1980 (12) TMI 126 - HC - Companies Law

Issues Involved:
1. Whether Rs. 18,64,065 distributed as dividend should be excluded in the computation of capital for ascertaining the 'statutory deduction' under the Companies (Profits) Surtax Act, 1964, for the assessment year 1970-71.

Issue-wise Detailed Analysis:

1. Computation of Capital and Statutory Deduction:

The primary issue revolves around whether the amount of Rs. 18,64,065 distributed as dividends should be excluded from the computation of capital for ascertaining the 'statutory deduction' under the Companies (Profits) Surtax Act, 1964.

Facts and Arguments:
- The assessee, a private limited company, filed its return showing a deficit of chargeable profits for the assessment year 1970-71. The Surtax Officer computed the chargeable profits and statutory deduction, excluding Rs. 25,45,923 transferred to the general reserve after the first day of the chargeable accounting period.
- The AAC upheld the assessee's contention that the entire sum shown as general reserve should be considered for computation.
- The Tribunal, however, accepted the department's contention that the dividend amount should not be included in the computation of capital, leading to the present reference.

Legal Provisions and Interpretation:
- Section 2(5) and Section 2(8) of the Act define 'chargeable profits' and 'statutory deduction', respectively.
- Rule 1 of the Second Schedule to the Act specifies the computation of capital, including reserves.
- The Explanation to Rule 1 clarifies that amounts of the nature of 'current liabilities and provisions' should not be regarded as reserves.

Court's Analysis and Rationale:
- The court emphasized the statutory provisions under the Companies Act, 1956, particularly sections 217 and 220, which outline the preparation and adoption of the balance-sheet and the role of the general body in approving the directors' recommendations.
- The court concluded that the creation of a reserve and the declaration of dividend occur simultaneously when the general body adopts the balance-sheet and the directors' report.
- The court rejected the contention that the board of directors' authority under the articles of association could override the statutory provisions, emphasizing that a reserve is created only when approved by the general body.
- The court also considered the Explanation to Rule 1, which excludes amounts of the nature of 'current liabilities and provisions' from being regarded as reserves.

Relevant Case Law:
- The court referred to CIT v. Mysore Electrical Industries Ltd. [1971] 80 ITR 566, which held that appropriations made by the directors relate back to the first day of the relevant previous year.
- The court distinguished between 'reserves' and 'provisions', noting that amounts set apart for specific liabilities, such as dividends, do not constitute reserves.
- The court also discussed the decisions in Nagammal Mills Ltd. v. CIT [1974] 94 ITR 387 and Madras Auto Service v. CIT [1978] 112 ITR 540, which supported the view that proposed dividends should not be included in the computation of capital.

Conclusion:
- The court concluded that the amount of Rs. 18,64,065 distributed as dividends should be excluded from the computation of capital for ascertaining the statutory deduction.
- The court answered the question referred in the affirmative, against the assessee, and awarded costs to the respondent-Commissioner.

Summary:
The High Court of Madras ruled that Rs. 18,64,065 distributed as dividends should be excluded from the computation of capital for ascertaining the statutory deduction under the Companies (Profits) Surtax Act, 1964, for the assessment year 1970-71. The court emphasized that reserves are created only when approved by the general body and that amounts set apart for specific liabilities, such as dividends, do not constitute reserves. The court's decision was supported by relevant case law and statutory provisions, leading to an affirmative answer against the assessee.

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