Commissioner of Income Tax, Punjab (Jammu and Kashmir, Himachal) vs Punjab Distilling Industries Ltd

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

Court: Supreme Court of India

Case Number: Civil Appeals Nos. 107-111 of 1963

Decision Date: 24 March 1964

Coram: A.K. Sarkar, M. Hidayatullah, J.C. Shah

In the matter titled Commissioner of Income‑Tax, Punjab … versus Punjab Distilling Industries Ltd., the Supreme Court delivered its judgment on 24 March 1964, with Justice A.K. Sarkar authoring the opinion, joined by Justices M. Hidayatullah and J.C. Shah. The petitioner was the Commissioner of Income‑Tax for Punjab, Jammu & Kashmir and Himachal, while the respondent was Punjab Distilling Industries Ltd. The case was reported as 1964 AIR 1709 and 1964 SCR (7) 447, concerning a provision of the Indian Income‑Tax Act, 1922 (11 of 1922), section 10 relating to deposits taken by a distiller that were refundable on the return of bottles. The headnote described the respondent as a distiller of country liquor that sold its product to licensed wholesalers and, since 1945, had levied an additional charge termed “empty bottles return security deposit” in addition to the price of the liquor and the bottles. According to the headnote, the entire amount collected for any transaction was to be refunded in full when ninety per cent of the bottles were returned, and the court was asked to decide whether this “security deposit” constituted a trading receipt assessable to income tax. The Court held that the amounts described as security deposits were indeed trading receipts, forming part of the commercial transaction for the sale of liquor in bottles, and therefore constituted taxable income. The Court explained that the charges were an extra price for the bottles rather than genuine security deposits, because no right to the return of bottles existed to secure the payment. The Court relied on its earlier decision in Punjab Distilling Industries Ltd. v. Commissioner of Income‑Tax, reported in [1959] Supp. 1 S.C.R. 693, and distinguished the authorities Davies v. Shell Company of China Ltd. (1951) 32 T.C. 133 and K.M.S. Lakshmanier & Sons v. Commissioner of Income‑Tax and Excess Profits Tax, Madras [1953] S.C.R. 1057. The civil appellate jurisdiction covered Appeals Nos. 107‑111 of 1963, which were taken by special leave from the Punjab High Court’s judgment and order dated 23 March 1961 in Income‑Tax Reference No. 14 of 1960. Counsel for the appellant appeared on behalf of the Commissioner, while counsel for the respondent represented Punjab Distilling Industries Ltd. The Court noted that the present appeals were governed by the earlier judgment in Punjab Distilling Industries Ltd. v. Commissioner of Income‑Tax and that the High Court’s view that the ratio decidendi of that earlier case did not apply was erroneous. It observed that the earlier case also involved the same assessee but dealt with the assessment years 1947‑48 and 1948‑49, whereas the present appeals concerned the years 1946‑47, 1949‑50, 1950‑51 and 1951‑52, with the assessee’s accounting period running from 1 December to 30 November of the following year. The Court therefore concluded that the reasoning of the earlier decision applied equally to the present matters and affirmed that the charges labelled as security deposits were taxable trading receipts.

The appeals concerned the assessment years 1946‑47, 1949‑50, 1950‑51 and 1951‑52. The assessee’s financial year ran from 1 December of one calendar year to 30 November of the following calendar year. In each of the two matters the revenue authorities had made assessments under the provisions governing income‑tax, excess‑profits tax and business‑profits tax. Although the statutes differed, the substantive issue that required resolution was identical in each case. The earlier judgment contained a complete factual matrix, and the Court therefore chose not to repeat the entire factual narrative in this judgment.

The assessee was engaged in the distillation and bottling of country liquor and also in the sale of the bottled product. Beginning in 1945, the company augmented the price it charged its customers by adding a separate amount described in its accounts as “empty‑bottle return security deposit.” This extra charge was calculated at a rate that varied according to the size of each bottle delivered. The charge was expressly characterized as a security deposit that would be refunded when the customer returned the bottles to the assessee. The refund mechanism stipulated that the full amount collected on a particular transaction would be returned to the customer provided that at least ninety per cent of the bottles supplied under that transaction were returned.

The legal question was whether the amount labelled “security deposit” constituted a trading receipt that fell within the definition of assessable income. In the earlier precedent, the Supreme Court had held that the security deposit was indeed assessable. The Court had explained that the trade consisted of the sale of bottled liquor and that the total consideration for the sale comprised several components: the price of the liquor, the price of the bottles and the security deposit. The Court observed that the appellant could not complete a sale unless all of these components were paid, and therefore the security deposit formed an integral part of the price of the goods sold and was consequently taxable.

For the assessment years now under review, the Income‑Tax Officer treated the security‑deposit amounts as taxable income. On appeal, the Appellate Assistant Commissioner affirmed the officer’s view. The matter was then taken to the Income‑Tax Tribunal, which reversed the earlier findings and held that the deposits were loans rather than trading receipts and therefore not subject to tax. All of these proceedings occurred before the earlier Supreme Court judgment was issued.

Following the Tribunal’s decision, the Commissioner of Income‑Tax referred a specific question to the Punjab High Court for determination. The question was whether, on the facts and circumstances of the case, the collections recorded by the assessee as “empty‑bottle return security deposits” should be treated as income assessable under Section 10 of the Income‑Tax Act. It was noteworthy that the earlier case addressed precisely the same issue, and both the High Court and the Supreme Court had answered the question in the affirmative in that prior litigation. Consequently, if the reasoning of the earlier judgment applied to the present appeals, the referenced question would also have to be answered affirmatively. Nevertheless, the High Court adopted a different view, holding that a subsequent amendment to the rules made under the Punjab Excise Act, 1914, which had taken effect on 1 April 1948, removed the earlier judgment’s ratio decidendi from applying to the deposits collected after that date.

The High Court observed that the amendment to the rules made under the Punjab Excise Act, 1914, which came into force on 1 April 1948, removed the applicability of the earlier Supreme Court judgment to charges collected after that date. It held that the amended rule rendered the ratio decidendi of the Supreme Court’s decision inapplicable to the later charges. The rule in question is rule 40(14)(f), and the portion of that rule upon which the High Court based its view is set out as follows: (v) it is compulsory for the licensee to return at least ninety per cent of the bottles issued to him by the licensed distiller; and (vi) the licensed distiller may, at the time of issue, demand security at the rates of three rupees, two rupees or one rupee and eight annas per dozen quart, pint or nip bottles respectively, up to ten per cent of the bottles issued by him, and may confiscate the security to the extent falling short of the ninety per cent limit. The High Court explained that the “licensee” referred to in the earlier rule is the wholesaler to whom the distiller sells his liquor. It noted that the precise meaning of the expressions “up to ten per cent of the bottles issued” and “falling short of the ninety per cent limit” is not entirely clear, but it declined to pursue that issue because it was not necessary for the purpose of the present dispute. The Court accepted that a charge described as a deposit was realised on the basis that it would be refunded in certain eventualities, and it held that the sole issue to be decided was whether that charge constituted a trading receipt. The High Court identified three considerations on which the earlier Supreme Court judgment had been based: (1) the charge had been levied without Government sanction and entirely as a condition imposed by the assessee itself for the sale of its liquor; (2) it could not be a security deposit for the return of bottles because there was no right to return them; and (3) it was refundable under the contract of sale itself. The High Court stated that, had these circumstances not existed, the Supreme Court’s decision would have been different. Since the amended rules became effective, the Court held that none of the three considerations applied, and consequently the LP(D) ISCI‑15a charges could not be classified as trading receipts. The High Court summarized its reasoning with the following excerpt: “The amended rules were given effect from 1st April, 1948. To securities demanded in accordance with the above rules the three considerations which prevailed with their Lordships of the Supreme Court and which have been mentioned above will not apply to the instant case. It cannot, therefore, be said, as was the case in the appeal before their Lordships of the Supreme Court, that the ‘additional amounts had been taken without Government’s sanction and entirely as a condition imposed by the appellant itself.’”

In the earlier judgment, the Court observed that the additional amounts were taken “for the sale of its liquor”. The High Court further asserted that it could not be said that the “wholesalers were under no obligation to return the bottles”. In addition, the High Court maintained that, in view of the statutory rule that had been amended in 1948, it could not be said that the deposit “was part of each trading transaction and was refundable under the terms of the contract relating to the trading transaction under which it had been made”. The parties did not dispute that, should the High Court’s reasoning be erroneous, the present case would be governed by the earlier decision of this Court. Regarding the learned Judges of the High Court, the Supreme Court thought that the earlier judgment of this Court had been misunderstood by them. The earlier judgment, the Supreme Court explained, had not been based on the three points enumerated by the High Court, and the Court proceeded to demonstrate this point by point.

The first point of distinction, as identified by the Supreme Court, arose from the observation in the earlier case that the additional amounts had been taken “without Government’s sanction and entirely as a condition imposed by the appellant itself for the sale of its liquor”. The High Court appeared to infer from that observation that, had the amounts been taken with Government sanction, they would not have been taxable. The Supreme Court rejected this inference, stating that the observation was merely a factual recital intended to differentiate those amounts from other amounts charged by the assessee as the price of bottles. The other amount referred to was the charge levied under a scheme formulated by the Government, known as the “buy back scheme”. The Supreme Court found no basis in the earlier judgment for the conclusion that the taxability of a charge depended upon whether it had been made with Government sanction. Historically, whether a charge arose under a Government scheme or purely from a contractual arrangement had never been decisive for tax liability. Consequently, even before the amended rules of 1948 came into force, the assessee had been collecting, under the “buy back scheme” that possessed Government sanction, a charge from its customers as the price of the bottles, a charge that was refundable upon return of the bottles. The charge presently before the Court was an additional amount over and above that collected under the “buy back scheme”, as the Supreme Court had already indicated. It had never been contested, either in the earlier case or in the present proceedings, that the charge under the “buy back scheme”, being collected with Government sanction, constituted taxable income. Moreover, the Supreme Court noted that it had never ruled, nor had the assessee ever contended, that a collection made under Government sanction would escape taxation. Hence, the first distinction raised by the High Court was deemed unfounded. The second point raised by the High Court concerned the observation that the charge could not be a security for the return of the bottles because there was no right to such return; the Supreme Court addressed this point in the subsequent discussion.

In a previous decision the Court had held that the charge could not be regarded as a security for the return of the bottles because, at that time, there was no legal right to such a return. The High Court thereafter contended that this earlier observation was no longer applicable because the amended rules created a right to return the bottles. The Court did not accept that the amended rules necessarily conferred such a right, but for the sake of argument it assumed that a right did exist under the new rules. The argument that gave rise to the earlier observation was that, if the charges were merely deposits intended to secure the return of the bottles, then they could not be classified as trading receipts. By making the earlier observation the Court addressed the first limb of that argument, concluding that the premise—that the charges were security deposits—was unfounded because there was no right to return the bottles. Consequently, if the charges were not security deposits, the argument that they were therefore not trading receipts would fail. This constituted one answer to the contention.

However, the Court did not stop at that point. It proceeded to examine the broader issue, namely whether, even if the charges were characterised as security deposits, they would still not qualify as trading receipts. The basis for the proposition that security‑deposit characterisation would remove the charges from the definition of trading receipts was found in two earlier cases relied upon by the respondent. The first precedent was Davies v. Shall Company of China Ltd., reported in 1951 at 32 Tax Cases 133. In that case the company delivered its goods to agents for sale and expected to receive the sale proceeds from the agents. To protect itself against the risk of an agent’s default in accounting for those proceeds, the company required each agent to pay a deposit. Jenkins, LJ, observed that the agents’ deposits formed part of the company’s trading structure but were not trade receipts; rather, they were antecedent to the stage of trade receipts. He explained that it would be a misstatement to describe an agent, after paying such a deposit, as a trade creditor of the company with respect to the deposit, because the relationship did not arise from any goods supplied or services rendered in the course of trade. Instead, the relationship existed solely because the agent had been appointed to trade on the company’s behalf and, as a condition of that appointment, had deposited – or in other words, lent – the stipulated amount to the company. The respondent’s counsel, appearing for the assessee, likened the “empty‑bottles return security deposits” in the present matter to the deposits described in the Shall Company case. The essential argument behind claiming that the deposits were security deposits was to show that they were not part of the ordinary trading transactions but belonged to a stage preceding the actual trade.

In this case the learned counsel argued that the amounts classified as “empty bottles return security deposits” were deposits that preceded the actual trading activities and therefore should not be treated as trading receipts. The Court rejected that contention and observed that these deposits were not of the type examined in the earlier Shall Company decision. The counsel also relied on the decision in K.M. S. Lakshmanier & Sons v. Commissioner of Income‑Tax and Excess Profits Tax, Madras, which involved three different trade arrangements. He asserted that the present deposits corresponded to the third arrangement discussed in that case. The Court explained that, under the third arrangement, a trader would obtain a deposit from a constituent at the start of an anticipated series of trading transactions, retain the deposit for the duration of the business relationship, and return it with interest of three per cent per annum after deducting any amounts still owed by the constituent for the transactions. The understanding was that the constituent would make payments for each purchase during the business connection, and only when the constituent failed to pay would the unpaid amount be deducted from the deposit. The Court held that this arrangement constituted a loan, citing the reasoning that the deposited amount no longer bore any relation to the price fixed for goods under a forward contract, that the price was to be paid in full against delivery, and that adjustment for any default occurred only at the termination of the business connection, thereby possessing all essential elements of a loan contract.

The Court further observed that none of the authorities cited addressed the question of whether a security deposit, by its very nature, could never be a trading receipt. In the first case, the deposit was indeed a security deposit, but the Court ruled that it was not a trading receipt because it formed the structure within which trading receipts were generated, and it was not directly connected to any trading transaction. In the second case, the receipt was characterized as a loan; the possibility that it might also be a security deposit was not even considered. The Court emphasized that the receipt was not a trading receipt because it related to a stage preceding the trading transactions rather than to the transactions themselves. Accordingly, the argument that the charges were security deposits was advanced solely to demonstrate that they were not part of the trading transactions. The substantive issue before the Court was therefore whether the charges formed part of the trading transactions or originated at an earlier stage, and the Court concluded that they were indeed part of the trading transactions and not linked to any antecedent stage.

The Court examined whether the amounts in dispute were merely security deposits or whether they formed part of the trading transactions, or whether they had been made at a stage preceding the trade. It concluded that the amounts were indeed part of the trading transactions and could not be linked to any earlier stage. That conclusion represented the full scope of the question that the Court was required to answer, and the Court gave a definitive answer on that point. The Court further noted that, in the earlier case, it had not been asked to decide whether the charges were security deposits. This observation is evident from the passage on page 690, where the Court recorded: “Mr. Sanyal was prepared to argue that even if the amounts were securities deposited for the return of the bottles, they would still be trading receipts, for they were part of the trading transactions and the return of the bottles was necessary to enable the appellant to carry on its trade, namely, to sell liquor in them. As we have held that the amounts had not been paid as security for the return of the bottles, we do not consider it necessary to pronounce upon this contention.” Accordingly, the Court did not hold that, had the deposits been made to secure the return of the bottles, they could not be characterised as trading receipts. The High Court’s distinction of the present matter from the earlier decision on the basis that the Supreme Court had previously ruled otherwise was therefore erroneous.

The Court then turned to the issue of whether, under the amended rules, the distiller possessed any right to the return of the bottles. The Court found that no such right existed, and it observed that the two cases were essentially alike because, in neither case, the charge amounted to a genuine security deposit. The reasoning behind this view was that liquor passed through three distinct sales before reaching the ultimate consumer: first the distiller sold the liquor to a wholesaler, then the wholesaler sold it to a retailer, and finally the retailer sold it to the consumer. If the rules imposed an obligation on the wholesaler to return the bottles to the distiller, the rules would necessarily have to create a corresponding obligation on the retailer to return the bottles to the wholesaler and on the consumer to return the bottles to the retailer. In the absence of any such provisions, it would be meaningless to require the wholesaler to return the bottles to the distiller. The Court noted that no evidence had been presented showing any right in either the wholesaler or the retailer to demand the return of the bottles. Moreover, the consumers had no duty to return the bottles in which they purchased the liquor.

The Court examined sub‑clause (v) of the rule relied upon by the High Court, which referred to the return of the bottles in which liquor was sold. Since there was no recognized right in the wholesaler to obtain a return of the bottles from the retailer, it would be unreasonable to interpret that sub‑clause as creating an obligation on the wholesaler to return the bottles. The wholesaler, under the rules, possessed no mechanism to fulfil such an obligation. Consequently, the Court held that the rule should be understood only as stating that, where the wholesaler could not return the bottles, his deposit would become liable to forfeiture.

The Court observed that the provision allowing confiscation under sub‑clause (vi) was merely a penalty and that the rules themselves did not prescribe any mechanism by which the distiller could compel the return of the bottles. The Court noted that, had the legislature intended to give the distiller a enforceable right to demand the bottles back, the rules would have expressly provided a procedure for such enforcement. No evidence was found to show that the distiller could actually obtain the return of the bottles. The Court further held that it was irrelevant to decide whether the wholeseller might be punished under the Act for failing to return the bottles, because the issue before the Court was solely the distiller’s entitlement to have the bottles returned. In the Court’s view, the only sensible reason for requiring the wholeseller to return the bottles was to create a condition of the sale, breach of which would cause the charges levied for the bottles to become non‑refundable. Turning to the High Court’s last point of distinction, the Court recalled that in an earlier decision it had held that the deposit paid was refundable under the terms of the contract that formed the trading transaction and therefore constituted a trading receipt. The High Court judges, however, appeared to think that, because the rule had been amended, the deposits thereafter had to be made “under the rule” and consequently were no longer receipts under the contract or part of the trading transaction. With respect‑for‑the‑judges, the Court found this view to be confused. The rule, the Court explained, does not itself obligate a deposit; its terms make that clear. All the rule does is to empower a distiller to demand a deposit, but the deposit must be taken pursuant to a contract that concerns it; it is not taken “under the rule” itself. In other words, the rule merely authorises the parties to enter into a contract concerning the deposit on the terms specified, apparently to pre‑empt any later challenge to its validity. The Court also pointed out that the liquor trade is heavily regulated by government rules, and consequently the deposit was indeed taken under a contract, even though that contract was authorised by the statutory rules.

The Court then addressed the High Court’s third distinction, namely the hypothetical that deposits might have been made without a contract and only indirectly under the rules, and whether such deposits would still qualify as trading receipts. The Court held that this hypothetical question did not arise in the present appeals and therefore no opinion would be offered on it. For these reasons, the Court concluded that the appeals must be decided in accordance with its earlier judgment and that the question referred to be answered in the affirmative. The Court added that, even so, the matters raised by the High Court did not affect the final outcome.

In the present matter the Court observed that the High Court had determined that the sums which had been collected under the label “empty bottles return security deposit” before the date of 1 April 1948 were liable to be taxed. On the basis of that finding the Court concluded that the appeals filed by the petitioning party were to be allowed. Consequently, the Court directed that the respondent should bear the expenses incurred in both the present proceeding and the earlier adjudication, and that the respondent was required to pay the costs in the lower forum as well as in the present appeal. In addition, the Court specified that a single levy of costs would be permitted, characterising it as the hearing fee applicable to the case. By these orders the Court effectively granted relief to the appellant, affirmed the taxability of the pre‑April‑1948 deposits, and mandated the respondent to satisfy the cost obligations arising from the litigation. The final order therefore confirmed that the appeals were allowed and that the respondent was to meet the specified costs.