Messrs Chatturam Horilram Ltd vs Commissioner Of Income Tax, Bihar and Orissa

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

Court: Supreme Court of India

Case Number: Civil Appeal No. 38 of 1954

Decision Date: 18 April 1955

Coram: B. Jagannadhadas, Vivian Bose, Bhuvneshwar P. Sinha

The Court recorded that the petition was brought by Messrs Chatturam Horilram Ltd. against the Commissioner of Income Tax for the provinces of Bihar and Orissa. The judgment was rendered on the eighteenth day of April, 1955, by a bench consisting of Justice B. Jagannadhadas, Justice Vivian Bose and Justice Bhuvneshwar P. Sinha. The citation of the decision appeared as 1955 AIR 619 and also as 1955 SCR (2) 290. The case involved the provisions of the Indian Income‑Tax Act, 1922, specifically section 34, which authorised the issuance of a fresh notice of assessment. The factual background disclosed that the appellant had been assessed to income tax; this assessment had subsequently been reduced on appeal, but the Income‑Tax Appellate Tribunal set it aside on the ground that the Indian Finance Act of 1939 had not been in force during the assessment year in the Chota Nagpur region. The Tribunal referred the matter to the High Court, which confirmed the setting aside of the earlier assessment. Subsequently, the Governor of Bihar promulgated Bihar Regulation IV of 1942, which, with the assent of the Governor‑General, gave retrospective force to the Indian Finance Act of 1939 in Chota Nagpur as of the thirtieth day of March, 1939. On the eighth day of February, 1944, the Income‑Tax Officer issued an order under which a fresh notice was served to the appellant pursuant to section 34, leading to a new assessment of income tax against the company. The principal question for determination was whether this notice issued under section 34 was valid. The Court held that, for the purposes of section 34, the income, profits or gains that the authorities sought to assess were indeed chargeable to income tax according to the scheme of the Act and the provisions of sections 3 and 4. The Court further concluded that the situation qualified as “chargeable income escaping assessment” within the meaning of section 34, rather than a mere failure to assess income tax, because earlier assessment proceedings had been initiated but failed to produce a valid assessment due to a gap that was not attributable to the assessing authorities. In reaching this conclusion, the Court referred to several precedents, including C.I.T., Bombay v. Sir Mahomed Yusuf Ismail (1944 12 I.T.R. 8), Fazal Dhala v. C.I.T., Bengal & Odisha (1944 12 I.T.R. 341), Baghavalu Naidu & Sons v. C.I.T., Madras (1945 13 I.T.R. 194), Raja Benoy Kumar Sahas Boy v. C.I.T., West Bengal (1953 24 I.T.R. 70), Chatturam v. C.I.T., Bihar (1947 F.C.R. 116), Whitney v. Commissioners of Inland Revenue (1926 A.C. 37), C.I.T., Bombay & Aden v. Khemchand Ramdas (1938 6 I.T.R. 414 at 428), Sir Rajendranath Mukherjee v. C.I.T., Bengal (1934 2 I.T.R. 71), Madan Mohan Lal v. C.I.T., Punjab (1935 3 I.T.R. 438), C.I.T., Bombay v. Pirojbai N. Contractor (1937 5 I.T.R. 338), Kunwar‑Bishwanath Singh v. C.I.T., Central Provinces (1942 10 I.T.R. 322), Raja Bahadur Kamakshya Narain Singh v. C.I.T., Bengal & Odisha (1946 14 I.T.R. 683) and Chatturam v. C.I.T., Bengal & Odisha (1946 14 I.T.R. 695). The Court’s determination affirmed the validity of the fresh notice issued under section 34, thereby upholding the subsequent assessment.

The Court referred to several earlier decisions, namely C.I.T., Bombay v. Pirojbai N. Contractor (1937 5 I.T.R. 338), Kunwar Bishwanath Singh v. C.I.T., C.P. (1942 10 I.T.R. 322), Raja Bahadur Kamakshya Narain Singh v. C.I.T., B.& O. (1946 14 I.T.R. 683) and Chatturam v. C.I.T., B.& O. (1946 14 I.T.R. 695). The matter before the Court was a civil appeal, identified as Civil Appeal No. 38 of 1954, which arose from the judgment and decree dated 14 March 1951 rendered by the High Court of Judicature at Patna in M.J.C. No. 230 of 1949. For the appellant, the State of Bihar was represented by the Advocate‑General, assisted by counsel, while the respondent was represented by the Solicitor‑General for India together with his counsel. The judgment was delivered on 18 April 1955 by Justice Jagannadhadas. This appeal was filed by the assessee, Chatturam Horilram Ltd., after the Court granted leave under section 66‑A of the Indian Income‑Tax Act. The appellant is a private limited company engaged in the export of mica from the Chota Nagpur region to foreign markets. The assessment under dispute pertained to the income year 1939‑40, with the relevant accounting year being the calendar year 1938, and the proceedings were initiated by a notice issued under section 34 of the Indian Income‑Tax Act, 1922 (Act XI of 1922). The sole question for determination was whether section 34 was applicable to the facts of this case. The notice under section 34 had been issued because the appellant had earlier been assessed to tax on an income of Rs 1,09,200 for the same year 1939‑40 by an order dated 22 December 1939. That assessment had subsequently been reduced on appeal by Rs 31,315. However, the Income‑Tax Appellate Tribunal set aside the assessment on 28 March 1942, holding that the Indian Finance Act of 1939 was not in force during the assessment year 1939‑40 in the partially excluded area of Chota Nagpur. The Tribunal’s decision was referred to the High Court of Patna at the request of the income‑tax authorities, and the High Court affirmed the Tribunal’s view on 30 September 1943, confirming the setting aside of the assessment. In the interim, the Governor of Bihar issued Bihar Regulation IV of 1942, which received the Governor‑General’s assent on 30 June 1942. By virtue of this Regulation, the Indian Finance Act of 1939, together with other Finance Acts not presently relevant, was deemed to have come into force in Chota Nagpur retrospectively from 30 March 1939. The Regulation expressly stated: “The Indian Finance Act, 1939, shall be deemed to have come into force in the area to which this Regulation extends on the 30th day of March, 1939.” Subsequently, on 8 February 1944, the Income‑Tax Officer issued an order, the contents of which were pertinent to the continuation of the present proceedings.

In this case the Income‑tax Officer issued an order on 8 February 1944 stating that, because of a recent judgment of the High Court, the assessment made under section 23(3) was cancelled and, consequently, the notice that had been issued earlier under section 34 was deemed ineffective and was withdrawn. The order further recorded that the assessee derived its income from mica mining and dealing, money‑lending, mining rents and non‑agricultural zamindari sources, and that none of this income had been assessed at all. Accordingly, the officer directed that a fresh notice be issued under section 22(2) read with section 34, requiring the assessee to file a return of income in the prescribed form and within the prescribed time, and he informed the assessee that the original section‑34 notice had been cancelled.

It may be mentioned in passing that the section 34 notice referred to as ineffective was a prior notice dated 8 July 1941, which had been issued while the appellant’s appeal against an earlier assessment was pending before the Income‑tax Appellate Tribunal. The record does not clearly explain the circumstances under which that earlier notice was served, but it appears probable that it related to certain cash‑credit entries in the accounts amounting to four lakhs, which later proceedings treated as concealed income because the assessee failed to provide any satisfactory explanation. Because that earlier notice had been withdrawn, it had no bearing on the question now before this appeal and neither party relied upon it.

Pursuant to the order of 8 February 1944, a fresh notice under section 34 of the Act was served on the appellant on 12 February 1944. The assessment based on that notice fixed the appellant’s income at Rs 4,86,351. When the matter was appealed to the Assistant Commissioner, the assessed amount was reduced by Rs 11,187. Of the balance, Rs 4,04,618 related to two cash‑credit items appearing in the names of the partners of the company; in the absence of any satisfactory explanation, the tax authorities treated those amounts as secreted profits of the company.

Before the Income‑tax Appellate Tribunal the appellant raised two issues. First, whether the notice dated 12 February 1944 issued under section 34 was validly issued. Second, whether the tax authorities were correct in holding that the cash‑credit items were secret profits. The Tribunal decided against the appellant on both points. The appellant then applied to the Tribunal for a reference of both issues to the High Court. The Tribunal declined to refer the second issue, but agreed to refer the first, framing it as follows: “Whether in the circumstances of the case the notice issued on 12‑2‑1944 under section 34 of the Indian Income‑tax Act was validly issued for the assessment year 1939‑40?” The High Court answered this question against the appellant, and the present appeal arose from that decision. The appellant later attempted to reopen the second issue before the High Court, but the judges refused because the Tribunal had not referred that issue. Consequently, the present appeal is limited to the validity of the notice dated 12 February 1944 issued under section 34 of the Act.

In this appeal the Court considered only the issue of whether the notice dated 12 February 1944, issued under section 34 of the Income‑Tax Act, was valid. The Court explained that the earlier attempt by the appellant to raise the question of secret profits before the High Court had been rejected, because the Tribunal had not referred that question to the High Court. Consequently the present appeal was limited to reviewing the legality of the notice. The Court observed that if the notice were held to be invalid, the assessee would obtain relief for the whole sum claimed by the tax authorities, including the amount described as secret profits. To decide the matter, the Court stated that a proper understanding of the requirements laid down in section 34 of the Act was necessary. The Court then set out the legislative history of section 34, noting that the provision originally contained in the 1922 Act had been amended by Act VII of 1939 and later by Act XLVIII of 1948. For the assessment year 1939‑40 the version in force was the one amended by Act VII of 1939, that is, section 34(1) as it stood before the 1948 amendment. The Court reproduced the text of that provision, which authorised an Income‑Tax Officer, upon receiving definite information, to serve a notice on a taxpayer when income, profit or gain chargeable to tax had escaped assessment, been under‑assessed, taxed at a lower rate, or benefited from excessive relief. The provision further allowed the Officer, if he believed the taxpayer had concealed or mis‑stated his income, to issue the notice within eight years of the end of the year concerned; otherwise the notice could be issued within four years. The Court clarified that, after omitting the portions of the provision that did not apply to the present facts, the two essential conditions for a valid notice were: first, the income, profit or gain in question must be taxable and must have escaped assessment in some year; second, the Officer must have discovered the omission as a result of definite information that came into his possession. The appellant’s counsel argued that, based on the facts of this case, neither of those conditions was satisfied. The counsel maintained that the income sought to be assessed was not, as a matter of fact, taxable for the year 1939‑40, and therefore the notice could not be said to meet the statutory requirements.

It was argued that the income which formed the subject of the present proceedings had not, as a matter of fact, been chargeable to income‑tax for the assessment year 1939‑40. Accordingly, the argument held that there could be no issue of the income having escaped assessment because, in reality, the tax authorities had indeed proceeded to assess that income. The contention further stated that the only reason the assessment did not result in a final tax liability was that the High Court had subsequently declared the proceedings to be void, rendering them ineffective. In addition, the rival submission maintained that there was no question of any discovery of a relevant fact or information, since the failure to assess the assessee’s income for the year in dispute occurred despite the fact that all information relating to that income had already been furnished to, and was possessed by, the Income‑tax Officer, as demonstrated by the Officer’s order dated 22 December 1939. The Court found it appropriate to address this particular objection first. It acknowledged that it might indeed be true that the complete set of information concerning the income now sought to be taxed was already in the possession of the Income‑tax Officer in 1939 when the return had been filed in compliance with the notice issued under section 22(2) of the Act. However, the Court observed that the requirement of section 34(1) was not satisfied merely by possessing fresh information about the income that had allegedly escaped assessment; rather, section 34(1) demanded information establishing that the chargeable income had actually escaped assessment. In the facts of this case, the tax authorities had initiated the assessment of the appellant in the ordinary manner for the assessment year 1939‑40. Those assessment proceedings later became ineffective because the Income‑tax Appellate Tribunal, and subsequently the High Court, held that the Indian Finance Act of 1939 did not apply in the relevant territory during the pertinent period, and consequently no valid assessment could be made. Therefore, the situation in which the appellant’s income for that year remained without any valid assessment only became apparent when the High Court finally pronounced the earlier assessment proceedings invalid. In light of these circumstances, the question of whether there had been an “escapement of chargeable income from assessment” required determination. The Court concluded that such escapement could be said to have been discovered by the Income‑tax Officer only after he obtained definitive information concerning two matters: first, the promulgation of Bihar Regulation IV of 1942, which applied the Indian Finance Act of 1939 retrospectively to the relevant accounting period; and second, the High Court’s judgment that the prior assessment proceedings were invalid. Only the combined knowledge of these two facts, as received after the High Court’s decision on 30 September 1943, satisfied the requirement of discovery of a relevant fact based on definite information as contemplated by section 34(1).

The Court observed that the notice issued under section 34(1) was issued on the basis of an order dated 8 February 1944, an order that was prepared after the High Court judgment had been delivered. The order, which had been reproduced earlier in the judgment, demonstrated explicitly that the fresh proceedings under section 34(1) were undertaken because the High Court’s decision, together with the earlier promulgation of Regulation IV of 1942, created a new factual basis for action. The Court noted that a series of earlier decisions—namely C.I.T. Bombay v. Sir Mahomed Yusuf Ismail, Fazal Dhala v. C.I.T., B.& O., Raghavalu Naidu & Sons v. C.I.T. (Madras), and Raja Benoy Kumar Sahas Roy v. C.I.T. (West Bengal)—had been cited to illustrate how various High Courts have interpreted the expressions “definite information” and “discovery” within section 34(1). The Court further explained that it was unnecessary to examine those authorities in detail because no new subjective facts were at issue; there was no alteration of opinion by the same, another, or a senior officer that could be said to generate “definite information” or “discovery”. Instead, the Court held that the promulgation of Regulation IV and the High Court’s decision were objective facts that became known to the Income‑Tax Officer only when he issued the order on 8 February 1944. Consequently, the Officer could be said to have discovered that chargeable income had escaped assessment for the year in question only upon acquiring that knowledge.

The principal issue, the Court said, was whether it could be established that income chargeable to tax had indeed escaped assessment in the relevant financial year. Counsel for the appellant argued that during the year 1939‑40 the income was not liable to tax as a matter of fact, and that the subsequent retrospective operation of the Finance Act should not alter that position. To resolve this contention, the Court stressed the necessity of understanding the structure of the Income‑Tax Act and its relationship to the Finance Act of each year. The Income‑Tax Act, the Court explained, is a permanent statute that provides the complete framework for levying income tax, while each annual Finance Act imposes the specific monetary liability for that year, calculated according to the mechanisms set out in the standing legislation. Referring to the Federal Court’s observation in Chatturam v. C.I.T., Bihar, and quoting Lord Dunedin in Whitney v. Commissioners of Inland Revenue, the Court outlined the three stages of tax imposition: first, the declaration of liability, which defines who is liable in respect of what property; second, the assessment, which specifies the exact amount due; and third, the methods of recovery when the liable person does not pay voluntarily. This conceptual framework guided the Court’s analysis of whether the income in question had escaped assessment.

In the judgment, the Court explained that the law regarding the imposition of a tax proceeded through three distinct stages. First, a statutory provision identified which persons and what property were liable to tax; this was described in the decision of the Federal Court in Chatturam v. C.I.T., Bihar, which quoted Lord Dunedin in Whitney v. Commissioners of Inland Revenue as stating that “the part of the statute which determines what persons in respect of what property are liable.” Second, the assessment stage occurred, although liability itself did not depend on assessment because the liability was already fixed in principle; assessment merely specified the exact amount that the liable person had to pay. Third, the law provided methods of recovery for cases where the taxed person failed to pay voluntarily. A similar principle was expressed in slightly different language by Lord Romer in the Privy Council judgment reported in C.I.T., Bombay & Aden v. Khemchand Ramdas (1). The Court then turned to the structure of the Income‑tax Act. Chapter III, titled “Taxable Income,” contained the provisions by which taxable income was determined. The tax itself was leviable under section 3 and related to the total income of an assessee for the previous year. The definition of total income appeared in section 2, sub‑section (15). The application of the Act to that total income was governed by sections 4, 4‑A and 4‑B, which dealt with concepts of residence, receipt and accrual. Section 3, which created the actual charge of income‑tax, read: “Where any Central Act enacts that income‑tax shall be charged for any year at any rate or rates, tax at that rate or those rates shall be charged for that year in accordance with, and subject to the provisions of, this Act in respect of the total income of the previous year of every individual, Hindu undivided family, company and local authority, and of every firm and other association of persons or the partners of the firm or the members of the association individually.” By virtue of this provision, the levy of tax and the rates at which it was to be computed were determined each year by the annual Finance Acts. Consequently, under the scheme of the Income‑tax Act, an assessee’s income acquired the quality of being taxable by reference to the standing provisions of the Act, whereas the actual payability and quantification of tax depended on the passage and application of the yearly Finance Act. Thus, income was chargeable to tax independent of the Finance Act, but until the Finance Act was enacted no tax could actually be levied. A comparison of sections 3 and 6 of the Act illustrated that the legislature recognised a distinction between chargeability and the operative effect of the charge. Section 6 stipulated, “save as otherwise provided by this Act, the following heads of income, profits and gains, shall be chargeable to income‑tax in the manner hereinafter appearing, etc.” while section 3, as quoted above, provided that “where any Central Act enacts that income‑tax shall be charged for any year at any rate or rates, tax at that rate or those rates shall be charged for that year, etc.”

The Court observed that although sections 3 and 4 of the Income‑Tax Act were identified as the charging provisions, as noted in Chatturam v. C.I.T., Bihar (1) at page 125, the language of section 3 presupposed the existence of income that was already chargeable, a condition described in section 6. Consequently, under the statutory scheme, the attribute of chargeability attached to any income did not depend on the enactment of a Finance Act. Applying this principle, the Court held that even though, as a matter of fact, the Finance Act had not been extended to the territory concerned for the fiscal year 1939‑40, and therefore there was no legal authority at that time to compute the tax or impose the corresponding liability, the assessee’s income for that year remained chargeable to tax in the sense explained earlier. The Court further noted that Regulation IV of 1942 retrospectively brought the Finance Act of 1939 into operation for the area in question, thereby creating the factual circumstance that the tax was chargeable for that year. The Regulation declared that “the Indian Finance Act of 1939 shall be deemed to have come into force in the area to which this Regulation extends on the 30th day of March, 1939.” By operation of this deeming clause, the Finance Act of 1939 was to be regarded as having been in force from the specified date, and the tax was deemed chargeable in that year, although actual liability could not arise until proper steps for quantification of the tax were taken, as noted in (1) [1947] F.C.R. 116. Accordingly, the Court rejected the appellant’s contention that the income was not chargeable to tax for the year 1939‑40.

The Court then turned to the question of whether the income, although chargeable to tax in that year, could be said to have escaped assessment. Counsel for the appellant argued that assessment proceedings had indeed been initiated during 1939‑40, evidenced by an assessment order dated 22 December 1939, and therefore the income could not be said to have “escaped” assessment. He contended that the subsequent nullification of the assessment by the Income‑Tax Appellate Tribunal, subsequently affirmed by the High Court, merely represented a failure of the assessment process rather than an escapement from assessment. To support this view, he relied on the Privy Council decision in Sir Rajendranath Mukherjee v. C.I.P., Bengal (1), wherein the Lords observed that the phrase “has escaped assessment” should not be interpreted as synonymous with “has not been assessed,” warning that such an interpretation would unduly narrow the meaning of “assessment” and overly broaden the meaning of “escaped.” The Court noted these submissions as part of the appellant’s argument.

The respondent referred to several decisions of various High Courts, namely Madan Mohan Lal v. C.I.T., Punjab (1); C.I.T., Bombay v. Pirojbai N. Contractor (3); and Kunwar Bishwanath Singh v. C.I.T., C.P. (4), which had interpreted the Privy Council judgment and indicated that the passage relied upon in that judgment was specific to the facts of that case, where the initial assessment proceedings were still pending. Although the Privy Council case was therefore distinguishable, the appellant’s argument that “escapement from assessment” should not be equated with a simple non‑assessment possessed some merit. The Court found it unnecessary to precisely define “escapement from assessment”. For the purposes of the present case, it was sufficient to state that when assessment proceedings had indeed been initiated but did not result in a valid assessment because of a defect not attributable to the assessing authorities, the income remained chargeable and could be described as having escaped assessment rather than merely being unassessed. In the present matter, the assessment proceedings failed to produce a valid assessment owing to a legal lacuna: the Indian Finance Act of 1939 had not been extended to the relevant area for the assessment year in question. The appellant’s counsel suggested that the failure of the assessment was due to a lapse on the part of the income‑tax authorities. He further argued that, since Regulation IV of 1942 was enacted while the High Court reference was pending, the outcome might have been different had the Regulation been brought before the High Court. The Court observed that the High Court’s jurisdiction was confined to the specific question referred by the Income‑tax Appellate Tribunal, and it was unlikely that the Court could have considered subsequent legislation and answered a different issue. The appellant also contended that the deeming provision in Regulation IV of 1942 could be taken to validate the earlier assessment made in 1939 and to restore the order dated 22 December 1939, which had been confirmed by the Assistant Commissioner. However, this view overlooked the fact that the assessment order had been set aside by the Income‑tax Appellate Tribunal and that this setting aside was affirmed by the High Court on the reference made to it.

The Court observed that Regulation IV of 1942 was promulgated after the decision of the Income‑Tax Appellate Tribunal. Although the Regulation purported to operate retrospectively, the Court held that it could not erase the effect of that Tribunal decision, nor the subsequent affirmation by the High Court on reference, unless the Regulation contained clear and express words to that effect. The Court further explained that the situation would have been different if, at the time the Regulation was issued, the assessment proceedings themselves were still pending. In fact, for the assessment year 1940‑41, a number of assessment proceedings in the same locality remained outstanding on the date the Regulation came into force and were continued until their eventual termination. Those later assessments were contested by the assessees, but both the High Court and the Federal Court upheld their validity when the challenges were brought before them. The Court referred to the authorities Raja Bahadur Kamakshya Narain Singh v. C.I.T., B.& O., Chatturam v. C.I.T., B.& O., and Chatturam v. C.I.T., Bihar in support of this point. Consequently, the Court concluded that the income of the assessee that was chargeable to income‑tax for the year 1939‑40 had escaped assessment, and therefore the High Court was correct in answering the question referred to it. In view of this reasoning, the appeal was dismissed with costs. (1) (1946) 14 I.T.R. (2) (1946) 14 I.T.R. 695. (a) 1947 F.C.R. 116 at 126.