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TMI Blog1986 (8) TMI 5X X X X Extracts X X X X X X X X Extracts X X X X ..... for the lease of the mills from Saksaria Cotton Mills Ltd. There was a partnership in the lease between the assessee and Sri S. L. Bajoria in a certain ratio. That lease was for the period from January 28, 1961, to October 30, 1961. After the expiry of that period of lease, the assessee alone entered into a financing agreement with Saksaria Cotton Mills Ltd. and that agreement remained in force from November 1, 1961, to March 31, 1963. After the expiry of that financial agreement, the assessee entered into another agreement with Saksaria Cotton Mills Ltd., on October 19, 1963, for a period of three years from April 1, 1963, to March 31, 1966. This agreement was described as a leave and licence agreement. In accordance with clause 17 of the agreement, the assessee deposited Rs. 20 lakhs on April 3, 1963, with Saksaria Cotton Mills Ltd. and Saksaria Cotton Mills Ltd. handed over its properties to the assessee. The assessee ran the mills. The leave and licence agreement, after expiry of the period stipulated in that agreement, was extended up to June 30, 1966. The Tribunal was informed by the counsel for the assessee that the extension was on the same terms and conditions on which th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he Appellate Assistant Commissioner, on appeal, held that the assessee was responsible for financing and running of the mills belonging to Saksaria Cotton Mills Ltd., according to the terms and conditions of the leave and licence agreement. The amount of Rs. 20 lakhs was given as loan advanced by the assessee to Saksaria Cotton Mills Ltd., during the course of the assessee's business and was incidental to the business. The Appellate Assistant Commissioner further held that the claim for deduction was not premature because Saksaria Cotton Mills Ltd. had gone into liquidation and its mills had been closed down in the relevant year of account. The Appellate Assistant Commissioner also allowed the claim of the assessee for deduction of the sum of Rs. 4,31,352 as business expenditure under section 37 of the Income-tax Act. It was held by the Appellate Assistant Commissioner that out of Rs. 4,31,352, an amount of Rs. 1,40,000 represented interest for which the assessee had taken credit in its account on the basis of the mercantile system of accounting. The sum of Rs. 1,48,470 was payable by way of insurance premium. A further sum of Rs. 1, 42,882 was paid on account of rates and taxes ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... terms and conditions of the "leave and licence agreement" executed on October 19, 1963, the Tribunal was right in holding that the loss of Rs. 20 lakhs which had been deposited by the assessee with Saksaria Cotton Mills Ltd., pursuant to clause 17 of the said agreement, arose in the carrying on of the assessee's business and was incidental to it and was accordingly allowable as a business loss ? 2. Whether, on the facts and in the circumstances of the case, and on a proper interpretation of the said leave and licence agreement, the Tribunal was justified in holding that the payment by the assessee of insurance premium and rates and taxes for nine months after the said agreement had come to an end was made in the course of the carrying on of the business of the assessee and was, therefore, allowable as a deduction ?" The terms of the agreement relevant for the purpose of the present reference have been reproduced in the order of the Tribunal and are as under : "4. All rates, taxes, assessments, electricity, water and all other outgoings whatsoever in respect of the licensed premises, whether payable to the municipality, any public utility company or other local authority or Go ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the time of such termination or expiry of the licence." In the appellate order, the Tribunal has stated: "In accordance with clause 17 of the agreement, the assessee deposited Rs. 20 lakhs on April 3, 1963, with Saksaria Cotton Mills Ltd. and Saksaria Cotton Mills Ltd. handed over all its properties to the assessee. The assessee worked the mills. The leave and licence agreement, after expiry of the period stipulated in that agreement, was extended up to June 30, 1966. We are told by learned counsel for the assessee that the extension was on the same terms and conditions on which the leave and licence agreement had been made. The assessee, taking advantage of clause 13 of the leave and licence agreement, advanced Rs. 20 lakhs on different occasions between March 19, 1964, and March 16, 1965, for modernisation of the mills of Saksaria Cotton Mills Ltd. The assessee made a credit entry of Rs. 1,40,000 being the interest receivable by it from Saksaria Cotton Mills Ltd. on the deposit of Rs. 20 lakhs at the rate of 7% per annum. This entry was reversed in the year under consideration. During the extended period of three months, the assessee paid insurance premium, rates and taxes a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of its own, but ultimately went into liquidation on March 12, 1968. We shall now examine whether the Tribunal was right in coming to the conclusion that the loss of the deposit of Rs. 20 lakhs arose in the course of carrying on of the assessee's business and was incidental to it. The Tribunal, in its appellate order, has stated that it was not the case of the Department that the assessee had acquired any asset by virtue of the agreement. The case of the Department was that the assessee had acquired a benefit of an enduring nature by the agreement. The Tribunal, after considering the arguments on behalf of the Department as well as the assessee and after considering the cases cited before it, observed in paragraph 10 of its order "The assessee, by the leave and licence agreement, acquired a right to work the mills, i.e., acquired a source of income. It provided the assessee a benefit of an enduring nature. It does not matter that from the terms of the agreement, it was a short-term one, i.e., it was only for a period of three years ... The deposit was made under clause 17 of the agreement and its nature is to be considered on the effect of clause 17 upon it. According to clause ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o be run by the assessee-company initially in partnership and later by itself. Did the scheme envisage any outlay of capital by the assessee-company ? This is the question that has not been gone into at any stage of this case. The Tribunal has held that the amount that was given under clause, 17 of the agreement was not in the nature of a loan or a salami. The Tribunal has also found that this amount was deposited by the assessee-company on April 3, 1963, and Saksaria Cotton Mills Ltd. handed over its properties to the assessee on that date. Under clause 17 of the leave and licence agreement, the assessee was required to keep deposited with the licensor during the subsistence of the licence the sum of Rs, 20 lakhs. There was no restriction on the licensor to use the sum as it liked. The licensor had to pay interest on the amount at the rate of 7% per annum. The amount of deposit had to be repaid to the licensee on termination or expiry of the licence and after deducting therefrom any moneys that may have become due to the licensor at the time of such termination of the licence. Therefore, subject to the obligation of repaying the deposit in the event of termination of the agreeme ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e United Kingdom arid deposited the sterling equivalent in London. Owing to the subsequent depreciation of Chinese dollars with respect to sterling, the amounts eventually required to repay agency deposits in Chinese currency were much less than the sums, held by the company. In that process, a substantial profit accrued to the company. The question was whether this was a capital receipt or a revenue receipt. The answer to that question depended on the nature of the deposit. In that connection, Jenkins L. J. observed (at p. 147): "The points to be noticed as to the character of the payment made by an agent under that form of agreement and as to the essential features of the bargain recorded by it are these : The sum paid is a deposit ; it is to stand as security for, to put it shortly, the fidelity of the agent so that in the event of default by the agent, it may be applied in discharge of sums due from him in respect of sales of petrol or the like. It is not, however, payment in advance because what it contemplates is that it shall remain as a standing deposit throughout the period of the agency, and recourse shall not be had to it except in the case of default. It has the chara ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the company with a view to him trading on its behalf, and as condition of his appointment has deposited with or, in other words, lent to the company the amount of his stipulated deposit." The case of Davies v. Shell Co. of China Ltd. [1952] 22 ITR (Suppl.) 1 (CA), was cited and followed by the Supreme Court in the case of K. M. S. Lakshmanier and Sons v. CIT I CEPT [1953] 23 ITR 202. Here, the question was whether the security deposits given by the customers with the assessee firm would be treated as borrowed money within the meaning of rule 2A of the Second Schedule to the Excess Profits Tax Act, 1940. In that case, the Supreme Court examined the nature of security deposits and repelled the contention of the Attorney-General that the amounts were deposited with the object of inducing the appellants to have dealings with the customers and for the specific purpose of being held as security for the due performance by the customers of their contracts and as such the deposits could not be treated as a real borrowing or a real lending. It was observed by Patanjali Sastri C. J. "We are unable to see how the object which the customers had in view in making the deposits can affect t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... censor company and was to carry interest at 7% per annum. It was not deposit made in the usual course of the assessee's business of cotton manufacturing. It was an unusual step taken by the assessee to venture into manufacturing of cotton and for that purpose, a deposit was made as term of the contract. This case bears a very close similarity with the facts of the case in CIT v. Motiram Nandram [1940] 8 ITR 132 (PC). There, the assessee used to carry on business in dealing in cloth, yarn and also money-lending. By an agreement in writing dated December 17, 1930, they agreed to become organising agents of a Bombay firm known as White Kerosene and Mineral Oil Company for the purpose of dealing in kerosene, motor spirit and fuel oils. By the terms of the agreement, the assessee company was appointed as the organising agents for five years in respect of the territories specified in the contract. Under clause 4 of the agreement, the assessee-company was required to make deposit various sums totalling a sum of Rs. 50,000. The agreement further provided that the sum of Rs. 50,000 shall remain as a deposit and shall carry interest at the rate of 7% per annum until the deposit was returned. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nature and that the deposit cannot, upon a true-view of the terms of the agreement and the circumstances of the case, be regarded as an expenditure made in the course of carrying on an existing agency, or any other business." It also appears, in the instant case, that the amount Rs. 20 lakhs was not given in the course of money-lending transaction. The case has to be viewed from the standpoint of the assessee at the time they entered into the agreement. The deposit must have been made because the assessee expected to run the mills at a profit. It is for the purpose of acquiring source of income that the deposit was made. The deposit was not a part of the circulating capital of the assessee-company. It must be regarded as part of the fixed capital of the assessee. The deposit was not sought to be turned into profit. The deposit was not being made in the course of money-lending operation. The deposit was being made for the purpose of the privilege of running the mills for the purpose of making profit. In the case of Narandas Mathuradas and Co. v. CIT [1959] 35 ITR 461 (Bom), Motiram Nandram's case [1940] 8 ITR 132 (PC), was distinguished by Chagla C. J. on facts. That was a case ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the term at all. The deposit was to carry interest but was not made in the course of money-lending transaction and was not given in the capacity of a money-lender. The amount deposited by the assessee did not form part of its circulating capital. The question that was posed by Sir George Rankin in the case of CIT v. Motiram Nandram [1940] 8 ITR 132 (PC), was "What is the object of the expenditure ?" Sir George Rankin pointed out that the question must be answered from the stand point of the assessees at the time they made the deposit. The deposit was clearly exacted by Saksaria Cotton Mills Ltd. as a condition of the assessee being given leave and licence to operate the mills of the licensor company. The amount was deposited not in the course of carrying on the business of cotton manufacturing. The assessee had no other business in manufacturing of cotton. If the deposit is treated as a loan simpliciter carrying interest at the rate of 7% per annum, even then the amount cannot be treated as anything but investment of capital. Although the assessee did some money-lending business, there is no finding that this money was lent in the course of the usual money-lending activities ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng agreements with other cotton mill companies. The assessee's usual business was manufacture and sale of tea. It wanted to enter into cotton manufacturing business. To effectuate this purpose, it did not set up cotton mill of its own, but merely acquired the right to operate the mills belonging to another company under a leave and licence agreement. The deposit was not made in the process of profit-making but was made for the purpose of acquiring a profit-making apparatus for a period of three years. Under these circumstances, it must be held that the loss suffered by the assessee was on capital account and the amount could not be deducted from the assessee's income as business loss. The second question is about interest, insurance premium and also rates, taxes and other expenses which were claimed to have been made on behalf of Saksaria Cotton Mills Ltd. even after the expiry of the extended period of the leave and licence agreement. Before the Tribunal, it was argued on behalf of the assessee that the insurance premium and also other rates and taxes had to be paid for the whole of the year. Though the extended period of the licence was only for three months, the assessee c ..... X X X X Extracts X X X X X X X X Extracts X X X X
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