1964 (4) TMI 17 - SC - Income Tax

Whether the provisions of section 23A were correctly applied for the three relevant years ? Held that - Whether in view of the third proviso the company may be regarded as one in which the public are substantially interested is a question to which no attention was paid by the Tribunal. Whether in fact there exists such a controlling interest in the hands of one shareholder or a group of shareholders as would render the company one in which the public are not substantially interested is a question which therefore cannot be decided by this court. The order of the High Court must therefore be confirmed but on different grounds. The interpretation of the Explanation by the High Court for reasons already set out was incorrect ; the Explanation had no application because no presumption on the facts found could arise thereunder. The revenue authorities have not made any investigation on the question whether there existed any controlling interest in a group of persons so as to bring the case within the third proviso. Appeal dismissed.

Summary

Issues Involved:
1. Jurisdiction of the Income-tax Officer under Section 23A of the Indian Income-tax Act, 1922.
2. Application of the Explanation to Section 23A(1) regarding the definition of a company in which the public are substantially interested.
3. Determination of controlling interest in the company.

Issue-wise Detailed Analysis:

1. Jurisdiction of the Income-tax Officer under Section 23A of the Indian Income-tax Act, 1922:

The respondent company was assessed for the three years ending March 31, 1947, March 31, 1948, and March 31, 1949. The Income-tax Officer found that the company declared dividends significantly less than sixty percent of the amount available for distribution as computed under Section 23A. Consequently, the Income-tax Officer, with the approval of the Inspecting Assistant Commissioner, ordered that the undistributed portion of the assessable income shall be deemed to have been distributed as dividends amongst the shareholders. This order was confirmed by the Appellate Assistant Commissioner and the Income-tax Appellate Tribunal. The company challenged the competence of the Income-tax Officer to pass such an order, but the Tribunal and the High Court negated these contentions.

2. Application of the Explanation to Section 23A(1) regarding the definition of a company in which the public are substantially interested:

Section 23A was enacted to prevent avoidance of super-tax by shareholders controlling a company by not distributing dividends. The section authorizes the Income-tax Officer to deem undistributed income as distributed dividends if less than sixty percent of the assessable income is distributed. However, this does not apply to companies in which the public are substantially interested. The Explanation to Section 23A(1) creates a presumption that a company is one in which the public are substantially interested if shares carrying not less than twenty-five percent of the voting power are held by the public, excluding shares entitled to a fixed rate of dividend.

The High Court held that the respondent company was one in which the public were substantially interested, thus invalidating the Income-tax Officer's jurisdiction under Section 23A. However, the Supreme Court found that the High Court's interpretation of the Explanation was incorrect. The Explanation did not apply because no presumption could arise based on the facts found. The total voting power, including preference shares, was 5,500, and twenty-five percent of that power must be exercisable by ordinary shareholders only, not by those entitled to a fixed rate of dividend.

3. Determination of controlling interest in the company:

The Supreme Court noted that no investigation was made by the income-tax department to determine if there was a controlling interest by a group of persons. The presence of controlling interest is crucial to decide if the company is one in which the public are not substantially interested. The court emphasized that the distinction between the controlling group and the public is not merely between directors and other members. A director not part of the controlling group is considered part of the public. The case lacked evidence to show that twenty-five percent of the voting power was held by the public outside the controlling group.

Conclusion:

The Supreme Court confirmed the High Court's order but on different grounds. The Explanation to Section 23A did not apply because no presumption could arise under it. The revenue authorities failed to investigate whether there existed a controlling interest by a group of shareholders. Therefore, the appeals were dismissed with costs, and the order of the High Court was upheld.