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1995 (11) TMI 5 - SC - Income TaxWhether Tribunal was correct in holding that the sum transferred to the contingencies reserve account is not allowable as a deduction in arriving at the taxable business income of the assessee-company - held that amount appropriated to the contingencies reserve is set apart to meet possible exigencies, hence iIt is not a provision for known, existing liabilities.
Issues Involved:
1. Whether the sum transferred to the contingencies reserve account is allowable as a deduction in arriving at the taxable business income of the assessee-company. Detailed Analysis: Issue 1: Deductibility of Amount Transferred to Contingencies Reserve Account The case involves references by the Income-tax Appellate Tribunal to the Supreme Court under Section 257 of the Income-tax Act, 1961, due to divergent opinions between several High Courts. The assessment years in question span from 1972-73 to 1973-74. Each assessee is a company engaged in the generation and distribution of electricity, governed by the Electricity (Supply) Act, 1948. For Tax Reference Case No. 13 of 1981, the assessee appropriated Rs. 46,460 to a contingency reserve account, claiming it as a deduction in the computation of total income for income-tax purposes. The Income-tax Officer rejected this claim, but the Appellate Assistant Commissioner allowed it, relying on decisions from the Kerala and Bombay High Courts. The Tribunal, however, sided with the Madras High Court's view, which had disagreed with the Kerala and Bombay High Courts, and referred the question to the Supreme Court. Relevant Legal Provisions: - Section 57 of the Electricity (Supply) Act: Incorporates the Sixth Schedule into the license of every licensee, mandating compliance with its provisions. - Sixth Schedule: Sets out financial principles for electricity companies, including the creation and management of various reserves such as the contingencies reserve. Judicial Precedents: - Poona Electric Supply Co. Ltd. v. CIT [1965] 57 ITR 521: The Supreme Court held that income-tax is a tax on real income, i.e., profits arrived at on commercial principles. The court distinguished between real profits and statutory profits, emphasizing that amounts returned to consumers under statutory compulsion are not part of real profits. - Cochin State Power and Light Corporation Ltd. v. CIT [1974] 93 ITR 582 (Ker): The Kerala High Court held that the amount transferred to the contingencies reserve is deductible in determining real profit, as it is a diversion by reason of an overriding obligation created by the statute. - Amalgamated Electricity Co. Ltd. v. CIT [1974] 97 ITR 334 (Bom): The Bombay High Court followed the Kerala High Court's reasoning, emphasizing that the contingencies reserve is created from revenue and not available for the assessee's general purposes. - CWT v. Bombay Suburban Electric Supply Ltd. [1976] 103 ITR 384 (Bom): The Bombay High Court distinguished between income-tax and wealth-tax contexts, holding that the contingencies reserve forms part of the assessee's assets for wealth-tax purposes. - Vellore Electric Corporation Ltd. v. CIT [1977] 109 ITR 454 (Mad): The Madras High Court held that the contingencies reserve is not deductible, as it remains within the control of the assessee and is used for business purposes. - CIT v. Sijua (Jharriah) Electric Supply Co. Ltd. [1984] 145 ITR 740 (Cal): The Calcutta High Court held that there is no diversion of income by overriding title, and the contingencies reserve is set apart for the assessee's business purposes. Supreme Court's Analysis: The Supreme Court found that the contingencies reserve is created from the revenues of the undertaking and remains under the control of the electricity company, albeit with statutory restrictions on its use. The reserve is intended to ensure funds are available for specific business-related contingencies, such as accidents and strikes, which the company must address to maintain uninterrupted electricity supply. The court emphasized that the doctrine of diversion of income by overriding title does not apply here, as the amounts reach the electricity company and are not diverted away. The company invests the sums in its name, and the reserve is meant for the undertaking's purposes, even when transferred to a new owner upon sale. Conclusion: The Supreme Court held that the amount credited to the contingencies reserve is not diverted by an overriding obligation or title and must be included in the business profits of the assessee. The court also rejected the argument that the amount should be allowed as a business deduction, as it is not an expenditure but a reserve set apart for possible future exigencies. Final Judgment: The question referred to the Supreme Court was answered in the affirmative and in favor of the Revenue. The assessee was ordered to pay the Revenue's costs, quantified at Rs. 10,000.
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