Darjeeling Consolidated Tea Co. Ltd. vs Commissioner of Income Tax

Ajit K. Sengupta, J.—At the instance of the assessee, the following question of law has been referred to this court u/s 256(1) of the Income Tax Act, 1961, for the assessment year 1970-71 :

"Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the loss on account of the ropeway machinery blown off in the storm was not a loss allowable u/s 45 read with Section 2(47) of the Income Tax Act, 1961 ?"

The facts leading to this reference are in a narrow compass.

Before the Income Tax Officer, the assessee claimed that the ropeway machinery belonging to the company was blown off in a storm and could not be recovered from the hills as recovering it was considered to be uneconomical. The assessee-company claimed Rs. 2,07,900 as revenue loss u/s 32(1A)(ii) of the Income Tax Act. The Income Tax Officer found that the provision of Section 32(1A)(ii) came into force from April 1, 1971, and was not applicable to the year which ended on December 31, 1969. The Income Tax Officer further observed that the auditor was silent about this loss and there was no evidence to support this claim. He held that the loss was a capital loss and he disallowed the amount.

Before the Appellate Assistant Commissioner, it was claimed that the loss was allowable u/s 32(1)(iii) and when it was pointed out that this loss could not be allowed as the machinery had not been used in this year, it was submitted that the loss should be allowed as a short-term capital loss u/s 45 of the Income Tax Act. It was contended that transfer included extinguishment of the rights in the capital asset and it should be held that the company''s right to the machinery was extinguished by virtue of the loss of the machinery in the storm. The Appellate Assistant Commissioner, however, did not accept the claim of the assessee. He held that the loss could not be allowed u/s 32(1)(iii).

When the matter came up before the Tribunal, the assessee confirmed its claim of loss only as a short-term capital loss u/s 45 of the Income Tax Act. It was contended that, after the loss of the machinery in the storm, the assessee''s right in those capital assets was extinguished.

The Tribunal considered the facts and held as under :

"We have carefully considered the facts of the case and we are of the view that there was no extinguishment of the assessee''s rights in the machinery which had been blown off in the storm and was lying in the valley. In this case, there was no consideration for the extinguishment of any rights and neither the ownership of the assets nor the rights therein have gone to anybody else as was the case decided by the Gujarat High Court Commissioner of Income Tax Vs. Vania Silk Mills (P.) Ltd., . Here was a case of a simple loss of machinery not arising as a result of transfer but as a result of some natural calamity. The asset in question also was there in the valley and the assessee''s rights therein continue in the eye of law. From the commercial point of view, there might be a loss but it cannot be said that there has been a transfer within the meaning of Section 2(47) of the Income Tax Act. We, therefore, uphold the order of the lower authorities on the ground that there was no transfer of the asset so as to attract the provisions of Section 45 of the Income Tax Act. This ground is, therefore, rejected.".

At the hearing, it was contended on behalf of the assessee that the Tribunal fell into error in holding that consideration is necessary for the extinguishment of any right. Further, it was found by the Tribunal that, from a commercial point of view, there was a loss but even then the Tribunal did not allow the loss as a capital loss on the ground that there has been no transfer of an asset Drawing our attention to the order of the authorities below, it has been contended by Mr. Poddar, learned advocate for the assessee, that as a matter of fact, a loss was incurred by the asses-see. The question is only whether the loss should be allowed as revenue loss or capital loss.

Before the Income Tax Officer, the assessee''s counsel claimed that the ropeway machinery worth -Rs. 2,07,900 was lost and could not be recovered from the hills as that was considered uneconomical. It was charged in the profit and loss account as a revenue loss. It was also claimed that the said loss should be allowed u/s 32(1A)(ii) as revenue loss. The Income Tax Officer, however, held that as Sub-section (1A) has been inserted by the Taxation Laws (Amendment) Act, 1970, with effect from April 1, 1971, the present assessment year being 1970-71, the said sub-section has no application in this case. Subsequently, he pointed out that even the auditor is silent on this point and evidence in support of the claim was not produced. He, therefore, held that it was a capital loss.

Before the Appellate Assistant Commissioner, the stand was changed. It was claimed that the loss was allowable u/s 32(1)(iii) as obsolescence allowance. It was pointed out by the Appellate Assistant Commissioner that the assessee was not entitled to such allowance because the machinery was not used in the relevant previous year. The assessee, thereafter, claimed the loss as a short-term capital loss u/s 45 of the Income Tax Act. The Appellate Assistant Commissioner held that the loss on account of the destruction of machinery has to be considered u/s 32 only. Moreover, even assuming that the loss could be considered u/s 45 read with Section 2(47), it is to be stated that there was no extinguishment of the right to the assessee by virtue of destruction of the machinery due to the storm. He, therefore, negatived the contention of the assessee.

We have already set out the finding and the conclusion of the Tribunal.

Several decisions have been relied on by counsel for the assessee. Reliance has been placed on the case of Commissioner of Income Tax (Central), Delhi Vs. Harprasad and Co. P. Ltd., . In that case, the question, was entitlement of carry forward and set-off of loss under the head "capital gains" when capital gains were not taxable. There, the Supreme Court, reversing the decision of the High Court, held that the capital loss could not be determined and the assessee was not entitled to the carry forward of the loss, inasmuch as if the loss is from a source or head of income not liable to tax or congenitally exempt from Income Tax, neither is the assessee required to show the same in the return, nor is the Income Tax Officer under any obligation to compute or assess it, much less for the purpose of "carry forward". There, the Supreme Court observed as follows (at p. 124, 125) :

"From the charging provisions of the Act, it is discernible that the words ''income'' or ''profits and gains'' should be understood as including losses also, so that, in one sense ''profits and gains'' represent ''plus income'' whereas losses represent ''minus income'' ( Commissioner of Income Tax, Ahmedabad Vs. Karamchand Premchand Ltd., Ahmedabad, and The Commissioner of Income Tax, Bombay Vs. The Elphinstone Spinning and Weaving Mills Ltd., ). In other words, loss is negative profit. Both positive and negative, profits are of a revenue character. Both must enter into the computation, wherever it becomes material, in the same mode of the taxable income of the assessee. Although, Section 6 classifies income under six heads, the main charging provision is Section 3 which levies Income Tax, as only one tax, on the ''total income'' of the assessee as defined in Section 2(15). An income in order to come within the purview of that definition must satisfy two conditions : Firstly, it must comprise the ''total amount of income, profits and gains referred to in Section 4(1). Secondly, it must be ''computed in the manner laid down in the Act''. If either of these conditions fails, the income will not be a part of the total income that can be brought to charge.

Now, capital gains would be covered by the definition of ''income'' in Sub-section (6C) of, Section 2, only if they were chargeable u/s 12B. As noticed already, Section 12B as modified by the Finance Act, 1949, did not charge any ''capital gains'' arising between April 1, 1948, and April 1, 1957. Indeed, Section 12B was not operative in these years (1948-1957). During this period, ''capital gains'', whether on the positive or the negative side could not be computed and charged u/s 12B or any other provisions of the Act. In the instant case, the second condition, namely, ''the manner of computation laid down in the Act'' which--to use the words of Stone C.J. ( B. M. KAMDAR, IN RE., --forms an integral part of the definition of "total income" was not satisfied. Thus, in the relevant previous year and the assessment year, or even in the subsequent year, capital gains or ''capital losses'' did not form part of the ''total income'' of the assessee which could be brought to charge, and were, therefore, not required to be computed under the Act."

Reliance was also placed in the case of Commissioner of Income Tax Vs. Vania Silk Mills (P.) Ltd., . There, the assessee let out machinery on hire. The machinery was insured by the hirer and was completely damaged by fire. The amount received by the hirer from the insurance company for the damage of the machinery was paid to the assessee. The question was whether the amount received by the assessee from the insurance company was liable to capital gains tax. In that context, the Gujarat High Court held as follows (at p. 312, 313) :

"It follows from the foregoing discussion that the legislature, in order to effectuate its intention, has deliberately chosen language of the widest amplitude by using the expression ''the extinguishment of any rights therein'' in Section 2(47). It covers every possible transaction which results in the destruction, annihilation, extinction, termination, cessation or cancellation, by satisfaction or otherwise, of all or any of the bundle of rights--qualitative or quantitative--which the assessee has in a capital asset, whether such asset is corporeal or incorporeal."

There is one aspect, however, which must be emphasised at this stage and it is that in order to subject any profit or gain received by or accruing to the assessee to the charge of ''capital gains'', the sine qua non is that the receipt or accrual must have originated, in a ''transfer'' within the meaning of Section 45 read with Section 2(47). This requirement clearly flows from the words ''any profits or gains arising from the transfer of a capital asset'' in Section 45. There must, therefore, be a causal nexus between the ''transfer'', that is, the extinguishment of any rights in a capital asset and the profit or gain accruing to or received by the assessee. In other words, it is such extinguishment which must have occasioned the profit or gain and not any other independent transaction as a result of which some different rights are terminated by satisfaction or otherwise."

The following observation in Commissioner of Income Tax, Gujarat II Vs. R.M. Amin. (Legal representative of the Late Chunibai Amin), , was extracted in the said judgment.

"The transfer that is contemplated by Section 45 read with Section 2(47) is, therefore, a transferas a result of which consideration is received by the assessee or accrues to the assessee. Substituting the words ''extinguishment of any rights in the capital asset'' for the words ''transfer of the capital asset'', the transaction, in order to attract the charge of tax as capital gains, must, therefore, be such that consideration is received by the assessee or accrues to the assessee as a result of the extinguishment of the rights in the capital asset."

Then, the Gujarat High Court proceeded to observe as follows (at p. 314 of 107 ITR):

"The net effect of the transaction as a whole was that there was an extinguishment of the proprietary interest of the assessee in the capital asset, namely, the machinery, and that profit arose to it in consequence of the payment made for such extinguishment. On account of fire, the machinery was so extensively damaged that, for all practical purposes, it ceased to be useful as such. Since the entire machinery in the premises of the insured was covered by insurance, the insurer paid the value of the machinery to the insured and took away the damaged machinery. The insured, in its turn, paid the proportionate amount out of the compensation received from the insurer to the assessee and in the course of this transaction the bundle of proprietary rights which the assessee had in the machinery, including the rights to claim its possession back from the hirer on the termination of the contract of hire and to hold, enjoy and dispose it of, came to an end. There was thus a clear extinguishment of the rights of the assessee in the capital asset and consideration was received by it as a result of such extinguishment. There is no material to show that the amount received by the assessee was relatable to some other transaction which extinguished an altogether different right and, therefore, no other conclusion than that there was a ''transfer" of the capital asset within the meaning of Section 45 read with Section 2(47) and that profit arose out of such ''transfer'' is possible."

In Commissioner of Income Tax Vs. A.R. Damodara Mudaliar and Co., , the assessee-firm intended to set up a factory. The agreement was arrived at by a partner of the assessee-firm with the Government of Tamil Nadu to take on lease a developed plot of land for setting up of a factory for the manufacture of taps, dies, reamers, etc. A letter of intent for setting up the industrial undertaking was also obtained from the Government of India. However, on account of devaluation of the Indian rupee in 1966, the cost of the project went up substantially and it was not considered feasible to continue the project within the original estimate. The assessee, accordingly, relinquished his rights in respect of the lease agreement with the Government of India and also got the industrial licence granted by the Government of India cancelled. As a result, the assessee incurred loss. The question was whether the loss was a capital loss liable in the hands of the assessee-firm. There, the High Court held that the land that was allotted to a partner was a capital asset and there was relinquishment of the rights in the said land within the meaning of Section 2(47) of the Act and hence the transaction would come within the scope of the provisions relating to capital gains and the loss on this item of capital asset was allowable as capital loss. That was not a case of extinguishment of any right in the capital asset There, the question was whether there was any relinquishment of the asset.

In the case of Marybong and Kyel Tea Estates Ltd. (since amalgamated with Duncan Agro Industries Ltd.) Vs. Commissioner of Income Tax, , capital assets were damaged by fire. The salvaged property was taken over by the insurance company and the amount paid by the insurance company in excess of the balancing charge was assessed as capital gains. There, the court held that on payment of the policy money, the insurer became entitled to what remained of the capital assets and took it over. This was, therefore, a case of a transfer of that capital asset in a changed shape and form and the gains arising therefrom to that extent were assessable as capital gains.

In GUJARAT MINERAL DEVELOPMENT CORPORATION LTD. Vs. COMMISSIONER OF Income Tax, GUJARAT., expenditure was incurred for the construction of an approach bridge for laying water pipes to the assessee''s beneficiation plant. The bridge was washed away by floods. The assessee wrote off the expenditure and claimed it as a deduction. The Income Tax Officer disallowed it on the ground that it was a capital loss. The Appellate Assistant Commissioner affirmed the order of the Income Tax Officer. On further appeal before the Tribunal, the assessee contended that the amount should be allowed because it reduced the real income of the assessee. The assessee alternatively contended that the expenditure should be allowed as a short-term capital loss because of the extinguishment of the capital asset. The Tribunal rejected the contention of the assessee on the ground that no consideration was received by the assessee on the extinguishment of the capital asset. Affirming the decision of the Tribunal, it was held that the expenditure was not deductible as business loss or revenue loss u/s 28/37 or as short-term capital loss u/s 45. The Gujarat High Court reiterated the observations made in Commissioner of Income Tax, Gujarat II Vs. R.M. Amin. (Legal representative of the Late Chunibai Amin), and Commissioner of Income Tax Vs. Vania Silk Mills (P.) Ltd., .

"This decision (R.M. Amin) was followed in the case of Commissioner of Income Tax Vs. Vania Silk Mills (P.) Ltd., also. The decision in Commissioner of Income Tax, Gujarat II Vs. R.M. Amin. (Legal representative of the Late Chunibai Amin), was carried to the Supreme Court, vide The Commissioner of Income Tax, Gujarat II, Ahmedabad Vs. Shri R.M. Amin, L.R. of The Late Shri. Chunnibhai J. Amin, Baroda, , and the Supreme Court, without entering into the question whether existence of consideration must be established to attract the provisions of Section 45 of the Act, held that there was no transfer within the meaning of Section 2(47) of the Act. Therefore, so far as we are concerned, in view of the decision in R.M. Amin''s case which was followed in the case of Vania Silk Mills, we must hold that in the absence of consideration, Section 45 would not be attracted and hence deduction by way of short-term capital loss is not available to the assessee. We must, therefore, answer this contention also against the assessee and in favour of the Revenue."

Capital loss is not defined anywhere in the Act. But it is deaf that it must be a loss arising out of the same transaction mentioned in Section 45 of the Act as giving rise to a capital gain. As held by the Supreme Court in Commissioner of Income Tax (Central), Delhi Vs. Harprasad and Co. P. Ltd., , income may be positive or negative.

In the first place, there must be a transfer of a capital asset and in the second place, there must be a loss arising out of such transfer. It is no doubt true that, in this case, the ropeway was blown off. It was found by the Income Tax Officer and that finding has not been challenged before the Appellate Assistant Commissioner or the Tribunal, that the said asset was lying in the valley. It was the contention of the assessee before the Income Tax Officer that it would be uneconomical to retrieve the said machinery but no evidence was adduced before the Income Tax Officer or the Appellate Assistant Commissioner or the Tribunal that it would be uneconomical to retrieve the machinery in question. The Gujarat High Court in Commissioner of Income Tax, Gujarat II Vs. R.M. Amin. (Legal representative of the Late Chunibai Amin), and Commissioner of Income Tax Vs. Vania Silk Mills (P.) Ltd., held that there must be consideration for the extinguishment of the rights in the capital asset. In Marybong and Kyel Tea Estates Ltd. (since amalgamated with Duncan Agro Industries Ltd.) Vs. Commissioner of Income Tax, , there was a transfer of a capital asset in a changed shape and form to the insurer for payment of the money under the insurance policy. There was extinguishment of the owner''s rights in the assets concerned. u/s 2(47), transfer in relation to a capital asset includes the extinguishment of any rights therein. It does not use the expression "the extinguishment of the capital asset". Nor does it use the expression "the extinguishment of the capital asset or of any rights therein". The expression "extinguishment of any rights in the capital asset" may predicate the continued existence of the capital asset over which the rights of the owner are extinguished. It may also mean the destruction, annihilation, extinction, termination, cessation, etc., of any rights quantitative which the assessee has in a capital asset" (see Commissioner of Income Tax Vs. Vania Silk Mills (P.) Ltd., ). Where the assets are damaged or destroyed, or become useless for all practical purposes, the rights therein may still continue, e.g., where the assets are insured, the owner of such assets has a right to claim the value of such asset from the insurance company. Upon payment of the insurance money, the rights of the owner in such assets are extinguished. There may be cases where there is extinguishment of a right without extinguishment of the capital asset.

In Marybong and Kyel Tea Estates Ltd. (since amalgamated with Duncan Agro Industries Ltd.) Vs. Commissioner of Income Tax, , the court held that on payment of the policy money, the insurer became entitled to what remained of the capital asset. The asset is, therefore, not extinguished. In some cases, extinguishment of rights and extinguishment of asset may coincide. In the instant case, the ropeway machinery had been blown off and they were stated to be lying in the valley. The assessee considered the recovery of such machinery uneconomical. But the asset and the rights of the assessee therein were still continuing. Therefore, there is no extinguishment of any rights in the capital asset. This being the position, there is no transfer within the meaning of Section 2(47).

Assuming there is extinguishment of rights in the capital asset, there cannot be any transfer attracting capital gains or loss unless consideration passes. When the assets are damaged by fire, the owner receives compensation from the insurance company on the extinguishment of the rights therein, such rights being transferred to the insurance company upon payment of the compensation.

In our view, therefore, in the case of every transfer, whether by sale, exchange, relinquishment or extinguishment, there must be consideration. A transaction, in order to attract capital gains, must be such that consideration is received by the assessee or accrues to the assessee as a result of the extinguishment of rights in the capital assets. Transfer involves the passing of property from one person to another by any of the means or modes mentioned in Section 2(47). There is no such transfer in this case.

For the reasons aforesaid, we answer the question referred to us in the affirmative and in favour of the Revenue and against the assessee.

There will be no order as to costs.

Bhagabati Prasad Banerjee, J.

I agree.