Madras High Court
Commissioner Of Income-Tax vs Lucas Tvs Limited. on 11 April, 1997
Equivalent citations: [1997]226ITR281(MAD)
JUDGMENT N.V. Balasubramanian, J.
1. This is a combined reference at the instance of the assessee as well as by the Revenue. The Tax Case Nos. 1816 and 1817 of 1984 are at the instance of the assessee and TC No. 1818 of 1984 is at the instance of the Revenue. The assessment year involved is common for both the tax cases, viz., 1977-78. The Tribunal has forwarded a consolidated statement of case and referred the following five questions of law for the opinion of this Court :
1. Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that only the amount of income actually exempt under s. 10(6)(viia) would be excluded from consideration for the purposes of disallowance under s. 40(c) r/w s. 40A(5) in the case of director-cum-employee who is also a foreign technician ?
2. Whether, on the facts and in the circumstances of the case surtax liability is not an admissible deduction under the provisions of the IT Act ?
3. Whether, on the facts and in the circumstances of the case and having regard to the provisions of s. 2(18) of the IT Act, 1961 the Tribunal was right in holding that the assessee should be treated as a company in which the public are substantially interested ?
4. Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that weighted deduction under s. 35B should be allowed at 1-1/2 times of the expenditure and not at 1/3 of the expenditure allowed by the ITO ?
5. Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that the provisions of s. 40(c) also (apply) in respect of the remuneration paid to the director-cum-foreign technician and the remuneration exempted under s. 10(6)(viia) should not be taken into account for fixing the ceiling limit of Rs. 72,000 under s. 40(c) of the Act ?
2. The answer to the question 2, 3 and 4 need not detain us as the questions are covered by decisions of the Supreme Court as well as by earlier decisions of this Court. In so far as the second question which is referred at the instance of the assessee is concerned, the point that is involved is whether the assessee would be entitled to claim surtax liability as a deduction in computing the business income under the provisions of the IT Act, 1961 (hereinafter referred to as 'the Act'). The Supreme Court in the case of Smith Kline & French (India) Ltd. vs. CIT , has held that the surtax paid under the provisions of Companies (Profits) Surtax Act, 1964 cannot be allowed as deduction while computing business income of the assessee under the provisions of the Act. Following the decision of the Supreme Court, we answer the second question of law referred to us in the affirmative and against the assessee.
3. The questions 3 and 4 are referred at the instance of the Revenue and the questions deal with the status of the assessee-company. This Court, in the case of the same assessee for the earlier assessment year, in CIT vs. Lucas TVS Ltd. , has held that the assessee-company cannot be regarded as a company in which public are substantially interested. It is admitted by the learned counsel for the assessee that the decision of this Court rendered for the earlier assessment year would equally apply to the facts of the case. Following the decision of this Court in the assessee's own case, cited supra, we answer the third question of law referred at the instance of the Revenue in the negative and in favour of the assessee.
4. The fourth question relates to the claim of weighted deduction under s. 35B of the Act and the question is whether the assessee would be entitled to 1-1/2 times of the expenditure or 1/3 of the expenditure. Since we have held that the assessee company is a company in which public are not substantially interested the assessee would be entitled to claim weighted deduction only at 1/3 of the expenditure as allowed by the ITO. Accordingly, we answer the fourth question of law referred to us in the negative and in favour of the Revenue.
5. The consideration of the questions 1 and 5 can be taken together and it is necessary to state relevant facts. The assessee is a company. During the course of assessment proceedings for the asst. yr. 1977-78, the ITO found that one Mr. Dougall was the managing director of the company and was also a foreign technician. He found that the total remuneration paid to Mr. Dougall was Rs. 1,24,442, and after applying the ceiling limit provided under s. 40(c) of the Act, he disallowed a sum of Rs. 52,442 being the excess of total remuneration paid to Mr. J. Dougall. The assessee preferred an appeal before the CIT(A) against the disallowance made by the ITO. The CIT(A), following its earlier order for the asst. yr. 1976-77, held that the entire amount paid to Mr. J. Dougall should be allowed as business expenditure and no part of it can be disallowed under s. 40A(5) or s. 40(c) of the Act. The Department preferred an appeal before the Tribunal.
6. The Tribunal, following its earlier order, for the asst. yr. 1976-77, in the assessee's own case in ITA No. 1369/Mad/1980 dt. 31st August, 1982, held that the provisions of s. 40A(5), cls. (i) and (ii) have to be considered in determining the nature and extent of the remuneration paid to the managing director/employee for the purpose of determining the ceiling limit prescribed under s. 40(c) of the Act. The Tribunal also held that to the extent to which the remuneration or tax paid in respect of the foreign technician is exempt in accordance with s. 10(6)(viia) of the Act, it is not to be taken into account for the purpose of determining the quantum of remuneration on which the ceiling is to be applied under s. 40(c) r/w s. 40A(5) of the Act. The Tribunal noticed that the exact quantum of remuneration paid to Mr. J. Dougall which was exempt under s. 10(6)(viia) was not readily available, and therefore, directed the ITO to ascertain the exact amount which was exempt, and exclude the same in arriving at the total amount of remuneration, perquisites and benefits allowed to Mr. J. Dougall and the remuneration thus arrived at should be considered for applying the ceiling under s. 40(c) of the Act. The order of the Tribunal is the subject-matter of challenge in the present tax case references.
7. Mr. C. V. Rajan, learned counsel for the Revenue submitted that s. 40A(5)(b) of the Act provides that nothing in cl. (a) to s. 40A(5) shall apply to any expenditure or allowance in relation to any employee being an individual referred to in s. 10(6)(viia) of the Act. The proviso to s. 40(c) of the Act excludes from its consideration the expenditure of the nature referred to in sub-cls. (i), (ii), (iii) or (iv) to the second proviso to cl. (a) to s. 40A(5) of the Act. Learned counsel for the Revenue, therefore, submitted that the intention of the legislature is clear that only some of the expenditures referred to in the second proviso to s. 40A(5) of the Act are excluded from consideration of s. 40(c) of the Act, but there is no specific exclusion of s. 40A(5)(b) of the Act and in the absence of exclusion, s. 40(c) would apply to any salary paid to director-cum-foreign technician also. Learned counsel for the Revenue placed reliance on a decision of the Supreme Court in the case of CIT vs. Indian Engg. & Commercial Corpn. , and submitted that though the provisions of s. 40(c) as well as s. 40A(5) of the Act are applicable, since both the provisions are attracted, the higher of the ceiling has to be applied. In other words, according to the learned counsel for the Revenue, cl. (b) to s. 40A(5) of the Act is not made applicable to s. 40(c) of the Act and for the purpose of determining the ceiling limit under s. 40(c), there is no scope for exclusion of the amount found under s. 40A(5)(b)(ii) of the Act. Learned counsel also submitted that it is not permissible to bifurcate the expenditure, one as a payment to the director and another to a foreign technician and if such a contention is accepted, the proviso to s. 40(c) of the Act would become otiose. According to the learned counsel, the remuneration paid to the employees who are directors should also be taken into account in fixing the ceiling limit under s. 40(c) of the Act.
8. Mr. Janarthana Raja, learned counsel for the assessee submitted that the provisions of s. 40A(5) have to be taken into account in determining the ceiling under s. 40(c) of the Act. Learned counsel for the assessee submitted that the second proviso to s. 40A(5) of the Act deals with certain kinds of expenditure viz., value of travel concession, passage moneys or contributions to recognised gratuity fund and approved gratuity fund. Learned counsel for the assessee further submitted that cl. (b) to s. 40A(5) of the Act deals with payments to certain categories of employees, and the contention of the learned counsel for the assessee is that those persons who are covered under cl. (b) of s. 40A(5) of the Act should be treated as a special category of employees and if they are directors/employees, and the remuneration paid to them is exempt under s. 40A(6)(viia) of the Act, the exemption should be taken into account in determining the ceiling limit under s. 40(c) of the Act. Learned counsel, therefore, submitted that the contract service of the foreign technician is approved by the Central Government and in view of the exemption granted by s. 10(6)(viia) of the Act, the salary paid to the foreign technician is exempt. He, therefore, submitted that the entire salary or remuneration paid to the foreign technician-cum-managing director should not be taken into consideration. He also submitted that the managing director functioned in two capacities, one as managing director and another as a foreign technician and the portion of the salary which is relatable to the service rendered as employee would fall under s. 40A(5) of the Act, and when s. 40A(5)(b) of the Act, excludes the remuneration, the exclusion under s. 40A(5)(b) of the Act also should be taken into account in determining the ceiling limit prescribed under s. 40(c) of the Act.
9. We have carefully considered the rival contentions of the parties. Sec. 40(c) of the Act reads as under :
"(c) in the case of any company -
(i) any expenditure which results directly or indirectly in the provision of the remuneration or benefit or amenity to a director or to a person who has a substantial interest in the company or to a relative of the director or of such person, as the case may be,
(ii) any expenditure or allowance in respect of any assets of the company used by any person referred to in sub-cl. (i) either wholly or partly for his own purposes or benefit, if in the opinion of the ITO any such expenditure or allowance as is mentioned in sub-cls. (i) and (ii) is excessive or unreasonable having regard to the legitimate business needs of the company and the benefit derived by or accruing to it therefrom, so however, that the deduction in respect of the aggregate of such expenditure and allowance in respect of any one person referred to in sub-cl. (i) shall, in no case, exceed -
(A) where such expenditure or allowance relates to a period exceeding eleven months comprised in the previous year, the amount of seventy-two thousand rupees;
(B) where such expenditure or allowance relates to a period not exceeding eleven months comprised in the previous year, an amount calculated at the rate of six thousand rupees for each month or part thereof comprised in that period :
Provided that in a case where such person is also an employee of the company for any period comprised in the previous year, expenditure of the nature referred to in cls. (i), (ii), (iii) and (iv) of the second proviso to cl. (a) of sub-s. (5) of s. 40A shall not be taken into account for the purpose of sub-cl. (A) or sub-cl. (B), as the case may be".
10. Sec. 40A(5)(a) and (b) of the Act, in so far as it is relevant to the facts of the case reads as under :-
"(a) where the assessee -
(i) incurs any expenditure which results directly or indirectly in the payment of any salary to an employee or a former employee, or "(ii) incurs any expenditure which results directly or indirectly in the provision of any perquisite (whether convertible into money or not) to an employee or incurs directly or indirectly any expenditure or is entitled to any allowance in respect of any assets of the assessee used by an employee either wholly or partly for his own purposes or benefit, then, subject to the provisions of cl. (b), so much of such expenditure or allowance as is in excess of the limit specified in respect thereof in cl. (c) shall not be allowed as a deduction :
Provided that where the assessee is a company, so much of the aggregate of -
(a) the expenditure and allowance referred to in sub-cls. (i) and (ii) of this clause; and
(b) the expenditure and allowance referred to in sub-cls. (i) and (ii) of cl. (c) of s. 40, in respect of an employee or a former employee, being a director or a person who has a substantial interest in the company or a relative of the director or of such person, as is in excess of the sum of seventy two thousand rupees shall in no case be allowed as a deduction :
Provided further that in computing the expenditure referred to in sub-cl. (i) or the expenditure or allowance referred to in sub-cl. (ii) of this clause or the aggregate referred to in the foregoing proviso, the following shall not be taken into account, namely :-
(i) the value of any travel concession or assistance referred to in cl. (5) of s. 10;
(ii) passage moneys or the value of any free or concessional passage referred to in sub-cl. (i) of cl. (6) of s. 10;
(iii) any payment referred to in cl. (iv) or cl. (v) of sub-s. (1) of s. 36;
(iv) any expenditure referred to in cl. (ix) of sub-s. (1) of s. 36.
(b) Nothing in cl. (a) shall apply to any expenditure or allowance in relation to -
(i) any employee in respect of any period of his employment outside India;
(ii) any employee being an individual referred to in sub-cl. (vii) or sub-cl. (viia) of cl. (6) of s. 10 in respect of any period during which he is entitled to the exemption under sub-cl. (vii) or, as the case may be, sub-cl. (viia) aforesaid;
(iii) any employee whose income chargeable under the head, 'Salaries' is seven thousand and five hundred rupees or less".
11. Sec. 40(c) deals with the case of an employer, which is a company and it applies to the directors and some others. Sec. 40A(5) is applicable to all employers, whether a company or others. The Supreme Court in the case of CIT vs. Indian Engg. & Commercial Corpn. (supra), has held that in the case of directors, who are employees, both the provisions would be attracted and the higher of the ceiling limit have to be applied. Hence, there is no difficulty in accepting the contention of the learned counsel for the Revenue that both the provisions of s. 40(c) and 40A(5) of the Act are applicable to the facts of the case.
12. The question that immediately arises is how to determine the ceiling limit prescribed under s. 40(c) as well as s. 40A(5) of the Act in the case of an employee who is a director-cum-employee and is a (sic) technician. The object of s. 40(c) as well as s. 40A(5) is to place a monetary ceiling limit and the quantum of the allowance of the remuneration and perquisites paid to the directors, director-cum-employees and employees by the company or by any assessee to its employees. In other words, both the sections seek to curtail the practice of paying excessive or unreasonable remuneration or perquisites to its directors or persons connected with the directors or to certain categories of employees. It is not disputed that under s. 40A(5) of the Act, if an assessee employs a foreign technician, whose contract of service is approved by the Central Government, then, the salary or perquisite paid to the foreign technician shall not be taken into account in determining the monetary ceiling limit under s. 40A(5) of the Act. In short, if he is so employed, then the remuneration or perquisite paid to such employee is not taken into consideration for the purpose of determining the ceiling limit under s. 40A(5) of the Act. Sec. 40(c) of the Act, no doubt, specifically provides that the second proviso to s. 40A(5) of the Act is excluded from the ambit of consideration under s. 40(c) of the Act. There is no express provision in s. 40(c) of the Act excluding foreign technician-cum-director to whom salary or perquisite was paid by the company. An anomalous position would arise in the case of director-cum-employee. If a foreign technician is purely an employee, then his remuneration to the extent to which it is exempt under s. 10(6)(viia) of the Act is excluded from the scope of s. 40A(5) of the Act. If he is only a director, then, his case would squarely fall under s. 40(c) of the Act and there is no question of applicability of s. 40A(5) of the Act. But, in the case of a director-cum-employee, the Supreme Court has held that both the provisions are applicable and higher of the ceiling limit would apply. But, in determining the ceiling limit under s. 40(c) of the Act, in our view, the provisions of s. 40A(5) also should be taken into account. In other words, if the employee is a foreign technician whose contract of service was approved by the Central Government, then, that part of remuneration which is exempt under s. 10(6)(viia), which is outside the scope of s. 40A(5) of the Act, should not be taken into consideration in determining the ceiling under s. 40(c) of the Act. That apart, s. 40(c) of the Act deals with the payment to the directors, and in the nature of things, a reference to s. 40A(5)(b) of the Act which deals with the payment to the employees, in s. 40(c) of the Act would not be appropriate, and that is one reason for the omission to refer to s. 40A(5)(b) of the Act in s. 40(c) of the Act. Secondly, there is nothing to suggest that the remuneration which is excluded from the scope of consideration in s. 40A(5)(a) of the Act, by virtue of s. 40A(5)(b) of the Act, should be taken into consideration for the purpose of s. 40(c) of the Act. In our view, both s. 40(c) and 40A(5) of the Act should be read together and in determining the ceiling prescribed under s. 40A(5) of the Act, if certain items goes out of reckoning in s. 40A(5) of the Act on the principle of harmonious construction, the same amount of income also cannot be taken into account under s. 40(c) of the Act.
13. We are of the view that the proviso to s. 40(c) of the Act refers to the kinds of expenditures found in second proviso to s. 40A(5) of the Act, and considering the object behind the s. 40A(5) as well as s. 40(c) of the Act, the provisions of s. 40A(5)(b) should also be taken into account. A harmonious reading of ss. 10(6)(viia), 40(c) and 40A(5) would indicate that the remuneration which is exempt under the provisions of s. 10(6)(viia) to the extent to which the exemption is granted cannot be said to be either unreasonable or excessive having regard to the business needs of the company. The Government of India, at the time of granting approval to the contract of service, applies its mind carefully and then, approves the payment of remuneration and also the tax paid on the salary is exempt for a specific period. The exemption is given in the case of foreign technician and when the Central Government before the commencement of service approved the contract of service, it cannot be stated that the assessee-company has paid remuneration which can be regarded as unreasonable or excessive.
14. Secondly, we are of the opinion that the persons covered under cl. (b) of s. 40A(5) are special classes of employees. They may be employees in respect of any period of his employment outside India or foreign technician or any employee whose income chargeable under the head 'salary' is Rs. 7500 or less, and when s. 40A(5) excludes from the scope of its operation the three kinds of employees mentioned in cl. (b), they must be regarded as special categories of employees and the remuneration paid to those employees should also be exempt under s. 40(c) as well to the extent to which the exemption is granted. Otherwise, an anomalous result would follow in the case of director-cum-employees by the legislature granting exemption under one provision and withdrawing the same under other provision of the Act. More or less a similar situation came up for consideration before Delhi High Court in Continental Construction Ltd. vs. CIT (1992) 185 ITR 178 (Del) : TC 18R.617, and the Delhi High Court was dealing with the case falling under sub-cl. (i) of cl. (b) of s. 40A(5) i.e., the case of remuneration of employee in respect of any period of his employment outside India. In that case, B. N. Kirpal, J. (as His Lordship then was) considered the provisions of s. 40(c) and s. 40A(5) of the Act. Learned judge noticed decisions of Gujarat High Court in Addl. CIT vs. Tarun Commercial Mills Ltd. (1978) 113 ITR 745 (Guj) : TC 18R.634; CIT vs. Rajesh Textile Mills Limited (1988) 173 ITR 179 (Guj) : TC 18R.642, of Punjab and Haryana High Court in CIT vs. Patiala Flour Mills Co. (P) Ltd. , of Karnataka High Court in International Instruments (P) Ltd. vs. CIT (1981) 130 ITR 315 (Kar) : TC 18R.635, of Kerala High Court in Travancore Rayons Ltd. vs. CIT , and of Calcutta High Court in CIT vs. Indian Molasses Co. (P) Ltd. and after considering the legislative history, held that s. 40A(5)(b) specifically deals with a question of employee who is in employment outside India and s. 40(c) does not deal with the case of employee who is in employment outside India. The Delhi High Court therefore, held that even if it be assumed, s. 40A(5) is general and s. 40(c) is specific qua the directors, nevertheless, in respect of employee-directors who are posted outside India, s. 40(c) cannot and does not apply and s. 40(c) of the Act does not envisage the case of an employee-director who is posted out of India. The Delhi High Court therefore, held that s. 40(A)(5) is a specific provision and s. 40(c) has to be regarded as general provision. Applying the principles of law laid by the Delhi High Court, we are of the opinion that the provisions of s. 40A(5)(b) should also be taken into account for the purpose of determining the quantum of director's remuneration by way of salary and other allowances. Therefore, for determining the ceiling limit the provisions of s. 40A(5)(b) should come into play and the provision has to be considered in determining the nature and extent of the remuneration paid to the director-employees for the purpose of applying the ceiling of Rs. 72,000 specified in s. 40(c) of the Act. Therefore, the remuneration or tax paid to a foreign technician to the extent to which it is exempt under s. 10(6)(viia) is not liable to be taken into account for the purpose of determining the quantum of remuneration on which the ceiling is to be applied under s. 40(c) of the Act.
15. Gujarat High Court in McGaw-Ravindra Laboratories (I) Ltd. vs. CIT (1994) 210 ITR 1002 (Guj) : TC 17R.513, held that the salary paid by the company to its employee for the period during which he was in foreign country should be taken into account in determining disallowance under s. 40A(5) of the Act. The Supreme Court in the case of CIT vs. Brakes India Ltd. , considered the proviso (ii) to s. 40(c)(iii) of the Act before amendment and the said provision corresponds to s. 40A(5)(b)(iii) of the Act. The Supreme Court held that where salary is paid to a foreign technical director is exempt from the tax under s. 10(6)(viia) of the Act, the corresponding provisions of s. 40(c) of the Act could not be invoked. A study of various decisions of the Delhi High Court, Gujarat High Court as well as the Supreme Court clearly indicates that if the income of the foreign technical director is exempt under s. 10(6)(viia) of the Act, then that part of the remuneration cannot be subject matter of consideration under s. 40A(5) of the Act. It is not open to the Revenue to contend that it is exempt only for the purpose of s. 40A(5) of the Act, but, it should be taken into account for the purpose of s. 40(c) of the Act. We are of the view that once the remuneration is exempt under s. 10(6)(viia) of the Act, it goes out of the purview of the provisions of s. 40A(5) of the Act and it cannot be again the subject-matter of disallowance under s. 40(c) of the Act. It can be either on the basis of the principles laid down by the Delhi High Court that s. 40A(5)(b) of the Act is a special provision dealing with foreign technical director whose salary is exempt under s. 10(6)(viia) or on the basis that s. 40A(5) of the Act should also be taken into account in determining the ceiling limit prescribed under s. 40(c) of the Act. Learned author Mr. Sampath Iyengar, in his book on Law of Income-tax, 9th Edition, Vol.-II, at p. 2816, observed as under :
"Employee-director posted outside India :
Sec. 40(c) does not envisage the case of an employee-director who is posted outside India : such a case is dealt with only by s. 40A(5)(b). This being so, atleast qua employee-directors employed outside India, s. 40A(5)(b) is a specific provision and s. 40(c) has to be regarded as a general provision. On the principle that, if there is a general provision and there is also a special provision, then, it is the special provision which will prevail, the only conclusion possible is that the case of remuneration to employee-directors employed outside India falls under the provisions of s. 40A(5) and not s. 40(c). Accordingly, it was held that the remuneration to directors in respect of their employment outside India has to be excluded from consideration for the purpose of the limit of Rs. 72,000".
16. Mr. C. V. Rajan, learned counsel for the Revenue, on the other hand, submitted that the decision of the Delhi High Court is not applicable, because the Delhi High Court was dealing with the case under s. 40A(5)(b)(i) of the Act. We are unable to accept the contention of the learned counsel for the Revenue, because s. 40A(5)(b), as already seen, applies to three kinds of employees and there cannot be any distinction is treatment of exemption between one kind of employees and another falling under the same cl. (b) of s. 40A(5) of the Act. The principles laid down by the Delhi High Court would equally apply to cl. (ii) of s. 40A(5)(b) of the Act.
17. The contention of the learned counsel for the assessee is that the entire remuneration and tax paid by the employer to Mr. Dougall should be exempted and it should not be taken into account in determining disallowance under s. 40(c) of the Act. We are unable to agree with the contention of the learned counsel for the assessee. The Tribunal held that only to the extent to which the remuneration was exempt it should be excluded in arriving at the total amount of remuneration, perquisites or benefits for the purpose of determining the ceiling under s. 40(c) of the Act. Sec. 10(6)(viia) of the Act provides that in the case of an approved foreign technician who satisfies the prescribed conditions exemption is granted for the remuneration due to him during the period of 24 months commencing from the date of his arrival in India upto Rs. 4,000 per month and where the tax on the excess of such remuneration over the above limit is paid to the Central Government by the employer the tax so paid by the employer is also exempt. Where he continues with the Central Government's approval and remains in employment in India after the expiry of the period of 24 months, the tax paid by the employer to the Government on his income is exempt for a further period of 24 months. Since this is the only amount as which the Central Government applied its mind in granting the approval of contract of service between the assessee and the foreign technical director, only that portion of the amount which is exempt under s. 10(6)(viia) of the Act should also not be taken into consideration for applying the ceiling under s. 40(c) of the Act. It cannot be on the entire salary, remuneration or perquisite paid to the foreign director as the Central Government has not applied its mind to the entire salary that was paid to the foreign technician. The reasonable construction of s. 40A(5)(b) would be to limit the allowance to the extent to which the exemption was granted by the Central Government. Therefore, the Tribunal was correct in holding that in determining the quantum of remuneration, it cannot be on total remuneration, but the remuneration to which the remuneration was exempt under s. 10(6)(viia) of the Act.
18. Accordingly, we answer the questions of law referred to us as under :
(i) First question of law, in the affirmative and against the assessee.
(ii) Second question of law, in the affirmative and against the assessee.
(iii) Third question of law, in the negative and in favour of the Revenue.
(iv) Fourth question of law, in the negative and in favour of the Revenue.
(v) Fifth question of law, in the affirmative and against the Revenue.
Each party will be entitled to the costs of the reference. Costs Rs. 1500 one set in Tax Cases Nos. 1816 and 1817 of 1984 and Rs. 1500 in Tax Cases No. 1818 of 1984.