9911796707
TMI Blog1980 (12) TMI 39X X X X Extracts X X X X X X X X Extracts X X X X ..... Companies (Profits) Surtax Act, 1964. Since the assessee, in that case, was an insurance company, the argument on behalf, of the revenue based on Expln. II to r. 1 was not considered and no definite answer was given. In the present case, since the assessee is not an insurance company, the computation of the capital will have to be done with reference to the Explanation. Though the Full Bench decision related to an insurance company, as if the principle laid down in that judgment was applicable even to non-insurance companies, a Division Bench, without going into the Explanation, simply purported to apply the principle in the decision in India Motor Parts Accessories Ltd. v. CIT[1981] 130 ITR 311 (Mad). It may also be mentioned that there was an earlier Bench judgment in Madras Auto Service v. CIT [1978] 112 ITR 540(Mad), which held that a provision for dividends cannot be considered to be a general reserve either on principle or on the provisions of the Companies Act. But this decision was neither noticed by the Full Bench nor by the Division Bench. But even if it is to be treated as a general reserve whether in view of the Explanation to r. 1 of the Second Schedule to the Surta ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is Bench. The Income-tax Appellate Tribunal, Madras Bench " B ", under s. 18 of the C. (P.) S.T. Act, 1964, read with s. 256(1) of the I.T. Act, 1961, referred the following question for the opinion of this court: " Whether, on the facts and in the circumstances of the case, Rs. 18,64,065, which was distributed as dividend to the shareholders of the assessee-company should be excluded in the computation of the capital for ascertaining the ' statutory deduction ' for the purpose of assessment under the Companies (Profits) Surtax Act, 1964, for the assessment year 1970-71 ? " The assessee is a private limited company carrying on the business of passenger and goods transport. It filed" its return showing a deficit of chargeable profits under the C. (P.) S.T. Act, 1964, hereinafter referred to as " the Act ", for the assessment year 1970-71. The Surtax Officer, by his order dated 24th February, 1971, determined the taxable profits as Rs. 3,33,973 and levied a surtax of Rs. 83,493. In doing so, he computed the " chargeable profits " as Rs. 17,80,500 and the " statutory deduction " as Rs. 14,46,527. In computing the statutory deduction, the Surtax Officer noticed that the assessee- ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... accept this contention. He rejected the contention of the Surtax Officer that when the general body of the assessee-company sanctioned the distribution of Rs. 18,64,065 as dividend at the meeting held on September 30, 1969, the said sanction related back to the first day of the accounting year. It is against this reasoning and conclusion of the AAC that the department preferred an appeal to the Tribunal. The only contention raised by the department in the appeal before the Tribunal was that the sum of Rs. 18,64,065 being the amount distributed as dividend could not be taken as reserve and, hence, it should not be included for the computation of capital for the ascertainment of the " statutory deduction ". The basis of the contention was that when the general body approved the recommendations made by the board of directors for the distribution of the dividend at the meeting held on September 30, 1969, the approval related back to the first day of the accounting year in view of the decision of the Supreme Court in CIT v. Mysore Electrical Industries Ltd. [1971] 80 ITR 566, referred to already. Accepting this contention, the Tribunal rejected the claim of the assessee-company. It ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... are two provisos to this definition, which it is unnecessary to refer to for the purpose of this case. Section 4 of the Act is the charging section and the same reads as follows : " Subject to the provisions contained in this Act, there shall be charged on every company for every assessment year commencing on and from the first day of April, 1964, a tax (in this Act referred to as the surtax) in respect of so much of its chargeable profits of the previous year or previous years, as the case may be, as exceed the statutory deduction, at the rate or rates specified in the Third Schedule." Rule of the Second Schedule, referred to in s. 2(8) of the Act, so far as the same is relevant, as it stood at the relevant time, reads as follows: " 1. Subject to the other provisions contained in this Schedule, the capital of a company shall be the aggregate of the amounts, as on the first day of the previous year relevant to the assessment year, of (i) its paid-up share capital; (ii) its reserves, if any, created under the proviso (b) to clause (vib) of sub-section(2) of section 10 of the Indian Income-tax Act, 1922 (11 of 1922), or under sub-section (3) of section 34 of the Income-tax ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... meeting of the company. Sub-section (2) of s. 220 states that if the annual general meeting of a company before which a balance-sheet is laid as aforesaid does not adopt the balance-sheet, a statement to that effect and of the reasons therefor shall be annexed to the balance-sheet and to the copies thereof required to be filed with the Registrar. Against the above facts and the background of the statutory provisions, we shall now consider the question referred to this court, without reference to any decided cases. Section 217(1) of the Companies Act makes it clear that when the balance-sheet accompanied by a report of the board of directors, containing the allocation of certain amount towards reserves out of the surplus profits, is placed before the company in a general meeting, the board of directors is merely proposing that figure as the amount to be kept as reserve. Similarly when, in its report, the board of directors recommends a particular amount to be paid by way of dividend, as the language of the section itself shows, it is only a recommendation which the company in the general meeting may or may not accept. Notwithstanding the fact that s. 217(1) of the Companies Act ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d, it will be in accordance with not only the letter but also the spirit of the law that the action of the company in its general meeting in approving the creation of a reserve as well as the recommendation for declaring dividend is one only and consequently the creation of a reserve and the declaration of dividend takes place simultaneously with the result that as far as the creation of a reserve is concerned, what springs from the action of the company at its general body meeting is the creation of a reserve of Rs. 6,81,858 only. The further contention of Mr. Swaminathan, learned counsel for the assessee-company, is that under art. 107 of the articles of association of the assessee-company, the board of directors had the authority to set aside and transfer to the reserve fund such sum as it thought proper out of the profits of the company, that for the accounting year in question the assessee-company had made a surplus profit of Rs. 78,95,923, that the board of directors in exercise of the authority available to it under art. 107 transferred to the general reserve of Rs. 25,45,923 out of the aforesaid surplus by signing the balance-sheet on August 30,1969, that the moment the b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... investments (other than shares of the company) as the board may, from time to time, think fit. (2) The board may also carry forward any profits which it may think prudent not to divide, without setting them aside as a reserve." Section 9 of the Companies Act, 1956, reads as follows: " 9. Save as otherwise expressly provided in the Act (a) the provisions of this Act shall have effect notwithstanding anything to the contrary contained in the memorandum or articles of a company, or in any agreement executed by it, or in any resolution passed by the company in general meeting or by its board of directors, whether the same be registered, executed or passed, as the case may be, before or after the commencement of this Act; and (b) any provision contained in the memorandum, articles, agreement or resolution aforesaid, shall, to the extent to which it is repugnant to the provisions of this Act, become or be void, as the case may be." Consequently, it is clear that no clause contained in Table A of Sch.I to the Companies Act, 1956, or no article contained in the articles of association of any company can override the provisions contained in s. 217 of the Companies Act, 1956. Even ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ctrical Industries Ltd. [1971] 80 ITR 566 (to which we shall ourselves refer later in the course of the judgment), the " creation " of the reserve on August 30, 1969, will relate back to 1st April, 1969. If so, the question being not one of form, but of substance, the general reserve that was created as a result of the action of the company in its general meeting held on September 30, 1969, was the general reserve of Rs. 6,81,858 only and naturally that will relate back to 1st April, 1969. It is not the particular form that is adopted or the particular procedure that is followed which will determine the real nature of a transaction. In fact, no amount of ingenuity or jugglery in the procedure followed can conceal the real nature of a transaction. Logically speaking, out of the surplus profits, the amount recommended to be paid to the shareholders by way of dividend must be first set apart before a reserve can be created, because the amount payable by way of dividend is a sum of money that will go out of the coffers of the company, while the amount set apart by way of reserve will remain with the company itself. Reversing this logic, if any company first attempts to set apart the su ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... urt in CIT v. Aryodaya Ginning and Manufacturing Co. Ltd. [1957] 31 ITR 145 (Bom), which was referred to with approval by the Supreme Court in CIT v. Mysore Electrical Industries Ltd. [1971] 80 ITR 566. In CIT v. Aryodaya Ginning and Manufacturing Co. Ltd. [1957] 31 ITR 145 (Bom), the assessee was a limited liability company. The company made up its accounts at the end of December every year. For the year ending 31st December, 1948, the directors made certain appropriation of the profits of that year and the profits brought forward from the previous year and allocated certain amounts to the reserve fund and dividend reserve fund. At a general meeting held on June 27, 1949, the company accepted the recommendation of the directors and adopted the balance-sheet. In the assessment of the company to the business profits tax for the chargeable accounting period January 1, 1949, to March 31, 1949, under the Business Profits Tax Act, 1947, the company claimed that the amounts allocated to the reserve fund and the dividend reserve fund should be taken into account in computing its capital for the purpose of abatement, inasmuch as those reserves appeared in the balance-sheet as on December 3 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... passing a resolution on the 27th June, 1949, did not decide that these amounts should constitute reserves as from that date, but they accepted the recommendation of the directors that these amounts should constitute reserves of the company as of the 31 st December, 1948. " After the above observation, there follows the following paragraph, which is of immediate relevance to the point which we have just dealt with (p. 151): " The Advocate-General says that there must be someone with the requisite authority who can decide that a certain amount should constitute reserve. The directors under the Companies Act do not have the requisite authority, only the shareholders have it, and till somebody has decided to this effect no part of the profits can become reserves. Now, that proposition is perfectly sound, but in advancing that argument what is overlooked is that the body of shareholders who are the persons with the requisite authority do not merely determine that a certain amount should constitute reserve, but they also determine and have the necessary authority for determining that that amount should constitute reserve as from particular date, and in this case there is no doubt th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the sum of Rs. 25,45,923 shown as " reserve " in the balance-sheet signed by the directors on August 30, 1969. We have already extracted the Explanation to r. 1 of the Second Schedule to the Act. That Explanation makes it clear that for the purpose of computation of the capital of a company under the provisions of the Second Schedule, certain amounts standing to the credit of any account in the books of a company as on the first day of the previous year relevant to the assessment year which are of the nature mentioned in the Explanation shall not be regarded as a reserve. The Explanation refers to item (5) or item (6) or item (7) under the heading " Reserves and Surplus or of any item under the heading " Current Liabilities and Provisions " in the column relating to " Liabilities " in the "Form of Balance-sheet" given in Pt. 1 of Sch. VI to the Companies Act, 1956 (1 of 1956). Section 211(1) of the Companies Act, 1956, states " Every balance-sheet of a company shall give a true and fair view of the state of affairs of the company as at the end of the financial year and shall, subject to the provisions of this section, be in the form set out in Part I of Sch. VI, or as near ther ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t day of the previous year relevant to the assessment year which is of the nature of item (5) ...... or of any item under the heading Current Liabilities and Provisions'. " The Explanation deliberately does not say, " any amount standing to the credit of any account in the books of a company as on the first day of the previous year relevant to the assessment year, which is an item under the heading 'Current Liabilities and Provisions'." The use of the expression, of the nature" occurring in the Explanation is significant. In this particular case, if the balance-sheet was prepared by the assessee-company in the form of balance-sheet given in Pt. I of Sch. VI to the Companies Act, 1956, the board of directors should have shown the sum of Rs. 18,64,065 as item 9 under the heading " Current Liabilities and Provisions ". Their deliberate omission to show the said amount in that manner cannot affect the legal consequences flowing from the Explanation. As matter of fact, the Explanation is in the nature of a proviso or exception to r. I providing that certain amounts shall not be regarded as reserve for the purpose of computation of the capital of a company under the provisions of the Sec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s in excess of the aggregate value of all the debts owed by the assessee on the said date. The directors of the assessee-company showed in the profit and loss account a sum of Rs. 15,29,855 as the amount of dividend proposed to be distributed for the year ending March 31, 1957 ; but the said dividend was declared by the company at its general body meeting only on November 27, 1957. The question is whether the amount set apart as dividend by the directors was a debt owed by the company on the valuation date. The directors cannot distribute dividends but they can only recommend to the general body of the company the quantum of dividend to be distributed. Under section 217 of the Indian Companies Act, there shall be attached to every balance-sheet laid before a company in general meeting a report by its board of directors with respect to, inter alia, the amount, if any, which it recommends to be paid by way of dividend. Till the company in its general body meeting accepts the recommendation and declares the dividend, the report of the directors in that regard is only a recommendation which may be withdrawn or modified, as the case may be. As on the valuation date nothing further hap ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he Supreme Court, after extracting r. 1 of the Second Schedule to the Act, rejected this contention. The Supreme Court observed (p. 569): " It is well known that the accounts of the company have to be made up for a year up to a particular day. In this case that day was the 31st March, 1963. If it was reasonably practicable to make up the accounts up to the 31st March, 1963, and present the same to the directors of the respondent on April 1, 1963, they could have made up their minds on that day and declared their intention of appropriating the said and other sums to reserves of different kinds. But the fact that they could not do so for the simple reason that the calculation and collection of figures of all the items of income and expenditure of the company for the year ending March 31, 1963, was bound to take some time cannot make any difference to the nature or quality of the appropriation of the profits to reserves as determined by the directors after the first of April, 1963. Their determination to appropriate the sums mentioned to the three separate classes of reserves on the 8th August, 1963, must be related to the 1st of April, 1963, i.e., the beginning of the accounts for ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... approach for the purpose of computation of the capital under the Second Schedule to the Act, and any such relation back will not affect the inter se rights and obligations between the company and its shareholders. This conclusion of ours is independent of the conclusion we have already reached, namely, that the creation of a reserve and declaration of dividend take place simultaneously and, therefore, the real reserve is the surplus profits proposed to be taken to the reserve by the board of directors minus the amounts recommended by the board of directors for declaration of dividend. As far as this court is concerned, there are two direct decisions dealing with the question. One is Nagammal Mills Ltd. v. CIT [1974] 94 ITR 387 (Mad). In that case, the assessee-company made a profit of Rs. 9,91,092 for the year ending on 30th April, 1961. The balance of profit brought forward from the earlier year was Rs. 2,12,352. The board of directors in their report dated November 12, 1961, to the shareholders recommended a dividend of Rs. 31,465 on preference shares and a dividend of Rs. 3,12,020 on ordinary shares, totalling Rs. 3,43,485. In computing the capital as on May 1, 1961, under r. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the sum of Rs. 3,43,485 set apart for payment of dividend, this court observed (p. 391 of 941 TR): " Coming to the provision for dividend of Rs. 3,43,485 it is seen that the said dividend has actually been paid out by the company to its shareholders. Though the same was set apart for a specified purpose, it cannot be said to be available for the future use of the company so as to partake the character of capital. The said sum set apart for payment towards specific liability cannot be said to be a reserve for future use of the company. This sum, has, therefore, to be treated as not a reserve. " The second decision is Madras Auto Service v. CIT [1978] 112 ITR 540 (Mad) In the said decision, which was rendered by two of us (Ismail J., as he then was, and Sethuraman J.), the question that came to be considered was whether the sum of Rs. 7,44,000, representing proposed dividends, could not be taken into account for the purpose of computation of capital of the assessee-company under the Second Schedule to the Super -Profits Tax Act, 1963. The Bench referred to the earlier decision of this court in Nagammal Mills Ltd. v. CIT [1974] 94 ITR 387, and held that the amount of Rs. 7,44,000 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion of capital of the assessee-company as contemplated under rule 1 of the Second Schedule to the Companies (Profits) Surtax Act, 1964 ? 2. If the answer to question No. 1 is in the affirmative, whether the dividend reserve includible in the computation of capital of the assesseecompany as on July 1, 1964, was in the amount of Rs. 5,90,000 or in the amount of Rs. 3,60,000? In that case, the balance-sheet of the company for the year ending June 30, 1964, showed an item of dividend reserve under the head " Reserves and surplus ". The relevant part of the balance-sheet was as under: " Reserves and surplus Rs. Rs. Dividend reserve: as per last account 3,45,000 Less : Transferred to profit and loss account for dividend for 1962-63 1,90,000 ----------------- 1,55,000 Set aside this year 4,35,000 ----------------- 5,90,000 ". The directors in their report dated October 22, 1964, stated that after transferring an amount of Rs. 4,35,000 to the dividend reserve the balance to be carried forward was Rs. 1,941. The directors recommended that dividend of Rs. 8 per share on the 20,000 old equity shares (subject to deduction of tax) and a dividend of Rs. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 000. No independent provision was made for payment of this amount but it was stated in the report that the said amount will be paid out of the dividend reserve. Out of the profits or income for the year ending June, 30, 1964, a sum of Rs. 4,35,000 was directed to be appropriated towards the dividend reserve account. Thus, the whole of the sum of Rs. 2,30,000 could come out of the said amount and the balance will be credited to the dividend reserve account so as to be added to the amount of Rs. 1,55,000 already standing to the credit of the dividend reserve account. From the commercial point of view if any amount is required for incurring any expenditure or making any disbursements in a current year, then ordinarily the same will come out of the income of the company if it is available and only if it is insufficient then the past savings will be resorted to for the purpose of incurring the expenditure or making disbursements. In the present case, there is no doubt that, ordinarily, if the current profits are sufficiently available, then the same will be utilised for the purpose of payment of the dividend and, looked at from that point of view, the sum of Rs. 2,30,000 should be regar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to be held on September 30, 1968, and the same should be paid out of the general reserve. The question that arose was, whether the said sum of Rs. 2,10,000 forming part of the general reserve was includible in the capital of the company for the purpose of surtax. For the assessment year 1971-72, the relevant date for computation of the capital was December 1, 1969. The position shown by the balance-sheet as on November 30, 1969, was that at the beginning of that year a sum of Rs. 5,15,501 was standing to the credit of the general reserve. Out of the profits of 18 months ending on November 30, 1969, a sum of Rs. 5,78,000 was directed by the directors to be appropriated by transfer to the general reserve. For the period ending November 30, 1969, the directors recommended that a total dividend of Rs. 2,25,000 be paid and such dividend, if approved by the shareholders at the annual general meeting to be held on March 25, 1970, was to be paid out of general reserve. The question that came to be decided was, whether the sum of Rs. 2,25,000 directed to be paid as final dividend in respect of the period ending on November 30, 1969, was includible for computation of the capital for the pur ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 66, the crucial date is July 1, 1963. It is clear from the balance-sheet and profit and loss account for the year ending June 30, 1963, that the sum of Rs. 17,25,000 is appropriated from the current profits to the dividend reserve account and out of that the sum of Rs. 17,15,715 is directed to be paid as dividend in the same year. Thus, the sum of Rs. 17,15,715 which is the proposed dividend will not be includible in the computation of capital and only the balance of Rs. 9,285 will be treated as capital for the purpose of the Surtax Act. Therefore, our answer to question No. 1 is that out of an amount of Rs. 17,25,000, the sum of Rs. 9,285 as on July 1, 1963, was includible in the computation of capital for the assessment year 1965-66, under rule 1 of the Second Schedule to the Companies (Profits) Surtax Act, 1964. So far as the assessment year 1966-67 is concerned, instead of transferring the amount to the dividend reserve, the amount of Rs. 25,00,000 was transferred to the general reserve and the sum of Rs. 18,35,715 was directed to be paid as dividend for the same year from the amount standing to the credit of the general reserve. It is clear that the nomenclature given to an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ready referred to, and pointed out : " This decision of this High Court cannot be attracted for application to the facts of the present case, because in the present case no amount whatsoever has been set apart even for dividend reserve. Actually, except for a bare recommendation in the directors' report for declaration of dividend, no amount is set apart for payment of the said amount. In such a case, if and when the shareholders decide at an annual general meeting to declare dividend, the dividend shall have to be paid out of the general reserves. The liability to pay the dividend will arise only from and after the date of the resolution of the shareholders at the general meeting and it will be payable only from such date as may be specified in the resolution. When dividend is payable out of general reserves if declared by the shareholders at a general meeting, there is no question of making any provision for a known or anticipated liability and it is not possible for us to take the view that the amount to be paid pursuant to the resolution of the directors to declare a dividend should be treated as provision or should be deducted from the amount of general reserve for the purpo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed on by the learned counsel for the assessee-company, as already stated, is CIT v. Mafatlal Chandu Lal Co. Ltd. [1977] 107 ITR 489. In that case, the following two questions were referred to the court: " 1. Whether, on the facts and in the circumstances of the case, the sum of Rs. 3,31,069 standing in the provision for taxation account on December 31, 1961, was includible in computing the capital of the company for the purposes of the Super Profits Tax Act, 1963 ? 2. Whether, on the facts and in the circumstances of the case, the sum of Rs. 2,13,600 standing in the proposed dividend account on December 31, 1961, was includible in computing the capital of the company for the purposes of the Super Profits Tax Act, 1963 ? " In that decision the court elaborately discussed the difference between the conceptions of " provision " and " reserve " and referred to certain text books on Accountancy and Modern Company Law and various decisions of the Supreme Court as well as other High Courts in the country, including the decision of the Supreme Court in CIT v. Mysore Electrical Industries Ltd. [1971] 80 ITR 566. The court pointed out (p. 517): " It is clear that, so far as provisi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 63 was enacted, there is no reference in the definition section to the Companies Act, 1956, but in view of the decision of the Supreme Court in Standard Vacuum Oil Company's case [1966] 59 ITR 685 (SC), it is really not necessary that there should have been any such reference in the definition section because the requirement of the statute which the company is required to follow in its account-keeping practice have to be taken into consideration while considering this question of reserve. " (Underlining is ours) After referring to the Guide to Company Audit, 3rd Edn., 1972, published by the Research Committee of the Institute of Chartered Accountants of India, the court proceeded to observe : " It is true, as Mr. Kaji has contended, in the light of the decisions of the Supreme Court discussed above, that it is the substance and not the form that matters and if there is no existing liability as at the date of the balance-sheet, that is, December 31, 1961, in the instant case, the amount set apart for the dividend cannot be said to be an amount set apart for meeting a present liability. Though, therefore, under the Companies Act, the proposed dividend has to be shown under the he ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... m of Rs. 1,50,000 set apart towards " dividend reserve fund ". There was no controversy with regard to the sum of Rs. 67,812-8-0 set apart towards dividend payments ". The judgment points out (p. 149): " The company's contention was that the paid-up capital should be increased by the amount of reserves which had been constituted by the recommendation made by the directors and accepted by the shareholders and the company made this claim in respect of the three amounts of Rs. 12,50,000, Rs. 11,08,000 and Rs. 1,50,000. The Tribunal accepted the contention of the assessee-company with regard to the reserve fund of Rs. 11,08,000 and dividend reserve fund of Rs. 1,50,000. With regard to the provision for payment of tax the view taken by the Tribunal was that that was a provision made for a liability and did not constitute a reserve, but it made a recommendation to the ITO that if the amount set apart to meet this liability exceeded the actual liability, then to the extent of the excess the amount should be treated as reserve. The Commissioner has now come on this reference and the question that has been submitted to us for our consideration is whether the two sums of Rs. 11,08,000 and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ack to the first day of the succeeding year, there is no justification on principle for holding that the resolution of the same general body meeting of the company regarding declaration of dividend will not have such an effect. As we have pointed out already, the fact that the reserve will remain in the coffers of the company and the dividend will go out of the coffers of the company to the shareholders and, consequently, when the company decides to declare a dividend, it undertakes an obligation towards the shareholders, will not in any way affect the position, because the relation back in question either with regard to " reserve " or with regard to declaration of dividend is solely for the purpose of computation of the capital under the Second Schedule to the Act and not for any other purpose. The next decision relied on by Mr. S. Swaminathan, learned counsel for the assessee-company, is that of the High Court of Andhra Pradesh in Super Spinning Mills Ltd. v. CIT [1979] 120 ITR 512. In that case also, the question referred to the High Court was: " Whether, on the facts and in the circumstances of the case, the Tribunal was justified in law in holding that (for the purposes of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y liability, contingency, commitment or diminution in value of assets known to exist at the time of the balance-sheet. The board of directors and the general body of the shareholders may or may not declare any dividends. As on the date of the balance-sheet there was no known liability of which the amount cannot be determined with substantial accuracy so that it could be accepted as a ' provision'. For these reasons, I hold that for the purpose of computing capital under the Companies (Profits) Surtax Act, 1964, for the assessment year 1971-72, the general reserve of the assessee-company of Rs. 28,43,984 as on April 1, 1970, shall not stand reduced by Rs. 4,00,000 and that the Tribunal was not justified in holding otherwise." With great respect to the learned judges, we are not able to share their view. In the first place, it was not clear as to why the principle of " dating back " cannot be applied to the sum of Rs. 4,00,000, namely, the amount declared by way of dividend. Secondly, the learned judges repeatedly refer to dating back to " the date of preparation of balancesheet ". As a matter of fact, whatever is found in the balance-sheet has necessarily to relate back to an earl ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , so that they could be considered for determination of the company's capital. The learned judges held that the amount set apart for tax liability was a 'provision' and not ' reserve' because it was set apart to meet a known liability, the quantum of which, on that date, could not be determined with substantial accuracy and that the amounts retained for gratuity were set apart in respect of liabilities known on the date of the balance-sheet. The learned judges further pointed out that the liability to pay the dividends was existing on the date of the balance-sheet and that the amount which was set apart specifically for the payment of dividends is a 'provision' and not a reserve'. It was made clear that the terminology given by the assesseecompany to the items is not a decisive factor for deciding the question whether the items constitute 'reserve' or 'provisions'. Since what we are considering in this case is one of dividends, that part of the decision in Vazir Sultan Tobacco's case [1974] 96 ITR 248 (AP), which relates to the amount set apart for dividends is material. There, the directors of the assessee-company had recommended the payment of the amount as dividends. The learned ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 8 (AP) was doubted and consequently another Division Bench referred the problem to a Full Bench and the Full Bench of the Andhra Pradesh High Court in Hyderabad Asbestos Cement Products Ltd. v. CIT [1976] 105 ITR 822 resolved the problem. In that case, the Andhra Pradesh High Court had to consider a provision made for " breakages and damages on sales " and " provision for contingencies and bonus ". The Full Bench also elaborately went into the difference between the conceptions of." provision " and " reserve " and referred to the decisions of various courts. With regard to the Division Bench decision in Vazir Sultan Tobacco's case [1974] 96 ITR 248, the Full Bench observed : "Before proceeding to consider the various decisions of the High Courts in India cited by both the parties, it would be appropriate to deal with the decision of this court in Vazir Sultan Tobacco Company Ltd. v. Commissioner of Income-tax [1974] 96 ITR 248, and see whether it runs counter to the decision of the Supreme Court in Kesoram Industries and Cotton Mills Ltd. v. Commissioner of Wealth-tax [1966] 59 ITR 767. The said case arose under the provisions of the Super Profits Tax Act and the question was whe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hat the said expression does not occur in the case of Kesoram Industries and Cotton Mills Ltd, v. Commissioner of Wealth-tax [1966] 59 ITR 767 (SC). We presume that it was either a typographical or an accidental mistake that the reference was made to Kesoram Industries and Cotton Mills Ltd. v. Commissioner of Wealth-tax [1966] 59 ITR 767 (SC), while really intending and referring to the case of Metal Box Company of India Ltd. v. Their Workmen [1969] 73 ITR 53 (SC). In this view, the very basis of the argument that the observations made in the decision of this court in Vazir Sultan Tobacco Co. Ltd. v. Commissioner of Income-tax [ 1974] 96 ITR 248 run counter to the decision of the Supreme Court in Kesoram Industries and Cotton Mills Ltd. v. Commissioner of Wealth-tax [1966] 59 ITR 767 (SC), disappears and we see no conflict whatsoever between both the decisions. In fact, the decision of this court is wholly consistent with the principle of the decision in Metal Box Company of India Ltd. v. Their Workmen [1969] 73 ITR 53 (SC) as well as Commissioner of Income-tax v. Century Spinning and Manufacturing Co. Ltd. [1953] 24 ITR 499 (SC), and, applying the said principles, the Bench had co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d not fall under rule 2(i) or rule 2(ii) of the Second Schedule to the Companies (Profits) Surtax Act, 1964 ? The said judgment extracted r.2 of the Second Schedule to the Act with the Explanations, which is as follows: 2. Where a company owns any assets the income from which in accordance with clause (iii) or clause (vi) or clause (viii) of rule 1 of the First Schedule is required to be excluded from its total income in computing its chargeable profits, the amount of its capital as computed under rule 1 of this Schedule shall be diminished by the cost to it of the said assets as on the first day of the previous year relevant to the assessment year in so far as such cost exceeds the aggregate of (i) any moneys borrowed (other than the debentures referred to in clause (iv) or moneys referred to in clause (v) of rule 1) and remaining outstanding as on the first day of the said previous year ; and (ii) the amount of any fund, any surplus and any such reserve as is not to be taken into account in computing the capital under rule 1. Explanation 1.-A paid up share capital or reserve brought into existence by creating or increasing (by revaluation or otherwise) any book asset is n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he heading 'Proposed dividend for the year 1964' it observed : " The amount, which has given considerable difficulty, not entirely due to the complicated question, but in view of the number of decisions that had been cited, reference having been made to the other Acts and Schedule and forms, is the sum of Rs. 6,42,524 referred to as 'proposed dividend for the year 1964 ' Before we deal with this, we would like to state a few principles, which are indisputable. Reserves, in order that they may be so called' under the real sense of the term, must normally come out of the profits of the company. But if reserves are constituted out of assets which are sold or by any other means, it may be difficult to term that the amount shown as reserve is really a reserve. But here again we do not wish to state anything by way of opinion of this court, for, the question does not arise. But we can be more specific and certain that the amounts set apart specifically for the purpose of meeting a specific, liability will not be reserve but will only be a provision made for meeting the, specific liability. Therefore, on the first day of the year in question if there has been an; accrued liability for t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... suffered loss and, consequently, there can be no question of there being an accrued liability for payment of the dividend as on the first day of the year. The two decisions of the Supreme Court, namely, Kesoram Industries and Cotton Mills Ltd. v. CWT [1966] 59 ITR 767 and CIT v. Mysore Electrical Industries Ltd. [1971] 80 ITR 566, dealt with two different situations in the context of two different statutory provisions. In Kesoram Industries and Cotton Mills Ltd.'s case [1966] 59 ITR 767, as we have pointed out already, the Supreme Court was considering whether there was a debt in existence on the valuation date in order to deduct the same from the total value of all the assets for the purpose of arriving at the net assessable wealth. On the other hand, in Mysore Electrical Industries Ltd.'s case [1971] 80 ITR 566, the Supreme Court was considering the question whether a reserve which was created subsequent to the first day of the year, which from the very nature of the case, could not have been created on the first day of the year, will relate back to the first day of the year or not. Further, in Mysore Electrical Industries Ltd.'s case [1971] 80 ITR 566, the Supreme Court was not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... is no inconsistency, apparent or real, between the two decisions of the Supreme Court in Mysore 'Electrical Industries Ltd.'s case [1971] 80 ITR 566 and Kesoram Industries and Cotton Mills Ltd.'s case [1966] 59 ITR 767 calling for any reconciliation. Further, as we have pointed out already, there is no distinction between reserve for payment of dividend and reserve for any other purpose, because both the " reserves are finally decided upon only by the general body in its meeting which takes place subsequently. For the reasons we have already indicated, the amount shown in the balance-sheet even as a separate item indicating a specified sum under the heading " Proposal for dividend " will not form part of " reserve " since a " reserve " itself is finally created only by the general body which declares the dividend. The Full Bench, after noticing the decision of a Division Bench of this court in Nagammal Mills Ltd. v. CIT [1974] 94 ITR 387 proceeded to observe : " The question, therefore, is whether any amount shown to represent a dividend proposed by the directors represent any liability for the company from the 1st day of the year of account. Any provision made by way of rese ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or accrued liability and all that it refers to is a " reserve " and, consequently the only question that one has to consider in such a context is, whether a particular amount set apart for a particular purpose would constitute a " reserve " or not. Having regard to the basic notion of a " reserve ", namely, the amount that will be available to the company for its uninhibited use in future, the amount set apart to be declared as dividend by the company in its general meeting cannot be a "reserve", once the company in its general body meeting actually declares the dividend. For this purpose, it is not even necessary to find out whether the amount has been paid out during the year of account or not, since the moment a particular amount has been declared to be dividend, it is no longer available to the company to freely draw upon, to, be used for its business and, consequently, will not be, " reserve". Hence, we are unable to hold that there was any valid ground for distinguishing the point which the Full Bench was, considering from the point considered in Nagammal Mills Ltd. v. CIT [1974] 94 ITR 387 (Mad). We may point out in this context that though the Full Bench noticed the deci ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... bility on the first day of the relevant year, we express our disagreement with such a proposition for the reasons we have already indicated. In fact, the questions which the Fall Bench of this court considered referred only to r. 2(i) and r. 2(ii) of the Second Schedule to the Act. However, r. 2( ii) refers to " any such reserve as is not to be taken into account in computing the capital under r. 1 ". Therefore, the Full Bench had to consider the scope of the expression " reserve " occurring in r. I of the Second Schedule to the Act. Subsequent to the decision of, the Full Bench in Madras Motor and General Insurance Co. Ltd. v. CIT [1979] 117 ITR 534 (Mad), the question came up for consideration in another case before a Division Bench of this court in India Motor Parts Accessories Ltd. v. CIT [1981] 130 ITR 311 (Mad). In that case, assessment to super profits under the Super Profits Tax Act, 1963, for three assessment years, namely, 1963-64, 1964-65 and 1965-66, was under consideration and for those three years the amount set apart towards proposed dividends were: Rs. " 1963-64 4,05,000 1964-65 2,65,000 1965-66 2,12,500 " The matter came up for consideration bef ..... X X X X Extracts X X X X X X X X Extracts X X X X
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