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PETITIONER: J.K. WOOLLEN MANUFACTURERS

       Vs.

RESPONDENT: COMMISSIONER OF INCOME-TAX, U.P.

DATE OF JUDGMENT: 02/08/1968

BENCH: RAMASWAMI, V. BENCH: RAMASWAMI, V. SHAH, J.C. GROVER, A.N.

CITATION:  1969 AIR  609            1969 SCR  (1) 525  CITATOR INFO :  RF         1970 SC1076  (8)  R          1973 SC 520  (9)  D          1976 SC 640  (11)

ACT: Income-tax  Act (11 of 1922), s. 10(2)(xv)---Commission  to employee   higher  when  profits  exceed   a   lakh--Whether deductable from employer’s assessable income.

HEADNOTE:     The  assessee--a  Mill,  appointed  V,  as  its  General Manager,  on a salary of Rs. 1000/- p.m., and car  allowance of  Rs. 250/- p.m., plus commission  of 121/2-% on  the  net profits  of the firm and in case the profits exceeded Rs.  1 lakh, the commission payable was 25%.  In the first year  of the appointment the mill suffered loss, next year commission was  paid  at of the profits, and the next  year  commission paid was 25% as the profits exceeded the figure  stipulated. After the death of V, one of the Directors was appointed  to manage  its  affairs and given a total remuneration  of  Rs. 24,000/-  per  annum  and the post of  General  Manager  was abolished..   The  assessee  claimed  deduction   from   its assessable income the amount paid to V at the rate of 25% of the  profits.  The Income-tax Officer disallowed  the  claim and  determined  Rs. 5,000/- as reasonable  amount  payable. Against the amount disallowed, the assessee appealed to the. Appellate  Assistant Commissioner, who allowed   payment  of commission at 121/2% as in its view that rate was reasonable considering the practice in similar ’business concerns.  The assessee  appealed to the Appellate Tribunal and the  appeal was dismissed.  The Tribunal took the view that the’ General Manager  carried  ’responsibility  equal  to  that  of   the Director,  the  commission  paid  to V,  in  excess  of  Rs. 24,000/-  per  annum,  i.e.,  the.  amount  paid  as   total remuneration  to the Director, was not really  paid.  wholly for the purpose of carrying on business.  On reference,  the High Court answered the question against the assesaee.   The assessee  in appeal to this Court contended that the  higher rate  of  commission on profits was inserted to  create  the interest  of V, who had special aptitude and  experience  in the line and the mill was running at a loss and it was  only

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after  sometime of V’s taking over that the mill made  large profits, so the amount paid to V, was an amount laid out  or expended  wholly  or  exclusively for  the  purpose  of  the business of the assessee, and it was wrongly disallowed.     HELD: In the circumstances established by the  assessee, the  entire  amount  paid to V, was an amount  laid  out  or expended  wholly  and  exclusively for the  purpose  Of  the assessee.     In  applying  the  test  of  commercial  expediency  for determining   whether   an  expenditure   was   wholly   and exclusively  laid  out for the purpose  of  the._  business, reasonableness  of the expenditure has to be  adjudged  from the point of view of the businessman and not of the  Income- tax  Department.  It is, of course, open  to  the  Appellate Tribunal  tO  come to a conclusion either that  the  alleged payment  is  not  real or that it is  not  incurred  by  the assessee in the character of a trader or it is not laid  out wholly  and exclusively for the purpose of the  business  of the assessee and to disallow it. But it is not the  function of the Tribunal to determine the remuneration which in their view  should  be paid to an employee Of  the  assessee.   An employer  in  fixing the remuneration of  his  employees  is entitled to consider the extent of his business, the  nature of  the duties to be performed’ and the special aptitude  of the employee, future prospects of extension by 526 the business and a host of other related circumstances.  The question as to whether an amount claimed as expenditure  was laid  out or expended wholly or exclusively for the  purpose of  business,  profession or vocation as required  under  s. 10(2)  (xv) of the Income-tax Act has to be decided  on  the facts  and  in  the  light  of  the  circumstances  of  each particular   case.   But  the  final   conclusion   on   the admissibility  of an allowance is one of law. [529 D;  529H- 530 C]     C.I.T. Bombay v. Walchand & Co. Private Ltd. 65   I.T.R. 381, applied to..     Swadeshi  Cotton  Mills  Co. Ltd.  v.C.I.T.,   U.P.   63 I.T.R.  57, referred to.

JUDGMENT: CIVIL APPELLATE JURISDICTION: Civil Appeal No. 591 of 1967.     Appeal  by  special leave from the judgment  and  order, dated May 22, 1962 of the Allahabad High Court in Income-tax Reference No. 424 of 1958. M.C. Chagla and B.P. Maheshwari, for the appellant. B. Sen, B.D. Sharma and R.N. Sachthey, for the respondent. The Judgment of the Court was delivered by     Ramaswami,   J.   The  appellant   (hereinafter   called the ’assessee’) carried on the business of manufacture   and sale of blankets and other woollen cloth. For the assessment year 1948-49 the assessee claimed a deduction of Rs.  75,465 as  commission paid to the General Manager Shri J.P.  Vaish. According to the terms of appointment Shri J.P. Vaish was to draw a fixed salary of Rs. 1,000 p.m., commission of 12-1/2% on  the net profits of the firm payable after  the  accounts had  been  ascertained fully  by  the’ auditors  and  a  car allowance  of Rs. 250 p.m.  It was one of the terms  of  the appointment  that in case the profits exceeded Rs.  1  lakh, the commission payable to Shri J.P. Vaish was 25%. Shri J.P. Vaish  was also given free medical facility for himself  and the  members  of  his family.  In terms of  the  letter   of appointment  Shri Vaish got no commission in the first  year

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as  the mill suffered a loss.  In the next year  the  profit being less than Rs. 1 lakh, Shri Vaish received a sum of Rs. 4,063 as commission.  For the. assessment year 1948-49,  the assessee paid a sum of Rs. 75,465 as commission to Shri J.P. Vaish  calculated  at the rate of 25% on the  profits.   The assessee  claimed  deduction  of the said  amount  from  the assessable income.  By his assessment order, dated June  30, 1949,  the  Income Tax Officer disallowed the claim  on  the ground that it was excessive and quite unreasonable  looking to  the  salary paid to Shri Vaish. He also  found  that  no general  practice of giving commission at the rate of  25  % existed  in  the assessee’s line of business.   Taking  into account  the  circumstances  of the  case,  the  Income  Tax Officer determined a sum of Rs. 5,000 as a reasonable amount payable  as  commission.  Against  the  disallowance of  Rs. 70,465 paid as  commission to  the  General 527 Manager,  the assessee preferred an appeal to the  Appellate Assistant Commissioner of Income Tax who by his order, dated October  31,  1949 found that Rs. 5,000 was  not  sufficient and   it  was reasonable to allow the payment of  commission at  the  rate   of 121/2%.   He  accordingly  increased  the commission  payable  from Rs. 5,000 to Rs.  37,732  in  that year.  The  assessee took the matter in appeal to the Income Tax  Appellate Tribunal which by its order, dated  July  10, 1950  dismissed the appeal.  As directed by the High  Court, the  Appellate Tribunal submitted a statement of case  under s.  66(2)  of the Income Tax Act,  1922   on  the  following question of law :--                     "Whether  in  the circumstances  of  the               case,  the  sum  of Rs.  37,733  paid  to  the               General  Manager  Shri J.P. Vaish,  which  has               been  disallowed by the  income-tax  Appellate               Tribunal  was an amount laid out  or  expended               wholly  or exclusively for the purpose of  the               business of the assessee ?" By its judgment, dated May 22, 1962, the High Court answered the question against the assessee.  Against the judgment  of the  High  Court the present appeal is  brought  by  special leave.     Section  10(2)(x) and 10(2)(xv) of the Income  Tax  Act. 1922 at the relevant time read as follows:                     "10(2) (x): any sum paid to an  employee               as bonus or commission for services  rendered,               where such sum would not have been payable  to               him   as  profits  or dividend if it  had  not               been paid as bonus or commission:                      Provided  that the amount of the  bonus               or  commission is of a reasonable amount  with               reference to--                   (a)  the  pay  of  the/employee  and   the               ,conditions of his service;                   (b)   the   profits   of   the   business.               profession   or  vocation  for  the  year   in               question; and                   (e)   the  general  practice  in   similar               business profession.or vocations;       10(2)(xv):   Any expenditure (not being in the  nature of capital expenditure or personal expenses of the  assessee laid  out or expended wholly or exclusively for the  purpose of such business, profession or vocation."     It  was contended on behalf of the assessee that in  the circumstances of this case the amount of Rs. 37,733 paid  to Shri J. P. 528

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Vaish  was  an  amount  laid  out  or  expended  wholly   or exclusively for the purpose of the business of the  assessee and  was  wrongly disallowed by the Income   Tax   Appellate Tribunal.   It  was pointed out that Shri J.P. Vaish was  in no  way  related  to the proprietors of  the  firm  and  the commission  on  profits clause was inserted  to  create  the interest of Shri J.P. Vaish in the running of the mill which was  "old and unbalanced" and had never worked  continuously or  satisfactorily  before  it  was  taken  over   by    the assessee.   During  the first 14 months the  mills  made  no profit  and  Shri  J.P. Vaish was paid  nothing  beyond  his salary  and  car  allowance.   In  the  next  12  months  he succeeded in securing an order for Lohis from Government and so the mill made some profit and the amount of the Manager’s commission  was proportionately very small in terms  of  the agreement.  The large profit in 1946-47 was made due to  new design of civilian rugs Shri Vaish introduced for the  first time  in  the  mill after studying  public  tastes  and  the qualifies  and designs  prevailing  in  the market.  It  was also said that Shri Vaish had a special aptitude to show  in his  work  so  far as the marketability  of  the  goods  was concerned.  After the death of Shri Vaish in July 1947,  the firm  was  converted into a company and the  post   of   the General  Manager was abolished and one of the Directors  who managed the affairs of the company was given Rs. 18,000  per annum as remuneration and Rs. 6,000 per annum as   allowance for   the .accounting year 1947-48.  The Appellate  Tribunal took  the view that the post of General Manager carried  the responsibility  equal to that of the Director who was  given the  charge  of the conduct of business after the  death  of Shri  Vaish,  the  General Manager.  Tiffs  post  carried  a remuneration  of  Rs. 18,000 plus Rs. 6,000, i.e.,  a  total remuneration  of  Rs.  24,000 per annum  and  therefore  the commission paid to Shri Vaish in excess of tiffs amount  Was not  really  paid  wholly for the  purpose  of  carrying  on business.  But it was pointed out on behalf of the  assessee that Shri J.P. Vaish had taken over the mill at a time  when it was  old  and dilapidated and in the first 14 months  the mill  made no profit and Shri Vaish was paid nothing  beyond the  salary  and car allowance. the succeeding year  he  was able to secure an order from the account of ,which the  mill made some profit. Shri Vaish introduced for the first time a new design of civilian rugs in the year 1946-47 during which a  large  profit was made.  It was  therefore  contended  on behalf  of the assessee that the position of Shri Vaish  who worked in the mill at the initial stage and of the Managing- Director was not comparable and the Appellate  Tribunal  was wrong  in  taking  this  circumstance  into   consideration. Counsel  for the assessee also pOinted out that  Shri  Vaish Was educated in a Public School at Dehra Dun and  thereafter studied  at  the  Benaras College  and  at  the  Engineering COllege  of  the Benaras Hindu University for Electrical and Mechanical Engi- 529  neering  and  then joined the Commerce  College  at  Delhi. After  hat he had training in the Aluminium  Corporation  of India  Ltd.  Lakshmi Rattan Cotton Mills Ltd. and  the  Road Products  Ltd.,Ramput.  ln view of the circumstances of  the case it was urged on behalf of the assessee that the  entire amount  of Rs. 75,465 paid to Shri Vaish was an amount  laid out  wholly and exclusively for the purpose of the  business of  the assessee within the meaning of s. 10(2)(xv)  of  the Income Tax Act, 1922. We should make it clear that in this case we are not  called upon to decide whether the Income Tax Officer could exercise

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the power he exercised under s. 10(2) (x) of the Income  Tax Act.  The question referred by the Tribunal and answered  by the High Court only deals with the claim of deduction of the amount  paid to Shri J.P. Vaish under S. 10(2)(xv)  and  not under. s. 10(2) (x) of the Act. The question as to whether an amount claimed as  expenditure was  laid  out  or expended wholly or  exclusively  for  the purpoSe  of  business, profession or  vocation  as  required under s. 10(2)(X.v) of the Income Tax Act has to be  decided on the facts and in the light of the circumstances of   each particular   case.   But,   as observed  by  this  Court  in Swadeshi Cotton Mills Co. Ltd. v. C.I.T., U.P.(1), the final conclusion  on the admissibility of an allowance is  one  of law.   In  the present case, both  the  Appellate  Assistant Commissioner and the Appellate Tribunal rejected the view of the Income Tax Officer that the rate of commission .paid  to Shri   Vaish   was  not  fixed  on   account   of   business considerations  but there was some collateral  reason.   But considering  the practice in similar business concerns,  the Appellate Assistant Commissioner expressed the view that the rate of 121/2 % commission was reasonable and the  allowance was  therefore restricted to half of the amount  claimed  by the   assessee.   The  view  of  the   Appellate   Assistant Commissioner  has been affirmed by the Income Tax  Appellate Tribunal.   The  case of the assessee, however,  is  that  a higher  rate  of commission of 25% was fixed for  Shri  J.P. Vaish because the mill was old and dilapidated and it  never made  profit of even a lakh of rupees in the past  and  that the  rate  of  25%  was fixed in  order  to  create  special interest  of the General Manager for accomplishment  of  the task  entrusted  to him.  In our opinion, neither  the  High Court   nor  the  Appellate  Tribunal  has     applied   the proper  legal test in this    case. As pointed out  by  this Court  in C.I.T. Bombay v. Walchand & Co. Private Ltd.,  (2) in   applying   the  test  of  commercial   expediency   for determining   whether   an  expenditure   was   wholly   and exclusively  laid  out  for the  purpose  of  the  business, reasonableness  of the expenditure has to be  adjudged  from the point of view of the businessman and not (1) 63 I.T.R. 57. (2) 65 I.T.R. 381. 530 of   the Income Tax Department.  It is, of course,  open  to the  Appellate Tribunal to come to a conclusion either  that the  alleged   ..  payment is not real or  that  it  is  not incurred  by the assessee in the , character of a trader  or it is not laid out wholly and exclusively for the purpose of the  business of the assessee and to disallow it. But it  is not   the  function  of  the  Tribunal  to   determine   the remuneration  which  in  their view should  be  paid  to  an employee  of the assessee.  It was also pointed out in  that case  that  an employer in fixing the  remuneration  of  his employees  is  entitled  to  consider  the  extent  of   his business,  the nature of the duties to be performed and  the special  aptitude  of the employee,  future   prospects   of extension  by  the business and a host  of   other   related circumstances.   In  our  opinion,  the  principle  of  this decision applies to the present case and it must accordingly be  held  that  in  the  circumstances  established  by  the assessee   the   entire  amount  of Rs. 75,465 paid  to  the General  Manager Shri J.P. Vaish was an amount laid  out  or expended  wholly and  exclusively  for  the purpose  of  the business of the assessee.     For  the reasons expressed we hold that the question  of law  referred  to  the High Court must be  answered  in  the

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manner indicated and this appeal is accordingly allowed with costs. y.p.                                      Appeal allowed. 531