VELLORE GOVINDARAJULU MUDALIAR Vs. COMMISSIONER OF INCOME TAX

JUDGEMENT

(1.) THE assessee is a company carrying on business of distribution of electrical energy under a licence issued under the Electricity (Supply) Act, 1948 (hereinafter referred to as "the Act"). Section 57 of the Act provides that the provisions of the Sixth Schedule and the Seventh Schedule shall be deemed to be incorporated in the licence of every licensee, not being a local authority. THE Sixth Schedule to the Act contains certain financial principles and their application. Paragraph III of the Schedule provides that there shall be created from existing reserves or from the revenues of the undertaking a reserve to be called "contingencies reserve". Paragraph IV(1), which deals with the annual appropriation to such a reserve, states that the licensee shall appropriate to contingencies reserve from the revenues of each year of account a sum not less than one-quarter of one per centum and not more than one-half of one per centum of the original cost of fixed assets, provided that if the said reserve exceeds, or would by such appropriation be caused to exceed, five per centum of the original cost of fixed assets, no appropriation shall be made which would have the effect of increasing the reserve beyond the said maximum. Under Paragraph IV(2) the sums appropriated to the contingencies reserve shall be invested in securities authorised under the Indian Trusts Act, 1882, and such investment shall be made within a period of six months of the close of the year of account in which such appropriation is made. Paragraph V provide how the amounts standing to the credit of the contingencies reserve should be utilised and states "V. (1) THE contingencies reserve shall not be drawn upon during the currency of the licence except to meet such charges as the State Government may approve as being--(a) expenses or loss of profits arising out of accidents, strikes or circumstances which the management could not have prevented(b) expenses on replacement or removal of plant or works other than expenses requisite for normal maintenance or renewal (c) compensation payable under any law for the time being in force and for which no other provision is made(2) On the purchase of the undertaking, the contingencies reserve, after deduction of the amounts drawn under sub-paragraph (1) shall be handed over to the purchaser and maintained as such contingencies reserveProvided that where the undertaking is purchased by the Board or the State Government, the amount of the reserve computed as above shall, after further deduction of the amount of compensation, if any, payable to the employees of the outgoing licensee under any law for the time being in force, be handed over to the Board or the State Government, as the case may be." *Paragraph VA deals with the creation of a development reserve and the said paragraph provides"VA. (1) THEre shall be created a reserve to be called the development reserve to which shall be appropriated in respect of each accounting year a sum equal to the amount of income-tax and super-tax calculated at rates applicable during the assessment year for which the accounting year of the licensee is the previous year, on the amount of development rebate to which the licensee is entitled for the accounting year under clause (vi)(b) of sub-section (2) of section 10 of the Indian Income-tax Act, 1922Provided that if in any accounting year, the clear profit (excluding the special appropriation to be made under item (va) of clause (c) of sub-paragraph (2) of paragraph XVII) together with the accumulations, if any, in the tariffs and dividends control reserve less the sum calculated as aforesaid falls short of the reasonable return, the sum to be appropriated to the development reserve in respect of such accounting year shall be reduced by the amount of the shortfall(2) Any sum to be appropriated towards the development reserve in respect of any accounting year under sub-paragraph (1), may be appropriated in annual instalments spread over a period not exceeding five years from the commencement of that accounting year(3) THE development reserve shall be available only for investment in the business of electricity supply of the undertaking(4) On the purchase of the undertaking, the development reserve shall be handed over to the purchaser and maintained as such development reserveProvided that where the undertaking is purchased by the Board or the State Government, the amount of the reserve may be deducted from the price payable to the licensee. Pursuant to the obligation imposed on the assessee as a licensee by these provisions, the assessee transferred to the contingencies reserve account a sum of Rs. 41, 328 and the development reserve account a sum of Rs. 42, 718. In the assessment to income-tax of its profits and gains for the assessment year 1966-67, the assessee claimed that these two amounts should be deducted.

(2.) THE Income-tax Officer, the Appellate Assistant Commissioner and the Income-tax Appellate Tribunal negatived this claim of the assessee. It is, thereafter, at the instance of the assessee the Income-tax Appellate Tribunal, Madras Bench, under section 256(1) of the Income-tax Act, 1961, has referred the following question for the opinion of this court" *Whether, on the facts and circumstances of the case, the Appellate Tribunal is right in holding that the sum of Rs. 41, 328 transferred to the contingencies reserve account and Rs. 42, 718 transferred to the development reserve account are not to be deducted in arriving at the taxable profits of the assessee ? "THE learned counsel for the assessee contended that the amounts transferred to these two funds constituted the setting apart of the amounts by overriding statutory title and, therefore, necessarily have to be deducted from the gross receipts of the assessee for the purpose of assessment to income-tax. We are unable to accept this argument. THE learned counsel invited our attention to a decision of the Supreme Court and to a decision of the Kerala High Court.

(3.) THAT is not the case here and we do not think there is a diversion of the revenue which has to be deducted for the purpose of determining the real profits of the assessee or that there is an 'expenditure' liable to be deducted under the Income-tax Act. In fact it is not a diversion in the real sense of the term since a diversion should be one which goes out and is no longer that of the person who so diverts it. We, therefore, hold that the assessee's claim for deduction of the amount under the development reserve ought not to be allowed. The question has to be answered in favour of the revenue and against the assessee. "However, when dealing with the contingencies reserve, after referring to the relevant paragraph in the Sixth Schedule, the Kerala High Court observed" *The amount of the reserve can be used for such purposes as are specified in Paragraph V(1) of the Sixth Schedule as the State Government may approve. These purposes indicate that the object is to see that the undertaking is smoothly and properly run. One of the purposes is the meeting of charges by way of expenses or loss of profits arising out of accidents, strikes or circumstances which the management could not have prevented. Another is the meeting of expenses on replacement or removal of plant or works other than expenses requisite for normal maintenance or renewal and the third is the compensation payable under any law for the time being in force and for which no other provision is made. The default of the licensee in regard to any of these obligations would have immediate impact upon the manner in which the undertaking is run and the result would affect the consuming public.