1964 (10) TMI 16 - SC - Income Tax

Whether section 12(1B) read with section 2(6A)(e) was constitutionally valid? If the impugned section treats the loan received by a shareholder as a dividend paid to him by the company has the legislature in enacting the section exceeded the limits of the legislative field prescribed by the present entry 82 in List I ? Held that - As we have already noticed the word income in the context must receive a wide interpretation ; how wide it should be it is unnecessary to consider because such an enquiry would be hypothetical. The question must be decided on the facts of each case. There must no doubt be some rational connection between the item taxed and the concept of income liberally construed. If the legislature realises that the private controlled companies generally adopt the device of making advances or giving loans to their shareholders with the object of evading the payment of tax it can step in to meet this mischief and in that connection it has created a fiction by which the amount ostensibly and nominally advanced to a shareholder as a loan is treated in reality for tax purposes as the payment of dividend to him. In our opinion it would be difficult to hold that in making the fiction the legislature has travelled beyond the legislative field assigned to it by entry 82 in List I. In our opinion there is no scope for arguing that the fundamental rights of the shareholder under article 19(1)(f) and (g) have been contravened by the impugned provision. Therefore we must reject Mr. Pathak s argument that the impugned provision is invalid on the ground that it contravenes article 19(1)(f) and (g). There is obviously no scope for suggesting that the impugned provision contravenes article 14. Appeal dismissed.

Issues Involved:
1. Constitutional validity of Section 12(1B) read with Section 2(6A)(e) of the Indian Income-tax Act, 1922.
2. Legislative competence of Parliament to enact the impugned provisions.
3. Alleged violation of fundamental rights under Article 19(1)(f) and (g) of the Constitution.

Issue-wise Detailed Analysis:

1. Constitutional Validity of Section 12(1B) read with Section 2(6A)(e):

The appellant challenged the validity of Section 12(1B) read with Section 2(6A)(e) of the Indian Income-tax Act, 1922, arguing that the provisions were ultra vires. The High Court had rejected this contention, leading to the appeal before the Supreme Court.

The Supreme Court examined the combined effect of these provisions, noting that they were introduced by the Finance Act, 1955, and came into operation on April 1, 1955. The provisions aimed to treat certain payments made to shareholders as taxable dividends to the extent of the company's accumulated profits. The Court identified five conditions that must be satisfied for Section 12(1B) to be invoked against a shareholder.

The Court also considered the assurance given by the Hon'ble Minister for Revenue and Civil Expenditure in Parliament, which led to a circular by the Central Board of Revenue. This circular exempted genuine transactions of loans repaid before June 30, 1955, from being taxed as dividends.

2. Legislative Competence of Parliament:

The appellant contended that the impugned provisions were beyond the legislative competence of Parliament under Entry 82 in List I of the Seventh Schedule, which deals with "taxes on income other than agricultural income." The appellant argued that a loan advanced to a shareholder could not be legitimately treated as income.

The Supreme Court referred to previous judgments, emphasizing that the term "income" in the legislative context should be given a broad interpretation. The Court cited cases such as Navinchandra Mafatlal v. Commissioner of Income-tax and Sardar Baldev Singh v. Commissioner of Income-tax to support the view that the legislature could enact provisions to prevent tax evasion. The Court concluded that the impugned provisions were within the legislative competence of Parliament as they aimed to address the mischief of tax evasion through loans or advances to shareholders.

3. Alleged Violation of Fundamental Rights:

The appellant argued that the impugned provisions violated his fundamental rights under Article 19(1)(f) and (g) of the Constitution, which guarantee the right to acquire, hold, and dispose of property and the right to practice any profession or carry on any occupation, trade, or business.

The Supreme Court rejected this argument, stating that the provisions did not contravene these rights. The Court noted that the shareholder's right to borrow money from his own company was not a fundamental right. The impugned provisions only deemed a loan to be a receipt of dividend for tax purposes, without affecting the appellant's right to borrow money from other sources. The Court found the provisions to be reasonable and not unfair, considering the legislative intent to prevent tax evasion.

Separate Judgment by Raghubar Dayal J.:

Justice Raghubar Dayal dissented, opining that the appeal should be allowed and the impugned provisions declared void. He argued that the provisions lacked a rational connection with the concept of "income" and imposed unreasonable restrictions on the fundamental right to hold property under Article 19(1)(f). He emphasized that genuine loans should not be treated as income and criticized the blanket application of the provisions without distinguishing between genuine transactions and those intended to evade tax.

Conclusion:

The majority judgment upheld the constitutional validity of Section 12(1B) read with Section 2(6A)(e) of the Indian Income-tax Act, 1922, dismissing the appeal with costs. Justice Raghubar Dayal's dissenting opinion highlighted concerns about the reasonableness and fairness of the provisions.

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