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TMI Blog1986 (7) TMI 36X X X X Extracts X X X X X X X X Extracts X X X X ..... er. The Appellate Assistant Commissioner considered and construed the Explanation to rule I of Schedule II to the Surtax Act and held that a sinking fund should be excluded from the computation of capital for the purpose of surtax. He found that the debenture redemption reserve in the case of the assessee had not been invested as was required to create a sinking fund and, therefore, the same did not constitute a sinking fund. He held that the same should not be excluded in computing the capital base of the assessee for the purposes of surtax. Following the decision of the Karnataka High Court in the case of Stumpp, Schuele Somappa Pvt. Ltd. [1976] 102 ITR 320, the Appellate Assistant Commissioner held that the Income-tax Officer was also not justified in reducing the capital base of the assessee by Rs. 19,36,835 on the ground of deduction allowed to the assessee under section 80J of the Income-tax Act, 1961, under rule 4 of the Second Schedule to the Surtax Act. The appeal of the assessee was allowed accordingly. Being aggrieved, the Revenue preferred an appeal from the decision of the Appellate Assistant Commissioner to the Income-tax Appellate Tribunal. The Tribunal noted t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d and the assessee had provided for meeting the same by setting up a fund. The learned advocate for the Revenue also contended that though in the instant case the said sum Rs. 50 lakhs had been described as a debenture redemption reserve, it should be treated or deemed to be a sinking fund as the same had been created for meeting a liability. In support of his contentions, the learned advocate for the Revenue cited the following decisions. (a) CIT v. Calcutta Electric Supply Corporation Ltd. [1982] 138 ITR 111 (Cal).In this case, the question referred to this court was whether debenture sinking fund constituted a reserve for the purpose of computation of capital of the assessee under the Second Schedule to the Super Profits Tax Act, 1963. A Division Bench of this court considered the principles of accountancy involved and in particular noted the following (at page 119): (i) Spicer Pegler's Book Keeping and Accounts, 17th edn., under section 10 (page 66). "Section 10. The operation of Sinking Funds for the Repayment of Loans.-A sinking fund for the repayment of a loan is created in a manner similar to the depreciation fund for the replacement of an asset, described in sect ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... In this case, the question before the Bombay High Court was whether a sum representing a debenture redemption reserve was includible in computing the capital of the assessee under rule 1 of the Second Schedule to the Companies (Profits) Surtax Act, 1964. The Bombay High Court found that the debenture concerned had become redeemable in the year of assessment but in fact none of the debentures had been redeemed. A Division Bench of the Bombay High Court held as follows (at page 721): " ...it clearly appears to us that the debenture redemption reserve must be regarded as a provision made by the assessee company to enable it to redeem the said debenture when they became due for redemption. Since the aggregate amount of such debentures is much larger than the amount of the debenture redemption reserve, we fail to see how it can be said that there was any excess as such in this appropriation which could be taken as reserve. It is true that all the debentures had not become redeemable during the relevant previous years, but that does not make any difference because an amount set aside to meet a future liability, which was certain to come into existence as in this case, must be regarded ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that the said reserve formed part of the working capital of the assessee and no sinking fund had been created with the said fund whereby the amount was invested outside the business of the assessee. The said fund was not part of the undistributed profits but had been set apart specifically for future use. It was submitted that the said fund has been rightly treated as part of the reserves of the assessee. It was also submitted that it has been found by the authorities below that the amount constituting the said reserve had not been invested outside the business of the assessee and as such could not be held or treated to be a sinking fund. The liability for the debenture stock, it was submitted, had been separately shown in the balance-sheet of the assessee and, therefore, there could not be any necessity or reason for making a separate provision for the same liability. In support of his contentions, the learned advocate for the assessee cited Pickles' Accountancy, 3rd edition, page 186, where it is stated that a provision could be made in the accounts for an estimated and undisputed liability which existed at the date of the balance-sheet. It was submitted that if this test was a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... omatically become a reserve and that somebody possessing the requisite authority must clearly indicate that a portion thereof has been earmarked or separated from the general mass of profits with a view to constituting it either a general reserve or a specific reserve, (b) the surrounding circumstances should make it apparent that the amount so earmarked or set apart is in fact a reserve to be utilised in future for a specific purpose and on a specific occasion, and (c) a clear conduct on the part of the directors in setting apart a sum from out of the mass of undistributed profits avowedly for the purpose of distribution as dividend in the same year would run counter to any intention of making that amount a reserve." Considering another earlier decision of the Supreme Court in CIT v. Standard Vacuum Oil Co. [1966] 59 ITR 685, it was observed as follows ([1981] 132 ITR at pages 582, 583): " In the first place, the nomenclature accorded to any particular fund which is set apart from out of the profits would not be material or decisive of the matter and, secondly, having regard to the purpose of rule 2 of Schedule II of the Business Profits Tax Act, 1947, if any amount set apart ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... amount in the said fund for the relevant accounting year was in excess of the amount which would be reasonably necessary to meet any liability and in the year involved, the entire fund should be held to be an excess and treated as reserve. On a construction of a similar statute, namely, the Super Profits Tax Act, 1963, this court, in Calcutta Electric Supply Corporation Ltd. [1982] 138 ITR 111, held that a debenture sinking fund constituted a reserve and had to be included in the capital base of the assessee for the purpose of computation of super profits under the said statute. In the instant case, we are concerned with the Companies (Profits) Surtax Act, 1964, an Act similar to the Super Profits Tax Act, 1963. The only difference is the Explanation which is added to rule I of the Second Schedule to the Surtax Act by which sinking fund has been specifically directed not to be treated as a reserve for the purpose of computation of capital. It has been found in this case that the debenture redemption reserve has not been converted into a sinking fund by investment as recognised by the principles of accountancy. We have no reason to hold otherwise. With respect, we are unable to ..... X X X X Extracts X X X X X X X X Extracts X X X X
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