NUND AND SAMONT COMPANY PRIVATE LIMITED Vs. COMMISSIONER OF INCOME TAX

JUDGEMENT

(1.) THE Income-tax Appellate Tribunal, Patna Bench, has stated a case under section 66(1) of the Income-tax Act, 1922 (hereinafter referred to as the Act), and referred to this court for giving its opinion on the following question of law :

(2.) THE facts stated in the statement of the case are these : THE assessee is a private limited company, carrying on the business of mica mining. For the assessment year 1959-60, the assessee claimed a deduction of Rs. 66,106, being the remuneration paid to the managing director, Shree A. K. Samonta, and the deputy managing director, Shree B. Samonta. THE said amount of remuneration was paid to the two directors in accordance with article 42 of the articles of association of the company, which authorised payment of thirty per cent. of the net profits before depreciation. THE managing director and the deputy managing director each received a sum of Rs. 33,053, being fifteen per cent. of the net profits of the company, before making any allowance for depreciation. Originally, under article 42 of the articles of association of the company, the entire thirty per cent. of the annual net profits of the company was to be paid by way of remuneration to the managing director only, with a minimum guarantee of Rs. 5,000. By a special resolution of the broad of directors, passed on the 29th December, 1950, a deputy managing director was also appointed in accordance with article 40 of the articles of association and the remuneration of thirty per cent. was split up in equal proportion to be paid to the two directors. From the assessment year 1951-52 up to the assessment year 1959-60, the assessee had paid remuneration to the aforesaid two directors, calculated at thirty per cent. of the net profits (of course, without taking into consideration the depreciation). THE claim for deduction of the remuneration so paid was accepted and allowed by the income-tax authorities up to the assessment year 1956-57, but, on and from the assessment year 1957-58, they considered the amount of remuneration paid to the managing director and the deputy managing director on the basis of the percentage of profits as excessive and unreasonable having regard to the legitimate needs of the company and the benefit derived by or accruing to it therefrom. THE amounts, of course, were varied by the Appellate Assistant Commissioner and also by the Tribunal in respect of the years 1957-58 and 1958-59. In respect of the former year, the Tribunal allowed the claim almost in full. In respect of the assessment year 1958-59, as against the claim of Rs. 74,190, the Tribunal allowed the sum of Rs. 48,000 only under section 10(4A) of the Act. In respect of the assessment year 1959-60, with which we are concerned in this case, as against the claim of Rs. 66,106, the Income-tax Officer allowed a sum of Rs. 54,670 on the average of the remuneration paid to the two directors during the last preceding three years, that is to say, he disallowed a sum of Rs. 11,436, under section 10(4A) of the Act. THE disallowance was maintained by the Appellate Assistant Commissioner and the Tribunal in appeals filed by the assessee.

(3.) APART from the other grounds mentioned by the Income-tax Officer, we would pointedly refer to ground No. (c). It is no doubt true that section 309 of the Indian Companies Act, 1956, applies to the case of a public limited company and not to a private limited company, but some guidance can legitimately be had from the provisions of the proviso to sub-section (3) of section 309 of the Indian Companies Act, 1956. In principle, therefore, if the income-tax authorities think that payment of remuneration to the directors of the private limited company on the ratio of thirty per cent. of the net profits, when the company is making more profits is excessive and unreasonable, regard being had to the legitimate business needs of the company and the benefit derived by or accruing to it from the services rendered by the directors, it cannot be aid that the exercise of the discretion given to the Income-tax Officer, under section 10(4A) of the Act, has been arbitrary or capricious. It is a matter of common knowledge and experience that the extra profits earned by a company in a particular year cannot necessarily be correlated to the services rendered by its director or directors. Various other factors contribute or may contribute to the earning of extra profits in a particular year or years. And, in that event, it will be a legitimate exercise of the discretion by an Income-tax Officer, if he says that the amount of remuneration paid to the director or the directors is excessive or unreasonable within the meaning of sub-section (4A) of section 10 of the Act. In the case in hand, the disallowance of the sum of Rs. 11,436 out of the claim of Rs. 66,106 by the Income-tax Officer, the Appellate Assistant Commissioner or the Appellate Tribunal cannot be said to be arbitrary, capricious or based upon no rounds or whimsical grounds. In that view of the matter, we would hold that if the provision of section 10(4A) applies, then a portion of the allowance claimed on behalf of the assessee-company cannot be said to have been unjustifiably or illegally disallowed by the authorities.