately identified. Consequently, the mere fact that the assessee performs the roles of manufacturer, trader, and even exporter does not mean that all three functions must be carried out within an Indian State for the exemption to apply. The appellant had argued that the law should require each separate operation making up the assessee’s enterprise to be situated in an Indian State, rather than merely a composite part of the business. The Court found no justification for such a construction of proviso 3 to section 5, noting that no authority was cited to support this interpretation.

The Court further noted that it was not contended in the present case that the assessee’s manufacturing activities were so dispersed as to be impossible to regard as a single unit within an Indian State. Even if a manufacturer were to purchase raw groundnuts at one location, operate a crushing mill at another, run a refinery at a third, and carry out packing at a fourth, the Court held that these various steps would still constitute a cohesive business unit. In the case before it, there was no dispute that all of the assessee’s manufacturing operations were carried out at Raichur. Accordingly, under the definition of “business” in the Excess Profits Tax Act, those activities formed a complete unit. The Court was satisfied that, on the facts, the manufacturing operations constituted “a part of his business in an Indian State,” and therefore the conditions set out in the proviso were duly satisfied.

The appellant also pointed out that, under section 42(3) of the Indian Income-Tax Act, the legislature provided a mechanism for allocating profits among the different operations of a business, a mechanism that, according to the appellant, was absent in the Excess Profits Tax Act. The Court rejected this argument, observing that section 21 of the Excess Profits Tax Act expressly incorporates, among other provisions, section 42(3) as part of the Act for the purpose of assessing an assessee’s profits. Consequently, if profits can be allocated to the manufacturing of oil at Raichur, it follows that the manufacturing activity is indeed a part of the assessee’s business situated in an Indian State. The Court then noted the appellant’s further contention that, even assuming a portion of the business was located in an Indian State, the profits accrued or arose solely on the sale of the oil in Bombay and that no portion of the manufacturing profits arose in an Indian State. The Court regarded this argument as also unsound, but its discussion of that point continued beyond the present excerpt.

The Court held that the argument that profit arose only on the sale of the oil in Bombay and that no portion of the manufacturing profit therefore arose in an Indian State was unsound. It observed that when goods are sold the assessee receives money, and although the price was received in Bombay, this did not mean that the entire profit from manufacturing and sale originated in Bombay. The Court noted that the argument failed to distinguish between profit that accrues or arises and profit that is merely received. It further explained that the determination of profit must be based not on the receipt of price for each lot sold, but on the overall result of all operations connected with the manufacture and sale of oil during the accounting year. An individual transaction might show a profit, yet the assessee would not be liable if the aggregate result of the year’s activities was a loss. Consequently, the Court found it improper to treat the sale of oil as the decisive factor for ascertaining profit or for locating the place of profit accrual. The Court considered several cases cited at the Bar concerning traders who bought and sold goods and held that, because the present business was of a different nature, those authorities were not relevant to the question before it. In The Commissioner of Taxation v. Kirk (1), Lord Davey had distinguished Sulley v. Attorney-General (2) and Grainger & Son v. Gough (3) on the ground that the place of sale was not the test when the business involved manufacturing and sale. The Court also found that cases dealing with liability under the Indian Income-Tax Act on the basis that profits were received in India, rather than merely accrued, were likewise unhelpful. The judges of the High Court had relied heavily on The Commissioner of Taxation v. Kirk (1) in favor of the assessee; that case involved mining operations where the mines were in one colony and the ore was sold in another. The Taxing Act in that case observed that it was immaterial whether the taxpayer resided in the colony or whether the income was received there, if the income was earned outside the colony. The Board in that decision gave no weight to the word “derived,” treating it as synonymous with “arising” or “accruing.” The essential question was what income was arising or accruing to the assessee from business operations carried out by him in the colony, a question of fact. Under the New South Wales Act, liability to tax was to be decided on the existence of the source of the income in the particular colony, as reflected in the authorities cited above.

The Court explained that the basis for imposing tax differed from the basis for determining liability. While it accepted that distinction, the Court could not agree with the argument that the source of income could never be the place where the income actually accrued or arose. In the Court’s view there was no rule preventing income from accruing or arising at the location of its source. Accordingly, the question of where the income accrued had to be decided on the facts of each individual case. The Court observed that income might accrue or arise at the source, or it might accrue or arise elsewhere, but the possibility that it could accrue at the source could not be rejected outright. For that reason the Court held that it was necessary to determine whether the portion of the business that could be treated as a distinct unit within Hyderabad State had generated the income or profit that the assessee sought to have exempted from tax in the present proceedings. The Court noted that counsel for the respondents had drawn its attention to the decision in International Harvester Company of Canada v. The Provincial Tax Commissioner (1). In that case the issue concerned the liability of a person who resided outside province S to pay tax under the Income-Tax Act of S on profits that arose from the sale in S of agricultural implements that had been manufactured outside S. Under the applicable statute, tax was chargeable to a non-resident who carried on business in S on the net profit or gain that arose from that business within S. The Board in that case held that although all the profits were received in S, where the goods were sold, only the net profits that arose from the business carried on in S were taxable, and therefore the manufacturing profits were to be excluded from the assessment. The Board referred to sections 23 and 24 of the Taxing Act, which allowed a non-resident to be taxed on an apportioned part of profit that, even if received outside province S, could fairly be regarded as having been at least partly earned inside S. The Court expressed the opinion that this precedent substantially supported the respondents’ contention and undermined the appellant’s argument. The decision demonstrated that when the manufacturing component of the assessee’s activity was situated in one province and the sale occurred in another, the entire profit was not automatically deemed to arise at the place of sale, even though the profit might be treated as received at the time of sale. The Court further noted that the case illustrated the possibility of apportioning profit between manufacturing and trading activities, especially where the assessee simultaneously engaged in manufacturing and trading. The Attorney-General had attempted to distinguish the International Harvester case on the ground that sections 23 and 24 of the Taxing Act of that colony created a completely different taxation scheme. The Court found that argument unpersuasive and declined to accept the distinction.

The Court observed that the distinction raised by the Attorney-General was unconvincing because proviso 2 to section 5 of the Indian Excess Profits Tax Act, read with section 21, also establishes a scheme applicable to a non-resident, although that scheme is not identical in detail or result to the scheme provided under the Indian Act. The expression “part of a business” was required, in the Court’s view, to be given the same meaning and implication in both provisos (2) and (3) to section 5 of the Excess Profits Tax Act. The Court could not accept the Attorney-General’s contention that the Act contained no scheme of apportionment; that view overlooked, as previously noted, the provisions of section 21 of the Act, which by reference incorporates, among others, section 42(3) of the Indian Income-Tax Act. Consequently, proceeding on the premise that profits may arise or accrue from the manufacturing activity of the assessee, the Court held that profits had indeed accrued to the assessee from a “part of the business” located in an Indian State, and that such profits, having arisen out of business carried on in that State, were exempt under the third proviso to section 5 of the Excess Profits Tax Act. For these reasons, the Court concluded that the High Court’s decision was correct and dismissed the appeal with costs. Justice Fazl Ali agreed fully with the judgment of Justice Mahajan, and Justice Patanjali Sastri also joined the judgment.

This appeal originated from a judgment of the High Court of Judicature at Bombay, which had been referred to the Court by the Income-Tax Appellate Tribunal, Bombay, under section 66(1) of the Indian Income-Tax Act, 1922, read with section 21 of the Excess Profits Tax Act, 1940. The respondent firm, referred to as “the assessees,” carried on a business of manufacturing and dealing in oil at Raichur in the Hyderabad State and at Bombay, which during the relevant period formed part of British India. The assessees were residents of Bombay and were registered for income-tax purposes under section 26-A of the Income-Tax Act, operating under the name Ahmed bhai Umarbhai & Co., while their branch at Raichur functioned under the name Ahmed & Sons. They owned three oil-manufacturing mills at Bombay and one at Raichur, producing oil from groundnuts, and marketed the oil both at Raichur and at Bombay. For the chargeable accounting period commencing 31 October 1940 and ending 20 October 1941, the assessees were assessed to excess profits tax in the sum of Rs 1,61,807 on business income of Rs 6,08,761, which included Rs 2,49,615 said to have accrued or arisen from sales in Bombay of oil manufactured at Raichur. Part of the oil was also sold at Raichur, but the profits from those sales were omitted from the assessment and no longer formed a point of dispute. For the succeeding period commencing 21 October 1941 and ending 8 November 1942, a tax of Rs 2,55,485-1-0 was computed on the same basis.

In the same manner, the tax on the same basis was also imposed on the assessees for the subsequent accounting period. The assessees argued that a portion of the profits obtained from sales made in British India of oil that had been manufactured at Raichur should be attributed to the manufacturing operations at Raichur, which they described as an essential part of their overall business. Accordingly, they contended that such profits ought to be excluded from the assessment under the third proviso to section five of the Excess Profits Tax Act, on the ground that those profits had accrued or arisen in the Hyderabad State. The tribunal rejected this contention and included the entire amount of profits derived from the sales in British India of the oil produced at Raichur in the assessments. After the assessees unsuccessfully appealed to the Appellate-Assistant Commissioner in Bombay, they proceeded to the Income-Tax Appellate Tribunal, also in Bombay, but obtained no more favourable result. The assessees then applied to the Tribunal for a formal statement of the case and for a reference to the High Court at Bombay to decide the legal question involved. The Tribunal consequently framed the question for reference as follows: ‘Whether, on the facts stated above, income accruing or arising to the assessees from sales made in British India of goods manufactured in Raichur, which is situated outside British India, has been correctly held by the Tribunal as income accruing or arising in British India and therefore liable to excess profits tax.’ In its letter of reference the Tribunal indicated its view that the manufactured article, once received or brought into British India, did not itself constitute income, profit or gain, and that the profits and gains, having arisen only after the sale took place, should be considered as having accrued or arisen in British India. The reference was heard by Chief Justice Chagla and Justice Tendolkar, who expressed the opinion that the question as framed by the Tribunal did not truly bring out the controversy between the parties. After reciting the facts, the learned judges reformulated the question as: ‘Whether, on the facts stated above, the profits of a part of the assessees’ business accrued or arose in an Indian State.’ The reformulated question attracted similar criticism because it presupposed that the manufacturing of oil at Raichur formed ‘a part of the business’ of the assessees, a position that the Commissioner of Income-Tax had vigorously contested in the judgment under appeal. The Court noted that excess profits tax is a levy on profits that arise from a business in excess of its normal or standard profit, with the business itself regarded as the unit of assessment. Section two, clause five of the Excess Profits Tax Act defines “business” to include, among other activities, “manufacture,” and a proviso to that clause provides that all businesses carried out by the same person and to which the Act applies shall be treated as a single business for the purposes of the Act. Section four outlines the mechanism for levying tax in respect…

Section 4 stipulated that a tax would be imposed on the amount by which the profits of any business to which the Act applies exceed the standard profit for a chargeable accounting period. Section 5, whose correct interpretation formed the core issue for determination in this appeal, provided that the Act shall apply to every business of which any part of the profits made during the chargeable accounting period is chargeable to income-tax by virtue of the provisions of sub-clause (i) or sub-clause (ii) of clause (b) of sub-section (1) of section 4 of the Indian Income-tax Act, 1922, or of clause (c) of that sub-section. The provision then stated that the Act shall not apply to any business the whole of whose profits accrue or arise outside British India where such business is carried on by or on behalf of a person who is resident but not ordinarily resident in British India, unless the business is controlled in British India. Further, where the profits of only a part of a business carried on by a person who is not resident in British India or not ordinarily so resident accrue or arise in British India, or are deemed to accrue or arise thereunder the Indian Income-tax Act, 1922, the Act shall apply only to that part of the business, and that part shall, for all purposes of the Act, be treated as a separate business. The section also provided that the Act shall not apply to any business the whole of whose profits accrue or arise in an Indian State, and that where the profits of a part of a business accrue or arise in an Indian State, such part shall, for the purposes of this provision, be deemed a separate business whose whole profits accrue or arise in that Indian State, while the remaining part of the business shall likewise be treated as a separate business for all purposes of the Act. In the present case, the assessee were residents of British India and the profits of their business in Hyderabad State for the relevant periods were charged to income-tax under section 4(1)(b)(ii) of the Income-tax Act. Consequently, that business was brought within the charge of excess profits tax by virtue of section 5 of the Excess Profits Tax Act, and the duty would be payable on the profits of that business unless proviso (3) excluded the application of the Act to that business. If such exclusion applied, the proviso to section 2(5), which consolidates only those businesses to which the Act applies, would also not take effect. It appears that the taxing authority conceded that no excess profits tax was levied on the profits derived from the sales in Hyderabad State because those profits…

In the present matter, the profits that arose from a portion of the assessee’s business situated in an Indian State had been exempted under proviso (3) to section 5, and therefore those profits had not been taxed for the two chargeable accounting periods that were before the tribunal. The Attorney-General, appearing for the Revenue, contended that the same proviso did not operate with respect to the profits obtained from the sale of oil in British India, and he advanced two distinct reasons for that view. First, he argued that the manufacturing operations conducted in the Hyderabad State did not amount to a “part” of the assessee’s business within the meaning of the proviso. Second, he asserted that even if those manufacturing activities could be regarded as a part of the business, the profits derived from the sale of oil in Bombay could not be said to have accrued or arisen in that State. The learned judges of the High Court examined those submissions and held both propositions to be untenable. Their decision was subsequently challenged before this Court by counsel who represented the assessee, seeking to overturn the High Court’s finding that the proviso applied to the disputed profits.

The Attorney-General further insisted that a “part” of a business should be understood as a fraction of the totality of all its constituent activities, or, as was expressed during the argument, a “cross-section” of the whole enterprise, and not merely one or more individual operations, however essential they might be to the generation of profit. This construction, however, proved difficult to reconcile with the facts of the case, because the assessee was selling at Raichur a portion of the oil that had been manufactured at that very location, thereby creating at Raichur a complete cross-section of the business that included both manufacturing and selling activities. Apart from this consideration, there was nothing in the context of section 5 that excluded the ordinary meaning of the words “part of a business”, nor was there any justification for imposing the strained and artificial interpretation that the Revenue sought to impose, an interpretation that seemed inconsistent with the earlier view that left untaxed the profits derived from the sales at Raichur. Moreover, section 5 must be read in conjunction with the provisions of section 42 of the Indian Income-Tax Act, which have been made applicable, with certain modifications not material to the present analysis, to excess profits tax by section 21 of the Excess Profits Tax Act, “as if the said provisions were provisions of this Act and refer to excess profits tax instead of to income-tax.” That provision, in my opinion, bears important relevance to the issues raised in this appeal and therefore warrants careful consideration. For the material at hand, section 42 reads as follows: “42. (1) All income, profits or gains accruing or arising, whether directly or indirectly, through or from any business connection in British India, or through or from any property in British India, or through or from any asset or source of income in British India or through or from any money lent.”

Section 42(2) of the Income-Tax Act provides that any interest which is earned and brought into British India, whether in cash or in kind, shall be treated as income that accrues or arises within British India. Where the person entitled to such income, profit or gain is not a resident of British India, the law makes that income chargeable to income-tax either in the name of the non-resident himself or in the name of his agent. If the tax is imposed in the name of the agent, the statute declares that the agent shall be deemed, for all purposes of the Act, to be the assessee responsible for that income-tax. The provision also supplies that, when the entitled person is a non-resident, the tax liability may be recovered by deduction under any of the provisions of section 18. Section 42(3) further deals with businesses whose operations are not wholly carried out in British India. It states that, for such a business, only those profits and gains that are reasonably attributable to the portion of operations actually performed in British India shall be deemed to accrue or arise in British India. Reading these clauses together, they establish a rule of apportionment that determines how the profits of a business are to be measured when only part of its operations occurs within British India. The rule treats the portion of the business carried out in British India as either a “business connection in British India” or a “source of income in British India,” and it also creates a mechanism for collecting tax from the resident agent when the ultimate income earner is a non-resident. These provisions complement section 5, proviso (2) of the Excess Profits Tax Act. Unless “part of a business” in that proviso is understood to refer to one or more of the operations defined in sub-section (3) of section 42, the tax-collection machinery supplied by section 42 would not apply to the tax due from a non-resident under proviso (2). Such a result would render the charge and collection scheme incoherent. Therefore, a harmonious interpretation of the taxation scheme requires that the expression “part of a business” in proviso (2) be read as signifying one or more of the business’s operations, and that the same expression used in proviso (3) carry the identical meaning.

Applying this interpretation, the Court concluded that the oil-manufacturing activity carried out in the mill at Raichur constitutes a part of the assessee’s overall business. The next issue to be resolved was whether the profits derived from that manufacture, excluding the profits arising from sales made at Raichur itself, were accrued or arose in Raichur so that proviso (3) would be engaged. The Court observed that the oil produced at Raichur cannot, by itself, be classified as “income, profits or gains” within the meanings given by either the Indian Income-Tax Act or the Excess Profits Tax Act, just as the green coffee was held not to be income in the earlier Mathias case. Consequently, the determination of where the profit is deemed to accrue must focus on the point at which the profit is realized, namely when the oil is sold, rather than on the location of its manufacture.

In the earlier reference, the Privy Council held that the oil could not be regarded as income, profits or gains, as reported in I.L.R. [1939] Mad. 178. The oil produced at the mill was intended for sale so that profit could be earned, and such profit was realized only upon the actual sale of the commodity, not before the transaction took place. Nevertheless, the test for non-liability under proviso (3) focuses on where the profit accrues or arises in an Indian State, prompting the question of whether the profit that materialized from the sale of the Raichur mill’s product in Bombay arose wholly or partly in Raichur itself. The Privy Council, in Chunilal Mehta’s case (I.L.R. [1939] Mad. 178), observed that the expression “profits accruing or arising in” a country requires the identification of a place at which the trading operations come into existence, whether gradually or suddenly, and that this notion is difficult to apply to individual transactions. Moreover, the terms “accrue” and “arise” have been interpreted in various ways, and the decided cases have not produced a clear or conclusive test for determining the location where income is said to accrue. The judges of the lower court addressed this difficulty by invoking what they regarded as the general principle underlying the decision in Kirk’s case, namely the principle of apportioning profits between the different processes employed in generating those profits and the different places where those processes are carried out. These judges disagreed with the view expressed by the Calcutta High Court in Re Mohanpura Tea Co. (I.L.R. 2 Cal. 201) that profits accrue or arise only at the place where the goods are sold, and they also rejected the contention that Kirk’s case established no principle of general application but merely reflected the wording of an Australian statute. Kirk’s case concerned the assessment of profits of a mining company that extracted ore, converted it into a marketable product in one colony, and sold it in another colony. Under the relevant statute, tax was payable on income “arising or accruing from any trade carried on” in the colony, on income “derived from lands,” on income “arising or accruing from any kind of property,” or on income “from any other source whatsoever” within the colony, whereas no tax was due on income “earned” outside the colony (see I.L.R. [2938] Bom. 752; [1900] A.C. 588). The Board held that because the profits were produced by the combined operations of extraction, manufacture, and sale, they were assessable to tax in the colony either as derived from land by reason of the extraction or as arising from trade, and therefore as “earned” in the colony, even though the profits were received outside the colony. While it may be a fallacy to apply a taxing statute that focuses solely on the source of income and to disregard the initial stages of production, the analysis nevertheless underscores the complexity of locating the point of accrual for tax purposes.

In this case, the Court examined whether it is appropriate, when the test of chargeability focuses solely on the point at which income is realised in cash, to disregard the earlier stages of production and concentrate only on the final monetary receipt. The Court questioned whether, without any statutory direction, it would be consistent with ordinary business principles or practice to divide a continuous business operation arbitrarily into two or more separate parts and then allocate the profits between those parts, even though the profits arise from one uninterrupted process that culminates in a sale. The Court then observed that it was unnecessary to apply the precedent set in Kirk’s case to the present assessment, because the Indian Act determines liability on the basis of the location where profits accrue or arise, and the Court was of the opinion that section 42 of the Income-Tax Act—now incorporated in the Excess Profits Tax Act—governs the present situation and authorises such an apportionment of profit. The Court noted that the first portion of sub-section (1) of section 42, which deems certain classes of income to accrue or arise in British India, is not limited to non-residents but is expressed in a general manner that makes it applicable to both residents and non-residents. Prior to its amendment in 1939, the sub-section began with the phrase “in the case of any person residing out of British India,” thereby restricting its operation to non-resident persons. After amendment, the provision was rewritten into two distinct parts: the first part contains no such limitation, while the second part—introduced by the words “and where the person entitled to the income, profits and gains is not resident in British India”—applies specifically to non-resident persons. This structure demonstrates that the initial part of the sub-section applies to both residents and non-residents. The Court further pointed out that the opening words of the first proviso support the same conclusion, because those words would be redundant if the whole sub-section were intended only for non-residents. The Court acknowledged that a Division Bench of the Bombay High Court, in Commissioner of Income-tax v. Western India Life Insurance Co. Ltd., had expressed a contrary view. That judgment had referred to the change in the wording of sub-section (1) but, in the Court’s view, had not fully appreciated its significance. The High Court decision relied on the marginal note to the entire section, which mentioned “non-residents,” and on the placement of the section in Chapter V titled “Liability in Special Cases,” to support the contention that sub-section (1) applied solely to non-residents. The Court, however, cited the Privy Council’s ruling in Balraj Kunwar v. Jagatpal Singh, which held that marginal notes in an Indian statute, as in any Act of Parliament, cannot be used for statutory construction. Consequently, the Court emphasized that such marginal notes should not be employed to restrict the plain terms of the enactment.

The marginal note that had originally been relied upon was later replaced by the words “Income deemed to accrue or arise within British India,” a substitution that clarifies that the principal purpose of sub-section (1) was to define that particular expression, as indicated by reference to section 12(a) of Act XXII of 1947. Moreover, the title of a chapter cannot be legitimately employed to limit the plain meaning of the words contained in an enactment. Consequently, the Court expressed the view that the first part of sub-section (1) applies to the assessee, because the expressions “business connection in British India” and “asset or source of income in British India” are sufficiently broad to encompass the assessee’s selling organisation situated in Bombay.

As a result of this interpretation, the profits that were received in Bombay from the sale of oil that had been manufactured at Raichur must be divided under sub-section (3) into two components: one relating to the manufacturing operation and the other relating to the sale operation. Only the portion of the profit that can be reasonably attributed to the sale should, according to the cited authorities [1945] 13 I.T.R. 405 and I.L.R. 26 All. 393 at 40G, be deemed to accrue or arise in British India. By logical extension, the remainder of the profit, which is attributable to the manufacturing activity at Raichur, must be regarded as accruing or arising in the Hyderabad State. Accordingly, proviso (3) to section 5 of the Excess Profits Tax Act becomes applicable, thereby exempting the manufacturing segment of the assessee’s business from the operation of that Act.

On behalf of the respondent, counsel highlighted certain observations of the Privy Council in Chunilal Mehta’s case, arguing that these observations supported the contention that, although all the operations of a business must be completed before profit is received, the accrual of profit commences with the first operation and continues cumulatively until the goods are finally sold. Hence, the expression “accruing or arising in” a place should be applied distributively to the various operations and the locations where those operations are performed. The specific passages cited were: “But the legislature has chosen a different test and applied it to all kinds of profits accruing or arising in British India. It may even have chosen it as fairer because it can be applied distributively to the profits of a single source” (page 765), and again, “no doubt if it can be held that under the Indian Act profit in the case of a business must be taken so strictly that it is not to be understood distributively at all the profit of the assessee’s business would become an ultimate and single figure irreducible and referable only to Bombay, but such a high doctrine cannot be read into the Indian statute without violence not only to its language but to its scheme” (page 767). While these excerpts might initially appear to lend support to the respondent’s thesis, a closer examination of their context revealed that they do not, in the Court’s opinion, endorse any such general theory, as the Lords were addressing a different factual scenario.

In the matter before the tribunal, the taxpayer was a resident of Bombay who earned profits from speculative contracts involving the purchase and sale of commodities. These contracts were executed through brokers operating in several foreign markets, including Liverpool, London and New York. The taxpayer relied on the judgment reported in I.L.R. [1938] Bom. 752 and argued that the profits were not liable to Indian income-tax because they had not been received in British India and, therefore, did not constitute profits “accruing or arising” in that territory. The tribunal accepted this argument and upheld the taxpayer’s contention. The discussion of these transactions highlighted that the surplus derived from each individual foreign market contributed to the overall profit, and the tribunal described the profits as “accruing or arising distributively” rather than emanating from a single location. The tribunal clarified that it was not considering profits generated by a single integrated process such as manufacturing followed by sale. Instead, it emphasized that the profits could be seen as an aggregate of the results of many separate transactions. To illustrate this point, the tribunal quoted that “profits are frequently, if not ordinarily, regarded as arising from many transactions each of which has a result,” thereby indicating that the profits need not be dissected with difficulty but can be treated as a collective outcome of the individual dealings.

The tribunal also referred to a recent decision of the same body in International Harvester Co. of Canada v. The Provincial Tax Commission (I) [1949] A.C. 36. That case involved the assessment of a non-resident’s profits under a provincial income-tax statute for gains arising from the sale of goods within the province that had been manufactured outside the province. Although all the profits were received in the province where the sale occurred, the tax statute imposed liability only on the “net profit or gain arising from the business of such person in” the province. Consequently, the tribunal held that the manufacturing profits should be excluded from the assessment. The tribunal further examined other provisions of the same Act which, in the converse situation, required a proportionate portion of profit from sales made outside the province of goods produced within the province to be treated as “earned” within the province. From these provisions, the tribunal inferred that the legislature intended to tax only an apportioned part of the profit, thereby achieving a fair and reasonable scheme of taxation consistent with the natural comity between provinces. The tribunal also mentioned Kirk’s case, observing that although the statutory language in Kirk’s case differed from the provisions under consideration, the reasoning employed in that judgment was helpful to the appellants’ position in the present case.

The Court observed that chargeability in both cases depended not on whether the income accrued or arose in the country, but on the source of the income being located in the country. The decision was grounded in the language of the statute and the scheme of taxation disclosed thereby, and the reasoning previously expressed about Kirk’s case(1) was held to apply equally to the present matter. The other cases cited by Mr. Munshi were considered not to require any special notice. The Court agreed with the conclusion reached by the High Court, although on different grounds, and dismissed the appeal with costs. Mahajan J. noted that this appeal was brought by the Commissioner of Income-tax, Bombay City, against the judgment of the High Court of Judicature at Bombay, which had been stated by the Income-tax Appellate Tribunal under section 66(1) of the Indian Income-Tax Act, 1922. The appeal raised the question of the liability of the respondent, Messrs. Ahmedbhai Umarbhai & Co., for excess profits tax. Excess profits tax is levied under section 4 of the Excess Profits Tax Act, XV of 1940, “in respect of any business to which the Act applies on the amount by which the profit during any chargeable accounting period exceeds the standard profits........”. The respondent was a registered firm resident in British India that owned three oil mills in Bombay and one oil mill in Raichur in Hyderabad State. The issue to be decided was whether the profits received or realized by the respondent on the sale of oil manufactured in Raichur and sold in British India were liable to excess profits tax. By an order dated 27 March 1944, the Excess Profits Tax Officer, Circle III, Bombay, assessed the respondent to excess profits tax in the sum of Rs 1,61,807 for the chargeable accounting period from 31 October 1940 to 20 October 1941 on business income of Rs 6,08,761, which included Rs 2,49,615 as profits accruing or arising in British India in respect of the respondent’s branch at Raichur, run in the name of Messrs. Ahmed & Sons. By another order dated 28 March 1944, the same officer assessed the firm to excess profits tax in the sum of Rs 2,55,485-1-0 for the chargeable accounting period from 21 October 1941 to 8 November 1942 on business income of Rs 7,46,561, which included Rs 2,34,785 as profits accruing or arising in British India in respect of the Raichur branch. Both assessment orders were appealed to the Appellate Assistant Commissioner without success. The Income-tax Appellate Tribunal, on appeal, prepared a statement of case and referred the following question of law to the High Court: “Whether on the facts as stated above income accruing or arising to the assessee on sales made in British India of goods manufactured in Raichur situated outside British India has been rightly held by the Tribunal as income accruing and arising in British India and was liable to excess profits tax?”

In the appeal, the Tribunal had originally held that the income in question was income accruing and arising in British India and therefore subject to excess profits tax. The High Court, however, restated the issue in a different form, asking whether, based on the facts presented, the profits of a portion of the assessee’s business had accrued or arisen in an Indian State. The High Court answered this question affirmatively. It concluded that the activity carried on by the respondent at Raichur constituted a part of its business within the meaning of the third proviso to section 5 of the Excess Profits Tax Act. Accordingly, the Court held that the profits attributable to that part of the business had indeed accrued or arisen in an Indian State and, as a consequence, those profits were not liable to assessment under the excess profits tax.

The order of the High Court is now being challenged before this Court. The appellant contends that, with respect to the oil that was manufactured at Raichur but sold in British India, no profit actually accrued or arose in the Indian State; rather, the profit accrued or arose in British India and should therefore be subject to excess profits tax. The appellant further argues that the High Court’s interpretation of the third proviso to section 5 and its understanding of the phrase “part of a business” are mistaken. According to this argument, the phrase should be read to require a complete cross-section of the whole business, not merely one or more individual operations of that business.

The precise wording of section 5, which is pivotal to the decision of this appeal, reads as follows: “This Act shall apply to every business of which any part of the profits made during the chargeable accounting period is chargeable to income-tax by virtue of the provisions of sub-clause (i) or sub-clause (ii) of clause (b) of sub-section (1) of section 4 of the Indian Income-tax Act, or of clause (c) of that sub-section.” In other words, the provision brings within its scope all income of a person resident in British India that accrues or arises, or is deemed to accrue or arise, in British India during the accounting year, as well as all income that accrues or arises to him outside British India during the same year. If the person is not resident in British India during that year, the provision covers all income that accrues or arises, or is deemed to accrue or arise, in British India during that year. If section 5 were confined merely to this basic definition, it would be clear that, for the respondent who is a resident of British India, every portion of his income—whether it arose within British India or outside it—would be liable to excess profits tax in the same manner that it is liable to income-tax under the Indian Income-Tax Act.

The Court observed that the income-tax legislation had already imposed tax on the entire amount of the taxpayer’s income that arose in Raichur, and that this taxation was proper under the Act. It then turned to Section 5, which contains three provisos designed to limit the reach of the statute and to exclude certain kinds of income. The first proviso, as quoted, provides: “Provided that this Act shall not apply to any business the whole of the profits of which accrue or arise without British India where such business is carried on by or on behalf of a person who is resident but not ordinarily resident in British India unless the business is controlled in British India.” The Court stated plainly that this particular exception did not relate to the facts before it. The second proviso was set out in the judgment as follows: “Provided further that where the profits of a part only of a business carried on by a person who is not resident in British India or not ordinarily so resident accrue or arise in British India or are deemed under the Indian Income-tax Act, 1922, so to accrue or arise, then, except where the business being the business of a person who is resident but not ordinarily resident in British India is controlled in India, this Act shall apply only to such part of the business, and such part shall for all the purposes of this Act be deemed to be a separate business.” The Court noted that this second proviso also dealt with a person who was not resident in British India and therefore did not affect the present dispute. Nevertheless, the Court found that it offered an important clue to the meaning of the subsequent proviso because it invoked the operation of section 42 of the Indian Income-tax Act and suggested that income could be apportioned between a portion of a business that is controlled in British India and a portion that is not. The Court then reproduced the language of sub-section (3) of section 42, which reads: “In the case of a business of which all the operations are not carried out in British India, the profits and gains of the business deemed under this section to accrue or arise in British India shall be only such profits and gains as are reasonably attributable to that part of the operations carried out in British India.” This provision, the Court explained, guides the computation of income that is deemed to arise in British India when only part of the business’s operations are conducted there.

Applying the reasoning of the second proviso together with section 42(3), the Court considered a hypothetical situation in which the assessee’s manufacturing activity was situated in British India while all of his sales were made in Raichur. In such a scenario, the Court held that excess-profits tax could be charged only on the portion of profit that could reasonably be linked to the manufacturing activities performed in British India. Accordingly, the manufacturing activities would be treated as a distinct part of the assessee’s overall business for the purpose of the proviso. The Court then identified the third proviso as the only remaining provision that gave rise to the controversy in this case. It quoted the wording of that proviso verbatim: “Provided further that this Act shall not apply to any business the whole of the profits of which accrue or arise in an Indian State, and where the profits of a part of business accrue or arise …” The Court indicated that the interpretation of this proviso, particularly the meaning of “part of a business,” would be the subject of its further analysis.

In the situation where part of a business is carried on in an Indian State, the provision treats that part as a distinct business whose entire profits are considered to accrue or arise within that Indian State; likewise, the remaining part of the business is treated, for all purposes of the Act, as another separate business. The Court first needed to interpret the expression “part of a business” contained in the proviso. The Commissioner argued that the term required the part to represent a complete cross-section of the whole enterprise and not simply one or several operations of that enterprise. In contrast, counsel for the respondent contended that the phrase referred to a continuous and severable business activity whose profits could be separately apportioned or identified. The second issue before the Court was the location at which the profits of such a part are deemed to accrue or arise. The question was whether, in the case of a manufacturer, the profit location is the place where the goods are sold or the place where the goods are manufactured. The Act defines “business” in section 2 (5) as including any trade, commerce or manufacture, or any adventure of that nature, as well as any profession or vocation. This definition covers any ongoing activity of a person that generates profit and that is in the nature of trade, commerce or manufacture, and it may also include an adventure of a similar nature. A proviso added in 1940 further provided that all businesses to which the Act applies and that are carried on by the same person shall be treated as one business for the purposes of the Act. Consequently, when a person conducts several activities—whether of the same or different kinds—all of those businesses are amalgamated and regarded as a single business for tax assessment. For example, a person engaged in manufacturing hardware, oils, textiles, motor tyres, bicycles, owning various mills, and also trading in merchandise and performing contract work is deemed to be carrying on a single business. All such activities are combined for the purpose of levying tax and computing profits. This amalgamation created by the definition must be kept in mind when applying proviso 3 of section 5. It appears that the definition’s amalgamation is subsequently undone by the proviso to section 5, which again treats businesses situated in different locations as separate entities for the purposes of that provision.

The Court explained that the expression “part of a business” must be read to mean that every distinct activity carried on by a person, even if it is situated in different locations, forms a component of the same overall business for the purpose of section 5. For example, a man who manufactures textiles in Bombay, runs a shop in Mysore, operates a distillery in Allahabad and maintains an oil mill in Gwalior is, under proviso 3 to section 5, regarded as carrying on a single business composed of four parts, each part being located at a different place. When any of those parts generates profit at the place where the business is carried on, and that place lies within an Indian State, proviso 3 becomes applicable. The Court observed that the language of proviso 2 of section 5 is intended to give effect to proviso 3 by complementing it and by covering the opposite situations that arise with non-residents. As an illustration, if the respondent’s manufacturing operation were situated in Bombay while all his sales were made exclusively at Raichur and the respondent were a non-resident, excess-profits duty would be chargeable on the portion of profit attributable to the Bombay operation, that is, on the business activities conducted in Bombay. Conversely, where a resident conducts manufacturing in Raichur and makes all sales in Bombay, proviso 3 would apply because the part of the business located in Raichur would generate profit that can be said to accrue at the place of manufacture.

The Court then turned to the facts of the present assessee, who owned three oil-manufacturing mills in British India, one oil-manufacturing mill in Raichur, and a sales depot in Bombay. Absent the proviso attached to the definition of “business,” these five undertakings could be described as five separate businesses: three oil-manufacturing concerns in India, one oil-manufacturing concern in Hyderabad (Raichur), and a trading concern in Bombay. However, because of the proviso, all of them are treated as a single business for the definition, yet for the purposes of provisos 2 and 3 of section 5 each of these components must be regarded as a distinct “part of a business” and therefore must be dealt with as separate businesses. The appellant had argued that when a person is simultaneously a manufacturer, a seller and an importer, the term “part of a business” should refer only to the combination of all three activities taken together, and that none of the activities could be considered a “part of a business” unless all three were performed by the same person. The Court found this contention untenable. It held that the only reasonable construction of the Act, in the context of the provisos, is the one previously set out: each distinct activity, wherever situated, constitutes a “part of a business” and must be evaluated individually under the relevant provisos.

The Court observed that the only reasonable construction of the proviso to section five and the expression “part of a business” is the one previously suggested. Accordingly, the Court agreed with the learned Chief Justice that the activities carried out by the assessee at Raichur certainly constitute a part of the assessee’s business. Justice Tendulkar was quoted as saying that the ordinary meaning of the word “part” is a “portion” in whatever way it may be defined, and that any operation contributing to a complete business is a part of that business. The Court found the Advocate-General’s argument increasingly untenable when it considered the second proviso to section five of the Excess Profits Tax Act. That proviso permits several businesses of wholly different characters, conducted by the same person, to be treated collectively as a single business for tax purposes. If the Advocate-General’s contention were accepted, even a business wholly carried out in a Native State would not be regarded as part of the whole business in the sense of a cross-section of all the businesses that together form one business under the Act. The Court therefore concluded that the manufacture of oil was indeed part of the assessee firm’s business and fully endorsed the observations cited above.

The next issue examined was whether the portion of the business situated in Hyderabad generated any profits, that is, whether any profits from the manufacturing business at Hyderabad accrued or arose in that State. The Commissioner argued that the place where profit arises is not ordinarily the same as the location of the source that produces the profit. The Commissioner further maintained that the High Court erred in holding that, with respect to sales of oil in British India produced by the mill at Raichur, any profit accrued at the place of manufacture. The Commissioner’s submission was that profit in such a case only accrues at the place of sale, not at the place of manufacture. The Court could not accept this contention. While it is true that profit is not realized until the oil is sold, the act of sale merely determines the time and place of receipt of profit; profit is not wholly created by the sale and does not necessarily accrue where the sale occurs. The Court explained that the act of sale is the culminating step in earning profit, but it cannot be performed unless the goods were produced at Raichur. Consequently, it would be erroneous from a business perspective to assert that all profit resulted solely from the sale, ignoring the indispensable role of the manufacturing operation at Raichur.

It was observed that the manufacturing operation at Raichur was the source that enabled the assessee to sell oil, and therefore a portion of the profit necessarily stemmed from that manufacturing process. To the extent that profit is attributable to the manufacture of oil, it cannot be said that the profit accrues or arises at any location other than the place where the manufactured article was created. The Court noted that it was not denied that the manufacturing business at Raichur could generate or even earn profit, and it was conceded that profit could be said to derive from that manufacturing process. However, it was strongly argued that the earning of profit is not identical with the accrual of profit, and that profit cannot be said to accrue or arise at a place merely because it may have been earned or produced there; rather, the place of accrual of profit must be the place where the proceeds of sale are received or realized.

The assessee’s counsel contended that the words “derived,” “earn,” “accrue” or “arise” are synonymous and that the choice of word is immaterial when describing the result of various business activities. It was pointed out that the total profit that accrues to a business or is earned by it may be ascribed to a number of operations; although the profit is identified at the place where the product is sold, it accrues where it is earned. The Court considered whether the terms “derive” and “produce” are synonymous with “accrue” or “arise.” It held without hesitation that the terms “accrue” and “arise,” although not defined in the Act, are certainly synonymous and are used in the sense of “bringing in as a natural result.” Strictly speaking, “accrue” is not identical with “arise”; the former suggests growth or accumulation, while the latter implies growth or accumulation taking a tangible shape so that it can be received. Although dictionary meanings distinguish the two, throughout the Act they convey essentially the same idea, the difference being merely which term is more appropriate to a particular case. In a composite business, where a person carries on multiple enterprises, determining the place of profit accrual and apportioning it among the various undertakings is always difficult. For example, when a person is engaged in manufacture, sale, export and import, it cannot be said that the place where profit accrues is the place of sale alone. The profit received relates first to the manufacturing activity, second to the trading activity, and third to the import-export activity. Accordingly, profit or loss must be apportioned among these businesses in a businesslike manner.

In the judgment the Court explained that when a person conducts several distinct businesses at different locations, the profit attributable to each business must be allocated according to the established principles of accountancy. The Court stated that it would not distort the ordinary meanings of the terms “accrue” or “arise” to say that profit which belongs to the manufacturing activity is said to accrue or arise at the place where the manufacturing is carried out, that profit which results from the sale is said to accrue or arise at the place where the sale is effected, and that profit which belongs to the import-export activity is said to accrue or arise at the place where that activity is conducted. Such a division of profit among the various businesses carried on by the same person at different sites also determines the location where each portion of profit is regarded as having accrued. The Court warned that it would be erroneous to hold that, although a businessman had invested large sums in setting up a manufacturing enterprise—whether a textile mill or a steel works—no profit could be said to belong to the manufacturing enterprise because the output of the mill was sold elsewhere and therefore profit could only be said to arise at the place of sale. The Court observed that this view would confuse the concept of receipt of income and of the final realisation of profit with the concept of the point at which profit is deemed to accrue. The act of selling the goods is merely the mechanism by which profit is realised. If the goods are sold to a third party on the premises of the mill, the profit cannot be said to have arisen solely because of the sale; the profit should be attributed to the manufacturing business and said to arise at the mill premises. The Court added that the fact that the mill owner later establishes a separate sales depot or a shop does not completely strip the manufacturing business of its profit, although some apportionment between manufacturing and retail activities may be required. The Court noted that such apportionment is recognised in several decisions and is reflected in the provisions of section 42 of the Indian Income-Tax Act, a provision that is also referred to in proviso (2) of section 5 of the Excess Profits Tax Act. To illustrate the principle, the Court referred to the case of Commissioners of Inland Revenue v. Maxse. In that case Maxse bought a monthly magazine for 1,500 rupees and was the sole proprietor, editor and publisher. His income came from magazine sales, advertisements and reprints of articles that he mostly wrote himself. Before the war Maxse wrote a large part of each issue, and although some material came from other contributors, the sales were largely because of the popularity of his own writings. When war began he increased his personal contributions and performed most of the writing, requiring virtually no capital. He had been assessed for excess-profits duty for the year ended 31 May 1915 and he appealed that assessment to the General Income Tax Commissioners.

In the case under discussion, the taxpayer argued that his profits were derived primarily from his personal qualifications, noting that the capital outlay required was minor compared with the expertise needed to generate those profits. He further maintained that, under paragraph (c) of section 39 of the Finance (No. 2) Act, 1915, he was exempt from the excess profits duty.

The General Commissioners initially discharged the assessment in his favour. However, Sankey L reversed that decision, holding that the taxpayer was engaged in a commercial business rather than a profession contemplated by paragraph (c), and therefore the duty was applicable to him.

The Court of Appeal examined the matter and concluded that the taxpayer was simultaneously practising the profession of a journalist, author or man of letters and running the business of publishing his own periodical. Referring to the decision in Maxse, [1919] 1 K.B. 647, the Court stated that the publishing business should be debited with a fair and reasonable allowance for the taxpayer’s contributions and a proper sum for his remuneration as editor. On that basis, the taxpayer would be liable to duty on the business income but would remain exempt with respect to his professional earnings. The case therefore illustrated a combination of a profession and a business.

According to law, excess profits duty could not be imposed on the professional portion of the income, but it could be imposed on the business portion, and the duty was levied by apportioning the total profits between the two components. The rule articulated in Maxse’s case, although grounded in the specific English statutory scheme, was held to be applicable for apportioning profits among the different parts of an assessee’s business.

A similar principle was endorsed by a Bench of the Calcutta High Court in Killing Valley Tea Company v. The Secretary of State for India, I.L.R. 48 Cal. 161. In that case the court considered whether income from a tea garden—where tea was cultivated and mechanically processed for market—was assessable. The court held that the income must be apportioned, and the portion attributable to the manufacturing process was assessable. The Maxse principle and other English authorities were applied to those facts.

When a person carries on composite enterprises that are treated as a single business for the purposes of section 5 but as multiple parts for the proviso, the profit generation can be viewed as occurring in two stages: first the manufacture of the article, and second the sale of the article. Each stage should receive an appropriate share of the net profit, with the share linked to the earlier stage described as manufacturing profit. This approach was further illustrated in International Harvester Co. of Canada Ltd. v. Provincial Tax Commission, A.I.R. 1949 P.O. 72, where it was contended that all profit from a sale in Saskatchewan derived solely from the appellant’s business there, a contention the court rejected as untenable.

In the earlier Canadian case the appellant argued that because the money was received in Saskatchewan, the whole net profit from the sale originated in Saskatchewan and therefore no apportionment between the manufacturing activity in Ontario and the sales activity in Saskatchewan was required. The Privy Council rejected that argument as untenable. The Council quoted with approval a passage from the minority judgment of Sir Lyman Duff, Chief Justice, which stated that the statute did not empower the province of Saskatchewan to tax a manufacturing company for the entirety of the profits it received there. Instead, the tax could only be imposed on the profits that arose from the company’s business carried on in Saskatchewan, not on the profits that stemmed from its manufacturing operations in Ontario or on the combined operations of the two jurisdictions.

The present matter turned on the question of whether, in relation to the assessee’s manufacturing business in Raichur, any profit could be said to accrue or arise, and if so, at which location. The Court answered that the manufacturing profit unquestionably arises at the place where the manufacturing is performed. Such profit cannot be said to arise anywhere else. By contrast, the profit that results from the sale of the manufactured goods arises at the place where the sale is effected, and that profit must be apportioned from the manufacturing profit. Although the receipt of money and the realization of the profit occur where the sale is made, the increase in value that constitutes the manufacturing profit occurs at the site of production; any surplus over the cost of production accrues at that same place.

Counsel for the Commissioner relied on several authorities, including the Board of Revenue v. The Madras Export Company, Jiwan Das v. Income-Tax Commissioner, Lahore, In re Report Said Salt Association Limited, and Sudalaimani Nadar v. Income-Tax Commissioner. All of those cases involved situations in which raw materials were purchased at one location and sold at another, and the courts held that the profit in such circumstances arose from the act of sale. In most of those cases the goods were sold without undergoing any manufacturing process, and the courts observed that the mere purchase of goods does not generate profit. Although a later decision questioned that proposition, the present discussion did not need to pursue that issue. For a trading enterprise whose business consists of buying and selling, the entire operation is regarded as a single activity, and the nature of the business is such that the profit is deemed to arise at the place of sale. Consequently, it is not possible to attribute any portion of the profit to the purchase itself, and apportioning the profit between purchase and sale becomes even more problematic. Those precedents, however, do not provide guidance for cases involving manufacturing or similar enterprises, and their observations must be confined to the particular facts of each case.

It was held that profit could not be attributed to the mere act of purchase and that allocating such profit between purchase and sale was even more difficult. The earlier cases involving simple purchase-and-sale transactions were therefore considered unsuitable as precedent for disputes concerning manufacturing enterprises or businesses of a similar character. The observations in those cases were required to be confined to the specific facts presented in each individual case. Several authorities had been cited to support the proposition that, under the Indian Income-Tax Act, the location of a person’s business was not determinative of the place where profit arose, unlike the rule applied under English law. The Act, according to those authorities, concerned only the place where profit actually accrued or arose and did not regard either the place where the business was carried on or the place where the source of profit was situated. This issue was examined by the Privy Council in the case of Commissioner of Income-Tax, Bombay v. Chunilal B. Mehta (x). In that matter the assessee engaged in buying and selling of commodities in various foreign markets, but no physical delivery of goods ever occurred, and the profits from the forward contracts were never received in British India. The Council held that because the contracts were neither formulated nor performed in British India, the profits derived from them did not accrue or arise in British India within the meaning of section 4, sub-section (1) of the Indian Income-Tax Act, 1922. The Commissioner had argued that the profits resulted from the assessee’s exercise of skill and judgment in Bombay and from directions issued from Bombay, as cited in 65 I. A. 33. This contention was rejected. The Council observed that determining the place of profit accrual by looking not at the transactions themselves or their characteristics but merely at the Indian location where instructions were formulated and transmitted to New York would be an untenable approach if each transaction were to be examined separately and its profit considered on its own. The Council noted a clear paradox: if an order placed in New York produced profit, it could not be said that the profit accrued in Bombay because the same order, if sent to Liverpool, would produce profit that the Council deemed to arise in Bombay, whereas the same order directed from Hyderabad would be said to give rise to profit in Hyderabad. It was further observed that the forward-contract business was not conducted in Bombay at all. The argument advanced by the Commissioner rested on the premise that the assessee, a prominent industrialist, was directing and controlling the business, but such direction and control could not be regarded as the place where the profit actually accrued.

The Court observed that the argument had been put forward that the foreign transactions should be treated as part of the overall profit of the assessee’s Bombay business and that, consequently, the total profit of the business should be computed as a single unit. The Court rejected this contention and explained that Parliament had deliberately adopted a different criterion, applying it uniformly to every kind of profit that is described as “accruing or arising in British India.” The Court noted that this approach might be regarded as fairer because it allows the profits of a single source to be allocated proportionately, but nevertheless the Court stressed that each distinct business must be assessed according to the location and the person who carries on that business, provided that the profit is, in the terms of the statute, “accruing or arising or received in British India.” The Court further held that any relationship between the place where the business is directed and the place where the profit actually arises is not addressed by sections 4, 6 or 10 of the Act. Those sections do not emphasize the location of the business and they contain no reference to it. Accordingly, it could not be said that a rule, which is nowhere mentioned in the statute, makes the place of business the decisive factor for determining chargeability. Later, the Court remarked that there is no necessity, arising from the general concept of a business as an organized entity, to insist that all profit must arise at a single location. In practice, profit is often regarded as stemming from many individual transactions, each producing its own result, and the aggregate profit should be seen as the sum of those particular results rather than as something that must be dissected with difficulty. The Court pointed out that the assessment order had drawn a distinction between income earned from the Bombay business and income earned from foreign business, and that the statute plainly required discrimination of all profits based on the place where they accrue or arise. Other discriminations, such as those created by the various exemptions and by provisions like section 42, were also noted. In the concluding part of the judgment, the Court summed up by stating that, under the Indian Act, a person who resides in British India, carries on business there and controls transactions abroad in the course of that business, is not automatically liable to tax on the profits of those foreign transactions. If those profits have not been received in, or brought into, British India, the facts of each case may require an inquiry into where the profits actually accrued or arose. The Court clarified that it was not laying down a universal rule that would apply to all categories of foreign transactions, nor even to the sale of goods specifically, because doing so would be practically impossible and unwise. The Court also refrained from asserting that the place where a contract is formed is always the controlling factor; it recognized that, in some situations, other elements, such as actions performed under the contract, might also be relevant to the determination of profit accrual.

The Court observed that the rule stating that the place where a contract is formed prevails over all other considerations is not absolute. In certain situations that rule may apply, but other factors such as the acts performed under the contract cannot be dismissed in advance. In the matter before the Board, the contracts were neither drafted nor executed in British India; consequently, the High Court’s finding that the profits accrued or arose outside British India was well founded. The Court further noted that the present decision does not illuminate the issue before it. Although the Indian Act does not prescribe that profits must arise at the location where the business is carried on, nor that they must arise where the source of the profit is situated, the Act likewise does not state that profits necessarily arise at the place where only one operation, for example a sale, is performed. The place of accrual of profits cannot be determined solely by the test of receivability. In some cases the origin of the profit may be the decisive factor, while in other cases the receivability test may be applicable.

Profits of a trade or business represent what the business gains during a financial year. The term implies a comparison of the state of the business at two specific dates one year apart, and the fundamental meaning is the amount of gain made by the business during that period. Such gain can be ascertained only by comparing the assets of the business at the earlier date with those at the later date; the increase shown at the later date represents the profit. Under this concept, the place of business or the source from which the profit originates may, for certain businesses, be regarded as the place where the profit accrues or arises. Accordingly, profits realized on a sale must be apportioned among the various business operations that generated them. The portion attributable to the manufacturing activity at Raichur can be said to arise at the place of manufacture because no other activity contributed to those profits, and no other location can be suggested as the source of the increase. The Court considered it unnecessary to refer to the numerous cases cited at the Bar, since most concerned the interpretation of various sections of the Indian Income-Tax Act and did not address the specific interpretation required in the present case. Accordingly, the Court concluded that the High Court was correct in deciding in favour of the assessee, that no ground existed for overturning that decision, and that the appeal was dismissed with costs. The presiding judge concurred with the dismissal and briefly indicated the reasons that supported the decision.

In agreeing with the judgment of the High Court, the Court noted that the dispute originated when the Income-tax Commissioner of Bombay invoked section 66 (1) of the Indian Income-tax Act, 1922 and referred the matter to the High Court for determination. The High Court, in order to isolate the real controversy between the parties, was asked to consider whether the third proviso to section 5 of the Excess Profits Tax Act (Act XV of 1940) applied to the circumstances of this case. The Court observed that the factual background was not contested and could therefore be briefly outlined.

The respondents, who are assessee firms, were resident in British India and were registered for income-tax purposes under section 26A of the Income-tax Act. Their trade consisted of manufacturing and selling groundnut oil. They operated three oil-mill facilities in Bombay and an additional mill in Raichur, which lay in the Hyderabad State, where the oil was actually produced. During the chargeable accounting period, oil produced at the Raichur mill was sold partly within Raichur and partly in Bombay. The Income-tax Officer determined the income attributable to the Raichur operation and apportioned that income between the two locations on the basis of the proportion of sales made in each place. He held that the profits derived from the sales made in Bombay were liable to both income-tax and excess-profits tax. The Court accepted that the Officer’s assessment was proper as far as income-tax was concerned. However, the only remaining issue was whether the firm was liable to pay excess-profits tax on the income that arose from the Bombay sales of oil that had been manufactured at Raichur.

The assessee firms argued that although the oil reached the market in Bombay, the manufacturing process had taken place entirely at Raichur, and therefore a portion of the profit should be allocated to the manufacturing activity carried out at Raichur. They contended that the manufacture of oil formed a distinct part of the business and that the profits “accrued at Raichur” should be treated as belonging to a separate business for the purpose of the excess-profits tax, as required by the third proviso to section 5 of the Excess Profits Tax Act. The High Court accepted this argument and ruled in favour of the assessee firms. Consequently, the Commissioner of Income-tax, Bombay, appealed the decision to this Court.

To understand the arguments presented by counsel on both sides, the Court found it helpful to refer to the relevant provisions of the Excess Profits Tax Act. Section 2, sub-section (5) of that Act defines the term “business” to include any trade, commerce, manufacture, or any adventure in the nature of trade, commerce, or manufacture, as well as any profession or vocation, but expressly excludes a profession carried on by an individual or by individuals in a partnership if the profit of the profession depends wholly or mainly on their personal qualifications. This definition and the accompanying proviso—stating that all businesses carried on by the same person and to which the Act applies shall be treated as one business for the purposes of the Act—formed the statutory backdrop against which the Court would assess whether the Raichur manufacturing activity could be considered a separate business for the purposes of excess-profits taxation.

The Act defines a partnership as not being a business where the profits of the profession depend wholly or mainly on the personal qualifications of the partners. One of the provisos attached to this definition provides that all businesses to which the Act applies and which are carried on by the same person shall be treated as a single business for the purposes of the Act. Section 4 is the charging provision, and under that section any business to which the Act applies is liable to pay excess profits tax in the manner and to the extent specified in the section. Section 5 sets out the categories of businesses to which the Act will apply. It states that the Act shall apply to every business of which any part of the profits made during the chargeable accounting period is chargeable to income-tax by virtue of the provisions of sub-clause (i) or sub-clause (ii) of clause (b) of sub-section (1) of section 4 of the Indian Income-tax Act, 1922, or of clause (c) of that sub-section.

Three provisos are attached to section 5; the Court is concerned for the present purposes with the third proviso, which reads: “Provided further that this Act shall not apply to any business the whole of the profits of which accrue or arise in an Indian State, and where the profits of a part of a business accrue or arise in an Indian State, such part shall, for the purposes of this provision, be deemed to be a separate business the whole of the profits of which accrue or arise in an Indian State, and the other part of the business shall, for all the purposes of this Act, be deemed to be a separate business.” The question before the Court is whether, on the facts already stated, the assessees may invoke this third proviso and claim that the manufacturing of groundnut oil carried out at Raichur should be treated as a separate business within the meaning of the proviso. To succeed, the assessees must demonstrate that a distinct part of the overall business existed and that the profits of that part accrued or arose in an Indian State. Only if both conditions are satisfied can the portion be treated as a separate business for the purposes of the Act. The assessees contend that, although they carry on the combined business of manufacturing and selling oil, the manufacturing process itself constitutes a separate business and may be regarded as a distinct part of the trade they conduct. They further argue that the profits of this manufacturing part arose at Raichur, thereby fulfilling both conditions of the proviso. On the opposite side, the Attorney-General appearing for the Commissioner of Income-tax argues that the expression “part of a business” in the proviso does not refer to an individual activity or process within a larger business but rather to a cross-section of the entire business, complete in itself and encompassing elements of each process that make up the whole. He also submits that, even assuming the manufacturing operation could be treated as a part of the business, the profits of that operation actually accrued only at the point of sale, which would prevent the proviso from being attracted to the facts of the case.

The Attorney-General for the Commissioner of Income-Tax argued that the phrase “part of a business” in the proviso cannot be understood as referring merely to one of the many activities or processes that together constitute a business. He contended that the phrase must denote a cross-section of the whole business, a segment that is complete in itself and that includes elements of each of the processes that make up the business. He further submitted that, even if the manufacturing operation could be treated as such a part, the profits from that operation accrued only at the place where the goods were sold, and therefore the proviso could not be invoked in the present facts.

Regarding the first portion of Mr Setalvad’s argument, the Court found the contention unsound. The Act defines “business” to encompass any trade, commerce or manufacture. Consequently, a person may be engaged as a seller, a purchaser, a manufacturer, an exporter or an importer, and each of these roles would constitute a business within the meaning of the statute. The Court illustrated that if a person combines all of these activities—manufacturing, selling, exporting and importing—into a single undertaking, it is reasonable to describe each distinct activity as a part of the overall business that the person carries on. The Court agreed with Mr Munshi that where a particular process or activity of a continuous nature can be distinguished from other processes, and where a separate profit can be identified and allocated to it, there is no reason why that activity should not be regarded as a part of the business that yields income or profit.

The Court noted that English case law has repeatedly addressed the issue of separating profits when a person carries on one trade that is liable to a duty and another that is not. In such situations, the courts have held that if a clear separation of the two enterprises is possible, the proper approach is to segregate the profits of each enterprise and assess duty accordingly. The Court cited the decision in Commissioners of Inland Revenue v. Ransom, where the respondents were manufacturing chemists and also growers of medicinal herbs. They owned a factory where the herbs were manufactured and distilled, and a farm where the herbs were cultivated for use in the factory. The General Commissioners, on appeal, concluded that although the farm was primarily used for the factory’s purposes, the profits attributable to the farm could be separated and therefore were excluded from excess profits duty, leaving only the factory profits subject to assessment. This view was affirmed by Sankey J on further appeal. The same question

In the case of Commissioners of Land Revenue v. Maxse (1), the Court of Appeal set aside the earlier judgment of Sankey J. The appellant in that matter was the sole proprietor, editor and publisher of the newspaper National Review, and the revenue authorities had assessed him on the profits derived from that publication. The General Commissioners had originally concluded that the appellant should be exempt from excess-profits duty because he was engaged in the profession of a journalist, and that the income of a journalist depended principally on his personal qualifications, as contemplated by the Finance Act. Upon further appeal, Sankey J. reversed the General Commissioners’ view, holding that the assessee was not an ordinary journalist but obtained his earnings by selling a commodity, thereby conducting a normal commercial trading activity. The Court of Appeal subsequently overruled Sankey J.’s decision and found that the appellant was, in fact, conducting two distinct enterprises: one being the literary and journalistic work of a writer, author and man of letters, and the other being the business of publishing his periodical. Accordingly, the Court directed that the profits of the two enterprises be apportioned between them, although it recognised that the process of apportionment was not straightforward. A similar principle of separating profits was later applied by the Calcutta High Court in a matter involving the cultivation of tea as an agricultural product, which was not subject to income tax, combined with the manufacturing of tea, as reported in Killing Valley Tea Co. v. Secretary of State (2). Those cases illustrate situations in which several businesses are merged or operated together, some of which are exempt from tax or excess-profits duty. Nevertheless, the Court observed that the doctrine of apportionment, which underpinned those decisions, could just as appropriately be applied in circumstances where one segment of a composite business is distinct and capable of generating profit independently of the other segments. The concept that profits may be allocated among the different components of a mixed enterprise is further demonstrated by the Privy Council’s decision in Commissioner of Taxation v. Kirk (1). In that case, the respondents were a mining company that owned mines in the colony of New South Wales; the ore was extracted and processed into a marketable product within New South Wales, but the finished product was sold in Victoria. Section 15 of the New South Wales Land and Income Tax Assessment Act listed the types of income that were subject to tax, including income “arising or accruing to any person wherever residing from any profession, trade, employment or vocation carried on in New South Wales, whether the same be carried on by such person or on his behalf wholly or in part by any other person …,” as well as income “derived from lands of the Crown held under lease or licence issued by or on behalf of the Crown,” and other categories.

The New South Wales legislation specified that income was taxable if it arose or accrued to any person residing anywhere from any kind of property, except land that was subject to land tax and specifically excepted, or from any other source in New South Wales that was not covered by the preceding sub-sections. The New South Wales Court had held that the assessee was not liable to tax under any of those provisions. That decision was later set aside by the Judicial Committee. The Committee recorded, “It appears to their Lordships that there are four processes in the earning or production of this income—(1) the extraction of the ore from the soil; (2) the conversion of the crude ore into a merchantable product, which is a manufacturing process; (3) the sale of the merchantable product; (4) the receipt of the monies arising from the sale. All these processes are necessary stages which terminate in money, and the income is the money resulting less the expenses attendant on all the stages… The fallacy of the judgment of the Supreme Court in this and in Tindal’s case is in leaving out of sight the initial stages, and fastening their attention.” The Committee concluded that it was erroneous to regard the profits as arising solely at the place of sale. It was noted that under the New South Wales Act, tax liability depended not on whether the income arose or accrued in New South Wales, but on whether it accrued from a source located in New South Wales. This distinction was considered important, and the learned Chief Justice of the Bombay High Court was observed not to have emphasized it, having stated in his judgment that income accrues or arises only where its source is situated. The Court indicated that this point would be discussed later in relation to a second issue arising in the present case. For the present discussion, the Court observed that, on the authority of the Kirk case, it was legitimate to hold that a portion of the net profit earned by the assessee in the present matter could and should be allocated to the manufacturing process carried on at Raichur. This view received support from two recent decisions of the Judicial Committee. The earlier decision, reported in International Harvester Company of Canada v. Provincial Tax Commission (1), examined the issue in detail and was fully followed in the later case Provincial Treasurer of Manitoba v. Wrigley Jr. Co. Ltd. (2). In International Harvester Co. of Canada v. Provincial Tax Commission (1), the question for determination centred on the construction of section 21(a) of the Income Tax Act, 1932 of Saskatchewan, which after amendment was expressed in the same terms as section 23 of the later Act of 1936. The section provided that “the income liable to taxation under this Act of every person residing outside of Saskatchewan who is carrying on business in Saskatchewan either directly or through or in the name of any other person shall be the net profit or gain arising from the business of such person in Saskatchewan.”

In the case under consideration the statute provided that “the income liable to taxation under this Act of every person residing outside of Saskatchewan who is carrying on business in Saskatchewan either directly or through or in the name of any other person shall be the net profit or gain arising from the business of such person in Saskatchewan.” The appellant company had its head office in Hamilton, Ontario, and for income-tax purposes was resident outside Saskatchewan. The statutory citations for the case were reported as (1) [1949] A.C. 36 and (2) (1950) A.I.R. 1950 P.O. 53. The company’s undertaking comprised the manufacture and sale of agricultural implements. All manufacturing operations were performed entirely outside the province of Saskatchewan, while the selling operations were conducted partly within Saskatchewan and partly in other provinces and foreign countries. The selling activities that took place in Saskatchewan were carried out through branch offices; every amount received in Saskatchewan was placed in separate bank accounts, then transferred in full to the head office. The head office subsequently disbursed to the Saskatchewan branches only the sums required for operating and incidental expenses.

The Judicial Committee held that any portion of the appellant’s net profit that could fairly be attributed to its manufacturing activities outside Saskatchewan did not constitute profit arising from the business carried on in Saskatchewan within the meaning of section 21(a) of the Income Tax Act, 1932, as amended, and therefore had to be excluded in computing the income of the appellant liable to tax under that provision. In delivering its judgment the Committee quoted a passage from the judgment of Chief Justice Duff of the Supreme Court of Canada, which explained that the company’s profits are derived from a series of operations, including the purchase of raw materials or partly manufactured articles, the complete manufacturing of its products, the transportation and sale of those products, and the receipt of the proceeds of such sales. The passage emphasized that the essence of the profit-making business is the series of operations as a whole, and that although a part of the proceeds of sales in Saskatchewan may represent profit received in Saskatchewan, it does not follow that the whole of such profit “arises from” the part of the company’s business carried on there for the purposes of section 21(a). The Lords agreed with the appellant that the money received in Saskatchewan, representing net profit, should be subdivided and that part should be treated as manufacturing profit arising from the appellant’s manufacturing business outside Saskatchewan. They found no insuperable difficulty in making this apportionment. The reasoning was applied fully to the facts of the present case. The Court noted, however, that the scheme of the Saskatchewan Act was intended to tax profits arising from a business in a particular place, and that the language of the Indian Act is undoubtedly different. Nevertheless, as in the Kirk case, the decision may be taken as authority for the proposition that in cases such as the present one, the net profits of an assessee can be apportioned, with a portion allotted to the part of the business relating to the manufacture of commodities ultimately sold in the market.

The Court observed that, in the case before it, the net profits generated by the assessee’s business could be divided, with one portion attributable to the business segment engaged in manufacturing commodities sold in market. The later decision of the Judicial Committee, previously mentioned, simply followed the reasoning in the International Harvester Company case and did not provide any additional discussion on the matter. Counsel Munshi, during his submissions, referred to the provisions of section forty-two sub-section three of the Indian Income-tax Act. He argued that the wording of that sub-section plainly indicates that, for legislative purposes, certain operations of a business may be treated as a distinct part of that business. He further contended that the principle of apportionment embodied in that sub-section could appropriately be applied to a situation falling under the third proviso to section five of the Excess Profits Tax Act. Section forty-two, sub-section one, states that the entirety of income and profits that accrue or arise, whether directly or indirectly, through a business connection in British India shall be deemed income accruing within British India. Consequently, such income is liable to tax in this country. Sub-rule three narrows the scope of that provision by stating that when not all operations of the business are carried out in British India, profits and gains deemed to accrue in the country are limited. Such limited profits must be those that can reasonably be attributed to the portion of the business operations that are conducted within British India. It is evident that the Raichur factory maintains a business connection in British India because a portion of the oil it manufactures is sold through the Bombay establishment of the assessees. It is also clear that the entire set of operations of the Raichur business does not take place in Bombay, meaning that only the activities occurring in Bombay can generate profits deemed to arise there. Consequently, under section forty-two, only the profits that can reasonably be linked to the sale of the oil in Bombay will be treated as income accruing in Bombay. Because section forty-two applies to an assessee who is resident in India, there is no reason why the same principle of apportionment should not be applied. The principle should also apply to a case that falls within the third proviso to section five of the Excess Profits Tax Act. Counsel Setalvad pointed out that section forty-two contemplates income or profits that do not actually arise or accrue in British India but are only deemed to do so under the circumstances described in the section. He therefore argued that no question of apportionment arises under proviso three to section five of the Excess Profits Tax Act. However, the Court noted that Parliament introduced proviso two to section five of the Excess Profits Tax Act, which deals with business carried on by a non-resident. It appears that the legislature had in mind the provisions of section forty-two when drafting that proviso.

The Court observed that the reference to section 42 of the Income-tax Act was crucial for interpreting the phrase “part of a business” that appeared in proviso (2) to section 5 of the Excess Profits Tax Act. It held that this phrase could rightly be understood to denote those specific operations of a business to which separate profits could be attributed, as set out in sub-section (3) of section 42. Although proviso (3) dealt with a different factual situation, the Court said that the expression “part of a business” used in that provision must be read in the same sense as in the earlier proviso. To that extent, the Court noted that this interpretation supported the respondents’ argument that the legislation did not intend to refer to a cross-section of the entire enterprise.

The Court further acknowledged that the third proviso to section 5 of the Excess Profits Tax Act did not contain an explicit direction on how to apportion profits, unlike the clear guidance provided in sub-section (3) of section 42 of the Income-tax Act. Nevertheless, the Court reasoned that profits could accrue with respect to a part of a business only where it was possible to make an apportionment, and that this assumption formed the basis of the proviso. It explained that if an apportionment could not be made for the processes or activities of a particular segment of the business, those processes would not be considered a part of the business at all, and consequently the proviso would not apply. From this, the Court concluded that the principle of apportionment was implicitly contained in the third proviso to section 5 of the Excess Profits Tax Act.

Turning to the second issue, the Court examined whether the profits derived from the manufacturing portion of the assessee’s business had arisen or accrued at Raichur in the Hyderabad State. It recognised that this question presented some difficulty. Although both sides had cited a substantial number of authorities, the Court found that none of the cited cases directly addressed the point in issue. Most of the authorities dealt with other provisions of the Income-tax Act that rendered income taxable when it arose, accrued or was received in British India, or when it was deemed by law to have arisen, accrued or been received in British India. The Court noted that the third proviso to section 5 of the Excess Profits Tax Act employed the terms “accrue” and “arise” but omitted the word “received,” and that there was no provision allowing income to be deemed to arise or accrue at a particular place when it did not actually do so. While acknowledging that business profits are not “received” until the goods are sold and are only determined at the point of sale, the Court posed the question whether profits generated by a manufacturing operation that occurs before the sale should be considered to accrue or arise at the location of sale. The Court indicated that it had been referred to several decided authorities concerning assessors who carried on such activities, and signalled that further analysis would follow.

In the case that involved a business of buying and selling, the goods and raw materials were purchased in one location and subsequently sold in another, raising the question of whether, for taxation purposes, a portion of the profits could be considered to arise at the place of purchase. The Madras High Court’s decision in Secretary, Board of Revenue, Madras v. Madras Export Company (1) stands as a principal authority on this issue. The court was asked to determine whether the profits of a firm whose headquarters were in Paris, which obtained raw skins through an agent in Madras and then exported those skins to Paris for sale, were taxable in British India under section 33(1) of the Income-tax Act of 1918—an antecedent provision that corresponded, though not identically, to the present section 42. The court answered in the negative. The learned judges held that section 33 functioned as a procedural, not a charging, provision and they relied upon the English case Greenwood v. Smth and Company (2), which established that a trade is exercised in the place where the business transactions are concluded; consequently, for a selling business, the relevant place is where the sales are effected and the profits are realised. The propriety of the Madras judgment was later challenged by the Calcutta High Court in Rogers Pyatt Shellac and Company v. Secretary of State for India (8). That court observed that the Madras judges had entirely overlooked a crucial distinction between Indian and English income-tax law, noting that Indian law provides for certain profits, even when not actually arising or accruing in British India, to be deemed to arise or accrue in the country. Under English law, the essential criterion for taxation is that profit must accrue from trade exercised within the United Kingdom, and there is no provision analogous to section 42 of the Indian Income-tax Act. Nevertheless, the decision in Secretary, Board of Revenue, Madras v. Madras Export Company (1) was subsequently affirmed by a Full Bench of the Lahore High Court in Jiwandas v. Income-tax Commissioner, Lahore (4). In that matter, the question arose as to whether a person residing and carrying on business in British India, who purchased goods there and sold them in Kashmir, could be assessed on the ground that part of the profits had accrued within British India. The Full Bench again gave a negative answer, reasoning that the mere purchase of goods in British India bore too remote a connection to justify the conclusion that any portion of the profit had “accrued” in the country. Because the business in question was one of buying and selling, the court concluded that the profits were not deemed to have accrued or arisen at the place of purchase.

It was held that the profits actually accrued or arose at the place where the goods were sold and not at the place where they had been merely purchased for export. The Court noted that this decision was rendered before 1939, so the amendments to section 42 of the Income-tax Act introduced by the Amending Act of 1939 were not applicable at that time. In that case the assessee was a resident of British India, and the sole issue to be decided was whether the profits truly arose or accrued in British India; the Court concluded that they did not. Both of those decisions were subsequently approved by a Madras Special Bench in the case of S.V.P. Sudalaimani Nadar v. Commissioner of Income-tax, Madras(1), where the assessee, also a resident of British India, purchased animals in British India and exported them to foreign countries for sale. The Bench held that he was not assessable to income-tax because the profits were neither received nor brought into British India. All of the foregoing cases were later reviewed by a Division Bench of the Orissa High Court consisting of Chief Justice Ray and Narasimham J. in Rahim v. Commissioner of Incometax ("). In that matter the assessee bought hides, horns and similar items in the State of Orissa and sold them in British India, and the question was whether any portion of the profits accrued or arose within an Indian State. The Court answered in the negative, although the Chief Justice, in a separate judgment, cautioned that he was not prepared to declare as a rule of law that in every buying-and-selling business the entire profit necessarily accrues at the place of sale. He observed that each case must be examined according to its own facts, and that there could be situations where the place of purchase carries its own significance. Regarding the specific facts before them, the Court said that the act of buying (1) A.I.R. [1941] Mad. 229. (2) A.I.R. [1949] Orissa 60. was so negligible a part of the overall business operation that it did not make any appreciable difference in the apportionment of the amount that accrued or arose in British India. The Court further remarked that none of these decisions provided real assistance to the appellant in the present case, because all of them were based on the premise that no substantial profit resulted from the purchase activity when goods were bought at one location and exported in a raw condition to another location for sale. In the Orissa judgment, Narasimham J. expressly observed that the situation might differ if the purchased materials were subjected to any manufacturing process before export. If the purchasing component of the business generated no real profit, then the issue of the place where such profits arise becomes immaterial.

In contrast to the earlier authorities, the Court noted that many cited authorities argued that even the purchase of raw materials could be regarded as an operation connected with a business, and that when such purchase was carried out in British India, the profits attributable to that operation might become taxable under section 42 of the Indian Income-Tax Act. The leading decision on this point was Rogers Pyatt Shellac and Company v. Secretary of State for India (1). In that case a company incorporated in the United States, having its head office in New York and maintaining branch offices, agencies and factories in Calcutta, London and other places, purchased goods in India for resale in America. The company also owned a factory in the United Provinces where it bought raw produce locally and processed it into a form suitable for export to America. The Court held that the company was not exempt from assessment to income-tax or super-tax in India. That decision was rendered under section 33 of the Income-Tax Act of 1918, and the judgment demonstrated that the principle applied was essentially the same as the one later incorporated in section 42 (3) of the Income-Tax Act of 1922. The same line of reasoning was adopted by the Rangoon High Court in Commissioner of Income-Tax, Burma v. Messrs. Steel Brothers and Company (1). Among more recent cases decided under section 42 of the Income-Tax Act of 1922, the Court cited Motor Union Insurance Co. Ltd. v. Commissioner of Income-Tax, Bombay (2) and Webb Sons and Company v. Commissioner of Income-Tax, East Punjab (3). In the latter case the assessee, a company incorporated in the United States, was engaged in the manufacture of carpets in America; its only Indian activity consisted of purchasing wool as raw material for those carpets. The Court held that such purchase constituted an operation within the meaning of section 42 (3) of the Income-Tax Act, and that profits arising from those purchases could be deemed to arise in British India and therefore were assessable under that provision. Although these authorities do not provide strong assistance to either the respondents or the appellant in the present matter, they were decided on the express language of section 42 as it stood in the 1922 Act or its earlier equivalent. The Court therefore turned to another line of authority on which the High Court’s judgment appears to rely principally. In the Court’s opinion, those authorities also cannot be regarded as direct precedent on the precise issue that requires consideration in the present case. The Court illustrated this by referring to Commissioner of Income-Tax v. Kirk (4), where profits derived from extracting ore from the soil and from converting the crude ore into merchantable product were held to be taxable because the source of those profits was situated in New South Wales, forming the basis of taxation under the New South Wales Act.

The Court observed that profits derived from converting crude ore into a merchantable product were held to be taxable because the source of those profits lay in New South Wales, and that location served as the basis for taxation under the New South Wales Act. It further held that the High Court was incorrect in asserting that, as a matter of law, profits must be deemed to arise at the place where the source of the profit is situated. The Privy Council, in the case of Commissioner of Income-Tax v. Chunilal (5), expressly stated that income from a business does not necessarily arise or accrue at the place where directions are given or skill and judgment are exercised, even if the operations themselves occur elsewhere; this principle was reinforced by the cited authorities (1) I.L.R. 3 Rang. 614, (2) A.I.R. [1945] Born, (3) [1950] 18 I.T.R. 33, (4) [1900] A.C. 588, and (5) 65 I.A. 332. The Court explained that the scheme of the Income-Tax Act does not require profits of a business to be treated as a single indivisible result accruing at one place, nor does it forbid distributable treatment of such profits. In support of his judgment, the learned Chief Justice of Bombay relied heavily on the decision of the Madras High Court in Commissioner of Income-Tax v. Mathias (1). In that case, the assessee, a resident of Mangalore in British India, owned coffee plantations in Mysore; the harvested coffee was transported to Mangalore, where it was dried and cleaned in the factory of the assessee’s selling agents and subsequently sold by that company, with the sale proceeds being received and retained at Mangalore by the assessee himself. The principal issue was whether the assessee could invoke the benefit of the second proviso to section 4(2) of the Income-Tax Act, and, if so, to what extent. The Madras High Court judges held that the assessee was entitled to exemption of the entire profit earned from the sale of the produce at Mangalore, reasoning that the agricultural produce itself could be regarded as income in kind that accrued at Mysore, a location outside British India. However, on appeal, the Privy Council reversed this decision, holding that because the income was received in British India, the proviso to section 4(2) could not be applied (2). The specific point on which the Madras High Court based its decision was not addressed by the Judicial Committee and thus remained unresolved. The Court noted that, in the present matter, the manufactured oil produced at Raichur could not be characterized as income or profit in kind. It clarified that manufactured products themselves are not income, although the manufacturing process generates profits that form part of the total profit realized at the time of sale. Consequently, the Court posed the question that required determination: where do the profits resulting from the manufacturing process accrue or arise?

It was observed by Justice Mukherji in the case of Re Rogers Pyatt Shellac and Co. v. Secretary of State for India (1) that, when examined from its linguistic roots, the term “accrues” carries the meaning of a growth, addition or increase that occurs by way of accession or advantage, whereas the term “arises” conveys the notion of growth or accumulation taking a tangible shape that can be received. The two expressions therefore express essentially the same idea, the distinction between them being only a matter of which term is more suitable in a particular factual situation. Justice Mukherji further explained that these words have traditionally been used in contrast to the word “received” and that both refer to a stage that precedes the moment when income actually becomes receivable; they suggest a character of income that is, to some extent, in an incipient or unfinished form. As previously noted, the legislature, in the proviso (3) to section 5 of the Excess Profits Tax Act, deliberately omitted the word “received” and referred only to income that is “accruing” or “arising.” This choice indicates that the legislature intended to cover situations in which profits may accrue to portions of a business before those profits are actually received in cash. When a raw material is transformed by a manufacturing process into a new product, its value inevitably increases; in other words, there is an accretion of profit, and the higher value represents the income or profit generated by the manufacturing activity. Because these profits accrue as a result of the manufacture, their accrual, in my view, must be regarded as taking place at the location where the manufacturing process is carried out. It is irrelevant that the finished goods may later be sold at various locations. Even if the manufacturer is also the seller and therefore receives the total profit only at the time of sale, a portion of the profit in its incipient form still accrues at the place of manufacture, with the exact amount being determinable only after the sale is completed. For the purpose of calculation, the two components of the business may be treated as being operated by two distinct sets of persons. Once the manufacturing process is finished, that segment of the business is complete, and the profits that accrue to it arise at the site of manufacture, not at the place where the final sale occurs. Applying the principle embodied in section 42 of the Income-Tax Act, the profits that may be deemed under that provision to accrue or arise in British India are only those that can reasonably be attributed to the sales portion of the operation, that is, the sale of part of the oil. The profits that accrue or arise from the other portion of the operation, namely the manufacture of the oil, which takes place outside India, cannot be considered to have accrued or arisen in India.

The Court observed that the profits generated by the manufacturing segment of the assessee’s business could not be treated as having accrued or arisen in India, because the only place where such profits could be said to accrue or arise was the location of the manufacture itself. Consequently, the Court concluded that the profits attributable to the manufacturing part of the business had in fact accrued and arisen at Raichur. On that basis, the Court held that the judgment of the High Court, which had found the profits to be sourced outside India, should be affirmed. Although the Court did not agree with every reason given by the learned judges of the High Court, it found the overall line of reasoning satisfactory. The judgment further noted that the Court substantially concurred with the reasoning set out in the opinion delivered by the learned brother Mukherjea, and therefore agreed to dismiss the appeal. Accordingly, the appeal was dismissed. The record also noted the agents representing the parties: the appellant was represented by an agent identified as P.A. Mehta, while the respondents were represented by an agent identified as Ranjit Singh Narula.