Commissioner of Income Tax, Madras vs S.V. Angidi Chettiar

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

Court: supreme-court

Case Number: Civil Appeals Nos. 6 to 8 of 1961

Decision Date: 09/01/1962

Coram: J.C. Shah, Bhuvneshwar P. Sinha, J.L. Kapur, M. Hidayatullah, J.R. Mudholkar

In the matter titled Commissioner of Income Tax, Madras … versus S.V. Angidi Chettiar, decided on 9 January 1962, the Supreme Court of India delivered its judgment. The opinion was authored by Justice J.C. Shah and was joined by Justices Bhuvneshwar P. Sinha, J.L. Kapur, M. Hidayatullah and J.R. Mudholkar. The petition was filed by the Commissioner of Income Tax for the Madras region together with another respondent, and the opposite side was represented by S.V. Angidi Chettiar. The judgment was pronounced on 9 January 1962. The bench consisted of Justice Shah, serving as the presiding judge, Chief Justice Bhuvneshwar P. Sinha, Justice J.L. Kapur, Justice M. Hidayatullah and Justice J.R. Mudholkar. The case was reported in the 1962 All India Reporter at page 970, and also appears in the 1962 Supplement to the Supreme Court Reporter at page 640. Subsequent citations include D 1966 SC 1295 (15), E 1968 SC 46 (7‑8), R 1969 SC 1352 (7) and R 1973 SC 22 (8). The statutory provisions in issue were sections 28 and 44 of the Indian Income‑Tax Act, 1922 (the eleventh Act of 1922), dealing respectively with penalty for concealed income and the power to impose such penalty on a registered firm after its dissolution. The factual background disclosed that a registered trading firm had concealed portions of its income while filing its income‑tax returns for the financial years 1947‑48, 1949‑50 and 1950‑51. On the basis of that concealment the Income‑Tax Officer assessed a penalty under clause 1 of section 28 of the 1922 Act. The firm contested the assessment by moving a writ of certiorari before the Madras High Court, contending that the officer lacked authority to levy the penalty because the firm had been dissolved by an agreement dated 13 April 1951 and, subsequently, by the death of one of its partners on 5 May 1953. The High Court entertained the petition, issued the writ and set aside the penalty order. The Supreme Court held that the principle articulated in C.A. Abrahams v. Income Officer (1961) 2 S.C.R. 765 applied equally to a registered firm as it did to an unregistered firm. The Court observed that there was nothing in section 44 of the Act, nor in the surrounding context, that excluded a registered firm from its operation. Further, the Court ruled that the penalty provisions contained in section 28 would, in cases of default described in clauses (a), (b) or (c), remain applicable during the assessment of a registered firm. Consequently, if a registered firm became liable to a penalty because it committed any of the defaults enumerated in those clauses, the assessment proceedings could lawfully continue against the firm even after its dissolution, treating the firm as though it had not been dissolved. The Court explained that the authority to impose a penalty under section 28 depended upon the satisfaction of the Income‑Tax Officer that the conditions specified in clauses (a), (b) or (c) existed, and that such satisfaction must be reached during the course of the assessment proceedings. The officer could not exercise the power to impose a penalty unless he was satisfied that the requisite conditions existed before the assessment concluded. However, the Court clarified that the officer was not required to commence the penalty proceedings before the completion of the assessment itself; the essential requirement was that the officer’s satisfaction be formed before the final conclusion of the assessment, not merely the issuance of a notice of intention to levy a penalty.

In this case, the Court noted that the authorities cited by the parties included the decision in Abraham v. Income Officer, Kottayam, reported in the 1961 volume of the Supreme Court Reports at page 765, the judgments in Mareddev Krishna Reddy v. Income‑tax Officer, Tenali (1957) 31 I.T.R. 678, and Khushiram Murarilal v. Commissioner of Income‑tax, Central, Calcutta (1954) 25 I.T.R. 572, all of which were affirmed as applicable. The matter before the Court arose from three civil appeals, numbered 6 to 8 of 1961, which sought to enforce certificates of fitness that the Madras High Court had granted in overturning orders made in writ petitions numbered 943 to 945 of 1955. The appellants were represented by counsel K. N. Rajagopala Sastri and P. D. Menon, while the respondents were represented by counsel V. S. Venkataram and K. P. Bhat. The judgment was delivered on 18 January 1962 by Justice Shah.

The appeals concerned the firm Messrs S. V. Veerappan Chettiar & Co., a partnership of four individuals that conducted the cloth trade in Virudhunagar under that name. The firm had been registered under Article 26A of the Indian Income‑tax Act, 1922, for the assessment years 1947‑48, 1949‑50 and 1950‑51. During the assessment proceedings, the Income‑tax Officer of Virudhunagar determined that the firm had concealed certain income details in its returns. Consequently, by an order dated 20 May 1954, the Officer levied penalties of Rs 20,000 for the year 1947‑48, Rs 10,000 for the year 1949‑50 and Rs 5,000 for the year 1950‑51. One partner of the firm challenged these penalty orders by filing a revision before the Commissioner of Income‑tax, Madras, but the revision was dismissed.

Subsequently, two partners of the firm instituted writ petitions under Article 226 of the Constitution in the Madras High Court, seeking the issuance of writs of certiorari or other appropriate writs to compel the production of the records relating to the May 20 1954 penalty orders and to set aside those orders. The petitioners contended that, by mutual agreement, the partnership had been dissolved on 13 April 1951 and that notice of this dissolution had been given to the Income‑tax Officer. They further argued that, in any event, the firm had effectively ceased to exist on 5 May 1953 when one partner died, and that under Section 28(1) the Income‑tax Officer was powerless to impose a penalty after the firm’s dissolution. The High Court accepted these arguments, directing that the penalty orders of 20 May 1954 and the Commissioner’s subsequent refusal to revise those orders be set aside in each of the petitions.

The Commissioner of Income‑tax, dissatisfied with the High Court’s decision, appealed to this Court. The appeal was heard together with a recent decision of the Court in C. A. Abraham, which furnished additional authority on the matters of penalty imposition and firm dissolution.

In the appeal of the Income‑tax Officer, Kottayam, the Court held that the officer possessed authority under section 28 of the Income‑tax Act to levy a penalty during the assessment of a firm even when, at the date of the order, the firm had been dissolved because one of its partners had died. While making this holding, the Court observed that section 44 of the Act establishes a mechanism for assessing the tax liability of a firm whose business has been discontinued, and that the term “assessment” used in the various provisions of Chapter IV does not refer only to the calculation of income. The Court explained that when section 44 declares that the partners or members of a firm are jointly and severally liable to assessment, the provision embraces both the liability to compute income under section 23 and the application of the procedural steps for declaring and imposing tax liability, together with the enforcement machinery attached to those steps. Counsel for the appellants argued, however, that the decision in C. A. Abraham concerned an unregistered firm and that its principle could not be applied to a registered firm. The Court rejected that argument, noting that section 44 makes the provisions of Chapter IV applicable, insofar as possible, to the assessment of any business, profession or vocation carried on by a firm that has been discontinued, and that the section expressly declares liability for all discontinued firms, not solely for unregistered ones. Nothing in section 44 or in its surrounding context indicated that it should be excluded from registered firms. Moreover, the Court pointed out that in C. A. Abraham the decision of the Andhra Pradesh High Court in Mareddy Krishna Reddy v. Income‑tax Officer, Tenali (1) had been approved; that case involved a registered firm that was dissolved before a penalty was imposed. Counsel further contended that, irrespective of the foregoing, no penalty under section 28 could be imposed on a registered firm either before or after dissolution, even where the defaults listed in clauses (a), (b) or (c) were proved, and that this result followed from the scheme of the Act under section 23(5) concerning the assessment of a registered firm’s tax liability. The Court noted that this contention had not been raised in the original petition, was absent from the High Court’s judgment, and did not appear in the statement of the case filed before this Court. Consequently, the Court deemed the plea inadmissible and, even assuming it were allowed, found it without merit. The Court then recited the relevant portion of section 28(1), which provides that if the Income‑tax Officer, in the course of any proceedings under the Act, is satisfied that any person has, without reasonable cause, failed to furnish a required return of total income, or has failed to comply with a notice, or has concealed or deliberately misrepresented income, the officer may direct that a penalty be imposed in addition to any tax payable, the amount of which may extend to one and a half times the tax that would otherwise have been avoided.

Section 28(1) of the Income‑Tax Act states that if an Income‑Tax Officer, in the course of any proceeding under the Act, is satisfied that a person has either (a) failed without reasonable cause to file a return of total income after being given notice under subsection (1) or subsection (2) of section 22 or under section 34, or has failed to file the return within the time and in the manner required by such notice; or (b) failed without reasonable cause to comply with a notice issued under subsection (4) of section 22 or subsection (2) of section 23; or (c) concealed the particulars of his income or deliberately furnished inaccurate particulars of such income, the Officer may direct that the person be liable to a penalty. In the case of clause (a), the penalty may be a sum not exceeding one and a half times the amount of income‑tax and super‑tax, if any, payable by the person, in addition to the tax itself. In the cases of clauses (b) and (c), the penalty may be a sum not exceeding one and a half times the amount of income‑tax and super‑tax, if any, that would have been avoided if the income returned by the person had been accepted as correct, again in addition to any tax payable. The Act defines “person” in section 2(a) as including a Hindu undivided family and a local authority, but that definition is not exhaustive. Under section 3(42) of the General Clauses Act, “person” also includes any company, association or body of individuals, whether incorporated or not. A partnership firm is plainly a body of individuals and therefore falls within the definition of “person”. Consequently, a firm can be subject to a penalty order in the circumstances described in clauses (a), (b) and (c) of section 28. The proviso (d) to section 28 further clarifies that the quantum of penalty applies both to registered and unregistered firms, thereby confirming that a firm, irrespective of its registration status, may be liable to pay a penalty.

Counsel for the appellant argued that, despite the inclusion of firms within the definition of “person” under the operative part of section 28 and its proviso, a drafting defect prevents the imposition of a penalty on a registered firm. The argument relies on the last clause of the first sub‑section, which provides that the penalty is imposed “in addition to any tax payable by him”. Counsel submitted that only the person who is liable to pay tax can be ordered to pay a penalty if found guilty of the wrongful conduct specified in clauses (a), (b) and (c). According to the counsel, the legislative scheme for imposing tax liability on registered firms under section 23(5) never makes tax payable by a registered firm. Therefore, a registered firm cannot be liable to pay tax, and consequently cannot be liable for a penalty that is conditioned on tax liability. Moreover, counsel contended that when the Legislature, by Act 40 of 1940, introduced clause (d) of the proviso, it merely quantified the possible penal liability of a registered firm but did not create an enforceable liability, because the substantive provision still required an underlying tax obligation, which a registered firm does not possess.

It was submitted that liability for a penalty could arise only when the firm possessed an enforceable obligation to pay tax, and that, as long as such an obligation had not been created by a proper amendment of section 23(5), any quantified penalty would remain unenforceable. The argument further identified two defects in the original wording of section 28(1). The first defect was that a penalty could be imposed only on a person who was already liable to pay income‑tax or super‑tax. The second defect was that the penalty was expressed as a multiple of the income‑tax and super‑tax, if any, which would have been avoided had the income declared by the person been accepted as correct. The introduction of clause (d) to the proviso was said to have removed the second defect, but not the first. To support this contention, counsel relied upon the language of section 23(5) as it stood before its amendment by section 14 of the Finance Act 1956. That clause provided that where the assessee was a firm and the total income of the firm had been assessed under sub‑section (1), sub‑section (3) or sub‑section (4), the sum payable by the firm would not be determined. Instead, the total income of each partner, including his share of the firm’s income, profits or gains of the previous year, would be assessed and the sum payable by each partner would be determined on that basis. Under this scheme the income of a registered firm was to be computed, but tax was not levied on the firm as a whole; the income was distributed according to the partnership agreement, added to the separate incomes of the partners, and tax was imposed on the partners individually. Relying on this method of tax assessment, counsel for the respondent argued that because the registered firm itself was not liable to pay tax, it could not be subjected to a penalty under section 28(1)(c).

The Court observed that the original enactment of section 28 was somewhat obscure. The penalty that could be imposed in the situations mentioned in clauses (b) and (c) was limited to a sum not exceeding one and a half times the amount of tax that would have been avoided if the income as returned by the person had been accepted as correct. However, the Legislature did not clarify whether this penalty related to tax avoided by the individual partners of the firm or by the firm on the footing that it was to be treated as an unregistered entity. Because section 23(5) made income‑tax payable not by the firm but by the individual partners of a registered firm, the legislative intention regarding the basis of the penalty was not clearly expressed. To rectify this defect, the Legislature introduced an artificial basis for computing the penalty payable by a registered firm, providing that

In the situations described in clauses (b) and (c), the statutes specify that the amount of income‑tax and super‑tax which would have been avoided, had the income as reported been accepted as correct, must be measured as the difference between the tax that would have been payable by an unregistered firm on income equal to the firm’s total income and the tax actually payable. The law relating to the imposition of a penalty liability on registered firms, however, is expressed in clear terms. The Court rejected the notion that the phrase “any tax” in section 28(1) is intended to mean that a taxpayer must first be liable to pay some tax before a penalty can be imposed. This assumption is untenable, a point demonstrated by the wording of clause (b), which allows a penalty to be levied for failure to obey a notice under sub‑section (4) of section 22 or sub‑section (2) of section 23 even where the assessee has no assessable income. Consequently, the requirement that the person against whom the penalty is sought must first be liable to pay tax is not a condition precedent. The Calcutta High Court, in Khushiram Murarilal v. Commissioner of Income‑tax, Central Calcutta, was asked to consider the submission raised in the present matter. The issue before that Court was whether a penalty could lawfully be imposed on a registered firm under section 28(1)(b) of the Income Tax Act. The firm argued that because section 28(1)(b) permits a person to be made liable to pay a penalty, in addition to any income‑tax and super‑tax that may be payable, no penalty order could be issued against a registered firm, since under the Act no tax is payable by the firm itself. Chief Justice Chakravartti, delivering the judgment of the Court, observed that “even when construed by its own language the concluding paragraph of section 28(1) cannot be said to make it a condition precedent that a person must be liable to pay some income‑tax or it may be also super‑tax if he is to be made liable for a penalty. Clause (b) of the proviso to my mind emphasizes that meaning of the concluding paragraph of Section 28(1) and rests on an assumption that under that provision a person may be chargeable to penalty although he may not be chargeable to tax.” The learned Chief Justice further remarked that “it was not really necessary for clause (d) of the proviso to enact specifically that a registered firm would be liable to pay a penalty despite the fact that it could not be charged and was not, in fact, charged to income‑tax or super‑tax. The whole argument of Dr. Sen Gupta was that the concluding paragraph of Section 28(1) had left a gap which”.

The Court observed that clause (d) of the proviso had attempted to fill the gap left by the concluding paragraph of section 28(1), but that attempt had not succeeded. It held that the only gap in the concluding paragraph of section 28(1) was the absence of a rule fixing the amount of penalty that could be imposed on a registered firm, because the quantum of penalty depended on the amount of income‑tax payable. The Court agreed with the earlier observation that the learned Chief Justice had correctly stated the law. Under section 23(5) of the Indian Income‑tax Act, as it stood before its amendment in 1956, the tax payable by a registered firm itself did not have to be computed; instead, the total income of each partner, including his share of the firm’s income, profits and gains for the previous year, had to be assessed and the tax liability of each partner determined on that basis. This procedure was merely a method of collecting tax due from the firm. Consequently, the penalty provisions in section 28 would apply, in the event of a default covered by clauses (a), (b) or (c), during the assessment of a registered firm. If a registered firm became liable to pay a penalty for committing any of the defaults mentioned in clauses (a), (b) or (c) under section 44, the assessment proceedings would continue against the firm even after its dissolution, as if the firm had not been dissolved. Counsel argued that, regardless of the above, no penalty for the assessment year 1949‑50 could be imposed on the assessee firm because there was no evidence that the Income‑tax Officer had been satisfied, during any assessment proceeding under the Act, that the firm had concealed its income or had deliberately furnished inaccurate income particulars. The power to impose a penalty under section 28 depends on the Income‑tax Officer’s satisfaction during the proceedings under the Act; it cannot be exercised if the officer is not satisfied that the conditions specified in clauses (a), (b) or (c) exist before the proceedings conclude. Although the initiation of penalty proceedings does not have to await the completion of the assessment, the officer’s satisfaction before the conclusion of the assessment is a prerequisite for exercising the jurisdiction, not merely the issuance of a notice to start the penalty process. The record contained no evidence that the Income‑tax Officer was unsatisfied that the firm had concealed its income. The assessment order, dated 10 November 1951, bore an endorsement at its foot by the Income‑tax Officer indicating that action under section 28 had been taken for concealment of income, thereby showing that the officer was indeed satisfied in the course of the assessment.

The Court observed that the Income‑tax Officer had, during the course of the assessment proceedings, become duly satisfied that the firm had concealed its income. In its assessment of the matter, the Court concluded that the earlier decision of the High Court was erroneous because the High Court had held that a penalty could not be imposed under section 28(1)(c) upon the firm identified as Messrs S V Veerappan Chettiar & Co. after that firm had been dissolved. The Court therefore found that the legal position required a reversal of the High Court’s view and that the statutory provision could indeed be invoked despite the dissolution of the firm. Accordingly, the Court allowed the appeals that had been brought before it, set aside the orders that had been passed by the High Court, and dismissed the petitions that had been filed by the respondents. In addition, the Court ordered that the respondents should bear the costs of the proceedings in both this Court and the High Court. The Court further directed that a single hearing fee be payable as part of the costs. In summary, the appeals were allowed, the High Court’s orders were vacated, the respondents’ petitions were dismissed, and the appropriate costs and fee were imposed.