LIQUIDATORS PURSA LIMITED Vs. COMMISSIONER OF INCOME TAX

JUDGEMENT

(1.) THIS is a reference made under s. 66(1) of the Indian IT Act by the Tribunal, Calcutta Bench. The assessees are a company known as Pursa Ltd. which was incorporated under the Indian Companies Act in 1905 and which then acquired a property in Champaran known as the Pursa Indigo Concern. In or about 1876 the Pursa Indigo Concern had obtained from the Bettiah Raj a mukarrari lease of certain village in the immediate vicinity of Pursa and it subsequently acquired rights of occupancy in various other parcels of land in the locality. Under the mukarrari lease the Bettiah Raj had an option of repurchase but in 1905 it apparently did not choose to exercise this option and the mukarrari lease was assigned to the assessees. The assessees constructed buildings and installed plant and machinery for the purpose of manufacturing sugar. This business was regularly carried on until 1943, when, in consequence of the disturbances which had taken place in the previous year the company decided to wind it up and entered into negotiations with Dalmia Jain & Co. with a view to selling the sugar factory to them. Prior to this the manager of the Bettiah Raj had apparently intimated that, in his opinion, the Bettiah Raj should exercise its option to repurchase the mukarrari villages and had made certain recommendations in the matter to the Court of Wards. These latter negotiations however, eventually fell through. Dalmia Jain & Co. decided to purchase the whole of the rest of the property of the assessees with the exception of their stocks of sugar, as it existed on the 9th Aug., 1943, for a sum of Rs. 28,00,000. It appears from the correspondence that the company had hoped that the sale would be completed on or before the 30th Sept., 1943, which was the end of its usual accounting year. Owing, however, to the delay in correspondence between India and England it was not until the 7th Dec., 1943, that a memorandum of agreement was finally entered into as between the assessees on the one hand and Dalmia Jain & Co. on the other. The consideration money of Rs. 28,00,000 was paid immediately and three days later Dalmia Jain & Co. took possession of the property. The assessees had kept the factory buildings in repair and the machinery in running order but between the 30th Sept., 1943, and the 10th Dec., 1943, when they were actually handed over, had not used them for the purpose of manufacturing sugar. Sugar cane is not crushed throughout the year but throughout a period of four or five months which ordinarily begins in the latter part of November or the early part of December. Appended to the memorandum of agreement was a statement to the effect that out of the purchase price of Rs. 28,00,000 the purchaser allocated Rs. 5,50,000 to the factory land, buildings and fixed machinery and plant "and Rs. 17,00,000 to movable machinery and plant". The ITO, therefore assumed that the price actually paid for the buildings, plant and machinery used by the assessees for the purpose of manufacturing sugar was more or less Rs. 22,00,000. The written down value of this plant and machinery in the books of the assessees as on the 30th Sept., 1943, was Rs. 3,17,443. The assessees declined or were unable to satisfy the ITO as to what the original cost of them had been. The ITO discovered that the allowances which had been made for depreciation in previous years amounted in the aggregate to Rs. 13,05,144 and, purporting to act under the second proviso to cl. (vii) of sub -s. (2) of s. 10 of the Indian IT Act, assessed the company to income -tax on this amount. The question that arises in the reference is whether or not the ITO and the Tribunal, which confirmed his decision, misdirected themselves in law in applying this provision.

(2.) IN order to understand the scope and effect of the proviso in the Act as it stood in 1939, which is the Act applicable in this case, it is necessary to consider cl. (vii) of s. 10(2) as it stood prior to the amendments which were then made in it. The clause made an allowance admissible "in respect of any machinery or plant which, in consequence of its having become obsolete, has been sold or discarded", the allowance being "the amount by which the written down value of the plant or machinery exceeds the amount for which the machinery or plant is actually sold or its scrap value." In order to entitle an assessee to the allowance it was incumbent on him to show that the machinery or plant had become obsolete, that is, that, while it may not have ceased altogether to perform its function, it was of a type which was regarded in the particular trade or business as out of date. Although it was not made a condition, as it was in England, of an allowance being granted that the obsolete plant or machinery should have been actually replaced by a modern and up -to - date type, it is clear that the allowance was, in substance, an allowance made towards the cost of replacement. It rarely or never happens that plant or machinery can be discarded or sold without its having to be replaced. When the clause was amended in 1939, it ceased to be a condition that the machinery or plant should have become obsolete. An assessee who chose to instal machinery or plant of the most modern type and such as few, if any, of his business rivals had yet begun to use, might, therefore, become entitled to an allowance and so reduce the capital expenditure to be incurred, the whole of which, prior to 1939, would have fallen on him. Two provisos were added to the clause. One made it a condition that the amount allowed should be actually written off in the books of the assessee. The other is the proviso with which we are now concerned and which is in these terms : - -" Provided further that where the amount for which any such machinery or plant is sold exceeds the written down value, the excess shall be deemed to be profits of the previous year in which the sale took place." The proviso occurs as a rider to a clause which gives an allowance for replacement and that clause has to be read in conjunction with the clause immediately preceding it which gives an allowance for depreciation. In pointing this out in In re Shewdayal Jagannath (1931) ILR 58 Cal 985, Rankin, C. J., observed that "both are exceptions made by the statute to the general principle that so far as the fixed capital of a business is concerned, appreciation or depreciation do not enter into the computation of profits." Clauses (vi) and (vii) also occur in sub -s. (2) of s. 10 of the Act which prescribes the manner in which an account of the incomings and outgoings of a business is to be taken for the purpose of assessing income -tax. The combined effect of these various provisions is that, when plant or machinery is sold for more than its written down value, the excess is set down on one side of the account, while, on the other side of the account, is set down the allowance admissible on the rest of the plant or machinery for depreciation. The result in practice is that, in that particular year, the assessee receives a proportionately smaller depreciation allowance. Suppose for instance, that a machine is sold for Rs. 30,000 the written down value of it being Rs. 20,000 and suppose that the allowance admissible for depreciation is Rs. 50,000 ; Rs. 10,000 is set down on one side of the account and Rs. 50,000 on the other, with the result that the allowance for depreciation is in effect, reduced from Rs. 50,000 to Rs. 40,000. The contention of Mr. S. Mitra, for the assessees, is that the account is only to be taken in this way when the machinery or plant sold is to be replaced or, perhaps, when it is found possible to adapt another machine to perform an additional process, which, of course, is also a case of replacement. Mr. Mitra, it is true, did not put it in quite that way. What he said was that the proviso applied only in the case of a business which had continued throughout the year of assessment and into the succeeding year and did not apply to a business which had been discontinued or was in the process of being discontinued, it being immaterial that the business of selling goods already manufactured continued, if the business of manufacturing goods had been stopped. That, however, is merely another way of stating the point. Mr. S. N. Dutta, for the Department, on the other hand, contended that the proviso applied whenever a sale took place, whether the plant or machinery sold was replaced or intended to be replaced or not. Assuming for the moment and for the sake of argument, that two constructions are possible, I would adopt the method of interpretation laid down by Lord Salvesen in Scottish Shire Line, Ltd. vs. Lethem (1912) 6. TC 91. It was there said: "Even in a taxing statute it is legitimate to consider which of two possible constructions is most in accordance with the spirit and intention of the Act". Machinery and plant wear out or become obsolete and have to be replaced, and every prudent businessman sets aside out of his annual profits a certain sum against the day when replacement becomes necessary. It is in order to enable him to do so that an allowance is given for depreciation. The intention of the legislature both prior to and since 1939 was that he should be in a position to expend on the purchase of plant or machinery to replace plant or machinery which had worn out or become obsolete at least as much as he had expended originally on the discarded plant or machinery. If the sale proceeds are less than the written down value, he cannot do this, and so an allowance is given under cl. (vii). Until 1939, if the sale proceeds exceeded the written down value, the assessee retained the balance and so was able in that particular year to lay aside more than his depreciation allowance. In the view taken by Mr. Mitra, it was in order to prevent this that in 1939 the IT Act was amended. It is understandable why it should have been amended in this way then. As it was to cease to be a condition of granting a replacement allowance that plant or machinery discarded or sold should be either worn out or obsolete, claims for such an allowance would become more, numerous, while, owing to the general rise in prices, plant or machinery would more often be sold for more than its written down value. Also, it is, I think, at least possible that there was a lacuna in the Act and it was open to an assessee to discard plant or machinery in one year and obtain an allowance based on its scrap value and then, in the succeeding year, sell it for considerably more and appropriate the whole of the sale proceeds. However that may be, it is understandable that the legislature should in 1939 have altered the Act so as, in effect, to reduce the depreciation allowance admissible to an assessee. It may be observed that when the sale proceeds exceed the written down value, the Revenue Authorities in England appear to have resorted to somewhat similar devices to raise a kind of counter -balancing charge against the assessee. There the replacement allowance admissible on other machinery or plant sold subsequently for less than its written down value has sometimes been reduced and, alternatively, depreciation allowance has sometimes not been given on the full cost of the new machinery or plant, but on its cost as proportionately reduced (see Income -tax Law and Practice by Newport and Staples, 11th edition, page 119). In this view of the matter, although the sale proceeds of a capital asset appear in the account taken for the purpose of computing income -tax, the tax is still a tax on income and not a tax on capital. All that can be said is, to adopt the language of Rankin, C.J., that depreciation or appreciation enters into the computation of profits more than hitherto. In the view contended for by the Department, on the other hand, the tax is not wholly a tax on income, but in part a levy on capital. In this particular case the assessees did not use their machinery and plant during the year of assessment and no depreciation allowance was at all admissible (vide Central Provinces Manganese Ore Co. Ltd. vs. CIT, C. P. and U. P. (1937) 5 ITR 734 (Nag)) I do not myself attach any great importance to this. It would not, I think, have made any difference if the machinery and plant had been used and a proportionate allowance for depreciation had been admissible. The reason why depreciation allowance is granted may be, as I have said, to enable the assessee to lay aside part of his profits to cover the cost of replacement, but in theory it is an expense incurred by him in earning his profits, and he is entitled to it even if he has closed down or decided to close down his business. Mr. Datta's argument is that, whenever the sale proceeds exceed the written down value, it necessarily follows that, in the past, the assessee has received too much in the shape of allowances for depreciation, and it is, therefore, only fair that he should refund the excess. Now, the amount of the allowance is fixed by law and it seems to me impossible to say that in any particular year the assessee has received either too much or too little. Also, there is not a word anywhere to suggest that previous assessments are, as it were, to be re - opened or any amount is to be refunded. Considerations as to what is "fair" or "equitable" are out of place in construing a taxing statute, but I cannot agree with Mr. Datta that it is "fair" that the assessees should be made to "refund" the excess of the sale proceeds over the written down value. They may have received much more for their machinery and plant than they could ever have anticipated some years ago, but on the other hand, as the general level of prices has risen, they will also have to pay much more for anything they may wish to purchase with the money they have got for it. To say that the assessees made a profit out of their transaction with Dalmia Jain & Co. is, I think, to use language somewhat loosely. Even, however, if they had made a profit in the sense that they realised more at the sale than they themselves originally paid, they would have been entitled to retain the whole of it. It was not a profit arising out of their business. It had nothing to do with the business. It arose out of quite other and fortuitous circumstances, such as the rise in prices due to the war, the scarcity of sugar in India, due again to the war, and to the consequent readiness of Indian financiers and capitalists to embark on the business of manufacturing sugar. The owner of a sugar factory who, owing to the existence of a state of war, can sell his plant or machinery for more than he paid for it is in exactly the same position as the owner of a picture, who bought it when the artist was a young man unknown to the public and who can sell it years afterwards, when the artist has made his reputation, at a very considerable profit. There has been in each case an accretion to the value of a capital asset and until 1946 the owner was entitled to retain the whole of the resulting benefit. When I pointed out to Mr. Datta that it was not until 1946 that s. 12B was inserted in the IT Act and capital gains were made assessable to income -tax, Mr. Datta could only say that s. 12B applied to property of every kind and not merely to plant and machinery. I cannot persuade myself that, if it was in 1939 and not until 1946 that the legislature decided to make so striking a departure from its hitherto well settled fiscal policy, it would have chosen to do so by inserting what is, at most, no more than an ambiguous proviso in a clause dealing with an allowance for replacements. Applying the test laid down by Lord Salvesen, it appears to me that there is everything to be said for the more restricted, and nothing to be said for the more extended, meaning sought to be given to the proviso.

(3.) IS there, however, any real or serious ambiguity in the language used by the legislature ? Too much weight cannot be attached to the words "shall be deemed to be profits of the previous year", nor can the proviso, in which these words appear, be more or less completely divorced from its context. The words "any such" machinery or plant in the proviso refer back to the words "in respect of any machinery or plant" which occur at the beginning of cl. (vii). The word "any" means, I think, a particular item or items of machinery or plant and does not mean, or certainly cannot very easily mean, the entire aggregate of plant and machinery. The word "sold" occurs in conjunction with the word "discarded" and while the latter word is entirely appropriate in the case of a continuing business, it is altogether inappropriate in the case of a business which has been closed down or is in the process of being closed down. The first of the two provisos to cl. (vii) can only apply to a continuing business. Is there any reason not to assume that the second proviso was also intended to apply to such a business ? Finally, the proviso appears in a clause giving an allowance for replacement. That alone suggests that its operation was intended to be confined to cases in which, if the sale proceeds had been less than the written down value, the assessee would have been entitled to claim an allowance for replacement. For these various reasons the Tribunal, in my opinion, misdirected itself in law as to the scope and effect of the second proviso to cl. (vii) in s. 10 (2) of the Indian IT Act. I would, therefore, answer the first of the two questions referred to us by saying that the sum of Rs. 13,05,144 is not liable to be taken into account in assessing income -tax on Pursa Ltd. during the year of assessment.