1971 (8) TMI 12 - SC - Income Tax

Whether, on a true interpretation of article 37 of the articles of association, the assessee-company can be regarded as one in which the public are substantially interested within the meaning of the third proviso to section 23A(1) - question referred in each case is answered in favour of the assessee

Summary

Issues:
1. Whether the assessee-company can be regarded as one in which the public are substantially interested within the meaning of the Explanation in section 23A of the Indian Income-tax Act, 1922.
2. Interpretation of article 37 of the articles of association affecting the free transferability of shares.
3. Application of the provisions of section 23A of the Act in the assessment years 1952-53 and 1954-55.
4. Discretion conferred upon directors by article 37 and its impact on the transfer of shares.
5. Comparison of views between different High Courts regarding the free transferability of shares.

Analysis:
The Supreme Court judgment involved appeals from the Calcutta High Court concerning income-tax references related to whether the assessee-company could be considered as one in which the public are substantially interested under section 23A of the Income-tax Act. The main contention was based on the interpretation of article 37 of the company's articles of association, which granted directors the discretion to decline registering share transfers without reason. The Income-tax Officer initially held that the company did not meet the public interest criteria, leading to the application of section 23A provisions. However, the Appellate Tribunal later ruled in favor of the company, stating that article 37 did not restrict share transferability to the public.

The High Court, following precedent, held that a company with directors having absolute discretion to refuse share transfers was not considered to have freely transferable shares. This interpretation was based on the requirement in section 23A that shares should be freely transferable to the public. The Supreme Court analyzed conflicting views from different High Courts, noting that the Madras and Bombay High Courts disagreed with the Calcutta High Court's stance on the impact of articles like article 37 on share transferability.

The Supreme Court emphasized that the mere existence of an article like article 37, granting directors the discretion to refuse share transfers, did not automatically restrict the free transferability of shares. The Court highlighted that such discretion was intended to protect the company's interests and prevent undesirable members, rather than impede share transferability. The judgment stressed that the directors' discretion should be exercised reasonably and in the company's best interests, without arbitrary restrictions on share transfers.

Ultimately, the Supreme Court allowed the appeals, setting aside the High Court's decision and ruling in favor of the assessee. The Court concluded that article 37 did not hinder the free transferability of shares, as it did not present evidence of directors abusing their discretion or imposing restrictions beyond the company's interests. The judgment clarified that the normal practice of limited companies included such articles to safeguard company interests, without impeding the general free transferability of shares to the public.