1971 (6) TMI 7 - HC - Income Tax

The amount of remuneration of directors and the manner of distribution thereof are both provided in the articles of association of the company. Payment of remuneration by virtue of any provision contained in the articles does not undoubtedly oust the jurisdiction of the Income-tax Officer under section 10(4A) and, by itself, in the absence of other relevant materials, may not sufficiently justify an amount paid. In view, however, of the fact that the total amount paid to the directors on account of remuneration and commission in the instant case is not unreasonable or excessive and is justified, the manner of distribution of the said total amount amongst the directors on the basis of the articles which constitute a valid agreement between the members themselves who also happen to be the directors and between them and the company, results in the smooth and efficient working of the company and avoids all kinds of possible hitches amongst them. As the payment of the total amount of remuneration inclusive of commission to the directors is justified in the facts of the instant case, the payment to the Rani of a larger sum in the matter of distribution of the total amount by agreement between the parties cannot be considered to be unjustified, particularly as such payment results in smooth working of the company on the basis of the articles.

Issues Involved:
1. Applicability of Section 10(4A) of the Indian Income-tax Act, 1922.
2. Reasonableness of remuneration and commission paid to directors.
3. Jurisdiction and powers of the Income-tax Officer under Section 10(4A).
4. Legitimate business needs and benefits derived by the company.

Issue-wise Detailed Analysis:

1. Applicability of Section 10(4A) of the Indian Income-tax Act, 1922:
The primary issue in this case is the applicability of Section 10(4A) to the remuneration paid to the directors of the assessee company. Section 10(4A) was inserted by Section 7 of the Finance Act, 1956, effective from April 1, 1956. The relevant portion of Section 10(4A) states that no allowance shall be made in respect of any expenditure resulting in the provision of remuneration to a director or a person with a substantial interest in the company if, in the opinion of the Income-tax Officer, such allowance is excessive or unreasonable considering the legitimate business needs of the company and the benefit derived by it.

2. Reasonableness of Remuneration and Commission Paid to Directors:
The Income-tax Officer disallowed significant portions of the remuneration and commission paid to the directors for the assessment years 1956-57 to 1959-60, arguing that the payments were excessive and unreasonable. The amounts disallowed were Rs. 46,162, Rs. 45,753, Rs. 42,967, and Rs. 46,720 for the respective years. The Income-tax Officer's reasons included the directors not devoting sufficient time to the company's affairs, the Rani being merely a custodian of investments, and the commission being an allocation of profits.

3. Jurisdiction and Powers of the Income-tax Officer under Section 10(4A):
The Tribunal held that the Income-tax Officer did not properly exercise his jurisdiction under Section 10(4A). The Income-tax Officer must consider the legitimate business needs and the benefits derived by the company from the expenditure from the viewpoint of a prudent businessman. The Tribunal found that the Income-tax Officer viewed the matter primarily from a tax collector's perspective, ignoring the legitimate business needs of the company and the benefits derived from the directors' services.

4. Legitimate Business Needs and Benefits Derived by the Company:
The Tribunal emphasized that the legitimate business needs and benefits derived by the company must be judged from the viewpoint of a prudent businessman. The Tribunal noted that the company had significant operations with producing and distributing centers and a substantial annual turnover. The total head office expenses, including directors' remuneration, were about Rs. 5,000 per month, which could not be considered unreasonable. The Tribunal also noted that the directors' duties, as detailed in an affidavit, involved substantial administrative responsibilities essential for the smooth running of the company. The Rani, despite not being involved in day-to-day operations, played a crucial role in decision-making and guiding the company's affairs.

Conclusion:
The Tribunal concluded that the disallowance of the remuneration and commission paid to the directors by recourse to Section 10(4A) was unjustified. The Tribunal held that the payments were not excessive or unreasonable, considering the legitimate business needs and benefits derived by the company. The Tribunal's decision was affirmed, and the question was answered in favor of the assessee and against the department. The respondent-assessee was entitled to costs from the applicant.

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