The National Steel Works Ltd vs Commissioner Of Income-Tax, Bombay

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

Court: Supreme Court of India

Case Number: Civil Appeal No. 544 of 1961

Decision Date: 3 May 1962

Coram: Raghubar Dayal, S.K. Das, J.L. Kapur, A.K. Sarkar, M. Hidayatullah

The case titled The National Steel Works Ltd versus Commissioner of Income‑Tax, Bombay was decided on 3 May 1962 by the Supreme Court of India. The judgment was authored by Justice Raghubar Dayal, who sat with Justices S K Das, J L Kapur, A K Sarkar, and M Hidayatullah. The petitioner in the matter was The National Steel Works Ltd, and the respondent was the Commissioner of Income‑Tax, Bombay. The decision bears the citation 1966 AIR 1356 and 1963 SCR (2) 937. The operative provision of law concerned the application of section 66A (2) of the Indian Income‑Tax Act, 1922 (Eleventh of 1922) to an agreement whereby a quota‑holder supplied steel to a manufacturer for a specified royalty per ton, and subsequently received a lump‑sum payment in lieu of that royalty. The central issue was whether the lump‑sum receipt should be treated as a capital receipt or a revenue receipt for income‑tax purposes. The headnote summarised that the assessee company, which held a government‑granted quota of coal and steel but possessed no manufacturing plant, entered into a partnership with a person who owned a factory but lacked any quota. Under the original arrangement the partner agreed to pay a royalty of Rs 50 for each ton of steel supplied under the quota. Several years later the parties altered the agreement so that the assessee would forgo the royalty in exchange for a lump‑sum payment of Rs 60,000.

When the assessment officer of the income‑tax department taxed the Rs 60,000 lump‑sum receipt as ordinary income, the matter was appealed before the Bombay High Court. The High Court held that the amount represented a revenue receipt and therefore fell within the charge of income‑tax. The petitioner appealed this decision to the Supreme Court. On appeal, the Supreme Court examined the nature of the Rs 60,000 payment and concluded that it amounted to capitalised profits earned by the assessee on the transfer or sale of steel it had acquired under the authority of its government‑issued quota. The Court observed that the steel was purchased in the name of the assessee, which then delivered the material to the partnership. Consequently, the Rs 60,000 reflected the capitalised value of the profit that the assessee would have realized by supplying the entire quantity of steel under the quota at the net price, rather than being a payment for the transfer of any right in the quota itself. The Court rejected the description of the sum as goodwill arising from the waiver of a royalty, noting that no goodwill could be said to arise from such a waiver. The decision was rendered in Civil Appeal No 544 of 1961, arising from the judgment and order dated 1 July 1959 of the Bombay High Court in Income‑Tax Reference No 58 of 1958. Counsel for the appellant included C B Agarwala and A D Mathur, while the respondent was represented by K N Rajagopala Sastri and D Gupta. The judgment was delivered by Justice Raghubar Dayal, and the appeal was taken under section 66A (2) of the Indian Income‑Tax Act.

The assessee, a limited liability company, had been engaged in the business of a rolling mill before the partition of the country when its operations were situated in the territory that became Pakistan. At that time it was a member of the Steel Rolling Mills Association of India and, by virtue of that membership, it received a quota of coal and steel allocated by the Government of India. After the Partition the company shifted its registered office to Bombay, although it did not possess any factory at that location for carrying on a rolling‑mill operation. Despite the possibility that it was no longer entitled to the quota, the company continued its membership of the Steel Rolling Mills Association of India and nonetheless kept receiving the allotted quota of coal and steel. To make use of the coal and steel it obtained, the company entered into a partnership with a person named K. P. Irani, who owned a factory in Bombay called New Era Iron & Steel Works but who himself did not have any quota of steel or coal. The partnership agreement, dated 29 September 1948, stipulated that the partnership would endure so long as the quota system for steel remained in force in the Dominion of India, or until the lease of the factory premises expired, and that the capital of the firm would be subscribed by the partners in equal shares. Paragraph 12 of that agreement provided that, as consideration for the company admitting Mr. Irani as a partner, the partnership would pay the company a sum of fifty rupees per ton for all steel received by the partnership from the company, whether the steel was obtained through the Steel Rolling Mills Association of India, Calcutta, or the Iron and Steel Controller, Calcutta. This amount was to be calculated each month after deducting all other expenses incidental to the partnership’s business, and the net profit, after providing for outgoings and any interest on current loans, would be distributed to the partners in equal shares. Paragraph 13 required that all quota of steel and coal that the company might receive from the Iron & Steel Controller, the Government of India, the Provincial Iron & Steel Controller, Bombay, or the Steel Rolling Mills Association of India, or any similar body operating under the quota system, be employed solely for the business of the partnership, with the partnership bearing the cost of such use. In 1954 the assessee and Mr. Irani executed a further agreement in which the terms of the original September 1948 agreement were modified. The amendment to clause 12 was set out, stating that the royalty fixed at fifty rupees per ton would be reduced in the manner subsequently described.

In the amendment to clause twelve of the partnership agreement, the parties agreed that from the first day of October 1953 the royalty payable would be reduced. The royalty was fixed at twenty‑five rupees per ton for all rollable material received up to thirty‑June‑1954, except for semi‑finished and perfect billets, on which the royalty would be ten rupees per ton for the same period. The agreement further provided that the cess charges payable to the Steel Re‑Rolling Mills Association of India, Calcutta, would continue to be paid by the partnership for as long as the partnership existed. Moreover, Mr K R Irani consented to pay a lump sum of sixty thousand rupees as goodwill in consideration for the waiver of royalty on the quota of re‑rollable scrap materials received after thirty‑May‑1954. The same clause stipulated that the amount of sixty thousand rupees would be debited to Mr Irani’s capital account in the partnership books and would bear interest at six per cent per annum from the first of July 1954. It was further agreed that no royalty would be charged on any kind of rollable material received by the company from the partnership after thirty‑June‑1954. Finally, the partnership undertook to pay the company a monthly office allowance of five hundred rupees commencing on the first of October 1953 and continuing for as long as the partnership persisted.

The income‑tax officer, in assessing the assessee’s tax liability, treated the sixty thousand rupees referred to in sub‑clause (d) of the amended paragraph twelve as taxable income. The assessee’s appeal to the Appellate Assistant Commissioner was dismissed, as was a subsequent appeal to the Income‑Tax Appellate Tribunal. The tribunal then submitted the question to the High Court, seeking a determination of whether the sum of sixty thousand rupees received by the assessee company from Mr Irani constituted a revenue receipt liable to income tax. The High Court held that the amount was indeed a revenue receipt and therefore taxable. The present appeal challenges that decision, contending that the lump‑sum payment represented a capital receipt because it was paid in consideration of the partnership acquiring the rights under the quota held by the assessee company. The Court rejected that contention. It observed that the facts disclosed in the statement of the case showed that the sum reflected capitalised profits earned by the assessee company from selling steel procured under its quota authority. The company purchased the steel in its own name and supplied it to the partnership at cost, and under the original 1948 agreement the partnership was required to pay fifty rupees per ton for all steel received. Consequently, the fifty‑rupee per ton charge represented the profit earned by the company on each ton supplied to the partnership. The amended agreement eliminated the per‑ton profit after thirty‑June‑1954 and replaced it with a single lump‑sum payment of sixty thousand rupees, which, in the Court’s view, amounted to a capitalised value of the profit that the company would have otherwise earned. Because no right to the quota itself was transferred to Mr Irani or the partnership, the payment could not be characterised as consideration for a transfer of quota rights. The description of the sum as “goodwill” in exchange for waiving royalty was deemed a mere label lacking substantive meaning, and the Court concluded that there was no goodwill involved in the waiver of royalty. Accordingly, the Court affirmed the High Court’s finding that the sixty thousand rupees constituted a revenue receipt subject to income tax.

In the amended agreement that was entered into by the parties, it was expressly stipulated that after the date of 30 June 1954 no further per‑ton payment would be required to be made to the assessee company for any steel that the assessee company delivered to the partnership, and that instead the assessee company would receive a single lump‑sum payment of Rs. 60,000. The Court observed that this lump‑sum therefore represented the capitalised value of the profits which the assessee company would otherwise have earned by supplying all of the steel that it obtained under its quota at the net price, and that the amount was therefore a valuation of anticipated profit rather than a payment for any transfer of rights. The Court further noted that the agreement did not convey or assign any right in the quota itself to Irani or to the partnership, and consequently there was no legal basis for treating the Rs. 60,000 as consideration for a transfer of any quota rights. The description of the amount as goodwill in consideration for waiving a royalty on the quota of re‑rollable scrap material received after 30 June 1954 was held by the Court to be a mischaracterisation that failed to reflect the actual nature of the payment and, in effect, conveyed no meaningful description of the transaction. The Court emphasized that goodwill could not arise from the mere waiver of a royalty and that such a label was therefore inappropriate. On the basis of these observations, the Court concluded that the High Court had correctly held that the sum of Rs. 60,000 constituted a revenue receipt and was consequently liable to tax. Accordingly, the Court dismissed the appeal and ordered the appellant to bear the costs of the proceedings.