CHAGLA, C.J. - (1.)THE assessee in this reference is the Porbander State Bank and it is assessed to income -tax under the provisions of the Government Trading Taxation Act, 1926. In the year of account, which is 31st November 1940, to 31st October 1941, the grogs income of the Bank was Rs. 92,064 and it received in British India interest on securities amounting to Rs. 42,456 and dividends on shares amounting to Rs. 15,331, and the Bank claimed a deduction against its income under Section 10(2)(iii) and the deduction claimed was that it had received deposits from depositors in Porbander and it had paid interest to those depositors, and the contention of the Bank was that under Section 10(2)(iii), the amount of interest paid by the Bank on capital borrowed for the purpose of the business of the Bank should be deducted. The department relied on the proviso to Section 10(2)(iii). Under the proviso the deduction of interest is not permissible if that interest is paid outside British India and is chargeable under the provisions of the Act. This deduction would be permitted even if the interest was paid outside British India and was chargeable to tax if the assesses deducted interest at source under Section 18(3A).
(2.)THEREFORE , the question that we have to consider is whether the interest that was paid by the assessee to its depositors in Porbander was an interest which was liable to tax under the Income -tax Act. What was relied upon by the Tribunal which came to the conclusion that the Bank was not entitled to this deduction was Section 42 of the Act. Section 42 deals with notional income and one type of notional income which is referred to in that section is the income which arises from any money lent at interest and brought into British India in cash or in kind, and the argument put forward on behalf of the Commissioner is that the assessee having borrowed money in Porbander brought it into British India and earned income and profit on that money, and it is pointed out that the Bank invested these moneys which it had borrowed in British India and bad earned interest on that money. The Federal Court in a recent judgment reported in Wadia v. Commissioner of Income -tax, Bombay, 51 Bom LR 287 : (AIR 1949 FC 18) has laid down that if the borrower without the knowledge of the lender brings money into British India and that money earns income, then the lender is not liable to pay any tax on the interest which he receives on the borrowed money. This is put on the principle that there must be some nexus between the taxing State and the assessee who is a foreigner, and the nexus which the Federal Court has suggested is that a knowledge must be attributed to the lender that the borrower has borrowed money for the purpose of taking it to British India and earning income on that money. That is the view taken by the learned Chief Justice of the Federal Court. The other two Judges, Mukherjea and Mahajan, JJ. have gone further than that Mahajan, J. has taken the view that there must be an arrangement between the lender and the borrower to bring the loan into British India, and Mukherjea, J. has further emphasised that point by expressing his opinion that it must be the basic arrangement underlying the transaction that the money should be brought into British India after it is taken by the borrower outside his territory. But all the three learned Judges agreed that the knowledge of the lender and the borrower that the money is to be taken into British India must be an integral part of the transaction. Therefore, in order to deprive the assessee of the deduction under Section 10(a)(iii) it must be found that the persons who deposited moneys with the assessee and earned interest on the deposits knew as a part of the integral transaction of the deposit that the Porbander Bank would take this mousy to British India and utilise that money for the purpose of earning income on it.
Now, on the facts of this case, it would be absurd to suggest that the several depositors who deposited their moneys with the Bank were at all concerned with what the Bank did with that money. They were only concerned with earning interest on their deposits. It was entirely irrelevant, as far as they were concerned, how the Bank carried on its business with their deposits. Therefore, it is clear that in this case it has not been established that there was any knowledge on the part of the lender that his deposit would be transferred to India for the purposes of earning income on it. If that be so, then the interest earned by the depositors was not chargeable under the Indian Income -tax Act and there was no obligation upon the Bank to deduct interest under Section 18(3A).

(3.)THE result, therefore, is that the Bank is entitled to the deduction under Section 10(2)(iii) in respect of interest paid by it to its depositors. We, therefore, answer the question in the affirmative to the extent of Rs. 32,469. Commissioner to pay the costs. Answer accordingly.