BUCKLAND, J. - (1.) THIS is a reference by the Commissioner of the Income Tax under Section 66 (1) of the Indian Income Tax Act, made in the following circumstances : Sir David Yule died on the 3rd July, 1928. He left in India an Estate of the value of approximately pounds 10,000,000. The executors and trustees appointed by the testator by his will are his widow, The Mercantile Bank of India Ltd., Sir Onkarmull Jatia and Radha Krishna Iyer. Probate of the will was granted to the executors other than Radha Krishna Iyer in England on the 28th October, 1928, and in Indian on the 7th June, 1929. Under the power of appointment contained in the will Lady Yule has appointed her daughter to be a trustee of the will. The present trustees therefore are Lady Yule, Miss Yule, Sir Onkarmull Jatia and the Mercantile Bank of India Ltd.
(2.) THE testators estate in India consisted substantially of holdings of shares in a number of companies most of them formed by him between the years 1917 and 1921 as private companies. They appear to have been what is known as investment companies, holding at the time of the testators death nothing but shares and securities, for a few years before his death the gardens or other properties of the companies had been disposed of. The principal Company was the Calcutta Discount Company which acted as agent for most of the other companies and controlled their finances by deposits and advances, but for the purposes of this case no distinction need be made as regards this particular company.
(3.) THE Companies of which there were thirty have been sub divided by the Commissioner in his statement of facts into three groups with the first two of which alone we are concerned. In the first group which comprises six companies all the capital is ordinary share capital wholly held by the Trustees in their own names or through nominees. The second group comprises 14 companies including the Calcutta Discount Co., Ltd. of which the share capital was held by the Trustees, their nominees, and in addition other companies. The compositions of the third group is irrelevant to this case. All the companies had very large accumulations of undistributed profits. The actual figures are immaterial. The trustees had to meet very heavy outgoings for duties payable both in the United Kingdom and in India in relation to the estate of the deceased and it was to provide funds for such duties that a scheme was devised whereby accumulated profits would come into their hands and be available for the purpose of meeting such charges without, it was hoped, their rendering themselves liable to assessment to income tax in respect of such monies as by such means reached them, though a far more simple method of providing such funds, which the testator himself by his will suggested, viz., to wind up voluntarily one or more of the companies, was open to them. The proposal was to capitalise the companies reserves and make a distribution to the shareholders in the form of debentures on redemption of which the funds required would be available. In the case of companies in the first group in which the whole of the shares were held by the trustees or in the names of their individual nominees no difficulty was experienced involving any preliminary step, but in the case of companies in the second group, as shares also stood in the names of other companies, these were regarded as not being capable of being treated as nominees of the trustees, and the procedure adopted was to issue a nominal amount of preferred ordinary shares to the trustees under a power in the articles of association, and none to the other shareholders, and to issue to the trustees debentures upon these preferred ordinary shares alone, none being issued to the companies as ordinary shareholders. Taking the case of the Calcutta Discount Co., Ltd., as an instance, on the 22nd January, 1930, a resolution had been passed at an Extraordinary General Meeting on the 3rd January was confirmed as a Special resolution and it was resolved that the capital of the company be increased by the creation of 725 preferred ordinary shares of Rs. 100 each and the same be issued to such persons as the Secretaries might think fit. At the same meeting new articles of association were adopted by special resolution and among other articles it was provided by Articles 126 that "the company in general meeting may at any time and from time to time pass a resolution that any sum not required for the payment or provision of any fixed preferential dividend and (a) for the time being standing to the credit of any reserve fund or reserve account of the company, including premiums received on the issue of any shares, debentures of debenture stock of the company or (b) being undivided net profit in the hands of the company, be capitalized, and that such sum be set free for distribution, and be appropriated as capital to and amongst the Preferred Ordinary Shareholders and Ordinary Shareholders respectively in the proportions in which they would have been entitled thereto if the same had been surplus distributable profits, and such resolution shall be effective etc." A return of allotments made on the 11th February, 1928, pursuant to Section 104 of the Indian Companies Act shows that of these 725 shares 25 were allotted to Miss Yule, 71 to Lady Yule, and 629 to the Mercantile Bank of India Ltd., Lady Yule and Sir Onkarmull Jatia. On the 24th March, 1931, at an Extraordinary meeting of the shareholders the following resolution were passed : "That it is desirable to capitalise a sum of Rs. 1,45,00,000 being part of the amount standing to the credit of the Reserve Fund and accordingly that a special capital bonus of Rs. 1,45,00,000 free of income tax be declared and such capital bonus be applied on behalf of the persons who on the 24th day of March, 1931, were the holders of the 725 issued preferred Ordinary shares of the Company in payment in full for Rs. 1,45,00,000 of debentures of the company carrying interest at 3 per cent. per annum from the 1st day of January, 1931 (and to be charged upon the whole undertaking of the company.)" By a further resolution the Secretaries were empowered to carry out what had been so decided as to the issue of debentures and a minute of the secretaries dated the 25th March, 1931, shows that effect was given to the resolution of the company.;