Karnataka High Court
Manjeet Singh Chawla vs Deputy Commissioner Of Tds on 2 June, 2025
Author: S.R.Krishna Kumar
Bench: S.R.Krishna Kumar
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IN THE HIGH COURT OF KARNATAKA AT BENGALURU
DATED THIS THE 2ND DAY OF JUNE, 2025
BEFORE
THE HON'BLE MR JUSTICE S.R.KRISHNA KUMAR
R
WRIT PETITION NO. 20212 OF 2023 (T-IT)
BETWEEN:
MANJEET SINGH CHAWLA
SON OF MR. JAWAHAR SINGH CHAWLA,
AGED ABOUT 40 YEARS,
RESIDING ATA-1/163, 16TH FLOOR,
DLF WESTEND HEIGHTS,
AKSHAYA NAGAR,
BENGALURU-560 068.
...PETITIONER
(BY SRI. TARUN GULATI, SENIOR COUNSEL FOR
SRI. PRADEEP NAYAK, & SRI. KISHORE KUNAL
MISS. ANKITA PRAKASH & SRI. SANKEETH VITTAL, ADVOCATES)
AND:
1. DEPUTY COMMISSIONER OF TDS
WARD-(1)(2), BANGALORE
HMT BUILDING
BENGLAURU - 560 095.
2. COMMISSIONER OF INCOME TAX
Digitally TDS, RANGE-1, BENGALURU
signed by
CHANDANA CENTRAL REVENUE BUILDING,
BM QUEENS ROAD,
Location:
High Court BENGALURU-560 001.
of ...RESPONDENTS
Karnataka
(BY SRI. E.I. SANMATHI & SRI.M.DILIP, ADVOCATES)
THIS W.P IS FILED UNDER ARTICLE 226 OF THE CONSTITUTION
OF INDIA, 1950 PRAYING TOA) QUASHING THE IMPUGNED ORDER
DATED 02/08/2023 BEARING DIN. SO/20052023/476399 (ANNEXURE-A)
PASSED BY THE R1 & ETC.,
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THIS PETITION IS BEING HEARD AND RESERVED ON 15.01.2025
COMING ON FOR PRONOUNCEMENT OF ORDERS THIS DAY, THE
COURT MADE THE FOLLOWING:-
CORAM: HON'BLE MR JUSTICE S.R.KRISHNA KUMAR
CAV ORDER
This petition takes an exception to the impugned order dated
02.08.2023 passed by the 1st respondent, whereby the request of
the petitioner for issuance of 'Nil Tax Deduction Certificate' for
Income Tax in favour of the petitioner for the financial year 2023-24
was rejected and for consequential directions to the respondents to
issue the said 'Nil Tax Deduction Certificate' for Income Tax under
Section 197 of the Income Tax Act, 1961 (for short 'the I.T. Act')
and for other reliefs.
2. Briefly stated the facts giving rise to the present petition
are as under:
Petitioner is an Indian Citizen and a salaried employee of
Flipkart Internet Private Limited (FIPL) which is an Indian
Subsidiary of Flipkart Marketplace Private Limited (FMPL), a
Company incorporated in Singapore which is further a wholly
owned subsidiary of Flipkart Private Limited, Singapore (FPS). In
addition to FMPL, FPS has many other subsidiaries including
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PhonePe which had a wholly owned subsidiary in India known as
PhonePe India Private Limited.
2.1 In the year 2012, FPS introduced the Flipkart Stock
Action Plan, 2012 (FSOP), pursuant to which the petitioner was
granted 2232 stock options with a vesting schedule of four years
from 01.01.2016 to 31.03.2023 amongst which 955 stock options
were vested, 249 were cancelled and the unvested stock options
were 1028, resulting in the total number of stock options held by
the petitioner being 1983 as on 31.03.2023. Meanwhile, on
23.12.2022, FPS announced separation/divestment of PhonePe
resulting in reduction and diminishing of the value of the stock
options issued in favour of the petitioner. Under these
circumstances, FPS announced a one time compensatory payment
of USD 43.67 per option as compensation towards loss in value of
FSOPs due to divestment/separation of PhonePe from FPS. In
pursuance of the same, a sum of Rs.71,01,004/- i.e., 1983 x 43.67
x 82 (USD Conversion rate) was paid to the petitioner towards the
aforesaid one time compensatory payment due to
reduction/diminishing of the value of the stock options issued in
favour of the petitioner as stated supra.
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2.2 The petitioner filed an application dated 29.04.2023
under Section 197 of the I.T. Act seeking 'Nil Tax Deduction
Certificate' in relation to the aforesaid one time compensatory
payment made to him. Since there were certain errors in the said
application, petitioner withdrew the said application dated
29.04.2023 and filed a fresh/modified application dated 20.05.2023
under Section 197 of the I.T Act. The respondents raised certain
queries which were clarified by the petitioner vide reply/response
dated 24.07.2023, pursuant to which, the 1st respondent proceeded
to pass the impugned order rejecting the application filed by the
petitioner, who is before this Court by way of the present petition.
3. Heard learned Senior Counsel for the petitioner and
learned counsel for the respondents and perused the material on
record.
4. In addition to reiterating the various contentions urged in
the petition and referring to the material on record, learned Senior
Counsel for the petitioner submitted that the 1st respondent
committed an error in coming to the conclusion that the
compensation of Rs.71,01,004/- received by him for
reduction/diminution of the value of FSOPs was taxable as a
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perquisite under the head 'Income from Salary' and that the profit
or gain on sale/transfer of stocks exercised under FSOPs is liable
to be taxed under the head 'Income from Capital Gains'. In this
context, it is submitted that the compensation received from the
petitioner does not fall under the definition "Income" and the same
was a capital receipt which did not contain any element of income
and hence, not chargeable to tax. It was also submitted that the
consideration to be received by the petitioner would not amount to
perquisites and consequently ,would not qualify as "Salary" so as to
attract Section 17(2) (vi) of the I.T Act, since the compensation was
in the nature of a capital receipt received by the petitioner for
diminution/reduction of the value of the FSOPs. It is therefore
submitted that the impugned order deserves to be quashed and the
application filed by the petitioner under Section 197 of the I.T Act
deserves to be allowed by issuing appropriate directions to the
respondents to issue a 'Nil Tax Deduction Certificate' in favour of
the petitioner at the earliest. In support of his submissions, learned
Senior counsel placed reliance upon the judgment of the Delhi High
Court in relation to compensation paid to one more identically
situated employee of FIPL in respect of diminution/reduction of
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value of FSOPs issued by FPS in the case of Sanjay Baweja Vs.
Deputy Commissioner of Income Tax - (2024) 163
taxmann.com 116 (Delhi), wherein an identical/similar impugned
order was quashed and the petition was allowed in favour of the
said employee. He would also place reliance upon the following
judgments:
(i) Padmaraje R. Kadambande vs. CIT - [1992] 195
ITR 877 (SC);
(ii) CIT v. Shaw Wallace & Co. - AIR 1932 PC 138;
(iii) Vijay Ship Breaking Corporation vs. CIT -
[2009] 314 ITR 309 (SC);
(iv) CIT v/s. Canara Bank - [2016] 386 ITR 229;
(v) Commissioner of Wealth-tax vs. Ellis Bridge
Gymkhana - [1997] 95 Taxmann 143 (SC);
(vi) Kettlewell Bullen & Co.Ltd. vs. CIT - [1964] 53
ITR 261 (SC);
(vii) M/s. Karam Chand Thapar & Bros. Pvt. Ltd.
v/s. CIT (Central), Calcutta - (1972) 4 SCC 124;
(viii) Oberoi Hotel (P) Ltd. vs. CIT - [1999] 103
Taxmann 236 (SC);
(ix) Godrej & Co., Bombay vs. CIT, Bombay -
(1960) 1 SCR 527;
(x) Senairam Doongarmall vs. CIT - [1961] 42 ITR
(SC);
(xi) Commissioner of Income Tax, Gujarath vs.
Saurashtra Cement Ltd., - [2010] 325 ITR 422 (SC);
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(xii) CIT vs. B C Srinivas Shetty - [1981]128 ITR 294
(SC);
(xiii) CIT vs. D.P. Sandu Bros. Chembur (P.) Ltd., -
[2005] 142 Taxmann 713 (SC)
(xiv) Cadell Wvg. Mill Co. (P) Ltd. v/s. CIT - [2011]
166 Taxmann 77 (Bombay);
(xv) Mathuram Agrawal v/s. State of Madhya
Pradesh - (1999) 8 SCC 667;
(xvi) C Nanda Kumar vs. UOI - 396 ITR 21;
(xvii) Correspondent, Holy Cross Primary School
v/s. CBDT - 388 ITR 162 (Mad);
(xviii) GE India Technology Centre Private Limited
V/s. CIT - (2010) 10 SCC 2;
(xix) Sidhartha Sen vs. DCIT, TDS Chandigarh and
Ors. - SWP 16336/2023;
(xx) Income Tax Officer v/s. Atchaiah - (1996) 1
SCC 417;
(xxi) Commissioner of Income Tax vs. Ajax
Products Ltd., - (1965) 1 SCR 700;
(xxii) Bharat Financial Incusion Ltd. vs. DCIT, TDS,
- (2018) 96 taxmann.com 540 (Hyd-Trib);
(xxiii) Empire Jute Co. Ltd. vs. CIT - [1980] 3
Taxmann 69 (SC);
(xxiv) PCIT v/s. Chemplast Sanmar Ltd., - [2022]
142 taxmann.com 515 (Mad.);
(xxvi) Manpowergroup Service India (P.) Ltd. v/s.
CIT (TDS), New Delhi, - [2021] 123 taxmann.com 290
(Delhi);
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(xxvii) Tata Teleservices (Maharashtra) Ltd. v/s.
DCIT, TDS - [2018] 90 taxmann.com 1 (Bombay).
5. Per contra, learned counsel for the respondents-Revenue
would reiterate the various contentions urged in the statement of
objections and support the impugned order and submit that there is
no merit in the petition and that the same is liable to be dismissed.
It was submitted that the compensation to be received by the
petitioner was not in the nature of a capital receipt and was a
taxable revenue receipt. It was further submitted that receipt of any
FSOP or any FSOP related to monetary benefit by the petitioner
inherently carries the character of income and is taxable as
perquisites and the compensation granted to the petitioner is the
lost FSOPs and tax treatment of this compensation should be
identical to the tax treatment of the FSOPs themselves. It was also
submitted that the payment received by the petitioner is part of the
perquisites value due to the petitioner and taxable under Section
17(2) of the I.T Act which is deemed/implied allotment of shares as
per Section 17(2) of the I.T Act and the allotted stocks are sweat
equity shares under Section 17(2)(vi)(b) of the I.T Act and the
compensation to be received by the petitioner is part of the fair
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market value that the petitioner is entitled to after the vesting period
when he exercises the option. It was therefore submitted that in the
light of the availability of the alternative remedy of revision under
Section 264 of the I.T Act, the present petition was not
maintainable and that the same is liable to be dismissed. In support
of their submissions, learned counsel places reliance upon the
judgment of the Madras High Court in the case of Nishithkumar
Mukeshkumar Mehta Vs. Deputy Commissioner of Income Tax
- W.P.No.26506/2023 and connected matters dated 31.07.2024.
6. I have given my anxious consideration to the rival
contentions and perused the material on record.
7. In my considered opinion, the impugned order passed by
the 1st respondent rejecting the application filed by the petitioner
under Section 197 of the I.T Act for issuance of 'Nil Tax Deduction
Certificate' is illegal, arbitrary and contrary to law and facts and the
same deserves to be quashed and necessary direction are to be
issued to the respondents to issue the said certificate in favour of
the petitioner at the earliest for the following reasons:
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(i) It is well settled that TDS cannot be deducted if payment
does not constitute income and the power of the respondents-
revenue to direct deduction of tax under Section 197 of the I.T. Act
can be exercised only if there is an income chargeable to tax. In
Padmaraje's case supra, the Apex Court held as under:
"21. We will now proceed to consider the correctness of
these submissions. Section 2(24) of the Income Tax Act,
1961 defines in an inclusive manner what "income" is. The
word "income" connotes periodical monetary return coming
in with some regularity or expected regularity from definite
sources. In E.D. Sassoon & Company Ltd. [(1954) 26 ITR
27, 49 : AIR 1954 SC 470 : (1955) 1 SCR 313] at page 49
this Court cited the Privy Council ruling in CIT v. Shaw
Wallace & Co. [ILR (1932) 59 Cal 1343, 1350 : AIR 1932
PC 138 : 59 IA 206] wherein it was observed:
"Income, their Lordships think, in the Indian Income Tax
Act, connotes a periodical monetary return coming in with
some sort of regularity, or expected regularity from definite
sources. The source is not necessarily one which is
expected to be continuously productive, but it must be one
whose object is the production of a definite return,
excluding anything in the nature of a mere windfall."
32. This was the reason why we said neither the
nomenclature nor the periodicity of the payment would be
the determinative factors. Regard must be had only to the
nature and quality of payment. The High Court took the
view that this is not compensation. One thing that is certain
is that the assessee lost her right to these allowances.
Thereafter, on an application by way of compassion the
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payment is made. The mere fact, after the order is made it
becomes an enforceable right, is neither here nor there.
The reliance on Rameshwara Rao case [(1963) 49 ITR 144
: AIR 1967 SC 290 : (1964) 2 SCR 847] does not seem to
be correct in view of what we have pointed out above.
33. It has already been seen that the marginal heading
of Section 15 is "compensation". The fact that under
clauses (i), (ii) and (iii) of Section 15(1) the compensation is
paid as of right and in cases falling under clause (d) of the
proviso, it is a discretionary payment, would not stamp the
payment with a character of revenue. As to how a marginal
heading has to be construed can be gathered
from Chandroji Rao case [(1970) 2 SCC 23 : (1970) 77 ITR
743] . It is stated therein that the marginal heading to a
section cannot control the interpretation of the words of the
section particularly where the meaning of the section is
clear and unambiguous.
34. For a moment, we are not interpreting the words of
the section but we are only holding that even a payment
under clause (d) is nothing but compensation because as
the facts disclose the amount of Rs 10 lakhs out of a trust
property in the Bank of Kolhapur was misappropriated.
35. There is no compulsion on the part of the
Government to make the payment nor is the Government
obliged to make the payment since it is purely
discretionary. A case similar to the one on hand is H.H.
Maharani Shri Vijaykuverba Saheb of Morvi [(1963) 49 ITR
594 (Bom)] head-note of which is extracted:
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"A voluntary payment which is made entirely without
consideration and is not traceable to any source which a
practical man may regard as a real source of his income
but depends entirely on the whim of the donor cannot fall in
the category of income.
The ruler of a native State abdicated in favour of his son
in January, 1948. From April, 1949, onwards his son paid
him a monthly allowance. The allowance was not paid
under any custom or usage. The allowance could not be
regarded as maintenance allowance, as the assessee
possessed a large fortune.
Held, that as the payments were commenced long after
the ruler had abdicated, they were not made under a legal
or contractual obligation. As the allowances were not also
made under a custom or usage or as a maintenance
allowance, they were not assessable."
36. The position is exactly the same. The payment
made by the Government is undoubtedly voluntary.
However, it has no origin in what might be called the real
source of income. No doubt Section 15(1) proviso clause
(d) enables the applicant to seek payment but that is far
from saying that it is a source. Therefore, it cannot afford
any foundation for such a source. Further, it is a
compassionate payment, for such length of period as the
Government may, in its discretion, order.
37. Lastly, we may refer to Kamal Behari Lal Singha
case [(1971) 3 SCC 540 : (1971) 82 ITR 460] which is
pressed into service by the Revenue, to support its
contention one has to look at the character of the payment
in the hands of the receiver and the source from which the
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payment is made has no bearing on the question. We will
extract the head-note (from ITR) of this ruling:
"During the accounting period ending April 13, 1950, the
assessee, who was a shareholder in a company, received
a dividend of Rs 13,200 from the company. Out of that
amount a sum of Rs 8,829 was paid out of capital gains
received by the company in the shape of salamis and land
acquisition compensation receipts after March 31, 1948.
The question was whether that part of the dividend
attributable to salamis and compensation for land
acquisition was taxable in the hands of the assessee:
Held, that the assessee had a beneficial interest in that
sum in the hands of the company. Undoubtedly, the
amount received by the company towards salami and
compensation of acquisition of its lands was a capital
receipt in the hands of the company and when the sum was
distributed amongst its shareholders each of the
shareholders took a share of the capital asset to which they
were beneficially entitled. The receipt of Rs 8,829 was a
capital receipt in the hands of the assessee. The fact that
the sum was distributed as 'dividend' did not change the
true nature of the receipt; a receipt was what it was and not
what it was called.
Trustees of the Will of H.K. Brodie v. IRC [(1933) 17 Tax
Cases 432 (KB)] applied
Held also, that that part of the dividend received by the
assessee attributable to land acquisition compensation
received by the company after March 31, 1948, was not
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receipt of 'dividend' within the meaning of Section 2(6-A) of
the Income Tax Act, 1922.
CIT v. Nalin Behari Lall Singha [(1969) 2 SCC 310 :
(1969) 74 ITR 849] , followed
It is now well settled that in order to find out whether a
receipt is a capital receipt or a revenue receipt one has to
see what it is in the hands of the receiver and not its nature
in the hands of the payer. In other words, the nature of the
receipt is determined entirely by its character in the hands
of the receiver and the source from which the payment is
made has no bearing on the question. Where an amount is
paid which, so far as the payer is concerned, is paid wholly
or partly out or capital, and the receiver receives it as
income on his part, the entire receipt is taxable in the hands
of the receiver."
38. This is a case of compensation paid under the Land
Acquisition Act. It was held that a compensation as such
would be capital receipt in the hands of the receiver and the
fact that it was distributed as dividends would not change
the true nature of the receipt.
39. As a result of the above discussion, we hold that the
amounts received by the assessee during the financial
years in question have to be regarded as capital receipts
and, therefore, are not income within the meaning of
Section 2(24) of the Income Tax Act. Accordingly, we set
aside the judgment of the High Court and allow the appeals
with no order as to costs."
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Similarly, in Shaw Wallace's case supra, the Privy Council held as
under:
"The matter for consideration in the appeal was, in
substance, whether the respondents, who carried on
business as merchants and agents in Calcutta and
elsewhere in India, were chargeable to income-tax under
the above Act in respect of compensation paid to them for
the termination of agencies for two oil-producing
companies.
The facts of the case and the three questions referred
appear from the judgment of the Judicial Committee.
The High Court, by a judgment delivered by Rankin C.J.
and concurred in by C.C. Ghose and Buckland JJ.,
answered the first question in the affirmative, thereby
holding that the sum of Rs.9,83,361/- (being the
compensation received less admitted deductions) was a
capital receipt and therefore did not come within the
computation of the profits of the respondents' business.
Having regard to that conclusion no answer was returned
to the second and third questions. The Court was however
of opinion, upon the authority of In re Turner Morrison &
Co., that the receipt arose out of the business; also, that
the exemption in s. 4, sub-s. 3 (vii), of the Act did not apply
to the case. The proceedings are reported at I.L.R. 58 C.
1053.
1932. Feb. 5, 9, 11. Dunne K.C. and R.P. Hills for the
appellant. The compensation (less the admitted
deductions) is chargeable to tax under s. 6 (iv) of the
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Indian Income-tax Act, 1922, under the head "business."
The agencies in respect of which the compensation was
paid were part only of the respondents' business, and their
business as merchants and agents continued after the
payment; the compensation was a profit of the business in
the year of account. There was no transfer of goodwill or
any other dealing with the capital assets. As both the
Commissioner and the High Court found that the
compensation arose out of the business, it was chargeable
to tax unless the assessees showed that it came within the
exemptions in s. 10 or that it was a capital receipt not
chargeable to tax. The Indian Act does not make the clear
distinction between capital and income which there is
under the English statutes; that is shown by s. 4, sub-s. 3
(v). The judgment of the High Court is not consistent with
its judgment in Turner
Morrison & Co. It was based upon Glenboig Union
FireclayCo. v. Commissioner of Inland
Revenue and Chibbett v. Joseph Robinson & Sons, both
of which are distinguishable. The former was decided
upon the ground that there had been a sterilization of a
capital asset. In the latter case the assessees had rights
under the articles of association and received a capital
sum to release them. The decision was merely that there
was evidence to support the finding of the Commissioner,
whereas in the present case the Commissioner held that
the receipt was not of a capital nature; the observations of
Rowlatt J., relied on, were obiter. That the compensation
received in this case was chargeable to tax is supported
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by Hancock v. General Reversionary and Investment
Co.; Commissioners of Inland Revenue v. Newcastle
Breweries; Short Brothers v. Commissioners of Inland
Revenue; Commissioners of Inland Revenue v. Gloucester
Railway Carriage and Wagon Co.; Ensign Shipping
Co. v. Commissioners of Inland Revenue; Burmah
Shipping Co. v. Commissioners of Inland Revenue; J.
Gliksten & Son v. Green. In Anglo-Persian Oil
Co. v. Dale it was held that compensation paid by the then
appellant company in the same circumstances as in this
case was a revenue payment and therefore deductible in
arriving at their net profits.
Latter K. C. and Cyril King for the respondents. The
observations of Rowlatt J. in Chibbett's case, referred to in
the judgment of the Chief Justice, were correct and are
directly in point. The business there continued after the
payment, as it did in this case. The money received was
compensation for loss of part of the business as distinct
from earnings of the business. Income is something which
flows from the property or trade as distinct from something
received in place of the property or trade, in whole or in
part: Commissioners of Inland
Revenue v. Blott and Pool v. Guardian Investment Trust
Co., referring to Eisner v. Macomber. The idea of income
flowing from a source is embodied in the Indian Act in
sections. 4 and 12. The series of English cases referred to
for the appellant are distinguishable upon their facts; they
were mostly cases of contracts not going through. The
decision in the Anglo-Persian Oil Co. case cannot be
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applied to this case; the effect of an exemption or proviso
cannot be used to extend the scope of a statutory
provision: Commissioners for Special
Purposes v. Pemsel; West Derby Union v. Metropolitan
Life Assurance Society. The case In re Turner Morrison &
Co. does not apply to the first question, because it was
admitted that the receipt there in question was income; the
contest there was whether it was exempt under s. 4, sub-
s. 3 (vii). It is submitted that the judgment in that case was
incorrect in distinguishing between "arising from business"
and "profits of business."
Dunne K. C. in reply. The appellant relies upon the
reasoning of the concluding part of the judgment last
mentioned. Further, if the compensation was not income it
was a "gain" within the meaning of s. 6 of the Act.
March 14. The judgment of their Lordships was
delivered by Sir George Lowndes. This is an appeal from a
judgment of the High Court at Calcutta delivered on a
reference made to it under s. 66 of the Indian Income-tax
Act XI. of 1922. The reference arose out of an assessment
to income-tax upon the respondents for the year 1929--
30, in respect of an item of Rs. 9,83,361, part of a larger
sum of Rs. 15,25,000 received by them in 1928 as
compensation for the termination of certain agencies.
The respondents carry on business in Calcutta as
merchants and agents of various companies, and have
branch offices in different parts of India. For a number of
years prior to 1928 they acted as distributing agents in
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India of the Burma Oil Company and the Anglo-Persian Oil
Company, but had no formal agreement with either
company. In or about the year 1927 the two companies
combined and decided to make other arrangements for the
distribution of their products. The respondents' agency of
the Burma company was accordingly terminated on
December 31, 1927, and that of the Anglo-Persian
company on June 30 following. Some time in the early part
of 1928 the Burma company paid to the respondents a
sum of Rs. 12,00,000 "as full compensation for cessation
of the agency," and in August of the same year the Anglo-
Persian company paid them another sum of Rs.3,25,000/-
as "compensation for the loss of your office as agents to
the company." The quotations are from letters by which
the payments were recorded, and are accepted on both
sides as correctly expressing the nature of the
transactions.
The income-tax officer, in computing the assessable
income of the respondents for the relevant year, took
these two receipts into account as profits or gains of their
business in the year ending December 31, 1928, but
allowed certain deductions therefrom in respect of
compensation paid by the respondents to various
employees, leaving a balance of Rs.9,83,361 which he
included in the total income of the respondents found
assessable for the year 1929-30.
The respondents objected to the assessment, and
appealed to the Assistant Commissioner, who confirmed
the assessment. Thereafter, on the requisition of the
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respondents, the Commissioner drew up a statement of
the case, and referred the questions of law therein set out
to the High Court with his own opinion thereon, which was
against the contentions of the respondents.
The questions so formulated were as follows:--
(a) Was not the sum of Rs.9,83,361/- which had been
included in the total income of the assessees for purposes
of assessment for 1929--30 in the nature of a capital
receipt and therefore not income, profits or gains within the
meaning of the Income-tax Act?
(b) If it could be said to be income, profits or gains
within the meaning of the Act, was it liable to be assessed
under either of the sections. 10 and 12 of the Act,
inasmuch as (1) it was not the profits or gains of any
business carried on by the assessees within the meaning
of S.10 of the Act, nor (2) income profits or gains from
other sources within the meaning of s. 12 of the Act?
(c) In the alternative, was not the payment of Rs.
9,83,361/- an ex gratia payment in the nature of a present
from the oil companies in question, and was it not
therefore exempt under s. 4, sub-s. 3 (vii), of the Act?
The reference was heard by the Chief Justice sitting
with C.C. Ghose and Buckland JJ. The judgment of the
High Court was delivered by the Chief Justice, his
colleagues concurring.
The learned judges appear to have returned a formal
answer only to question (a), which the Chief Justice stated
to be "the real question in the case." He thought that if the
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respondents could not escape by reason of the contention
raised by this question they must fail. The other questions,
he thought, fell within a recent decision of the Court in the
case of In re Turner Morrison & Co; he had nothing to add
to what was then said on these points.
Their Lordships agree that the real matter for decision
falls under (a), but they think that this question is not
happily worded, as it seems to suggest that it was only if
the sum there referred to was "in the nature of a capital
receipt" that it would be exempt from assessment,
whereas the more correct proposition would seem to be
that it was only if it was in the nature of an income receipt
that it would fall to be assessed to the tax. The question
was, however, restated by the learned Chief Justice in
more precise terms-- namely, "whether these sums are
income profits or gains within the meaning of the Act at
all," and for the reasons stated in his judgment he came to
the conclusion that they were not. Their Lordships think
that his conclusion was right though they arrive at this
result by a slightly different road.
In one part of his judgment the Chief Justice seems to
hold that the "compensation for loss of these agencies is a
receipt in respect of a capital asset in the nature of
goodwill," but it has been objected with some force that
there is nothing upon which this finding can be based.
There was, so far as the facts disclose, no transfer of the
goodwill of the respondents, and no agreement by them
not to compete with the new selling agency of the
companies.
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In another part of the judgment the payment seems to
be regarded as in the nature of compensation in lieu of
notice. But here again their Lordships think that there are
no facts to support such a conclusion, and they doubt if s.
206 of the Indian Contract Act upon which reliance is
placed has any application.
Again their Lordships would discard altogether the case
law which has been so painfully evolved in the
construction of the English income-tax statutes--both the
cases upon which the High Court relied and the flood of
other decisions which has been let loose in this Board.
The Indian Act is not in pari materia; it is less elaborate in
many ways, subject to fewer refinements, and in
arrangement and language it differs greatly from the
provisions with which the Courts in this country have had
to deal. Under these conditions their Lordships think that
little can be gained by attempting to reason from one to
the other, at all events in the present case in which they
think that the solution of the problem lies very near the
surface of the Act, and depends mainly on general
considerations.
The object of the Indian Act is to tax "income," a term
which it does not define. It is expanded, no doubt, into
"income profits and gains, "but is expansion is more a
matter of words than of substance. Income, their Lordships
think, in this Act connotes a periodical monetary return
"coming in" with some sort of regularity, or expected
regularity, from definite sources. The source is not
necessarily one which is expected to be continuously
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productive, but it must be one whose object is the
production of a definite return, excluding anything in the
nature of a mere windfall. Thus income has been likened
pictorially to the fruit of a tree, or the crop of a field. It is
essentially the produce of something which is often loosely
spoken of as "capital." But capital, though possibly the
source in the case of income from securities, is in most
cases hardly more than an element in the process of
production.
The sources from which the taxable income under the
Act are to be derived are enumerated in s. 6, which runs
as follows: "Save as otherwise provided by this Act, the
following heads of income, profits and gains, shall be
chargeable to income-tax in the manner hereinafter
appearing, namely:--(i) Salaries. (ii) Interest on securities.
(iii) Property. (iv) Business. (v) Professional earnings. (vi)
Other sources."
The claim of the taxing authorities is that the sum in
question is chargeable under head (iv) business. By s. 2,
sub-s. 4, business "includes any trade, commerce or
manufacture, or any adventure or concern in the nature of
trade, commerce or manufacture." The words used are no
doubt wide, but underlying each of them is the
fundamental idea of the continuous exercise of an activity.
Under s. 10 the tax is to be payable by an assessee under
the head business "in respect of the profits or gains of any
business carried on by him." Again, their Lordships think,
the same central idea: the words italicized are an essential
constituent of that which is to produce the taxable income:
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it is to be the profit earned by a process of production. And
this is borne out by the provision for allowances which
follows. They include rent paid for the premises where the
business is carried on; the cost of current repairs in
respect of such premises; interest on money borrowed for
carrying on the business, etc.
Some reliance has been placed in argument upon s. 4,
sub-s. 3 (v), which appears to suggest that the word
"income" in this Act may have a wider significance than
would ordinarily be attributed to it. The sub-section says
that the Act "shall not apply to the following classes
of income," and in the category that follows, clause (v)
runs: "Any capital sum received in commutation of the
whole or a portion of a pension, or in the nature of
consolidated compensation for death or injuries, or in
payment of any insurance policy, or as the accumulated
balance at the credit of a subscriber to any such provident
fund."
Their Lordships do not think that any of these sums,
apart from their exemption, could be regarded in any
scheme of taxation as income, and they think that the
clause must be due to the over anxiety of the draftsman to
make this clear beyond possibility of doubt. They cannot
construe it as enlarging the word "income" so as to include
receipts of any kind which are not specially exempted.
They do not think that the clause is of any assistance to
the appellant.
Following the line of reasoning above indicated, the
sums which the appellant seeks to charge can, in their
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Lordships' opinion, only be taxable if they are the produce,
or the result, of carrying on the agencies of the oil
companies in the year in which they were received by the
respondents. But when once it is admitted that they were
sums received, not for carrying on this business, but as
some sort of solatium for its compulsory cessation, the
answer seems fairly plain.
If the business had been sold--even if that somewhat
indeterminate asset known as the "goodwill" had been
assigned to the employing companies, as the High Court
seems to have thought it had--it is conceded that the price
paid would not have been taxable. But why? Plainly
because it could not be regarded as profit or gain from
carrying on the business, and their Lordships think that the
same reasoning must apply when the sum received is in
the nature of a solatium for cessation.
It is contended for the appellant that the "business" of
the respondents did in fact go on throughout the year, and
this is no doubt true in a sense. They had other
independent commercial interests which they continued to
pursue, and the profits of which have been taxed in the
ordinary course without objection on their part. But it is
clear that the sum in question in this appeal had no
connection with the continuance of the respondents' other
business. The profits earned by them in 1928 were the
fruit of a different tree, the crop of a different field.
For the reasons given their Lordships are of opinion
that question (a) was rightly answered by the High Court in
favour of the assessee. No objection has been taken to
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the form of the answer or to its sufficiency, and it would
seem unnecessary therefore to deal with the other two
questions. Their Lordships will only add that the reasoning
of this judgment would apply equally if the appellant based
his claim on head (vi) "other sources" and the
corresponding provisions of s. 12.
With regard to the claim to exemption under s. 4, sub-s.
3 (vii), their Lordships think that the decision on the case
of In re Turner Morrison & Co., to which reference has
been made above, may need reconsideration in the light of
this judgment. In their Lordships' view the expression
"receipts arising from business" in that clause must mean
receipts arising from the carrying on of business.
Their Lordships will humbly advise His Majesty that this
appeal should be dismissed with costs."
In Vijay Ship Breaking Corporation's case supra, the Apex
Court has held as under:
"11. For the aforestated reasons, Question 2 as to
whether the assessee was bound to deduct TDS under
Section 195(1) is answered in favour of the assessee
and against the Department. The assessee was not
bound to deduct tax at source once Explanation 2 to
Section 10(15)(iv)(c) stood inserted as TDS arises only if
the tax is assessable in India. Since tax was not
assessable in India, there was no question of TDS being
deducted by the assessee. Therefore, Question 2 is
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answered in favour of the assessee and against the
Department."
In Canara Bank's case supra, the Punjab and Haryana
High Court held as under:
"8. The Commissioner of Income-tax (Appeals) and
the Tribunal on appreciation of material on record have
concurrently recorded that if an organisation is exempted
from payment of tax there was no need for deduction of
tax at source by the assessee. Learned counsel for the
Revenue was not able to demonstrate that the approach
of the Commissioner of Income-tax (Appeals) and the
Tribunal was erroneous or perverse or that the findings
of fact recorded were based on misreading or
misappreciation of evidence on record. The view of the
Commissioner of Income-tax (Appeals) and the Tribunal
is in conformity with the decision of the apex court in
Hindustan Coca Cola Beverage P. Ltd. v. CIT (2007)
293 ITR 226 (SC), where it has been held as under
(page 230):
"Be that as it may, the Circular No. 275/201/95-IT(B),
dated January 29, 1997, issued by the Central Board of
Direct Taxes, in our considered opinion, should put an
end to the controversy. The circular declares 'no
demand visualized under section 201(1) of the Income-
tax Act should be enforced after the tax deductor has
satisfied the officer-in-charge of TDS, that taxes due
have been paid by the deductee-assessee. However,
this will not alter the liability to charge interest under
section 201(1A) of the Act till the date of payment of
taxes by the deductee-assessee or the liability for
penalty under section 271C of the Income-tax Act'."
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(ii) The material on record discloses that the subject
compensation received by the petitioner does not constitute income
and is not chargeable to tax and rather it is a capital receipt being
one time voluntary compensation received by the petitioner which
does not satisfy taxability in accordance with the charging section;
the said subject one time voluntary compensatory payment is
against the fall in value of stock options allotted to petitioner which
is the profit making structure of the petitioner and therefore, the
payment is of capital receipt in nature, which is not subject /
exigible / amenable to tax. In this context, it is relevant to refer to
the judgment of the Apex Court in Ellis Bridge Gymkhana's case
supra, wherein it was held as under:
"5. The rule of construction of a charging section is
that before taxing any person, it must be shown that he
falls within the ambit of the charging section by clear
words used in the section. No one can be taxed by
implication. A charging section has to be construed
strictly. If a person has not been brought within the ambit
of the charging section by clear words, he cannot be
taxed at all.
31. This judgment really goes against the contention
made on behalf of the Revenue. The Court first laid down
that a charging section of a taxing statute has to be
strictly construed. The Court found that the charging
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section of various taxing statutes had imposed tax on
Hindu Undivided Families as well as on "individuals". It
has been held under various fiscal statutes that Mapilla
Tarwads cannot be taxed as a Hindu Undivided Family
but will have to be taxed as an "individual". If "individual"
is understood under the Wealth Tax Act, in the same
sense in which it has been understood in various fiscal
statutes, then "individual" under Section 3 of the Wealth
Tax Act will include a Mapilla Tarwad. But in the various
tax Acts mentioned in that judgment "individual" has not
been interpreted to include a firm or an association of
persons.
32. That the charging section of the Wealth Tax Act
does not impose a charge on a firm or association of
persons has been made clear by explanatory notes on
the provisions relating to direct taxes issued by the
Central Board of Direct Taxes on 29-6-1981 clarifying the
Finance Bill, 1981. The idea behind introduction of the
new Section 21-AA was explained in the following words:
"21.1 Under the Wealth Tax Act, 1957, individuals and
Hindu Undivided Families are taxable entities but an
association of persons is not charged to wealth tax on its
net wealth. Where an individual or a Hindu Undivided
Family is a member of an association of persons, the
value of the interest of such member in the association of
persons is determined in accordance with the provisions
of the rules and is includible in the net wealth of the
member.
21.2 Instances had come to the notice of the
Government where certain assessees had resorted to the
creation of a large number of associations of persons
without specifically defining the shares of the members
therein with a view to avoiding proper tax liability. Under
the existing provisions, only the value of the interest of
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the member in the association which is ascertainable is
includible in his net wealth. Accordingly, to the extent the
value of the interest of the member in the association
cannot be ascertained or is unknown, no wealth tax is
payable by such member in respect thereof.
21.3 In order to counter such attempts at tax
avoidance through the medium of multiple associations of
persons without defining the shares of the members, the
Finance Act has inserted a new Section 21-AA in the
Wealth Tax Act to provide for assessment in the case of
associations of persons which do not define the shares of
the members in the assets thereof. Sub-section (1)
provides that where assets chargeable to wealth tax are
held by an association of persons (other than a company
or a cooperative society) and the individual shares of the
members of the said association in income or the assets
of the association on the date of its formation or at any
time thereafter, are indeterminate or unknown, wealth tax
will be levied upon and recovered from such association
in the like manner and to the same extent as it is leviable
upon and recoverable from an individual who is a citizen
of India and is resident in India at the rates specified in
Part I of Schedule I or at the rate of 3 per cent, whichever
course is more beneficial to the Revenue."
33. It will appear from this notification that the Central
Board of Direct Taxes clearly recognised that the charge
of wealth tax was on individuals and Hindu Undivided
Families and not on any other body of individuals or
association of persons. Section 21-AA has been
introduced to prevent evasion of tax. In a normal case, in
assessment of an individual, his wealth from every source
will be added up and computed in accordance with
provisions of the Wealth Tax Act to arrive at the net
wealth which has to be taxed. So, if an individual has any
interest in a firm or any other non-corporate body, then
his interest in those bodies or associations will be added
up in his wealth. It is only where such addition is not
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possible because the shares of the individual in a body
holding property is unknown or indeterminate, resort will
be taken to Section 21-AA and association of individuals
will be taxed as association of persons."
In Kettlewell Bullen's case supra, the Apex Court held as
under:
"The appellant is a public limited Company, and has
its registered office at Calcutta. By an agreement dated
May 1, 1925, Fort William Jute Company Ltd., appointed
the appellant its managing agent upon certain terms and
conditions set out therein. Under the agreement the
appellant was to receive as managing agent
remuneration at the rate of Rs 3000 per month,
commission at the rate of ten per cent on the profits of the
Company's working, additional commission at three per
cent on the cost price of all new machinery and stores
purchased by the managing agent outside India on
account of the Company, and interest on all advances
made by the managing agent to the Company on the
security of the Company's stocks, raw materials and
manufactured goods. The appellant and its successors in
business, whether under the same or any other style or
firm, unless they resigned their office were entitled to
continue as managing agent until they ceased to hold
shares in the capital of the Company of the aggregate
nominal value of Rs 1,00,000 and were on that account
removed by a special resolution of the Company passed
at an Extraordinary meeting of the Company, or until the
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managing agent's tenure was determined by the winding
up of the Company. In the event of termination of agency
in the contingencies specified the managing agent was to
receive such reasonable compensation for deprivation of
office, as may be agreed upon between the managing
agent and the Company and in case of dispute, as may
be determined by two arbitrators. By clause 8, the
managing agent was at liberty at any time to resign the
office of managing agent by leaving at the registered
office of the Company previous notice in writing of its
intention in that behalf. The agreement did not specify
any period for which the managing agency was to enure.
Since the successors of the appellant were also to
continue as agents, unless they resigned or became
disqualified, the duration was in a sense unlimited. But by
virtue of Section 37-A(2) of the India Companies Act,
1913, the appointment of the appellant as managing
agent would expiry on January 14, 1957 i.e. on the expiry
of twenty years from the date on which the Indian
Companies (Amendment) Act, 1956, was brought into
operation. Section 87-A(2), however, did not prevent the
managing agent from being reappointed after the expiry
of that period.
2. Beside the managing agency of Fort William Jute
Co. Ltd. the appellant held at all material time managing
agencies of five other limited companies viz. Fort Gloster
Jute Manufacturing Co. Ltd., Bowreach Cotton Mills Co.
Ltd., Dunbar Mills Ltd., Mothola Co., Ltd., and Joonktollee
Tea Co. Ltd. The appellant had advanced Rs 12,50,000
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to Fort William Jute Co. Ltd. on the security of the stocks,
raw materials and manufactured goods of that Company.
The appellant held in 1952, 600 out of 14,000 ordinary
shares of the face value of Rs 100 each, and 6920 out of
10,000 preference shares also of the face value of Rs
100 each. On May 21, 1952 the appellant entered into an
agreement with M/s Mugneeram Bangur and Co., the
principal conditions of which were:
(i) M/s Mugneeram Bangur and Co., to purchase the
entire holding of shares of the appellant in Fort William
Jute Co. Ltd. -- ordinary shares at Rs 400 each and
preference shares at Rs 185 each and to make an offer
to all holders of the company's shares -- preference and
ordinary to purchase their holdings at the same rates:
(ii) M/s Mugneeram Bangur and Co, to procure
repayment on or before June 30, 1952 of all loans made
by the appellant to the principal Company:
(iii) Ms Mugneeram Bengur and Co., to procure that
the principal Company will compensate the appellant for
loss of office in the sum of Rs 3,50,000, such sum being
payable to the appellant after it submitted its resignation
as managing agent; and
(iv) M/s Mugneeram Bangur and Co., to reimburse the
Company the amount payable to the appellant.
The reasons for which the appellant agreed to relinquish
the managing agency were set out in a letter dated May
28, 1952, addressed by the appellant to the members of
the Company intimating that M/s Mugneeram Bangur and
Co., were willing to purchase the shares at the same
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rates at which they had agreed to purchase the
shareholding of the appellant. It was recited in the letter
that the installation of modern machinery in the
Company's factory entailed heavy capital expenditure and
it was necessary to obtain a loan secured by debentures
charged on the Company's property; that large sums
were required for renewals and replacements of
machinery and it was not possible to obtain additional
bank accommodation; that the appellant had made large
advances to the Company exceeding Rs 12,50,000 and,
having regard to its other commitments, it was doubtful if
it would be able to make available to the Company
additional finance that the arrangement with M/s
Mugneeram Bangur and Co., by acceptance of the terms
offered by them, was the most satisfactory method of
solving the Company's difficulties; that it was in the best
interest of the shareholders to terminate the appointment
of the appellant which in the normal course would not fall
due for renewal until January 14, 1957; that M/s
Mugneeram Bangur and Co., had agreed to procure that
Fort William Jute Co., Ltd. will pay to the appellant Rs
3,50,000 and that M/s Mugneeram Bangur and Co., will
reimburse the Company for the payment, it being
anticipated that they will in due course be appointed
managing agents of the Company.
3. The arrangement with M/s Mugneeram Bangur and
Co. was carried out. The appellant tendered its
resignation with effect from July 1, 1952, in pursuance of
the terms of the agreement and M/s Mugneeram Bangur
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and Co. were appointed as managing agent of the
Company. The sum of Rs 3,50,000 received by the
appellant from the Company -- which it is common
ground was provided by M/s Mugneeram Bangur and Co.
-- was credited in the profit and loss account of the
appellant as received from Fort William Jute Co. Ltd. on
account of compensation for loss of office. But in arriving
at the net profit in the return for income tax for the year
1953-54 this amount was deleted. In the proceedings for
assessment for the year 1953-54 the Income Tax Officer,
Companies District IV, Calcutta, included this amount in
the appellant's taxable income. In appeal the Appellate
Assistant Commissioner modified the assessment holding
that the sum of Rs 3,50,000 received by the appellant as
compensation for surrendering the managing agency,
which was to enure for five years more, and which in
normal course might have continued for another term of
twenty years, was a capital receipt. The Appellate
Tribunal confirmed the order of the Appellate Assistant
Commissioner, observing that compensation received
under an agreement for "an outright sale of such an
agency to a third party", not being one which a
businessman enters in the normal course of business,
nor being one which amounts to modification, alteration
or discharge of normal incidents of such a business, was
not assessable to income tax as a revenue receipt.
4. At the instance of the Commissioner of Income Tax,
the Tribunal referred under Section 66(1) of the Income
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Tax Act, 1922, the following question to the High Court of
Judicature at Calcutta:
"Whether on the facts and in the circumstances of the
case the sum of Rs 3,50,000 received by the assessee to
relinquish the managing agency was a revenue receipt
assessable under the Indian Income Tax Act?"
The High Court, for reasons which we will presently set
out, answered to the question in the affirmative. With
certificate granted by the High Court, this appeal is
preferred by the appellant.
5. This case raises once again the question whether
compensation received by an agent for premature
determination of the contract of agency is a capital or a
revenue receipt. The question is not capable of solution
by the application of any single test : its solution must
depend on a correct appraisal in their true perspective of
all the relevant facts. As observed in CIT v. Rai Bahadur
Jairam Valji [35 ITR 148, 152] by Venkatarama Aiyar, J.
"The question whether a receipt is capital or income
has frequently come up for determination before the
courts. Various rules have been enunciated as furnishing
a key to the solution of the question, but as often
observed by the "highest authorities, it is not possible to
lay down any single test as infallible or any single
criterion as decisive in the determination of the question,
which must ultimately depend on the facts of the
particular case, and the authorities bearing on the
question are valuable only as indicating the matters that
have to be taken into account in reaching a decision.
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Vide, Van Den Berghs Ltd. v. Clark [(1935) 3 ITR (Engl
Cas) 17] . That, however, is not to say that the question is
one of fact, for, as observed in Davies (H.M. Inspector of
Taxes) v. Shell Company of China Ltd. [(1952) 22 ITR
(Suppl) 1] 'these questions between capital and income,
trading profit or no trading profit, are questions which
though they may depend no doubt to a very great extent
on the particular facts of each case, do involve a
conclusion of law to be drawn from those facts'."
The interrelation of facts which have a bearing on the
question propounded must therefore first be determined.
The managing agency was not, except in the
circumstances set out in clause 2 of the agreement, liable
to be determined at the instance of the Company before
January 14, 1957, unless the appellant by giving notice of
three weeks voluntarily resigned the agency. At the date
of termination the agency had five more years to run, and
the Companies Act did not prohibit renewal of the agency
in favour of the appellant, after the expiry of the initial
period of twenty years. The appellant Company was
formed for the object, amongst others, [vide clause 3(2)
of the memorandum of association of the appellant] of
carrying on the business of managing agencies. The
appellant was entitled under the terms of the agreement
to receive so long as the agency enured ten per cent of
the profits of the Company's working, three per cent on all
purchases of stores and machinery abroad, and a
monthly remuneration of Rs 3000. The appellant
submitted its resignation in exercise of the power
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reserved under clause 8 of the meaning agency
agreement, but that resignation was it is common ground
part of the arrangement with M/s Mugneeram Bangur and
Co. dated May 21, 1952. Under the terms of the
managing agency agreement, the principal Company was
not obliged to pay any compensation to the appellant for
voluntary resignation of the agency, but in consideration
of the appellant parting with its shareholding and
submitting resignation of the managing agency so as to
facilitate the appointment of M/s Mugneeram Bangur and
Co. as managing agent, the latter purchased the
shareholding of the appellant, undertook to make
available Rs 3,50,000 for payment to the appellant and to
discharge the debt due by the Company to the appellant.
Payment of Rs 3,50,000 as therefore an integral part of
an arrangement for transfer of managing agency. A
managing agency of Company is in the nature of a capital
asset; that is not denied. It is true that it is not like an
ordinary asset capable of being transferred from one
person to another. Theoretically, the power to appoint or
dismiss the managing agent may lie with the directors of
the Company, but in practice the power lies with the
person or persons having a controlling interest in the
shareholding of the Company, M/s Mugneeram Bangur
and Co. were anxious to be appointed managing agents
of the principal Company; and for that purpose the
appellant had to be persuaded to agree to a premature
termination of its agency. This was secured for a triple
consideration : sale of shares held by the appellant at an
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agreed price, stipulation to discharge the liability of the
Company to repay the loans due by the Company, and
payment of Rs 3,50,000 as compensation for termination
of the appellant's agency.
6. The High Court summarised the effect of the
agreement between the appellant and M/s Mugneeram
Bangur and Co., as follows : The sum of Rs 3,50,000
described as compensation of loss of office of the
managing agent was part of the whole scheme
incorporated in the agreement. Each clause of the
agreement was a consideration of the other clauses and
payment of compensation for the alleged loss of office did
not, being part of the total scheme, stand by itself.
Determination of the managing agency of the appellant
was not compulsory cessation of business : it was a
voluntary resignation for which under the agency
agreement the appellant was not entitled to any
compensation, but by the device of procuring a purchaser
the appellant was doing "business of selling the
managing agency and getting a profit and value for it
which it otherwise could not have got". The High Court
stamped this transaction with the nature and character of
a trading or a business deal, because in their view the
managing agency of a Company -- a institution peculiar
to Indian business conditions -- which creates a
managing agent as an alter ego of the managed
Company with authority to utilise the existing structure of
the Company's organisation to carry on business, earn
profits, and in fact, virtually to trade in every possible
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sphere open to the Company, may be regarded as
circulating capital, where several managing agencies are
conducted by an assessee. Therefore in the view of the
High Court the compensation received for surrendering
the agency was remuneration received on account of
conducting the business, and was income. The judgment
of the High Court proceeded substantially upon the
following two grounds:
(1) that on the facts of the case, the managing agency
held by the appellant of Fort William Jute Co., Ltd. was
stock-in-trade; and
(2) that the appellant was formed with the object of
acquiring managing agencies, and in fact held managing
agencies of as many as six companies. Earning profits by
conducting the management of companies, being the
business of the appellant, compensation received as
consideration for surrendering the managing agency was
a revenue receipt.
7. We are unable to agree with the High Court that the
managing agency of Fort William Jute Co. Ltd. was an
asset of the character of stock-in-trade of the Company.
The appellant was formed with the object, among others,
of acquiring managing agencies of companies and to
carry on the business and to take part in the
management, supervision or control of the business or
operations of any other Company, association, firm or
person and to make profit out of it. That only authorised
the appellant to acquire as a fixed asset, if a managing
agency may be so described, and to exploit it for the
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purpose of profit. But there is no evidence that the
Company was formed for the purpose of acquiring and
selling managing agencies and making profit by those
transactions of sale and purchase. A managing agency is
not an asset for which there is a market, for it depends
upon the personal qualifications of the agent. Counsel
appearing on behalf of the Commissioner conceded that
the case that the managing agency was of the nature of
stock-in-trade was not set up before the Tribunal, and he
does not rely upon this part of the reasoning of the High
Court in support of the plea that the compensation
received by the appellant is a revenue receipt. He relies
upon the alternative ground, and contends that the
managing agency of Fort William Jute Co. Ltd. was a part
of the framework of the business of earning profit by
working as managing agent of different companies, and
in the normal course, termination of employment by the
pripcipal companies of the appellant as managing agent
being a normal incident of such business compensation
received by the appellant is not for loss of capital but
must be regarded as a trading receipt, especially when
the termination of the agency does not impair the
structure of the business of the appellant.
8. In the present case there is a special circumstance
which must first be noticed. In truth of the amount of Rs
3,50,000 was received by the appellant from M/s
Mugneeram Bangur and Co., in consideration of the
former agreeing to forego the agency which it held and
which M/s Mugneeram Bangur and Co. were anxious to
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obtain. It was in a business sense a sale of such rights as
the appellant possessed in the agency to M/s
Mugneeram Bangur and Co. This is supported by the
recitals made in clause 2 of the agreement that if at any
time within six months after the completion of such
sale M/s Mugneeram Bangur and Co. were unable to
exercise the voting rights attached to the shares
purchased by them, the appellant will appoint any person
nominated by M/s Mugneeram Bangur and Co. to attend
and vote for them at any meeting of the Company or the
holders any class of shares to be held within such period
in such manner as M/s Mugneeram Bangur and Co., may
decide. The object underlying the agreement was
therefore to transfer the managing agency to M/s
Mugneeram Bangur and Co. or at least to effectuate their
appointment in place of the appellant as managing agent
of Fort William Jute Co., Ltd. All the stipulations and the
covenants of the agreement, viewed in the light of the
surrounding circumstances, do stamp the transaction as
one of surrender of the rights of the appellant in the
managing agency so that corresponding rights may arise
in favour of M/s Mugneeram Bangur and Co. It would be
irrelevant in considering the true nature of the transaction,
to project the somewhat legalistic consideration that a
managing agency is not transferable. It is because it is
not directly transferable, that the arrangement
incorporated in the agreement was effected. It would be
difficult to regard such a transaction relating to a
managing agency as a trading transaction.
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9. Counsel for the assessee contended that even
assuming that the form of the transaction under which for
loss of the managing agency the appellant received
compensation from the principle Company is decisive, or
has even a dominate impact, and the ultimate source
from which the compensation was provided is to be
ignored, the compensation received for loss of agency by
the agent must always be regarded under the Indian
Income Tax Act as capital receipt. In support of that
contention counsel placed strong reliance upon the
judgment of the Judicial Committee in CIT v. Shaw
Wallace and Co. [LR 59 IA 206] . In the alternative
counsel pleaded that even if the extreme proposition was
not found acceptable, the right of the assessee in the
managing agency of the principal Company was to
ensure for another five years and which in the normal
course would have continued for another twenty years
was an enduring asset and consideration received by the
appellant for extension of that asset was a capital receipt.
10. On behalf of the Income Tax Department it was
contended that Shaw Wallace and Co. case [(1935) 3 ITR
(Engl Cas) 17] does not lay down any proposition of
general application to compensation paid for
determination of all agency contracts. It was further
submitted that, having regard to the nature of the
agreement and the voluntary resignation submitted by the
assessee, no enduring asset remained vested in the
assessee, and none was attempted to be transferred : the
compensation directly paid by the principal Company
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(which compensation was under the terms of the contract
not payable) was only a "measure of profit" which the
appellant would, but for the resignation, have earned, and
was therefore in the nature of revenue. It was also urged
that compensation was not payable to the assessee
when resignation of the managing agency was tendered
under clause 8 of the agreement and therefore the
amount sought to be brought to tax was received by the
assessee in the course of a normal trading transaction of
the assessee. Finally, it was urged that in any event, by
the loss of the agency the framework of the business of
the assessee was not at all impaired, and therefore also
the compensation received must be regarded as revenue
and not capital.
11. Whether a particular receipt is capital or income
from business, has frequently engaged the attention of
the courts. It may be broadly stated that what is received
for loss of capital is a capital receipt : what is received as
profit in trading transaction is taxable income. But the
difficulty arises in ascertaining whether what is received
in a given case is compensation for loss of a source of
income, or profit in a trading transaction. Cases on the
borderline give rise to vexing problems. The Act contains
no real definition of income; indeed it is a term not
capable of a definition in terms of a general formula.
Section 2(6-C) catalogues broadly certain categories of
receipts which are included in income. It need hardly be
said that the form in which the transaction which gives
rise to income is clothed and the name which is given to it
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are irrelevant in assessing the eligibility of receipt arising
from a transaction to tax. It is again not predicated that
the income must necessarily have a recurrent quality. We
are not called upon to enter upon an extensive area of
enquiry as to what receipts may be regarded as income
generally, but merely to consider in this case whether
receipt of compensation for surrendering the managing
agency may be regarded as capital or as revenue. In the
absence of a statutory rule, payment made by an
employer in consideration of the employee releasing him
from his obligations under a service or agency agreement
or a payment made voluntarily as compensation for
determination of right to office arises not out of
employment, but from cessation of employment and may
not generally constitute income chargeable under
Sections 10 and 12. It may be mentioned that this rule
has been altered by the legislature by the enactment of
Section 10(5-A) by the Finance Act of 1955, which
provides that compensation or other payment due to or
received by a managing agent of an Indian Company at
or in connection with the termination or modification of his
managing agency agreement with the Company, or by a
manager of an Indian Company at or in connection with
the termination of his office or modification of the terms
and conditions relating thereto, or by any person
managing the whole or substantially the whole affairs of
any other Company in the taxable territories at or in
connection with the termination of his office or the
modification of the terms and conditions relating thereto,
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or by any person holding an agency in the taxable
territories for any part of the activities relating to the
business of any other person, at or in connection with the
termination of his agency or the modification of terms and
conditions relating thereto, shall be deemed to be profits
and gains of a business carried on by the managing
agent, manager or other person, as the case may be, and
shall be liable to tax accordingly. But this amendment
was made under the Finance Act, 1955, with effect from
April 1, 1955, and has no application to the present case.
12. The Indian Income Tax Act is not in pari materia
with the English Income Tax Statutes. But the authorities
under the English law which deal not with the
interpretation of any specific provision, but on the concept
of income, may not be regarded as proceeding upon any
special principles peculiar to the English Acts so as to
render them inapplicable in considering problems arising
under the India Income Tax Act. It is well-settled in
England that money paid to compensate for loss caused
to an assessee's trade is normally regarded as income.
In Short Bros. Ltd. v. Commissioner of Inland
Revenue [12 TC 955] a sum received as compensation
for loss resulting from cancellation of a contract was held
to be revenue in the ordinary course of the assessee's
trade, and liable to excess profits duty. Similarly
in Commissioners of Inland Revenue v. Northfleet Coal
and Ballast Co. Ltd. [12 TC 1162] , compensation paid by
a person who had agreed to purchase a certain quantity
of chalk yearly for ten years, from a Company which was
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the owner of a quarry, in consideration of being relieved
of his liability under the contract was held chargeable to
excess profits duty as trading profit in the hands of the
Company.
13. In Commissioners of Inland Revenue v. Newcastle
Breweries Ltd. [12 TC 97] compensation received under
an order of the War Compensation Court, under the
Indemnity Act, 1920, in addition to what was paid by the
Admiralty for rum taken over in exercise of the power
under the Defence of the Realm Regulations was held to
be revenue.
14. In Ensign Shipping Co. Ltd. v. Commissioners of
Inland Revenue [1 TC 1169] an amount paid by the
Government to a ship-owner to compensate him for loss
resulting from detention of his ships during a coal-strike,
and for wages etc. was held liable to excess profits duty.
Again as held in Burmah Steam Ship Co.
Ltd. v. Commissioners of Inland Revenue [16 TC 97]
money received by a ship-owner from a firm of ship-
builders to compensate for loss resulting from the failure
by the latter to complete repairs to ship within the
stipulated period was regarded as revenue.
15. These cases illustrate the principle that
compensation for injury to trading operations, arising from
breach of contract or in consequence of exercise of
sovereign rights, is revenue. These cases must, however,
be distinguished from another class of cases where
compensation is paid as a solatium for loss of office.
Such compensation may be regarded as capital or
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revenue : it would be regarded as capital, if it is for loss of
a asset of enduring value to the assessee, but not where
payment is received in settlement of loss in a trading
transaction.
16. In Chibbet v. Joseph Robinson and Sons [9 TC
48] the assessees who were ship-managers employed by
a steamship Company under a contract which provided
that they should be paid a percentage of the Company's
income, were paid compensation for loss of office in
anticipation of liquidation of the steamship Company. It
was held that payment to make up for loss resulting from
cessation of profits from employment was not itself an
annual profit, but was payment in respect of termination
of employment and was not assessable to tax.
17. In Du Cross v. Ryall [19 TC 444] the assessee
settled a claim made by his employee for damages for
wrongful dismissal and paid £57,250 as compensation for
wrongful dismissal. It was held that no part could be
apportioned to salary and commission and the whole
escaped assessment.
18. In Duff v. Barlow [23 TC 633] the Managing
Director of the appellant Company who was employed for
a period of ten years was asked by it to manage the
business of one of its subsidiaries, and to receive a
percentage of profits made by the subsidiary. The
employment was terminated by mutual agreement two
years after its commencement and £4000 were paid as
compensation to the Managing Director for loss of his
rights of future remuneration. This was held not taxable,
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because it was a sum paid as compensation for loss of a
source of income and hence a capital asset. This case
was followed in Honley v. Murray [31 TC 351] where the
appellant employed as a Managing Director of a property
Company under a service agreement which was not
determinable till March 31, 1944, was also appointed a
Director of a subsidiary Company. At the request of the
Board of Directors of the property Company the appellant
resigned his office in the property Company as well as its
subsidiary and received from the property Company an
amount equal to the remuneration which he would, under
the agreement, have been entitled to if his appointment
had not been determined. It was held by the Court of
Appeal that the use of the expression "compensation for
loss of office" was not the determining factor when the
bargain itself stood cancelled, and the sum paid was in
consideration of total abandonment of all contractual
rights which the other party had. The receipt was in the
circumstances not taxable. The payment was not
voluntarily made the bargain was that the appellant
should resign and in consideration thereof, the Company
should make the payment.
19. In Barr, Crombie and Co. Ltd. v. Commissioners of
Inland Revenue [26 TC 406] appellant Company
managed the ships of another Company under an
agreement for a period of fifteen years. The shipping
Company went into liquidation and a sum exceeding
£16,000 was paid to the appellant Company for the eight
years which were still to run to the date of expiry of the
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agreement. Over a period upwards of sixteen years only
two per cent of the appellant Company's income was
derived from other managements, and on the liquidation
of the shipping Company the appellant Company lost its
entire business except for some abnormal and temporary
business. It was held by the Court of Session in Scotland
that the sum in question was not a trading receipt of the
appellant Company. Lord President Normand observed:
"In the present case virtually the whole assets of the
appellant Company consisted in this agreement. When
the agreement was surrendered or abandoned practically
nothing remained of the Company's business. It was
forced to reduce its staff and to transfer into other
premises, and it really started a new trading life. Its
trading existence as practised up to that time had ceased
with the liquidation of the shipping Company."
20. These cases establish the distinction between
compensation for loss of a trading contract and solatium
for loss of the source of income of the assessee.
21. But payment of compensation for loss of office is
not always regarded as capital receipt. Where
compensation is payable under the terms of the contract
which is determined, payment is in the nature of revenue
and therefore taxable. For instance
in Henry v. Foster [(1931) 145 LTR 225] it was held that
when compensation stipulated under a contract is paid for
loss of office, it is taxable under Schedule 'E', and it was
also held in Dale v. D.E. Soissons [(1950) 2 AIR 460] that
compensation paid under an agreement to an assistant of
the Managing Director for premature termination of
employment was held to be income. The principle on
which these cases proceeded was also applied by the
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Court of Session in Scotland in Kelsall Parsons and
Co. v. Commissioners of Inland Revenue [21 TC 608] to
a case in which there was no express term for payment of
compensation on termination of employment. The
appellants in that case carried on business as agents on
a commission basis for sale in Scotland of the products of
various manufacturers, and entered into agency
agreement for the purpose. At the instance of the
manufacturer concerned one of the agreements which
was for a period of three years were terminated at the
end of the second year in consideration of a payment of
£1500. It was held by the Court of Session that no capital
asset of the assessee was depreciated in value, or
became of less use for the purpose of the assessor's
business. The sum paid was accordingly included in the
calculation of the taxable profits for the year in which it
was received. Lord President Normand observed at p.
620.
"We are not embarrassed here by the kind of
difficulties which arise when, by agreement, a benefit
extending over a tract of future years is renounced for a
payment made once and for all. The sum paid in this
case is really and substantially a surrogatum for one
year's profits."
The foundation of the distinction made in Kelsall Persons
and Co [21 TC 608] : Henslty v. Foster [(1931) 145 LTR
225] and Dale v. De Soissonsery is to be found in the
observations made by Lord Macmillan in Van Den Berghs
Ltd. v. Clark [ TC 390] . In that case two companies which
were manufacturers of margarine and similar products
entered into an agreement with a view to and competition
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between them and to work in friendly alliance and to
share the profits and losses in accordance with an
elaborate scheme. This arrangement was terminated by
mutual agreement in consideration of the payment by the
Dutch Company £4,50,000 to the appellant Company as
damages. It was held by the House of the Lords that
amount was received by the appellant as payment for
cancellation of the appellant Company's future rights
under the agreements, which constituted a capital asset
of the Company, and that it was a capital receipts. Lord
Macmillan observed at p. 431.
"Now what were the appellants giving up? They gave
up their whole rights under the agreements for thirteen
years ahead. These agreements are called in the States
case 'pooling agreements' but that is a very inadequate
description of them, for they did much more than merely
embody a system of pooling and sharing profits. If the
appellants were merely receiving in one sum down the
aggregate of profits which they would otherwise have
received over a series of years, the lump sum might be
regarded as of the same nature as the ingredients of
which it was composed. But even if a payment is
measured by annual receipts, it is not necessarily in itself
an item of income."
23. In Wiseburgh v. Domvile [26 TC 527] the appellant
had entered into an agreement in 1942 under which he
acted as sole agent for the manufacturer. In 1948 when
this agreement could have been determined by notice
expiring in October 1949, the manufacturer dismissed
him. The appellant received 4000 as damages for breach
of agreement. The appellant had several agencies from
time to time as agents and it was one of the incidents of
agency business that one agency may be stopped and
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another may be stopped and another may come and it
being normal incident of the kind of business that the
appellant was doing, that an agency should come to an
end, compensation paid was regarded as income on the
principle laid down in Kelsall Persons and Co. case [21
TC 608] .
24. In another case which soon followed Anglo-French
Exploration Co., Ltd. v. Claysons [36 TC 545] the
appellant Company carried on business, among others,
as secretary and agent for a number of other companies.
A South African company appointed the appellant
Company as its secretary and agent at remuneration of a
£1500 per annum under a contract terminable at six
months' notice. Under on arrangement with the purchaser
of the controlling interest of the shareholders under which
the appellant Company was to resign its office as
secretary and agent of the South African company, an
amount of £20,000 received by the appellant Company
was held by the Court of Appeal in the nature of a trading
receipt.
25. In Blackburn v. Close Bros Ltd. [9 TC 164] the
respondent Company carried on business of merchant
bankers and of a finance and issuing house and derived
income in the form of allowances for performing
managerial and secretarial services. Following a dispute
with one 'S' for which the respondent Company had
agreed to provide secretarial services for three years at a
remuneration of £8000 per annum, the agreement was
terminated with about 2½ months from the date of its
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commencement. £15,000 received by the respondent
Company as compensation for termination of the
agreement was held to be a trading receipt. Pennycuick,
J., held that the contract was one of a number of ordinary
commercial contracts for rendering services by the
assessee in the course of carrying on its trade, and
therefore the sum received on the cancellation of the
agreement was a receipt of a revenue nature.
26. It is manifest that the principle broadly stated in
the earlier cases, that compensation for loss of office, or
agency, must be regarded as a capital receipt, has not
been approved in later cases. An exception has been
engrafted upon that principle that where payment even if
received for termination of an agency agreement, but the
agency is one of many which the assessee holds, and the
termination of the agency does not impair the profit
making structure, but is within the framework of the
assessee's business, it being a necessary incident of the
business that existing agencies may be terminated and
fresh agencies may be taken, the receipt is revenue and
not capital.
27. A case on the other side of the line may be
noticed : Sabine v. Lookers Ltd. [38 TC 120] Under
agreements, annually renewed with the manufactures,
the respondent Company had acted for many years as
their main distributors in the Manchester area of the
manufacturer's products, which it bought for resale. The
respondent had sunk considerable sums in fixtures and
equipment specially designed for the trade of wholesale
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dealers and carried a large stock of spare parts mainly for
wholesale sale. The whole of the trade of the respondent
was geard to the display, sale, service and repairs of the
manufacturer's products. Up to 1952 inclusive, the
manufacturers had included in its agreements with
distributors a standard "continuity clause" giving the
distributors, on certain conditions, the option of renewal
for a further year. But in 1953, the manufactures, adopted
a new standard agreement, containing a new continuity
clause which the respondent Company regarded as
giving it less security than before. As compensation for
loss resulting from the alterations, the manufacturers paid
to the respondent Company, a sum calculated on sales to
the trade during the contract period. It was held that this
was a capital receipt, because by the modification the
framework of the respondent's business was impaired.
28. Elaborate arguments were presented before us on
the decision of the Judicial Committee in Shaw Wallace
and Co. case [LR 59 IA 206] . The appellant contended
that Shaw Wallace and Co. case [LR 59 IA 206] laid
down a principle of general application applicable to all
cases of compensation received from the principal as
solatium for determination of the contract of agency.
Counsel for the Revenue contended that the principle
should be restricted to its special facts, and cannot be
extended in view of the later decisions, it is necessary to
closely examine the facts which gave rise to that case.
Shaw Wallace and Company carried on business as
merchants and agents of various companies and had
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branch offices in different parts of India. For a number of
years they acted as distributing agents in India for the
Burma Oil Company and Anglo Persian Oil Company, but
without a formal agreement with either Company. The
two Oil Companies having combined decided to make
other arrangements for distributing their products. Each
company terminated its contract with Shaw Wallace and
Company and paid compensation to it, which aggregated
to Rs 15,25,000. This amount, subject to certain
allowances was sought to be assessed to income tax
under Sections 10 and 12. The High Court of Calcutta
held that the compensation received by the assessee
was a capital receipt. In appeal to his Majesty-in-Council
the decision of the High Court was armed.
29. The Judicial Committee declined to seek
inspiration from the English decisions cited at the Bar.
The Board observed that the expression "income" which
is not defined in the Act connotes a periodical monetary
return coming in with some sort of regularity, or expected
regularity, from definite sources : the source is not
necessarily one which is expected to be continuously
productive, but it must be one whose object is the
production of a definite return, excluding anything in the
nature of a mere windfall. They further observed that the
income chargeable under head (iv) of Section 6
"business" read with Section 10 is to be in respect of the
profits and gains of any business carried on by the
assessee, and therefore the sums which the Income Tax
Department sought to charge could only be taxable if they
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were the produce or the result of carrying on the agencies
of the oil companies in the year in which they were
received by the assessee. But when once it was admitted
that they were sums received, not for carrying on this
business, but as some sort of solatium for its compulsory
cessation, the answer seemed fairly plain. The Board
observed that if compensation received for sale of the
business or its goodwill was capital, the same reasoning
ought to apply when the sum received was in the nature
of a solatium for cessation of a part of the business, and it
was a matter of no consequence that the assessee
continued to pursue its other independent commercial
interests, and profits from which were taxed in the
ordinary course, for the sums sought to be taxed had no
connection with the continuance of the assessee's other
business : the profits earned by the assessee, it was
observed, "were the fruit of a different tree, the crop of a
different field", and if under Section 10 the compensation
was not taxable, it was not taxable under Section 12
under the head "other sources" as well.
30. The judgment of the Board proceeds upon the
ground that compensation received not for carrying on
the business but as solatium for its compulsory cessation,
would be regarded as capital receipt, and for the
application of this principle, existence of other
independent commercial interests out of which profits
were earned by the assessee was irrelevant. Two
comments may be made at this stage. It cannot be said
as a general rule, that what is determinative of the nature
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of the receipt is extinction or compulsory cessation of an
agency or office. Nor can it be said that compensation
received for extinction of an agency may always be
equated with price received on sale of goodwill of a
business. The test, applicable to contracts for termination
of agencies is : what has the assessee parted with in lieu
of money or money's worth received by him which is
sought to be taxed? If compensation is paid for
cancellation of a contract of agency, which does not
affect the trading structure of the business of the
recipient, or involve loss of an enduring asset, leaving the
taxpayer free to carry on his trade released from the
contract which is cancelled, the receipt will be a trading
receipt : where the cancellation of a contract of agency
impairs the trading structure, or involves loss of an
enduring asset, the amount paid for compensating the
loss is capital.
31. The view expressed by the Judicial Committee
has not met with unqualified approval in later cases. Lord
Wright in Raja Bahadur Kamakshya Narain Singh of
Ramgarh v. CIT, Bihar and Orissa [LR 70 IA 180]
observed that it is incorrect to limit the true character of
income, by such picturesque similies like "fruit of a
different tree, or crop of a different field". Again it cannot
be said generally that compensation for every transfer or
determination of a contract of agency is capital receipt
: Kelsall Persons and Co. v. Commissioners of Inland
Revenue [21 TC 608] ; Commissioners of Inland
Revenue v. Fleming and Co. [33 TC 57]
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; Wiseburgh v. Domvillt [26 TC 527] and Commissioner of
Income Tax and Excess Profits Tax, Madras v. South
India Pictures Ltd. [29 ITR 910] . Nor is it true to say that
where an assessee holds several agency contracts each
agency contract cannot without more be regarded an
independent of the other contracts, and income received
from each contract cannot always be regarded as
unrelated to the rest of the business continued by the
assessee. The decision in Shaw Wallace Co case [LR 59
IA 206] cannot therefore be read to yield the principle that
compensation for loss of an agency may in all cases be
regarded as capital receipt. Nor does it lay down that
where the assessee has several lines of business line
must in ascertaining the character of compensation for
loss of a line of business be deemed an independent
source. This view is examplied by decisions of this Court
and decision of the Madras High Court. In the South India
Pictures Ltd case [29 ITR 910] compensation received for
determination of the distribution rights of films was held
taxable. After the assessee had exploited partially its right
of distribution of cinematographic films to which it was
entitled under the terms of agreement under which he
had advanced money to the producers, the agreements
were cancelled and the producers paid an aggregate sum
of Rs 26,000 to the assessee towards commission. It was
held by Das, C.J., and Venkatarama Aiyer, J., (Bhagwati,
J., dissenting) that the sum paid to the assessee was not
compensation for not carrying on its business, but was a
sum paid in the ordinary course of business to adjust the
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relations between the assessee and the producers, and
was taxable. Similarly in Rai Bhahdur Jairam Valji
case [35 ITR 148, 152] a contract for the supply of
limestone and dolomites was terminated when the
purchaser Bengal Iron Company Ltd. found the rates
uneconomical. A suit was then filed by the respondent for
specific performance of the contract and for an injunction
restraining the Company from purchasing limestone and
dolomite from any other person. A fresh agreement made
between the respondent and the Company fell through
because of circumstances over which the parties to the
agreement had no control. The Company then agreed to
pay Rs 2,50,000 to the respondent as solatium, besides
the monthly instalments of Rs 4000 remaining unpaid
under the contract of 1940. The Income Tax Department
sought to bring to tax the amount of Rs 2,50,000 and the
balance due towards the monthly instalments of Rs 4000.
It was held by this Court that the sum of Rs 2,50,000 was
not paid to the respondent as compensation for expenses
laid out for works at the quarry of a capital nature and
could not be held to be a capital receipt on that account,
the agreements were merely adjustments made in the
ordinary course of business. There was in the view of the
Court no profit-making apparatus set up by the
agreement of 1941, apart from the business which was to
be carried on under it and there was at no time any
agreement which operated as a bar to the carrying of the
business of the respondent and therefore the receipt of
Rs 2,50,000 was chargeable to tax. Venkatarama Aiyar,
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J., observed, in an agency contract the actual business
consists of dealings between the principal and his
customers, and the work of the agent is only to bring
about the business : What he does is not the business
itself, but something which is intimately and directly linked
up with it. The agency may, therefore, be viewed as the
apparatus which leads to the business rather than the
business itself. Considered in this light the agency right
can be held to be of the nature of a capital asset invested
in business. But this cannot be said of a contract entered
into in the ordinary course of business. Such a contract is
part of the business itself, not something outside it, and
any receipt on account of such a contract can only be a
trading receipt. Because compensation paid on the
cancellation of a trading contract differs in character from
compensation paid for cancellation of an agency contract,
it should not be understood that the latter is always, and
as a matter of law, to be held to be a capital receipt. An
"agency contract which has the character of a capital
asset in the hands of one person may assume the
character of a trading receipt (asset) in the hands of
another, as for example, when the agent is found to make
a trade of acquiring agencies and dealing with them".
Therefore, when the question arises whether the payment
of compensation for termination of an agency is a capital
or a revenue receipt, it must be considered whether the
agency was in the nature of a capital asset in the hands
of the agent, or whether it was only part of his stock-in-
trade. The learned Judge also observed that payments
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made in settlement of rights under a trading contract are
trading receipts and are assessable to revenue, but
where a trader is prevented from doing so by external
authority in exercise of a paramount power and is
awarded compensation therefor, whether the receipt is a
capital receipt or a revenue receipt will depend upon
whether it is compensation for injury inflicted on a capital
asset or on stock-in-trade.
32. In Peirce Laslie and Co. Ltd. v. CIT, Madras [38
ITR 356] the assessee Company took up managing
agencies of several plantation companies. The managing
agencies were liable to termination, but the assessee was
entitled to compensation by the terms of the agreement.
Talliar Estates Ltd. was one of the companies managed
by the assessee. The agreement was a composite
agreement about the managing agency rights and certain
other rights. When Talliar Estates Ltd. went into
liquidation the assessee received Rs 60,000 by way of
compensation for loss of office and the question arose
whether that amount was income in the hands of the
assessee. The Madras High Court held that the loss of
one of several managing agencies had little effect on the
structure of the assessee's business even in tea or on its
profit earning apparatus as a whole and the termination of
the agreement with Talliar Estates could well be said to
have been brought about in the ordinary course of
business of the assessee and therefore the amount
received was a trading receipt.
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33. In the South India Pictures Ltd. case [29 ITR 910]
: Rai Bahadur Jairam Valji case [35 ITR 148, 152]
and Peirce Leslie Companies case [38 ITR 356] it was
held that the receipt of compensation for loss of agency
was in the nature of revenue. In the South India Pictures
Ltd case [29 ITR 910] the amount received was not
compensation for not carrying on its business, but was a
sum paid in the ordinary course of business to adjust the
relations between the assessee and the producers : the
termination of the agreements did not radically or at all
affect or alter the structure of the assessee's business,
and the amount received by the assessee was only so
received towards commission i.e. as compensation for
the loss of commission which it would have earned, had
the agreements not been terminated. Therefore, the
amount was not received by the assessee as the price of
any capital assets sold or surrendered or destroyed, but
the amount was simply received by the assessee in the
course of its going distributing agency business and
therefore it was an income receipt. In that case the
majority of the Court held on three distinct grounds viz. (i)
that the assessee did not part with any capital asset; (ii)
that the amount was received in the course of the
distributing agency business which was continued; and
(iii) that the termination of the agreements did not
radically or at all affect or alter the structure of the
assessee's business, that the sum received was
revenue. Rai Bahadur Jairam Valji case [35 ITR 148, 152]
was one of compensation received for termination of a
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trading contract. In Peirce Leslie and Company case [38
ITR 356] there was termination of office, but it was held to
be brought about in the ordinary course of the trading
operations of the assessee.
34. On the other side of the line are cases
of Commissioner of Income Tax Hyderabad-
Deccan v. Vazir Sultan and Sons [36 ITR 175]
and Godrej and Co. v. CIT, Bombay City [37 ITR 381] .
In Vazir Sultan and Son's case [36 ITR 175] the majority
of the Court held that compensation paid for restricting
the area in which a previous agency agreement operated
was a capital receipt, not assessable to income tax. It
was held that the agency agreements were not entered
into by the assessee in the carrying on of their business,
but formed the capital asset of the assessee's business
which was exploited by the assessee by entering into
contracts with various customers and dealers in the
respective territories : it formed part of the fixed capital of
the assessee's business and was not circulating capital or
stock-in-trade of their business and therefore payment
made by the Company for determination of the contract
or cancellation of the agreement was a capital receipt in
the hands of the assessee.
35. In Godrej and Co. case [37 ITR 381] the managing
agency agreement in favour of the assessee of a limited
Company which was originally for a period of thirty years
and under which the assessee was entitled to a
commission at certain rates was modified and
remuneration payable to the managing agents was
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reduced. As compesation for agreeing to this reduction,
the assessee received Rs 7,50,000 which was sought to
be taxed as income in the hands of the assessee. This
Court held, having regard to all the attending
circumstances, that the amount was paid not to make up
the difference between the higher remuneration and the
reduced remuneration, but in truth as compensation for
releasing the Company from the onerous terms as to
remuneration as it was in terms expressed to be : so far
as the assessee firm was concerned it was received as
compensation for the deterioration or injury to the
managing agency by reason of the release of its rights to
get higher remuneration and, therefore, a capital receipt.
36. On an analysis of these cases which fall on two
sides of the dividing line, a satisfactory measure of
consistency in principle is disclosed. Where on a
consideration of the circumstances, payment is made to
compensate a person for cancellation of a contract which
does not affect the trading structure of his business, nor
deprive him of what in substance is his source of income,
termination of the contract being a normal incident of the
business, and such cancellation leaves him free to carry
on his trade (freed from the contract terminated) the
receipt is revenue : Where by the cancellation of an
agency the trading structure of the assessee is impaired,
or such cancellation results in loss of what may be
regarded as the source of the assessee's income, the
payment made to compensate for cancellation of the
agency agreement is normally a capital receipt.
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37. In the present case, on a review of all the
circumstances, we have no doubt that what the assessee
was paid was to compensate him for loss of a capital
asset. It matters little whether the assessee did continue
after the determination of its agency with Fort William
Jute Co. Ltd. to conduct the remaining agencies. The
transaction was not in the nature of a trading transaction,
but was one in which the assessee parted with an asset
of an enduring value. We are, therefore, unable to agree
with the High Court that the amount received by the
appellant was in the nature of revenue a receipt.
38. We accordingly record the answer on the question
submitted by the Tribunal in the negative. The appellant
would be entitled to its costs in this Court."
In Karan Chand Thapar's case supra, the Apex Court held
as under:
"8. As held by this Court in CIT v. Chari & Chari
Ltd. [AIR 1966 SC 54 : (1965) 3 SCR 692 : 57 ITR 400]
that ordinarily compensation for loss of office or agency
is regarded as a capital receipt, but this rule is subject
to an exception that payment received even for
termination of an agency agreement would be revenue
and not capital in the case where the agency was one
of many which the assessee held and its termination
did not impair the-profit-making structure of the
assessee but was within the framework of the business,
it being a necessary incident of the business that
existing agencies may be terminated and fresh
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agencies may be taken. But it is for the income tax
department to clearly establish that the case fell within
the exception to the ordinary rule. In the present case
according to the findings of the tribunal, the termination
of the agency in question had resulted in the
destruction of a source of income of the company. The
tribunal had arrived at the conclusion that the managing
agencies held by the company represented the sources
from which it received its income by way of
commission.
9. In the determination of the question whether a
receipt is capital or income, it is not possible to lay
down any single test as infallible or any single criterion
as decisive. The question must ultimately depend on
the facts of the particular case, and the authorities
bearing on the question are valuable- only as indicating
the matters that have to be taken into account in
reaching a decision. That, however, is not to say that
the question is one of fact, for these questions between
capital and income trading profit or no trading profit, are
questions which, though they may depend to a very
great extent on the particular facts of each case, do
involve a conclusion of law to be drawn from those facts
-- see CIT, v. Rai Bahadur Jairam Vaji [AIR 1959 SC
291: 35 ITR 148] ; P.V. Divecha (deceased) and after
him his legal Representatives v. CIT. [AIR 1964 SC
758: 48 ITR 222] ; Kettlewell Bullen & Co.
Ltd. v. CIT [AIR 1965 SC 65 : 53 ITR 261 : (1964) 8
SCR 93] ; Gillanders Arbuthnot and Co. Ltd. v. CIT,
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Calcutta [AIR 1965 SC 452 : 53 ITR 283 : (1964) 8 SCR
121] and CIT, v. Best & Co. (P) Ltd. [AIR 1966 SC 1325
: 60 ITR 11]
10. The question whether a particular income arising
from the termination of one of the agencies of a multi-
agency concern is a capital receipt or a revenue receipt
is undoubtedly a difficult question to be answered. The
difficulty is inherent in the problem itself. Decisions on
this question are numerous. But none of them have laid
down a precise principle of universal application but
various workable rules have been evolved for guidance.
One of us speaking for the Court in Kettlewell Bullen
Co. case has laid down the following guidelines for
finding out the true nature of such a receipt. The
relevant observations read thus:
"Where on a consideration of the circumstances,
payment is made to compensate a person for
cancellation of a contract which does not affect the
trading structure of his business, nor deprive him of
what in substance is his source of income, termination
of the contract being a normal incident of the business,
and such cancellation leaves him free to carry on his
trade (freed from the contract terminated) the receipt is
revenue; where by the cancellation of an agency the
trading structure of the assessee is impaired, or such
cancellation results in loss of what may be regarded as
the source of the assessee's income, the payment
made to compensate for cancellation of the agency
agreement is normally a capital receipt.
In Oberoi Hotel's case supra, the Apex Court held as under:
"4. On the basis of the said agreement, the
assessee has received a sum of Rs 29,47,500 from the
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Receiver after the sale of the Hotel. The question which
was considered by the Income Tax Authorities was
whether the receipt of the said amount is capital receipt
or revenue receipt. The Income Tax Officer arrived at a
conclusion that it was a revenue receipt, the
Commissioner of Income Tax (Appeals) held that it was
a capital receipt, the Tribunal confirmed the said
finding, on reference to the High Court, the High Court
arrived at a conclusion that it was a revenue receipt
assessable to income tax as business income for
Assessment Year 1979-80. Hence, this appeal by
special leave by the assessee.
5. The question whether the receipt is capital or
revenue is to be determined by drawing the conclusion
of law ultimately from the facts of the particular case
and it is not possible to lay down any single test as
infallible or any single criterion as decisive. This Court
in the case of Karam Chand Thapar & Bros. (P)
Ltd. v. CIT [(1972) 4 SCC 124 : 1973 SCC (Tax) 614 :
(1971) 80 ITR 167] discussed and held that
in CIT v. Chari and Chari Ltd. [(1965) 57 ITR 400 : AIR
1966 SC 54] it was held that ordinarily compensation
for loss of an office or agency is regarded as capital
receipt, but this rule is subject to an exception that
payment received even for termination of an agency
agreement would be revenue and not capital in the
case where the agency was one of many which the
assessee held and its termination did not impair the
profit-making structure of the assessee, but was within
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the framework of the business, it being a necessary
incident of the business that existing agencies may be
terminated and fresh agencies may be taken.
Thereafter the Court held that it was difficult to lay down
a precise principle of universal application but various
workable rules have been evolved for guidance.
6. Applying the aforesaid test laid down by this
Court in the present case, in our view the Tribunal was
right in arriving at a conclusion that it was a capital
receipt. The reason is that as provided in Article XVIII of
the first agreement, the assessee was having an option
or right or lien, if the owner desired to transfer the Hotel
or lease a part of the Hotel to any other person, the
same was required to be offered first to the assessee
(Operator) or its nominee. This right to exercise its
option was given up by a supplementary agreement
which was executed in September 1975 between the
Receiver and the assessee. It was agreed that the
Receiver would be at liberty to sell or otherwise dispose
of the said property at such price and on such terms as
he may deem fit and was not under any obligation
requiring the purchaser thereof to enter into any
agreement with the Operator (assessee) for the
purpose of operating and managing the Hotel or
otherwise and in its return, the agreed consideration
was as stated above in clause 10. On the basis of the
said agreement, the assessee has received the amount
in question. The amount was received because the
assessee had given up its right to purchase and/or to
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operate the property. Further it is a loss of source of
income to the assessee and that right is determined for
consideration. Obviously therefore, it is a capital receipt
and not a revenue receipt.
11. The aforesaid principle is relied upon in the case
of Karam Chand Thapar and Bros. [(1972) 4 SCC 124 :
1973 SCC (Tax) 614 : (1971) 80 ITR 167] Considering
the aforesaid principles laid down as per Article XVIII of
the principal agreement, the amount received by the
assessee is for the consideration for giving up his right
to purchase and or to operate the property or for getting
it on lease before it is transferred or let out to other
persons. It is not for settlement of rights under trading
contract, but the injury is inflicted on the capital asset of
the assessee and giving up the contractual right on the
basis of the principal agreement has resulted in loss of
source of the assessee's income."
In Godrej's case supra, the Apex Court held as under:
"8. This sum of Rs.7,50,000/- has undoubtedly not
been paid as compensation for the termination or
cancellation of an ordinary business contract which is a
part of the stock-in-trade of the assessee and cannot,
therefore, be regarded as income, as the amounts
received by the assessee in CIT and Excess Profits
Tax v. South India Pictures Ltd [(1956) SCR 223, 228]
and in CIT v. Rai Bahadur Jairam Valji [(1959) 35 ITR
148 : (1959) SCR Supp 110] had been held to be. Nor
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can this amount be said to have been paid as
compensation for the cancellation or cessation of the
managing agency of the assessee firm, for the
managing agency continued and, therefore, the
decision of the Judicial Committee of the Privy Council
in CIT v. Shaw Wallace and Co. [(1932) LR 59 IA 206]
cannot be invoked. It is, however, urged that for the
purpose of rendering the sum paid as compensation to
be regarded as a capital receipt, it is not necessary that
the entire managing agency should be acquired. If the
amount was paid as the price for the sterilisation of
even a part of a capital asset which is the framework or
entire structure of the assessee's profit making
apparatus, then the amount must also be regarded as a
capital receipt, for, as said by Lord Wrenbury
in Glenboig Union Fireclay Co. Ltd. v. IRC [(1922) 12
TC 427] "what is true of the whole must be equally true
of part"-- a principle which has been adopted by this
Court in CIT v. Vazir Sultan and Sons [ Civil Appeal No.
346 of 1957, decided on March 20, 1959;(1959) 36 ITR
175] . The learned Attorney-General, however,
contends that this case is not governed by the
decisions in Shaw Wallace's case [(1932) LR 59 IA 206]
or Vazir Sultan and Son case [ Civil Appeal No. 346 of
1957, decided on March 20, 1959;(1959) 36 ITR 175]
because in the present case there was no acquisition of
the entire managing agency business or sterilisation of
any part of the capital asset and the business structure
or the profit-making apparatus, namely, the managing
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agency, remains unaffected. There is no destruction or
sterilisation of any part of the business structure. The
amount in question was paid in consideration of the
assessee firm agreeing to continue to serve as the
managing agent on a reduced remuneration and,
therefore, it bears the same character as that of
remuneration and, therefore, a revenue receipt. We do
not accept this contention. If this argument were
correct, then, on a parity of reasoning, our decision
in Vazir Sultan and Sons case [ Civil Appeal No. 346 of
1957, decided on March 20, 1959;(1959) 36 ITR 175]
would have been different, for, there also the agency
continued as before except that the territories were
reduced to their original extent. In that case also the
agent agreed to continue to serve with the extent of his
field of activity limited to the State of Hyderabad only.
To regard such an agreement as a mere variation in the
terms of remuneration is only to take a superficial view
of the matter and to ignore the effect of such variation
on what has been called the profit-making apparatus. A
managing agency yielding a remuneration calculated at
the rate of 20 per cent of the profits is not the same
thing as a managing agency yielding a remuneration
calculated at 10 per cent of the profits. There is a
distinct deterioration in the character and quality of the
managing agency viewed as a profit-making apparatus
and this deterioration is of an enduring kind. The
reduced remuneration having been separately
provided, the sum of Rs 7,50,000 must be regarded as
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having been paid as compensation for this injury to or
deterioration of the managing agency just as the
amounts paid in Glenboig case [(1922) 12 TC 427]
or Vazir Sultan case [ Civil Appeal No. 346 of 1957,
decided on March 20, 1959;(1959) 36 ITR 175] were
held to be. This is also very nearly covered by the
majority decision of the English House of Lords
in Hunter v. Dewhurst [(1932) 16 TC 605] . It is true that
in the later English cases
of Prendergast v. Cameron [(1940) 23 TC 122]
and Wales Tilley [(1943) 25 TC 136] the decision
in Hunter v. Dewharst [(1932) 16 TC 605] was
distinguished as being of an exceptional and special
nature but those later decisions turned on the words
used in Rule 1 of Schedule E. to the English Act.
Further, they were cases of continuation of personal
service on reduced remuneration simpliciter and not of
acquisition, wholly or in part, of any managing agency
viewed as a profit-making apparatus and consequently
the effect of the agreements in question under which
the payment was made upon the profit making
apparatus, did not come under consideration at all. On
a construction of the agreements it was held that the
payments made were simply remuneration paid in
advance representing the difference between the higher
rate of remuneration and the reduced remuneration and
as such a revenue receipt. The question of the
character of the payment made for compensation for
the acquisition, wholly or in part, of any managing
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agency or injury to or deterioration of the managing
agency as a profit-making apparatus is covered by our
decisions hereinbefore referred to. In the light of those
decisions the sum of Rs 7,50,000 was paid and
received not to make up the difference between the
higher remuneration and the reduced remuneration but
was in reality paid and received as compensation for
releasing the company from the onerous terms as to
remuneration as it was in terms expressed to be. In
other words, so far as the managed company was
concerned, it was paid for securing immunity from the
liability to pay higher remuneration to the assessee firm
for the rest of the term of the managing agency and,
therefore, a capital expenditure and so far as the
assessee firm was concerned, it was received as
compensation for the deterioration or injury to the
managing agency by reason of the release of its rights
to get higher remuneration and, therefore, a capital
receipt within the decisions of this Court in the earlier
cases referred to above."
In Senairam Doongarmall's case supra, the Apex Court
held as under:
"This appeal which has been filed with a certificate
under section 66A(2) granted by the High Court of
Assam against its judgment and order dated March 29,
1955, concerns the assessment of the appellants, a
Hindu undivided family, for the assessment year 1945-
1946 and 1946-1947.
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The appellants owned a tea garden called the
Sewpur Tea Estate in Assam. They had on the estate
factories labour quarters staff quarters, etc. On
February 27, 1942, the military authorities requisitioned
all the factory buildings, etc., under rule 79 of the
Defence of India Rules. Possession was taken
sometime between March 1 and March 8, 1942. The
tea garden was however left in the possession of the
appellants. The possession of the military continued till
the year 1945, and though the appellants looked after
their tea garden, the manufacture of tea was completely
stopped. Under the Defence of India Rules, the military
authorities paid compensation. For the year 1944,
corresponding to the assessment year 1945-1946 they
paid a total sum of Rs. 2,22,080 as compensation
including a sum of Rs. 10,000 for repairs to quarters for
labourers and Rs. 144 which represented the
assessor's fee. For the year 1945, corresponding to the
assessment year 1946-1947, the military authorities
paid a sum of Rs. 2,46,794 which included a sum of Rs.
15,231 for other repairs. The sums paid for repairs
appear to have been admitted as paid on capital
account and rightly so. The question was whether the
two sums paid in the two years minus these admitted
sums, or any portion thereof were received on revenue
or capital account.
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The assessments for the two years were made by
different Income- tax Officers. For the assessment year
1945-1946 the Income-tax Officer deducted from Rs.
2,22,080, a sum of Rs. 1,03,000 on account of
admissible expenses. He then applies to the balance,
Rs. 1,17,080, rule 24 of the Indian Income-tax Rules,
1922, and brought to tax 40 per cent. of that sum
amounting to Rs. 46,832. The assessment was made
under section 23(4). For the assessment year 1946-47,
the assessment was made under section 23(3) of the
Income-tax Act. The Income-tax Officer excluded the
sum paid on account of repairs and treated the whole of
the amount as income taxable under the provisions of
the Income-tax Act, after deduction of admissible
expenditure. The appeals filed by the appellants to the
Appellate Assistant Commissioner against both the
assessments were unsuccessful. On further appeal, the
Income-tax Appellate Tribunal (Calcutta Bench) was
divided in its opinion. The Judicial Member held that the
receipts represented revenue but on account of "use
and occupation" of the premises requisitioned. He,
therefore computed the net compensation attributable
to such use and occupation at 20 per cent. of the total
receipts in both the years. He, however, observed that if
the receipts included income from the tea estate he
would have been inclined to apply rule 24 in the same
way as the first Income-tax Officer. The Account
Member was of the opinion that the appellants were
liable to pay tax on 40 per cent. of their receipts in both
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the years after deduction of the sums paid for repairs of
buildings and the admissible expenditure. He accepted
the estimate of expenditure for the account year 1944,
at Rs. 1,05,000, and directed that the admissible
expenditure for the succeeding year be determined and
deducted before the application of rule 24.
It appears that through some inadvertence these
two orders, which were not unanimous were sent to the
appellants and the Department. The Commissioner of
Income-tax filed an application under section 66(1) for a
reference, while the appellants filed an application
under section 35 for rectification of the orders since
many other matters in appeal were not considered at
all. When these two applications came before the
Tribunal, it was realised that the matter had to go to a
third member for setting the difference. The President
then heard the appeal and agreed with the Accountant
Member. Though he expressed a doubt whether the
appellants were entitled to the benefit of rules 23 and
24,he did not given an opinion because this point was
not referred to him.
The Tribunal then referred the case to the High
Court of Assam on the following two questions:
"(1) Whether the sums of Rs. 2,12,080 and Rs.
2,31,563 paid by the Government to the assessee in
1945 and 1946 respectively (exclusive of the sums paid
specifically for building repairs) were revenue receipts
in the hands of the assessee comprising any element of
income?
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(2) If so, whether the whole of the said sums less
the expenses incurred by the assessee in tending the
tea bushes constituted agricultural income in his hands
exempt from tax under the Indian Income- tax Act,
1922?"
The reference was heard by Sarjoo Prasad, C.J.,
and Ram Labhaya, J., along with two writ petitions
which had also been filed. They delivered separate
judgments, but concurred in their answers. The High
Court answered both the question against the
appellants. The writ petitions were also dismissed.
Before we deal with this appeal, we consider it
necessary to state at this stage the method of
calculation of compensation adopted by the military
authorities. It is not necessary to refer to both the years,
because what was done in the first year was also done
in the following year except for the change in the
amounts. This method of calculation is taken from the
order of the Judicial Member and is as follows:
Rs. a. p.
Crop--2,11,120 1bs. at 17.85 d 2,12.292 14 0
(half) and at 18.35 d (half)
15,480 1bs. at Rs. 0-11-10 11,449 12 0
52,600 1bs. at Rs. 0-15-6 50,956 4 0
2,74,698 14 0
Less--Saving of plucking and
manufacturing:
Rs.
(a) Expenses at annas 3 per 1b. ... 49,209
(b) Sale of export rights ... 4,924
1,32,935 1bs.
(c) Purchase of export rights ... 1,629
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78,185 1bs. at annas 4
(d) Food and clothing ... 7,000
concessions ... 62,762 0 0
2,11,936 0 0
Add--For fees of assessors Rs. ... ...
144 Coolie lines repairs Rs. 10,144 0 0
10,000 ...
2,22,080 0 0
From the admitted facts which have been
summarized above, it is clear that the business of the
appellants as tea-growers and tea-manufacturers had
come to stop. The word "business" is not defined
exhaustively in the Income-tax Act, but it has been held
both by this court and the Judicial Committee to denote
an activity with the object of earning profit. To say that a
business is being carried on, means no more than that
profit is to be earned by a process of production. The
business of a tea-grower and manufacturer is not
merely to grow tea plants but to collect tea leaves and
render them fit for sale. During the years in question,
the appellants were tending their teagarden to preserve
the plants, but this activity cannot be described as a
continuation of the business, which had come to an end
for the time being. It would have hardly made any
difference to the carrying on of business, if instead of
the factories and buildings, the garden was requistioned
and occupied, because in that event also, the business
would have come to a standstill.
The compensation which was paid in the two years
was no doubt paid as an equivalent of the likely profits
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in those years; but as pointed out by Lord Buckmaster,
in Glenboig Union Fireclay Co. Ltd. v. Commissioners
of Inland Revenue* and affirmed by Lord Macmillan in
Van den Berghs Ltd. v. Clark**, "there is no relation
between the measure that is used for the purpose of
calculating a particular result and the quality of the
figure that is arrived at by means of the application of
that test." This proposition is as sound as it is well-
expressed, and has been followed in numerous cases
under the Indian Income-tax Act and also by this court.
It is the quality of the payment that is decisive of the
character of the payment and not the method of the
payment or its measure, and makes it fall within capital
or revenue.
We are thus required to determine what was it that
was paid for, or in other words what did the two
payments replace if they replaced anything. The
arguments at the Bar followed the pattern which has by
now become quite familiar to courts. We were taken to
the 12th volume of the Tax Cases series, where are
collected cases dealing with excess profits duty and
corporation profits tax in England following the First
World War, and to other English case reported since.
These cases have been considered and applied on
more than one occasion by this court and we were
referred to those cases as well.
Now, it is necessary to point out that the English
cases were decided under a different system of taxation
and must be read with care. A case can only be
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decided on its own facts, and the desire to base one's
decision on another case in which the facts appear to
be near enough sometimes leads to error. It is well to
remember the wholesome advice given by Loar
Dunedin in Green v. Gliksten & Son Ltd.,*[1929] 14
Tax. Cas.364 that "in these Income Tax Act cases one
has to try as far as possible to tread a narrow path
because there are quagmires on either side into which
one can easily be led ...."
The English cases to which we were referred were
used even in England by Lord Macmillan in Van den
Berghs' case (1935) 3 ITR (Eng.Cas.) 17 as mere
illustrations and when cited before the Judicial
Committee in Commissioner of Income-tax v. Shaw
Wallace & Co.(1932) LR 59 IA 206 were put aside by
Sir George Lowndes with this observation:
".....their Lordships would discard altogether the
case law which has been so painfully evolved in the
construction of the English income tax statutes--both
the cases upon which the High Court relied and the
flood of other decisions which has been let loose in this
Board."
Most of the case cited before us deal with excess
profits duty and corporation profits tax. In the former
group, pre-war profit had to be determined, so that they
might be compared with post-war business for the
purpose of arriving at the excess profits, if any. In
dealing with the pre-war profits, diverse receipts were
considered from the angle whether they formed capital
or revenue items. The observations which have been
made are sometimes appropriate to the nature of the
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business to which the case related and the quality of
the payment in relation to that business. Similarly the
corporation profits tax was a tax intended to be
imposed upon the profits of British companies (which
included some other corporate bodies) carrying on
tread or business including the business of
investments. The profits which were taxed under
section 52 of the English Finance Act were required to
be determined according to the principles laid down in
that Act.
It is thus obvious that though the English cases may
be of some help in an indirect way by focusing one's
attention on what is to be regarded as relevant and
what rejected they cannot be regarded in any sense as
precedents to follow. Since this court on other
occasions used these cases as an aid, we shall prefer
to them briefly; but we have found it necessary to sound
a warning because the citation of these authorities has
occasionally outrun their immediate utility.
We begin with the oft-cited case of Glenboig Union
Fireclay Co. Ltd's case supra. That was a case under
the excess profits duty. The facts are so well-known
that we need not linger over them. A seam of fireclay
could not be worked and compensation was paid for it.
That the clay was capital asset was indisputable, and
the portion lost was a slice of capital. The hole made in
the capital was filled up by the compensation paid. It
was said that a portion of the capital asset was
sterilised and destroyed, and even though the business
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went on, the payment was treated as on capital
account. The case cannot be used as precedent
because here no doubt the factories and buildings were
a part of fixed capital, but the payment was not so much
to replace them in the hands of the appellants as to
compensate them for the stoppage of business. The
Glenboig case does not apply.
The case of Short Bros. Ltd. v. Commissioners of
Inland Revenue - (1927) 12 Tax.Cas.955, another case
under the excess profits duty illustrates a contrary
principle. The company had agreed to build two ships
but the contracts were cancellation and ? 100,000 was
paid for cancellation of the contracts. This was held to
be a receipt in the ordinary course of the company's
trade. Rowlatt, J., said that it was "simply a receipt in
the course of a going business, from that going
business--nothing else". In the Court of Appeal, Lord
Hanworth, M.R., affirmed the decision, observing:
"Looked at from this (business) point of view it
appears clear that the sum received was received in
ordinary course of business and that there was not in
fact any burden cast upon the company not to carry on
their trade. It was not truly compensation for not
carrying on their business: it was a sum paid in ordinary
course in order to adjust the relation between the
shipyard and their customers."
The payment was by a customer to the shipyard.
Whether the amount was paid for ships built or because
the contract was cancelled it was business receipt and
in the course of the business. In the present case, the
payment is not of this character, and short Bros.' Case
supra does not apply.
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The next case--also of excess profits duty--is
Commissioners of Inland Revenue v. Newcastle
Breweries Ltd.*** In that case, the Admiralty took over
one-third stock of rum of the brewery and paid to the
company the cost plus 1s. per proof gallon. Later the
compensation was increased by an amount of ? 5,309
and was brought to tax in the earlier year when the
original compensation was paid. The observations of
Rowlatt, J., though made to distinguish the case from
one in which the compensation is paid for destruction of
business are instructive. We shall refer to them later.
The learned Judge held that this was a case of
compulsory sale of rum, and that a compulsory sale
was also a sale. The receipt was held to be a profit. The
decision was affirmed by the Court of Appeal. This case
also so far as its facts go, was very different and the
actual decision has no relevance.
Commissioners of Inland Revenue v. Northfleet
Coal and Ballast Co. Ltd. was a case like Short Bros.'
Case**. ? 3000 in a lump sum were
*(1922) 12 Tax Cas. 427. **(1927) 12 Tax Cas. 955.
***(1927) 12 Tax Cas. 927. #(1927) 12 Tax Cas. 1102.
paid to be relieved from a contract, and as the
business was a going business, it was held to be profit.
In fact, Short Bros. Case* was applied.
Ensign Shipping Co. Ltd. v. Commissioners of
Inland Revenue**, a case of excess profits duty is
interesting. During the Coal Strike of 1920, two ships of
the company were ready to sail with cargoes of coal.
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They were detained for 15 and 19 days respectively by
orders of Government. In April, 1924, ? 1,078 were paid
as compensation and were held to be trading receipts.
Rowlatt, J., laid down that if there was an operation
which produced income it was none the less taxable,
because it was a compulsory operation. The learned
judge then observed that he could not hold that this was
a case of hire, like Sutherland v. Commissioners of
Inland Revenue*** because the ships lay idle and their
use was interrupted. The learned Judge then
concluded:
"Now it is quite clear that if a source of income is
destroyed by the exercise of the paramount right....and
compensation is paid for it, that is not income, although
the amount of the compensation is the same as the
total of the income that has been lost....but in this case
I have got to decide the case of temporary
interference.... Here these ships remained as ships of
the concern....they merely could not sail for a certain
number of days, and in lieu of the value of the use
which they would have been to their owners in their
profitearning capacity during those days, in lieu of that
receipt, this money was paid to the owners, although
they were not requisitioned, as if requisitioned....I think
I ought to regard this sum, as the Commissioners have
obviously regarded it, as a sum paid which to the
shipowners stands in lieu of the receipts of the ship
during the time of the interruption."
This decision was approved by the Court of Appeal.
Now, the case was one of loss of time during which the
ships would have been usefully and profitably
employed. It was argued in the Court of Appeal with the
assistance of the Glenboig case# and it was suggested
that the vessels were "sterilised" for the period of
detention. Lord Hanworth said that was rather a
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metaphorical word to use, and that the correct way was
to look at the matter differently. The Master of the Rolls
observed:
"But in the present case it seems to me that, looked
at from a business point of view, all that has happened
is that the two vessels arrived much later at the ports to
which they were consigned than they would have done,
with the consequent result that for the certain number of
days which they were late they could not possibly make
any
*(1927) 12 Tax Cas. 955. **(1927) 12 Tax Cas.
1169. ***(1918) 12 Tax Cas. 63. #(1922) 12 Tax Cas.
427.
earnings, and it is in respect of that direct loss by
reason of the interference with the rights exercised on
behalf of His Majesty that they made a claim and have
been paid compensation."
This ruling was strongly relied upon by the
Department as one which laid down a principle
applicable here. We do not agree. The payment there
was made towards loss of profits of a going business,
which was not destroyed. As a source of income, the
business was intact, and the business instead of being
worked for the whole period, was worked for period less
by a few days and the profit of that period was made
up. That may be true of one is going to determine
standard profits of a particular period, because what is
paid goes to profits in the period but is of no
significance in a case like the present, where during the
whole of the year no business at all was done nor
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profits made. This case also does not help to solve the
problem.
Charles Brown & Co. v. Commissioners of Inland
Revenue* is yet another case of excess profits duty. In
that case, the business of the taxpayer was carried on
under the control of the Food Controller from 1917 to
1921, and he was compelled to buy and sell at prices
fixed by the Controller. By agreement a "mill standard"
was fixed, and the taxpayer was allowed to retain
profits up to that standard, and if there was shortfall, it
was to be made up by the Controller. This amount
which the taxpayer retained together with the amount
paid towards shortfall was regarded as profits. The
principle applicable is easily discernible. There can be
little doubt that the trade was being carried on, and
what was received was rightly treated as profits.
Rowlatt. J., observed that this was a clearer case than
the Ensign case**. The matter was covered by section
38 of the Finance (No. 2) Act of 1915, Fourth Schedule,
Part 1(1), where the words were "The profits shall be
taken to be the actual profits arising in the accounting
period."
In Barr Crombie & Co, Ltd. v. Commissioners of
Inland Revenue***, the company's business consisted
almost entirely of managing shipping for another
company. When the shipping company went into
liquidation, a sum was paid as compensation to the
managing company. It was held that this was a capital
receipt. The reason for holding thus was that the
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structure of the managing company's whole business
was affected and destroyed, and this was not profit but
compensation for loss of capital. Kelsall Parsons & Co.
v. Commissioners of Inland Revenue#, to which we
shall refer presently, was distinguished on the ground
that, though in that case the agency was cancelled, the
payment was for one year and that too, the final year.
This case is important is one respect, and it
*(1929) 12 Tax Cas. 1256. **(1927) 12 Tax Cas.
1169. ***[1947] 15 I.T.R. (Suppl.) 56. #(1938) 21 Tax
Cas. 608.
is that if the entire business structure is affected and
destroyed, the payment may be regarded as replacing
capital, which is lost.
These are cases of excess profits duty where profits
for a particular period had to be determined and also
the character of the payments in relation to the kind of
business, to determine whether to treat them as excess
profits or not. In the Glenboig case(1), the payment was
not regarded as profit, because it replaced lost capital
and so also, in the Barr Crombie case(2). These form
the first group. The Short Bros. case(3), the Northfleet
case(4) and Ensign Shipping Co.'s case(5), were of a
going business, and what was paid was towards lost
profits in a going concern. These form the second
group. Newcastle Breweries' case(6) and Charles
Brown and Co.'s case(7) were of business actually
done and profits therefrom. None of these rulings is
directly in point. In the case with which we are
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concerned, the payment was not towards any capital
asset to attract the first group, there was not going
business so as to attract the second, and nothing was
brought nor any business done with the taxpayer to
make the third group applicable.
We shall next see some cases which involved
corporation profits tax. In Gloucester Railway Carriage
and Wagon Co. Ltd. v. Commissioners of Income
Tax(8), the company was doing business of selling
wagons and of hiring them out. The company then sold
all the wagons which it was using for purposes of hiring.
The receipt was treated as profit of trade, there being
but one business and the wagons being the stock-
intrade of that business. In Green v. Gliksten & Son
Ltd.(9) stocks of timber were destroyed. Their written
down value was ? 160,824 but the insurance company
paid ? 477,838. The House of Lords held that the
timber, though burnt, was realised, and that the excess
of the sum over the written down book value must be
brought into account. These two cases throw no light
upon the problem with which we are faced, and any
observations in them are so removed from the facts of
this case as to be of no assistance.
The cases under Schedule D of the Income Tax Act
like Burmah Steamship Co. Ltd. v. Commissioners
Inland Revenue(10), a case of late delivery of ships
sent for overhaul, Greyhound Racing Association
(Liverpool) Ltd. v. Cooper(11), which was a case of
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surrender of an agreement in which the amounts were
treated as trading receipts, are
(1)(1922) 12 Tax Cas. 427. (2)[1947] 15 I.T.R.
(Suppl.) 56. (3)(1927) 12 Tax Cas. 955. (4)(1927) 12
Tax Cas. 1102. (5)(1927) 12 Tax Cas. 1169. (6)(1927)
12 Tax Cas. 927. (7)(1929) 12 Tax Cas. 1256.
(8)(1925) 12 Tax Cas. 720. (9) (1929) 14 Tax Cas. 364.
(10)(1930) 16 Tax Cas. 67. (11)(1936) 20 Tax Cas.
373.
not cases of stoppage of a business and are not
relevant. Kelsall Parsons' case*, where one of the
agreements of a commission agency which was to run
for 3 years was terminated at the end of the second
year and compensation of ? 1,500 was paid for the last
and final year, was held on its special facts to involve
taxable profits of trading. Though the business came
prematurely to an end, the structure of the business
was not affected because the payment was in lieu of
profits in the final year of the business as if business
had been done. The payment was held to be within the
structure of the business in the same way as in Shove
v. Dura Manufacturing Co. Ltd.** The converse of these
cases is the well-known Van den Berghs Ltd. v.
Clark***, where mutual trade agreements were
rescinded between two companies and ? 450,000 were
paid to the assessee company as "damages". This was
treated as capital receipt and not and income receipt to
be included in computing the profits of trade under
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Schedule D, Case 1, of the Income Tax Act of 1918.
Lord Macmillan observed:
"On the contrary the cancelled agreements related
to the whole structure of the appellants' profit-making
apparatus. They regulated the appellants' activities,
defined what they might and what they might not do,
and affected the whole conduct of their business. I have
difficulty in seeing how money laid out to secure, or
money received for the cancellation of, so fundamental
an organisation of a trader's activities can be regarded
as an income disbursement or an income receipt."
We have referred to these cases to show that none
of them quite covers the problem before us. The facts
are very dissimilar, and the observations, though
attractive, cannot always be used with profit and often
not without some danger of error. We shall now turn to
the cases of this court, which were referred to at the
hearing.
The first case of this court is Commissioner of
Income-tax v. South India Pictures Ltd.# The South
India Pictures Ltd. held distribution rights for 5 years of
three films towards the completion of which they had
advanced money to a film producing company, called
the Jupiter Pictures. When the term had partially run
out, the agreement for distribution was cancelled, and
the South India Pictures Ltd. received Rs. 26,000 as
commission. The question was whether this sum was
on capital or revenue account. Das, C.J., and
Venkatarama Aiyar, J., held that it was the latter, while
Bhagwati, J., held that it was the former. The Learned
Chief Justice came to his conclusion on four grounds:
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(i) that the payment was towards commission which
would
*(1938) 21 Tax Cas. 608. **(1941) 23 Tax Cas. 779.
***(1935) 3 I.T.R. (Eng. Cas.) 17. #[1956] 29 I.T.R. 910.
have been earned; (ii) that it was not the price of any
capital asset sold, surrendered or destroyed; (iii) that
the structure of the business, which was a going
business, was not affected; and (iv) that the payment
was merely an adjustment of the relation between the
South India Pictures Ltd. and the Jupiter Pictures. The
Learned Chief Justice thus rested his decision on Short
Bros.'* and Kelsall Parsons'** cases and not upon Van
den Berghs'*** or Barr Crombie's# case.
Bhagwati, J., who dissented, judged the matter from
the angle of business accountancy. He observed that
money advanced to produce the cinema pictures, it
returned, would have been credited on the capital side
as a return of capital, just as expenditure for distribution
work was revenue expenditure and the commission, a
revenue receipt. On a purity of reasoning, the learned
judge held that money spent in acquiring distribution
rights was a capital outlay, and that when distribution
rights were surrendered, it was capital which was
returned, since the agreement was a composite one,
the films were a capital asset and the payment for their
release was a return of capital.
With due respect, it is difficult to see how the
payment could be regarded as capital in that case. The
fact which seems to have been overlooked in the
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minority view was that the entire capital outlay had, in
fact, been previously recouped and even the security
held by the South India Pictures had been extinguished.
It was a portion of the running business which ceased
to be productive of commission and by the payment,
the commission which would have been earned and
would have constituted a revenue receipt when so
earned, was put in the pockets of the South India
Pictures. The business of the South India Pictures was
still a going business, one portion of which instead of
being fruitful by stages became fruitful all at once. What
was received was still the fruit of business and thus
revenue. The case, though interesting, is difficult to
apply in the present context of facts, where no business
at all done and what was received was not the fruit of
any business.
The next case of this court, Commissioner of
Income-tax v. Rai Bahadur Jairam Valji##, may be
seen. The assessee there was a contractor, and
received Rs. 2,50,000 as compensation for premature
termination of a contract. This was held to be a revenue
receipt. The assessee had many businesses including
many contracts, and the receipt was considered as one
in the ordinary course of business. All the English
decisions to which we have referred were examined in
search for principles, but
*(1927) 12 Tax Cas. 955. **(1938) 2 Tax Cas. 608.
***(1935) 3 I.T.R. (Eng. Cas). 17. #[1947] 15 I.T.R.
(Suppl.) 56. ##[1959] 35 I.T.R. 148.
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the principle on which the decision was rested was
that the payment was an adjustment of the rights under
the contract and must be referred to the profits which
could be made if the contract had instead been carried
out. The payment not being on account of capital outlay
and the assessee not being prevented from carrying on
his business, the receipt was held to be revenue, that is
to say, related to income from a contract terminated
prematurely. In a sense, the case is analogous to the
South India Pictures Ltd. Case* which it follows.
In Commissioner of Income-tax v. Vazir Sultan &
Sons**, the assessee held the sole selling agency and
distribution rights of a particular brand of cigarette in the
Hyderabad State on foot of a 2 per cent. discount on all
business done. Subsequently, the area outside
Hyderabad State was also included on the same terms.
Later still, the area was again reduced to the
Hyderabad State. Rs. 2,19,343 were paid by way of
compensation "for loss of territory outside Hyderabad".
Bhagwati, J., and Sinha, J. (as he then was), held that
the compensation was on capital account, while Kapur,
J., held otherwise. The reason given by the majority
was that the agency agreement was a capital asset and
the payment was in lieu of the loss of a portion of the
capital asset. Kapur, J., on the other hand, held that the
loss which was replaced was the loss of agency
commission and bore its character. The case furnishes
a difficult test to apply. If what was adjusted was the
relationship between the parties and if there was a
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going business as, in fact, there was, the case comes
within the dicta in the South India Pictures Ltd. Case*
and Jairam Valji's case***. The case can only be a
decision on the narrow ground that a portion of the
"fixed capital" was lost and paid for.
In Godrej & Co. v. Commissioner of Income-tax#,
the assessee firm, which held a managing agency,
released the managed company from an onerous
agreement and in consideration was paid Rs. 7,50,000.
It was held that the payment was not made to make up
the difference in the remuneration of the managing
agency firm but to compensate it for the deterioration or
injury of an enduring kind to the managing agency itself.
The injury being thus to a capital asset, the
compensation paid was held to be on capital account.
The last case of this court to which reference may
be made is Commissioner of Income-tax v. Shamsher
Printing Press##. That was a very special case. There,
the premises of the press were requisitioned by
Government, but the press was allowed to set up its
business
*[1956] 29 I.T.R. 910. **[1959] 36 I.T.R. 175.
***[1959] 35 I.T.R. 148. #[1959] 39 I.T.R. 381. ##[1960]
39 I.T.R. 90.
elsewhere, the charges for shifting the machines,
etc., being paid by Government. In addition,
Government paid a sum claimed as loss of profits,
which was expected to bring up the profits to the level
of profits while the business was in its old place. The
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assessee claimed that this sum was paid as
compensation for loss of goodwill arising from its old
locality. there was, however, nothing to show that the
payment was for goodwill, and it was held that the
compensation paid must be regarded as money arising
as profits in the course of business. It was like putting
money in the till to bring the profits actually made to the
level of normal profits.
All these cases were decided again on their special
facts. Though they involved examination of other
decisions in search for the true principles, it cannot be
said that they resulted in the discovery of any principle
of universal application. To summarise them: South
India Pictures' case* was so decided because the
money received was held to be in lieu of commission
which would have been earned by the business which
was still going, and the receipt was treated as the fruit
of business. The same reason was given in Jairam
Valji's case**, and the Shamsher Printing Press
case***. In Vazir Sultan's case#, the compensation was
held to replace loss of capital, and in Godrej's case##,
the compensation was said not to have any relation to
the likely income or profits but to loss of capital. Each
case was thus decided on its facts.
We have so far shown the true ratio of each case
cited before us, and have tried to demonstrate that
these cases do no more stimulate the mind, but none
can serve as a precedent, without advertence to its
facts. The nature of the business, or the nature of the
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outlay or the nature of the receipt in each case was the
decisive factor, or there was a combination of these
factors. Each is thus an authority in the setting of its
own facts.
Before we deal with the facts of this case and
attempt to answer the question on which there is so
much to guide but nothing to bind, we will refer to two
cases of the Judicial Committee, one of which is
Commissioner of Income-tax v. Shaw Wallace &
Co.###, to which we have referred in another
connection. In that case, all the authorities prior to 1935
to which we have referred (and some more) were used
in aid of arguments; but the Judicial Committee, for
reasons which are now illustrated by this judgment,
declined to comment on them. Shaw Wallace and Co.
did many business, and included in them was the
*[1956] 29 I.T.R. 910. **[1959] 35 I.T.R. 148.
***[1960] 39 I.T.R. 90. #[1959] 36 I.T.R. 175. ##[1959]
37 I.T.R. 381. ###[1932] L.R. 59 I.A. 206.
managing agency of two oil-producing companies.
This agency was terminated, and compensation was
paid for it. The usual question arose about capital or
revenue. The Full Bench of the Calcutta High Court
related the payment of goodwill, but the Judicial
Committee rejected that ground because no goodwill
seemed to have been transferred. The Judicial
Committee also rejected the contention that it was
compensation in lieu of notice under section 206 of the
Indian Contract Act, as there was no basis for it either.
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The Judicial Committee held that income meant a
periodical monetary return coming in with some sort of
regularity or expected regularity from a definite source
and in business was the produce of something "Loosely
spoken of as capital". In business, income is profit
earned by a process of production, or, in other words,
by the continuous exercise of an activity. In this sense,
the sum sought to be charged could not be regarded as
income. It was not the product of business but some
kind of solatium for not carrying on business and thus
not revenue.
The case is important inasmuch as this analysis of
"income" has been accepted by this court and has been
cited with the further remark made in Gopal Saran
Narain Singh v. Commissioner of Income-tax*, that the
words "profits and gains" used in the Indian Income-tax
Act do not restrict the meaning of the word "income"
and the whole expression is "income" writ large. From
this case, it follows that the first consideration before
holding a receipt to be profits or gains of business
within section 10 of the Indian Income-tax Act is to see
if there was a business at all of which it could be said to
be income.
We shall now take up for consideration the facts of
our case, and see how far any principle out of the
several which have governed earlier cases can be
usefully applied. The assessee was a tea-grower and
tea manufacturer. His work consisted in growing tea
and in preparing leaves by a manufacturing process
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into a commercial commodity. The growing of tea plants
only furnished the raw material for the business.
Without the factory and the premises, the tea leaves
could not be dried, smoked and cured to become tea,
as is known commercially, and it could not be packed or
sold. The direct and immediate result of the requisition
of the factories was to stop the business. That the tea
was grown or that the plants were tended did not mean
that the business was being continued. It only meant
that the source of the raw material was intact but the
business was gone.
Now, when the payment was made to compensate
the assessee, no doubt the measure was the out-turn of
tea which would have been manufactured; but that has
little relevance. The assessee was not *[1935] L.R. 62
I.A. 207. compensated for loss or destruction of or
injury of a capital asset. The buildings were taken for
the time being, but the injury was not so much to the
fixed capital as to the business as a whole. The entire
structure of business was affected to such an extent
that no business was left or was done in the two years.
This was not a case where the interruption was caused
by the act of a contracting party so that the payment
could be regarded as an adjustment of a contract by
payment. It was a case of compulsory requisition, but
the requisition did not involve the buying of tea either as
raw material or even as a finished product. If that had
been the case, it might have been possible to say that
since business was done, though compulsorily, profits
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had resulted. It was not even a case in which the
business continued, and what was paid was to bring up
the profits to normal level. the observations of Rowlatt,
J., in Newcastle Breweries' case*, distinguish a case
where business is carried on and one in which business
comes to an end. The learned Judge observes:
"Now I have no doubt that a Government requisition,
such as took place during the war, could destroy a
trade, and anything which was paid would be
compensation for such destruction. I can understand,
for instance, if they had requisitioned in this case the
people's building and stopped them either brewing and
selling or doing anything else, and paid a sum, that
could not be taken as a profit; they would have
destroyed the trade pro tempore and paid
compensation for that destruction; and in fact I dare say
if they take the whole of the raw materials of a man's
trade and prevent him carrying it on, and pay a sum of
money, that is to be taken, not as profit on the sale of
raw materials, which he never would have sold, but as
compensation for interfering with the trade altogether."
These observations, though made under a different
statute, are, in general, true of a business as such, and
can be usefully employed under the Indian Income-tax
Act. Our Act divides the sources of income, profits and
gains under various heads in section 6. Business is
dealt with under section 10, and the primary condition
of the application of the section is that tax is payable by
an assessee under the head "profits and gains of a
business" in respect of a business carried on by him.
Where an assessee does not carry on business at all,
the section cannot be made applicable, and the
compensation that he receives cannot bear the
character of profits of a business. It is for this reason
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that the Judicial Committee in Shaw Wallace's case**
observed that the compensation paid in that case was
not the product of business, or, in other words, profit,
but some kind of solatium for not carrying on
*(1927) 12 Tax Cas. 927.**[1932] L.R. 59 I.A. 206.
business and thus, not revenue. It is to be noted that
Das, C.J., in South India Pictures' case*, in
distinguishing Shaw Wallace's case**, made the
following observation:
"In Shaw Wallace's case**, the entire distributing
agency work was completely closed, whereas the
termination of the agreements in question did not have
that drastic effect on the assessee's business at
all.....In Shaw Wallace's case**, therefore, it could
possibly be said that the amount paid there represented
a capital receipt."
The observation is guarded, but in recognises the
difference made in the Privy Council case and others
between payment to compensate interference with a
going business and compensation paid for stoppage of
a business altogether. This distinction was emphasised
in the dissenting opinion in Vazir Sultan's case***.
Though the payment in question was not made to fill
a hole in the capital of the assessee, as in the Glenboig
case#, nor was it made to fill a hole in the profits of a
going business as in the Shamsher Printing Press
case##, it cannot be treated as partaking the character
of profits because business not having been done, no
question of the profits taxable under section 10 arose.
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The Privy Council described such a payment as a
solatium. It is not necessary to give it a name; it is
sufficient to say that it was not profit of a business.
Once it is held that this was not profit at all, it is clear
that rules 23 and 24 of the Indian Income-tax Rules
could not apply, and there was no question of
apportioning the amount, as laid down in rule 24. The
whole of the amount received by the assessee was not
assessable.
It remains to consider whether the payment could be
treated as income from property under section 9 of the
Income-tax Act. That this was never the case of the
Department is clear from the fact that the income was
not processed under that section, and even the Judicial
Member of the Tribunal, who entertained this opinion,
did not express it as his decision in the case. This
aspect of the matter not having been considered in the
case before, we cannot express any opinion upon it.
In our opinion, the answer to the two questions
ought to have been:
Question (1): No.
Question (2): Does not arise.
In the result, the appeal is allowed with costs here
and in the High Court.
Appeal allowed."
In Saurashtra Cement's case supra, the Apex Court held as
under:
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"16. In Kettlewell Bullen and Co. Ltd. [AIR 1965 SC
65] dealing with the question whether compensation
received by an agent for premature determination of the
contract of agency is a capital or a revenue receipt,
echoing the views expressed in Rai Bahadur Jairam
Valji [AIR 1959 SC 291 : (1959) 35 ITR 148] and
analysing numerous judgments on the point, this Court
laid down the following broad principle, which may be
taken into account in reaching a decision on the issue:
(Kettlewell Bullen and Co. Ltd. case [AIR 1965 SC 65] ,
AIR p. 79, para 36)
"36. ... Where on a consideration of the
circumstances, payment is made to compensate a
person for cancellation of a contract which does not
affect the trading structure of his business, nor deprive
him of what in substance is his source of income,
termination of the contract being a normal incident of
the business, and such cancellation leaves him free to
carry on his trade (freed from the contract terminated)
the receipt is revenue: where by the cancellation of an
agency the trading structure of the assessee is
impaired, or such cancellation results in loss of what
may be regarded as the source of the assessee's
income, the payment made to compensate for
cancellation of the agency agreement is normally a
capital receipt."
17. We have considered the matter in the light of the
aforenoted broad principle. It is clear from Clause 6 of
the agreement dated 1-9-1967, extracted above, that
the liquidated damages were to be calculated at 0.5%
of the price of the respective machinery and equipment
to which the items were delivered late, for each month
of delay in delivery completion, without proof of the
actual damages the assessee would have suffered on
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account of the delay. The delay in supply could be of
the whole plant or a part thereof but the determination
of damages was not based upon the calculation made
in respect of loss of profit on account of supply of a
particular part of the plant.
18. It is evident that the damages to the assessee
were directly and intimately linked with the procurement
of a capital asset i.e. the cement plant, which would
obviously lead to delay in coming into existence of the
profit making apparatus, rather than a receipt in the
course of profit earning process. Compensation paid for
the delay in procurement of capital asset amounted to
sterilisation of the capital asset of the assessee as the
supplier had failed to supply the plant within time as
stipulated in the agreement and Clause 6 thereof came
into play. The aforestated amount received by the
assessee towards compensation for sterilisation of the
profit earning source, not in the ordinary course of their
business, in our opinion, was a capital receipt in the
hands of the assessee.
19. We are, therefore, in agreement with the opinion
recorded by the High Court on Questions (i) and (ii)
extracted in Para 2 and hold that the amount of Rs.
8,50,000 received by the assessee from the suppliers
of the plant was in the nature of a capital receipt.""
(iii) The one time voluntary compensation paid to the
petitioner also cannot be treated as a salary under Section 15 of
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the I.T Act or perquisite under Section 17(2)(vi) of the I.T Act; in
this context, it is relevant to state that taxability would arise only
when the option holder exercises its option, at which stage the
market value of the allotted share and the value of the stock option
is charged as perquisite in the hands of the option holder,
especially when there is computational impossibility, when there is
no allotment of shares as held by the Apex Court in Srinivasa
Shetty's case supra as under:
"8. The section operates if there is a transfer of a
capital asset giving rise to a profit or gain. The
expression "capital asset" is defined in Section 2(14) to
mean "property of any kind held by an assessee". It is
of the widest amplitude, and apparently covers all kinds
of property except the property expressly excluded by
clauses (i) to (iv) of the sub-section which, it will be
seen, does not include goodwill. But the definitions in
Section 2 are subject to an overall restrictive clause.
That is expressed in the opening words of the section:
"Unless the context otherwise requires." We must
therefore enquire whether contextually Section 45, in
which the expression "capital asset" is used, excludes
goodwill.
9. Goodwill denotes the benefit arising from
connection and reputation. The original definition by
Lord Eldon in Crutwell v. Lye [1810, 17 Ves 335] that
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goodwill was nothing more than "the probability that the
old customers would resort to the old places" was
expanded by Wood V.C. in Churton v. Douglas [1859
John 174] to encompass every positive advantage "that
has been acquired by the old firm in carrying on its
business, whether connected with the premises in
which the business was previously carried on or with
the name of the old firm, or with any other matter
carrying with it the benefit of the
business".In Trego v. Hunt [1896 AC 7] Lord Herschell
described goodwill as a connection which tended to
become permanent because of habit or otherwise. The
benefit to the business varies with the nature of the
business and also from one business to another. No
business commenced for the first time possesses
goodwill from the start. It is generated as the business
is carried on and may be augmented with the passage
of time. Lawson in his Introduction to the Law of
Property describes it as property of a highly peculiar
kind. In CIT, West Bengal (III) v. Chunilal Prabhudas &
Co. [(1970) 76 ITR 566 (Cal HC)] the Calcutta High
Court reviewed different approaches to the concept:
"It has been horticulturally and botanically viewed as
'a seed sprouting' or an 'acorn growing into the mighty
oak of goodwill'. It has been geographically described
by locality. It has been historically explained as growing
and crystallising traditions in the business. It has been
described in terms of a magnet as the 'attracting force'.
In terms of comparative dynamics, goodwill has been
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described as the 'differential return of profit'.
Philosophically it has been held to be intangible.
Though immaterial, it is materially valued. Physically
and psychologically, it is a 'habit' and sociologically it is
a 'custom'. Biologically, it has been described by Lord
Macnaghten in Trego v. Hunt [1896 AC 7] as the 'sap
and life' of the business. Architecturally, it has been
described as the 'cement' binding together the business
and its assets as a whole and a going and developing
concern."
A variety of elements goes into its making, and its
composition varies in different trades and in different
businesses in the same trade, and while one element
may preponderate in one business, another may
dominate in another business. And yet because of its
intangible nature, it remains insubstantial in form and
nebulous in character. Those features prompted Lord
Macnaghten to remark in CIT v. Muller & Co.'s
Margarine Limited [1901 AC 217] that although goodwill
was easy to describe, it was nonetheless difficult to
define. In a progressing business goodwill tends to
show progressive increase. And in a failing business it
may begin to wane. Its value may fluctuate from one
moment to another depending on changes in the
reputation of the business. It is affected by everything
relating to the business, the personality and business
rectitude of the owners, the nature and character of the
business, its name and reputation, its location, its
impact on the contemporary market, the prevailing
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socio-economic ecology, introduction to old customers
and agreed absence of competition. There can be no
account in value of the factors producing it. It is also
impossible to predicate the moment of its birth. It comes
silently into the world, unheralded and unproclaimed
and its impact may not be visibly felt for an undefined
period. Imperceptible at birth it exists enwrapped in a
concept, growing or fluctuating with the numerous
imponderables pouring into, and affecting the business.
Undoubtedly, it is an asset of the business, but is it an
asset contemplated by Section 45?
10. Section 45 charges the profits or gains arising
from the transfer of a capital asset to income tax. The
asset must be one which falls within the contemplation
of the section. It must bear that quality which brings
Section 45 into play. To determine whether the goodwill
of a new business is such an asset, it is permissible, as
we shall presently show, to refer to certain other
sections of the head, "Capital gains". Section 45 is a
charging section. For the purpose of imposing the
charge. Parliament has enacted detailed provisions in
order to compute the profits or gains under that head.
No existing principle or provision at variance with them
can be applied for determining the chargeable profits
and gains. All transactions encompassed by Section 45
must fall under the governance of its computation
provisions. A transaction to which those provisions
cannot be applied must be regarded as never intended
by Section 45 to be the subject of the charge. This
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inference flows from the general arrangement of the
provisions in the Income Tax Act, where under each
head of income the charging provision is accompanied
by a set of provisions for computing the income subject
to that charge. The character of the computation
provisions in each case bears a relationship to the
nature of the charge. Thus the charging section and the
computation provisions together constitute an
integrated code. When there is a case to which the
computation provisions cannot apply at all, it is evident
that such a case was not intended to fall within the
charging section. Otherwise one would be driven to
conclude that while a certain income seems to fall
within the charging section there is no scheme of
computation for quantifying it. The legislative pattern
discernible in the Act is against such a conclusion. It
must be borne in mind that the legislative intent is
presumed to run uniformly through the entire
conspectus of provisions pertaining to each head of
income. No doubt there is a qualitative difference
between the charging provision and a computation
provision. And ordinarily the operation of the charging
provision cannot be affected by the construction of a
particular computation provision. But the question here
is whether it is possible to apply the computation
provision at all if a certain interpretation is pressed on
the charging provision. That pertains to the fundamental
integrality of the statutory scheme provided for each
head.
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11. The point to consider then is whether if the
expression "asset" in Section 45 is construed as
including the goodwill of a new business, it is possible
to apply the computation sections for quantifying the
profits and gains on its transfer.
12. The mode of computation and deductions set
forth in Section 48 provide the principal basis for
quantifying the income chargeable under the head
"Capital gains". The section provides that the income
chargeable under that head shall be computed by
deducting from the full value of the consideration
received or accruing as a result of the transfer of the
capital asset: "(ii) the cost of acquisition of the capital
asset...."
13. What is contemplated is an asset in the
acquisition of which it is possible to envisage a cost.
The intent goes to the nature and character of the
asset, that it is an asset which possesses the inherent
quality of being available on the expenditure of money
to a person seeking to acquire it. It is immaterial that
although the asset belongs to such a class it may, on
the facts of a certain case, be acquired without the
payment of money. That kind of case is covered by
Section 49 and its cost, for the purpose of Section 48 is
determined in accordance with those provisions. There
are other provisions which indicate that Section 48 is
concerned with an asset capable of acquisition at a
cost. Section 50 is one such provision. So also is sub-
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section (2) of Section 55. None of the provisions
pertaining to the head "Capital gains" suggests that
they include an asset in the acquisition of which no cost
at all can be conceived. Yet there are assets which are
acquired by way of production in which no cost element
can be identified or envisaged. From what has gone
before, it is apparent that the goodwill generated in a
new business has been so regarded. The elements
which create it have already been detailed. In such a
case, when the asset is sold and the consideration is
brought to tax, what is charged is the capital value of
the asset and not any profit or gain.
14. In the case of goodwill generated in a new
business there is the further circumstance that it is not
possible to determine the date when it comes into
existence. The date of acquisition of the asset is a
material factor in applying the computation provisions
pertaining to gains. It is possible to say that the "cost of
acquisition" mentioned in Section 48 implies a date of
acquisition, and that inference is strengthened by the
provisions of Sections 49 and 50 as well as sub-section
(2) of Section 55.
15. It may also be noted that if the goodwill
generated in a new business is regarded as acquired at
a cost and subsequently passes to an assessee in any
of the modes specified in sub-section (1) of Section 49,
it will become necessary to determine the cost of
acquisition to the previous owner. Having regard to the
nature of the asset, it will be impossible to determine
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such cost of acquisition. Nor can sub-section (3) of
Section 55 be invoked, because the date of acquisition
by the previous owner will remain unknown.
16. We are of opinion that the goodwill generated in
a newly commenced business cannot be described as
an "asset" within the terms of Section 45, and therefore
its transfer is not subject to income tax under the head
"Capital gains".
17. The question which has been raised before us,
has been considered by some High Courts, and it
appears that there is a conflict of opinion. The Madras
High Court in CIT v.K. Rathnam Nadar [(1969) 71 ITR
433 (Mad HC)] , the Calcutta High Court
in CIT v. Chunilal Prabhudas & Co. [(1970) 76 ITR 566
(Cal HC)] , the Delhi High Court in Jagdev Singh
Mumick v. CIT [(1971) 81 ITR 500 (Del HC)] , the
Kerala High Court in CIT v.E.C. Jacob [(1973) 89 ITR
88 (Ker HC)] , the Bombay High Court in
the CIT v. Home Industries & Co. [(1977) 107 ITR 609
(Bom HC)] and CIT v. Michel Postal [(1978) 112 ITR
315 (Bom HC)] and the Madhya Pradesh High Court
in CIT v. Jaswant Lal Dayabhai [(1978) 114 ITR 798
(MP HC)] have taken the view that the receipt on the
transfer of goodwill generated in a business is not
subject to income tax as a capital gain. On the other
side lies the view taken by the Gujarat High Court
in CIT v. Mohanbhai Pamabhai [(1973) 91 ITR 393 (Guj
HC)] and the Calcutta High Court in K.N.
Daftary v. CIT [(1977) 106 ITR 998 (Cal HC)] that even
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if no cost is incurred in building up the goodwill of the
business, it is nevertheless a capital asset for the
purpose of capital gains, and the cost of acquisition
being nil the entire amount of sale proceeds relating to
the goodwill must be brought to tax under the head
"Capital gains". It is apparent that the preponderance of
judicial opinion favours the view that the transfer of
goodwill initially generated in a business does not give
rise to a capital gain for the purposes of income tax."
In the instant case, the material on record discloses that
undisputedly the petitioner did not exercise his options under the
subject FSOPs nor was there any allotment or transfer of shares in
his favour and the subject compensation was paid to him only
towards compensation for loss on reduction/diminution in the value
of stock options held by the petitioner; it is significant to note that
FSOPs would become taxable only under two circumstances viz.,
when the petitioner exercises his option and the differential amount
is taxed or when the shares allotted to him are either sold or
transferred, thereby becoming taxable as capital gain; as stated
supra, the petitioner neither exercises his option nor sold or
transferred his shares and FPS made the subject payment in
favour of the petitioner only towards reduction/diminution of the
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value of FSOPs and consequently, the impugned order deserves to
be quashed on this ground also.
(iv) The material on record indicates that the subject one time
compensatory payment made to the petitioner is in the nature of
capital receipt and the same cannot be brought to tax under any
other Head of income including "other sources" and Capital receipt
which is not chargeable under Section 45 of the I.T.Act is not
chargeable under any other head; in D.P.Sandhu's case supra,
the Apex Court held as under:-
"13. Were it not for the inability to compute the cost
of acquisition under Section 48, there is, as we have said,
no doubt that a monthly tenancy or leasehold right is a
capital asset and that the amount received on its surrender
was a capital receipt. But because we have held that
Section 45 cannot be applied, it is not open to the
Department to impose tax on such capital receipt by the
assessee under any other section. This Court, as early as
in 1957 had, in United Commercial Bank Ltd. v. CIT [(1957)
32 ITR 688 : 1958 SCR 79] held that the heads of income
provided for in the sections of the Income Tax Act, 1922
are mutually exclusive and where any item of income falls
specifically under one head, it has to be charged under that
head and no other. In other words, income derived from
different sources falling under a specific head has to be
computed for the purposes of taxation in the manner
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provided by the appropriate section and no other. It has
been further held by this Court in East India Housing and
Land Development Trust Ltd. v. CIT [(1961) 42 ITR 49
(SC)] that if the income from a source falls within a specific
head, the fact that it may indirectly be covered by another
head will not make the income taxable under the latter
head. (See also CIT v. Chugandas and Co. [(1965) 55 ITR
17 : (1964) 8 SCR 332] )"
In Cadell Weaving Mill's case supra, the Bombay High Court
held as under:-
"11. We find merit in the submissions advanced on
behalf of the assessee. Both the parties before us have
proceeded on the basis that the tenancy right is a
capital asset. This is clear from the submissions
advanced on both sides. Even the Tribunal has
proceeded on the basis that if the tenancy right is a
property, then the consideration received for transfer
thereof would not be chargeable as revenue receipt. It
is well-settled that all receipts are not taxable under the
Income-Tax Act. Section 2(24) defines "income". It is no
doubt an inclusive definition. However, a capital receipt
is not income under section 2(24) unless it is
chargeable to tax as capital gains under section 45. It is
for this reason that under section 2(24)(vi) that the
Legislature has expressly stated, inter alia, that income
shall include any capital gains chargeable under section
45. Under section 2(24)(vi), the Legislature has not
included all capital gains as income. It is only capital
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gains chargeable under section 45 which has been
treated as income under section 2(24). If the argument
of the Department is accepted then all capital gains
whether chargeable under section 45 or not, would
come within the definition of the word "income" under
section 2(24). Further, under section 2(24)(vi), the
Legislature has not stopped with the words "any capital
gains". On the contrary, the Legislature has advisedly
stated that only capital gains which are chargeable
under section 45 could be treated as income. In other
words, capital gains not chargeable to tax under section
45 fall outside the definition of the word "income" in
section 2(24). It is true that section 2(24) is an inclusive
definition. However, in this case, we are required to
ascertain the scope of section 2(24)(vi) and for that
purpose we have to read the sub-section strictly. We
cannot widen the scope of sub-section by saying that
the definition as a whole is inclusive and not
exhaustive. In the present case, the words "chargeable
under section 45" are very important. They are not
being read by the Department. These words cannot be
omitted. In fact, the prior history shows that capital
gains were not chargeable before 1946. They were not
chargeable between 1948 and 1956. Therefore,
whenever an amount which is otherwise a capital
receipt is to be charged to tax, section 2(24) specifically
so provides. In the case of CIT v. Gulub Chand, [1991]
192 ITR 495 (All), the assessee received Rs. 15,000 as
surrender value for surrendering the tenancy of a
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godown occupied by the assessee as a tenant. In the
return filed by him, the amount was shown as capital
gains. The assessee claimed that the amount was non-
taxable. The Income-Tax Officer held that the amount
was taxable as a casual and non-recurring receipt
under section 10(3) of the Act. The Tribunal held that
the amount received was a capital gain. On a
reference, it was held by the High Court that section
10(3) applied to capital receipts. That, if the amount
received for surrender of the tenancy right was a capital
gain but was not chargeable under section 45 then the
receipt would fall under section 10(3). With respect, we
do not agree with the said judgment. The Allahabad
High Court has failed to read section 2(24)(vi) in its
entirety. Reading section 2(24)(vi) in its entirety, it is
only capital gains which are chargeable under section
45 which are included in the definition of the word
"income". That, the capital gains not chargeable for any
reason under section 45 cannot be brought to tax as
income by applying the general connotation under
section 2(24). It is for this reason that proviso (i) to
section 10(3) also refers to capital gains chargeable
under section 45. The said proviso uses the same
phraseology as is used by section 2(24)(vi). In other
words, capital gains chargeable under section 45 alone
constitute income. Further, such capital gains are
required to be charged and computed under the
scheme of section 45 to section 55 and it is for this
reason that such capital gains do not fall under section
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10(3). In other words, business income, salary income,
and capital gains chargeable under section 45 stand
outside section 10(3) because salary income, business
income and such capital gains are chargeable and
computable under a different set of sections. Therefore,
when the source of a receipt has a link with business
income or salary income or capital gains chargeable
under section 45 then section 10(3) will not apply.
Hence, we respectfully do not agree with the view taken
by the Allahabad High Court in Gulab Chand's case,
[1991] 192 ITR 495. In the case of B.K. Roy P.
Ltd. v. CIT, [1995] 211 ITR 500 (Cal), the petitioner
received Rs. 21 lakhs from Shaw Wallace and
Company as compensation on surrender of monthly
tenancy. The tenancy was a capital asset and no cost
of acquisition was incurred for its acquisition. In the
assessment proceedings, the Assessing Officer
accepted that the said sum could not be assessed to
tax since there was no cost of acquisition of the monthly
tenancy. The Commissioner, however, took the view
that although the said amount was not assessable as
capital gains it was assessable as casual receipts
under section 10(3) by placing reliance on the judgment
of the Allahabad High Court in Gidab Chand's case,
[1991] 192 ITR 495. Ultimately, the matter came to the
Calcutta High Court which took the view that the
amount received as capital gains cannot be taxed as
casual and non-recurring income. That, the judgment of
the Allahabad High Court in Gulab Chand's case,
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[1991] 192 ITR 495 was contrary to the judgment of the
Supreme Court in the case of A. Gasper v. CIT, [1991]
192 ITR 382. That, if the contention of the Department
was taken to its logical conclusion, it would mean that
everything which is exempted from capital gains by the
statute would become taxable as casual and non-
recurring receipt. That, capital gains have been
specifically dealt with under sections 45 to 55 of the
Act. That, any amount received on transfer of a capital
asset is liable to be taxed in accordance with the
specific provisions of section 45 to section 55 of the Act
and if any amount of capital gain is not taxable as
capital gain for any reason, then that amount cannot be
treated as a casual and non-recurring receipt under
section 10(3) of the Act. That, section 10(3) does not
apply to capital receipts. That, proviso (i) to section
10(3) recognises that capital gains chargeable under
section 45 will not come within its ambit. That, section
10 lays down that certain categories of income will not
be included in the computation of total income of a
person. That, a casual receipt not exceeding. Rs. 5,000
will not be taxed. However, from this it does not follow
that any capital receipt above Rs. 5,000 will have to be
taxed. That, if a person receives Rs. 10,000 by way of
legacy, the amount cannot be brought to tax on the
ground that it is a casual and non-recurring receipt
above Rs. 5,000. That/section 10 is not a charging
section. That, section 10 merely excludes certain types
of income from the ambit of the total income as defined
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under the Act. Hence, the Calcutta High Court
dissented from the view taken by the Allahabad High
Court in Gulab Chand's case, [1991] 192 ITR 495. With
respect, we are in agreement with the judgment of the
Calcutta High Court in the case of B.K. Roy P.
Ltd. v. CIT, [1995] 211 ITR 500. Mr. Desai, learned
counsel for the Revenue, however, emphasised the
judgment of the Supreme Court in the case
of CIT v. B.C. Srinivasa Setty, [1981] 128 ITR 294. He
submitted that like goodwill, statutory tenancy denotes
a benefit. He contended that statutory tenancy cannot
be described as an asset if there is no cost of
acquisition. Therefore, he relied upon the above
judgment. In the case of B.C. Srinivasa Setty's case,
[1981] 128 ITR 294, the Supreme Court has held that
goodwill generated in a newly commenced business
cannot be described as an asset within section 45 of
the Act and the transfer of the goodwill generated in a
business does not give rise to a capital gain for the
purposes of Income-Tax. That, goodwill denotes the
benefit arising from connection and reputation. That,
the charging sections and the computation provisions
together constitute an integrated code and when there
is a case to which the computation provisions do not
apply, it is evident that such a case was not intended to
fall within the charging section. Accordingly, learned
counsel for the Department argued that in the case of
transfer of a capital asset like tenancy where
computation provisions do not apply, the Supreme
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Court has laid down that such a case was not intended
to fall within section 45. Hence, it was contended that if,
for want of cost of acquisition, the case cannot fall
under section 45 then it could still fall under section 56.
According to learned counsel, therefore, the amounts
received on surrender of tenancy rights if not
chargeable to tax as capital, gains under section 45,
they are still liable to be taxed as income from other
sources. According to learned counsel, capital gains of
an asset which do not have the cost of acquisition and
which do not fall under section 45 can fall under section
56 of the Act. That, merely because an asset has no
cost, it cannot be said that there is no capital gains and
that the entire receipt represents capital receipt. It is
further contended that section 14 of the Income-Tax Act
shows that all capital gains constitute income. That,
under section 14 the expression "capital gains" is not
restricted to chargeability under section 45. We do not
find any merit in this contention. The' point which arises
for determination in this case did not arise in the case
of B.C. Srinivasa Setty's case, [1981] 128 ITR 294
(SC). Secondly, as stated above, capital gains
chargeable under section 45 alone are treated as
income by the Legislature. Thirdly, statutory tenancy is
held to be property by the Supreme Court. It is a real
asset. It is not a self-generated asset as in the case of a
goodwill. Lastly, the amendments made to the Income-
Tax Act with effect from April 1, 1995, under which cost
of acquisition is to be calculated as nil clearly shows
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that the Act applies only to capital gains chargeable
under section 45. If such gains fell under section 56 as
is now sought to be contended then one fails to
understand why the Legislature should have opted for a
lesser incidence of tax. If capital gains fell under section
56 as is contended by the Department then such
receipt would be liable to tax at the rate of 35 per cent,
whereas, by the above legislative change, the receipts
are made taxable at 20 per cent, under section 45. In
this connection, the circular issued by the Central Board
of Direct Taxes as reported in [1994] 208 ITR (St.) 32
also indicates that the legislative change was brought
about to overcome the judicial interpretation of section
55(2)(a) dealing with the cost of acquisition. That
circular does not refer to capital gains under section 56
as is sought to be contended. The circular clearly
shows that the Income-Tax Act defines income to
include capital gains chargeable under section 45. That,
the judicial interpretation clearly laid down that only if an
asset did cost something to the assessee in terms of
money that the provisions relating to levy of tax under
section 45 read with section 48 would apply. It is for this
reason that the Finance Bill proposed to amend the
provisions relating to capital gains and provide that the
cost of acquisition of the tenancy rights be taken at nil.
In the case of CIT v. Merchandisers (P.) Ltd., [1990]
182 ITR 107, the Division Bench of the Kerala High
Court has considered the entire case law covering all
judgments cited before us and has come to the
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conclusion that no tax on capital gains could be levied
in respect of transfer of the tenancy right. The Kerala
High Court agreed with the view of the Delhi High Court
in the case of Bawa Shiv Charan Singh v. CIT, [1984]
149 ITR 29 in which it has been held that if the
computation provisions cannot apply to a given case
then such a case could not be intended by the
Legislature to fall within the charging section. That, if
the whole of the value of the capital asset transferred is
brought to tax, then, what would be charged is the
capital value of the asset and not any profit and gain as
contemplated in section 45. We agree with the view
expressed by the Division Bench of the Kerala High
Court in the case of Merchandisers (P.) Ltd, 's case,
[1990] 182 ITR 107. Applying the ratio of the judgment
of the Kerala High Court in the above case, we reject
the contention of the Department that receipt of the
surrender value on relinquishing of tenancy rights for
consideration would constitute capital gains chargeable
under section 56. As stated above, the Department has
argued before us that since the asset surrendered had
no cost of acquisition the capital gains arising on
transfer of such an asset would fall under section 56.
We do not find merit in this argument. A cost to the
assessee in the acquisition of the asses is
contemplated. If the whole of the value of the capital
asset transferred is brought to tax under section 56
then what would be charged is the capital value of the
asset and not any profit and gain as is contemplated
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only in section 45. The term "capital asset" means
property of any kind held by an assessee whether or
not connected with his business or profession [see
section 2(14)]. On the other hand, "capital gains" means
any profit or gain arising from the transfer of a capital
asset. Under section 2(47), the word "transfer" in
relation to a capital asset is defined to include sale,
exchange or relinquishment of the asset or
extinguishment of any rights therein. In the present
matter, the Department has not disputed that tenancy
right is a property. It has not disputed that tenancy right
is a capital asset. It has not disputed that surrender of
the tenancy rights constituted transfer. Section 48
provides that from the full value of consideration
received or accruing as a result of the transfer of capital
asset, the following amounts should be deducted to
arrive at capital gains, viz., cost of acquisition;
expenditure on improvement; expenditure wholly and
exclusively connected with transfer of the capital asset,
such as stamp duty, registration charges, legal fees,
brokerage, etc. Therefore, capital gains basically
constitutes computation. According to the Department,
the entire value of the capital asset transferred is
taxable as the cost of acquisition in the case of tenancy
cannot be ascertained. We do not find any merit in this
argument. If the full value of the consideration received
as a result of the transfer of tenancy is made taxable,
then the tax is not levied on the capital gains, but, in
substance, it is being levied on the capital value of the
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asset. This is not permissible under section 56. The full
consideration minus the cost of acquisition results in
capital gains. However, the Department seeks to tax
the full consideration on the ground that cost of
acquisition is not ascertainable. If this contention is
accepted, then the tax is not levied on capital gains, but
it is being levied on the capital value of the asset which
is not permissible under section 56 of the Act. This is
also the ratio of the judgment of the Kerala High Court
in the case of Merchandisers (P.) Ltd., [1990] 182 ITR
107. Hence, the above argument is rejected.
12. The intent of levying capital gains tax goes to the
nature and character of the asset. It is an asset which
possesses the inherent quality of being available on
expenditure of money to a person seeking to acquire it.
The courts have repeatedly held that none of the
provisions pertaining to the head "Capital gains"
suggests that "capital assets" include an asset in the
acquisition of which no cost at all can be conceived.
This is the clear ratio of the judgment of the Supreme
Court in the case of B.C. Srinivasa Setty, [1981] 128
ITR 294. As long as the judgment of the Supreme Court
in Anand Nivas's'case, AIR 1965 SC 414, held the field,
the statutory tenancy remained a personal right.
However, later on, in view of the judgment of the
Supreme Court in the case of Kalyanji Gangadhar
Bhagat v. Virji Bharmal, (1995) 3 SCC 725, tenancy
rights clearly constitute capital assets. Under section
2(14) of the Income-Tax Act, capital asset has been
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defined to mean property of any kind held by an
assessee. Hence, tenancy right is a property. It falls
under section 2(14) of the Income-Tax Act. As stated
above, both sides have agreed on the footing that
tenancy right is a property right. Both sides have
argued on the footing that it is a capital asset. The only
difference in the arguments of two sides is that,
according to the Department, the Income-Tax Act seeks
to tax capital gains arising from transfer of an asset
which has no cost of acquisition under section 56 of,
the Act (see the written propositions). As stated above,
we do not find any merit in the above arguments. Even
section 14 can only apply provided the receipt accrues
on revenue account, either in the general sense or
under the extended meaning given under the Income-
Tax Act. Even if the Department seeks to bring such
receipts under the residuary head, the onus is on the
Department in the first instance to show as to how such
a receipt would constitute income item. The Department
has failed to discharge this burden. In the case
of CIT v. J.V. Kolte, [1999] 235 ITR 239 (Bom), the
Division Bench of this court laid down that in construing
fiscal statutes and in determining the liability of a
subject to tax, one must have regard to the strict letter
of the law. That, the onus was on the Revenue to
satisfy the court that, the case falls within the provisions
of the law. That, if the case is not covered within the
four corners of the provisions of the taxing statute, no
tax can be imposed by inference or by analogy. That, if
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a section in a taxing statute is of doubtful and
ambiguous meaning, it is not possible to extract out of
that ambiguity a new obligation not formerly cast upon
the taxpayer. The observations of the above judgment
applies to the facts of the present case. In the case
of Withers v. Nethersole, [1948] 1 All ER 400, the
House of Lords held that in cases involving sale of
property with a limited life by a person not engaged in
trade or profession of dealing in such property, the
proceeds of such a sale were in the nature of capital
and, therefore, not taxable. The Department, in that
matter, came to the conclusion that the taxpayer was
assessable to Income-Tax in respect of her share in the
proceeds of the assignment of the exclusive motion
picture rights in the novel and the play. It was not
disputed before the House of Lords that the matter
concerned assignment of the proprietary rights. The
taxpayer under the relevant agreement made partial
assignment of her copy right and she ceased to be the
owner of that portion which was assigned for which she
received a sum of money in exchange. The court held
that this amounts to sale of property by a person, who
was not engaged in the trade of dealing in such
property. Therefore, the amount received by the
taxpayer was a capital receipt. It was untaxable and not
in the nature of taxable revenue. If the argument of the.
Department is accepted, it would mean that all receipts
would become taxable. It is well-settled that all receipts
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are not taxable. Hence, we find merit in the case of the
assessee.
13. It is essential also to bear in mind that income
which falls-under one specified head could not be
brought to tax under any other head. In the present
matter, the Department did apply section 45. They did
apply the head, viz., "Capital gains". However, when it
came to computation, the Department found that cost of
acquisition cannot be computed. Hence, it is now
sought to be argued that such capital gains would
constitute "income from other sources" under section
56. In the case of United Commercial Bank Ltd. v. CIT,
[1957] 32 ITR 688 (SC), it has been held that income
which falls under one specific head could not be
brought to tax under any other head. If for any reason,
the computation machinery fails, it is not open to the
Department to apply the residuary clause."
(v) It is also relevant to state that in the instant case, the cost
of acquisition of stock auctions by the petitioner cannot be
determined and therefore, Section 48 of the I.T.Act cannot be
applied; similarly, Section 45 is not applicable because the
charging section and the computation section constitute an
integrated code as held by the Apex Court in Mathuram Agarwal's
case supra, as under:-
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"12. Another question that arises for consideration in
this connection is whether sub-section (1) of Section
127-A and the proviso to sub-section (2)(b) should be
construed together and the annual letting values of all
the buildings owned by a person to be taken together
for determining the amount to be paid as tax in respect
of each building. In our considered view this position
cannot be accepted. The intention of the legislature in a
taxation statute is to be gathered from the language of
the provisions particularly where the language is plain
and unambiguous. In a taxing Act it is not possible to
assume any intention or governing purpose of the
statute more than what is stated in the plain language.
It is not the economic results sought to be obtained by
making the provision which is relevant in interpreting a
fiscal statute. Equally impermissible is an interpretation
which does not follow from the plain, unambiguous
language of the statute. Words cannot be added to or
substituted so as to give a meaning to the statute which
will serve the spirit and intention of the legislature. The
statute should clearly and unambiguously convey the
three components of the tax law i.e. the subject of the
tax, the person who is liable to pay the tax and the rate
at which the tax is to be paid. If there is any ambiguity
regarding any of these ingredients in a taxation statute
then there is no tax in law. Then it is for the legislature
to do the needful in the matter."
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(vi) The material on record discloses that FSOPs are a right
but not an obligation to buy the underlying instrument and
represent a right to subscribe to the shares of a Company. On
vesting, the option holder acquires an unfettered right to exercise
the option and get the allotment of shares. The FSOPs have not
been exercised yet and there are no shares in existence which
have been allotted or transferred. A voluntary one-time payment of
this nature before the allotment of shares cannot be taxed as
perquisites. The stage from allotment of Stock Options to the sale
of allotted shares is as follows:
a. Issuance of Stock Options
b. Vesting of Stock Options
c. Exercise of Stock Options
d. Issuance of shares
e. Sale of shares
Out of all the stages explained above, ESOPs are taxable at two
instances. Firstly, where an employee exercises his option, then
the difference between the fair market value and the exercise price
is taxable as perquisite under Section 17(2)(vi) of the I.T.Act.
Secondly, when the shares so allotted or transferred are sold by
the employee, it is taxable as 'capital gains' under Section 45 of the
I.T. Act.
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In the present case, only the vesting of FSOPs has taken place to
the petitioner. At this stage, there is no question of any income
being computed on the FSOPs under the provisions of the Act. In
any case, a one-time voluntary payment made by FPS without any
corresponding contractual obligation and where a number of
FSOPs admittedly remains the same does not constitute a revenue
receipt that can be subject to Income Tax.
(vii) As rightly contended by the learned Senior counsel for
the petitioner, the issue in controversy in relation to the subject
FSOPs issued in favour of an employee of FIPL who was
identically / similarly situated to that of the petitioner came up for
consideration before the Division Bench of the Delhi High Court in
Sanjay Baweja's case supra, wherein it was held as under:-
The petitioner, vide the instant petition, seeks to
assail the order dated 15.07.2023 passed under Section
197 of the Income Tax Act, 1961 ["Act"], whereby, the
Revenue rejected the petitioner's application seeking 'Nil'
deduction at source certificate.
2. The brief facts relevant to appreciate the controversy at
hand would reveal that the petitioner is an ex-employee of
the company namely Flipkart Internet Private Limited
["FIPL"] which is a wholly-owned subsidiary of Flipkart
Marketplace Private Limited ["FMPL"]. In addition thereto,
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the FMPL is the wholly-owned subsidiary of Flipkart Pvt.
Ltd., Singapore ["FPS"].
3. In 2012, the FPS rolled out an Employee Stock Option
Plan ["ESOP"] called as Flipkart Stock Option Plan
["FSOP"], wherein, the FPS granted certain stock options
to the eligible persons, including employees of its
subsidiaries. As per the clauses of FSOP, the petitioner
was granted 1,27,552 stock options on and from
01.11.2014 to 31.11.2016 with a vesting schedule of 4
years.
4. On 23.12.2022, FPS announced the disinvestment of
its wholly-owned subsidiary called PhonePe. Thereafter,
the value of the stock options of FPS fell pursuant to the
disinvestment and subsequent remittances to the
shareholders of FPS on account of dividend payments,
buy-back etc.
5. Consequently, on 21.04.2023, the petitioner received a
communication from FPS stating that as a one-time
measure, FPS had decided to grant the option holders a
payment of USD 43.67 per option as compensation
towards loss in the value of the options and it was based
on the number of options held by the petitioner as on
23.12.2022. Furthermore, it was also stated that the FPS
would be withholding tax on the said compensation.
6. Subsequently, on 29.04.2023, the petitioner preferred
an application under Section 197 of the Act seeking a 'Nil'
declaration certificate on the deduction of TDS by FPS. On
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23.05.2023, the petitioner preferred a revised application
under Section 197 of the Act.
7. Thereafter, on 15.07.2023, the Revenue passed the
impugned order rejecting the petitioner's application on the
score that the amount received would be in the nature of
perquisite under Section 17(2)(vi) of the Act.
8. Aggrieved thereby, the petitioner has invoked the writ
jurisdiction of this Court to ventilate his grievance.
9. Mr. Tarun Gulati, learned Senior Counsel, appearing
on behalf of the petitioner submitted that the Revenue has
misconstrued the onetime payment made on behalf of FPS
as perquisite and characterized it as income chargeable to
tax under Section 17(2)(vi) of the Act. He argued that
ESOPs merely constitute a right, not an obligation to buy
the underlying instrument and represent a right to
subscribe to the shares of a company. He contended that
on vesting, the option holder had acquired an unfettered
right to exercise the option and got allotment of shares. He
argued that ESOPs are taxable only in two contingencies-
firstly, when the employee exercises his option and
secondly, when the shares are sold by an employee. He
iterated that in the present case, the stock options were
merely held by the petitioner and the same had not been
exercised till date.
10. Furthermore, he argued that the one-time voluntary
payment made by FPS was not in relation to the
employment of the petitioner with FIPL and thus, cannot
partake the character of salary which was liable to be taxed
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under Section 15 of the Act. It is, therefore, submitted that
since the payment made by FPS cannot be construed as
perquisite, the direction for deduction of TDS cannot be
countenanced in law. In order to substantiate his
submissions, he placed reliance on the decisions of Empire
Jute Co. Ltd. v. CIT [1980] 3 Taxman 69/124 ITR 1/ 4 SCC
25, Shrimant Padmaraje R. Kadambande v. CIT [1992] 3
SCC 432., Godrej & Co. v. CIT 1959 SCC OnLine SC 101
and Empire Jute Co. Ltd.'s case (supra).
11. Per contra, Mr. Prashant Meherchandani, learned
Senior Standing Counsel appearing on behalf of the
Revenue, vehemently opposed the submissions. He
argued that the present writ petition has become
infructuous as the transaction already took place on
31.07.2023. He submitted that proceedings under Section
197 of the Act are not a fact-intensive exercise and rather,
it is an administrative exercise and therefore, the AO was
not obligated to dive into the matter to determine whether
the stock option was exercised with the petitioner or not.
He further argued that all the relevant facts pertaining to
the FSOP were not produced before the authority earlier. In
order to substantiate his arguments, he placed reliance on
the decision of this Court in National Petroleum
Construction Co. v. Dy. CIT 2019 SCC OnLine Del 12353 .
12. We have heard the learned counsels appearing on
behalf of the parties and perused the record.
13. The short controversy that emerges for resolution in
the present case is whether the one-time payment made on
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behalf of FPS formed a part of salary under Section 17 of
the Act or not? The consequential question of taxability of
such payment is contingent upon the aforesaid issue and
shall be answered as a corollary of the same.
14. For the sake of convenience, the relevant extracts of
the order impugned before us are reproduced herein for
reference:-
"After perusal of the facts of the case and the written
submissions of the Assessee, following observations are
made.
1. The assessee has contended that the amount
receivable by him for FPS does not constitute income u/s 2
(24) of the Income Tax Act, 1961. In this regard, it is
observed that section 2 (24) of the Act provides an
inclusive definition of "Income" and it is not an exhaustive
definition. Thus even if a nature of receipt is not specifically
mentioned under this section, it may still be includible in the
taxable income of the assessee, depending upon the facts
of the case.
1. General rule is that every amount received by an
assessee is taxable unless it is specifically exempt under
any provisions of the Act. The assessee has contended
that this receipt is not taxable but he has failed to quote any
express provisions of the Income Tax Act under which this
receipt would be exempt from tax.
1. The assessee has himself stated that M/s FPS intends
to withhold full tax on the said payment, which is why he
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has applied for issuance of a Nil TDS certificate. If the
amount receivable by the assessee is not an "income" and
not taxable under the Income Tax Act, then why the payer
intends to withhold tax on the same. It implies that the
payer is satisfied that the payment being made by it is
subject to withholding tax. Thus the assessee should have
contended before the payer company that this payment
would not be subject to withholding tax but interestingly, the
assessee has not challenged the deduction of tax at source
by the payer but instead he has chosen to request for
issuance of a Nil TDS certificate.
1. The assessee has not been able to satisfactorily prove
that the amount receivable by him would be exempt under
any express provisions of the Act.
1. The assessee has stated that he would be reporting
this income as exempt in his ITR. Since the quantum of
income sought to claimed as exempt is quite substantial,
there is a high probability that this ITR would selected for
scrutiny assessment and if the claim of the assessee is not
accepted by the assessing officer, it may result in creation
of tax demand. Hence issuance of a Nil TDS certificate at
this stage would be detrimental to the interest of revenue
and recovery of taxes.
1. Section 17 (2) (vi) of the Act states that Perquisite
includes
"...the value of any specified security or sweat equity
shares allotted or transferred, directly or indirectly, by the
employer or former employer , free of cost or at
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concessional rate to the assessee.." The phrase "directly or
indirectly" used in the above clause implies that the amount
receivable by the assesse in the instant case would be
covered under the purview of "Perquisite", which is
included in the salary as per section 17 (1) (iv) of the Act.
Compensation payable for the diminution of the intrinsic
value of ESOPs held by an employee including an ex-
employee would be in the nature of income, and the same
is not specifically exempt under the Act.
The compensation is linked to the vested ESOPs in the
instant case. ESOPs result in a taxable perquisite on the
allotment of shares equivalent to the fair market value less
the exercise price of the shares so allotted under section
17(2)(vi) and is taxable under the head 'Salaries' in hands
of the employee or ex-employee, as the case may be.
Consequently, the compensation receivable on the said
ESOPs, even though from a former employer, directly or
indirectly, on account of diminution of fair value of the
underlying shares, should also have the same
characterization and tax treatment and hence, in my view,
is taxable under the head 'Salaries'. It also does not matter
whether the said amount is being paid by the former
employer directly to the assessee or through any of its
group companies indirectly and the amounts would remain
taxable as salary. Further, this amount would have been
taxable as salary if the assessee would have been in
current employment with the payer or its group companies
and hence, the amounts would remain taxable as salary
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even if the assessee is no longer employed with the payer
or its group companies. Having come to the conclusion that
the compensation should be chargeable to tax under the
head 'Salaries', provisions of section 192 of the Act would
apply and accordingly, the employer is under an obligation
to deduct tax while making the payment of the
compensation to the Assessee. The taxability under the
other heads of income is not relevant since the same is
taxable under the head 'Salaries'.
In view of the above discussion, it is proposed that, if
approved, the application of the Assessee for issuance of a
Nil TDS certificate may be rejected."
15. A bare perusal of the impugned order would reveal
that the Revenue characterized the one-time payment
made by FPS to the petitioner under the head of a
perquisite, as defined in Section 17(2)(vi) of the Act, on the
ground that the payment received was linked to ESOPs as
a form of compensation for diminution of the fair market
value of stocks.
16. At the outset, it is relevant to point out that this Court
vide order dated 23.08.2023 directed the petitioner to file
an affidavit apprising about the number of options held by
him as on the record date. Pursuant to the said order, the
petitioner filed an affidavit stating that out of the total
number of shares i.e., 1,27,552 allotted to him, he holds
33,482 stock options as on the record date of 23.12.2022.
The detailed calculation as appended in the tabular chart is
reproduced herein for reference:-
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S Particulars No. of stock options/compensation
No.
i. Options granted 1,27,552
ii. Vested options (25% of the total [25% of (i)] =31,888
options granted) after 1 year
i.e.01.11.2015
iii. Remaining 75% stock options to [(i)-(ii)] =95,664 95,664/36=(2657/
be vested in next 36 months month)
iv. Vested Options upto 31.10.2016 (2657x12 months) =31,884
v. Total vested options upto [(i)+(v)] =63,772
31.10.2016
vi. Cancelled options on account of [(i)-(v)] =63,780
termination of employment on
31.10.2016
vii. Options repurchased by Walmart [25% of (v)] =15943
in the year 2017 (25% of the total
vested stock options)
viii. Remaining vested stock options [(v)-(vi)] =47,829
after repurchase by walmart
ix. Options repurchased by Walmart [30% of (viii)] =14,347
in the year 2018 (30% of the total
remaining vested stock options)
x. Balance as on record date [(viii)-(ix)] =33482
xi. Compensation [(x) x Compensation per stock options x
USD conversion rate] 33,482 x 43.67 x
82 =Rs. 11,98,97,033/-
17. As the facts of the matter suggest, undisputedly, the
petitioner has not exercised his vested right with respect to
stock option under FSOP till date, which signifies that the
right of holding the stocks under his name had not been
exercised. Therefore, the moot question is only limited to
the extent whether the one-time voluntary payment made
on behalf of FPS to the petitioner can be pegged as
perquisite under Section 17(2)(vi) of the Act.
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18. It is germane to point out that the perquisites, as
defined in Section 17(2) of the Act, constitute a list of
benefits or advantages, which are made taxable and are
incidental to employment and received in excess of salary.
Furthermore, as per Section 17(2)(vi) of the Act, perquisite
refers to value of any specified security or sweat equity
shares allotted or transferred, directly or indirectly, by the
employer, or former employer, free of cost or at
concessional rate to the petitioner. The explanation
appended to Section 17(2)(vi) of the Act also clarifies that
the value of any specified security shall be the difference
in the amount of fair market value of the specified security
on the date on which the option was exercised and the
actual amount paid by the petitioner. For the sake of
convenience, Section 17(2)(vi) of the Act and the
explanation thereto is reproduced herein for reference:-
17. "Salary", "perquisite" and "profits in lieu of salary"
defined.--For the purposes of Sections 15 and 16 and of
this section.--
***
(2) "Perquisite" includes--
***
[(vi) the value of any specified security or sweat equity
shares allotted or transferred, directly or indirectly, by the
employer, or former employer, free of cost or at
concessional rate to the assessee.
Explanation.-- For the purposes of this sub-clause,--
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(a) "specified security" means the securities as defined in
clause (h) of Section 2 of the Securities Contracts
(Regulation) Act, 1956 (42 of 1956) and, where
employees' stock option has been granted under any plan
or scheme therefor, includes the securities offered under
such plan or scheme;
(b) "sweat equity shares" means equity shares issued by a
company to its employees or directors at a discount or for
consideration other than cash for providing know-how or
making available rights in the nature of intellectual
property rights or value additions, by whatever name
called;
(c) the value of any specified security or sweat equity
shares shall be the fair market value of the specified
security or sweat equity shares, as the case may be, on
the date on which the option is exercised by the assessee
as reduced by the amount actually paid by, or recovered
from the assessee in respect of such security or shares;
(d) "fair market value" means the value determined in
accordance with the method as may be prescribed;
(e) "option" means a right but not an obligation granted to
an employee to apply for the specified security or sweat
equity shares at a predetermined price"
19. At this juncture, it is imperative to point out that the
determination as to whether a particular receipt would
tantamount to a capital receipt or revenue receipt is
dependent upon the factual scenario of a particular case.
This position was also fructified in the decision
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of CIT v. Saurashtra Cement Ltd. [2010] 192 Taxman
300/325 ITR 422/ 11 SCC 84. The relevant paragraphs of
the said decision are reproduced herein for reference:-
"14. The question whether a particular receipt is capital or
revenue has frequently engaged the attention of the courts
but it has not been possible to lay down any single
criterion as decisive in the determination of the question.
Time and again, it has been reiterated that answer to the
question must ultimately depend on the facts of a
particular case, and the authorities bearing on the question
are valuable only as indicating the matters that have to be
taken into account in reaching a conclusion.
15. In Rai Bahadur Jairam Valji [AIR 1959 SC 291 :
(1959) 35 ITR 148] it was observed thus: (AIR pp. 292-93,
para 2)
"2. The question whether a receipt is capital or income has
frequently come up for determination before the courts.
Various rules have been enunciated as furnishing a key to
the solution of the question, but as often observed by the
highest authorities, it is not possible to lay down any single
test as infallible or any single criterion as decisive in the
determination of the question, which must ultimately
depend on the facts of the particular case, and the
authorities bearing on the question are valuable only as
indicating the matters that have to be taken into account in
reaching a decision. [Vide Van Den Berghs Ltd. (Inspector
of Taxes) v. Clark [1935 AC 431 : (1935) 3 ITR (Eng Cas)
17 (HL)] .] That, however, is not to say that the question is
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one of fact, for, as observed in Davies (Inspector of Taxes)
v. Shell Co. of China Ltd. [(1951) 32 TC 133 : (1952) 22
ITR Supp 1 (CA)] :
'these questions between capital and income, trading profit
or no trading profit, are questions which, though they may
depend no doubt to a very great extent on the particular
facts of each case, do involve a conclusion of law to be
drawn from those facts.' "
16. In Kettlewell Bullen and Co. Ltd. [AIR 1965 SC 65]
dealing with the question whether compensation received
by an agent for premature determination of the contract of
agency is a capital or a revenue receipt, echoing the views
expressed in Rai Bahadur Jairam Valji [AIR 1959 SC 291 :
(1959) 35 ITR 148] and analysing numerous judgments on
the point, this Court laid down the following broad
principle, which may be taken into account in reaching a
decision on the issue: (Kettlewell Bullen and Co. Ltd. case
[AIR 1965 SC 65] , AIR p. 79, para 36)
"36. ... Where on a consideration of the circumstances,
payment is made to compensate a person for cancellation
of a contract which does not affect the trading structure of
his business, nor deprive him of what in substance is his
source of income, termination of the contract being a
normal incident of the business, and such cancellation
leaves him free to carry on his trade (freed from the
contract terminated) the receipt is revenue: where by the
cancellation of an agency the trading structure of the
assessee is impaired, or such cancellation results in loss
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of what may be regarded as the source of the assessee's
income, the payment made to compensate for cancellation
of the agency agreement is normally a capital receipt."
20. As per the understanding of the Revenue, the said
one-time voluntary payment at the discretion of the
management of FPS shall be pegged under the head of
perquisite as per Section 17(2)(vi) of the Act. It is thus
pertinent to point out the observations made by the
Supreme Court in the case of Shrimant Padmaraje R.
Kadambande (supra), wherein one-time voluntary cash
allowance was given to the assessee and the Court held
that such monetary receipts, rather it was a capital receipt
and thus, not liable to tax. The relevant paragraphs of the
said decision are reproduced as under:-
"15. A case similar to the one on hand is H.H. Maharani
Shri Vijaykuverba Saheb of Morvi [[1963] 49 ITR 594
(Bombay) ] wherein the High Court held that a voluntary
payment without consideration cannot fall in the category
of income. The position here is exactly the same. There is
no compulsion on the part of the Government to give any
allowance. It is purely discretionary. It cannot be got over
by saying that after the order is passed the assessee gets
a right. That has nothing to do in determining the question.
16. In S.R.Y. Sivaram Prasad Bahadur [(1971) 3 SCC 726,
732 : (1971) 82 ITR 527, 535] in no uncertain terms it was
laid down that it is the quality of the payment that is
decisive of the character of the payment and not the
method of payment or its measure which will make it fall
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within the category of capital or revenue. Undoubtedly, the
High Court had not kept these important aspects before
rendering the decision whether it is a revenue receipt or
not. The judgment of the High Court requires to be
interfered with.
***
27. Therefore, in this case, the maintenance allowance
was qualified by the statute and it was a nomenclature
peculiarly suited to payments of the nature of income. The
learned counsel for the Revenue would state if the
payments in this case do not constitute windfall and the
right to payment of these cash allowances in the case on
hand, could be enforced in a civil court, as laid down in
this ruling, there is no other way than to hold this to be an
income. But, as we have pointed out just now,
maintenance allowance is qualified by statute unlike the
present case which is purely a discretionary payment. It is
no use contending as also observed by the High Court that
after the order is passed an enforceable right arises. On
the contrary the question would be whether the statute
gives an enforceable right. We think, in such of those
cases falling under clause (d) of the proviso to Section
15(1) of the Act, no statutory right is created. This is unlike
those cases falling under clauses (i), (ii) and (iii) of sub-
section (1) of Section 15. These constitute different
clauses as has already been pointed out by us. The fact
that the assessee has applied for a grant for maintenance,
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nor again, the periodicity of payment, would be conclusive
as we will demonstrate later.
***
35. There is no compulsion on the part of the Government
to make the payment nor is the Government obliged to
make the payment since it is purely discretionary. A case
similar to the one on hand is H.H. Maharani Shri
Vijaykuverba Saheb of Morvi [[1963] 49 ITR 594
(Bombay) ] head-note of which is extracted:
"A voluntary payment which is made entirely without
consideration and is not traceable to any source which a
practical man may regard as a real source of his income
but depends entirely on the whim of the donor cannot fall
in the category of income.
The ruler of a native State abdicated in favour of his son in
January, 1948. From April, 1949, onwards his son paid
him a monthly allowance. The allowance was not paid
under any custom or usage. The allowance could not be
regarded as maintenance allowance, as the assessee
possessed a large fortune.
Held, that as the payments were commenced long after
the ruler had abdicated, they were not made under a legal
or contractual obligation. As the allowances were not also
made under a custom or usage or as a maintenance
allowance, they were not assessable."
36. The position is exactly the same. The payment made
by the Government is undoubtedly voluntary. However, it
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has no origin in what might be called the real source of
income. No doubt Section 15(1) proviso clause (d) enables
the applicant to seek payment but that is far from saying
that it is a source. Therefore, it cannot afford any
foundation for such a source. Further, it is a
compassionate payment, for such length of period as the
Government may, in its discretion, order.
***
39. As a result of the above discussion, we hold that the
amounts received by the assessee during the financial
years in question have to be regarded as capital receipts
and, therefore, are not income within the meaning of
Section 2(24) of the Income Tax Act. Accordingly, we set
aside the judgment of the High Court and allow the
appeals with no order as to costs."
21. It is also significant to place reliance on the decision of
the Supreme Court in the case of Godrej & Co. (supra),
wherein, one-time payment was given to an assessee
company in lieu of a change in contractual terms between
the assessee company and the management company. In
the light of such facts, such monetary receipts were also
clubbed under the head of capital receipt and not under
the revenue receipts and thus, not liable to tax. The
relevant paragraph no. 8 of the said decision is
reproduced herein for reference:-
"8. This sum of Rs 7,50,000 has undoubtedly not been
paid as compensation for the termination or cancellation of
an ordinary business contract which is a part of the stock-
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in-trade of the assessee and cannot, therefore, be
regarded as income, as the amounts received by the
assessee in CIT and Excess Profits Tax v. South India
Pictures Ltd [(1956) SCR 223, 228] and in CIT v. Rai
Bahadur Jairam Valji [(1959) 35 ITR 148 : (1959) SCR
Supp 110] had been held to be. Nor can this amount be
said to have been paid as compensation for the
cancellation or cessation of the managing agency of the
assessee firm, for the managing agency continued and,
therefore, the decision of the Judicial Committee of the
Privy Council in CIT v. Shaw Wallace and Co. [(1932) LR
59 IA 206] cannot be invoked. It is, however, urged that for
the purpose of rendering the sum paid as compensation to
be regarded as a capital receipt, it is not necessary that
the entire managing agency should be acquired. If the
amount was paid as the price for the sterilisation of even a
part of a capital asset which is the framework or entire
structure of the assessee's profit making apparatus, then
the amount must also be regarded as a capital receipt, for,
as said by Lord Wrenbury in Glenboig Union Fireclay Co.
Ltd. v. IRC [(1922) 12 TC 427] "what is true of the whole
must be equally true of part"-- a principle which has been
adopted by this Court in CIT v. Vazir Sultan and Sons
[Civil Appeal No. 346 of 1957, decided on March 20,
1959;(1959) 36 ITR 175] . The learned Attorney-General,
however, contends that this case is not governed by the
decisions in Shaw Wallace's case [(1932) LR 59 IA 206] or
Vazir Sultan and Son case [Civil Appeal No. 346 of 1957,
decided on March 20, 1959;(1959) 36 ITR 175] because in
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the present case there was no acquisition of the entire
managing agency business or sterilisation of any part of
the capital asset and the business structure or the profit
making apparatus, namely, the managing agency, remains
unaffected. There is no destruction or sterilisation of any
part of the business structure. The amount in question was
paid in consideration of the assessee firm agreeing to
continue to serve as the managing agent on a reduced
remuneration and, therefore, it bears the same character
as that of remuneration and, therefore, a revenue receipt.
We do not accept this contention. If this argument were
correct, then, on a parity of reasoning, our decision in
Vazir Sultan and Sons case [Civil Appeal No. 346 of 1957,
decided on March 20, 1959;(1959) 36 ITR 175] would
have been different, for, there also the agency continued
as before except that the territories were reduced to their
original extent. In that case also the agent agreed to
continue to serve with the extent of his field of activity
limited to the State of Hyderabad only. To regard such an
agreement as a mere variation in the terms of
remuneration is only to take a superficial view of the
matter and to ignore the effect of such variation on what
has been called the profit-making apparatus. A managing
agency yielding a remuneration calculated at the rate of 20
per cent of the profits is not the same thing as a managing
agency yielding a remuneration calculated at 10 per cent
of the profits. There is a distinct deterioration in the
character and quality of the managing agency viewed as a
profit-making apparatus and this deterioration is of an
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enduring kind. The reduced remuneration having been
separately provided, the sum of Rs 7,50,000 must be
regarded as having been paid as compensation for this
injury to or deterioration of the managing agency just as
the amounts paid in Glenboig case [(1922) 12 TC 427] or
Vazir Sultan case [Civil Appeal No. 346 of 1957, decided
on March 20, 1959;(1959) 36 ITR 175] were held to be.
This is also very nearly covered by the majority decision of
the English House of Lords in Hunter v. Dewhurst [(1932)
16 TC 605] . It is true that in the later English cases of
Prendergast v. Cameron [(1940) 23 TC 122] and Wales
Tilley [(1943) 25 TC 136] the decision in Hunter v.
Dewharst [(1932) 16 TC 605] was distinguished as being
of an exceptional and special nature but those later
decisions turned on the words used in Rule 1 of Schedule
E. to the English Act. Further, they were cases of
continuation of personal service on reduced remuneration
simpliciter and not of acquisition, wholly or in part, of any
managing agency viewed as a profit-making apparatus
and consequently the effect of the agreements in question
under which the payment was made upon the profit
making apparatus, did not come under consideration at all.
On a construction of the agreements it was held that the
payments made were simply remuneration paid in
advance representing the difference between the higher
rate of remuneration and the reduced remuneration and as
such a revenue receipt. The question of the character of
the payment made for compensation for the acquisition,
wholly or in part, of any managing agency or injury to or
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deterioration of the managing agency as a profit-making
apparatus is covered by our decisions hereinbefore
referred to. In the light of those decisions the sum of Rs
7,50,000 was paid and received not to make up the
difference between the higher remuneration and the
reduced remuneration but was in reality paid and received
as compensation for releasing the company from the
onerous terms as to remuneration as it was in terms
expressed to be. In other words, so far as the managed
company was concerned, it was paid for securing
immunity from the liability to pay higher remuneration to
the assessee firm for the rest of the term of the managing
agency and, therefore, a capital expenditure and so far as
the assessee firm was concerned, it was received as
compensation for the deterioration or injury to the
managing agency by reason of the release of its rights to
get higher remuneration and, therefore, a capital receipt
within the decisions of this Court in the earlier cases
referred to above."
22. It is also apposite to deal with the contention of the
Revenue that the facts pertaining to the exercise of the
options held by the petitioner were not apprised to the AO
in the proceedings referrable to Section 197 of the Act. On
the said aspect, it was contended that in such a scenario,
only the facts which were before the AO should be kept in
mind while deciding the present controversy. However, a
bare perusal of the application dated 29.04.2023 made by
the petitioner under Section 197 of the Act, which has
been appended in the petition as Annexure-P4, would
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reveal that the petitioner had duly placed the pertinent
details alluding to FSOP.
23. Furthermore, the record available before us would
reflect that the AO had never enquired or asked for
clarification from the petitioner regarding any other
significant details pertaining to FSOP. In addition thereto,
the reliance placed by the Revenue in the case of National
Petroleum Construction Co. (supra) is also misplaced as in
that case, the issue pertained to the determination of
permanent establishment in Section 197 proceedings.
However, in the present case, the relevant facts pertaining
to the ESOP and details alluding to one-time voluntary
payment made by FPS to the petitioner were placed on
the desk of the concerned AO, while making an application
under Section 197 of the Act.
24. Interestingly, the reasoning appended in the impugned
order also hinges upon the fact that since FPS intended to
deduct tax before making the payment, therefore, the
amount was liable to be taxed. It is pertinent to note that
the manner or nature of payment, as comprehensible by
the deductor, would not determine the taxability of such
transaction. It is the quality of payment that determines its
character and not the mode of payment. Unless the
charging Section of the Act elucidates any monetary
receipt as chargeable to tax, the Revenue cannot proceed
to charge such receipt as revenue receipt and that too on
the basis of the manner or nature of payment, as
comprehensible by the deductor. Such a position was also
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settled in the decision of the Supreme Court in the case
of Empire Jute Co. Ltd. (supra), wherein, it was held as
under:-
"4. Now an expenditure incurred by an assessee can
qualify for deduction under Section 10(2)(xv) only if it is
incurred wholly and exclusively for the purpose of his
business, but even if it fulfils this requirement, it is not
enough; it must further be of revenue as distinguished
from capital nature. Here in the present case it was not
contended on behalf of the Revenue that the sum of Rs
2,03,255 was not laid out wholly and exclusively for the
purpose of the assessee's business but the only argument
was and this argument found favour with the High Court,
that it represented capital expenditure and was hence not
deductible under Section 10(2)(xv). The sole question
which therefore arises for determination in the appeal is
whether the sum of Rs 2,03,255 paid by the assessee
represented capital expenditure or revenue expenditure.
We shall have to examine this question on principle but
before we do so, we must refer to the decision of this
Court in Maheshwari Devi Jute Mills case [AIR 1965 SC
1974 : (1965) 3 SCR 765 : (1965) 57 ITR 36] since that is
the decision which weighed heavily with the High Court, in
fact, compelled it to negative the claim of the assessee
and hold the expenditure to be on capital account. That
was a converse case where the question was whether an
amount received by the assessee for sale of loom hours
was in the nature of capital receipt or revenue receipt. The
view taken by this Court was that it was in the nature of
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capital receipt and hence not taxable. It was contended on
behalf of the Revenue, relying on this decision, that just as
the amount realised for sale of loom hours was held to be
capital receipt, so also the amount paid for purchase of
loom hours must be held to be of capital nature. But this
argument suffers from a double fallacy.
5. In the first place it is not a universally true proposition
that what may be capital receipt in the hands of the payee
must necessarily be capital expenditure in relation to the
payer. The fact that a certain payment constitutes income
or capital receipt in the hands of the recipient is not
material in determining whether the payment is revenue or
capital disbursement qua the payer. It was felicitously
pointed out by Macnaghten, J., in Racecourse Betting
Control Board v. Wild [22 TC 182 : (1938) 4 All ER 487]
that a "payment may be a revenue payment from the point
of view of the payer and a capital payment from the point
of view of the receiver and vice versa". Therefore, the
decision in Maheshwari Devi Jute Mills case [AIR 1965 SC
1974 : (1965) 3 SCR 765 : (1965) 57 ITR 36] cannot be
regarded as an authority for the proposition that payment
made by an assessee for purchase of loom hours would
be capital expenditure. Whether it is capital expenditure or
revenue expenditure would have to be determined having
regard to the nature of the transaction and other relevant
factors."
[Emphasis supplied]
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25. Pertinently, as per Section 17(2)(vi) of the Act, the
perquisites include value of any specified security allotted
or transferred, directly or indirectly, by the employer, or
former employer, free of cost or at concessional rate to the
petitioner. The most crucial ingredient of this inclusive
definition is - determinable value of any specified security
received by the employee by way of transfer/allotment,
directly or indirectly, by the employer. As per Explanation
(c) to Section 17(2)(vi) of the Act, the value of specified
security could only be calculated once the option is
exercised. A literal understanding of the provision would
provide that the value of specified securities or sweat
equity shares is dependent upon the exercise of option by
the petitioner. Therefore, for an income to be included in
the inclusive definition of "perquisite", it is essential that it
is generated from the exercise of options, by the
employee. The facts of the present case suggest that the
petitioner has not exercised his options under the FSOP till
date. Under the facts of the present case, the stock
options were merely held by the petitioner and the same
have not been exercised till date and thus, they do not
constitute income chargeable to tax in the hands of the
petitioner as none of the contingencies specified in Section
17(2)(vi) of the Act have occurred.
26. Moreover, the compensation was a voluntary payment
and not transfer by way of any obligation. Notably, the
present is not a case where the option holder has
exercised his right. Rather, the facts suggest that the
petitioner has not exercised his options under the FSOP till
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date. It appears that due to the disinvestment of the
PhonePe business from FPS, the Board of Directors of
FPS had decided to provide a one-time voluntary payment
to all the option holders pursuant to FSOP. It is imperative
to point out that the management proceeded by noting that
there was no legal or contractual right under FSOP to
provide compensation for loss in current value or any
potential losses on account of future accretion to the
ESOP holders. It was further noted that FPS, on its own
discretion, has estimated and decided to pay USD 43.67
as compensation for each stock option as held on the
record date. The relevant extract of the said
communication dated 21.04.2023 is reproduced herein for
reference:-
"Dear All, As you are aware, the Board of Directors (BoD)
of Flipkart Private Limited, publicly announced the
complete separation of PhonePe business, by selling off
its entire shareholding, in Dec 2022. With this
announcement, the value of ESOPs granted to all
stakeholders (including present and former employees in
our subsidiaries in India, Israel, US, Singapore, Saudi
Arabia, Egypt, UAE, China etc.) will drop, along with loss
of opportunity to share in future accretion in the value of
Phonepe shares. While there is no legal or contractual
right under FSOP 2012, to provide compensation for loss
in current value or any potential losses on account of
future accretion to our ESOP holders, the BoD on its own
discretion, has decided to pay US$43.67 as compensation
for each ESOP subject to applicable withholding taxes and
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other tax rules in respective countries of various ESOP
holders".
27. Therefore, it is elementary to highlight that the
payment in question was not linked to the employment or
business of the petitioner, rather it was a one-time
voluntary payment to all the option holders of FSOP,
pursuant to the disinvestment of PhonePe business from
FPS. In the present case, even though the right to
exercise an option was available to the petitioner, the
amount received by him did not arise out of any transfer of
stock options by the employer. Rather, it was a onetime
voluntary payment not arising out of any statutory or
contractual obligation.
28. Thus, the reasoning appended to the impugned order,
holding that the amount in question tantamount to
perquisite under Section 17 (2)(vi) of the Act, cannot be
countenanced in law, as the stock options were not
exercised by the petitioner and the amount in question
was onetime voluntary payment made by FPS to all option
holders in lieu of disinvestment of PhonePe business.
29. Accordingly, we set aside the impugned order dated
15.07.2023. We, however, note that since the transaction
already took place on 31.07.2023, we, accordingly, accord
liberty to the petitioner to file an application for refund of
TDS amount before the Revenue. It is further directed to
the Revenue to consider the application of the petitioner in
view of the observations made hereinabove and as per
extant regulations.
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30. In view of the aforesaid, the writ petition is allowed in
the above terms and disposed of, along with pending
applications, if any."
As can be seen from the aforesaid judgment, the Delhi High Court
while dealing in the exact facts and circumstance where the
onetime payment made by FPS on account of diminution of value
of stock option, pursuant to the divestment of PhonePe was held to
be perquisites under Section 17(2)(vi) of the I.T.Act by the
Revenue, the Court while quashing the impugned order passed
under Section 197 of the Act held that:
a. Section 17(2)(vi) I.T.Act does not apply before the exercise of
options and before the issuance of shares.
b. A onetime voluntary payment is a capital receipt and not a
revenue receipt.
c. Merely because the deductor has sought to deduct TDS
would not determine the taxability of a transaction.
d. The payment was not linked to the employment of the
petitioner.
e. There was no transfer of any stock options by the petitioner.
f. The petitioner was entitled to apply for a refund of TDS as the
amount received was not taxable in his hands.
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The above judgment was rendered in the case of another
Employee of Flipkart in the identical set of facts and the very same
transaction, which is the subject matter of the present writ petition
and the reasoning of the judgment squarely applies to the facts of
the instant case of the petitioner.
(viii) The respondents have placed reliance upon the
subsequent judgment of the learned Single Judge of the Madras
High Court in Nishithkumar's case supra, in order to contend that
the judgment of the Delhi High Court has been held to be incorrect
and the application filed by the petitioner - assessee therein was
dismissed by the Madras High Court; with due respect, I do not
subscribe to the views of the learned Single Judge of the Madras
High Court and I am in complete agreement with the judgment of
the Division Bench of the Delhi High Court in Sanjay Baweja's
case supra, for more than one reason;
(a) The judgment of the Delhi High Court was not challenged
by the respondents - revenue and the same has attained finality
and become conclusive and binding upon the revenue.
(b) The petitioner - assessee has challenged the judgment of
the Madras High Court in Nishithkumar's case supra, by
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preferring an appeal in W.A.No.198/2025 and the same is pending
consideration, thereby indicating that the judgment of the learned
Single Judge has still not attained finality.
(c) The order impugned before the learned Single Judge
categorically held that the compensation could not be charged to
perquisites under the Head 'salary' ; before the learned Single
Judge of the Madras High Court, an order dated 12.07.2023 under
Section 197 of the Act was impugned. The said order had come to
a conclusive finding that "the compensation to be received is not
chargeable under the head salaries", this finding was not in
challenge by either the assessee or the Income Tax Department. A
reading of the aforesaid Judgment also demonstrates that no
argument either by the assessee or the department was made
whether the compensation could be taxed as perquisites under the
head 'salaries' or not. Despite, no issues having been raised by
either side, the learned Single Judge erroneously come to a finding
that compensation could be held as perquisites and charged to tax
under the salary.
(d) It is relevant to state that the aforesaid order of the
learned Single Judge has not been accepted by the assessee and
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an appeal has been filed against the aforesaid order, which is
pending consideration.
(e) The order impugned before the learned Single Judge was
that the compensation could be taxed under the head Capital Gain
because the assessee had transferred the right to sue which was a
capital asset: the only issue involved before the learned Single
Judge was whether the order impugned was correct in holding that
there was a right to sue which was created in favor of the assessee
and that such right to sue was a capital asset which was
transferred by the assessee and the compensation received could
be regarded as consideration for such a transfer and could be
taxed under the head 'Capital Gain'. The learned Single Judge
categorically came to the finding at that the impugned order was
incorrect and the finding that the compensation was liable to be
taxed under the Head 'Capital Gain' was incorrect and having said
so, the learned Single Judge ought to have allowed the writ petition
and set aside the order impugned before it.
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(f) The finding that ESOPS are not capital asset is erroneous:
It is seen that the learned Single Judge erroneously held that
ESOPs are not capital asset and that the term 'Capital Asset' are
defined under Section 2(14) of the Act as "property of any kind held
by an assessee, whether or not connected with his business or
profession". The definition is extremely wide and covers property of
all kind which includes rights in assets.
(g) The learned Single Judge misconstrued the Explanation-I
to Section 2(14) of the Act which merely explains that rights in or in
relation to an Indian Company, such as rights of management or
control and only share of an Indian company could be considered
as Capital Assets. The learned Single Judge failed to appreciate
that the said Explanation could not lead to a conclusion that rights
in shares of a foreign company could not be regarded as "property
of any kind" and therefore, be treated as capital asset. The findings
are also contrary to the judgment of the Apex Court in Hari
Brothers Private Limited vs. ITO - [1964] 54 ITR 399 and
Chitranjan A. Dasann Acharya vs. CIT-05 - [2020] 429 ITR 570,
which clearly held that any right which is relatable to share or
subscription of shares is a capital asset.
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(h) The incorrect finding that ESOPs are not in the nature of
profit making structure or capable of revenue generation: the
learned Single Judge erroneously held that ESOPs are not a
source of revenue and not capable of generating revenue. In this
regard, it is necessary to state that the options held by the
petitioner are capital assets which are admittedly an income
earning source and it is a settled principle of law that the
compensation/windfall awarded in lieu of diminishing of profit
making structure would be a 'capital receipt'.
(i) The judgments of the Apex Court on the issue of capital
receipts relied upon by the Delhi High Court were incorrectly
distinguished: The Delhi High Court had relied on several
judgments of the Apex Court to hold that a onetime voluntary
compensation for the diminution in value of profit making structure
would amount to a capital receipt not chargeable to income tax.
These judgments fully apply to the facts of the case where the
divestment of PhonePe business by FPS would lead to a
permanent loss and value of the ESOPs as the ability to generate
profits from such business and would no longer enrich the value of
ESOPs or the resultant shares. The learned Single Judge
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erroneously held that such ESOPs would be actionable claim not
capable of generating revenue and ignored the fact that there was
a permanent loss of revenue generating source.
(j) The compensation has been erroneously held to be
'perquisites' by the learned Single Judge who erroneously
concluded that the ESOP granted to the petitioner qualifies as
ESOP under Companies Act, 2013 and consequently, fall within
the scope of Explanation(a) to Section 17(2)(vi) of the I.T. Act. In
this regard, it is seen that taxability of ESOPs is well settled,
inasmuch as, when an employee exercises his vested option, then
the difference between the fair market value and the exercise price
is taxable as perquisite under Section 17(2)(vi) of the I.T. Act.
Secondly, when the shares so allotted or transferred are sold by
the employee, it is taxable as 'capital gains' under Section 45 of the
I.T.Act. Further, in the instant case, the petitioner has not exercised
its options till date and therefore, Section 17(2)(vi) of the I.T. Act
cannot be invoked at all. In any case, in absence of a calculation
mechanism receipts cannot be taxed as held by the Apex Court in
CIT v. B.C.Srinivas Setty - 128 ITR 294 (SC), wherein, it was held
that if the cost of acquisition cannot be ascertained, in that case,
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capital gains cannot be attracted. The learned Single Judge
ignored the well settled principle that in the absence of
computational mechanism, no tax can be charged.
(k) The learned Single Judge rendered an erroneous finding
by holding that ESOPs would come within the purview of the term
"Specified Security. In this context, it is necessary to state that
specified securities is defined in Explanation (a) to Section 17(2)(vi)
of the I.T.Act, which clearly does not include ESOPs and only
refers to stocks and other securities which are included as
securities under Securities and Contract Regulation Act.
(l) The finding of the learned Single Judge that ESOPs can be
regarded as specified security and the consequent finding that
Section 17(2)(vi) of the I.T.Act is wide enough to include a
discretionary compensation paid to ESOP holders and can be
taxed as perquisites is incorrect. Firstly, the above finding is
contradictory to the findings that ESOPs are not "property of any
kind". Secondly, this finding loses sight of the fact that the
computational mechanism provided for under Section 17(2)(vi) of
the I.T.Act contemplates the following:
The existence of shares or other securities;
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The ascertainment of fair market value of such shares on the
date of allotment;
The deduction of the cost of such shares in the hands of the
assessee to compute the perquisites.
None of the above ingredients were available when the
compensation was received by the assessee and therefore, the tax
was incapable of being computed.
(m) Compensation was not received by the employer or
former employer thus, was not restricted to employees alone: The
learned Single Judge lost sight of the fact that neither the
compensation was received by its employer or former employer
and nor the stock options scheme was restricted to employees.
The stock options had been also allotted to employees of group
companies, advisors, consultant etc. A compensation to such
diverse group could not be characterised as perquisites or salaries
and taxed by implication under the head 'salaries'.
(n) It is therefore clear that while the judgment of the Division
Bench of the Delhi High Court in Sanjay Baweja's case supra, is
directly and squarely applicable to the facts of the instant case, the
judgment of the learned Single Judge of the Madras High Court in
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Nishithkumar's case supra, cannot be relied upon by the
respondents - revenue in support of their claim, which cannot be
accepted.
(ix) Insofar as the contention of the respondents-revenue
that the present petition is not maintainable in the light of the
availability of alternative remedy under Section 264 of the I.T.Act is
concerned, it is necessary to state that the impugned order having
been passed with the approval of the Commissioner and in the
absence of any remedy by way of an appeal, the petitioner is
entitled to invoke the jurisdiction of this Court under Article 226 of
the Constitution of India, particularly when the right to file a revision
petition under Section 264 cannot be construed or treated as
availability of an equally efficacious and alternative remedy so as to
come in the way of this Court exercising its jurisdiction under Article
226 of the Constitution of India and consequently, even this
contention urged by the respondents cannot be accepted. In
Manpowergroup's case supra, the Delhi High Court held as
under:-
"18. This Court is of the view that the present writ
petition is maintainable as there is no efficacious alternate
remedy available to the petitioner to challenge the
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impugned order. In fact, the Commissioner of Income Tax
can entertain a revision petition under section 264 only
when the order, which is the subject matter of revision is
passed by an authority subordinate to him. Further, the
Notification No. 08/2018 dated 31st December, 2018
issued by the CBDT mandates that the decision under
section 197 with effect from 31st December, 2018 has to
be taken by the Commissioner i.e. after a conscious
application of mind. It has also been unequivocally
admitted by respondent in para 7 of the impugned order
that approval of higher authorities was taken on the online
TRACES portal.
19. Consequently, this Court finds merit in the submission
of the petitioner that since the impugned order was
passed after an approval from the CIT, it cannot be
challenged by way of a revision petition before the CIT
under section 264 of the Act. To hold otherwise, would
amount to directing the petitioner to file an 'appeal from
Caesar to Caesar."
In Tata Teleservices's case supra, the Bombay High Court held
as under:-
"4. The relevant facts leading to the filing of this
Petition are that the Petitioner is engaged in providing
telecommunication services. In the course of its business,
Petitioner earns its revenue from sale of post and prepaid
cards, sale/ lease of equipments and providing various
value added services. Petitioner has huge accumulated
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losses. Its return of income for the Assessment Years
2014-15 to 2016-17, are loss returns aggregating to Rs.
1330.00 Crores and in which an aggregate claim to a
refund of Rs. 121.00 Crores has been made.
5. In the course of its business, Petitioner receives various
payments for services rendered which are subject to tax
deduction at source under Chapter XVII of the Act.
However, according to the Petitioner it would not be liable
to pay corporate tax in the immediate future in view of the
likely loss for the assessment year 2018-19 and the huge
carried forward losses.
6. Therefore, on 27 February 2017, Petitioners applied to
the Respondent No. 1 seeking an issuance of nil/lower
withholding taxes under Section 197 of the Act. This was
to enable the Petitioner to receive its payments from
various parties which are subject to tax deduction at
source, without deduction at source. In support of the
above, the application pointed out that their accumulated
losses carried forward as on 1 April 2014 is over Rs.
4000.00 Crores - both as per MAT provisions and under
the normal provisions. Further, the Petitioner had filed
loss returns for Assessment Years 2015-16 and 2016-17.
It was also submitted that the estimated loss for
Assessment Year 2017-18 is approx. Rs. 1000.00 Crores.
Thus, there will be no assessable profit under the Act for
the assessment year in 2018-19 in view of huge carry
forward losses. Besides, the application points out that
there was an amount of Rs. 101.53 Crores up to 10
February 2017 receivable as refund from the Revenue. It
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was also pointed out that the financial health of the
Petitioner is such that it has taken long term debts, at
huge interest payments. Therefore, the amounts which
are blocked on account of tax deduction at source
aggravates its financial hardship including cash crunch.
Lastly, it was pointed out that the amount of Rs. 6.68
Crores which is the outstanding tax demand for the
assessment year 2012-13 was on account of an issue
which already stands concluded in its favour by an order
of the Tribunal dated 27 May 2016, on identical issues for
assessment years 2009-10 to 2012-13 (upto July 2011).
This demand of Rs. 6.68 Crores is thus, likely to be set
aside by the CIT(A) as he would be bound by the order of
the Tribunal. It was pointed out so far as the demand for
the balance amount of Rs. 28.00 Lakhs is concerned it is
on account of wrong/unsustainable demand arising from
an incorrect processing of TDS statement on application
of TRACES System.
7. Thereafter, Respondent No. 1 called for various details
from the Petitioner. On the same being submitted, they
were examined by Respondent No. 1. Thereafter, on 4
May 2017, Respondent No. 1 issued a certificate under
Section 197 of the Act, directing the deduction of tax at nil
rate by the various persons listed in the certificate while
making payments to the Petitioner under Sections 194,
194A, 194C, 194I, 194H and 194J of the Act. This would
result in a relief of Rs. 238.90 Crores as the same would
not be deducted as tax at source. Thus, obviating the
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need for filing of refund claim with the Revenue for the
assessment year 2018-19.
8. Thereafter, on 16 August 2017, Respondent No. 1
informed the Petitioner that he is reviewing cases where
certificate under Section 197 of the Act has been issued in
cases where huge outstanding tax demand is pending.
Consequently, the above communication requested the
Petitioner to furnish the details of outstanding tax
demands. The Petitioner responded to the same by its
letter dated 20 August 2017, giving the details of the tax
outstanding. It reiterated its submissions made in the
application made on 27 February 2017. Besides pointing
out that a further refund of Rs. 34.37 Crores was due to
them from the Revenue for tax deducted at source in the
subject assessment year, for the period prior to the issue
of certificate.
9. Thereafter, on 30 August 2017, Respondent No. 1
issued a Show Cause Notice to the Petitioner, calling
upon it to show cause as to why the certificate dated 4
May 2017 should not be reviewed/ canceled. This was on
account of outstanding demand of taxes payable.
Besides, relying upon the extract of Central Action Plan
2017-18 issued by CBDT which directs the Officers to
follow the instructions/certificate issued by the CBDT and
also mentions of Certificates being issued where large
demands are pending. The Petitioner responded by letter
dated 7 September 2017 to the notice dated 30 August
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2017 while reiterating its reply dated 20 August 2017 and
called for withdrawal of the notice.
10. Thereafter, on 7 September 2017, a personal hearing
was granted and on 23 October 2017, the impugned order
was issued. By the impugned order, the certificate dated 4
May 2017 issued under Section 197 of the Act, was
canceled. The impugned order holds that while issuing the
certificate dated 4 May 2017 the existing demand of Rs.
6.90 Crores was as recorded in the impugned order
"Apparently, the demand was not considered on the basis
that this demand was under a covered issue". This i.e
"covered issue" in terms of Rule 28AA(2) of the Income
Tax Rules 1961 (Rules), cannot be a subject of
consideration while granting the certificate. Further, it
holds that in view of the current financial status, the future
liability, if any, which may arise on assessment or
otherwise against the company, would be impossible to
recover.
11. Before considering the rival submissions urged on
behalf of the respective parties, it would be useful to
reproduce Section 197 of the Act and Rule 28AA of the
Rules, which arises for our consideration:--
"Section 197 of the Act :--
(1) Subject to rules made under sub-section (2A), where,
in the case of any income of any person or sum payable
to any person, income-tax is required to be deducted at
the time of credit or, as the case may be, at the time of
payment at the rates in force under the provisions of
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sections 192, 193, 194, 194A, 194C, 194D, 194G, 194H,
194-I, 194J, 194K, 194LA and 195, the Assessing Officer
is satisfied] that the total income of the recipient justifies
the deduction of income-tax at any lower rates or no
deduction of income-tax, as the case may be, the
Assessing Officer shall, on an application made by the
assessee in this behalf, give to him such certificate as
may be appropriate.
(2) Where any such certificate is given, the person
responsible for paying the income shall, until such
certificate is cancelled by the Assessing Officer, deduct
income-tax at the rates specified in such certificate or
deduct no tax, as the case may be.
(2A) The Board may, having regard to the convenience of
assessees and the interests of revenue, by notification in
the Official Gazette, make rules specifying the cases in
which, and the circumstances under which, an application
may be made for the grant of a certificate under sub-
section (1) and the conditions subject to which such
certificate may be granted and providing for all other
matters connected therewith.
Rule 28AA- Certificate for deduction at lower rates or
no deduction of tax from income other than
dividends.--
(1) Where the Assessing Officer, on an application made
by a person under sub-rule (1) of rule 28 is satisfied that
existing and estimated tax liability of a person justifies the
deduction of tax at lower rate or no deduction of tax, as
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the case may be, the Assessing Officer shall issue a
certificate in accordance with the provisions of sub-section
(1) of section 197 for deduction of tax at such lower rate
or no deduction of tax.
(2) The existing and estimated liability referred to in sub-
rule (1) shall be determined by the Assessing Officer after
taking into consideration the following:-
(i) tax payable on estimated income of the previous
year relevant to the assessment year;
(ii) tax payable on the assessed or returned income,
as the case may be, of the last three previous
years;
(iii) existing liability under the Income-tax Act, 1961
and Wealth-tax Act, 1957;
(iv) advance tax payment for the assessment year
relevant to the previous year till the date of making
application under sub-rule (1) of rule 28;
(v) tax deducted at source for the assessment year
relevant to the previous year till the date of making
application under sub-rule (1) of rule 28;
and
(vi) tax collected at source for the assessment year
relevant to the previous year till the date of making
application under sub-rule (1) of rule 28.
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(3) The certificate shall be valid for such period of the
previous year as may be specified in the certificate,
unless it is cancelled by the Assessing Officer at any time
before the expiry of the specified period.
(4) The certificate for no deduction of tax shall be valid
only with regard to the person responsible for deducting
the tax and named therein.
(5) The certificate referred to in sub-rule (4) shall be
issued direct to the person responsible for deducting the
tax under advice to the person who made an application
for issue of such certificate."
12. Mr. Tarun Gulati, learned Counsel, in support of the
Petition, submits as under:--
(a) The impugned order dated 23 October 2017
cancelling the certificate dated 4 May 2017, is
without jurisdiction as Rule 28AA(3) of the Rules
could not be invoked in the present facts;
(b) The impugned order is arbitrary as it cancels a valid
certificate under Section 197 of the Act, ignoring the
fact that the existing liability of the Petitioner would
continue to be nil on consideration of the factors as
provided under Rule 28AA(2) of the Rules;
(c) The impugned order completely ignores the test of
proportionality. At the highest, according to the
Revenue, the unpaid tax demand is Rs. 6.90 Crores.
While undisputedly, Petitioner is entitled to refund of
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Rs. 7.30 Crores (being the deposit made),
consequent to the order dated 27 May 2016 passed
by the Tribunal in respect of Assessment Years
2009-10 to 2012-13. The aforesaid amount continues
to be retained by the Revenue and it could be easily
adjusted against the demand of Rs. 6.90 Crores. In
any event, the relatively meagre amount of Rs. 6.90
Crores of tax demand as against a refund of over Rs.
121.00 Crores would not justify denial of the benefit
of about Rs. 238.00 Crores as available under
Section 197 of the Act. ;
(d) Lastly, it is submitted that the amount of Rs. 6.68
Crores is on account of an order for Assessment
Year 2012-13 which is pending before the CIT(A).
This issue to the knowledge of all concerned is
concluded in favour of the Petitioner and kept
pending deliberately. This, even after the hearing
was completed, so far back as in February 2017.
13. On the other hand, Mr. Suresh Kumar, learned
Counsel for the Revenue supports the impugned order
dated 23 October 2017 and submits as under:-
(a) An equally efficacious alternative remedy under
Section 264 of the Act as an by way of a Revision to be
Commissioner of Income Tax (CIT), against the impugned
order dated 23 October 2017, cancelling the certificate dated
4 May 2017 is available to the Petitioner. Therefore, this
Court should not entertain the Petition to exercise its
extraordinary jurisdiction;
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(b) Cancellation of the certificate dated 4 May 2017
became necessary in view of the fact that the financial
condition of the Petitioner-company has further deteriorated.
Thus, putting in jeopardy the recovery of any liability, which
may arise against the Petitioner-company on account of
future assessment or otherwise. Therefore, necessitating the
cancellation of the nil withholding tax certificate dated 4 May
2017;
(c) The existing demand of Rs. 6.90 Crores which
continued to be pending. This cannot be ignored merely
because, according to the Petitioner, the demand is
unsustainable and would be set aside in appeal due to the
issue being considered in its favour;
(d) No prejudice would be caused to the Petitioner in
case the nil withholding certificate dated 4 May 2017 is
withdrawn. This, for the reason that the amounts so received
by the Revenue on account of withholding tax would be
refunded if no tax demand is payable in future by the
Petitioner.
14. Before dealing with the rival submissions on merits, we
shall first deal with the preliminary objection of the
Respondent to entertain this Petition. The objection is that an
effective efficacious alternative remedy to challenge the
impugned order under Section 264 of the Act, is available.
Therefore, this Petition should not be entertained. It is
submitted that a Revision under Section 264 of the Act would
lie to the Commissioner of Income Tax (CIT). This is so for
the reason that under Section 264 of the Act, Revision lies
from any order passed by any authority - subordinate to CIT
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other than an order which is appealable and from which an
appeal has been filed or an order to which Section 263 of the
Act is applicable. In fact, this Court in Larsen & Toubro
Ltd. v. Asstt. CIT[2010] 326 ITR 514/190 Taxman 373
(Bom.) has held that an order passed under Section 197 of
the Act, is amenable to Revision under Section 264 of the
Act.
15. However, as correctly pointed out by the Petitioner in
this case, the impugned order dated 23 October 2017 as
recorded therein, has been issued/ decided with the
concurrence of the CIT (TDS). This was not so in the case
of Larsen & Toubro Ltd. (supra). It is also not disputed
before us that in this case, the Revision would be before
the same authority who gave the concurrence or to an
authority of equal rank/designation.
16. In the above view, the decision of this Court in Larsen
& Toubro Ltd., (supra) would not apply to the present
facts. As in this case, the Revision i.e. alternative remedy
would in facts be from "Caesar to Caesar." Therefore, in
such a case an alternative remedy would be a futile/empty
formality and not an efficacious remedy. (Please see Ram
& Shyam Co. v. State of Haryana [1985] 3 SCC 267).
8. In view of the aforesaid facts and circumstances, I am of
the considered opinion that the 1st respondent clearly fell in error in
rejecting the application filed by the petitioner seeking issuance of
'Nil Tax Deduction Certificate' in relation to the subject
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compensation amount of Rs.71,01,004/- by passing the impugned
order which is illegal, arbitrary and contrary to facts and law as well
as the aforesaid principles and statutory provisions and
consequently, the impugned order deserves to be set aside and the
application filed by the petitioner deserves to be allowed by
directing the respondents to issue 'Nil Tax Deduction Certificate' in
favour of the petitioner within a stipulated timeframe.
9. In the result, I pass the following:-
ORDER
(i) Petition is hereby allowed.
(ii) The impugned order at Annexure-A dated 02.08.2023
passed by the 1st respondent is hereby quashed.
(iii) The respondents are directed to issue ‘Nil Tax Deduction
Certificate’ in favour of the petitioner as sought for by him together
with all consequential benefits flowing therefrom as expeditiously
as possible and at any rate, within a period of six weeks from the
date of receipt of a copy of this order.
Sd/-
(S.R.KRISHNA KUMAR)
JUDGE
Srl.