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TMI Blog1955 (1) TMI 36X X X X Extracts X X X X X X X X Extracts X X X X ..... e whole case has been referred to a new Bench this proviso does not apply and that we can hear the whole reference afresh and give our own decision. This view has been supported by Mr. Jagdish Swarup, counsel for the other side, and both the learned counsel have made a request that even if there be any irregularity they are waving the same and have prayed that the case may be heard and decided by this Bench. 3. Proceeding now to the reference itself, the facts are very simple. Shyam Lal Prag Narain is a firm carrying on business in Agra. On some date prior to the year 1935 the assessee firm had agreed to pay commissions at the rate of 12 per cent to the Manager and 3 per cent to the Assistant Manager. There was no written agreement but commissions at these rates were calculated on the profits without deducting income-tax and payments were made of the amounts thus worked out. On 6-4-1940, the Excess Profits Tax Act received the assent of the Governor-General and came into force. The Commissions were calculated upon 31-12-1941, and paid on the profits made without deducting income-tax or excess profits tax. The same procedure was followed the next year and commissions were worked ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion that the question did not arise. It was as regards the answer to the first question that they had differed. The whole case having been referred to us we now proceed to answer the two questions afresh. 7. We consider that at the outset it would be useful to point out the relevant provisions of law as the Tribuna1 does not appear to nave kept them clearly in view when deciding the case and on that account a lot of confusion has been created. Section 10, Income-tax Act provides for the mode of computation of income for the purpose of payment of income-tax; Section 10(2) gives the list of allowable deductions and Section 10(2)(x) allows the deduction of any sum paid to an employee as bonus or commission for services rendered, where such sum would not have been payable to him as profits or dividend, if it had not been paid as bonus or commission. The proviso to this section, however, gives the Income-tax Officer a right to decide whether the amount of the bonus or commission is a reasonable amount, having regard to- (a) the pay of the employee and the conditions of his service; (b) the profits of the (business, profession or vocation) for the year in question; and ( ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ve shown if they had not to pay Excess Profits Tax. 8. The reasonableness of the amount of bonus, or commission has to be determined by the Income-tax Officer and the Excess Profits Tax Officer under Section 10(2)(x) with reference to the proviso, that is, with reference to the pay of the employee, his conditions of service, profits of the business for the year in question and general practice in similar business. The Excess Profits Tax Officer has been given the further power under Rule 12, Schedule I, Excess Profits Tax Act, not to allow deduction in respect of expenses in excess of the amount which he considers reasonable and necessary having regard to the requirements of the business and services rendered. The question of reasonableness of the amount spent must, therefore, be judged with reference to the requirements of the business and if the expenditure relates, to a payment for services then the amount must be reasonable having regard to the actual services rendered by the person concerned. 9. Learned counsel for the assessee has admitted that the word 'reasonable' in Section 10(2)(x), Income-tax Act or in Rule 12 of Schedule I, Excess Profits Tax Act, and the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e 12, Schedule I, Excess Profits Tax Act. The amount could be disallowed in whole or in part if it was found that it was not reasonable and it was not necessary having regard to the requirements of the business and the actual services rendered by the Manager and the Assistant Manager. This was the point that the Excess Profits Tax Officer was required to decide and to which the Appellate Tribunal should have directed its attention. The question as to the terms of the contract may have been a matter of importance as between the employer and the employee but not for the purposes of the determination of the question of reasonableness or necessity either under the Income-tax Act or the Excess Profits Tax Act. 12. It has also not been disputed before us that the questions of reasonableness and the payment being necessary having regard to the requirements of the business have to be judged in accordance with the exigencies of the business keeping in view ordinary commercial practice and commercial expediency, and the Excess Profits Tax Officer must, for this purpose, place himself as far as possible in the shoes of the persons carrying on the business and judge the question from their ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... urged that the question whether it was a legal liability that was being discharged or it was merely an ex gratia payment that was being made might be one of the points to be taken into consideration. Even if it is a point, to be taken into consideration, it cannot be said to be a circumstances of any great importance, as the question of reasonableness under Rule 12 of Schedule I, Excess Profits Tax Act, has to be decided in accordance with the provisions of that rule and the Excess Profits Tax Officer has to decide the question of reasonableness and the question whether the payment was necessary having regard to the requirements of the business and in accordance with the services rendered by the employee's with reference to business principles-and exigencies of the business. 16. A large number of cases were cited on the point whether Excess Profits Tax should or should not be deducted before calculating the commission payable to an employee. This must depend in each case on the, terms of the contract. Where the contract is in writing the terms of the written agreement have to be interpreted, but where there is no written agreement, as in this case, the terms of the agreemen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t exclusive of the income-tax, unless the contract explicitly mentions otherwise. (See -- 'Ashton Gas Co. v. Attorney-General', 1906 AC 10 (D).) The reason is obvious. Income-tax is a share of the profits which the State claims as its own for the amenities supplied by it in making it possible for a company to work and earn its profits. The State, therefore, is one of the many co-sharers in the profits earned and the profits must therefore necessarily be inclusive of the amount which is payable to the State as its share. 20. Learned counsel for the assessee has urged that Excess Profits Tax is of the, same nature as income-tax and he has referred us to a decision of the House of Lords in -- 'Inland Revenue Commissioners v. Dowdall, O'Mahoney Co. Ltd.', 1952 AC 401 (E). The facts of that case were entirely different. A company was assessed to and paid taxes in Eire. It had, however, branches in the United Kingdom and in the computation of the profits for purposes of assessment it was claimed that the Taxes, Income-tax and Excess Profits Tax, paid in Eire should be excluded as deductible expenditure. Lord Oaksey pointed out that the taxes paid in Eire were not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Profits Tax. 23. In -- 'Smithy Potato Estates' case (F)' the question was whether legal and accountancy expenses incurred by a trader in contesting the amount of an assessment to excess profits tax were not allowable as deductions in computing profits for the purposes of a subsequent assessment to income-tax or excess profits tax. It was held that they were not money wholly and exclusively laid out or expended for the purposes of the trade. The passage relied on at page 527 is as follows: The reason is not far to seek. It is that neither the cost of ascertaining taxable profit nor the cost of disputing it with the Revenue Authorities is money spent to enable the trader to earn profit in his trade. What profit he has earned, he has earned before ever the voice of the tax-gatherer is heard. He would have earned no more and no less if there was no such thing as income-tax. His profit is no more affected by the exigibility of tax than is a man's temperature altered by the purchase of the thermometer, even though he starts by haggling about the price of it. It is urged that from this sentence we must deduce and hold that profits always mean profits Inclusive ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tax has to be deducted as an expenditure for the purposes of computation of Income-tax. Income-tax is levied on a sliding scale. While Excess Profits Tax is charged either at a fixed percentage of the difference between the profits earned and the standard profits. There is no provision in the Excess Profits Tax Act for any refund being made, as there is in Section 48, Income-tax Act. The whole concept behind the two taxes, even if there are many things common between the two, is different and it cannot, therefore, be said that Excess Profits Tax must for all purposes be treated in the same way as Income-tax, 25. In -- 'Birt, Potter Huges, Ltd. v. Commissioner of Inland Revenue', (1928) 12 Tax Cas 976 (I) Lord Hanworth M, R. pointing out the nature of the Excess Profits Tax at page 990 said : It does not appear there that the tax is charged upon a person in respect of his activities. It is a tax designed to catch a portion of the amount which is deemed by the Legislature to be in excess of the normal profits of trade or business. 26. This, however, is a division which is hardly necessary for the purposes of this case. As we have held, the question on what basis ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... recoverable as a debt from him and is payable in respect of the profits of the business, and not in respect of the benefit which a shareholder or partner derives from the business Nor are excess profits duty and Income-tax 'payable in respect of the same fund; for excess profits duty is for the purpose of income tax treated as an outgoing of the business, which, reduces the profits in respect of which income-tax is assessable. In my view excess profits duty is a debt due to the Crown, the amount being ascertained with reference to the amount by which the profits exceed the prewar standard. 30. This view was followed by the Court of Appeal in -- 'Patent Castings Syndicate, Ltd. v. Etherington', (1919) 2 Ch 254 (M). The question, however, in that case arose between two contract-Ing parties and it related to the meaning of the expression 'payable commission out of the net profits'. Warrington, L. J., remarked, that a reasonable interpretation of the agreement would be that the company intended to give to its employees a share of the money which belonged to it and not a share out of a sum of money which did not belong to the company but was payable to His Majest ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oted the observations made in some of the English cases. 35. In -- 'N.M. Rayaloo Iyer and Sons v. Commissioner of Income-tax/Excess Profits Tax, Madras', (S) AIR 1955 Mad 56 (Q) the main question turned on the interpretation of certain letters and the other questions in the case are not relevant for our purposes. 36. The position, therefore, is that the cases cited at the Bar mainly relate to the question of interpretation of written agreements. In the case before us, the assessee had been paying commission at 12 per cent and 3 per cent from the year 1935 to the year 1940 on the profits earned without deducting Income-tax. The fact that Income-tax was not deducted will not, however, be very helpful in determining the terms of the agreement relating to the deduction of Excess Profits Tax. For two years at least, in 1941 and 1942, commission was paid without deducting Excess Profits Tax and neither the Income-tax Officer nor the Excess Profits Tax 'Officer objected to such payment. The Appellate Tribunal has observed in its appellate order that: the past records showed that according to the existing practice, the commission had been allowed on the net profits at ..... X X X X Extracts X X X X X X X X Extracts X X X X
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