Commissioner of Income Tax vs J.B. Lohada

Jeevan Reddy, J.—The Income Tax Appellate Tribunal, Hyderabad, has referred the following five questions u/s 256(2) of the Income Tax Act, 1961. They are :

"(1) Whether, on the facts and in the circumstances of the case, the amount of Rs. 2 lakhs received by the assessee could not be considered as a revenue receipt ?

(2) Whether, on the facts and in the circumstances of the case, the provisions of section 28(ii) of the Income Tax Act, 1961, are not applicable to the facts of the case ?

(3) Whether, on the facts and in the circumstances of the case, the amount of Rs. 2 lakhs could not be brought to tax for the assessment year 1971-72 ?

(4) Whether, on the facts and in the circumstances of the case, the amount of Rs. 55,000 received by way of interest was not taxable for the assessment year 1971-72 ?

(5) Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was justified in holding that the amount of interest of Rs. 55,000 received on February 23, 1970, is taxable in the financial year when the assessee returned his income for the year ending December 31, 1970 ?".

The assessee is the managing director of "Sunder Shila (P.) Ltd.". He filed a return on August 22, 1973, for the assessment year 1971-72 disclosing an income of Rs. 14,614, comprising of Rs. 12,000 being the salary received from the said company, and Rs. 5,614 being the interest received from bank less Rs. 3,000 deductible therefrom u/s 80L. This return was filed in his individual capacity. At about the same time, he filed a return in respect of the Hindu undivided family of which he was the karta. In Part III of this return, he stated that he had received a sum of Rs. 2,00,000 from the Nizam of Hyderabad in pursuance of an agreement dated November 3, 1969, towards liquidated damages but that the said sum belongs to him in his individual capacity. The Income Tax Officer, alerted by the said entry in Part III of the return filed by the Hindu undivided family, sought to include the said sum of Rs. 2 lakhs in the individual assessment of the assessee. According to him, the said amount constituted the assessee''s income by virtue of clause (ii) of section 28 of the Income Tax Act. He overruled the contention of the assessee that it represented a capital receipt in his hands. He noticed further that the assessee had received another sum of Rs. 55,000 from the Andhra Pradesh Industrial Development Corporation Ltd. (APIDC), which was paid to him on behalf of the Nizam in pursuance of the agreement aforesaid, by way of interest. With respect to this amount, the assessee''s case was that he had apportioned the said interest amount among the relevant assessment years and that the whole of it cannot be included in the income of the assessment year 1971-72. This contention was rejected and the said amount also was included in the assessee''s individual income. The order of the Income Tax Officer was upheld by the Appellate Assistant Commissioner. A further appeal to the Appellate Tribunal, however, proved successful. The Tribunal held (i) the amount of Rs. 2 lakhs was paid by the Nizam on account of termination of the earlier agreement dated July 23, 1964; that the said earlier agreement constituted a profit-making apparatus and a capital asset in the hands of the assessee and, therefore, the receipt was capital in nature; even if the said amount is treated as liquidated damages, it cannot be treated as a revenue receipt; (ii) the sum of Rs. 2 lakhs cannot be treated as income, u/s 28(ii)(a) of the Act, inasmuch as it cannot be treated as a payment on account of termination of the managing directorship of the assessee. The assessee had resigned the managing directorship two years ago; there was no real or reasonable connection between the resignation/termination of the managing directorship and the said payment; (iii) in any event, the said amount of Rs. 2 lakhs cannot be brought to tax in the accounting year relevant to the assessment year 1971-72, and (iv) so far as the interest amount of Rs. 55,000 was concerned, it is not includible in the income for the said assessment year, for the reason that it cannot be said to have been received in the accounting year relevant to the assessment year 1971-72. Of the five questions, questions Nos. (1) to (3) deal with the sum of Rs. 2 lakhs and questions Nos. (4) and (5) with the interest amount of Rs. 55,000.

For a proper appreciation of the questions referred, it is necessary to notice a few more facts. The A.P. Industrial Development Corporation Ltd., an agency of the State, had entered into a collaboration agreement with Koyo Seiko Company Ltd., and Marubeni Lida Company Ltd., Japan, for setting up a manufacturing and bearing plant. On July 23, 1964, an agreement was entered into between APIDC on the one hand, and Sri Gevarchand Jain on the other, whereunder it was agreed that a public limited company should be set up before September 1, 1964, with an authorised capital of Rs. 5 crores. The initial capital was to be in a sum of Rs. 2 crores, made up of 15,00,000 equity shares of Rs. 10 each and 50,000 preference shares of Rs. 100 each. The Andhra Pradesh Industrial Development Corporation was to subscribe 25% of shares, G. Jain and his associates, including the then Nizam of Hyderabad, were to subscribe 24% of the shares, the Japanese company was to subscribe 12% of the shares, and the balance 39% was to be offered for public subscription. Both APIDC and Jain''s group were to subscribe certain amounts at certain intervals, which It is not necessary to be stated here. On the same day, an agreement was entered into between G. Jain and the then Nizam of Hyderabad, whereunder the Nizam agreed to take a certain number of equity shares and to pay a sum of Rs. 30 lakhs therefore. A sum of Rs. 10 lakhs was to be paid in the first instance, a sum of Rs. 5 lakhs on a particular date thereafter, and the balance at later date. The Nizam paid the sum of Rs. 15 lakhs as agreed thereunder Meanwhile, the assessee stepped into the shoes of Jain in pursuance of an arrangement arrived at between them. A company known as "Indo-Nippon Precision Bearings Ltd." was incorporated on October 25, 1964. The assessee contributed certain moneys and obtained the allotment of certain shares, inasmuch as he had stepped into the shoes of G. Jain. He was appointed as managing director on a salary of Rs. 18,000 a year. Before the plant could be actually set up, the Nizam of Hyderabad died on February 24, 1967. Because of certain tax and other problems, the successor Nizam found it difficult to abide by the agreement and to pay the further sum Rs. 15 lakhs payable by him under the agreement between him and Jain Indeed, he resiled from the agreement and called upon the APIDC to refund the sum of Rs. 15 lakhs already paid by the deceased Nizam. The letter of the successor Nizam dated March 2, 1967, resiling from the agreement and demanding the refund of Rs. 15 lakhs was forwarded by the APIDC to the assessee, asking him to make appropriate arrangement. Though the assessee tried his best to persuade the Nizam to abide by the agreement, he was unsuccessful. His attempts to find other financiers also proved fruitless. Thereupon, the assessee informed the APIDC that he would not be able to go ahead with the venture by himself. In these circumstances, the APIDC terminated the arrangement entered into earlier and decided to set up the said unit in the public sector, to be run by the Government. The assessee resigned from the post of the managing director on August 21, 1967. The APIDC also refunded certain amounts to the Nizam and the assessee.

It is evident from the above facts that a proposed venture, which had been acted upon to some extent, suddenly failed on account of the refusal of the successor Nizam to abide by the agreement. It appears that the assessee threatened the successor Nizam with a suit for specific performance or in the alternative for damages for breach of contract. Negotiation were held between them, which ultimately resulted in the agreement dated November 3, 1969. Under this agreement, the successor Nizam agreed pay a sum of Rs. 2 lakhs by way of liquidated damages in full and final settlement of all the demands and claims of the assessee against the Nizam arising from the non-implementation of the aforesaid agreement, etc. The amount was to be paid to the assessee in the manner specified in the agreement. Besides the above, a further sum of Rs. 55,000 was also to be paid by the successor Nizam towards interest on the said sum of Rs. 2 lakhs. In accordance with this arrangement, the assessee received a sum of Rs. 2,55,000 on February 23, 1970; in the form of a cheque issued by the APIDC as contemplated by the agreement dated November 3, 1969.

We shall first consider questions Nos. (3) and (4), viz., whether the sum of Rs. 2,55,000 received by the assessee on February 23, 1970, can be brought to tax for the assessment year 1971-72. The Appellate Tribunal held that it cannot be so brought to tax, on two grounds, viz., (i) the said mount must be deemed to have accrued to the assessee on the date of the agreement, i.e., November 3, 1969, which falls outside the financial year relevant to the assessment year 1971-72. Even if it is taken that the calendar year 1970 was the accounting year relevant to the assessment year 1971-72, even then it must be held that the said amount accrued to the assessee earlier to the commencement of the said accounting year; and (ii) even if the cash basis is adopted, the said receipt cannot be brought to tax in the assessment year 1971-72. The assessee has not maintained any accounts, in which case it must be deemed that the financial year constitutes the accounting year for the assessee, and the said payment having been received prior to April 1, 1970, cannot be brought to tax in the assessment year 1971-72. In the statement of case submitted to this court u/s 256(2), the Tribunal has stated clearly that the assessee has not maintained any accounts. That is also the basis of its judgment. In paragraph 18 (d), the opening sentence runs like this :

"It is not the case of the Department that the assessee has maintained the accounts ..."

The same idea is repeated towards the end of the said paragraph. We must, therefore, proceed on the footing that the assessee has not maintained any accounts.

Section 3 of the Act defines "previous year". It is sufficient for our purposes to notice clauses (a) and (b) in sub-section (1) of section 3, which read as follows :

"3. (1) For the purposes of this Act, ''previous year'' means -

(a) the financial year immediately preceding the assessment year; or

(b) if the accounts of the assessee have been made up to a date within the said financial year, then, at the option of the assessee, the twelve months ending on such date; or ..."

It would be evident from a perusal of the above clauses that, ordinarily, previous year means the financial year immediately preceding the assessment year. But, where the accounts of the assessee have been made up to a date within the said financial year, then, at the option of the assessee, the period of twelve months ending on such date shall be the accounting year. Now, once the Tribunal finds that the assessee has not maintained any accounts, his accounting year should be the financial year. The financial year relevant to the assessment year 1971-72 would be April 1, 1970 to March 31, 1971. The agreement dated November 3, 1969, and the actual date of receipt, i.e., February 23, 1970, both fall outside the said accounting year/financial year.

Mr. M. Suryanarayana Murthy, learned standing counsel for the Revenue, contended that, according to column 6 in the preamble to the assessment order (pertaining to the individual assessment of the assessee herein), the accounting period is shown as the period ending on December 31, 1970, which means, according to learned counsel, that the calendar year 1970 was the accounting year for the assessment year 1971-72. Learned counsel further submits that once the calender year was adopted as the assessment year by the assessee, the same accounting year would also be taken as the previous year for other heads of income, if any, unless the assessee indicates otherwise and the Income Tax Officer accepts the same. In this case, the assessee never indicated that he wishes to have any other previous year for income arising from other heads, nor did the Income Tax Officer agree to the same. If so, learned counsel argues, the receipt of the said sum of Rs. 2,55,000 on February 23, 1970, would fall within the said accounting year adopted by the assessee. We find it difficult to agree with this submission. While it is true that in the preamble to the assessment order it is mentioned that the accounting period relevant to the said assessment year ended on December 31, 1970, the said entry is inconsistent with the finding that the assessee has not maintained any accounts. As stated earlier, the Tribunal''s order states repeatedly that the assessee has not maintained any accounts. Indeed, the observation is that it is not even the case of the Revenue that the assessee maintained any accounts. If so, it is inexplicable as to how the assessee could have a previous year different from the financial year. Learned standing counsel for the Revenue could not explain the said inconsistency. In the circumstances, we are inclined to proceed on the assumption that the assessee has not maintained any accounts, in which case its previous year would be the financial year. In such a case, the date of the agreement, as well as the date of actual receipt of money, both fall outside the said financial year/previous year. We, therefore, hold on questions Nos. (3) and (4) that the two sums, i.e., Rs. 2,00,000 and Rs. 55,000, cannot be brought to tax for the assessment year 1971-72.

We may now take up question No. (2). On this aspect, the finding of the Tribunal - with which we are inclined to agree - is that the said sum of Rs. 2 lakhs cannot be treated as a payment on account of termination of the managing directorship of the assessee. The said sum was arrived at between the parties by way of compromise when the assessee threatened to sue the late Nizam for specific performance of the agreement and other reliefs While it cannot be denied that the loss suffered by the assessee on account of the sudden failure of the venture resulting in loss of his office (he had no option but to resign the said office in the circumstances) must necessarily have been in - the contemplation of the parties when they arrived at the said sum, it is difficult to apportion the amount towards this consideration Indeed, the agreement dated November 3, 1969, states that the said amount is agreed to be paid to the assessee in lieu of the three things stated therein, viz., (a) the assessee co-operating with the Nizam in getting back the securities deposited by the Nizam with the APIDC; (b) the assessee not filing a suit for specific performance, and (c) the assessee waiving all his rights which he had under the earlier agreement. It is thus clear that damages for wrongful termination of the managing directorship is not one of the grounds stated in lieu of which the said amount was paid. But, as we have said earlier, the said circumstance must necessarily have been in the contemplation of the parties. We do not, however, think that at this distance of time - and when no effort has been made by the authorities under the Act to apportion the said amount - it is a proper course for this court to remand the matter to apportion the said amount and to determine what part of it is relatable to the termination of the managing directorship of the assessee. In the circumstances, question No. (2) also is answered in the affirmative, i.e., in favour of the assessee and against the Revenue.

In view of our answer on questions Nos. (3) and (4) and on question No. (2) we are not inclined to go into and examine questions Nos. (1) and (5) referred to us, inasmuch as they are merely academic, in our opinion, We, therefore, decline to answer questions Nos. (1) and (5).

For the above reasons, questions Nos. (2), (3) and (4) are answered in favour of the assessee and against the Revenue. There shall be no order as to costs.