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PETITIONER:

IMPERIAL CHIT FUNDS (P) LTD.

Vs.

RESPONDENT:

INCOME TAX OFFICER, ERNAKULAM

DATE OF JUDGMENT: 19/03/1996

BENCH:

PARIPOORNAN, K.S.(J)

BENCH:

PARIPOORNAN, K.S.(J)

JEEVAN REDDY, B.P. (J)

CITATION:

1996 AIR 1887 JT 1996 (3) 410

1996 SCALE (3)20

ACT:

HEADNOTE:

JUDGMENT:

J U D G M E N T

PARIPOORNAN. J.

1. The appellant herein is M/s. Imperial Chit Funds

Private Limited, a company in liquidation, represented by

the Official Liquidator, High Court of Kerala. The

respondent is the Income Tax Officer, Ernakulam (the

Revenue). The Liquidator has filed this appeal from the

order passed by a Full Bench of the High Court of Kerala

dated 10.8.1978 and rendered in report No. 53 in C.P. No. 7

of 1973. In the said report the Official Liquidator prayed

that orders may be passed holding that income tax claimed by

the revenue is not payable at that stage, and that the

Income Tax Officer should wait and prove his claim before

the Official Liquidator when the list of creditors is

settled. The Full Bench, by the judgment appealed against,

negatived the said prayer made by the Official Liquidator in

his report. It is against the aforesaid judgment the

Official Liquidator representing the Imperial Chit Funds

Private Limited has come up in appeal.

2. The Imperial Chit Funds Pvt. Ltd. is a private company.

It was wound up as per orders passed by the High Court dated

1.6.1973 in C.P. No. 7 of 1973. After the commencement of

the winding up proceedings the Income Tax Officer finalized

the assessment of the company for the year 1972-73 by his

order dated 31.3.1975. He assessed the company to income tax

in the sum of Rs.934/- and levied an interest of Rs. 93/-

payable under Section 220(2) of the Income-tax Act. The

total amount thus payable was Rs. 1,027/-/-. The Official

Liquidator intimated the Income Tax Officer by his letter

dated 8.5.1975 that the tax and interest constituted debt

provable in the winding up proceedings. He stated that he

was not in a position to pay the amounts straightaway.

According to the Liquidator, the tax was due and payable

within 12 months before the relevant date mentioned in

Section 530 (8) (c) of the Companies Act and so, Section 530

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(1) (a) of the said Act will not apply to the instant case.

The Income Tax Officer the above intimation of the Official

Liquidator. He issued a certificate to the Tax Recovery

Officer and by his letter dated 8.12.1976 demanded a sum of

Rs.1,027/- to be paid immediately. A notice of demand was

accordingly issued. He also wrote to the Official Liquidator

by communication dated 15.1.1977 for payment of the amount

as per the notice of demand. Thereupon the Official

Liquidator filed report No.- 53 dated 20.1.1977, seeking

appropriate directions of the Court to the effect that the

tax claimed is not payable at that stage, and that the

Income Tax Officer should wait and prove his claim, when the

list of creditors is settled. The learned Company Judge took

the view that an important question arises for

consideration, namely, whether the legal effect of Section

178 of the Income-tax Act is that the Income Tax Officer is

entitled to the payment of the tax demanded otherwise than

as provided in the Companies Act. He also referred to an

earlier Division Bench decision of the High Court of Kerala

rendered in A.S. No. 224/1968 wherein it was held that the

amounts set aside under section 178 of the Income-tax Act

will not be available for distribution in accordance with

the provisions of the Companies Act and, therefore, there

was no question of any priority in the distribution of

assets. In view of some subsequent decisions, the learned

Company Judge felt considerable doubt about the correctness

of the aforesaid decision and referred the matter for being

heard by a Division Bench. The Division Bench of the High

Court of Kerala before whom the matter came up, by order

dated 27th June, 1977 referred the matter to a Full Bench

for decision and accordingly the matter was finally heard

and decided by a Full Bench. The judgment of the Full Bench

is reported in 116 ITR 176 (F.B.).

3. We heard Counsel for the appellant Mr. K. John Mathew

and Senior Counsel for the respondent-Revenue Mr. J.

Ramamurthy. The sole question that arises for consideration

in this case is, whether section 178 of the Income-tax Act

affects or alters the existing law so priority or overrides

the provisions of preferential payment provided in Section

530 of the Companies Act. There are conflicting decisions on

this point. A learned single Judge of the High Court of

Kerala, in Income Tax Officer, Ernakulam vs Indian Traders

Bank Ltd. (In Liquidation), 1968 KLT 595, took the view that

Section 178 of the Income-tax Act does not affect the scheme

of priority in Section 530 of the Companies Act, but, the

amount "set aside" under Section 178 of the Income Tax Act

will not be available for distribution in accordance with

the provisions of the Companies Act and should be first

applied to the satisfaction of the tax liability and gets

priority over other debts of the Company, in the same way,

as a secured creditor, who stands outside the winding up.

The said decision was affirmed in appeal by a Division Bench

in A.S. No. 225 of 1968. A Division Bench of the Andhra

Pradesh High Court in Income Tax Officer. B. Ward. Company

circle, Hyderabad v. Official Liquidator, 101 ITR 470, has

taken the same view. On the other hand, the High Courts of

Mysore, Calcutta, Rajasthan, Gujarat and Delhi, in the

decisions reported in Income-Tax Officer. Company Circle.

Bangalore v. Official Liquidator. Mysore High Court and

Others, 63 ITR 810 (Mysore), Official Liquidator, High

Court, Calcutta v. Commissioner of Income-Tax, 80 ITR 108

(Calcutta), Commissioner of Income Tax (central), New Delhi.

and Another v. Official Liquidator. Golcha Properties (Pvt.)

Ltd.. (In Liquidation), and Another, 95 ITR 488 (Rajasthan),

Baroda Board & Paper Mills Ltd. (In Liquidation) v. Income-

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Tax Officer, Circle I. Ward-E, Ahmedabad. and Others, 102

ITR 153 (Gujarat), Income-lax Officer. Company Circle XVII,

New Delhi, and Others v. Narula Finance P. Ltd. (In

Liquidation), 114 ITR 645, and Income-Tax Officer, District

II(2) Additional, New Delhi v. Official Liquidator. National

Conduits (P) Ltd.. 128 ITR 228 (Delhi) have taken a contrary

view and have held, that the provisions of Section 178 of

the Income-tax Act do not affect or alter the existing law

of priority and does not override the provision for

preferential payment contained in Section 530 of the

Companies Act. (Incidentally, we may state that the decision

of Gujarat High Court reported in 102 ITR. 153 was reversed

by this Court in the decision reported in 189 ITR 90, on

some other aspect and the same is not relevant herein.) The

sole question for our consideration is, which of the rival

views is correct.

4. In order to appreciate the controversy in question, it

will be useful to bear in mind the relevant provisions of

the Income-tax Act, 1961 and the Companies Act, 1956. The

relevant provisions are extracted hereinbelow:

Income-tax Act. 1961

"178. Company in liquidation.-- (1)

Every person-

(a) who is the liquidator of any

company which is being wound up,

whether under the orders of a court

or otherwise; or

(b) who has been appointed the

receiver of any assets of a company

(hereinafter referred to as the

liquidator) shall, within thirty

days after he has become such

liquidator, give notice of his

appointment as such to the

Assessing Officer who is entitled

to assess the income of the

company.

(2) The Assessing Officer shall,

after making such inquiries or

calling for such information as he

may deem fit, notify to the

liquidator within three months from

the date on which he receives

notice of the appointment of the

liquidator the amount which, in the

opinion of the Assessing Officer,

would be sufficient to provide for

any tax which is then, or is likely

thereafter to become. Payable by he

company.

(3) The liquidator-

(a) shall not, without the leave of

the Chief Commissioner or

Commissioner, part with any of the

assets of the company or the

properties in his hands until he

has been notified by the Assessing

Officer under sub-section (2); and

(b) on being so notified, shall set

aside an amount equal to the amount

notified and, until he so sets

aside such amount shall not part

with any of the assets of the

company or the properties in his

hands:

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Provided that nothing contained in

this sub-section shall debar the

liquidator from parting with such

assets or properties for the

purpose of the payment of the tax

payable by the company or for

making any payment to secured

creditors whose debts are entitled

under law to priority of payment

over debts due tc Government on the

date of liquidation or for meeting

such costs and expenses of the

winding up of the company as are in

the opinion of the Chief

Commissioner or Commissioner

reasonable.

(4) If the liquidator fails to give

the notice in accordance With sub-

section (1) or fails to set aside

the amount as required by sub-

section (3) or parts with any of

the assets of the company or the

properties in his hands in

contravention of the provisions of

that sub-section, he shall be

personally liable for the payment

of the tax which the company would

be liable to pay:

Provided that if the amount of any

tax payable by the company is

notified under sub-section (2), the

personal liability of the

liquidator under this sub-section

shall be to the extent of such

amount.

(5) Where there are more

liquidators than one, the

obligations and liabilities

attached to the liquidator under

this section shall attach to all

the liquidators jointly and

severally.

(6) The provisions of this section

shall have effect notwithstanding

anything to the contrary contained

in any other law for the time being

in force."

(Emphasis supplied)

Provisions of the Companies Act.

1956

"Suits stayed on winding up order.

446. (1) When a winding up order

has been made or the Official

Liquidator has been appointed as

provisional liquidator, no suit or

other legal proceeding shall be

commenced, or if pending at the

date of the winding up order, shall

be Proceeded with, against the

company, except by leave of the

Court and subject to such terms as

the Court may impose.

(2) The Court which is winding up

the company shall, notwithstanding

anything contained in any other law

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for the time being in force, have

jurisdiction to entertain, or

dispose of-

(a) any suit or proceeding by or

against the company;

(b) any claim made by or against

the company (including claims by or

against any of its branches in

India);

(c) any application made under

section 391 by or in respect of the

company;

(d) any question of priorities or

any other question whatsoever,

whether of law or fact, which may

relate to or arise in course of the

winding up of the company;

whether such suit or proceeding has

been instituted, or is instituted,

or such claim or question has

arisen or arises or such

application has been made or is

made before or after the order for

the winding up of the company, or

before or after the commencement of

the Companies (Amendment) Act,

1960.

(3) Any suit or proceeding by or

against the company which is

pending in any Court other than

that in which the winding up of the

company is proceeding may,

notwithstanding anything contained

in any other law for the time being

in force, be transferred to and

disposed of by that Court."

"Effect of winding up order.

447. An order for winding up a

company shall operate in favour of

all the creditors and of all the

contributories of the company as if

it had been made on the joint

petition of a creditor and of a

contributory."

"Custody of company's property.

456. (1) Where a winding up order

has been made or where a

provisional liquidator has been

appointed, the liquidator or the

provisional liquidator, as the case

may be, shall take into his custody

or under his control, all the

property, effects and actionable

claims to which the company is or

appears to be entitled."

"Distribution of property of

company.

511. Subject to the provisions of

this Act as to preferential

payments, the assets of a company

shall, on its winding up, be

applied in satisfaction of its

liabilities Pari passu and, subject

to such application, shall, unless

the articles otherwise provide, be

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distributed among the members

according to their rights and

interests in the company.

Inserted by the Companies

(Amendment) Act, 1985:

"Overriding preferential payments.

529. (1) Notwithstanding anything

contained in any other provision of

this Act or any other law for the

time being in force, in the winding

up of a company-

(a) workmen's dues; and

(b) debts due to secured creditors

to the extent such debts rank under

clause (c) of the proviso to

subsection (1) of section 529 pari

passu with such dues,

shall be paid in priority to all

other debts.

(2) The debts payable under clause

(a) and clause' (b) of sub-section

(1) shall be paid in full, unless

the assets are insufficient to meet

them, in which case they shall

abate in equal proportions."

"Preferential payments.

530. (1) In a winding up, subject

to the provisions of Section 529A,

there shall be paid in priority to

all other debts--

(a) all revenues , taxes, cases and

rates due from the company to the

Central or a State Government or to

a local authority at the relevant

date as defined in clause (c) of

sub-section (8), and having become

due and payable within the twelve

months next before that date;"

(Emphasis supplied)

5. Counsel for the appellant Mr. John Mathew laid stress

on Sections 446, 447, 529(1) (b), 530(1) (a) besides Section

448A, 449, 451, 456(2), 457(a), 511, 528 and 529 of the

Companies Act to show that the Official Liquidator is in

full charge of the Company in liquidation and that the

properties and assets of the company are in the custody of

the Court. It was further contended that Section 530(1)(a)

of the Companies Act provides for preferential payment of

revenues, taxes, cases and rates due from company to the

Central or the State Government or a local authority, and

the Companies Act is a complete Code providing for all

matters inclusive of the manner of payment of debts of the

company in liquidation. According to Counsel, Section 178 of

Income-tax Act, only provides for the procedure to be

followed by the person incharge of the company in

liquidation and information to be given to appropriate

persons regarding income tax dues, and the said Section does

not provide for priority of payments. It was contended that

Section 178 of the Income-tax Act is only limited in its

operation, and does not provide for preferential payments or

priority of payments, as provided in Section 530 of the

Companies Act. The argument was that Section 178 of the

Income-tax Act and the relevant provisions of the Companies

Act referred to herein are distinct and provide for

different contingencies. If it is not so understood, and

Section 178 of the Income-tax Act is interpreted as one

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providing for preferential payment also, it will lead to

disastrous consequences and completely set at naught the

scheme and the relevant provisions of the Companies Act with

regard to the winding up proceedings. Since the stage for

deciding for preferential payment has not reached, the

Income Tax Officer had no right to call upon the liquidator

to pay the amount and should wait for the stage when he can

prove the claim in the winding up proceedings. The

interpretation placed by the High Court on Section 178 of

the Income-tax Act as if it provides for a preferential

payment of income tax dues, has failed to give effect to the

relevant provisions of the Companies Act and the

significance of the winding up proceedings in its proper

context. The High Courts of Mysore, Calcutta, Rajasthan,

Gujarat and Delhi have understood Section 178 of the Income-

tax Act as not in any way providing for priority of payments

regarding income tax dues and the view expressed by the

Kerala and the Andhra Pradesh High Courts to the contrary

does not lay down the correct law. On the other hand,

Counsel for the revenue submitted that the decisions of the

Kerala and the Andhra Praesh High Courts have given due

importance to the legislative history and background leading

to the enactment of Section 178 of the Income-tax Act and

the crucial words contained in the section to hold that

Section 178 of the Income-tax Act is a special provision and

the amount which is to be set aside as per the said section,

stands outside the winding up proceedings and is not

available for distribution in accordance with the provisions

of the Companies Act at all. Counsel for the revenue further

argued that the preferential payment specified in Section

530 (1) (a) of the Companies Act and the mandate under

Section 178 of the Income-tax Act behaving the Liquidator to

set aside the amount notified by the Income Tax Officer,

sufficient to provide for any tax which is then or is likely

thereafter to become due and payable by the Company are of

different import and the view taken by the Kerala and Andhra

Pradesh High Courts that Section 178 of the Income-tax Act,

mandating that the amount "set aside" should be first

applied to the satisfaction of the tax liability, and is

outside the winding up proceedings, is justified in law. It

was further contended that except the Kerala and Andhra

Pradesh High Courts, the other High Courts have failed to

give due importance to the legislative history and

background which led to the enactment of Section 178 of the

Income-tax Act and the language used in the section.

6. In the judgment under appeal the High Court has

referred to the legislative history and background that led

to the enactment of Section 178 of the Income-tax Act, 1961.

The High Court has referred to the report of the Company Law

Reforms Committee which has been referred to in the decision

of the Andhra Pradesh High Court, wherein the plea for

priority of tax demands, particularly income tax, was dealt

with and it was observed that preferential right without

limit should not be conferred. The committee's

recommendations were not completely accepted by the

legislature. That apart, the report of the Direct Taxes

Administration Inquiry Committee was referred to

(Srinivasan's book on Income Tax Volume II, page 345),

wherein necessity was pointed out, for the Liquidator to

obtain tax clearance certificate or to compel him to set

aside the amounts to cover the amounts due under income tax

or amounts which may become due, and it was thereafter,

Section 178 of the Income-tax Act, 1961 was enacted in the

present form. After referring to the above materials in

paragraph No. 4 of the Judgment, the Full Bench of the High

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Court observed, thus:

"With respect, these decisions

(Decisions of other High Courts)

fail to take note of the object and

purpose with which Section 178 of

the Income-tax Act was put into the

statute book; and the significance

and the implications of "setting

aside" of an approximate amount

needed to meet the tax liability of

the company. These have been

noticed in the Kerala and the

Andhra decisions to which we shall

refer. Before we do so, we may

briefly indicate that the effect of

Section 178(3)(b) is that the

amount "set aside" by the

Liquidator is marked off as outside

the area of the winding up

proceedings and the jurisdiction of

the winding up court. This is the

view taken by the Kerala High Court

and we are in agreement with it;"

We would only add that the scope of Section 530(1)(a) is

different from that of Section 178 of the Income-tax Act.

Under Section 530(1)(a) all taxes which have

Act although its effect no doubt is

that the amount set aside under

sub-section (3) thereof has first

to be applied to the satisfaction

of the tax liability and in that

sense the tax liability gets

priority over the other debts of

the company in the same way as a

secured creditor who stands outside

the winding up, or whose security

'is redeemed under sub-section (4)

of section 47 of the Provincial

Insolvency Act read with section

529 of the Companies Act, gets

priority to the extent of the value

of his security. But, although sub-

section (3) of section 178 of the

Income-tax Act, which speaks of the

liquidator making "payment to

secured creditors whose debts are

entitled under law to priority of

payment over debts due to

Government" the only payment I can

think of by the liquidator to a

secured creditor who has not

relinquished his security is a

payment under sub-section (4) of

section 47 of the Provincial

Insolvency Act, or to a creditor

who, although he has to

relinquished his security, has

agreed to the liquidator selling

the property free of his

encumbrance on condition of his

being given the same charge over

the sale proceeds -- seems to

regard' these as cases of priority,

they are really not so much cases

of priority as of the particular

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asset not being available for

distribution among the creditors in

the winding up. They stand on the

same footing as, for example, trust

funds. What is really available for

distribution are the assets which

come into the hands of the

Liquidator minus the trust monies,

or the encumbrance of a secured

creditor, or, in a case falling

under section 178 of the Income-tax

Act, the amount set aside or

earmarked for the payment of the

tax. For, reading subsections (2),

(3) and (4) of that section

together there can be no doubt that

what the section does is to create

a first charge on the amount set

aside by sub-section (3) thereof

for payment of the tax that might

be admitted to proof. To say as the

liquidator has done that the amount

is set aside only for the purpose

of paying the dividends that might

be declared in respect of the tax

liability and not the entire

liability as proved in the winding

up, so that the section serves only

the limited purpose of ensuring

that the assets of the company are

not distributed beyond recall

without reserving sufficient funds

for the payment of dividends in

respect of the tax liability which

might not yet have been determined,

and therefore not proved, is hardly

in keeping with the wording of the

section defective though it be.

Sub-section (2) of the section, it

may be noted, speaks of the tax

payable by the company, and, sub-

section (4), of the payment of the

tax on behalf of the company, not

of the dividends payable in respect

of the tax liability. What the

section contemplates is the payment

of the tax eventually found due out

of the amount set aside, not the

payment of dividends in respect of

the tax eventually found due. And,

if this brings the section into

conflict with section 530 of the

Companies Act, the section must

prevail by reason of sub-section

(6) thereof -- the question why

income-tax alone of all Government

dues should ride this high horse is

not for me to answer. But, for the

purposes of section 530 of the

Companies Act, the tax liability is

an ordinary and not a preferential

claim and it is only out of the

amount set aside under sub-section

(3) of section 178 of the Income

tax Act, that the Revenue can claim

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payment of its debt to the

exclusion of other creditors."

And the Division Bench in A.S. No. 225/1968, affirming the

above decision, observed thus:

"............... we cannot ignore

the provision in sub-section (2) of

section 178 that the amount to be

notified is not only the amount for

which preference is given under

Section 530 of the Companies Act,

1956 but the entirety of the

income-tax dues of the company

including that which may thereafter

become payable. When we read this

provision with the provision in

sub-section (4) of section 178 of

the Act which makes Liquidator

personally liable for the payment

of the Tax which the company would

be liable to pay if the Liquidator

failed to give notice in accordance

with sub-section (1) of Sec. 178,

it, appears to us that the

provision in Sec. 178(3) imports

much more than that was contended

by Counsel for the appellant. This

is the view that has been taken in

the judgment under appeal which, if

we may say with great respect,

deals with all aspects in a few

sentences. We respectfully agree

with the view taken by the learned

Judge."

Approving the above dicta, the Full Bench has further laid

stress on the crucial words occurring in Section 178 (2),

178 (3)(b) of the Income-tax Act, which behaves the Official

Liquidator to "set aside the amount" equal to the amount

notified by the Income Tax Officer and held that these words

mean "keeping separate for special purpose" and the words

"set aside" or "set apart" are synonymous with the word

"appropriate". The Full Bench has observed in paragraph 6 of

the judgment thus:-

"The shades of meaning thus

attached to the expression 'set

aside' convey the idea of an

appropriation or an allocation of

the income-tax dues; with the

result, that it stands outside the

winding up by the Company Court an

idea suggested in the judgment of

Ag. Chief Justice Raman Nayar,

confirmed by the Division Bench."

The Andhra Pradesh High Court in the decision reported in

I.T.O. v. Official Liquidator, 101 ITR 470, has taken a

similar view. We are of the opinion that the judgment of the

learned single Judge of the Kerala High Court I.T.O. v.

Indian Traders Bank Ltd., 1968 KLT 595, affirmed in A.S. No.

225/68 and approved by the Full Bench in the judgment under

appeal as also the decision of the Andhra Pradesh High Court

in I.T.O. v. Official Liquidator, 101 ITR 470, lay down the

law correctly. On a total view of the relevant statutory

provisions, it appears to us, that the Income Tax

Department, is treated as a "secured creditor". The

decisions of the Mysore, Calcutta, Rajasthan, Gujarat and

Delhi High Courts have failed to give due importance to the

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legislative history and background that held to the

enactment of the section and the crucial words occurring in

Sections 178(3) and 178(4) of the Income-tax Act to the

effect that the Official Liquidator "shall set aside" the

amount notified by the Income Tax Officer and if it is not

so done, the Official Liquidator is personally liable to pay

the amount of tax which the company would be liable to pay.

It should be remembered that Section 178 of the Income-tax

Act occurs in Chapter XV of the Act. The object sought to be

achieved by the provisions in the said Chapter is "to fasten

liability to pay the tax" on the income received and to

catch the income at the earliest point of time and tax the

same where it is found, instead of waiting for long. We,

therefore, hold that the judgment under appeal does not

merit interference by this Court.

8. During the course of hearing, our attention was drawn

to Section 17 of the Central Sales Tax Act, 1956 which is

similar to Section 178 of the Income-tax Act, 1961. We are

of the view that the interpretation placed by us on Section

178 of the Income-tax Act, should govern cases arising under

Section 17 of the Central Sales Tax Act, 1956 as well. But,

a situation may arise where the authorities under both the

Acts (Income-tax Act as well as Central Sales Tax Act) send

similar orders to the Official Liquidator, in which case the

question of precedence may arise. In our opinion, in such

cases, the priority shall be with respect to the date of

receipt of the orders by the Official Liquidator.

9. We affirm the judgment under appeal. This appeal is

without merit and is, therefore, dismissed. There shall be

no orders as to costs.