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TMI Blog1992 (1) TMI 100X X X X Extracts X X X X X X X X Extracts X X X X ..... e Companies (Profits) Surtax Act, 1964 ?" The previous year relevant to the assessment year, in relation to the paid up capital, the reserves, the debentures, etc., under rule 1 of the Second Schedule to the Surtax Act, is the calendar year 1963. The assessment year is 1964-65. The position of the capital was to be considered as on the 1 St day thereof, i.e., January 1, 1963. The appellant Claimed in its assessment a sum of Rs. 90,00,000 transferred to the dividend reserve as reserve entering into capital computation. The assessing authority excluded this sum from the computation of the capital but on appeal the Appellate Assistant Commissioner found it to be a reserve created out of amounts which had not been allowed as deduction for computing the profits of that year. Accordingly, he held that Rs. 90,00,000 was the reserve fund qualified for inclusion under rule 1(iii) of the Second Schedule to the Surtax Act. On appeal by the Revenue, the Income-tax Appellate Tribunal held that "the assessee had appropriated Rs. 76,00,000 out of the year's profit and transferred the balance of Rs. 14,00,000 to the dividend reserve" Rs. 76,00,000 was taken as liability as on January 1, 1963, and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... urplus' 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 Part I of Schedule VI to the Companies Act, 1956 (1 of 1956), shall not be regarded as a reserve for the purposes of computation of the capital of a company under the provisions of this Schedule." Section 217 of the Companies Act, 1956, enjoins the company "to attach to every balance-sheet laid before a company in general meeting, report by its board of directors, with respect to (a) the state of the company's affairs ; (b) the amounts, if any, which it proposes to carry to any reserves in such balance-sheet ; and (c) the amount, if any, which it recommends should be paid by way of dividend ; . . . " Regulation 87 of Table A of the First Schedule empowers the board to recommend any dividend and set aside, out of the profits of the company, such sums as it thinks proper as a reserve or reserves, etc. It is found as a fact that on May 1, 1963, in respect of the accounts for the year 1962 in the directors' meeting of the assessee-company, it approved the transfer of a sum of Rs. 90,00,000 out of the profits for the year to a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eclared their intention of appropriating the dividend or any other sums to reserves of different heads of liabilities. But the fact remains that it was not done for the obvious reason that the calculation or collection of the figures of all the items of income and expenditure of the company of the previous year ending December 31, 1962, was bound to take some time and it was not done. The fact remains that the shareholders in the general body meeting held on May 31, 1963, resolved to appropriate Rs. 76,00,000 towards dividend payable to the shareholders and, accordingly, it was appropriated and paid over. The question, therefore, is whether the amount of Rs. 76,00,000 appropriated relates back as on January 1, 1963. On recommendation by the board of directors and acceptance thereof by the general body of the shareholders to pay dividend at a particular percentage, the liability came into existence and, by their act of appropriation by adjusting the reserve as against the liability, it became crystallised. There is nothing to withhold payment in specie to the respective shareholders which is merely a ministerial act. The modus operandi adopted in making the entries or the nomenclatu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s in the profit and loss account and balance-sheet. On the other hand, reserves were appropriation of profits, the assets by which these were represented being retained to form part of capital employed in the business. Provisions were usually shown in the balance-sheet by deduction from the assets in respect of which those were made whereas general reserve and reserve fund were shown as part of the proprietor's interest. An amount set aside out of profits and other surpluses, not designed to meet a liability, contingency, commitment or diminution in the value of assets known to exist on the date of the balance-sheet was reserve but an amount set aside out of profits and other surpluses, to provide for a known liability of which the amount could not be determined with substantial accuracy was a provision. In CIT v. Mysore Electrical Industries Ltd. [1971] 80 ITR 566, a Constitution Bench of this court held that the determination of the directors to appropriate the amounts to the three items of reserve on August 8, 1963, had to be related to April 1, 1963, i.e., the beginning of the accounts for the new year and had to be treated as effective from that date and the three items had to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ear that the retention or appropriation of a sum out of profits and surpluses was for an unknown liability or for a liability which did not exist on the relevant date it must be regarded as a reserve. The fallacy underlying the contention becomes apparent if the negative and non-exhaustive aspects of the definition of reserve are borne in mind. Having regard to the type of definitions of the two concepts which are to be found in clause 7 of Part III the proper approach in our view would be first to ascertain whether the particular retention or appropriation of a sum falls within the expression 'provision' and if it does then clearly the concerned sum will have to be excluded from the computation of capital, but in case the retention or appropriation of the sum is not a provision as defined, the question will have to be decided by reference to the true nature and character of the sum so retained or appropriated having regard to several factors as mentioned above and if the concerned sum is in fact a reserve then it will be taken into account for the computation of capital." This court, in Hyco Products (P.) Ltd. v. CIT [1981] 132 ITR 559, approved the ratio of the Bombay High Court ..... X X X X Extracts X X X X X X X X Extracts X X X X
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