Madras High Court
Commissioner Of Income-Tax vs Tamil Nadu Industrial Investment ... on 28 April, 1998
Equivalent citations: [1999]240ITR573(MAD)
Author: R. Jayasimha Babu
Bench: R. Jayasimha Babu
JUDGMENT N.V. Balasubramanian, J.
1. This is a combined reference both at the instance of the Department and at the instance of the assessee.
2. In so far as the question of law referred at the instance of the Department is concerned, the question reads as under :
"Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that the interest, guarantee commission and commitment charges kept in suspense account cannot be treated as the assessee's income liable to tax ?"
3. There is no dispute that the question raised at the instance of the Department is concluded in favour of the Department by recent decisions of the court in CIT v. Tamil Nadu Industrial Investment Corporation Ltd. (No. 1) [1996] 218 ITR 616 and CIT v. Tamil Nadu Industrial Investment Corporation Ltd. (No. 2) [1996] 218 ITR 620 wherein this court held that the interest, guarantee commission and commitment charges kept in suspense account should be treated as the assessee's income and the asses-see is liable to tax. We fully agree with the reasoning contained in both the decisions and following the earlier two decisions of this court, our answer to the question of law referred at the instance of the Department is in the negative and in favour of the Department.
4. Regarding the assessee's reference, the question of law referred at the instance of the assessee reads as under :
"Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that the reserve created for earlier years was not available to make good the deficiency in subsequent year wkhin the meaning of Section 36(1)(viii) and, therefore, the claim should be allowed only to the extent of Rs. 17,75,000 as against the claim of Rs. 19,49,820 ?"
5. The assessee, a financial institution and a Government company, is engaged in providing long term finance for industrial concerns. During the previous year relevant to the assessment year 1975-76, the assessee created a special reserve of Rs. 19,49,820 and sought its deduction. The Income-tax Officer found that the actual reserve created during the year under consideration in the books was Rs. 17,75,000 and the assessee was entitled to claim deduction only to that extent and not on the balance amount carried forward from the earlier assessment years.
6. The Commissioner of Income-tax (Appeals), however, on appeal, took a different view and held that the overall reserve maintained by the assessee should be taken into account and that the assessee was entitled to the deduction of the entire sum of Rs. 19,49,820.
7. On an appeal by the Department, the Tribunal took the view that in view of the provisions of Section 36(1)(viii) of the Act, the assessee was entitled to claim deduction of only of Rs. 17,75,000 created as a special reserve during the assessment year under reference and the balance of the amount from the total sum of Rs. 19,49,820 represented the surplus reserve created by the assessee during the earlier assessment years, viz., 1973-74 and 1974-75, and on such surplus reserve carried forward by the assessee from the earlier assessment years, the claim of the assessee is not permissible under the law. It is against this order, the assessee has come forward with this reference.
8. The question referred at the instance of the assessee relates to an interpretation of Section 36(1)(viii) of the Act. Under Section 36(1)(viii) of the Act, subject to certain conditions a deduction is provided in respect of any special reserve created by a financial corporation of an amount not exceeding 40 per cent. or in the case of other financial corporations 25 per cent. or 10 per cent. of the total income (computed before making any deduction under Chapter VI-A), as the case may be, carried to such reserve account. The deduction contemplated under Section 36(1)(viii) is with reference to the special reserve created from the total income carried to such reserve account. If the assessee had some surplus reserve in the earlier year and it was carried forward, then, with regard to the claim of deduction, in our opinion, it is not a reserve created from the total income carried to such reserve account. The crucial words are "40 per cent. of the total income" and "carried to such reserve account". We are of the opinion that the special reserve must be created out of the total income of the relevant previous year and the presence of a larger reserve in the earlier year cannot be taken to mean that a special reserve was created out of the total income of the relevant previous year. The section uses the words, "special . reserve created", and the amount must also be carried to such reserve account. That apart, the special reserve must be created by the financial corporation out of the total income computed before making any deduction under Chapter VI-A of the Act. The words "computed before making any deduction" also establish that the reserve must be created out of the total income of the concerned year. Therefore, it is imperative to claim deduction that the creation of the reserve should be out of the total income of the relevant previous year from which deduction is claimed, and not from the total income of the earlier year. If it is held otherwise, the statutory percentage of the reserve created from the total income and carried to the reserve will have no meaning. If the assessee points out to earlier years surplus and says that the reserve was created, such a reserve cannot refer to a reserve created out of the total income of the relevant previous year. The section contemplates the creation of the reserve in each year and carried to the special reserve in each year, and such reserve created would become final and complete, and it is not possible for the assessee to draw from the reserve of previous years and then to point out that the assessee had created reserve to the extent of 40 per cent. of the total income.
9. The legislative history makes the position clear, when Clause (viii) of Section 36(1) of the Act was introduced a deduction was granted for an amount not exceeding 10 per cent. of the total income carried to such special reserve. When it was amended by the Finance Act, 1966, the limit was raised to 25 per cent. in the case of financial corporations whose paid up share capital did not exceed three crores of rupees. By the Finance Act, 1974, and in the case of financial corporations of the type with which we are concerned, where the paid up share capital did not exceed three crores of rupees, it was limited to 25 per cent. and where the paid up share capital did exceed three crores of rupees, it was limited to 10 per cent. of the total income. The legislative history shows that the Legislature intended that the financial institutions should build up a reserve out of the current profits and with a view to create a higher reserve, the percentage of deduction was gradually increased.
10. That apart, the Legislature has inserted an Explanation with effect from April 1, 1966, which provided for making good the deficiency of one year in the creation of reserve out of the excess of the earlier year and the Explanation reads as under :
"Explanation--For the removal of doubts, it is hereby declared that in the case of a financial corporation to which Sub-clause (a) applies, if the amount carried to the reserve account referred to in this clause in the accounts of the previous year relevant to the assessment year commencing on the 1st day of April, 1966, falls short of twenty-five per cent. of the total income and the amount transferred to such reserve account in the accounts of the immediately succeeding previous year exceeds the amount in respect of which the corporation is entitled to the deduction under this clause for the assessment year commencing on the 1st day of April, 1967, an amount equal to such excess shall, for the purpose of allowing the deduction under this clause, be deemed to have been transferred to the reserve account in the accounts of the first-mentioned previous year."
11. But, this Explanation was omitted by the Finance Act, 1974, with effect from April 1, 1975. The omission was made with a view to facilitate the building up of internal resources of financial corporations or joint financial corporations and at the same time it was proposed to increase the rate of deductible amount in the case of financial corporations or joint financial corporations to 40 per cent. of the current profits. On the introduction of the Finance Act, 1974, financial corporations providing long-term finance to industrial and agricultural development in India were entitled to a deduction of the amount transferred by them out of the current profits to the special reserve account at 55 per cent. of the taxable income. It is with that object in view that the Explanation was omitted by the Finance Act, 1974, with effect from April 1, 1975, and if we accept the contention urged on behalf of the assessee that it is open to the assessee to rely upon the surplus reserve of earlier years, it will defeat the object behind the legislative intention in deleting the Explanation to Section 36(1)(viii) of the Act. The omission of the Explanation makes it clear that the excess reserve of an earlier year is no more available in making good the deficiency in the succeeding year, and it is impermissible for the assessee to resurrect the Explanation.
12. In CIT v. Aruna Sugars Ltd. [1980] 123 ITR 619 this court has taken a view that under the Explanation to Section 34(3) of the Act, the deduction of development rebate should not be denied by reason only that the amount debited to the profit and loss account of the relevant previous year and credited to the reserve account exceeded the amount of such profit of the previous year as arrived at without making the debit account. This court further held that the Explanation makes it clear that the creation of a reserve of requisite amount must come out of the profit of the relevant previous year. It was emphasised by this court that the creation of a reserve must be out of the profit of the relevant previous year and unless there is a debit in the profit and loss account, the assessee was not entitled to development rebate. The same view was reiterated by this court in the case of CIT v. Arasan and Co. [1985] 152 ITR 206.
13. Unless the assessee creates a special reserve out of the income of the previous year, the assessee is not entitled to claim the deduction under Section 36(1)(viii) of the Act. The statutory condition is that the reserve must be out of the profit of the relevant previous year. The decision relied upon by learned counsel for the assessee in Ravi Kumar Mehra v. CIT [1988] 172 ITR 108 wherein the Punjab and Haryana High Court dealt with a case of deduction under Section 80C of the Act and the court held that the amount of the Life Insurance Corporation premium need not come out of the income chargeable to tax is not of any assistance to the assessee. We are not expressing any opinion on the correctness of the view expressed by the Punjab and Haryana High Court except to point out that under Section 36(1)(viii) of the Act, the special reserve should not only be created out of the income chargeable to tax, but must be carried to reserve account. Hence, the decision of the Punjab and Haryana High Court in Ravi Kumar Mehra's case [1988] 172 ITR 108, has no application to the facts of the case.
14. The object of granting deduction under Section 36(1)(viii) is to strengthen the financial resources of the financial corporation or the joint financial corporation and the deduction is granted out of the total income before making any deduction under Chapter VIA of the Act. The section provides for a higher deduction and the section also enjoins that the amount must be carried to a special reserve account and once a special reserve was created and the amount was carried to the special reserve account, it is not open to the assessee to draw from such special reserve and make up the deficiency in the succeeding assessment years. If such a contention of the assessee is accepted the whole purpose behind the creation of the reserve in strengthening the financial position would be defeated. The Tribunal, in our opinion, has come to the correct conclusion in holding" the claim of the assessee must be with reference to the reserve created for each year and the excess reserve of an earlier year is not available for making good the deficiency in a succeeding year. There is no error in the view taken by the Appellate Tribunal.
15. Accordingly, we answer the question of law referred at the instance of the assessee in the affirmative and against the assessee. The assessee is directed to pay costs of Rs. 750 to the Revenue.