SHAH, - (1.) THE following Judgment of the court was delivered by
(2.) IT the instance of the Commissioner of Income-tax (Central), Calcutta, the Income-tax Appellate tribunal referred the following questions for the opinion of the High court of Calcutta under S. 19 of the Business Profits Tax Act, 21 of 1947: "(1) Whether on the facts found the tribunal was right in holding that the sum of $ 117,000,000.00 appearing In the Balance Sheet of the assessee Company under the head "Capital paid in Surplus" and constituting the excess of the book value of the assets over the face value of the shares represented premium realised from the Issue of the shares as contemplated by R. 3 of Sch. II of the Business Profits Tax Act, 1947?" (2) Whether on facts and in the circumstances of the case the tribunal was right in holding that the fact that the amount in question had been built up out of capital and not out of taxed profits would not prevent IT from being reserve as contemplated by sub-r. (1) of R. 2 of the Schedule II of the Business Profits Tax Act ? (3)Whether on the facts and in the circumstances of the case, the tribunal was right in holding that the sum of s 29,000,000.00 odd. 143,000,000.00 odd. $ 86,000,000.00 odd. and 178,000,000.00 odd. for the reapective years appearing in the Balance Sheets of the assessee as "Earned Surplus" would be treated as a reserve within the meanins of sub-r. (1) of R. 2 of the Sch. II of the Business Profits Tax Act ?" The High court recorded answers in the affirmative on all the questions. The Commissioner of Income-tax has appealed to this court with special leave. The assessee Company is a nonresident. It was incorporated in the State of Delawer in the United States of Alaerica with the object of taking over the asses of two Companies-Socony Vacuum Oil Company and Standard Oil Company, (New Jersey). The capital of the assessee company was $ 10,000,000.00 divided into 100,000.00 shares of the value of $100 each. On the date of acquisition the book values of the assets of two Companies as recorded in their books of account were: Socony Vacuum Oil Company $ 97,715,701 Standard Oil Company (New $ 46,767,397 Jersey). In consideration of transfer of these assets, the assessee Company allotted to each Company 49,995 shares and to Socony Vacuum Oil Company serial bonds of the value of $ 13,093,000. The remaining ten shares were divided equally between the two transferor Companies for cash at par value. The assessee Company entered in its books of account the book value of the assets taken over from the transferor Companies. The excess of the net value of the assets so transferred over the par value of the stock issued and the serial bonds was entered in the books in an account styled "Capital paid in Surplus". The serial bonds issued to the Socony Vacuum Oil Company were later redeemed. By adjustment entries the "Capital paid in Surplus" account was reduced to $ 117,561,317 and throughout the period of three years to which these appeals relate, in the balance sheets of the assessee Company, the "Capital paid in Surplus" stood unchanged at that figure. The net profits earned by the Company year after year, subject to certain appropriations were shown in the balance sheet under the caption "Earned Surplus" or "Earnings reinvested". At the end of 1945, the balance of "Earned Surplus" was $ 29,557,597 and by the end of 1948 the account stood at 173,766,892. The Income-tax Officer disallowed the claim of the assessee Company for inclusion of the account "Capital paid in Surplus" and "Earned Surplus" in the computation of taxable capital under Sch. 11, R. 2 (1) of the Business Profits Tax Act, and the Appellate Assistant Commissioner agreed with him. But the Income-tax Appellate tribunal held that the difference between the value of the assets taken over and the value of stock and serial bonds issued by the assessee Company was premium realized from the issue of its shares and retained in the business within the meaning of R. 3 of Sch. II and was in any event reserve not allowed in computing profits within the meaning of R. 2 (1). The tribunal also bold that the amount entered in the account Earned Surplus" was reserve liable to be taken into account in assessing business pro- 1396 fits tax. In a reference under S. 19 of the Business Profits Tax Act, the High court agreed with the view of the tribunal on the three questions referred for its opinion. The provisions of the Business Profits Tax Act, 1947, which have a bearing on the questions raised in the reference to the High court may first be summarised. By S, 4 of the Act in respect of any business to which the Act applies, business profits tax is charged, levied and paid on the taxable profits during any accounting period at the rates specified in the Act. The expression 'Taxable profits" is defined in S. 2 (17) as the amount by which the profits during a chargeable accounting period exceed the abatement in respect of that period. "Abatement" is defined in S. 2 (1) (in so far as it is material) as meaning, in respect of any chargeable accounting period ending on or before the 31st day of March 1947 a sum which bears to a sum equal to (a) in the case of a company, not being a Company deemed for the purposes of S. 9 to be a firm, six per cent of the capital of the Company on the first day of the said period computed in accordance with Sch 11, or one lakh of rupees, whichever is greater, and in respect of any chargeable accounting period beginning after the 31st day of March 1947, such sum as may be fixed by the annual Finance Act, Sch. II prescribes rules for the computation "of the capital of a Company for purposes of business profits tax". The material clauses are 2 (1) and 3: "2. (1) Where the Company is one to which R. 3 of Sch. I applies, its capital shall be the sum of the amounts of its paid up share capital and of its reserves in so far as they have not been allowed in computing the profits of the Company for the purposes of the Indian Income-tax Act, 1922 (XI of 1922), diminished by the cost to it of its investments or other property the income from which is not includable in the profits, so far as that cost exceeds any debt for monev borrowed by it. (2) * * * * Explanation.-A reserve of paid-up share capital brought into existence by creating or increasing (by re-valuation or otherwise) any book asset is not capital for the purposes of ascertaining the abatement under this Act in respect of any chargeable accounting period. 3. So much of the premium realised by a Company from the issue of any of its ahares as is retained in the business shall be regarded as forming part of its paid-up capital for the purposes of R. 2." The first two questions referred by the tribunal relate to the true nature of the amount entered in the books of account of the assessee Company under the caption "Capital paid In Surplus". It is a common practice in the United States of America in transactions in which business assets are transferred to a new Company, to issue shares of total par value less than the true value of the assets transferred. Singer, who was Treasurer of Standard Vacuum Oil Company and officiated as Treasurer and later as Vice-President of the assessee Company has stated in Para. 5 of his affidavit that: "The reason for limiting the stated or par value of the capital stock of Standard Vacuum Oil Company to $ 10,000,000.00 rather than including the entire capital of $ 131,391,098.71 in the par value of issued stock was simply to reduce insurance taxes and fees payable on the basis of the par value of stock issued, in view of the fact that the stock was held by only two corporate shareholders and there was no need for a larger number of shares to be issued and outstanding." In "Cases and Materials on Corporations" by Dodd and Baker, 2nd Edn" at p. 1118 under the Head "Sources of Capital Surplus" the authors have stated: "Credits to an account that is still generally called Paid-up Surplus arise in a number of circumstances which include: (a) where shares having a par value including the very low par value that has recently come into use, are issued and sold for cash or non-cash consideration in an amount in excess of par * * * The occasion for the issue may be an initial or subsequent acquisition of property. Such a property acquisition may be the purchase of all or substantially all assets of another corporation as a going concern, or a merger by which such another corporation is absorbed by the surviving corporation, or a consolidation by which two or more corporations are absorbed by a new corporation created in the consolidation proceedings. Upon such a purchase of assets or on a merger or consolidation, the defensible value or the asseta of the vendor or of the absorbed corporation or corporations may not be "capitalized" in its entirety, so that a paid in surplus emerges from the transaction."
(3.) IN Fletcher's Cyclopaedia Corporatiens Vol. 19, Para, 9237, the author has set out the prevailing method of carrying into the balance sheet the amount of consideration received in excess of par value under the head "Surplus": "* * * as dividends can be declared only out of surplus earnings, and there must 1397 be an exact method of determining whether surplus earnings for that purpose actually exist, it is the view of sound attorneys and sound accountants that the only proper method of handling, in the accounts, the Item of no par value stock is to set up on the books, as a charge against capital, the amount of the consideration received for each issue of such stock and that any other increases or any decreases in net assets should be carried on the balance sheet under the headings of Surplus and Deficit, tust as if the capital charge had been made in connection with the issuance of stocks laving a par value. They will, therefore, keep the capital stock entry a constant figure, representing the amount of consideration received for the same, and, if the corporation earns money, they will set up, on the liabilities side of the balance sheet an Item which they call "Surplus" or "Undivided Profits." * * * If additional no par value stock is issued, although, under the theory of no par value stock, it need not be issued at the same price as the original Issue but at such price as the directors determine to be for the best interests of the corporation, the number of shares issued will be added to the number of shares outstanding and the consideration received for the same will be added to the figures opposite the entry "Capital Stock," and thereafter the entry of capital stock will continue to be a constant item, the adjustments for earnings or losses being made in the accounts of "Surplus" or "Deficit". * * * * It is also stated: "IN some of the States the legislature has introduced a complication by writing INto the statutes which provide for the issuance of no par value shares a provision "that, in setting up the no par value stock on the books, a portion of the consideration received therefor may be charged to "Stated Capital" and a portion to "Paid-in Surplus". * * * * Under the statutes of Michigan, the item of "Paid-IN-Surplus" must be carried on the balance sheet as a separate item from "Earned Surplus" or "Undivided Profits", and such is the policy of many accountants in the absence of any statutory provision." Therefore where stock is issued in consideration of transfer of assets, the par value of stock is not necessarily equal to the value of assets transferred. Where the value of assets transferred exceeds the par value, the difference may appropriately be regarded as "premium" according to the nomenclature used in INdia. Under the Companies Act, 1918, shares could be issued for cash or against transfer of property, and it is not claimed that under the statute law in the State of Delaware a different rule prevailed at the time when the assessee Company took over the assets of the transferor companies. The Indian Companies Act also places no restriction upon a Company issuing shares for and consideration which exceeds the par value of the shares, and there is no evidence on the record that in the State of Delaware there is such a restriction. A share is not a sum of money; it represents an interest measured by a sum of money and made up of diverse rights contained in the contract evidenced by the articles of association of the Company. In the absence of any restriction in the law of Delaware against the issue of shares othe.rwise than for cash, when shares are issued for consideration other than cash the value of the assets transferred in excess of the par value of shares issued would be regarded as premium for purposes of our system of law. No serious argument has been advanced before us on behalf of the Commissioner controverting this part of the case. When shares are issued to the public at a premium, ordinarily premium at a uniform rate would be charged from all applicants for shares. But that is not because the law contains any prohibition against charging differential premiums. The. right of a Company to charge varying premiums in respect of blocks of shares having the same rights issued under different resolutions is not denied, and on principle there is no objection to the charging of varying rates of premium for shares issued under a single resolution, if all the parties concerned agree. The amount or value which a person intending to be a shareholder may pay in excess of the par value for acquiring the shares of a Company depends upon the contract between the Company and such person. ;