Commissioner of Income Tax vs Shivlal Dhirajlal

R.C. Mankad, J.—The assessee is a registered partnership firm having its head office at Jamnagar and three branches - one at Jamnagar

and two at Rajkot. One of the branches at Rajkot is run in the name and style of ""Harsukhlal and Brothers"". The controversy involved in this

reference is confined to the business carried on by the Rajkot branch, running in the name of Harsukhlal and Brothers and, therefore, we need not

set out the details of the business carried on by the assessee-firm at Jamnagar and the other branch at Rajkot. The branch in the name of

Harsukhlal and Brothers deals in foodgrains, sugar, oil, etc., on wholesale basis. It also carries on business as a commission agent. It appears that

the main source of income of this branch is adat, i.e., commission on purchase and sale of goods of other parties. In Samvat year 2017, which is

relevant to the assessment year 1962-63, the commission account of Harsukhlal and Brothers showed net receipts of Rs. 3,06,086. The assessee-

firm claimed deduction of Rs. 27,035, on the ground that the amount due from the firm of Tataram Ramjilal had become a bad debt. It is this claim

for deduction of Rs. 27,035 which is the subject-matter of this reference. The facts relevant to this claim for deduction are as follows :

The firm of Tataram Ramjilal had entered into a forward contract for purchase of 8,000 tins of ground nut oil through the assessee-firm. The

market price of ground-nut oil was falling and, therefore, the assessee-firm ""tried to cover transactions in order to reduce its losses"" It drew hundis

in favour of the firm of Tataram Ramjilal, but the hundis were dishonoured. The assessee-firm thereupon settled the transaction by selling 8,000 tins

of ground-nut oil to avoid further loss. There is no dispute that there was no actual delivery of 8,000 tins of ground-nut oil. The assessee-firm, as a

result of the said transaction, had to suffer a loss of Rs. 27.055, which it claimed from the firm of Tataram Ramjilal. The firm of Tataram Ramjilal,

however, did not pay the said amount as claimed by the assessee-firm and, therefore, the assessee-firm filed a suit to recover the said amount from

the firm of Tataram Ramjilal. The civil court, however, dismissed the suit of the assessee-firm, holding that (1) the transaction was settled without

the instructions of the constituent, i.e., the firm of Tataram Ramjilal, and (2) the transaction was illegal as it was hit by the provisions of the

Saurashtra Ground-nut and Ground-nut Products (Forward Contracts prohibition) Order, 1949 (""the Order of 1949"" for short). The assessee-

firm claimed deduction of Rs. 27,035 as a bad debt. The Income Tax Officer, while framing the Income Tax assessment for the year 1962-63,

rejected the assessee-firm''s claim for deduction of Rs. 27,035 as a bad debt on the ground that the settlement of transaction by the assessee-firm

was without authority of the firm of Tataram Ramjilal and that the loss had occurred as a result of the transactions which were in the nature of

wagering and illegal speculative transactions prohibited by the Order of 1949. In the appeal preferred by the assessee, the Appellate Assistant

Commissioner held to the effect that, though the assessee-firm has apparently claimed deduction of Rs. 27,035 as a bad debt, the claim arose out

of speculative transactions. Therefore, according to the Appellate Assistant Commissioner, the claim should be taken as a claim for loss arising

from speculation business. Such speculation loss, according to the Appellate Assistant Commissioner, had to be set off against speculation profit

and in the absence of such profit, it was required to be carried forward to future years, as per the provisions of the Income Tax Act, 1961 (""the

Act"" for short). Being aggrieved by the order of the Appellate Assistant Commissioner, the Revenue preferred an appeal before the Income Tax

Appellate Tribunal (""the Tribunal"" for short). The assessee-firm, which also felt aggrieved by the order of the Appellate Assistant Commissioner,

filed cross-objections in the appeal preferred by the Revenue.

It was urged on behalf of the assessee before the Tribunal that the Appellate Assistant Commissioner has erred in holding that deduction of Rs.

27,035 was claimed as loss in speculation business. It was urged that the deduction of the said amount should have been allowed against business

income. On the other hand, it was urged on behalf of the Revenue that before loss of Rs. 27,035 could be carried forward as held by the

Appellate Assistant Commissioner had, however, not reached such a conclusion. In this connection, reliance was placed on the decision of the

Supreme Court in Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, . The Tribunal found that the Appellate Assistant Commissioner had

not considered whether the transactions in respect of which loss was claimed were from the same business of the assessee-firm. The Tribunal held

that the Appellate Assistant Commissioner had also not considered the claim of the assessee-firm that it had claimed deduction of Rs. 27,035 as a

bad debt and that such claim arose in the assessee-firm''s business as commission agent. In this view of the matter, the Tribunal set aside the order

of the Appellate Assistant Commissioner and directed him to considered the contentions raised by the Revenue and the assessee and render his

decision in accordance with law, keeping in view the decision of the Supreme Court in Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, , if

it was applicable to the facts of the case.

After the matter was remanded, the Appellate Assistant Commissioner reheard the appeal of the assessee. The Appellate Assistant

Commissioner held that the assessee-firm had not entered into speculative transactions on its own behalf, but it had entered into these transactions

while acting on behalf of its constituents. That being the position, according to the Appellate Assistant Commissioner, it could not be said that the

loss which the assessee-firm had claimed arose from a speculative transaction. The Appellate Assistant Commission further held that, since the

assessee-firm had failed to recover the amount claimed as loss from its constituent, it did not become a bad debt. According to the Appellate

Assistant Commissioner, the loss did not arise from trading activity. He further held that the loss, deduction of which was claimed by the assessee-

firm, arose from transactions which were held by the court to be illegal. He further held that the decision of the Supreme Court in the case of

Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, was applicable to the facts of the instant case and, since the debt or loss arose from illegal

transactions, the assessee-firm was not entitled to claim deduction thereof from other income. In this view of the matter, the Appellate Assistant

Commissioner dismissed the appeal of the assessee-firm.

Being aggrieved by the order of the Appellate Assistant Commissioner, the assessee-firm again carried the matter in appeal before the Tribunal.

The Tribunal held that, in order to consider the claim for deduction made by the assessee-firm in the Income Tax assessment, it was not concerned

with the legality or illegality of the transactions. The assessee-firm had suffered loss because its constituent declined to honour the claim. It further

observed that the Appellate Assistant Commissioner to whom the matter was sent back specifically to examine the question whether the loss had

occurred in the same business or not had failed to examine this question and he had merely emphasised the aspect of illegality of the transaction

and proceeded to reject the claim of the assessee-firm on that ground. The Tribunal held that the assessee-firm is a commission agent and, as such,

it is ""responsible for the obligations or debts of its constituents towards third parties"". Therefore, according to the Tribunal, the transaction was

clearly one which related to the assessee-firm''s business and, therefore, the loss claimed by it was an allowable one. In reaching this conclusion,

the Tribunal placed reliance on the decision of the Andhra Pradesh High Court in BADRINARAYAN BALAKISHAN Vs. COMMISSIONER

OF Income Tax, A.P., . In the result, the Tribunal allowed the appeal of the assessee-firm, holding that it was entitled to claim deduction of the loss

of Rs. 27,085.

The Revenue, being aggrieved by the order of the Tribunal, sought reference and the Tribunal has referred to us, for our opinion, the following

questions u/s 256(1) of the Act :

(1) Whether, on the facts and in the circumstances of the case, the Income Tax Appellate Tribunal was right in law in holding that the assessee

was entitled to claim deduction of the loss of Rs. 27,035 ?

(2) Whether, on the facts and in the circumstances of the case, the Income Tax Appellate Tribunal was right in law in coming to the conclusion that

the transaction in question related to the assessee''s business and the loss of Rs. 27,035 was an allowable deduction against the business income of

the assessee ?

(3) Whether the Appellate Tribunal was right in law in holding that, in order to consider the claim for deduction in the Income Tax assessment of

the assessee, the Tribunal was not concerned with the legality or illegality of the transaction and the assessee being a commission agent and as such

being responsible for the obligations or debts of his constituents towards third parties was entitled to the claim deduction of the loss of Rs. 27,035

?

The assessee-firm has claimed deduction of Rs. 27,035 as a bad debt u/s 36(1)(vii) of the Act. In the alternative, it claims deduction of the said

amount as loss suffered in its business of commission agency u/s 28(i) of the Act. It is submitted that, if both the aforesaid claims of the assessee-

firm are rejected, the assessee-firm is entitled to claim deduction of the said amount as loss suffered in speculative transactions u/s 43(5) or on the

principles laid down by the Supreme Court in the case of Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, .

The Tribunal, in its order, out of which this reference arises, has not held that the assessee-firm was entitled to claim deduction of Rs. 27,035 as

a bad debt u/s 36(1)(vii) of the Act. The Tribunal has all throughout described it as a loss suffered by the assessee-firm. It appears from the order

of the Tribunal that the assessee-firm had suffered the loss as its constituent declined to honour the claim made by the assessee-firm. The assessee-

firm, as a commission agent, was under an obligation to discharge the liability of its constituent towards a third party and, as such, the transaction

out of which the loss arose related to the assessee-firm''s business. The assessee-firm was, therefore, entitled to claim deduction of the said loss

arose was illegal. While reaching this conclusion, though the Tribunal has not referred to section 28(i) of the Act, it would appear that it had

allowed the assessee-firm''s claim for deduction of the loss under the said provision. The assessee-firm has not sought a reference and no question

has been referred to us at its instance. Therefore, it is not necessary for us to consider whether the assessee-firm is entitled to claim deduction of

Rs. 27,035 as a bad debt u/s 36(1)(vii) of the Act. But, apart from that, we do not find any substance in the claim made by the assessee-firm. As

pointed out above, the assessee-firm had entered into a forward contract for purchase of 8,000 tins of ground-nut oil on behalf of the firm of

Tataram Ramjilal. The price of ground-nut oil was going down and, in order to reduce the losses and to cover the transactions, it drew hundis in

favour of the firm of Tataram Ramjilal. These hundis were dishonoured. The assessee-firm, therefore, to avoid further loss, settled the transactions

by selling 8,000 tins of oil for which it had entered into a forward contract. Admittedly, there was no delivery of 8,000 tins of oil. It was as a result

of the said transaction that the assessee-firm suffered loss of Rs. 27,035. The assessee-firm sought to recover this amount from the firm of Tataram

Ramjilal by filing a civil suit in the civil court. The civil court, however, dismissed the suit holding that the assessee-firm settled this transaction

without any authority from the firm of Tataram Ramjilal and that the transaction was illegal inasmuch as it was in violation of the provisions of the

Saurashtra Ground-nut and Ground-nut Products (Forward Contracts Prohibition) Order, 1949. Since the competent court has held that the

assessee-firm is not entitled to recover the said amount from the firm of Tataram Ramjilal, the amount can hardly be described as a debt due from

the firm of Tataram Ramjilal and much less a bad debt. The assessee-firm is, therefore, not entitled to claim deduction of the said amount as a bad

debt u/s 36(1)(vii) of the Act.

Now, the next question is whether the assessee-firm is entitled to claim deduction of Rs. 27,035 as a loss suffered by it, in its business, u/s 28(i)

of the Act. As already observed above, the Tribunal seems to have allowed the claim of the assessee-firm for deduction of the said amount u/s

28(i) of the Act, though it has specifically not said so. The Tribunal is of the view that the assessee-firm, as a commission agent, was under an

obligation to discharge the liability of its constituents towards third parties and it was in discharge of this liability of its constituent that it had suffered

loss of Rs. 27,035. The loss was suffered in the business which the assessee-firm was carrying on as a commission agent. Therefore, even if the

transaction which the assessee-firm had entered into on behalf of its constituent was illegal, it was entitled to claim deduction of the amount as loss

suffered in its business. It is difficult to subscribe to the view taken by the Tribunal. The transaction in which the assessee-firm suffered loss was

without any authority of the firm of Tataram Ramjilal, as held by the civil court. Therefore, this transaction could not be said to have been entered

into by the assessee-firm as a commission agent of the firm of Tataram Ramjilal. The transaction was the transaction of the assessee-firm itself and

not of the firm of Tataram Ramjilal. That being the position, the loss which the assessee-firm had suffered could not be said to have been suffered

by it in the course of its business as a commission agent. There is no dispute that the transaction is hit by the provisions of the Order of 1949 and,

therefore, it is illegal. The transaction was a speculative transaction arising out of a forward contract which was entered into by it and the

transaction was settled otherwise than by delivery of goods sold. There is, therefore, no doubt that the loss which the assessee-firm had suffered

was as a result of the illegal speculative transaction entered into by it. It is, however, urged on behalf of the assessee-firm that, even if the loss

suffered by it is in an illegal transaction, it is entitled to claim deduction of the loss while computing its profits for the purpose of working out income

chargeable to tax u/s 28(i) of the Act. This submission cannot be upheld in view of the decision of the Supreme Court in Commissioner of Wealth-

tax, Gujarat Vs. S.C. Kothari, .

The decision of the Supreme Court in Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, , was rendered in the context of the Indian

Income Tax Act of 1922 (""the Act of 1922"" for short). This decision would be applicable even in the case of a claim in respect of speculative

losses under the Income Tax Act, 1961. The scheme of set off of speculative losses contained in section 24(1) of the Act of 1922 is retained in the

Act and the corresponding provisions which have a bearing in this reference are almost the same. Section 28(i) of the Act corresponds to section

10(1) of the Act of 1922, whereas section 43(5) of the Act corresponds to section 24(1) of the Act of 1922. In Commissioner of Wealth-tax,

Gujarat Vs. S.C. Kothari, before the Supreme Court, during the assessment year 1958-59, the assessee, S. C. Kothari, entered, inter alia, into

two classes of contracts in ground-nut oil, ground-nut seeds and ground-nut cakes, one of which consisted of forward contracts which were,

admittedly, not in violation of any prohibition imposed under the Forward Contracts (Regulation) Act, 1952, while the other consisted of forward

contracts which, according to the Revenue, in that case, were in violation of the prohibition imposed under sections 15(1) and 15(4) of the said

Act. The assessee made a profit in the first set of contracts and incurred los in the second set of contracts. The assessee also made a profit in his

other businesses, which did not consist of forward contracts. The claim of the assessee to set off the loss in the illegal speculative transactions

against his profits in legal forward contracts as well as other businesses was negative by the Income Tax Officer on the ground that forward

contracts which resulted in losses were illegal and the losses arising therefrom were not liable to be taken into account in computing the total

income of the assessee. In appeal, the Appellate Assistant Commissioner confirmed the view of the Income Tax Officer and held that the losses

could not be taken into account as the forward contracts were illegal. The Appellate Assistant Commissioner, however, did not go into the

question whether the assessee was entitled to set off the losses against the whole of his other income or against only that part of the profit referable

to his other business in speculative transactions. On further appeal, the Tribunal also held that the forward contracts were legal and valid and,

hence, the loss arising therefrom had to be taken into account as loss from business. The Tribunal also held that, assuming that the forward

contracts were illegal, the loss arising therefrom would still have to be taken into account as a business loss in computing the total income of the

assessee and, as the Appellate Assistant Commissioner had not gone into the question whether the loss could set off against the entire income or

the actual income from speculative business, the Tribunal remanded the matter to the Appellate Assistant Commissioner for a finding on this point.

The Appellate Assistant Commissioner found, after the remand, that, as the forward contracts were speculative transactions within the meaning of

the second Explanation to section 24(1) of the Act of 1922, the loss arising therefrom could be set off only against the profits arising from other

speculative transactions by reason of the first proviso to section 24(1). The Tribunal agreed with this finding and permitted set off of the loss only in

respect of the profits in speculative business and disallowed the claim of set off of the balance of loss against the other income of the assessee. On

a reference sought by both the assessee and the Revenue, four questions were referred to this court for its opinion. At the instance of the Revenue,

the following two questions were referred to this court (at p. 797 of 82 ITR) :

(1) Whether, on the facts and in the circumstances of the case, the contracts in respect of which the loss of Rs. 3,40,443 was claimed were illegal

contracts and were not validly entered into under the Forward Contracts (Regulation) Act, 1952 ?

(2) Whether, even assuming that the transactions in which the loss of Rs. 3,40,443 was incurred were illegal transactions, the assessee would be

entitled to the set off of the said loss ?

The Tribunal also referred, at the instance of the assessee, the following two questions, as questions Nos. 3 and 4, for the opinion of this court

(at p. 798 of 82 ITR) :

(3) Whether, on the facts and in the circumstances of the case, the transactions resulting in loss of Rs. 3,40,443 were speculative transactions for

the purposes of section 24 of the Indian Income Tax Act, 1922, merely on the ground that the assessee had not performed the contracts by giving

delivery and had paid damages in settlement of the obligations contracted for ?

(4) Whether, on the facts and in the circumstances of the case, the assessee is entitled to set off the balance of the loss of Rs. 1,21,397 against the

assessee''s other income ?

A Division Bench of this court, consisting of P. N. Bhagwati, Actg. C. J. (as he then was) and B. J. Divan J. (as he then was) heard the

reference. The Division Bench did not consider it necessary, for the purpose of the reference, to decide the controversy between the parties about

the illegality of the contracts involved in the reference since it was not material whether the contracts were illegal or not. According to the Division

Bench, what was material was whether the loss of Rs. 3,40,443 sustained in the unlawful business of those contracts was liable to be taken into

account in computing the business income of the assessee. The Division Bench negatived the broad contention of the Revenue that the assessee is

not entitled to claim deduction of loss arising out of illegal business. The Division Bench held that the illegal business is a business within the meaning

of the Income Tax Act and, if profits from illegal business are assessable to tax, there is no reason either on principle or on authority for refusing to

take into account losses from illegal business. In the opinion of the Division Bench, there is in principle, no distinction between profits and losses of

a business and, if the profits of an illegal business are assessable to tax, equally the losses arising from illegal business must be held to be liable to

be taken into account in computing the income of the assessee. The Division Bench was, therefore, of the view (at p. 29 of 69 ITR) :

. . . the losses incurred in unlawful business carried on by the assessee are liable to be taken into account in computing the business income of the

assessee and the loss of Rs. 3,40,443 arising to the assessee from the impugned contracts entered into unlawfully was liable to be taken into

account in determining the business income of the assessee subject to the provisions of the Income Tax Act.

The Division Bench, therefore, addressed itself to the material question as to what is the profit against which the loss of Rs. 3,40,443 could be

set off. According to the Division Bench, having regard to the decision of the Bombay High Court in Keshavlal Premchand Vs. Commissioner of

Income Tax, Ahmedabad, and the decision of this court in Commissioner of Income Tax, Gujarat Vs. Kantilal Nathuchand, , if there is a loss in

speculative transactions, it can be set off against other business income of the assessee. In that view of the matter, the Division Bench answered the

respective questions as under (at p. 31 of 69 ITR) :

Question No. 1 : It is not necessary to decide whether the contracts in respect of which the loss of Rs. 3,40,443 was claimed were illegal

contracts but they were entered into in contravention of the provisions of section 15(4) of the Forward Contracts (Regulation) Act, 1952, and

were, therefore, not validly entered into in accordance with those provisions.

Question No. 2 : Even though the said contracts were not validly entered into in accordance with the provisions of section 15(4), the said loss of

Rs. 3,40,443 is liable to be taken into account in computing the business income of the assessee u/s 10 and the assessee is entitled to set it off

against the profit from other speculative transactions.

Question No. 3 : In the affirmative.

Question No. 4 : In the negative.

In the opinion of the Division Bench, the assessee in the case before it was entitled to set off the speculative losses against the speculative

profits in view of section 24(1) of the Act of 1922, and that the assessee was not entitled to set off the balance of the illegal speculative losses

against the assessee''s other income. The assessee did not prefer appeal against the decision of this court. The Revenue, however, felt aggrieved by

the decision of this court and went in appeal to the Supreme Court.

The Supreme Court could not appreciate the approach of this court in not deciding question No. 1 as to the legality of the forward contracts

involved in the reference before it. The Supreme Court was of the opinion that the first question about the legality of the contract stood concluded

by the law laid down by the Supreme Court in Sunderlal and Son Vs. Bharat Handicrafts (P.) Ltd., , and, therefore, having regard to the

provisions contained in section 15(4) of the Forward Contracts (Regulation) Act, 1952, so long as there was no writing as was contemplated by

the said provisions, there was no enforceable contract at all and such contracts could not be regarded as having been validly entered into under the

said Act. The Supreme Court, therefore, answered the first question in the affirmative and against the assessee. On the second question about the

competency of setting off of illegal speculative losses, the Supreme Court felt that there were two aspects which had come up for consideration

before the departmental authorities, the Tribunal and the High Court. The first aspect, according to the Supreme Court, related to the deduction of

the loss of Rs. 3,40,443 incurred in illegal transactions while computing the income of the assessee''s speculative business u/s 10(1) of the Act of

1922. The other was the set-off which can be allowed under the relevant part of section 24(1) of the Act of 1922. The Supreme Court concurred

with the view of this court that, for the purpose of section 10(1), the losses which have actually been incurred in carrying on a particular business

must be deducted before the true figure relating to the profits which have to be brought to tax can be computed or determined. The Supreme

Court, thereafter, said that, in order to claim the set-off, the meaning of ''speculative transaction'' has to be first looked into, and it found that under,

Explanation 2, a speculative transaction means a transaction in which a contract for purchase and sale of any commodity is periodically or

ultimately settled otherwise than by actual delivery. Since the contract has necessarily to be an enforceable contract and not an unenforceable one

by reason of any taint of illegality resulting in its invalidity and as the court has also found that the contracts in question were illegal and

unenforceable on account of contravention of section 15(4) of the Act, in the opinion of the Supreme Court, this court was in error in considering

that any set off could be allowed in that case under the first proviso to section 24(1), which, according to the Supreme Court, was always to be

read with Explanation 2. The Supreme Court was of the view that though the assessee was not entitled to claim the set-off u/s 24(1) of the Act of

1922, he could still claim the set-off against the profits arising from speculative business. According to the Supreme Court, it was necessary to

determine whether the profits and losses were incurred in the same business even though that business involved entering into contracts some of

which were, in the eye of law, illegal. It, therefore, directed this court to consider whether both the legal and illegal forward transactions were part

and parcel of the same business.

The question which arose for consideration before this court in Additional Commissioner of Income Tax, Gujarat Vs. Ranjitsinhji Oil Mills Pvt.

Ltd., was whether the assessee, on the ratio of the Supreme Court''s decision in the case of Commissioner of Wealth-tax, Gujarat Vs. S.C.

Kothari, , was entitled to set off and carry forward its illegal speculative losses against any other business income. The above question arose for

consideration in three references in which the facts involved and the questions referred were identical. We will, therefore, refer to the facts involved

in only one of the references, namely, Income Tax Reference No. 46 of 1974, in which the year under reference was 1962-63. In that reference,

the assessee-firm was an oil mill with three expellers. The business of the assessee-company was to purchase ground-nut oil and oil cakes. It

incurred a loss of Rs. 44,326 being the amount of difference paid in the various forward contracts entered into with its customers. On scrutiny of its

books of account and other relevant documents, the Income Tax Officer found that the said loss was incurred in settlement of the transactions in

which no delivery of the goods was actually taken or made. He also found that the assessee earned a profit of Rs. 5,268 in the said transactions.

The net loss to the assessee in the financial year relevant to the assessment year 1962-63 was to the tune of Rs. 39,058. The Income Tax Officer

held that those were speculative transactions which were prohibited by the Forward Contracts (Regulation) Act, 1952, and that the loss suffered

from the illegal speculative transactions could not be deducted from the other income. The Income Tax Officer, therefore, disallowed the loss

claimed by the assessee-company for the assessment year under reference. The assessee carried the matter in appeal before the Appellate

Assistant Commissioner who, by his order of November 18, 1967, held that, though the loss incurred in the forward transactions was speculative

loss, the assessee was entitled to set off this loss against the speculative profits in view of the decision of this court in Commissioner of Income Tax

Vs. S.C. Kothari, . The Income Tax Officer, therefore, carried the matter in appeal before the Tribunal. The Tribunal found that there were no

findings made by the lower authorities that the transaction which resulted in loss, did not relate to the same business carried on by the assessee. It

also noted the nature of the business of the assessee which was to manufacture and deal in ground-nut oil and oil cakes. Having regard to the fact

that all the transactions were to be found from the same books of account of the assessee, it appeared to the Tribunal prima facie that the

transactions in question related to the same business as was carried on by the assessee. The Tribunal also noted that the Income Tax department

had not been able to establish whether the two businesses were distinct. In that view of the matter, the Tribunal, relying upon the decision of the

Supreme Court in S. C. Kothari''s case [9171] 82 ITR 794, held that the assessee was entitled to set off the losses incurred in the illegal

speculative transactions against the other business income of the assessee. The Additional Commissioner of Income Tax, therefore, sought

reference and the following question was referred to this court for opinion (at p. 407 of 103 ITR) :

Whether, on the facts and in the circumstances of the case, the assessee was entitled to set-off in respect of the loss of Rs. 39,058 in respect of

illegal forward transactions against other business income of the assessee.

The grievance of the Revenue before this court was that the Tribunal had read more than what was warranted in the Supreme Court decision in

the case of Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, . According to the Revenue, the Tribunal has not appreciated the decision of

the Supreme Court in Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, in its proper perspective. The correct ratio of the said decision,

according to the Revenue, is that forward transactions which are within the mischief of the Forward Contracts (Regulation) Act, 1952, are illegal

and not enforceable and, consequently, in view of Explanation 2 to section 24, losses arising in such business cannot be set off against the profits

arising in the business of forward contracts which may be legal and valid. However, the assessee is entitled to claim set-off of such illegal losses

against its profits in other legal forward business while computing profits and gains in its business provided both activities - legal as well as illegal -

are part and parcel of the same business. The aforesaid decision of the Supreme Court, asserted the Revenue, did not lay down that such losses

from illegal business can be set off against any other business income of the assessee. It was urged that, to read such a broad conclusion, as done

by the Tribunal in that case, would not only upset all the known and settled principles and introduce new concepts which are alien and irrelevant

but also result in an absurd and unfair situation, inasmuch as, an assessee incurring losses by indulging in illegal and void contracts would be in a

better position than one carrying on legal forward contract business; so much so, the former would have the advantage of carrying forward and

setting off illegal speculative losses against any head of his income in the subsequent years. On behalf of the assessee, on the other hand, it was

urged that the Tribunal had rightly applied the ratio of the decision of the Supreme Court which has succinctly laid down that the question of set off

of illegal speculative losses was to be examined from the angle of the provisions contained in section 24 and section 10 of the Act of 1922, and the

assessee was not deprived of its rights to claim set off of illegal losses against its other business income while computing its profits and gains u/s

10(1) merely because it was not entitled to set it off against profits of legal speculative business under the proviso to section 24(1) because it was

the real income in the ultimate analysis which is to be brought to tax. This court, after referring to the decision of the Supreme Court in

Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, , observed that the Tribunal, in the three references before this court, had read the

decision of the Supreme Court as laying down the broad proposition that, if forward contracts in which losses have been incurred by the assessee

are illegal contracts, the assessee would not be entitled to claim illegal speculative loss u/s 24(1), but that would not deprive him of the right to

claim losses when profits and gains of business are computed u/s 10(1) and the assessee is entitled to set off such illegal losses against any other

business income of the assessee. This court observed that the context in which the Supreme Court could not have laid down such a broad

proposition as sought to be made out by the Tribunal. It was pointed out that in the reference made before this court in the case of Commissioner

of Income Tax Vs. S.C. Kothari, , the assessee had claimed that he was entitled to set off his illegal speculative losses against his other business

income. That claim of the assessee, in that case, was referred to this court for its opinion by question No. 4. That claim of the assessee was

negative by this court and no appeal was preferred by the assessee against the said opinion to the Supreme Court. It was pointed out that it was

only the Revenue which had gone in appeal against the decision of this court to the Supreme Court because this court had answered question No.

2 in that case in favour of the assessee to the effect that the assessee was entitled to claim set off of the illegal speculative losses against the

speculative profits. It was, therefore, in that narrow context that the Supreme Court was giving its opinion in the appeal preferred by the Revenue,

in so far as it affected the Revenue. It was further pointed out that the Supreme Court did not uphold the view of this court that the assessee was

entitled to claim set off of the illegal speculative losses u/s 24(1) because, in the opinion of the Supreme Court, before such loss could be allowed

to be set off, the transaction must be a speculative transaction as defined in Explanation 2 to section 24(1), which provided that a transaction is a

speculative transaction in which the contract of sale or purchase ultimately resulted in payment of differences only without taking or giving actual

delivery and, if the contract in question in a given case is not enforceable, there would be no right for an assessee to claim set off of losses arising in

such illegal contracts under the proviso to section 24(1). The Supreme Court, however, felt that it is in the ultimate analysis that the real income

which is to be brought to tax and, therefore, if the illegal transaction in which loses arise are part and parcel of the same business in which profits

have arisen in legal and valid contracts, the assessee is entitled to claim deduction of such loss notwithstanding its illegality. This court observed that

it would not be correct to read the judgment of the Supreme Court in Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, as laying down a

principle that illegal losses can be set off against other business income. It was observed that to read such a broad proposition in the judgment

would result in upsetting all the known and settled legal principles and it would introduce certain new concepts which are irrelevant and alien to the

Income Tax law. This court, therefore, held that the assessee was not entitled to set off loss in respect of illegal speculative transactions against

other income of the assessee.

It becomes clear that, so far as speculative transactions are concerned, section 28(i) of the Act corresponding to section 10(1) of the Act of

1922 would not come into play for setting off of loss in computation of the aggregate income. Where speculative transactions carried on by an

assessee are of such a nature as to constitute a business, the business has to be deemed to be distinct and separate from any other business. In

order to claim set off u/s 24 of the Indian Income Tax Act, 1922, the meaning of speculative transaction has to be first looked at. Speculative

transaction, as defined, means a transaction in which a contract for purchase or sale of any commodity is periodically or ultimately settled otherwise

than by actual delivery. The contract has to be an enforceable contract and not an unenforceable one by reason of any taint of illegality resulting in

its invalidity. If an assessee has carried on speculative business which is partly legal and partly illegal, the legal business is deemed to be distinct and

separate from the illegal business. Profits and gains of a legal speculative business have to be separately worked out and loss, if any, has to be set

off only against and gains of such speculative business. Similarly, in the case of illegal speculative business, profits and gains have to be separately

worked out and loss, if any, suffered in such illegal speculative business has to be set off against profits and gains, if any, of such illegal speculative

business. In the instant case, the assessee-firm, on its own, transacted speculative business so far as the claim regarding deduction of Rs. 27,035 is

concerned. This speculative business which the assessee-firm did was, admittedly, illegal business, inasmuch as it was hit by the order of 1949. As

already observed above, this amount of Rs. 27,035 did not represent any bad debt, but it was a los suffered by the assessee-firm in the illegal

speculative business. This loss could not have been taken into consideration while computing profits and gains of the assessee-firm''s business u/s

28(i). This loss also could not have been set off against the speculative business, which was legal. Such loss could have been set off only against the

profits and gains, if any, of illegal speculative business. In other words, in order to be eligible to claim deduction of this loss, the assessee-firm had

to establish that such loss was suffered in the same business in which it had earned profits, against which such loss could be adjusted. If the loss

could not be set off partly or fully, there would not be any question of carrying forward of such loss, as held by the Supreme Court in

Commissioner of Income Tax, Gujarat-III Vs. Kurji Jinabhai Kotecha, .

We, however, find that the Tribunal proceeded to allow the claim of loss Rs. 27,035 claimed by the assessee-firm on the ground that it related

to the assessee-firm''s business and, therefore, it was allowable. In view of the finding of facts adverted to above and the decision of the Supreme

Court in the case Commissioner of Wealth-tax, Gujarat Vs. S.C. Kothari, , such a conclusion could not have been reached. What was required to

be considered was whether the loss of Rs. 27,035, which the assessee had suffered in an illegal speculative business could be set off against the

profits and gains of the same business, i.e., illegal speculative business. This aspect of the case has not been considered at all by the Tribunal. In

other words, it has not applied its mind to the question whether the loss of Rs. 27,035, which the assessee-firm had suffered in the illegal

speculative transaction could be set off against profits and gains of the same business, i.e., illegal speculative business. It appears that the Tribunal

had earlier considered the above question and it was, therefore, that it had remanded the matter to the Appellate Assistant Commissioner to

consider whether the transactions in respect of which the loss was claimed were of the same business. It is true that it had also directed the

Appellate Assistant Commissioner to consider the claim of the assessee-firm that there was a bad debt of Rs. 27,035. However, after the remand,

neither the Appellate Assistant Commissioner nor the Tribunal applied their mind to the question whether the loss, deduction of which was claimed

by the assessee-firm, arose from the same business, namely, illegal speculative business.

In the light of the above discussion, the Tribunal was not right in holding that, in order to consider the claim for deduction in Income Tax

assessments of the assessee-firm, it was not concerned with the legality or illegality of the transaction and that the assessee was a commission agent

and, as such, it was responsible for the obligations or debts of the constituent towards third parties and was entitled to claim deduction of the loss

of Rs. 27,035. Therefore, question No. 3 shall have to be answered in the negative and against the assessee.

However, so far as questions Nos. 1 and 2 are concerned, we find it difficult to answer them since the Tribunal has not considered the

question of set off of the loss of Rs. 27,035 in the light of the provisions of section 73 read with section 43(5) of the Act. No evidence or material

on record is pointed out to us which would indicate that the loss of Rs. 27,035 which the assessee-firm had suffered in illegal speculative business

could be set off against profits and gains of the same speculative business. The question of set off would arise only if the said loss and profits and

gains arise from the same illegal speculative business. Therefore, as held by the Supreme Court in COMMISSIONER OF Income Tax, WEST

BENGAL I Vs. INDIAN MOLASSES CO. P. LTD., , two course are open to us : to call for a supplementary statement of the case from the

Tribunal; or to decline to answer the question raised by the Tribunal and to leave the Tribunal to take appropriate steps to adjust its decision u/s

260(1) of the Act. If we direct the Tribunal to submit a supplementary statement of the case, the Tribunal will be restricted to the evidence on

record and may not be entitled to take additional evidence. That may result it appropriate to decline to answer questions Nos. 1 and 2 on the

ground that the Tribunal has failed to consider the question whether the loss of Rs. 27,035 could be set off against the profits and gains of the same

business in which the loss occurred. Since the loss of Rs. 27,035 occurred in illegal speculative business, such loss could be set off only against

profits and gains, if any, of the same illegal speculative business. It will be open to the Tribunal to dispose of the appeal u/s 260(1) of the Act, in the

light of the observations made in this judgment, after determining the questions, which ought to have been decided.

References answered accordingly with no order as to costs.