9911796707
TMI Blog1958 (12) TMI 36X X X X Extracts X X X X X X X X Extracts X X X X ..... the Income-tax Officer rejected both the accounts of the assessee and his return and assessed him on an income of ₹ 1,48,886. In making this assessment the Income-tax Officer had fixed the assessee's income from his head-office at Alleppey and the other branches, mentioned in paragraph 1 above, at ₹ 76,478 and disallowed a large part of the amount which the assessee had claimed as permissible deduction on account of payment of salary and allowances to his general manager and the manager of the Alleppey office who was also the cashier. The general manager, K. Laksh-mana Reddiar, was the assessee's nephew and had been employed for a very long time, and the manager of the Alleppey office, D. Rama-murthi, was the assessee's son-in-law. According to the assessee, during the accounting period in question the general manager was paid a salary of ₹ 36,000 (Rs. 3,000 per month) and an allowance of ₹ 5,000 and the manager of the Alleppey office was paid a salary of ₹ 12,000 (Rs. 1,000 per month). Out of the amount of ₹ 41,000 claimed by the assessee on account of payment of salary and allowance to the general manager the Income-tax Officer -all ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the amount of ₹ 40,909 mentioned above, which was referred to in the Tribunal's order as (i) ₹ 40,909-additions for trading deficiency , the Tribunal said : Regarding the first contention, in the absence of a variety-wise stock tally, the proviso to section 13 is clearly attracted. For the Alleppey head office, the Appellate Assistant Commissioner has accepted the Income-tax Officer's estimate of 5.5% as against 5.07 shown by the assessee, whereas for the other branches, the Appellate Assistant Commissioner has reduced the estimate of gross profit rate made by the Income-tax Officer to only 5%, with the result that eventually ₹ 40,909 has been added in the assessment. The assessee cited a few cases in the locality alleged to be comparable with his own. In view, however, of the importance of the various categories of quotas held by the textile dealers and the quantity distributed under each head, with differential margin thereon, no useful comparisons can be made. In all the circumstances of the case we have to hold that the assessee has not proved that the additions presented in question are, by any means, excessive or unreasonable. The contention ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on 10(2) clause (x) of the Act. Both sides admitted before us that the manager and cashier referred to in question No. (ii) were the general manager and manager of the Alleppey office respectively, i.e., the persons in respect of payment of salaries and allowances to whom the assessee had claimed deductions of ₹ 41,000 and ₹ 12,000 respectively. 6. Question No. (i ) relates to the inclusion of the amount of ₹ 40,909 on account of the profits of the business at Alleppey and the branches, referred to in the Tribunal 's order of September 30, 1954, as : (i) ₹ 40,909 additions for trading deficiency . According to the Appellate Tribunal and the learned counsel for the Income-tax Department, the decision of the Tribunal on the matters involved in this question was based on pure appreciation of facts and no point of law is involved in it for consideration in a reference under section 66. 7. Section 13 of the Income-tax Act the proviso to which, according to the Tribunal, is clearly attracted in the absence of a variety-wise stock tally, reads as follows : 13. Income, profits and gains shall be computed, for the purposes of sections 10 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cumstances which may provoke an inquiry. The Income-tax Officer must discover evidence or material aliunde before he can give such a finding. If the assessee has regularly employed a method of accounting even if the profit as entered in his accounts is not the true profit, the Income-tax Officer will not, in the opinion of the Privy Council, be justified in rejecting his method of accounting. Their Lordships say in Commissioner of Income-tax v. Sarangpur Cotton Manufacturing Company Ltd. [1938] 6 ITR 36 : ... the section relates to a method of accounting regularly employed by the assessee for his own purposes-in this case for the purposes of the company's business-and does not relate to a method of making up the statutory return for assessment to income-tax. Secondly, the section clearly makes such a method of accounting a compulsory basis of computation unless in the opinion of the Income-tax Officer the income, profits and gains cannot properly be deduced therefrom. It may well be that, though the profit brought out in the accounts is not the true figure for income-tax purposes the true figure can be accurately deduced therefrom. The simplest case would be where it ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... unting has been regularly employed, the income must be computed upon such basis and in such manner as the Income-tax Officer may determine. The words 'in the opinion of the Income-tax Officer' are not to be construed in the sense of a mere discretionary power ; but in the context of the words used in the proviso to section 13 they impose a statutory duty on the Income-tax Officer to examine in every case the method of accounting and to see (i) whether or not it is regularly employed and (ii) to determine whether the income, profits and gains can properly be deduced therefrom. Their Lordships held further that the decision in regard to the method of accounting is to be arrived at first by the Income-tax Officer after a careful scrutiny of the accounts, whether they be simple or complicated, and the power is to be reasonably and judicially exercised, which excludes any subjective or arbitrary decision by the Income-tax Officer ; but the power so exercised is not clothed with finality and is not excluded from review by the Appellate Assistant Commissioner; and in reviewing the order the appellate authorities can exercise the same powers which the Income-tax Officer ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d of accounting. Not only is there no finding in the orders of the Income-tax Officer, the Appellate Assistant Commissioner, and the Appellate Tribunal that the assessee has not been regularly employing a method of accounting, but the fact that he had produced his books of accounts is specifically referred to in the orders of the Income-tax Officer and the Appellate Assistant Commissioner. Furthermore, their orders show that they have accepted the figures in his books relating to the opening stock and purchases and sales during the- accounting year, and that all that they have done, apart from disallowing some items of deductions claimed by the assessee, is to add certain percentages of profits calculated on the sales disclosed by the books. The assessee's complaints in the reference are : (1) that the income-tax authorities have not considered the question whether the income, profits and gains can properly be deduced from his method of accounting without which it was not competent for them to reject his method of accounting, and (2) that there were no materials before them for holding that the income, profits and gains cannot properly be deduced from his method of accounting. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... given by the Income-tax Officer in Pandit Bros. v. Commissioner of Income-tax [1954] 26 ITR 159 (Punj.) also, for rejecting the assessee's accounts in that case, and Khosla, J., with whom Kapur, J., agreed, has said therein : All he (Income-tax Officer) said was that the profits appeared to be somewhat low and there was no stock register. In my view the fact that the profits are low is merely a warning to him to look into the accounts more carefully and see whether there is material to lead him to the conclusion that there is something false in the account books. The more fact that the profits are low is not material upon which a finding under section 13 can be based, because the assessee may be incompetent or his methods of business may be uneconomic. Again, the fact that there is no stock register only cautions him against the falsity of the returns made by the assessee. He cannot say that merely because there is no stock register the account books must be false. The account books in this case were accepted as correct and disclosing a true state of affairs. The absence of one register cannot amount to material and there must be material before the Income-tax Officer befo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cast the burden of proof entirely on the wrong shoulders. When the assessee had a method of accounting, and he had been regularly employing it, it was for the Department to consider whether there were sufficient materials for rejecting that method of accounting and computing the profits on other basis and not for the assessee to prove that his method of accounting ought not to be rejected. Over and above the circumstances pointed out in Pandit Bros. v. Commissioner of Income-tax [1954] 26 ITR 159 , there might also be other reasons in this case for the low percentage of profits as compared with the percentages of profits in previous years. In the years immediately preceding the accounting period in question textile control was in force in the Travancore State. It was lifted in Makarom, 1123, and re-introduced about 15 days before the close of the year. The Income-tax Officer seems to think that the lifting of the control was bound to bring about increased sales and profits. The assessee, on the other hand, contends that the immediate effect of the lifting of the control was to reduce the sales and profits. According to his counsel, when the control was in force the tendency on the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... questioned by the Department before the Tribunal. The Income-tax Officer himself appeared before the Appellate Assistant Commissioner at the time of the hearing of the appeal filed by the assessee and strange to say, he conceded before the Appellate Assistant Commissioner that most of the reasons given by him in his own order for rejecting the assessee's accounts and holding the inventory to be incomplete and incorrect were wrong. In considering the profits of the assessee's business the Appellate Assistant Commissioner says in his order : The appellant objects to the above estimate on the ground that it is excessive and unwarranted. He urges that his accounts contain a complete and correct record of all his transactions, that the result disclosed by them has always been accepted in the past and that the Income-tax Officer acted unjustly in disbelieving them now. He further explains that the Income-tax Officer went wrong in the calculation of the rates of gross profit as per the accounts. For instance, the Income-tax Officer's assumption that the appellant was charging a profit of not less than 2% on sales to branches and on other inter-branch transfers is wrong. S ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he sales, all that is necessary for computing the profit is only information about the quantity and value of the closing stock. That information was easily available from the stock inventory, and the correctness of the inventory could have been easily checked with the help of the records relating to the opening stock and the purchases and sales. The Income-tax Officer had not questioned the correctness of the opening stock and purchases in his order, and although he had said in it that the accounts of the sales were not acceptable for want of details the Appellate Assistant Commissioner has specifically said in his order : It is also conceded that details of sales are recorded in a sales register in which bills are copied. However, while dealing with the assessee's contention that immediately after the lifting of the controls there was a fall in demand and the low profit was a consequence of it, the Appellate Assistant Commissioner also laid emphasis on the absence of a regular stock register. The Appellate Tribunal too has referred in its statement of the case to the facts that the assessee was bound to keep a variety-wise stock register under the Textile Control Ord ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on account of the payment to the general manager was made up of ₹ 36,000 paid as salary and ₹ 5,000 paid as allowances. Out of this the Appellate Assistant Commissioner allowed ₹ 18,000 in respect of the claim on account of salary and disallowed the balance claim of ₹ 18,000 in respect of salary as also the claim for ₹ 5,000 in respect of allowances. Before us it was conceded by the assessee's counsel that he is not entitled to get a deduction in respect of the allowances of ₹ 5,000 paid to the general manager as section 10(2)(x) of the Indian Income-tax Act would apply to the same and the allowances would not be justified on the grounds of reasonableness prescribed therein. The Income-tax Officer had allowed only ₹ 9,890 and ₹ 4,200 respectively on account of the payments to the general manager and the manager of the Alleppey office, and his reasons for disallowing the rest of the claims are stated as follows in his order : The manager of the head office is Mr. K. Lakshmana Reddiar who is the nephew of the assessee. He is paid a regular salary of ₹ 36,000 and, in addition, an allowance of ₹ 5,000 together making ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e been paid, had it not been for the fact that the employee in question is also the assessee's son-in-law. The assessee's complaint in the application for references under section 66(1), which was dismissed by the Tribunal, was that the question of the deduction of the salaries paid to the employees was governed by section 10(2)(xv) and that the Tribunal was not, therefore, justified in deciding that question on the basis of section 10(2)(x). After the High Court had said in their order on the assessee's application to compel a reference that the matter of salaries was not covered by section 10, clause (2), sub-clause (x), on which the Appellate Tribunal had relied and formulated the question whether the disallowance can be justified on the ground of reasonableness under section 10(2)(x), the Tribunal said in the statement of the case in the present reference that what it had done when it dismissed the appeal was to consider the case under section 10(2)(xv) calling to its aid the standards laid down in section 10(2)(x). To quote its own words : On a proper consideration of all the facts and circumstances of the case of each of the two employees aforesaid, un ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... conditions of his service, (2) profits of the business, profession or vocation for the year in question, and (3) the general practice in similar businesses, professions or vocations. None of these considerations can seriously be allowed to affect the question of the allowance claimed on account of the payment of salaries to employees. The first of the standards mentioned above cannot obviously apply when the reasonableness of the pay itself is in question, for it would be meaningless to say that the reasonableness of the pay of the employee should be judged with reference to that pay itself. As regards the second, it would be very difficult for a business concern to secure employees who would be prepared to accept pay varying from year to year according to its profit, or loss which would be determined only after the profit or loss for the year is ascertained. Employees have to be paid salaries whether the business earns a profit or incurs a loss. To insist upon payment of salaries to employees only in conformity with the general practice in similar businesses would be to deprive the management of the right to compete with other concerns for securing the services of better qualifie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... by the Rangoon High Court in Chairman of the Income-tax Appellate Tribunal v. Y.E. Aboo [1956] 30 ITR 27 and, if we may say so with respect, we also are in perfect agreement with the view expressed therein. In deciding the question whether the salary paid to an employee is a permissible deduction all that the Income-tax authorities are entitled to enquire is whether it has really been paid and whether it has been laid out or expended wholly and exclusively for the purpose of the business, profession or vocation. The question of the reasonableness of the expenditure does not arise as it is for the assessee to decide how his business should be run and whether a particular item of expenditure is reasonable or not having regard to commercial expediency. 17. There is no finding at all in this case that the payments made to the general manager and the manager of the Alleppey office were not really made. The Income-tax Department had no case at any time that the payments in question were not genuine, and barring a belated suggestion in the statement of the case in making the reference that it might have been open to the Income-tax authorities to hold that the payments were not genuine, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee and whether the payments to them were made entirely on account of business considerations or on account of other considerations also, and if there are materials in the case on which the Income-tax authorities can legitimately arrive at a finding that motives other than business considerations have also influenced the payments it will be open tothem to deduct from the claim what has been paid on account of motives other than business considerations and allow only what has been paid for the purpose of the business. The correct procedure to be followed in such cases has been thus indicated, in Commissioner of Income-tax v. Jainarain Jagannath [1945] 13 ITR 410, by Fazl Ali, C.J., who later became a Judge of the Supreme Court: A member of a joint family might conceivably do business in his individual capacity and in that capacity might render services to the joint family trading firm in consideration of which the firm might pay him such remuneration as it would pay to an outsider. If such remuneration is not excessive and is reasonable and is not a device to escape income-tax, then it will be a legitimate deduction. If, on the other hand, the amount paid to an individual ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Officer at the time of the hearing of the appeal before the Assistant Commissioner that he had gone wrong in several respects in making the assessment in this case and also in view of his omission to consider the salaries paid to the general manager in the past years there is every reason to consider that beyond his own subjective standard the Income-tax Officer has not applied any test of reasonableness to the payments of the salaries of these two employees. The Assistant Commissioner has not said in his order that he considered that any part of their salaries was paid to these two employees on account of their relationship to the assessee. On the other hand, his finding is that the services of the general manager were very valuable to the assessee and that the salary paid to the manager of the Alleppey office was not higher than the salary and allowances paid to the managers of other branches. Nevertheless, he considered ₹ 18,000 sufficient allowance for the general manager's salary. According to him, ₹ 18,000 represented a fair commercial value of the general manager's services and this allowance was quite reasonable and adequate. Beyond his subjective satis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... with the scales of remuneration in similar businesses in the locality. From the order of the Tribunal it is clear that when it disallowed the claim at the time of dismissing the appeal it had not adverted at all to the scales of remuneration in similar businesses in the locality or the relationship of the general manager to the assessee. As we have already pointed out, the mere relationship of the employee to the assessee is not sufficient reason for disallowing the salary paid to him. The assessee is at liberty to employ any relative so long as the employment is bona fide, and he is also entitled to claim deduction of the salary paid to such employee if the salary is paid bona fide and wholly on account of business considerations and is not influenced by the fact of relationship. The only reason given in the* order dismissing the appeal, namely, that the salary must be cut down because the assessee had made no profit during the accounting period, is not tenable in law. The question of the assessee's profit or loss is perfectly immaterial in deciding his claim for deduction of the salary paid to an employee so long as the salary was paid by him bona fide to the employee for the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ant's advocate that the full facts of the case were not taken into consideration at the time of the appeal. The Appellate Assistant Commissioner on the ground that managers of other branches were generally allowed ₹ 3,200 and that this manager was more qualified and attending to more important work made a higher allowance of ₹ 350 per month. But the fact that those other managers were paid bonus besides salary as also mess expenses of a considerable extent and that the Alleppey manager had not been given any such allowance does not appear to have been placed before the Appellate Assistant Commissioner then. If these additional emoluments also had been taken into consideration, it would have been found that the salary of ₹ 1,000 per month paid to Mr. Ramamurthi Reddiar was not more than the overall remuneration allowed to some of those managers. For instance, such overall remuneration paid to the manager of the Trivandrum shop in the year of account was ₹ 13,545. But the remuneration allowed to other branch managers was somewhat less. Taking all these circumstances into consideration, I am of opinion that a deduction of ₹ 9,000 may reasonably be all ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he Tribunal was nothing more than its own subjective standard. Absolutely no reason has been given as to why it considered ₹ 9,000 was sufficient remuneration for the employee. The test of the reasonableness of the salary in such cases cannot be the subjective standard of reasonableness of the Tribunal but the standard of reasonableness from the point of view of a businessman with due regard to commercial expediency. As managers of some of the other branches of this very assessee were being paid an overall remuneration of ₹ 1,000 per month and no reason has been assigned by the Tribunal for holding that ₹ 9,000 would be reasonable remuneration in his case it has to be held that there was no material before the Tribunal also for holding that ₹ 9,000 would be reasonable remuneration for the manager of the head office who was also performing the duties of the cashier, and that the disallowance of ₹ 3,000 out of the claim for deduction of ₹ 12,000 on account of the 'salary paid to him also cannot be justified. 21. In the result, the answer to question No. (i) is that the Tribunal was not justified in holding that the proviso to section 13 of t ..... X X X X Extracts X X X X X X X X Extracts X X X X
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