Case Law Companies Act Punjab Distilling Industries Vs Commissioner of Income Tax, Punjab

PETITIONER:
PUNJAB DISTILLING INDUSTRIES LTD.

Vs.

RESPONDENT:
COMMISSIONER OF INCOME-TAX, PUNJAB

DATE OF JUDGMENT:
09/02/1965

BENCH:
SUBBARAO, K.
BENCH:
SUBBARAO, K.
DAYAL, RAGHUBAR
MUDHOLKAR, J.R.
BACHAWAT, R.S.
RAMASWAMI, V.

CITATION:
1965 AIR 1862 1965 SCR (3) 1
CITATOR INFO :
R 1984 SC 420 (45)
ACT:
Indian Income-tax Act, 1922 (11 of 1922,), s. 2(A)
(d)–Distribution on reduction of company’s capital to the
extent of accumulated profits treated as ‘dividend’–Such
dividend whether ‘income’ under Entry 54, List I, Government
of India Act, 1935–Section whether ultra vires.
Distribution’–Meaning of–Whether synonymous with ‘paid’ of
‘credited’ in s. 16(2) of the Income-tax Act–Notional
distribution whether takes place on issue of certificate
under s. 61(4) of the Indian Companies Act, 1913.

 

HEADNOTE:
The appellant .company reduced its capital and the
reduction was confirmed by the High Court. On November 4-,
1954, i.e. during the course of the appellant’s accounting
year ending November 30, 1954, the Registrar of Companies
issued the requisite certificate under s. 61(4) of the
Indian Companies Act. The surplus share capital consequent
on reduction was, however, not refunded to the shareholders
during the said accounting year. It was refunded by actual
payment or by credit entries in the next accounting year
which ended on November 30, 1955. The Income-tax Officer
held that the said distribution to the extent of accumulated
profits was ‘dividend’ under s. 2(6A)(d) of the Indian
Income-tax Act, 1922. He further held that the distribution
took place in the accounting year ending November 30, 1955,
relevant for the assessment year 1956-57. On these findings
he calculated the rebate on super-tax in the terms of cl.
(i)(b) of the second proviso to paragraph D of Part II of
the first schedule to the Finance Act, 1956. The findings of
the Income-tax Officer were upheld by the Appellate
Assistant Commissioner and the Appellate Tribunal, and also,
in reference, by the High Court. The appellant came to the
Supremen Court by certificate.
It was contended on behalf of the appellant: (1) In
defining ‘dividend’ to include capital receipts resulting
from distribution of capital on reduction, the legislature
went beyond the ambit of entry 54 List I, Seventh
Schedule, Government of India Act, 1935, and s. 2(6A)(d) of
the Indian Income-tax Act, 1922 was therefore, ultra vires.
(2) The certificate of the Registrar under s. 61(4) of the
Indian Companies Act was issued on November 4, 1954 and
therefore the ‘distribution’ under s. 2(6A)(d) took place in
the previous year relevant to the assessment year 11955-56.
HELD’: The expression ‘income’ in entry 54 List I of the
Seventh Schedule to the Government of India Act, 1935, and
the corresponding entry 82 of List I of the Seventh Schedule
to the Constitution of India must be widely and liberally
construed so as to enable the Legislature to provide by law
for the prevention of evasion of Income-tax, [5H; 6A]
2
United Provinces v. Atiqa Begum, [1940] F.C.R. 110,
Sardar Baldev Singh v. Commissioner of Income-tax, Delhi and
Ajmer, [1961] 1 S.C.R. 482, Balaji v. Income-tax Officer
Special Investigation Circle, [1962] 2 S.C.R. 983 and
Navnittal C. Javeri v. K.K. Sen, Appellate Assistant
Commissioner of Income-tax ‘D’ Range, Bombay, [1965] 1
S.C.R. 909, referred to.
A company may on the pretext of reducing its capital,
utilise its accumulated profits to pay back to the
shareholders the whole or part of the paid up amounts on the
shares. This is a division of profits under the guise of
division of capital. If this were permitted there would be
evasion of super-tax. Section 2(6A)(d) embodies a law to
prevent such evasion and hence it falls within the ken of
entry 54 of List I of Schedule Seven to the Government of
India Act, 1935. [6H; 7A, G]
There is no inconsistency between a receipt being a
capital one under the company law and by fiction being
treated as taxable under the Income-tax Act. [7F-G]
Per Subba Rao. Mudholkar and Ramaswami, JJ. The
expression ‘distribution’ connotes something actual and not
notional. Like ‘paid’ or ‘credited’ in s. 16(2),
distribution’ signifies ‘the discharge of the company’s
liability and making the dividend available to the members
entitled thereto. [8D, F, G]
J. Dalmia v. Commissioner of I.T. Delhi, (1964) 53
I.T.R. 83 and Mrs. P.R. Saraiya v. Commissioner of Income-
tax, Bombay City 1, Bombay, [1965] 1 S.C.R. 307, relied on.
Distribution can ke physical, it can be constructive.
One may distribute assets between different shareholders
either by crediting the amount due to each one of them in
their respective accounts, or by actually paying to each one
of them the amount due to him. [8D]
Distribution in the above manner may take place partly
in one year and partly in another. But the amount of
accumulated profits is fixed by the resolution of the
company reducing its capital, and the figure does not change
with the date of payment or credit. [9D, E]
In the present case the payments and credits were
actually given during the accounting year ending November
30, 1955. The dividend under s. 2(6A)(d) must be deemed to
have been distributed in the said year. The relevant
assessment year therefore was 1956-57.[10F]
Per Raghubar Dayal and Bachawat, JJ. The word
distributed’, in s. 2(6A)(d) does not mean ‘paid’ or
credited’. Cases under s. 16(2) are not relevant to the
issue. [14G-H]
The ‘distribution’ contemplated by s. 2(6A)(d) is
distribution at the time of reduction of capital, that is to
say, when the resolution of the company reducing the capital
takes effect. It means allotment or apportionment of the
surplus among the shareholders; this allotment takes place
and each shareholder gets a vested right to his portion of
the surplus as soon as the capital stands reduced. [12F-H]
While the distribution as above takes place on a single
date i.e. the date of the reduction of capital, the payments
to the shareholders either actual or by credit entries in
books of account may be made subsequently and on different
dates. The successive payments cannot be ‘distribution’
contemplated by s. 2(6A) (d). [13A-C]
3
In the instant case the resolution for the reduction of
the capital of the company and the consequential refund of
the surplus capital to the shareholder took effect on
November 4, 1954. Consequently the distribution of the
‘dividend’ as defined by s. 2(6A)(d) took place on that date
i.e. during the previous year corresponding to the
assessment year 1955-56. [15B]

 

JUDGMENT:
CIVIL APPELLATE JURISDICTION: Civil Appeal No. 414 of
1965.
Appeal from the judgment and order dated February 21,
1962, of the Punjab High Court in I.T. Reference No. 9 of
1959.
N.C. Chatterjee and R.V. Pillai, for the appellant.
C.K. Daphtary, Attorney-General, R. Ganapathy lyer, R.N.
Sachthey for R.H. Dhebar, for the respondent.
The Judgment of SUBBA RAO, MUDHOLKAR and RAMASWAMI JJ.
was .delivered by SUBBA RAO, J. The dissenting Opinion of
DAYAL and BACHAWAT JJ. was delivered by BACHAWAT J.
Subba Rao, J. This appeal by certificate raises the
main question whether s. 2(6A)(d) of the Indian Income-tax
Act, 1922, hereinafter called the Act, is ultra vires the
Central Legislature.
The assessee, a public limited company, was incorporated
on May 23, 1945, under the Indian Companies Act, 1913, with
a share capital of Rs. 50 lakhs. On December 15, 1947,
at the instance of the appellant the High Court sanctioned
the reduction of the capital of the company from Rs. 50
lakhs to Rs. 25 lakhs. On December 16, 1953, the High Court
sanctioned a further reduction of the share capital from
Rs. 25 lakhs to Rs. 15 lakhs. On November 4, 1954, the
Registrar of Companies granted the requisite certificate
under s. 61(4) of the Indian Companies Act. On November 5,
1954, the appellant issued notices to the shareholders
inviting applications for the refund of share capital so
reduced. On the receipt of the applications, appropriate
debit entries were made in the accounts of the shareholders
and the amounts were actually paid to them during the
previous year, i.e., December 1, 1954, to November 30, 1955.
Under s. 2(6A)(d) of the Act, “dividend” includes any
distribution by a company on the reduction of its capital to
the extent to which the company possesses accumulated
profits, whether such accumulated profits have been
capitalised or not. In assessing the income of the
appellant-company for the assessment year 1956-57, the
Income-tax Officer held that the said dividends were
distributed during the accounting year and on that finding
he calculated the rebate on super-tax in terms of el.
(i)(b) of the second proviso tO paragraph D of Part I1 of
the first schedule to the Finance Act, 1956. If the
dividends were distributed during the accounting year. i.e.,
December I, 1953, to November 30, 1954, the appellant would
be entitled to a higher rate of rebate on super-tax under
el. (ii) of the first proviso to paragraph D of Part II of
the first schedule to the Finance Act, 1956. The Income-tax
Officer further held that the
4
assessee’s accumulated profits at the time of the reduction
of the Capital from Rs. 25 lakhs to Rs. 15 lakhs were Rs.
8,42,337. On appeal the Appellate Assistant Commissioner
accepted the said figure arrived at the Income-tax Officer.
On further appeal, the Income-tax Appellate Tribunal, for
the reasons recorded by it in its order, reduced the figure
under the said head by a sum of Rs. 3.61,40.5.
It was contended on behalf of the assessee that in as
much as the certificate from the Registrar for the reduction
of the capital from Rs. 25 lakhs to Rs. 15 lakhs was
obtained on November 4, 1954, the distribution of the
dividends should be deemed to have taken place during the
year 1953-54 and, therefore, the said dividends were not
exigible to tax for the assessment year. The Incometax
Officer, the Appellate Assistant Commissioner and the
Tribunal concurrently rejected that plea and held that, as
the actual payment to the shareholders of the refund of the
capital and the debit in the accounts of the shareholders
were effected in the accounting year, the said dividends
must be held to have been distributed in the accounting
year.
There is another sum of Rs. 11,687-3-0 received by the
appellant as security deposit on account of empty bottles. A
question was raised whether the said amount could be
considered as capital gains and, therefore, should be
excluded from the accumulated profits. The Appellate
Tribunal held in favour of the assessee.
The assessee and the Commissioner of Income-tax filed
two applications before the Tribunal for referring questions
of law arising out of the Tribunal’s order to the High
Court. The Tribunal referred the following questions of law
to the High Court for its opinion.
(1) Whether the provisions of s. 2(6A)(d) of the
Indian Income-tax Act are ultra vires of the Central
Legislature.
(2) Whether the accumulated profits amounting to Rs.
4,69,244-13-0 could be deemed to have been distributed on
the reduction of the capital from Rs. 25 lakhs to Rs. 15
lakhs within the meaning of Section 2(6A)(d) of the indian
Income-tax Act.
(3) Whether the amount of Rs. 11.687-3-0 received by
the assessee us security deposit on account of empty bottles
could be considered as Capital Gains.
(4) Whether the accumulated profits could be
considered as dividend deemed to have been distributed in
the assessment year 1955-56 in view of the certificate
granted by the Registrar of Companies under Section 61(4) of
the Indian Companies Act, 1913, or could be considered us
dividend deemed to have been distributed in the assessment
year 1956-57 because the debits of refunds were actually
made in the accounts of the shareholders during the
accounting period of the assessment year 1956-57.
5
The High Court answered all the questions against the
assessee. Hence the appeal.
Mr. N.C. Chatterjee, learned ,counsel for the assessee,
did not contest the correctness of the answer given by the
High Court in ‘regard to the third question and, therefore,
nothing further’ need be said about it.
The first question is whether s. 2(6A)(d) of the Act is
ultra vires the Central Legislature. Sub.section (6A) was
inserted in s. 2 of the Act by s. 2 of the Indian Income-tax
(Amendment) Act,. 1939 (Act VII of 1939). Section 2(6A)(d)
of the Act reads:
“‘Dividend’ includes any distribution by
a company on the reduction of its capital to
the extent to which the company possesses
accumulated profits which arose after the end
of the previous year ending next before the
1st day of April, 1933, whether such
accumulated profits have been capitalised or
not.”
The said Act VII of 1939 was passed by the Central
Legislature in exercise of its powers conferred under s. 100
of the Government of India Act, 1935, read with entry 54 of
List I of the. Seventh Schedule thereof. Entry 54 reads:
“Tax on income other than agricultural income.”
Mr. Chatterjee contends that while the said entry 54 enables
the appropriate Legislature to impose a tax on “income”, the
Legislature by enlarging the definition of dividend so as to
include the amount received by a shareholder towards the
share capital contributed by him, which cannot possibly be
income, seeks to tax a capital receipt, and, therefore, the
said clause is ultra vires the Central Legislature.
Mr. R. Ganapathy lyer, learned counsel for the Revenue,
contends that a legislative entry must receive the widest
connotation and should not be interpreted in any narrow or
restricted sense, and if so construed the said entry enables
the Legislature to make a law to prevent evasion of tax on
income by devious methods and that the Legislature in the
instant case seeks to prevent the growing evil of tax
evasion by companies distributing profits under the guise of
reduction of capital.
It is well settled rule of construction that entries in
the legislative lists cannot be read in a narrow or
restricted sense: they should be construed most liberally
and in their widest amplitude. In the words of Gwyer, C.J.,
in The United Provinces v. Atiqa Begum(1) “each general word
should be held to extend to all ancillary or subsidiary
matters which can fairly and reasonably be said to be
comprehended by it.” This Court in a number of decisions
held that the expression “income” in entry 54 of List I of
the Seventh Schedule to the Government of India Act, 1935,
and the
(1) [1940] F.C.R. 110.
6
corresponding entry 82 of List 1 of the Seventh Schedule to
the Constitution of India, shall be widely and liberally
construed so as to enable a Legislature to provide by law
for the prevention of evasion of income-tax. In Sardar
Baldev
Singh v. Commissioner Income-tax, Delhi and Ajmer (1) this
Court maintained the constitutional validity of s. 23A(1) of
the Income-tax Act, which empowered the Income-tax Officer
to
impose super-tax in a case where a private limited company
distributed less than sixty per cent. of the total income of
the company as dividends on the ground that the object of
the section was to prevent avoidance of super-tax by
shareholders of a company in which the public were not
substantially interested. In Balaji v. Income-tax
Officer, Special Investigation Circle (2) this Court ruled
that s. 16(3)(a)(i) and (ii) of the Income-tax Act, which
enabled the Income-tax Officer in computing the total
income of a person to include the share of the income of his
wife and minor sons therein, was constitutionally valid for
the reason that it was intended to prevent evasion of tax by
persons putting the properties in the names of their wives
or minor children, as the case may be. This Court again in
Navnitlal C. Javeri v.K.K. Sen, Appellate Assistant
Commissioner
Income-tax, “D” Range, Bombay (3) sustained the
validity of s. 2(6A)(e) of the Indian Income-tax Act, 1922,
which included
the definition of “dividend”, inter alia, payment made
by the company by way of advance or loan to a shareholder to
the extent to which the company possessed accumulated
profits on the ground that it was a measure to prevent
private controlled companies adopting the device of making
advances or giving loans to their shareholders with the
object of evading payment of tax.
The question in the instant case, therefore, is whether
the constitutional validity of s. 2(6A)(d) of the Act can be
supported on the ground that it was enacted to prevent
evasion of income-tax. While an entry delineating a
legislative field must be widely and liberally construed,
there must be a reasonable nexus between the item taxed and
the field so delineated. The said clause deals with the
distribution by a company on the reduction of its capital to
the extent to which the company possesses accumulated
profits. Accumulated profits of a company may be utilised
in the following 3 ways: (1) for increasing the capital
stocks; (2) for distributing the same among the shareholders
by way of dividends; and (3) for reducing the capital.
Ordinarily a company reduces the capital when there is loss
or depreciation of assets; in that event there is no
question of distribution of profits to the shareholders but
the shares are only devaluated. But a company may, on the
pretext of reducing its capital, utilise its accumulated
profits to pay back to the shareholders the whole or part of
the paid up amounts on the shares. A shareholder though in
form gets back the whole
(1) [1961] 1 S.C.R. 482.
(2) [1962]2 S.C.R. 983. (3)[1965] 1 S.C.R. 909.
7
or a part of the capital contributed by him, in effect he
gets a share of the accumulated profits, which, if a
straightforward course was followed, he should have received
as dividend. This is a division of profits under the
guise of division of capital; a distribution of profits
under the colour of reduction of capital. If this was
permitted, there would be evasion of super-tax, the extent
of the evasion depending upon the prevalence of the evil.
The Legislature, presumably in the interest of the
exchequer, enlarged the definition of “dividend” to catch
the said payments within the net of taxation. By doing so,
it is really taxing the profits in the hands of the
shareholders, though they are receiving the said profits
under the cloak of capital.
Learned counsel for the appellant contends that
under the Companies Act a company can lawful1y reduce the
share capital with the sanction of the Court, that there
is no prohibition thereunder against such a reduction
being made by way of distribution of accumulated profits to
the shareholders, that the amounts so paid to them would be
in law capital receipts and that, therefore, there could not
be in law or in fact any evasion of tax on income. Reliance
is placed upon ss. 100 to 103 of the Companies Act. This
argument mixes up two aspects–the legal and fiscal. Under
Company Law the question of reducing capital is a domestic
one for the decision of the majority of shareholders. The
Court comes into the picture only to see that the reduction
is fair and equitable and that the interests of the minority
and the creditors do not suffer. It may not also be
concerned with the motive of the general body in resolving
to reduce the capital; but the Income-tax law is concerned
with tax evasion. Tax can be evaded by breaking the law,
or avoided in terms of the law. When there is a factual
avoidance of tax in terms of law, the Legislature steps in
to amend the Income-tax law so that it can catch such an
income within the net of taxation. There is, therefore, no
inconsistency between a receipt being a capital one under
the Company law, and by fiction being treated as taxable
income under the Income-tax Act.
Therefore, as s. 2(6A)(d) of the Act embodies a law to
prevent evasion of tax, it falls within the ken of entry 54
of List I of Schedule Seven to Government of India Act,
1935.
The next question is whether the said dividends were
distributed in the year 1953-54, as the appellant contends,
or in the accounting year 1954-55, as the respondent argues.
The relevant sections of the Act in this context are s.
2(6A)(c1) and s. 16(2). Section 2(6A)(d) has been already
extracted. The relevant part of l 6(2) reads:
“For the purposes of inclusion in the
total income of an assessee any dividend shall
be deemed to be income of the previous year
in which it is paid, credited or di
i
b
u
t
e
d
…………………………………………..
.
“.
8
“Dividend”, with which we are now concerned, is not that
which we ordinarily understand by that expression, but
dividend by definition. Under s. 2(6A)(d) of the Act it is
one of the ingredients of the definition that it shall have
been distributed by a company on reduction of the capital to
the extent to which the company possesses accumulated
profits. Under s. 16(2) of the Act such a dividend shall be
deemed to be an income of the previous year in which it is
paid, credited or distributed. Unless such a distribution
as is mentioned in cl. (d) of s. 2(6A) of the Act had taken
place, it would not be a dividend. If it was not so
distributed, s. 16(2) of the Act would not be attracted. To
put it in other words, if the accumulated profits were
distributed, it would satisfy not only the definition of
“dividend” in cl. (d) but also would fix the year in which
it would be deemed to be income. What then is the meaning
of the expression “distribution”? The dictionary meaning of
the expression “distribution” is “to give each a share, to
give to several persons”. The expression “distribution”
connotes something actual and not notional. It can be
physical; it can also be constructive. One may distribute
amounts between different shareholders either by crediting
the amount due to each one of them in their respective
accounts or by actually paying to each one of them the
amount due to him. This Court had to construe the scope of
the word “paid” in s. 16(2) of the Act in J. Dalmia v.
Commissioner of I.T. Delhi(1). Shah, J., speaking for the
Court observed:
“The expression “paid” in s. 16(2), it
is true, does not contemplate actual receipt
of the dividend by the member. In general,
dividend may be said to be paid within the
meaning of section 16(2) when the company
discharges its liability and makes the amount
of dividend unconditionally available to the
member entitled thereto.”
This Court again reaffirmed the said principle in Mrs.
P.R. Saraiya v. Commissioner of Income-tax, Bombay City 1,
Bombay(2) and held that where dividend was not credited to
any separate account of the assessee so that he could, if he
wished, draw it, it was not “credited or paid” within the
meaning of s. 16(2) of the Act. The same meaning must be
given to the word “distribution”. The only difference
between the expression “paid” and the expression
“distribution” is that the latter necessarily involves the
idea of division between several persons which is the same
as payment to several persons.
At this stage the anomaly that is alleged to flow from our
view may conveniently be noticed. It is said that there
will bedifferent points of time for ascertaining the extent
of the accumu lated profits. With the result s. 2(6A)(d) of
the .Act becomes un workable in practice or at any rate
leads to unnecessary complications. We do not see any
justification for this comment.
9
Distribution is a culmination of a process. Firstly, there
will bea resolution by the General Body of a company for
reduction of capital by distribution of the accumulated
profits amongst the shareholders; secondly, the company will
file an application in the Court for an order confirming the
reduction of capital; thirdly, after it is confirmed, it
will be registered by the Registrar of Joint Stock
Companies; fourthly, after the registration the company
issues notices to the shareholders inviting applications for
refund of the share capital; and fifthly, on receiving the
applications the company will distribute the said profits
either by crediting the proportionate share capital to
each of the shareholders in their respective, accounts or by
paying the said amounts in cash. Out of the said 5 steps,
the first 4 are only necessary preliminary steps which
entitle the company to distribute the accumulated profits.
Credits or payments are related to the said declaration;
that is to say, distribution is from and out of the
accumulated profits resolved to be distributed by the
company. In this view, the accumulated profits to be
distributed are fixed by the resolution and the figure does
not change with the date of payment or credit. Indeed, a
similar process is to be followed in the case of declaration
of ordinary dividends; firstly, there will be a resolution
by the General Body of the company declaring the dividends;
secondly, thereafter the amounts payable to each of the
shareholders are distributed by appropriate credits or
payments. Dividends may be paid or credited to different
shareholders during. different accounting years; and the
shareholders may be assessed in respect of the said payments
in different years. Even so, the payments are referable
only to the declaration of the dividends out of the profits
of a particular year. This Court, as we have noticed
earlier, in the decisions cited supra held that the year of
credit or payment to a shareholder was crucial for the
purpose of assessment and not the date of declaration.
Let us see whether this view introduces any complication
in the matter of reduction of rebate on super-tax payable by
the company. The appellant-Company set up a claim for a
rebate on super-tax under el. (ii) of the first proviso to
paragraph D of Part II of the first schedule to the Finance
Act, 1956. The Company based its claim on the contention
that the distribution of dividends on reduction of capital
took place during the year ending November 30, 1954, and not
during the year ending November 30, 1955, and, therefore,
el. (i)(b) of the second proviso to paragraph D of Part II
of the first schedule to the Finance Act, 1956, read with
Explanation (ii) to paragraph D, which provides for
reduction of rebate allowable under cl. (ii) of the first
proviso by an amount computed at certain slab rates on the
amount of dividends distributed to the shareholders
during the previous year. could not be invoked. To put it
in other words, the assessee claimed that as the dividents
were not distributed in the accounting year, there could not
be any reduction of the rebates under
10
cl. (i)(b) of the said proviso. If, as we have held, the
distribution was made during the year ending November 30,
1955, i.e., the accounting year when the amounts were paid,
the Revenue would be entitled to reduce the rebate by the
amount computed at the prescribed rates on the amount of
dividends. Some complication may arise only’if we accept
the argument that the date of payment fixes the date for
ascertaining the quantum of accumulated profits. But we have
rejected that contention. In this view, the claim of
reduction of rebate on super-tax provided by the first
schedule to the Finance Act, 1956, can be worked out without
any confusion or complication. We, therefore, hold that the
dividends must be deemed to have been paid or distributed in
the year when it was actually, whether physically or
constructively, paid to the different shareholders, that is
to say when the amount was credited to the separate accounts
of the shareholders or paid to them.
What are the facts in the present case? The High Court,
on August 6, 1954, sanctioned the reduction of the capital
from Rs. 25 lakhs to Rs. 15 lakhs. On November 4, 1954,
the Registrar of Companies issued the certificate under s.
61(4) of the Companies Act. On November 5, 1954, the Company
issued notices to the shareholders inviting applications for
refunds. In the notice sent to the shareholders they were
informed that the share transfer register of the Company
would remain dosed from November 16, to November 30, 1954
(both days inclusive) and refund would be made to those
shareholders whose names stood on November 15, 1954, in the
books of the Company. After the applications were received,
the amounts payable to the shareholders were debited in the
accounts and refunds were actually granted during the
accounting year, i.e., between December 1, 1954, and
November 30, 1955. It is clear from the said facts that the
amounts were distributed only during the accounting year,
when the amounts were both debited and paid. We, therefore,
agree with the High Court that the dividends were
distributed to the shareholders during the accounting year,
i.e., 1954-55.
In the result, the appeal fails and is dismissed with costs.
Bachawat J;. For the reasons given by brother Subba Rao J,
we agree that s. 2(6A)(d) of the Indian Income-tax Act,
1922 is not ultra vires the Central Legislature, but we are
unable to agree with his conclusion with regard to the
fourth question of law referred for the opinion of the High
Court. The fourth question arose because of the claim of the
appellant company to a rebate of super-tax under cl. (ii) of
the first proviso to paragraph D of part II of the first
schedule to the Finance Act, 1956 and its contention that
the distribution of dividends on reduction of capital
contemplated by s. 2(6A)(d) of the Indian Income-tax Act,
1922 took place during the year ending November 30, 1954,
and not during the year ending November 30, 1955, and
consequently there could be no reduction of the rebate under
cl. (i)(b) of the second proviso to paragraph D of part II
of the first schedule to the Finance Act, 1956 read with
explanation (ii) to paragraph D.
11
Now, el. (i)(b) of the second proviso to paragraph D of
part II of the first schedule to the Finance Act, 1956
provides for reduction of the rebate allowable under cl.
(ii) of the preceding proviso by an amount computed at
certain slab rates on the amount of dividends “in the case
of a company referred to in el. (ii) of the preceding
proviso which has distributed to its shareholders during the
previous year dividends in excess of 6 per cent of its paid-
up capital not being dividends payable at a fixed rate”, and
the explanation (ii) to paragraph D provides that for
purpose of paragraph D “the expression ‘dividend’ shall be
deemed to include any distribution included in the
expression ‘dividend’ as defined in el. (6A) of section 2 of
the Indian Income-tax Act”. Section 2(6A)(d) of the Indian
Income-tax Act, 1922 provides that “dividend” includes “any
distribution by a company on the reduction of its capital to
the extent to which the company possesses accumulated
profits which arose after the end of the previous year
ending next before the lst day of April, 1933, whether such
accumulated profits have been capitalised or not.”
Obviously, s. 2(6A)(d) contemplates a distribution on
reduction of capital under s. 55(1)(c) of the Indian
Companies Act, 1913,under which subject to confirmation by
the Court, a limited company, if so authorised by its
articles, may by special resolution reduce the share
capital in any way, and in particular may “either with or
without extinguishing or reducing liability on any of its
shares, pay off any paid-up capital which is in excess of
the wants of the company”, and may, if and so far as is
necessary, alter its memorandum by reducing the amount of
its share capital and of its shares accordingly. Section 56
of the Act enables the company to apply to the Court for an
order confirming the reduction, and under s. 60 of the Act,
the Court may make an order confirming,the reduction on such
terms and conditions as it thinks fit.Upon compliance with
certain formalities, the Registrar of Joint Stock Companies
is required under s. 61 of the Act to register the order and
a minute approved by the Court, and on such registration,
and not before, the resolution for reducing share capital as
confirmed by the order so registered shall take effect.
Under s. 62,the minute when registered shall be deemed to be
substituted for the corresponding part of the memorandum of
the company.
In the instant ease, the issued, subscribed and paid-up
capital the company was Rs. 25 lakhs, consisting of 5 lakhs
shares of Rs. 5 each. On December 16, 1953, the company
passed a special resolution for reducing its share capital
from Rs. 25 lakhs to Rs. 15 lakhs and for payment of Rs. 2
per share to the existing share-holders under s. 55(1)(c) of
the Indian Companies Act, 1913.On May 10. 1954, the company
applied to the Court for an order confirming the reduction.
On August 6, 1954, the High Court made an order confirming
the reduction. On November 4, 1954,the order and the minute
approved by the Court were duly registered with the
Registrar, and on the same date, the Registrar
12
issued a certificate of registration. On November 5, 1954,
the notice of registration was duly published. On the same
day, the company issued a circular notice to its
shareholders stating that the refund of Rs. 2 per share will
be made on receiving confirmation of the registration and
requesting the shareholders to send their share certificates
to the company at an early date for necessary endorsement
and refund of share capital and stating that the refund
would be made to the shareholders, whose names stood on
November 15, 1954 in the books of the company, the share
transfer register would remain closed from November 16 to
November 30, 1954, and the refunds would be made to the
shareholders whose names stood on November 15, 1954 in the
books of the company. The balance ,sheet for the year ending
November 30, 1954 did not show the reduction, and the
capital of the company in this balance sheet was shown to be
Rs. 25 lakhs. The necessary book entries and the payments
of dividends to the shareholders were not made during the
year ending November 30, 1954. The book entries with regard
to the reduction and refund were made, and the refunds were
given to the shareholders during the year ending November
30. 1955 and the reduction was shown in the balance sheet
for the year ending November 30, 1955.
The point in issue is when does the distribution
contemplated by s. 2(6A)(d) of the Income-tax Act. 1922 take
place? Section 2(6A)(d) speaks of dividend in the shape of
any distribution by a company amongst its shareholders on
reduction on its capital to the extent of accumulated
profits possessed by it. We reject the contention that this
distribution takes place when the dividend is paid or
credited to the shareholders. The distribution contemplated
s. 2(6A)(d) is a distribution by a company “on the reduction
of its capital”. The word “on” has no fixed meaning, but in
the context of the sub-section, it must be given the meaning
“at the time of”. as “on entering”, “on the 1st of the
month”. The distribution contemplated by the sub-section is
therefore, distribution at the time of the reduction of its
capital, that is to say, when the resolution for reduction
of its capital under s. 55(1)(c) of the Indian Companies
Act, 1913 takes effect. As soon as the resolution for
reduction of capital and consequential refund of the surplus
capital to the shareholders takes effect, the capital stands
reduced, the surplus ceases to be capital and stands
allotted to the shareholders, each shareholder obtains a
vested right to the refund of his share of the surplus, and
a liability arises on the part of the company to make the
refund. This liability arises as soon as the reduction of
capital takes effect, and it matters not that the company
has not made the necessary book entries showing the
reduction of capital and the transfer of the surplus to the
account of the shareholders. The word “distribution” has
several dictionary meanings. In the context of s. 2(6A)(d),
it means allotment or apportionment of the surplus amongst
the shareholders; this allotment takes place and each
shareholder gets a vested right to his portion of the
surplus as soon as the capital stands reduced.
13
A close scrutiny of s. 2(6A)(d) reveals that (a) the
distribution takes place on a single date and (b) the
expression “accumulated profits” means profits accumulated
up to the date of the distribution. These two basic ideas
which are implicit in s. 2(6A)(d) are forcibly brought out
in the explanation to the corresponding s. 2(22) of the
Income-tax Act, 1961. We thus find firstly that the entire
distribution of the surplus amongst the shareholders takes
place on a single date. Now if the distribution is to have
a certain date, that date can only be the date when the
reduction of capital becomes effective. The payments to
the shareholders either actual or notional by credit entries
in the books of account are made subsequently. The payments
need not be made on one date; they may be and often are made
on several dates. The successive payments cannot be the
distribution contemplated by s. 2(6A)(d). We find secondly
that the accumulated profits are to be ascertained on the
date of the distribution. But we find independently for
reasons mentioned hereafter. that the accumulated profits
must be ascertained on the date of the reduction of capital.
Thus the two events, namely, the distribution and the
reduction of capital must synchronise, and the accumulated
profits must also be ascertained at the same point of time.
The synchronisation is also obvious on a plain reading of
the abridged text “any distribution on the reduction of
capital to the extent of accumulated profits”.
The artificial dividend under s. 2(6A)(d) must be fixed
by reference to the accumulated profits on the date of the
reduction of capital and not by reference to the accumulated
profits on the successive dates of the payments. If the
amount of the dividend were to be fixed by reference to the
accumulated profits on the several dates of the payments,
the result might well be that some payments would be
dividends to their full extent, some would be dividends
to a limited extent and some would not be dividends at
all. Take a case where the accounting year of the company
ends on November 30, a resolution for the reduction of its
capital to the extent of Rs. 10 lakhs and for refund of
Rs. 2 for each share of Rs. 5 takes effect on June 30, 1954
and payments of rupees one, six and three lakhs are made
respectively on October 30, 1954, October 30, 1955 and
October 30, 1956; and assume that the extent of the
accumulated profits is rupees ten lakhs on June 30, 1954 and
on October 30, 1954, rupees two Iakhs on October 30, 1955
and rupees two lakhs on October 30, 1956. If the amount of
the dividend were’ to be fixed by reference to the
accumulated profits on the dates of the payments, the result
would be that the payment of rupees one lakh would be
dividend to the full extent, the payment of rupees six lakhs
would be dividend to the extent of one third and the payment
of rupees three lakhs would not be dividend at all. It is
reasonable to think that the legislature did not contemplate
such a result. The character of the distribution is
determined by the extent of the accumulated profits on the
date when the reduction
/B(D)2SCI–3
14
of capital becomes effective and is not altered by any
subsequent increase or decrease of the accumulated profits,
and all subsequent payment of the capital so distributed
share alike the original character of the distribution.
It is argued that in the case of a normal dividend, a
comparable distribution takes place, a declaration of
dividend out of the profits of a particular year is made,
and is followed by payment of the dividend, and decided
cases under s. 16(2) show that the distribution takes place
on payment and not on the declaration of a dividend. We
think this comparison of the normal dividend with the
artificial dividend in s. 2(6A)(d) in the shape of
distribution to the extent of the accumulated profits is
misleading, and the assumptions on which this comparison is
made are not correct. The declaration of a normal dividend
may be made out of accumulated profits, and need not
necessarily be made out of the profits of any particular
year. Section 2(6A)(d) does not contain any definition of a
normal dividend. In the case of a normal dividend, the
question of ascertaining the accumulated’ profits to the
extent of which the distribution amounts to dividend does
not arise. This problem would have arisen, had s. 2(6A)
defined normal dividend as “any distribution by a company on
the declaration of dividend to the extent to which the
company possesses accumulated profits”. On such a
definition, the only possible interpretation would have been
that the accumulated profits are ascertained and the
distribution takes place on the date of the declaration of
the dividend.
The argument based upon the decided cases under s. 16(2)
is misconceived. Section 16(2) dealt with the question when
the dividend shall be deemed to be the income of the
shareholders. By s. 16(2) the dividend was deemed to be the
income of the shareholders when it was paid, credited or
distributed. An artificial dividend’ under s. 2(6A)(d) is
either distributed or paid, whereas the normal dividend is
either paid or credited, and in the case of J. Dalmia v.
Commissioner of Income-tax(1) and Padmavati R. Suraiya v.
Commissioner of Income-tax(2) it was held that the normal
dividend is neither paid nor credited by reason of the fact
that the dividend is declared. In this case, we are not
concerned with the problem of construction of s. 16(2) or
the interpretation of the word “paid” or “credited”. The
word “distributed” is not synonymous with the word “paid” or
“credited”. The three words are used in the Act in
different senses. Moreover, the policy of the legislature
on the question of the taxability of the dividend in the
hands of the shareholders has varied from time to time.
Subsection (2) of s. 16 was repealed and in its place, sub-
s. (IA) of s. 12 was introduced by the Finance Act, 1959
with effect from April 1, 1960, and the corresponding
provision is to be found in s. 8 of the Income-tax Act,
1961. Under s. 12(IA) of the Incometax Act, 1922 and s. 8
of the Income-tax Act the declaration of
[1964] 53 I.T.R. 83, 90. (2) [1965] 1 S.C.R.
307.
15
dividend is crucial even for purposes of assessment of the
shareholders. The legislature thus recognises now that the
distribution of the normal dividend takes place on the
declaration of the dividend.
In the instant case, the resolution for the reduction of
the capital of the company and the consequential refund of
the surplus capital to its shareholders took effect on
November 4, 1954. Consequently. the distribution of the
dividend as defined by s. 2(6A)(d) took place on November 4.
1954, i.e. during the previous year corresponding to the
assessment year 1955-56. It is true that during the
accounting year ending November 30, 1954. the company did
not pay any dividends, nor make any book entries with regard
to reduction of capital or with regard to refund or payment
of surplus capital. But the company incurred on November
4, 1954 the legal liability to make the refunds and the
distribution must be deemed to have taken place on November
4, 1954, though n0 book entries were made and no payments
were made on that date. In view of the fact that the
distribution took effect on November 4, 1954, the company
was bound to make necessary entries in their books on
November 4, 1954 showing the reduction of capital, and was
also bound to show the reduction in its balance sheet for
the year ending November 30, 1954. Irrespective of its
method of book-keeping, the company incurred on November 4,
1954, the legal liability to make the refunds. The method of
bookkeeping is not relevant, but, were it so, it is
pertinent to remember that the accounts of the company were
kept on the mercantile basis. That system of accounting
brings into debit an expenditure the amount for which a
legal liability has been incurred before it is actually
disbursed. See Keshav Mills Ltd. v. Commissioner of Income-
tax, Bombay(1).
In conclusion, we must point out that the revenue
authorities should have, but in fact have not fixed the
amount of the dividend by reference to the accumulated
profits on November 4, 1954. when the resolution for
reduction of capital became effective, or by reference to
the accumulated profits brought forward on December 1, 1953
at the commencement of the accounting year during which the
reduction of capital took effect. Instead, the revenue
authorities took into account the accumulated profits on
December 1, 1954, that is to say, the date of the
commencement of the subsequent accounting year during which
the dividends were paid. The amount of the accumulated
profits as on December 1, 1954 was fixed by the Income-tax
Officer at Rs. 8,42,337, and was subsequently reduced by the
Tribunal to Rs. 4,69,244-13-0. The revenue authorities
rightly assumed that the distribution and the ascertainment
of the accumulated profits to the extent of which the
distribution is deemed to be dividend under s. 2(6A)(d) took
place
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during the same accounting year, but they erred in holding
that the accounting year commencing on December 1, 1954 is
the relevant year.
In our opinion, the High Court was in error in holding
that dividends under s. 2(6A)(d) were distributed during the
previous year corresponding to the assessment year, 1956-
57. We think that the dividends, if any, under s. 2(6A)(d)
were distributed in the previous year corresponding to the
assessment year 1955-56. and the fourth question should be
answered accordingly. The appeal is allowed in part to this
extent. In view of the divided success, we direct that the
parties will pay and bear their own costs in this Court and
in the Court below.
ORDER BY COURT
In accordance with the majority Judgment, the appeal
fails and is dismissed with costs.
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