JUDGEMENT
A. Kalyanasundharam, Accountant Member -
(1.)THE appeal is preferred by the assessee, a limited company, aggrieved by the order of the CIT(A) dt. 24-9-1986, confirming the action of the ITO taken Under Section 104(1) of the IT. Act, demanding from the assessee, tax of Rs. 25,891 on the undistributed profits.
(2.)Appearing for the assessee Sh. Dujari submitted that the assessee an investment company, for the year had profits of Rs. 1,46,529 after taxation. The company has as its paid capital redeemable preference shares, which could be redeemed only from out of profits, for which it had to necessarily appropriate the amount to the redemption reserve account, and accordingly an amount of Rs. 58,779 was set apart from out of the profits of the year under consideration. The assessee company had also transferred Rs. 14,653 representing 10 per cent of the profits of the year to general reserve account as required by the provision contained in the Company Law, before declaration of any dividend, which was accepted by the CIT(A), on the basis that the Tribunal in the assessee's case had so directed in the earlier year. His plea was that the authorities below could not appreciate that the Company Law contained compulsory provisions of manner of appropriations of the profits of the accounting year after compliance of which only, dividend could be declared. He pleaded that in the earlier asst. year the Tribunal in the case of the assessee had negatived the claim for the only reason that the transfer to redemption reserve was out of the profits of an earlier year. He placed reliance on the Tribunal's decision in the case of Puneet Trading & Investment Co. (P.) Ltd. v. CIT in IT Appeal No. 5006 and 5007 (Delhi) of 1984, dated 30-4-1986.
The ld. Sr. DR Sh. Shah placed reliance on the orders of the authorities below.
(3.)WE have given our very careful considerations to the rival submissions. The brief facts of the case are first brought out so as to appreciate the issue involved properly. The profit of the financial year is Rs. 1,46,529 after providing for taxation of Rs. 1,07,000. The balance sheet shows the total paid-up capital of the company to be Rs. 3,11,000, of which the redeemable preference shares account for Rs. 3,10,000 and the equity shares account for Rs. 1,000. The profit for the financial year and how the same has been appropriated is as under:-
JUDGEMENT_2345_TLIT0_19890.htm
The CIT(A) had allowed the relief for transfer of the amount of Rs. 14,653. The assessee's claim is that it should be allowed a further relief of Rs. 58,779 representing transfer to redemption reserve for the redemption of the redeemable preference shares.
4.1 The argument of the assessee that it has to primarily comply with the provisions of the Companies Act in our view seems to be a plausible one, for the reason the companies that are formed under the Indian Companies Act are primarily governed by the provisions of that Act and non-compliance would attract penalties/prosecution, etc., under that Act. The provisions that are mandatory in nature, i.e., those which are subject to the provisions of that Act, need to be necessarily complied with. According to the assessee, the transfer to the redemption reserve is a mandatory requirement of that Act. The reference to the Companies Act indicates that the redemption of redeemable preference shares are governed by the provisions of Section 80 of that Act. The reading of this section also indicates that it would be applicable to all companies, whether they are private or public. The provisions are also mandatory in nature. For the sake of facility, we would bring out the provisions of Section 80 of that Act.
Section 80 : Power to issue redeemable preference shares :
(1) Subject to the provisions of this section, a company limited by shares may, if so authorised by its articles, issue preference shares which are, at the option of the company are to be liable, to be redeemed :
Provided that-
(a) no such shares shall be redeemed except out of profits of the company which would otherwise be available for dividend or out of proceeds of a fresh issue of shares made for the purposes of the redemption ;
(d) where any such shares are redeemed otherwise than out of proceeds of a fresh issue, there shall out of profits which would otherwise have been available for dividend, transferred to a reserve fund, to be called the capital redemption reserve account a sum equal to the nominal amount of the shares redeemed;
The reading of the above indicates that the company could redeem the preference shares either out of the proceeds of the fresh issue of capital or out of the funds available in the capital redemption reserve account, which reserve could be created by transferring the amount from out of the profits. Thus, out of the two options that are available, the company has to necessarily choose one and in the instant case, the company has chosen the second option of redeeming' the preference shares by creating the reserve from out of the profits. The amount lying to the credit of the capital redemption reserve account as at the beginning of the year was Rs. 57,078 and the total reserve needed for the redemption of the preference shares is Rs. 3,10,000. When we view the present situation from the point of view of the Companies Act, the transfer of Rs. 58,779 to the redemption reserve account from out of the profits of the year appear to be in accordance with the requirement of that Act. Since the company cannot be said to have funds available for distribution as dividend to the extent of Rs. 58,779, the dividend could be distributed only out of the remaining profits. But even here, the provisions contained in Section 205A of the Companies Act requires that any company desirous of distributing dividend in excess of 20 per cent of its profits, then it can do so subject to it transferring a minimum of 10 per cent out of its current financial year's profit to the general reserve and therefore the amount available for the distribution as dividend gets further reduced by 10 per cent of the profits, which in the instant case, is Rs. 14,653.
4.2 The manner of calculation of the distributable income under the Income Tax Act is contained in Section 109. The starting point for arriving at the distributable income is the gross total income as computed as per provisions of the I.T. Act, before allowing of deductions under Chapter VI -A of that Act. The deductions are allowed from the gross total income in respect of, (a) income-tax payable; (b) taxes levied under any law to the extent not allowed as a deduction in computing the total income; (c) deduction allowable Under Section 80G; (d) losses long-term on sale of capital assets; (e) income arising out of India to the extent not allowed to be remitted from that country; (f) amount transferred to reserve account as required by the Banking Companies Act, 1949 (applicable only to Banking Companies); and (g) expenses incurred for the business but not allowed as a deduction in computing the total income, such as, gratuity, bonus, legal charges, expenses as specified Under Section 40(c), expenses not allowed which did not go to create any capital asset.
The reading of the above indicates that the appropriations of the profits as are compulsory under the Companies Act, are not given the same treatment as had been done specifically in the case of the Banking Companies. WE have therefore raised the question to ourselves as to whether there could be no reprive for the Companies in such situations, for they would be faced with the situation of having to distribute amounts as dividends as per the Income Tax Act, which amount otherwise would have to be necessarily retained by it as per the compulsory provisions of the Companies Act. WE are quite alive to the situation that though the Legislature had formulated the provisions for containing the company under the Companies Act, for reasons best known to them had not carried out any similar amendment in the I.T. Act, to allow deduction of amounts compulsorily required to be transferred to reserve account before distribution of dividends. WE are also alive to the situation that the I.T. Act does not contain any provision, which specifically says that it overrules the provisions contained in the Companies Act.
In such kind of situation, equitable and harmonious construction of the statute would be necessary, so as to avoid any collision with other statutes. The term 'equity' means the same thing and equitable construction is unobjectionable, meaning thereby the profits available for distribution of dividends as under the Companies Act, have to be given the same meaning under the I.T. Act as well. The statute as are intended to counter evasion, must be applied to the substance rather than the mere form of transactions.
When we proceed with this proposition that, since the I.T. Act does not override the provisions of the Companies Act, the amounts transferred to the redemption reserve account from out of its current profits not being avail able for distribution as dividend, it has to be further deducted from the available amount calculated as per the provisions of Section 109 of the Act.
The justification of this proposition lies in Section 104(2) of the Act, which requires the satisfaction of the ITO before making an order Under Section 104(1), if having regard to the losses incurred in the earlier years or to the smallness of the profits made in the previous year, the payment of a larger dividend would be unreasonable.
It could therefore be said that all matters which are required to be complied by a company under the Companies Act compulsorily, such as transfer of the funds for the redemption of the preference shares from out of current year's profits, have to be necessarily kept in view for arriving at the reasonableness or otherwise of the dividends. As already observed above, the available funds get contracted to the extent of the transfer to capital redemption reserve account and only the balance would be available for distribution of dividends and it would be absolutely unreasonable to call upon the company to distribute the amount so transferred to the capital redemption reserve account.
WE are therefore of the view that the authorities below were clearly in error in not excluding the amount of Rs. 58,779 transferred to the capital redemption reserve account from the available surplus as calculated Under Section 109 of the Act. The 10 per cent transferred to general reserve account could be said to have been covered by Section 109 itself, for the Act requires distribution of the 90 per cent of the distributable surplus. The result shall be as follows:
JUDGEMENT_2345_TLIT0_19891.htm
Thus in fact there is no shortfall in the distribution of dividends and therefore the action of the ITO taken Under Section 104(1) is without jurisdiction.
4.3 The appeal is allowed.