The Liquidators Of Pursa Limited vs Commissioner Of Income-Tax, Bihar on 9 February, 1954

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

Court: supreme-court

Case Number: Civil Appeal No. 33 of 1953

Decision Date: 9 February 1954

Coram: Mehar Chand Mahajan, Ghulam Hasan, B. Jagannadhadas, DAS

The case was styled The Liquidators of Pursa Limited versus Commissioner of Income-Tax, Bihar, and was decided on 9 February 1954 by the Supreme Court of India. The petitioners were the liquidators of Pursa Limited and the respondent was the Commissioner of Income-Tax for the State of Bihar. The judgment was delivered on 9 February 1954. The bench that pronounced the decision comprised Justice Mehar Chand Mahajan, Justice Ghulam Hasan and Justice B. Jagannadhadas. In some records the bench is also listed as Justice Das, Justice Sudhi Ranjan together with Justice Mahajan, who served as Chief Justice, Justice Hasan, Justice Jagannadhadas and Justice B. The official citation of the decision is 1954 AIR 253 and 1954 SCR 767. The citation registers also record subsequent references such as E 1954 SC 470 (page 65), D 1961 SC 398 (pages 7, 10, 12, 16), R 1965 SC 33 (page 6), F 1965 SC 1358 (pages 11, 23), RF 1969 SC 869 (page 5) and R 1971 SC 794 (page 12). The statutory provision under consideration was Section 10(2)(vii) with its second proviso of the Income-Tax Act, XI of 1922, together with Section 66 concerning the finding of fact and the jurisdiction of an appellate court to intervene. The headnote explained that the essential concept embedded in the definition of “business” in Section 2(4) of the Income-Tax Act is the continuous exercise of an activity, and that the phrase “carried on by him” in Section 10(1) signifies that tax is payable only on profits or gains arising from a business actually carried on by the assessee. Accordingly, under clause (vii) of Section 10(2) the machinery or plant must have been used for at least part of the accounting year. Since the sugar-factory machinery that had been sold was never used for business purposes during the relevant year, the second proviso of Section 10(2)(vii) could not apply and the assessors were not liable to tax. The headnote further noted that while a High Court does not ordinarily disturb the factual findings of a tribunal, it is well settled that an appellate court may intervene when the tribunal has either mis-interpreted the statutory language—a matter of law—or has arrived at a factual conclusion unsupported by evidence or contradictory to the evidence. The judgments in Commissioner of Income-Tax v. Shaw Wallace and Company (L.R. 59 I.A. 206) and Commissioners of Inland Revenue v. Fraser (24 Tax Cases 498) were cited in support of this principle.

The appeal arose under civil appellate jurisdiction as Civil Appeal No. 33 of 1953. It was filed by special leave against the judgment and order dated 16 May 1951 issued by the Patna High Court in Miscellaneous Judicial Case No. 126 of 1950. That High Court decision itself stemmed from an order dated 17 May 1949 of the Income-Tax Appellate Tribunal, Calcutta Bench, in I.T.A. No. 147 of 1948-49. The petitioners were represented by counsel identified as Sukumar Mitra, assisted by S. N. Mukherjee. The respondent was represented by counsel identified as C. K. Daphtary. The appeal therefore sought review of the tribunal’s and the High Court’s conclusions on the tax liability arising from the sale of the sugar-factory’s plant, machinery and stores.

On 9 February 1954 the Court heard an appeal that had been granted special leave to be filed. The judgment was delivered by Justice Das. The appellant was represented by counsel, while the respondent was represented by the Solicitor-General for India, Porus A. Mehta, who appeared with a colleague. The appeal arose from a judgment of the Patna High Court that had been rendered on a reference made by the Income-tax Appellate Tribunal under section 66(1) of the Indian Income-tax Act. The Tribunal had referred two specific questions to the High Court for its opinion. The first question asked whether, on the facts and in the circumstances of the case, the surplus of Rs 13,05,144 that resulted from the sale of the plant and machinery of the sugar factory was chargeable under section 10(2)(vii) of the Act. The second question asked whether the profit of Rs 15,882 that arose from the sale of the factory’s stores was taxable under the Income-tax Act in the circumstances of the case. These questions were heard before a Division Bench consisting of Justice Shearer and Justice Sarjoo Prasad. After a prolonged hearing, the two judges delivered separate judgments on 27 February 1951, and they arrived at opposite conclusions. Justice Shearer answered both questions in the negative, holding that neither the surplus nor the profit was taxable. In contrast, Justice Sarjoo Prasad answered both questions affirmatively, holding that both amounts were taxable. Because of this disagreement, the matter was referred to a third judge, Justice Ramaswami, who after a fresh hearing gave his judgment on 16 May 1951. Justice Ramaswami agreed with Justice Sarjoo Prasad on the first question, holding that the surplus was taxable, and agreed with Justice Shearer on the second question, holding that the profit from the sale of stores was not taxable. Consequently, the High Court, by a majority of two judges, answered the first question in the affirmative, that is, against the assessee, and answered the second question in the negative, that is, in favour of the assessee. The assessee then applied to the High Court for leave to appeal to this Court against the High Court’s decision on the first question. The High Court declined to grant the required certificate. The assessee therefore applied to and obtained special leave from this Court to file the present appeal. The Revenue Department did not file any appeal against the High Court’s decision on the second question, and therefore no further discussion of that question is required.

The dispute originated in the course of the income-tax assessment of Pursa Limited for the assessment year 1945-46, which corresponded to the accounting year that ran from 1 October 1943 to 30 September 1944. Pursa Limited had been incorporated in 1905 under the Indian Companies Act, but all of its shareholders and directors were residents of the United Kingdom. The company’s business consisted of growing sugarcane, manufacturing sugar, and dealing in sugar. It was established that the sugar-crushing season in the country ran from December to April each year. Towards the end of 1942 the company attempted to sell its entire business, but that attempt was unsuccessful. According to the case filed by the respondent in the appeal, in the middle of 1943 the directors of the company began negotiations for the sale of the factory and other assets, with a view to winding up the company. This background set the factual context for the questions that were referred to the High Court and eventually to this Court for determination.

In this case the tribunal was presented with evidence that the directors of Pursa Limited had begun negotiations for the sale of the factory and other assets of the company with the ultimate purpose of winding up the business. The record, which included correspondence, an affidavit and other material referred to by Justice Sarjoo Prasad in his judgment, showed that on 9 August 1943 an inventory of the company’s property was prepared and on that same date a firm offer was received from Dalmia Jain & Company Ltd. for the purchase of the factory and the stores as they existed at that moment. The offer was communicated to the directors in England on 16 August 1943 by cable. On 20 August 1943 the directors instructed the local managers in India to proceed with the transaction, anticipating that the shareholders would approve the sale at an extraordinary general meeting that the directors expected to convene very shortly. That meeting, however, did not take place until 8 October 1943, which was eight days after the beginning of the accounting year that ended on 30 September 1944. At the extraordinary general meeting the directors formally accepted the firm offer of Dalmia Jain & Company Ltd., and a concluded agreement for the sale was thereby created. Following the acceptance, the directors gave instructions to the company’s solicitors to draft the necessary sale documents.

Subsequently, on 7 December 1943 a written memorandum of agreement was executed. Under that memorandum Pursa Limited agreed to sell and demise to Dalmia Jain & Company Ltd. all of its lands, buildings, machinery, plant, vats, reservoirs, cisterns, pumps, engines, boilers, implements, utensils, tramways, furniture, stores, articles and other things that were present on 9 August 1943, free from all mortgages and charges, for a total price of twenty-eight lakh rupees. The sale excluded the stock of manufactured sugar and the grain stock that were stored in the godown on 9 August 1943, as well as any stores and articles that the company might acquire after that date. The agreement also provided that the price would be payable for the assets as described, subject to any subsequent use and consumption of the assets in the ordinary course of business. On the same day, 7 December 1943, Dalmia Jain & Company Ltd. paid the full purchase price of twenty-eight lakh rupees and, on 10 December 1943, took possession of the factory.

At the time of the sale the company still held a stock of sugar valued at six lakh rupees, which was expressly excluded from the transaction. The company continued to sell that sugar stock up to June 1944. The exclusion of the sugar stock was explained on the basis that it was not possible to determine the exact date on which the sale of the stock would be completed, and because the sugar produced in 1943 had to be sold through the company’s exclusive selling agents under a pre-existing contract. The tribunal further noted that, between the date the firm offer was obtained, 9 August 1943, and the date possession was transferred to Dalmia Jain & Company Ltd., 10 December 1943, the company never employed its machinery and plant for the purpose of manufacturing sugar or for any other productive purpose. The only activity that the company performed with the machinery and plant during that interval was to keep them in good condition and running order, without actually using them to produce any output.

The court observed that after the sale of the factory the company kept the machinery and plant only for the purpose of keeping them in trim and running order; they were not employed for any manufacturing or other purpose. In fact, throughout the accounting period the machinery and plant remained idle and were not used by the company at all. The company entered voluntary liquidation on 20 June 1945. The delay in ordering the liquidation was explained as being due to considerable legal difficulties concerning the transfer of certain mokarari lands owned by the company. The liquidators, who had been appointed by the shareholders, represented the company in the assessment proceedings for the assessment year 1945-46. On 21 February 1947 the Income-Tax Officer wrote to the liquidators seeking clarification on several points. Among his queries, he asked why the liquidators did not object to treating the company’s activities during the preceding year as a realisation of assets on impending liquidation rather than as the carrying on of business within the meaning of the Income-Tax Act. The liquidators replied on 19 March 1947, stating that the company had gone into liquidation on 20 June 1945 and, in view of that date, they could not accept the contention that the company was not carrying on business during the year ended 30 September 1944. They further pointed out that the various debits appearing in the sugar-factory accounts were expenses incurred in the ordinary course of the company’s business. The Income-Tax Officer, in a letter dated 17 May 1947, asserted that the large profits earned by the company from the sale of its machinery and plant were taxable under the second proviso to section 10(2)(vii) of the Income-Tax Act. He instructed the liquidators to retain sufficient funds and assets to meet the heavy tax liabilities that might arise and warned the shareholders accordingly. He also requested certain information which the liquidators did not provide. In their reply dated 22 May 1947 the liquidators disagreed with the officer’s conclusion, arguing that the profits in question did not arise from a business carried on by the company but from the company’s cessation of business. Nevertheless, by an order dated 21 June 1947 the Income-Tax Officer held that the profits from the sale of machinery and plant were liable to assessment under section 10(2)(vii) and added Rs 13,05,144 to the assessed profits. The Appellate Assistant Commissioner of Income-Tax dismissed the liquidators’ appeal on 30 January 1947, prompting the liquidators to appeal further to the Income-Tax Appellate Tribunal. The tribunal, by its order of 17 May 1949, dismissed that appeal. Subsequently, an application under section 66(1) of the Act was filed, and the tribunal made a further statement.

The matter was subsequently referred to the High Court, which was asked to consider the two questions set out in the case. The later procedural history of the dispute had already been described in the earlier portions of the judgment and therefore did not need to be repeated. The Court then reproduced the relevant portion of section 10 of the Income-Tax Act, as it stood after amendment by Act VI of 1939, for the purpose of analysis. The provision read as follows: “10 (1) The tax shall be payable by an assessee under the head ‘Profits and gains of business, profession or vocation’ in respect of the profits or gains of any business, profession or vocation carried on by him. (2) Such profits or gains shall be computed after making the following allowances, namely – (i) … (ii) … (iii) … (v) in respect of current repairs to such buildings, machinery, plant, or furniture the amount paid on account thereof; (vi) in respect of depreciation of such buildings, machinery, plant, or furniture being the property of the assessee, a sum equivalent to such percentage on the original cost thereof to the assessee as may in any case or class of cases be prescribed; (vii) in respect of any machinery or plant which has been sold or discarded, the amount by which the written down value of the machinery or plant exceeds the amount for which the machinery or plant is actually sold or its scrap value: Provided that such amount is actually written off in the books of the assessee: Provided further that where the amount for which any such machinery or plant is sold exceeds the written down value, the excess shall be deemed to be profits of the previous year in which the sale took place; … … …”. The Court observed that it was essential to understand the meaning and import of subsection (2)(vii) of section 10, because that sub-clause was directly relevant to the dispute before it. Under the primary clause (1) of section 10, tax liability arises for an assessee “in respect of the profits or gains of any business, profession or vocation carried on by him.” The term “business” is defined in section 2, sub-section (4) to include “any trade, commerce or manufacture, or any adventure or concern in the nature of trade, commerce or manufacture.” The Court referred to the Judicial Committee’s observation in the Shaw Wallace & Co. case, noting that the underlying idea of each of these expressions is the continuous exercise of an activity, and that the words “carried on by him” in section 10(1) embody this same central concept. Consequently, the taxable income must arise from profits or gains generated by a business that is actually being carried on by the assessee. The Court then explained that subsection (2) merely permits certain allowances to be taken before arriving at the taxable profit, and that the specific proviso attached to clause (vii) was the basis of the tax authority’s reliance. That proviso states that any excess of the sale proceeds over the written down value of “any such machinery or plant” shall be deemed to be profits of the previous year in which the sale occurred. The Court highlighted that the phrase “any such machinery or plant” must be read in the context of the allowance scheme set out in subsection (2), and that it refers to the machinery or plant for which the allowance under clause (vii) is claimed. In sum, the Court concluded that tax under section 10(1) is payable only on profits derived from a business actually carried on, and that the allowance provisions, including the proviso to clause (vii), operate only within that limited scope.

The Court explained that the term “or plant” in the proviso unmistakably refers to the machinery or plant for which an allowance is sought under clause (vii). Although the expression “such” does not appear in the main wording of clause (vii), the overall design of sub-section (2) – as shown by the other allowance clauses, namely (iv), (v) and (vi) – makes it clear that the machinery or plant mentioned in clause (vii) must be the same category of equipment described in the earlier clauses, that is, machinery or plant that were “used for the purposes of the business, profession or vocation.” The Court noted that this interpretation was later confirmed beyond doubt by the 1946 amendment, which inserted the word “such” into clause (vii). The phrase “used for the purposes of the business” was understood to mean that the equipment is employed to enable the owner to conduct the business and to earn profits from that business. In other words, the machinery or plant must be employed in the very business that is actually being carried on and whose profits are assessable under section 10(1). The Court mentioned that some decisions of the Income-Tax Board of Review have given “used” a wide meaning, covering both passive and active users, but it was not necessary in the present appeal to decide that disputed point, on which the High Courts have taken differing views. What is clear, the Court held, is that to attract the operation of clauses (v), (vi) and (vii), the machinery and plant must have been used – in whatever sense the word is understood – for at least a portion of the accounting year. If the machinery and plant were not used at any time during the accounting year, no allowance could be claimed under clause (vii) in respect of them, and the second proviso would not apply.

In the tribunal’s statement of the case, after referring to its decision that the profit arising from the sale of machinery and plant was assessable under section 10(2)(vii), the tribunal set out two reasons for that conclusion. First, the tribunal accepted the applicant company’s admission that it had been carrying on its business up to the date of the machinery sale, namely 7 December 1943, and therefore held that the sale formed part of the company’s ongoing business. Second, the tribunal observed that the applicant company had not sold its sugar stocks, valued at more than Rs 6,00,000, on 7 December 1943. The company’s argument that the sugar stocks could not be sold because the company had exclusive agents for sugar sales was rejected by the tribunal. The Income-Tax Appellate Tribunal subsequently found that sugar continued to be sold for more than six months after the machinery was sold and that substantial establishment and general expenses continued to be incurred. From these facts, the tribunal concluded that the sugar stocks had not been deliberately sold on 7 December 1943 in order to obtain a better advantage later, and that this demonstrated the applicant company’s business continued after the machinery sale. Although the High Court would not disturb the tribunal’s factual findings, the Court reiterated that where a tribunal’s findings are based on a misinterpretation of statutory language – a matter of law – the appellate court retains jurisdiction to intervene.

The Income-tax Appellate Tribunal held that the company continued to sell sugar for more than six months after it had sold its machinery and plant. The Tribunal also observed that substantial expenses on establishment and general charges were still being incurred during that period. From these observations the Tribunal concluded that the sugar stocks had not actually been sold on 7 December 1943, but were retained in order to be sold later at a more advantageous time. Accordingly, the Tribunal said that the company was still carrying on its business after the machinery had been sold on that date. Although the High Court ordinarily refrains from questioning the tribunal’s factual findings, it is well settled that the appellate court may intervene when the tribunal has either misunderstood the statutory language—since proper construction of the statute is a question of law—or has made a finding that is unsupported by the evidence, is inconsistent with the evidence, or directly contradicts it, as noted in Lord Normand’s judgment in Commissioners of Inland Revenue v Fraser.

The Court observed that the tribunal had misdirected itself in law concerning the meaning and import of the relevant provisions of section 10 of the Act. The record clearly showed that the machinery and plant sold had never been used for the business carried on during the accounting year, and therefore the second proviso to section 10(2)(vii) could not apply to the proceeds of that sale. Because the tribunal failed to appreciate the true scope of section 10(2)(vii), the whole decision was vitiated and could not be sustained. Moreover, the tribunal’s statement of the case was not merely a statement of primary fact but also contained a conclusion that conflicted with that primary finding. The Tribunal’s decision was based on two considerations. The first consideration rested on an admission by the liquidators that the company had been carrying on its business up to the date of the machinery sale on 7 December 1943. That admission is consistent with the fact that the company was only selling its existing stock of sugar and was not engaged in sugar manufacture. In fact, the manufacturing process did not begin until December each year; the memorandum of agreement was executed on 7 December 1943 and possession of the machinery was delivered to the purchaser on 10 December 1943. This chronology supports the view that the company’s activities after the sale were unrelated to the use of the machinery or plant.

The Court observed that no evidence showed the company had manufactured any sugar during the entire accounting year. Consequently, the finding that the company continued its business up to 7 December 1943 could not be taken to mean that the company was also engaged in growing sugarcane or in manufacturing sugar using the machinery or plant that was the subject of the dispute. The Court further noted a second factual finding that the company remained in business after the machinery and plant had been sold. This second finding demonstrated that the post-sale business activities were unrelated to the machinery or plant. Because each of these findings addressed different aspects of the company’s operations, the Court held that, taken together, they did not provide a decisive conclusion on the matter. Moreover, the Court found that the literal reading of those findings could not support the tribunal’s decision. The tribunal had held that “the sale of the machinery was a part of the applicant company’s carrying on of the business.” If that view were correct, the Court reasoned, the sale would be regarded as an ordinary business transaction, and any profit arising from such an ordinary transaction would be assessable under section 10(1) of the Act. In that circumstance, it would not be necessary to invoke the statutory fiction created by the second proviso to clause (vii), which deems the excess of sale proceeds over the written-down value to be profits of the business. The Court further explained that if, as the tribunal had done, the profit on the sale of the machinery and plant were to be assessed under the second proviso, it must be admitted that those deemed profits were not in reality profits of the business carried on by the company. Accordingly, the sale transaction that generated those profits could not be said to be part of the company’s business. That conclusion would clash with the factual finding unless the business were understood narrowly as limited solely to the sale of sugar. For these reasons, the Court concluded that the tribunal had misdirected itself in law regarding the scope and effect of the relevant provisions of section 10 of the Act, that it had not approached the facts correctly, and that its findings could not be given a degree of sanctity that would preclude review by the High Court or by this Court.

Turning to the record, the Court found it clear that the company’s intention was to discontinue its operations and that the sale of the machinery and plant was a step in the process of winding up the business. The Court emphasized that the sale was not an act carried out in furtherance of the company’s ordinary business but rather a realization of assets as part of a gradual winding-up that eventually led to the company’s voluntary liquidation. Even if the sale of the sugar stock were regarded as an instance of the company carrying on business rather than a mere asset realization, the machinery or plant had not been used at all during the accounting year and bore no connection with the limited business of selling sugar. Consequently, section 10(2)(vii) could not be applied to the sale of such machinery or plant. In light of this analysis, the Court answered the first question in the negative and allowed the appeal, directing the respondent to pay the costs of the appellants both in this Court and in the High Court.

In considering whether the sale of the sugar stock could be treated as an activity that continued the company’s business rather than as a mere realization of assets for the purpose of winding up, the Court observed that the machinery and plant involved had not been employed at any time during the relevant accounting year. Moreover, the Court noted that, even if the sale of the sugar stock were characterized as a continuation of the limited business, the machinery and plant themselves bore no connection to that business during the said accounting year. Consequently, the provisions of section 10 (2) (vii) of the Act could not be applied to the sale of such machinery or plant because the statutory conditions contemplated by that provision were not satisfied in the present circumstances.

Applying this reasoning, the Court concluded that the answer to the first question posed in the appeal must be negative. Accordingly, the Court allowed the appeal and ordered that the respondent should bear the costs incurred by the appellants in both the present proceedings and the earlier proceedings before the High Court. The decision was recorded as an allowance of the appeal. The agents appearing on behalf of the parties were identified as follows: the appellant was represented by B. N. Ghose, while the respondent was represented by G. H. Rajadhyaksha.