1997 (4) TMI 4 - SC - Income Tax

The question whether there was real accrual of income to the assessee-company in respect of the enhanced charges for supply of electricity has to be considered by taking the probability/improbability of realisation in a realistic manner - Tribunal rightly held that the claim at the increased rates on the basis of which necessary entries were made represented only hypothetical income and the impugned amounts as brought to tax by the Officer did not represent the income which had really accrued

Issues Involved:

1. Accrual of income under the mercantile system of accounting.
2. Real income vs. hypothetical income.
3. Legal right to recover enhanced charges.
4. Effect of litigation and government directives on income realization.

Issue-wise Detailed Analysis:

1. Accrual of Income under the Mercantile System of Accounting:

The assessee-company followed the mercantile system of accounting, where income is recorded when the right to receive it accrues, not necessarily when it is received. The High Court held that under this system, income must be "actually due" to be taxable, distinguishing real income from hypothetical income. The Tribunal had earlier held that the enhanced charges for electricity were hypothetical income since the right to receive them had not crystallized due to ongoing litigation and government intervention. The Supreme Court reaffirmed this view, stating that no real income had accrued to the assessee-company during the relevant years.

2. Real Income vs. Hypothetical Income:

The Supreme Court emphasized that income tax is levied on real income, not hypothetical income. This principle applies regardless of whether accounts are maintained on a cash or mercantile basis. The Court cited precedents, including CIT v. Shoorji Vallabhdas and Co. [1962] 46 ITR 144, where it was stated, "If income does not result at all, there cannot be a tax, even though in book-keeping, an entry is made about a hypothetical income, which does not materialize." The Court concluded that the enhanced charges represented hypothetical income, as the assessee-company could not realize these charges due to litigation and government directives.

3. Legal Right to Recover Enhanced Charges:

The High Court had held that the assessee-company had a legal right to recover the enhanced charges based on earlier judgments, including the Supreme Court's decision in Jindas Oil Mill v. Godhra Electricity Co. [1969] 3 SCR 836. However, the Supreme Court noted that the practical realization of this right was impeded by subsequent events, including a government directive and further litigation. The Court emphasized that the real accrual of income must consider the probability of realization, not just the legal entitlement.

4. Effect of Litigation and Government Directives on Income Realization:

The Supreme Court highlighted the impact of ongoing litigation and government directives on the realization of income. The assessee-company faced representative suits challenging the enhanced charges, which were initially decreed in favor of the consumers. Although these suits were eventually dismissed, the litigation continued, and a government directive advised maintaining the status quo on rates. The Court noted that the assessee-company, being a licensee, could not ignore this directive. Additionally, the management of the assessee-company was taken over by the government, further complicating the recovery of enhanced charges. The Court concluded that these factors made it improbable for the assessee-company to realize the enhanced charges, reinforcing the view that no real income had accrued.

Conclusion:

The Supreme Court allowed the appeals, set aside the High Court's judgment, and answered the questions referred by the Tribunal in favor of the assessee-company and against the Revenue. The Court held that the enhanced charges represented hypothetical income, not real income, and thus could not be included in the computation of the assessee-company's total income for the relevant assessment years. The Court emphasized the importance of considering the practical realization of income, not just the legal entitlement, in determining tax liability.

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