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PETITIONER: M/S AMALGAMATION PVT. LTD.

       Vs.

RESPONDENT: COMMISSIONER OF INCOME TAX,MADRAS

DATE OF JUDGMENT:       25/04/1997

BENCH: S.C. AGRAWAL, K.S. PARIPOORNAN

ACT:

HEADNOTE:

JUDGMENT:   W I TH       CIVIL APPEALS NOS. 7-11 OF 1980       JU D G ME N T S.C. AGRAWAL, J. :-      These appeals, by certificate of fitness granted by the Madras High  Court under  Section 66(A)(2) of the Income Tax Act, 1922(hereinafter  referredto  as ’the  1922 Act’) and Section261 of the Income Tax Act, 1961(hereinafter referred to  as’the  1961  Act’)  read with  Article133  of the Constitution of India,are directed against the Judgment of the Said  High Court  dated March  1, 1976 in Tax CasesNos. 160 of1969 and 239 of1971 (References Nos. 52 of 1969 and 1 of T.C. No. 160 of 1969      "(1) Whether,  on the  facts and in      the circumstancesof the case, the      Tribunal was rightin upholding the      basis of  valuation adopted  by the      Income-taxofficer for the  shares      inMessrs. Sri Rama  Vilas Service      (Private) Ltd.  as on  January  1,      1954?      (2) Whether,  on the  facts and  in      the circumstancesof the case, the      Tribunal was  right in holding that      the proviso  to section  12B(2) has      noapplication  in regard to  the      sale of  shares to M/s  Simpson  &      Company Ltd ?"      T.C.No. 239 of 1971      "(1) Whether,  on the  facts and in      the circumstances of the case,  the      Tribunal was  right in holding that      the proviso  to section  12B(2) has      noapplication  in regard to  the      sale   various    sharesby   the      assessee-company to  M/s Simpson  &      General Finance  Co. (Private) Ltd.      and that  the assessee wasentitled      toa capital loss of Rs. 9,47,541/-      inthe assessment year 1958-59?

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    (2)  Whether, on  the fact and  in      the circumstancesof the case, the      Tribunal  was   right  in law  in      holding that  the second proviso to      section 12B(2)  had no  application      and that  the  full  value of  the      consideration accounted  for by the      assessee should not be altered ?"      These  questions  arise  in  the  following  facts and circumstances.      M/s Amalgamation  Private Limited (hereinafter referred to as  ’the assessee-Company’ )is a company incorporated on December 22,1938 as a private limited Company. The assessee- companyheld  shares in several companies,  such as simpson and Company  Ltd., Addison & Company Pvt. Ltd.,George Oakes (Private) Ltd., Addison Paints & Chemicals  private  Ltd., India pistons  Private ltd.,  etc. Out of the issued capital of Rs. 7,50,000shares of Rs. 10 in Simpson andCompanyLtd. the assessee-company  held, atthe material  time, 7,06,933 ordinary shares.  Simpson and  Company Ltd, hada subsidiary by name simpson and  General Finance Company (private)Ltd, Carrying on  the  business  offinancing  by  way  ofhire purchase transactions  to  outsiders and by wayof loans and advance  to the companies of this group. As onJuly 1,1956 a sum  of Rs.  1,85,16,000/- was  due to Simpson and General Financecompany (Private) Ltd. from the  assessee-company. Under Section 295 of the Companies Act,1956 which cameinto force on  April1,  1956 no company could, without obtaining the previous  approval of  the CentralGovernment  inthat behalf , directly or indirectly, make any loan to a company, which is its holding company . In sub-section (3) of Section 295 itis provided  that where any loan  madeby a lending companyand outstandingat the commencement of the companies ace, 1956,  could not  have been  made withoutthe previous approval of  the Central Government If that section hadthen been in force,then  the lending company had to, within six months from thecommencement ofthe Actor suchfurthertime not exceedingsix  months asthe Central Government might grant for  thatpurpose,  either obtain the approval of the Central Government   to  the  transaction  orenforce the repayment  ofthe  Loan   made.  The  liability  of Rs. 1,85,16,000/-  to   Simpson  and   General  Finance  company (Private )  Ltd. by theassessee-company was affected by the aforesaid provision  and, therefore, itbecame necessary for the asessee-company to liquidate this liability. Simpson and GeneralFinance Company (Private)  Ltd. owed  a sum  of Rs. 1,05,21,750/- to  Simpson and  Companyltd.  The  assessee- companyapproached  theGovernment  of India  for  necessary approval to  put through certain transactions sale of shares held by it tosimpsonand General Finance Company(Private) Ltd. in liquidation of the liability. Simpson and General FinanceCompany(Private) Ltd.,in its turn, would discharge its liability  to Simpson  and CompanyLtd. by selling its holdings to  simpson and  General Finance  Company (Private) Ltd. The  assessee-company as  well assimpsonand  General FinanceCompany (private) Ltd. proposed to sell the shares at certain specified price per share and soughtthe approval of theCentralGovernment  for such  sale  .The  Central Government, inapproving the sale, fixed its own prices and stated that  the said  fixationwas without prejudice to any valuation  ofsharesfor   purposesof   capital  gains. Thereafter  the shares held  by  theassessee-company  in variouscompanies  in respect  of which approval  hadbeen grantedby  theCentral Government were  transferred by the assessee-company to  Simpson  and  General  Finance  Company

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(Private )  Ltd. with  effect from June13,1957at the price fixed by  the Company  Law Administration  andSimpson and GeneralFinance company (Private) Ltd.sold part thereof to Simpsonand Company Ltd. The Transaction between Simpson and GeneralFinance Company  (Private)  Ltd.  andSimpson and CompanyLtd. was also at the same prices.      Insubmitting  itsincome tax return for the assessment year  1958-59, the  relevantprevious  yearendingJune 30,1957, the  assessee-company claimed a capital loss of Rs. 4,37,703/- in  respect of  theabove  the  transaction.  In arriving at  this lossthe assessee-company  opted for the substitution of the Market  Value as  on June1,  1954  in respectof shares in (1) S.R.V.S (Private) ltd., (2) Addison & Company  Ltd., (3)  George Oakes  (private Ltd.,  and (4) India Pistons  (Private) Ltd.  As regards  the rest  of the shares,the  assessee-company adopted  the cost prices. The Income Tax  Officer, while  making the assessment, proceeded on thebasis that  the pricestructure  approved  by the department of Company Law Administration for the transfer of the aforesaid shares was pure and simple on an add hoc basis and meant  to serve  the limited  purpose of  approval to be given under  section 372 of theCompanies Act, 1956 andthat the  price   at whichthe  sales  took  place couldnot, therefore, be  taken to represent thefair market value of the Shares.  Hetook  the break-  up value  as on January 1, 1954 for  the purpose  of computation  of capital  gains and revisedthe sale pricesand arrived at Rs. 6,95,082/- as the net   capital gains. Even according to his computation there were certain  capital determined  by him.  In  the  case  of S.R.V.S. (Private)  Ltd. the  Income Tax  Officer  took the break-up valueas on  January 1,1954 at Rs. 36,35,350/- and their sale value at Rs.21,88,395/- resulting in the capital loss ofRs. 14,46,955/-.      The assessee-company appealed against the assessment of the capital  gains to  the Appellate Assistant Commissioner. While the  saidappealwas pending,  the  Commissioner,  of Income Tax proceeded Under Section 33B of the 1922 Act as he was of the viewthat the order of the Income Tax officer was erroneous and  prejudicial to  the interest of revenue in so far ashe had wrongly allowed the capital lossamounting to Rs. 14,46,955/- on the sale  of  thesharesin  S.R.V.S. (Private) Ltd.After  considering  the submission  of the assessee-company,   the   Commissioner  held  that the appreciation in value of  the shares of Simpson and Company Ltd. held  by S.R.V.S.(Private) Ltd.should not havebeen taken into  account and if the value of the shares held by S.R.V.S.(Private) ltd.in Simpson  & Company  Ltd. ,  as on January1,1954had been  Rs. 24,38,578/- S.R.V.S. (Private) Ltd. would not have parted withthese shares atcost onJuly 31,1955. The  commissioner revised  thecapital loss of Rs. 14,46,955/- allowed by the Income Tax Officer and considered that there  wascapital gain liable  for assessment  of Rs. 3,91,579/-. This  figure was  directed to be substituted and the assessment of capital gainswas revised accordingly.      The assessee-company appealed against the said order of he Commissioner to the Tribunal contending  that thesale value fixed  bythe  Company law  Administration represented the correct  value of  the shares  and the transactionswere withoutany  motive toavoid capital gain and they hadbeen necessitated by the various provisionsof the Companies Act which prohibited  inter-companyloans  and that the  method adoptedby  theIncomeTax  officer,  viz.,  the  secondary valuation, wasproper.The  said appeal  was allowed by the Tribunal and the order of the Commissioner of Income Tax was set aside  and the  method adopted by the Income Tax Officer

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of Secondary  Valuationwas held to be proper, The Appellant Assistant Commissionertook upthe appeals of the assessee- companyfor  this and other years subsequent tothe order of the Tribunal  and following  the Tribunal’s  order he worked out the Capital loss  in respect  of the othershares under consideration and  in effect accepted the assessee-company’s claim of capital loss of Rs. 4,37,703/-. The said order led to appeals  both by  the assessee-company and the Revenue to the  Tribunal.The  assessee-company’s appeal related  to computation  of the  capital  loss  of Rs.  4,37,703/-  as emerging  from the  order   of  theAppellate  Assistant Commissioner instead  of Rs.  4,90,244/- whichwould be the correctfigure. The Revenue contested the acceptance of the Claim of  the assessee-company with reference to the capital loss  of Rs. 4,37,703/-as shown in thereturns.      Onthe  first occasion  when the matter come before the Tribunal; it  remanded the  case to  the Appellate Assistant Commissioner and  called for  aspecific finding whether the sales under  consideration were effected with the object of avoidance of  tax or  reductionof liability totax andalso Wanted the  full value of considerationto be worked out, in case the first proviso to section 12B(2) of the1922 Act was held to be applicable.The Appellate AssistantCommissioner observed that there wasample evidence to show that thesale of shares was aforced one and that theassessee-company had no option  but to  comply withthe statutory provisions and that the evidence produced clearly established the assessee- company’s contention  that the sale wasnot motivated by any desire to  avoid capital  gainsand that the Revenue had not proved by any conclusive evidence that the motive underlying the transaction was  the  avoidance  or  reduction  of the liability to capital gains tax.He worked out the figures in accordance with the rules  framed under  the wealth Tax Act and  found   that  thepricesfixed  by  theCompany Law Administration were notvery much different from the figures worked out  byhim.  After  receivingthe  report  of the Appellate Assistant  Commissioner, theTribunal  considered the matter again and held that the proviso to Section 12B of the 1922  Act could  not be  invoked in the instant case as there was  no evidenceto support  theview  that the sales were effected with a view to avoid the provisions of Section 12B. The  Tribunal accepted  the contention of the assessee- companyand  held thatthe Revenue  was  not  justified  in computing the capital gains anddisturbing the figures fixed by theGovernment of  India. The  two questions referred in T.C. No.  160 of 1969 arise outof proceedings under Section 33B of the 1922Act, while questions Nos. land 2 referred in T.C. No.  239 of 1971 arise outof the order ofthe Tribunal in theappeal againstthe order of the Appellate Assistant Commissioner inrespectof the assessment year 1958-59.      Since thesecond question in T.C. No. 160 of 1969 and questions Nos.1 and  2 in T.C. No. 239 of 1971 raisedmore or less the same  issue, they were taken up together by the High Court.  After referring  to the  provisions of Sections 12b (2) and more particularly the first proviso to thesaid sub-section, the  High Court  has observed  that  the  first requisite for  the applicationof the said proviso, namely, that the  person to whom the sale is made should be a person with whom  the assesseeis directly or indirectly connected, was satisfied in the present case because the sale of shares to a subsidiaryof a subsidiaryis one to a person withwhom the assessee-company isdirectly or indirectly or indirectly connected. As regards the second requirement ofthe proviso, as to  whether the  sale was  effected with  the  object  of avoidance or  reductionof  theliability  of the  assessee-

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companyunder  that Section,  the High Court has pointed out that the  object with  which the transaction was put through was the avoidance or  reduction of  the liability to capita gains. According to theHigh Court, such a finding of taking the result  as if  it was  the object  would not satisfy the requirement ofthe first  proviso to  Section 12B(20 of the 1922 Act.  The High  Court was of the view thatthe tribunal had rightly  called fora finding on this pointspecifically from the  appellate Assistant  Commissioner. After referring to  the  finding  recorded   by  theAppellate  Assistant Commissioner, which  was accepted  by the Tribunal, that the Object of  the transaction  wasnot  toavoid or reducesuch liability to  capital gains tax, that the saleswas a forced case since  theassessee-company  had no optionand that the prices had beenfixed by the company law Administration, the High Court  held that  the first  proviso to  Section 12B(2) cannot be  attracted tothe present case. The High Court did not accept  thecontention  urged on  behalf of the Revenue that the  sale price  had beenfixed  by  thecompany law Administration on  ad hoc basisand, inthis context, it has observed that  the letter  dated May 18of 1957(Annexure G. VII.  At  the  remand  report  of  theAppellate  Assistant Commissioner)  clearly   shows   that the   company Law Administration worked  out the figures in consultation.with the Central  Board of  Revenue and whenthe assessee-company sold the  shares   at those  prices, itcould not be validly contended thatthe assessee-company  transferred the shares at certain  prices withthe object of avoidanceor reduction of liability  to capital  gains. On that view the High Court answered the  second question in T.C. No.160 of1969 and the second question in T.C.No.  239 of  1971 in the affirmative and against theRevenue.      Asregards the first  question inT.C. No. 160 of1969 which raises  the question of valuation, the High Courtfelt that onthe view it hadtaken as regards the second question it would  not survive for considerationbecausethe question of valuation  would be materialonly ifthe proviso applied. The High  Courthas,  however, considered  the said question and hasindicated the answer tothat question also. TheHigh Court has  expressed  the  view that  this  is a  case  of substantial holding andthat there is textual backing to the method adoptedby theIncomeTax  officer  and  that the Commissioner had  foundfault  with  it without  any  valid reason. The  High  Court,  therefore,answered  the  first question in  T.C. No.  160 of  1969 inaffirmative  and  in favour of the assessee-company.      Asregards the first question in T.C. No.239 of 1971, the High  Courtfelt that it did not require any independent treatment in  view of the answer given with regard to second question in  T.C. No.  160 of  1969 which  would answerthat question also. Therefore, that questionalso was answered in the affirmativeand in favour of the assessee-company.      Wehave  heard Shri  K.N. Shukla,the  learned  senior counselappearing  for the Revenue in support of the appeals in respect  of the  answers given by the High Court to these questions,. Having considered the submissions of the learned counsel, we  are of  the view  that the High Court to these questions, Having  considered the submissions of the learned counsel, we  are of theview that the High Court has rightly construed the provisions contained in the proviso to section 12B(2) of  the 1922 Actand, inview ofthe finding recorded by theAppellate Assistant Commissioner , which finding was accepted by theTribunal, that the object of the transaction was not to avoid  or reduce the liability to capital gains, the said proviso was not attracted. In our opinion, thesaid

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findingof  theHigh  Court does  not suffer  from any legal infirmity and  there is no ground  tointerfere  with the judgment of theHigh Court on this aspect of the case .      Wemay  now take  up the  appealsof  the Revenue  in respectof  questions Nos.  4, 5  and 6 in T.C.  No. 239 of 1971.      The   said   questions   were   as      follows:-      "(4) Whether,  on the  facts and in      the circumstancesof the case, the      Appellate Tribunalwas right in law      inholding that the loss sustained      by the   assessee on  account  of      standing guarantee to sembiam  Saw      Mills (Private) Std. (in  voluntary      liquidation) should  be allowed  in      1962-63  assessment   after  taking      into account  the amountsreceived      from  theliquidators  during  the      years 1959-60 to 1962-63 ?      (5) Whether,  on the  facts and  in      the circumstances of the case , the      Tribunal  was   right  in law  in      deleting  the   receiptsof   Rs.      1,41,000/-,  Rs.2,29,627/-,  Rs.      1,10,500/-and Rs.4,381/-from the      liquidators of  Sembiam  Saw  Mills      (Private) Ltd. (in   voluntary      liquidation), from the assessments      for  1959-60,  1960-61,1961-62  and      1962-63 respectively?      (6) Whether,  on the   facts and in      the circumstancesof the case, the      Appellate Tribunalwas right in law      inholding that an  amount of  Rs.      4,23,256/- representing  the  real      loss sustained  bythe  assessee on      account of standing  guarantee  of      Sembiam Saw  Mills (Private)  Ltd.      (in voluntary  liquidation)  should      beallowed in the assessment year      1962-63?"      There was a company by name Sembiam Saw Mills (Private) Ltd. (for short’SSM’),which was originally a subsidiary of Addison&  company (Private)  Ltd. On  and from February 1, 1954, the  assessee-company purchased  all the shares of SSM from M/s  Addison &  company (Private)Ltd,  and  SSMthus became the  direct subsidiary  of the  assessee-company. SSM had borrowed monies from the National Bank of India Ltd, and the assessee-company had guaranteed theloan tosaid company by thesaid Bank.  SSMwent  into liquidationsome time in 1995. For the purpose of overdraft facilities SSM executed a promissory note in favour of the assessee-company which was endorsed by  the assessee-company  to the  Bankalong with a separate guarantee  letter in  favour of  the Bank. When SSM went into  liquidation,the  assessee-company, as guarantor, was required  to clearthose overdrafts  in accordancewith the terms  of the  guarantee.  After  adjusting the  amount recovered from the liquidators,the sumdue to the assessee- companyfrom  the liquidated  company on account of thesaid overdraft was  Rs. 9,08,764/-.The assessee-company claimed this amount  asa  losswhich  arose in the Course  of and incidental to  its business  inthe assessment for the 1958- 59. There  werereceipts  by  the  assessee-company  in the course of  the liquidation  of SSM  in the  later years, The

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total amount  received came  toRs.  4,58,508,28 spreadover the relevant accountingyears for the assessment years 1959- 60 to  1962-63.The assessee-company relied on the clause in the memorandumof associationauthorising  it to  be the guarantor for  the loans and contended that thetransactions in question  sprang out of normal business transactions and hence the  losswas an allowable deduction in the assessment for 1958-59.  The Income  Tax Officer  held that the loss in question did not arise during the course of or incidental to the business  of the assessee-company and in his view it was at best a capital  loss which did not come within the scope of Section  12Bof  the1922  Act. In making the assessments for the years 1959-60to 1962-63  theIncomeTax  officer treatedthe  receipts from  theliquidator  as income  as  a protective  measure.   In  appeal  theAppellate  Assistant Commissioner did  not accept  the  claim  of  the  assessee- companyfor  allowance of  the loss  in1958-59as he was of the view  that it  was not  a loss  which arose during the course of or was incidental to its business. But the appeals for the years 1959-60to 1962-63 wereallowedin so far as they  related  to  thequestion  of  the  receipts  in the respective years  from the liquidator. As the guaranteeloss had  not  beenallowed as  adeduction  in  1958-59, the Appellate Assistant  Commissioner heldthat the  subsequent recoveries could  not be included in the total income in the later years.  The assessee-company  as well  asthe  Revenue Preferred appeals  against thesaid order  of the Appellate Assistant Commissionerbefore the  Tribunal.  The  Tribunal held that  the assessee-company had guaranteed the loan in the course of carrying on its own business and that theloss was  clearly  admissible  as  a deduction.  But  since the assessee-company had  received the lastof the paymentsfrom the  liquidator  in  the  previous  year  relevant  to the assessment year 1962-63 it washeld that the balance of Rs. 4,23,256/-  remaining  unrecoverable  represented  thereal business loss  allowable for the assessment year 1962-63. At the instance  of  the  Revenuethe  Tribunal  referred the aforementioned questions  Nos. 4,5  and6 for the opinion of the High Court.      The High  Court, while dealing with said questions, has observed that  the real pointin  issue  waswhether the guarantee that was executed in favour of the Bank in respect of theloan toSSM, the subsidiary of the assessee-company, was done  in the  course of itsown business. The High Court has referred  to its  earlier judgmentin Amalgamations  P. Ltd. V. Commissioner  of  Income  Tax, (1969)73  ITR380, whereinthe  nature ofthe business ofthe assessee-company has been considered andit has been held that the provisions of Section  23Aof  the1922  Act  were applicable  to the assessee-company  since  the  assessee-company’s   business includes  furnishing   guarantee  to   debts   borrowed  by subsidiary companies.  The HighCourt has held that thesaid findinggiven  in thatcase is clearly applicable  to the questions  under   consideration  before  it  and  that the assessee-company had  incurred the  loss in  carrying on its own business  which includes  furnishing guarantees to debts borrowed by  its subsidiary companies. According to theHigh Court, the  loss was allowable as a deduction in the year in which it  came to be ascertained and inthe instant case the High  Court   held  that  the  assessee-company couldhave ascertained whether  there wasloss in the transaction  of guarantee  only at  the  stage of  final  payment  by the liquidators which was received in the relevant previousyear for the assessment year  1962-63 and  that theTribunal was right  in   allowing  it  in  that  year,  TheHigh  Court,

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therefore, answered  questionsNos.  4,  5  and  6  in the affirmative andagainstthe Revenue.      After hearing  Shri Shukla on theappealsfiled by the Revenuein respect of these questions, we are unable tohold that the  judgment of  the High Court in  respect of  these questions suffers  fromany  legal infirmity. We, therefore, affirm the  answer given by theHigh Court to questionsNos. 4,5 and 6 referred to it . In the circumstances, it must be held that  Civil Appeals  Nos. 139-142of 1980filed by the Revenueare liable to be dismissed.      Wewould  now come to Civil  Appeals Nos.7-11 of1980 filed by  the assessee-company in relation to questionNo.3 in T.C.No. 239of 1971, which was as under :-      "(3) Whether,  on the  facts and in      the circumstancesof the case, the      Appellate Tribunalwas right in law      inholding that the  sums of  Rs.      437,066/-,  Rs. 90,896/-,   Rs.      1,08,978/-, Rs.  1,18,102and  Rs.      1,11,740/- are   admissible  as  a      deduction in the assessments of the      assessee for  the assessment  years      1958-59 to1962-63respectively ?"      The assessee-company  was a bulk shareholder in several companies and  in  therelevant  yearthere  were  sixteen companies. The assessee-companywas rendering certain common services  to  its  subsidiaries by  having  (1)  a  finance committee: (2)a liaison  office in  Delhi; (3)  an  export promotion department;  and (4) an internal audit department. The expenditure on account of maintenance of liaison office in  Delhi  andthe  departments  of  export  promotion and internal auditwas borne  by the  assessee-company and was recovered fromthe subsidiaries.  The finance committee was workingin  an advisory capacity to  the various subsidiary companies to  help them to carry  on  their  businessmore efficiently. All  purchase requisitions for the purchase of capitalequipment beyond  Rs. 500/- of each purchase and Rs. 2,500/-with  referenceto  purchase of raw materialswere submitted to  the finance  committee for their approval. The purposeof  such control was tojudiciously usethe funds of the company  tothe  best advantage of each company. Various data were  gathered before  such sanction  wasaccorded  or refused, Technical  matters orother matters  of management were also  referred tothe members of the finance committee who were experienced intheir respective fields. The finance committee  went through  the  financial  position  ofeach companydaily.The directors  of the  assessee-companywere also Directors/managers in thesubsidiary companies. As per the  service  agreements  between  them and  the  concerned subsidiary  company   they  were   entitled  to payment  of remuneration and also acertainpercentage of the profits as commission. Similar  service agreements had been entered by other directorsof the subsidiary companies whowere not the directors of the assessee-company. In view of the provisions of Section  198of the Companies Act, 1956, fixing a ceiling on theoverallmanagerial  remuneration at  11% of  the net profits of  the  company,  itwas  not  possible  for the subsidiary companies  to pay  the contracted remuneration to the persons  concerned. On  April  4,1959  the  Board  of Directors  ofthe  assessee-company  passed  a  resolution wherebyit  wasresolved  that the  remuneration payable  to nine directorsof the subsidiary companies would be paid to them in full in  accordance with  the terms ofthe contract respectively entered  into by them and the amount in  excess of themaximumamountpermissible under the CompaniesAct,

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1956 would be met by the assessee-company. Out of thesenine directors three were directors of theassessee-company and out of these three directors two were members of the finance committee, Noneof the other six directors of the subsidiary companies  was a  member  ofthe  finance  committee.  In accordance with the said  resolution  the  assessee-company paid diverse  amounts  to  thesaid  directors.  The  total amountsso  paid to  the several  persons for  the different years are  mentioned in question No.3.The assessee-company claimedthe  said amounts  as deductionunder Section 10 (2) (XV) of the 1922  Act for  theassessment  years 1958-59 to 1961-62and  under Section  37of  the 1961  Act  for the assessment year 1962-63. Before  the Income  Tax Officer it was not disputed thatthese paymentswere in respect  of services rendered  by  respective  persons  tothe  various subsidiary companies  of whichthey were directors/managers and that  no part  of the  payment could  be related  to any servicedirectly  rendered by  them to the assessee-company. It wassubmitted thatthough the services were rendered by them to other companies,  theyshouldbe  deemed  tohave rendered the  service to the assessee-company in view of the nexus between  the holding company and its subsidiaries, The Income Tax  officer did not accept this submission andheld that  the  excess  remuneration over  and  above  what was admissible under Section 198 ofthe Companies Act, which was not borne  by the  respective companiescould not be allowed as deduction   under  Section 10(2)(XV) of the1922 Act and Section37  ofthe  1961  Actas  expenditure wholly and exclusively incurred  for the purpose of the business of the assessee-company. It  was alsostressed that the resolution of the Board ofDirectors of the assessee-company was passed on April  4, 1959,  after the previous years relevant to the assessment  years   1958-59  and   1959-60,  On appeal the Appellate Assistant  Commissioner tookthe same  view, The matterwas  remanded  by  theTribunal  to  the  Appellate Assistant Commissionerfor consideration  and submission of report on  the points  mentioned in theorder of remand. The Appellate  Assistant   Commissioner  after   taking  further evidence submitted  his report wherein  he  reportedthat deduction may be allowed in respect of remuneration  paid to personswho  were directors of the assessee-company andwere membersof  thefinance committee, butsuch deduction could not beallowedin  respect  of remuneration  paid  by the assessee-company in  respect of the persons  who wereonly directors and  employees of  the  subsidiariesbut  neither directors of the assessee-company nor members of the finance Committee. TheTribunal was ofthe view that looking to the nature of  the business of the assessee-company of holding shares of  a number  ofsubsidiary companies and that it was lookingafter  the interest  and welfare  of those companies with aview toearn dividends,the whole of the expenditure referable to  the remunerationpaid bythe assessee-company was admissible as a deduction.      Rejecting the contention urged on behalf of the Revenue that the  assessee-company wasnot carrying onany business becausemerelyholdingof  investmentswould not constitute business, the  High Court  has held  that in view of Section 23A ofthe 1922  Act holding of investments, in appropriate cases, would  equally be  a business  as dealing in them and what is required is  that there  must be a real substantial and systematicor organised  course of activity or conduct with the set purpose ofearningprofit which isthe test for a business.  The High  Court has observed that the assessee- companyis  nota  mereinvestor in a single company but has investments  in sixteen  companies  and  had  taken  active

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Interest in thebusiness of these companies as is clearfrom the services  that hadbeen rendered in the shape of export promotion, liaison office at Delhi and internalaudit and it also rendered  consultation inrespectof  finance  by its directors meeting  every day with reference to the needs and requirements ofeach company and that it is nota case where the assessee-company  contenteditself with merely making an investment and looking for the dividend, The High Courthas, therefore, held that there  was a  business activity in the matter of  holding of  investments. While  dealing with the question whether  the expenditure that has beenincurred was wholly and  exclusivelylaid  out for  the  purpose  of the assessee-company’s business,  the HighCourt has  negatived the contentionthat the  said question is  purely  factual becausein  order to  be  deductible  the  expendituremust satisfytwo  tests: (1) the expenditure must be uncurred by the assessee  in his  capacity as a trader; and(ii) itmust be incidental  to the  carryingon of his business. TheHigh Court was of the view that there must be a nexus between the expenditure andthe business ofthe assessee. Applying these tests the  HighCourt  has held that  the  purpose  of the paymentin  thepresent case  was  only  to  take  out the subsidiary from an inconvenient situation in which it found itself as  a result  of statutory  change  restricting the remuneration  payableto  itas  director  and  that the expenditure had not   been incurred  wholly and exclusively for thebusiness of theassessee-company and itcould not be allowedas  deduction. The  alternativeclaim put forward on behalfof   the  assessee-company  that  at  any  rate the expenditure incurred bythe assessee-company inremunerating its own directors whowere also  members forthe  finance committee should be allowed as deduction as there is a nexus betweenthe  expenditure and  the business  of the assessee- companyin  rendering servicesto its subsidiaries, was not accepted  by   the  High  Court for  the  reason  that the resolution passed  by the assessee-company doesnot saythat the expenditurewas incurred for the purpose ofremunerating its own directors is so far asthey rendered services to it as members  of the  finance committee. The  High Court has observed that  the resolution treated the directors, whether they be the members  of the  finance committee or notas a class and with reference to allof themthe assessee-company incurred the  expenditure onlybecausethey  could  not  be remunerated tothat extent  bythe subsidiary companies and the fact that they weremembersof the finance committee had not been  takeninto account intaking over theremuneration payableto  them, Question No. 3 was, therefore, answered in the negative and against the assessee-company.      The  amounts   paid  by  the  assessee-company  to the directors of its subsidiary companies can be admissibleas a deduction  under   Section  10(2)(XV)of  the  1922 Act exclusively  for  the  purposes of  the  business"  of the assessee-company, Thisexpression  was also  used  in the IncomeTax  Act,  1918 in  U.K.  In  Atherton V.  British Insulated and  Helsby Cables Limited,  (1925) 10 TC 155(HL), Viscount  Cave,  L.C., has   thus   explained  thesaid expression:-      "..a sum  of moneyexpended, not of      necessity and  with  a  view  to  a      direct andimmediate benefit to the      trade, but voluntarily and  on the      grounds of commercial  expediency,      and   in order indirectly   to      facilitatethe  carrying on  of the      business,may   yet  beexpended

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    wholly  and   exclusivelyfor  the      purposes of the trade."      [p.191]      These observations have been referred to with approval by thisCourt while construing Section 10(2)(XV) of the1922 Act. [See  : Eastern  Investments Ltd.V.  Commissioner  of Income Tax, V. Chandulal Keshavlal & Co., (1960) 38 ITR601]      InTravancore Titanium Products Ltd. V. Commissioner of Income Tax,  Kerala, (966)  60 ITR  227,  thisCourt  while construing theexpression " for the purpose ofbusiness" in Section10(2) (XV) of the 1922 Act, hassaid :-      "The expenditure must be incidental      to the   business and   must   be      necessitated   or  justified   by      commercialexpediency.  Itmust  be      directly and  intimately  connected      with the  businessand  belaid out      bythe taxpayer inhis character as      atrader.  To  be  a  permissible      deduction,there  must bea direct      and intimate connection between the      expenditure and  the business  i.e.      between  the  expenditureand  the      characterof  the assessee  as  a      trader, and not asowner of assets,      even if  they  are assets of  the      business."      InThe  Indian Aluminium  Co. Ltd. V. Commissioner  of Income Tax,  (1972) 84ITR 735,  decided by  aConstitution Bench of  this Court,  the aforementioned  testlaid down in Travancore Titanium  Products ltd. V. Commissioner of Income Tax, Kerala (supra), was qualified in these terms :-      "In our  view, the test adopted by      this Court in TravancoreTitanium      case  that  to  be  a  permissible      deduction,there  must bea direct      and intimate connection between the      expenditure and the business; i.e.,      between  the  expenditureand  the      characterof  the assessee  as  a      trader, and not asowner of assets,      even if  they  are assets of  the      business’ needs  to be qualified by      startingthat if the expenditure      islaid  out  by  the  assessee  as      owner-cum-trader,    and     the      expenditure is really incidental to      the carrying on ofhis business, it      must be  treated to  have been laid      out by  him  as  a trader and  as      incidentalto hes business."      [p.747]      The High  Court, in  our opinion, has rightly proceeded on the basis that theremust bea nexusbetween expenditure and business ofthe assessee.      Shri T.  A. Ramachandran,the learned  senior  counsel appearing for  the assessee-company,  has submitted that the said test is satisfied in the present case since the purpose of thepaymentof  remuneration to  the  directors  of the subsidiary companies  was to  enable these companies toearn higher profitswhich would  bepassedon to  the assessee- companyas and by way  of dividends. The learned counsel has placed strong  relianceon the decisionof Bombay High Court in J.  R. Patel and Sons (P) Ltd. V. Commissioner of Income Tax, Gujarat,  69 ITR 782, and has urged that the High Court

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has committed  an   error in  distinguishing these  cases on ground that  they related  to managingagentswhereas the present caserelates  to   holding company   and its subsidiaries,  Shri  Ramachandran  hascontended  that the principle  laid down  in  thesaid  decisions is  equally applicable to acase ofholdingcompany.      Weare  unable toacceptthis  contention.  TheHigh Court, in  our opinion, has rightly  pointedout that the business  of   the  assessee-company   is  the holding  of investments any expenditure had  been incurred that  could have been  allowed as deduction. The expenditure incurred in paymentof  managerial remuneration  tothe directors of the subsidiary  companies  cannot  be  said to  be expenditure incurred in carrying onthe business ofthe assessee-company of holding  itsinvestments. The assessee-company couldhold its investments and earn  its dividends  the entire profits earned on  account of  their managerialremuneration paid by the  assessee-company  and  the assessee-company  wasonly entitled to dividend from the subsidiary company as andwhen declared, it  cannot be said that  there was  a direct and immediate connection  between the  expenditure incurred and the business  of the assessee-company. The decisions inTata Sons Ltd. V. Commissioner of Income Tax, BombayCity (supra) and J.R.  Pateland  Sons (P) Ltd. V. Commissioner of Income Tax, Gujarat  (supra) ar not applicablein the facts ofthis case.      InTata sons Ltd. V. Commissioner of Income Tax, Bombay City (supra)  the assessee was the managing agent of another companyand  under the managingagency agreement the asessee was tobe paid a commission at a certain ratewhich was to be computed  upon the  net profits  of the  managed company. During the  relevant years  the assessee  paid voluntarily certainsums  as half  share of the bonus which the managed company paid  to  some of  its  officers  and it  claimed deduction   of the  said amounts  underSection10(2)(XV) of the 1922  Act. The Bombay High Court upheld theclaim of the assessee for  such a  deductionon  theview  that  from the point of view of commercial principles what theassessee had done was  something which  had as  its object increasing the profitsof  themanaged company and  thereby increasing its own shares  oncommission  and,  therefore,  the  deduction claimedby  theassessee  was wholly and exclusively for the purposes of  its business  and was  anallowable  deduction under section 10(2)(XV) of the1922 Act. Whiledealingwith the contentionurged on  behalf of  the  Revenue  that the paymenthad  been madenot to the employees ofthe assessee but tothe employees  of a  managed company  -a  different entity altogether - theHigh Court has observed:-      "Here again if it can be shown that      there wasa veryimportant  nexus      between the  assessee  company  and      the    managedcompany   which      necessitated the  assessee company      making thepaymentto the employees      ofthe managed company, taken again      it would be  possiblefor  the      assessee company to satisfy us that      the expenditure  was one which fell      within   the   ambit   of Section      10(2)(XV).  Nowit   cannot   be      seriously disputed that the  bonus      was paid  by the managed company to      their   employees in   order   to      increase  the   efficiency of  the      order to increase the efficiency of

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    the  working  of  the  company.  An      increased efficiency    of   that      company would  incidentally  result      inhigherand better  profits, and      the assessee  company would  be  as      much interested  in the  working of      the  managed   company  being  more      efficient as  themanaged company      itself. Whatever tended toincrease      the profits  of the managed company      would also tend  to  increase  the      income and profits of theassessee      company, Therefore,  it  cannot  be      suggested that theassessee company      had an  indirect or ulterior motive      inmakingthis payment.  The  only      motive by which itwas actuated was      a purely  commercial and  pecuniary      one and  that wasto see that more      profits were  madeby  the managed      company so that its own commission      should thereby be increased."      [p.468]      Inthat  case there  was a direct nexusbetween the increased profits  of the managed company and the managerial commission payable to the assessee since the managing agency commission   was a  prescribed percentage of the net profits of themanagedcompany.  As indicated earlier,there was no such nexus  between the increased profit  of the subsidiary companyand theprofit earned by the assessee-company by way of dividend  onthe  shares held  by it in  the  subsidiary company.      InJ.R.  Patel and Sons (P)  Ltd,V.  Commissioner  of Income Tax,  Gujarat   (supra) the assessee wasthe managing agent and its managing directorwas also the director of the managed company.  Prior    tocominginto  force  of the Companies Act, 1956 on April 1,1956, he was getting monthly salary from  the assessee  and in  addition hewas  getting monthlyremuneration  as technical  adviser   of the managed companyas  well as  commissionat  a prescribed rate on the sale price  of healds and reedsmanufactured and sold by the managedcompany.  Afterthe  passing of the CompaniesAct, 1956, the  remunerationthat  could bereceived by  him was reducedand  hecould  not also be paid the commission. The assessee, therefore,  increased the  emoluments.  Thesaid excess paymentmade by the assessee was disallowed and the expenditure incurred  was restricted  to the amount that was being paid prior to coming intoforce of the companiesAct, 1956. The  Gujarat High Court held  that the  assessee had paid extra  payment toits managing  director so  that the affairsof  themanaged company couldbe  properly  looked after and  thatas  a result ofthe remuneration the profits of themanagedcompany and the  shareof the commission of the assessee  increasedand,  therefore, the  excess  amount paid by the assessee to its managing directingwas expended wholly and  exclusivelyfor  the purpose of itsbusiness and was anallowable deduction  under Section 10(2)(XV)  of the 1922 Act,  Reliance was placedon the decisionin TataSons Ltd. (supra).  This wasalso a case where the profits of the assessee in  the form  of managing  agency  commissionwere directly linked to the profitof the managed company which is not the position in the present case.      The  alternative  claim  by  the  assessee-company for deduction in  respect of  the expenditure  incurred  by the assessee-company in  respect  of  amount  paidto  its own

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directors who were alsothe members of the finance committee has been  rightly rejected  by the HighCourt in view of the resolution  passed   by the  assessee-companywherein the directors, whether  they  be  the  members  ofthe  finance committee or  not, have been treated  as a  class andwith reference to  all of  them the assessee-companyincurred the expenditure only  because theycould not  be remunerated to that extent by the subsidiary companies.  The fact thatthey were directorsof theassessee-company and  members of the financecommittee  was not taken into account in takingover the remuneration  payable to  them.  In the  circumstances, Civil Appeals  Nos. 7-11  of 1980  filed  by  the  assessee- companyare also liableto be dismissed.      Inthe result, Civil Appeals Nos. 139-142 of 1980 filed by theRevenueand Civil Appeals Nos. 7-11 of 1980 filed by the assessee-company are dismissed. No order asto costs.