1962 (12) TMI 58 - SC - Income Tax

Whether on the facts and circumstances of the case, the sum of Rs. 2,21,000, being the value of the shares received by the assessee free of payment is income of the assessee and assessable under section 7 of the Income-tax Act ? Whether compensation received for loss of employment or office or for cessation business is taxable under any of the three sections will fall to be considered, prior to the amendments of 1955, with reference to the general principle of income-tax which is to tax income? Whether it is income or capital in the hands of the assessee? Held that - Appeal dismissed. Sum of Rs. 2,21,000 received by the respondent as employee from Killick Nixon & Co., his employers, on the occasion of the termination of his services after appropriate notice of one month, was not a payment made as compensation for loss of employment and, therefore, amounted to profit in lieu of salary in view of Explanation 2 to section 7(1) of the Act and was, as such, taxable to income-tax. The High Court was, therefore, in error in holding otherwise. It would accordingly allow the appeal with costs and my answer to the question referred would be that the sum of Rs. 2,21,000 received by the respondent is taxable to income-tax as profits in lieu of salary under subsection (1) of section 7 of the Act.

Issues Involved:
1. Nature of payment received by the assessee: whether it is income or capital receipt.
2. Applicability of Explanation 2 to Section 7(1) of the Indian Income-tax Act, 1922.
3. Interpretation of the term "compensation for loss of employment" under Explanation 2 to Section 7(1).

Issue-wise Detailed Analysis:

1. Nature of Payment Received by the Assessee:
The primary issue was whether the sum of Rs. 2,21,000 received by the assessee in the form of shares should be considered as income or a capital receipt. The assessee argued that the shares were given as "compensation for loss of employment" due to the premature termination of his services. The Income-tax Officer, however, contended that the shares were allotted as consideration for past services and thus taxable.

The Tribunal, after examining the evidence, including an affidavit from the partners of the firm, concluded that the shares were given solely as compensation for loss of employment. The High Court upheld this view, stating that the payment was a capital receipt and not liable to tax under the Income-tax Act.

2. Applicability of Explanation 2 to Section 7(1) of the Indian Income-tax Act, 1922:
Explanation 2 to Section 7(1) stipulates that any payment received by an assessee from an employer or former employer is considered as "profits in lieu of salary" unless it is made solely as compensation for loss of employment. The High Court emphasized that the evidence supporting the assessee's claim had been accepted by the Tribunal, and this could not be questioned in the High Court.

The High Court clarified that the payment must be made because of the relationship between the employer and the employee. If the payment is unrelated to this relationship, it does not fall within the expression "profits in lieu of salary." The High Court concluded that the payment in question was not related to past services but was compensation for the loss of employment.

3. Interpretation of the Term "Compensation for Loss of Employment":
The appellant argued that the term "compensation" in Explanation 2 meant what is legally payable as damages for wrongful termination. They contended that the assessee suffered no injury warranting such compensation. The High Court rejected this narrow interpretation, relying on precedents that defined compensation for loss of office or employment as a payment made to the holder of an office as compensation for being deprived of profits due to an act of deprivation by the employer.

The High Court referred to several cases, including Commissioner of Income-tax v. Shaw Wallace & Co., which held that compensation for loss or cessation of business is a capital receipt. The court also cited W. A. Guff v. Commissioner of Income-tax, where it was held that compensation for termination of employment is a capital receipt and not taxable.

The Supreme Court, in Commissioner of Income-tax v. Vazir Sultan and Sons, also supported this view, stating that the nature of the receipt in the hands of the assessee is what matters, irrespective of the payer's intentions.

Separate Judgment by Raghubar Dayal J.:
Justice Raghubar Dayal dissented, arguing that the payment was not solely for loss of employment but was related to past services. He contended that the sum of Rs. 2,21,000 should be considered "profits in lieu of salary" under Explanation 2 to Section 7(1) and thus taxable. He emphasized that the payment was made by the employer to the employee and was related to the services rendered, not as compensation for loss of employment.

Conclusion:
The majority judgment concluded that the payment was solely for loss of employment and thus not taxable under Explanation 2 to Section 7(1) of the Income-tax Act, 1922. The appeal was dismissed with costs. Justice Raghubar Dayal's dissenting opinion held that the payment was taxable as "profits in lieu of salary."

Appeal Dismissed.

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