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PETITIONER:

COMMISSIONER OF INCOME-TAX, MADRAS

Vs.

RESPONDENT:

K. R. M. T. T. THIAGARAJA CHETTY & CO.

DATE OF JUDGMENT:

14/10/1953

BENCH:

HASAN, GHULAM

BENCH:

HASAN, GHULAM

SASTRI, M. PATANJALI (CJ)

DAS, SUDHI RANJAN

BOSE, VIVIAN

BHAGWATI, NATWARLAL H.

CITATION:

1953 AIR 527 1954 SCR 258

CITATOR INFO :

R 1954 SC 470 (40)

F 1957 SC 49 (35)

D 1960 SC 703 (3,4)

RF 1961 SC 204 (10)

RF 1986 SC 757 (6,14,46)

RF 1991 SC 513 (7)

ACT:

Indian Income-tax Act (XI of 1922), ss. 4(1)(b),13-

Commission agency-Accounts kept on mercantile system-

Commission credited to agent and debited as business

expenditure, but withheld and carried over subsequently to

suspense account pending disputes-Whether income has

accrued-Computation of profits, whether condition precedent

to accrual.

HEADNOTE:

Where, under the terms of a managing agency agreement the

assessee firm who were the managing agents of a company were

entitled to a certain percentage of the profits as their

commission and in the books of the company maintained by the

firm a sum of Rs. 2,26,850 odd was shown as commission due

to the firm on the profits for the year 1941-42 and the said

sum was also debited as an item of business expenditure and

credited to the managing agents' commission account, but the

aforesaid sum was subsequently carried to a suspense account

by a resolution of the company as a result of a request made

by the firm that a debt due by the firm to the company may

be written off :

Held, that, as the assessee kept the accounts on the

mercantile system the commission accrued to the assessee

when the commission was credited to it in the accounts, and

the subsequent carrying over of the amount of the commission

to a suspense account pending the settlement of the dispute

between the company and the assessee could not affect

assessee's liability to be taxed on this income.

Held further, that the fact that the profits of the

business could be computed only after the 31st of March,

1942, was Immaterial as quantification of the commission is

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not a condition precedent to its accrual.

JUDGMENT:

CiviL APPELLATE JURISDICTION: Civil Appeals Nos. 131, 131-A

and 131-B of 1952.

Appeals from the Judgment and Decree dated the 2nd day

of February, 1950, of the High Court of Judicature at Madras

(Satyanarayana Rao and Vishwanath Sastri JJ.) in Cases

Referred Nos. 76 and 78 of 1946 and 32 and 56 of 1947.

259

C.K. Daphtary, Solicitor-General for India (G. N.

Joshi, with him) for the appellant.

B. Somayya (Alladi Kuppuswami, with him) for the

respondent.

1953. October 14. The Judgment of the Court was

delivered by

GHULAM HASAN J.-These three appeals arise from the

judgment and order of the Madras High Court dated 2nd

February, 1950, delivered on a reference by the Income-tax

Appellate Tribunal (hereinafter referred to as 'The

Tribunal'), whereby the High Court answered the first

referred question in, the negative, and as regards the

second question, Satyanarayana Rao J. answered it in the

affirmative, while Viswanatha Sastri J. answered it in the

negative, as a result of which the judgment of Satyanarayana

Rao J. ultimately prevailed. They relate to the assessment

for 1942-1943 and are filed by the Commissioner of Income-

tax, while Appeal No. 132 of 1952 which relates to 1943-

1944 is filed by the assessee, and, is dealt with

separately.

The two question which were referred in respect of the

first group of appeals are as follows:-

(1) Whether there is any material for the Tribunal's

finding that the appellants (respondents in this case) were

being assessed on cash basis in the prior years?

(2) Whether on the facts and in the circumstances of the

case the Appellate Tribunal's finding that the sum of Rs.

2,26,850 could not be assessed for the assessment year 1942-

43 is correct in law?

The assessee is a registered firm (hereinafter referred

to as 'the firm') consisting of K.R.M.T.T. Thiagaraja Chetty

and his two sons. The firm is the managing agent of Shri

Meenakshi Mills, Ltd., (hereinafter referred to as the Com-

pany) owning a, spinning mill at Madura. The firm also con-

ducted insurance business and the business of ginning cotton

in a ginning factory at another place. Under the terms of

L/B(D)2SCI-3(a)

260

the agreement the managing agents were entitled to a remu-

neration of Rs. 1,000 per mensem and a commission of I per

cent. on all purchases, I per cent. on all sales and 10 per

cent. commission on the net profits of the mills before

allowing for ,depreciation. The firm had plenary powers of

management of the affairs of the company subject to general

supervision -of the directors. It was to have charge and

custody on behalf of the company of all the property, books

of accounts, papers and documents and effects belonging to

the company. It was required to keep at the expense of the

company proper and complete books of account of all

purchases and sales and of all payments made and moneys

received on behalf of the company. It had to defray all the

expenses of maintaining a suitable office and a staff of

assistants and clerks sufficient to transact the business of

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the firm as managing agents of the company. Clause 16 is

most important and lays down that the firm be at liberty to

retain, reimburse, and pay themselves out of the funds of

the company, all charges and expenses, legal or otherwise

and all the costs and expenses of providing and maintaining

offices for the company and the salaries of clerks,

servants, agents or workmen and all moneys expended by them

on behalf of the company and all sums due to the firm for

commission or otherwise.

The company made considerable profit in the assessment

year 1942-1943 and the firm became entitled to commission to

the tune of Rs. 2,26,850-5-0. The firm did not show this

sum in the return on the ground that it was not actually re-

ceived in the year of account, viz., by the 31st March,

1942. It relied upon a resolution of the Board of Directors

of the company, dated the 30th March, 1942, by which they

had decided to keep the aforesaid amount in suspense without

paying it on the ground that an amount of two lakhs odd was

due to the company from the firm. It appears that the firm

owed a debt to the company for a long time past which was

outstanding. The firm wrote on the 30th March, 1942, to the

company requesting that the debt be written off. The Firm

also wrote that on account of the extraordinary increase in

the

261

volume of business. it found it difficult to bestow adequate

attention on all the aspects of the mill business and

proposed that the direct responsibility for sales and

purchases may be transferred to some other agency, leaving

the general supervision over the entire management in the

firm's hands. The firm agreed to forego its commission on

purchases and sales and agreed to take half of the

commission on the net profits. The directors by their

resolution, passed on the same date, refused to write off

the amount without consulting the general body of

shareholders and pending the settlement of the dispute

resolved, to keep the amount in suspense.

The Income-tax Officer held that the firm followed the

mercantile method of accounting and not the cash basis and

that the income having accrued become assessable whether

received or not. The actual amount payable to the firm in,

accordance with the terms and conditions of the agreement

for the year 1942-1943 was not disputed. The Appellate

Assistant Commissioner confirmed the assessment and

dismissed the appeal of the assessee. The Commissioner

upheld the view that the income was determined on the

mercantile basis and that the income had accrued or arisen

to the assessee within the meaning of section 4(1) (b)(i) of

the Income-tax Act. and the mere fact that the amount was

put in the suspense account did not alter the fact that the

income had accrued to the firm Upon the matter being carried

further in appeal by the assessee, the Tribunal held that

the income had not accrued to the firm and that the amount

should be excluded from taxation as not having been received

during the accounting year. The two questions

aforementioned were then referred, at the instance of the

Commissioner by the Tribunal to the High Court.

As already stated, the opinion on the first question was

unanimous, both the learned Judges Satyanarayana Rao J. and

Viswanatha Sastri J. holding against the assessee that there

was no material for the Tribunal's finding that the firm was

being assessed on cash basis in previous years, the latter

observing that finding in respect of 1942-1943 and 1943-1944

262

were mutually inconsistent, for in respect of the latter

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assessment year the Tribunal had held that the sum of Rs.

2,20,702 was assessable to income-tax, though the amount

merely stood as a credit to the firm in the books of the

company and has not been drawn by the firm.

It is contended by Mr. Somayya on behalf of the firm

that the finding of the Commissioner that the firm was not

paid in cash in the prior years was set aside by the

Tribunal and being a finding of fact ought not to have been

interfered with by the High Court. The firm had raised this

question before the Tribunal at the time of the reference

and had contended that no question of law arose from its

order, as it was concluded by finding of fact. The

Tribunal, however repelled this contention observing that

the question was one of ,law, as it related to the existence

of any material for the finding. The High Court upon such-

question being referred applied its mind to the precise

question and came to the conclusion that there was no.

material for the finding that the firm was being assessed on

cash basis in the prior year. The case of Commissinoer of

Income-tax, Bihar and Orissa v. Maharaiadhiraja of

Darbhanga(1) does not support the contention of Mr. Somayya.

There the Income-tax Officer had computed the profits of the

business for a particular year by taking into account both

actual receipts of interest in that year and sums treated by

the assessee in that year as receipts of interest by their

transference to the interest register from what might be

regarded as a suspense account. The Privy Council held that

there was nothing illegel or contrary to principle in the

computation arrived by the Income-tax Officer. The High

Court under section 66(1) had to decide the question of law

raised by the first question and decided it against the

assessee. Nor can it be said that in answering the

question, the High Court acted illegally or contrary to

principle. Admittedly, the firm kept no separate books of

accounts other than the

(1) 60 I.A, 146.

263

books of accounts of the company in which there was a ledger

containing entries relating to the remuneration and commis-

sion paid in cash to the firm. The sum of Rs. 2,26,850-5-0

was debited as a revenue expenditure of the company as

having been paid to the firm in the books of accounts of the

company kept by the firm and was also allowed as a deduction

in computing the profits and gains of the company for the

purposes of income-tax for 1941-1942. The fact that certain

moneys were drawn in cash by the firm from time to time does

not necessarily lead to the inference that the firm kept its

accounts on a cash basis. Anyone familiar with commercial

transactions knows that even in accounts kept on a

mercantile basis there can be entries of cash credits and

debits. We see no flaw in the conclusion reached by the

High Court on the first question.

The next question that falls to be determined is whether

the sum of Rs. 2,26,850-5-0 was part of the profit and gains

which had accrued to the firm during the accounting year

1941-1942. The undisputed facts are that the amount in

question was the commission earned by the firm as managing

agents of the company. In the books of the company main-

tained by the firm the aforesaid sum was debited as an item

of revenue expenditure and the profits were computed after

deducting that sum. The amount was simultaneously credited

to the managing agents' commission account. Under these

circumstances, it is idle to contend that the aforesaid sum

had not accrued. There can be no doubt under the circum-

stances that the aforesaid sum was income which had accrued

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to the firm. The only question is whether the aforesaid sum

ceased to be, income by reason of the fact that on the 30th

March the sum was carried to the suspense account by a reso-

lution of the directors as a result of the request made by

the firm that the outstanding debt due from it may be

written off. It is true that the, sum was not drawn by the

firm but that can hardly affect the question of its

liability to tax, once it is established that the income had

accrued or- arisen to the firm

264

The mere fact that the company was withholding payment

on account of a pending dispute cannot be held to mean that

the amount did not accrue to the firm.

The resolution of the directors itself shows beyond

doubt that the amount in question was treated as belonging

to the firm though its payment was deferred on account of a

pending dispute. As Viswanatha Sastri J. tersely put it

"The sum had irrevocably entered the debit side of the

company's account as a disbursement of managing agency

commission to the firm and had been appropriated to the,

firm's dues and the same sum could not again be entered in a

suspense account at a later date. The sum, therefore,

belonged to the firm and had to be included in the

computation of the profits and gains that had accrued to it

unless the firm had regularly kept its accounts on a cash

basis, Which is not the case here"'.

A reference to the ledger -folios in the books of the

company shows that apart from the managing agents' monthly

remuneration of Rs. 1,00.0 which has duly entered in. their

account the amount in question also finds a place in the

ledger as outstanding charges against the company and as

credits in favour of the firm, The' journal entries in the

company's books are the same.

Section 10 of the Act makes "profits and gains of busi-

ness, profession or vocation"' carried on by an assessee

liable to tax. Section 12 makes "income from other sources

in respect of income, profits and gains of every kind"

liable to tax. By section 13 income, profits and gains

shall be computed for the purposes of both those sections in

accordance with the method of accounting regularly employed

by the assessee, but there is a proviso that, if no method

of accounting has been regularly employed, or if the method

employed is such that, in the opinion of the Income-tax

Officer, the income, profits and gains cannot properly be

deduced therefrom, then the c Computation shall be made upon

such basis and in such manner as the Income-tex Officer may

determine.

265

The Income-tax Officer in computing the income of the

assessee would have followed the mercantile system or the

cash basis whichever was employed by the assessee. There is

some evidence, though not conclusive, on the record that the

assessee followed the mercantile system of accountancy.

This appears from the assessment orders field in the case,

but apart from this,' the Income-tax Officer had full

authority under the proviso to compute the profits upon such

basis and in such manner as he thought fit.

The case of St. Lucia Usines and Estates Company, Ltd.

v. Colonial Treasurer of St. Lucia(1) was relied upon

strongly before us as it was in the High Court in support of

the contention that the sum not having been paid to or

realized by the firm no income can be said to have accrued

to the firm. In that case the assessee company sold all its

property in St. Lucia in 1920 and ceased to reside or carry

on business there. In 1921 interest upon the unpaid part of

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the purchase price, was payable to it, but was not paid.

The company was liable to pay income-tax for the year 1921

under the Income-tax Ordinance, 1910, of St. Lucia, only if

the interest above mentioned was 'income arising and,

accruing' to it in 1921. It was held that though the

interest was a debt accruing in 1921, it was not 'income

arising or accruing' in 1921, and that the company was not

liable. The decision was based upon the meaning of the word

'income' as used in the Ordinance which was said to connote

the idea of something "coming in". Lord Wrenbury who

delivered the judgment of the Privy Council construed the

words "income arising or accruing" as money arising or

accruing by way of income and not "debts arising or

accruing". The learned Law Lord observed "A debt has

accrued to him (taxpayer) but income has not". It is clear

that the case related to the meaning of the word "Income" as

used in the Ordinance and can be no authority on the

question of the assessment of profits and gains under the

Indian Income-tax Act.

The next case relied upon is Dewar v. Commissioners of

Inland Revenue(2). In that case one of the executors be-

(1) [1924] A.C. 508. (2) [1935] 2 K.B. 351.

266

came entitled to a legacy which carried interest for such

time as it remained unpaid. The testator's estate was

sufficient at all material times to enable interest to be

paid on the legacy but the legatee acting on the advice of

his accountant did not demand the legacy or interest

thereon. It was held that as the legatee had not received

interest, there was no income in respect of which he could

be charged to sur-tax. The decision turned upon the

language of Schedule D, clause 1, sub-clause (b) of the

English Income Tax Act of 1918, as distinguished from clause

I (a). Clause I (a) deals with annual profits or gains

arising or accruing from any kind of property whatever......

but clause (b) imposes a tax in respect of "all interest of

money, annuities and other annual profits." Lord Hanworth.

M. R. drew the distinction between the two clauses and

observed that the case was one of interest of money and fell

under clause (b) and not under clause (a). Under that

clause the tax was limited.to any interest of money whether

the same is received and payable half-yearly or any shorter

or more distant period. The learned Master of the Rolls

observed: "If the interest on the legacy in this case has

not arisen to the respondent, if he had not become the

dominus of this sum, if it does not lie to his order in the

hands of his agent, can it be said that it has arisen to

him? I think the answer definitely upon the facts must be:

No. it has not."

Lord Maugham L. J. put the question thus: "I think in

the present case two circumstances may be accurately stated

in regard to the sum of pound 40,000 which it is said can be

brought into charge. The first is that the sum of pound

40,000 was not during the year of assessment a debt due by

the executors to Mr. Dewar, and secondly, that the sum in

question may never be paid or received at all."

The case of Commissioner of Taxes v. The Melbourne

Trust, Limited(1) turned on the construction of the charging

(1) [1914] A.C. 1001

267

section in the Income Tax Act 1903 of Victoria, whereby a

company was liable to pay tax upon the profits earned, in or

derived in or from Victoria...... In this case the surplus

realized by the assessees over the purchase price for the

assets sold after making all just deductions was taxed as

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profit but it was held that they were entitled to hold in

suspense part of the surplus realised to meet possible

losses on other assets and that under the circumstances the

profit was earned for the purposes of the Act only when

distributed to the share holders.

Having considered all these cases, we are of opinion

that neither of them has any bearing upon the facts and

circumstances of the present case.

Lastly it was urged that the commission could not be said

to have accrued, as the profit of the business could be

computed only after the 31st March, and therefore the com-

mission could not be subjected to tax when it is no more

than a mere right to receive. This argument involves the

fallacy that profits do not accrue unless and until they are

actually computed. The computation of the profits whenever

it may take place cannot possibly be allowed to suspend

their accrual. In the case of income where there is a

condition that the commission will not be payable until the

expiry of a definite period or the making up of the account,

it might be said with some justification, though we do not

decide it, that the income has not accrued, but there is no

such condition in the present case. Clauses 7 & 8 of the

agreement which relate to the payment of the commission and

the calculation of the profits mean no more than this that

the commission will be quantified only after certain

deductions had been made and not that the commission will

not accrue until the profits have been ascertained. The

quantification of the commission is not a condition

precedent to its accrual. If the profits of the company are

said to have accrued on the 31st of March, upon a parity of

reasoning, it must be conceded that the commission also

accrued on the same date. The date has as much to do with

the accrual of the commission as it has to do with the

accrual of the profits.

It was faintly suggested that the managing. agency was

not a business but this is immaterial for income-tax

purposes because section 13 will apply to cases both under

sections 10

268

and 12, so we refrain from deciding the point. We may, how-

ever, point out in passing that in two cases Tata Hydro-

Electric Agencies, Ltd. v. Commissioner of Income-tax

Bombay(1) and Commissioner of Income-tax. Bombay Presidency

v. Tata Sons Ltd.(2) it was assumed that the managing agency

is business but the point was directly decided in Inderchand

Hari Ram v. Commissioner of Income-tax, U.P. and C.P.(3)

that it is so.

For the foregoing reasons, we accept the view taken by

Viswanatha Sastri J. and allow the appeals. The respondent

shall pay the costs of the Commissioner both in this court

and before the High Court.

Appeals allowed.

Agent for the appellant: G. H. Rajaddhyaksha.

Agent for the respondent: S. Subramanian.