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PETITIONER: MADHYA PRADESH INDUSTRIES LTD.

       Vs.

RESPONDENT: THE INCOME-TAX OFFICER, NAGPUR

DATE OF JUDGMENT: 16/04/1970

BENCH: HEGDE, K.S. BENCH: HEGDE, K.S. SIKRI, S.M. SIKRI, S.M. MITTER, G.K. SHAH, J.C. GROVER, A.N.

CITATION:  1970 AIR 1039            1970 SCR  (3) 266

ACT: Indian   Income-tax   Act  (11  of  1922)   s.   34(1)(a) Circumstances  for  initiating proceedings under  s.  34(1) (a)-If open to challenge in a Court of law.

HEADNOTE: The  assessee  paid  commission to A,  one  of  its  selling agents, and claimed that amount as a revenue outgoing in the computation  of its profits for that year.   The  Income-tax Officer  made  the  order of  assessment  without  expressly referring to the said deduction but proceeding on the  basis that it was a permissible deduction.  Later, the  Income-tax Officer  issued notices under s. 34(1)(a) of the  Income-tax Act,  1922 stating that he had "reason to believe that"  the income of the assessee had escaped assessment and was under- assessed.   He sent a questionnaire to the assessee.   Since the  assessee  ,  did not reply to  the  questionnaire,  the income-tax  officer informed the assessee, that he  presumed that  no correspondence with A existed that no  service  was rendered   by   A  and  the  payments  made   were   without justification.  The assessee filed petitions under Arts. 226 and  227 of the Constitution for restraining the  Income-tax Officer  from  taking  any  action  on  the  notices.    The assessee’s  case  was that it had placed  all  the  material facts  before  the income-tax officer  that  the  Income-tax Officer   had  examined  those  facts  before   making   the assessments, and that the Income-tax officer had added  back the commission paid to another selling agent to the  profits of  the  assessee, but took no objection to  the  commission paid to A. The High Court dismissed the petition.   Allowing the assessee’s appeal, this Court HELD  :  The proceedings taken under s. 34(1)  (a)  must  be quashed.   Two  conditions  must be satisfied  in  order  to confer jurisdiction on the Income-tax Officer to issue  the notice  under  s. 34 of the Act in  respect  of  assessments beyond  the  period of four years, but within  a  period  of eight years, from the end of the relevant year, viz. (i) the Income-tax Officer must have reason to believe that  income,

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profits  or gains chargeable to income-tax had  been  under- assessed, and (ii) he must have reason to believe that  such "under-assessment"  had  occurred by reason  of  either  (a) omission  or failure on the part of the assessee to  make  a return of his income under s. 22 or (b) omission or  failure on the part of the assessee to disclose fully and truly  all the  material  facts necessary for his assessment  for  that year.  Both these conditions are conditions precedent to  be satisfied    before   the   Income-tax   Officer    acquires jurisdiction to issue a notice under the section.  If  there are  in  fact  some reasonable grounds  for  the  Income-tax Officer to believe that there had been any nondisclosure  as regards any fact, which could have a material bearing on the question  of under-assessment, that would be  sufficient  to give  jurisdiction  to the Income-tax Officer to  issue  the notice  under s. 34.  Whether these grounds are adequate  or not is not a matter for the Court to investigate.  In  other words,  the  sufficiency of the grounds  which  induced  the Income-tax  Officer to act is not a justiciable issue.   It is  of  course  open for the assessee to  contend  that  the Income-tax  Officer did not hold the belief that  there  had been such non-disclosure.  In other words, the existence of 267 the  belief can be challenged by the assessee, but  not  the sufficiency of the reasons for the belief.  The  expression, "reason to believe" in s. 34 does not mean purely subjective satisfaction  on  the part of the Income-tax  Officer.   The belief  must be held in good faith-, it cannot be  merely  a pretence.   It is open to the court to examine  whether  the reasons  for  the  belief have a rational  connection  or  a relevant bearing to the formation of the belief and are  not extraneous or irrelevant to the purpose of the section.   To this limited extent, the action of the Income-tax Officer is starting  proceedings  under  s. 34 of the Act  is  open  to challenge in a court of law. [273 E-H; 274 A-C] Calcutta   Discount  Company  Ltd.  v.  Income-tax   Officer Companies  Dist.   1 and another; [1961] 2  S.C.R.  241;  S. Nailayanappa   and  Ors.  v.  Commissioner   of   Income-tax Bangalore,  63  I.T.R. 219; Kantamani Venkata  Narayana  and Sons  v.  First Addl.  Income-tax Officer,  Rajahmundry;  63 I.T.R. 638, followed. In the present case, the assessee in its writ-petitions  had repudiated  the assertion of the Income-tax Officer that  he had  reason to believe, that due to the omission or  failure on  t he  part of the company to give material  facts,  some income  had escaped assessment.  Under  those  circumstances the  officer who issued the notices under s. 34(1)  (a)  was expected to file an affidavit setting out the  circumstances under  which he formed the necessary belief.   That  officer had  not  filed  any affidavit in  these  proceedings.   The proceedings  recorded by him before issuing the notices  had not  been  produced nor his report to the  Commissioner  and even  the  Commissioner’s sanction had  not  been  produced. Hence  it  was  not possible to  hold  that  the  Income-tax Officer had any reason to form the belief in question or the reasons before him were relevant for the purpose. [274 D-F]

JUDGMENT: CIVIL  APPELLATE  JURISDICTION: Civil Appeals Nos.  2419  to 2421 and 2423 to 2425 of 1966. Appeals  by special leave from the judgment and order  dated February 22, 1966 of the Bombay High Court, Nagpur Bench  in Special Civil Applications Nos. 140 to 142 of 1962.

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A.   K. Sen, G. L. Sanghi, Rameshwar Nath, for the appellant (in all the appeals). S.   C.  Manchanda, S. K. Aiyar and R. N. Sachthey, for  the respondent (in all the appeals). The Judgment of the Court was delivered by Hegde, J. In these appeals by special leave, the only  ques- tion  of  law  that  arises  for  decision  is  whether  the respondent was competent to initiate proceedings under S. 34 of  the Indian Income Tax Act, 1922 (which will  hereinafter be refer-red to as the Act). The respondent initiated proceedings under S. 34 of the  Act against the appellant by issuing notices under that  section on  December  26, 1960 in respect of  the  assessment  years 1953-54, 1954-55 and 1955-56.  The appellant challenged  the validity of 268 those  proceedings by means of a writ petitions  under  Art. 226  and  227  of  the Constitution in  the  High  Court  of Judicature  at Bombay (Nagpur Bench) . Those petitions  were summarily  dismissed. The appellant thereafter  appealed  to this  Court after obtaining special leave from  this  Court. This  Court allowed those appeals on April 8,  1965  holding that   the  High  Court  was  not  justified  in   summarily dismissing  the  writ  petitions  as  the  allegations  made therein  merited  examination.  Thereafter  the  High  Court issued rule nisi in those petitions.  The respondent opposed those petitions.  After hearing the parties, the High  Court again dismissed those writ petitions.  Hence these appeals. The  facts of the case material for deciding  these  appeals have  been  set out in detail in this  Court’s  order  dated April 8, 1965.  We shall briefly refer to them. The  above appeals relate to proceedings under S. 34 of  the Act  in  respect of three assessment periods.  It  would  be sufficient  if  we  set  out  the  facts  relating  to   the assessment  year 1953-54.  There is no dispute that  if  the proceedings  relating to that year are held to  be  invalid, similar  would  be the position  regarding  the  proceedings relating to the other two assessment periods.  On the  other hand, if they- are held to be valid, the same would be  true in respect of the other assessment periods. The  appellant, Madhya Pradesh Industries Ltd.  (hereinafter referred  to as the company), is engaged in the business  of mining  ,manganese  ore.   On March 18,  1952,  the  company appointed  M/s.   J.  K.  Alloys  Ltd.  (hereinafter  called ’Alloys’)  as  its  selling agents.   In  the  account  year relating to the assessment year 1953-54, the company paid as commission,  Rs.  1,13,052/8/9  to the  selling  agents  and claimed that amount as a revenue outgoing in the computation of  its profits for that year.  The Income-tax Officer  made the  order of assessment without expressly referring to  the said deduction but proceeding on the basis that it is a per- missible  deduction.  On December 26, 1960,  the  Income-tax Officer  issued a notice to the company in exercise  of  his powers  under  s.  34 of the Act reciting  therein  that  he having  "reason to believe that" the income of  the  company assessable to income-tax for the assessment year 1953-54 had (a)  escaped assessment and (b) under-assessed, he  proposes to  reassess the income that had escaped assessment  or  had been under-assessed.  He called upon the company to  deliver a  return of the total income of the company assessable  for the  said assessment year 1953-54.  In response to a  letter sent  by  the company, the Income-tax Officer  informed  the company  that the notice issued by him was under s.  34  (1) (a).   Thereafter there was some correspondence between  the Income-tax Officer and the company.  The Income-tax

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269 Officer  required  the company to give him  the  information called for in the questionnaire issued by him.  The  company did  not  send  any reply to  the  said  questionnaire.   On December  21,  1961,  the Income-tax  Officer  informed  the company that since the questions asked were not replied  to, he  presumed that no correspondence with Alloys existed  and the  payment  of  commission  had  been  made  without   any justification, Alloys having rendered no service as  selling agents. On  April  2,  1962, the company moved  the  High  Court  of Judicature of Bombay (Nagpur Bench) praying for the issue of a  writ of certiorari under Art. 226 of the Constitution  or an  appropriate  direction or order under Art.  227  of  the Constitution calling for the record of the case and for  the issue  of  writs in the nature of  Prohibition  or  Mandamus restraining the Income-tax Officer from taking any action or proceeding  in enforcement or implementation of  the  notice dated  December  26,  1960.   The  petition,  as   mentioned earlier, was rejected in limini. In the writ petition, the plea taken by the company was that in  issuing  the notice under s. 34(1) (a) of the  Act,  the Income-tax  Officer  acted without jurisdiction  and  for  a colourable  purpose.   Its  case  as set  out  in  the  writ petition is as follows In  its  return the company disclosed for  the  year  ending March  31,  1953  Rs.  15,70,587/-  as  its  total   profits according  to its books of account.  In the statement  under s.  38  (3) of the Act filed with the return, the  company disclosed  that it had paid Rs. 1,13,052/8/9 as  "commission sales"  "on  different dates" by cheques to Alloys  and  Rs. 6,091/4/- to J. S. Williams on October 4, 1952 by cheque  as commission on sales.  In the profit and loss account of  the company   filed   with  the  return,  the  amount   of   Rs. 29,76,067/10/8 was disclosed as received by "sales less com- mission".   On December 7, 1953, R. K. Gupta, a Director  of the  company made a statement before the Income-tax  Officer stating  that  the commission was paid to  Williams  on  the sales accounted for during the year ended March 31, 1953 and that  the  same  should be allowed  as  deduction  and  that "similar  was the case with the commission payable to J.  K. Alloys  Ltd., which had already been paid subsequently."  On February  21, 1954, the Income-tax Officer called  upon  the company  to  produce amongst other  documents,  certificates showing whether any receipt included in the income,  profits or  gains  had been credited or transferred to  any  assets, capital  account, or any other liability account, a  similar certificate  regarding  any credit  for  important  expenses claimed  under  the head "profit and loss A/c",  a  list  of buyers  with full addresses along with quantity, number  and net  proceeds of export business as well as Indian sales,  a statement  setting  out  full details of  various  items  of indirect expenses debited to profit 270 and  loss  account and a statement of expenses  grouped  and sorted  out  under  the  heads,  wages,  salary  and   other emoluments.   On  June  21,  1954,  the  company  filed  the certificates  and the statements demanded together with  the statement showing that out of the sale proceeds,  commission paid  to  Alloys and J. S. Williams was  deducted.   In  the course,  of  the assessment proceedings, R.  S.  Agarwal,  a representative of the company appeared before the Income-tax Officer  and agreed that the commission "debited as paid  to Williams  may be added back’ and about Alloys he  said  that the  commission  "had  already been  paid".   Thereafter  on

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February  14, 1955, the assessment of the company  was  com- pleted  by the Income-tax Officer.  The  Income-tax  Officer rejected  the commission said to have been paid to  Williams and  added  back  that amount to the gross  profits  of  the company.  He took no objection to the commission paid to the Alloys. The case pleaded by the company in the writ petition is that it had placed before the Income-tax Officer all the material facts;  the Income-tax Officer before making the  assessment had  examined  those  facts  and  was  satisfied  with   the explanation  given by the company.  The company denied  that the  Income-tax  Officer had any reason to believe  that  by reason of the omission or failure on the part of the company to  disclose fully ’and truly all material  facts  necessary for his assessment for the year in question income,  profits or  gains chargeable to income-tax have  escaped  assessment for that year or have been under-assessed.  The company dis- puted that the Income-tax Officer had any reason before  him to  have the required belief.  It also denied the fact  that it  had  omitted or failed to disclose fully and  truly  all material  facts necessary for the assessment in question  or that any income, profits, or gains chargeable to  income-tax have escaped assessment in that year.               Section  34(1) of the Act as at  the  relevant               time read               (a)     The Income-tax Officer has  reason  to               believe  that  by  Mason of  the  omission  or               failure  on the part of an assessee to make  a               return of his income under section 22 for  any               year  or  to  disclose  fully  and  truly  ail               material  facts necessary for  his  assessment               for  that  year,  income,  profits  or   gains               chargeable   to   income-tax   have    escaped               assessment for that year, or have been  under-               assessed,  or assessed at too low a  rate,  or               have been made the subject of excessive relief               under   the   Act,  or   excessive   loss   or               depreciation allowance has been computed, or               (b)   notwithstanding  that there has been  no               omission or failure as mentioned in clause (a)               on the part               271               of the assessee, the Income-tax Officer has in               consequence of information in his  ’possession               reason  to  believe that  income,  profits  or               gains chargeable to income-tax have been under               assessed  or  assessed at too low a  rate,  or               have been made the subject of excessive relief               under  this  Act, or that  excessive  loss  or               depreciation allowance has been computed. he may in cases falling under clause (-a) at any time within eight  years  and in cases falling under clause (b)  at  any time within four years of the end of that year, serve on the assessee, or, it the assessee is a company, on the principal officer,  thereof,  a notice containing all or  any  of  the requirements  which may be included in a notice  under  sub- section  (2) of section 22 and may proceed to assess or  re- assess such income, profits or ,gains or recompute the  loss or  depreciation allowance; and the provisions of  this  Act shall, so far as may be, apply accordingly as if the  notice were a notice issued under that subsection Provided that-               (i)   the Income-tax Officer shall not issue a               notice  under this sub-section, unless he  has               recorded  his  reasons for doing  so  and  the

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             Commissioner  is  satisfied  on  such  reasons               recorded  that it is a fit case for the  issue               of such notice;               (ii)  the tax shall be chargeable at the  rate               at  which it would have been charged  had  the               income,   profits   or   gains   not   escaped               assessment or full assessment, as the case may               be; and               (iii) where the assessment made or to be  made               is  an  assessment  made or to be  made  on  a               person  deemed  to  be the  agent  of  a  non-               resident  person under section 43,  this  sub-               section  shall  have  effect  as  if  for  the               periods of eight years and four years a period               of one year was substituted. Explanation.-Production  before  the Income-tax  Officer  of account-books  or other evidence from which  material  facts could with due diligence have been discovered by the Income- tax Officer will not necessarily amount to disclosure within the meaning of this, section." 272 In  Calcutta  Discount Company Ltd.  v.  Income-Tax  Officer Companies  Dist.   1 and another(1), this Court  ruled  that before  an Income-tax Officer could issue a notice under  s. 34 (1) (a) of the Act, two conditions must co-exist, namely, that he must have reason to believe (1) that income, profits or  gains had been under-assessed and (2) that  such  under- assessment  was due to non-disclosure of material  facts  by the assessee.  It was observed therein that where,  however, the  Income-tax Officer has prima facie  reasonable  grounds for  believing  that  there has been a  nondisclosure  of  a primary  material  fact,  that  by  itself  gives  him   the jurisdiction  to issue a notice under s. 34 of the  Act  and the  adequacy or otherwise of the grounds of such belief  is not  open  to  investigation by the court.  It  is  for  the assessee  who  wants  to  challenge  such  jurisdiction   to establish  that the Income-tax Officer had no  material  for such  belief.   Speaking  for  the  majority  Das  Gupta  J. observed therein               "To confer jurisdiction under this section  to               issue notice in respect of assessments  beyond               the period of four years, but within a  period               of  eight years, from the end of the  relevant               year  two  conditions  have  therefore  to  be               satisfied.   The first is that the  income-tax               Officer  must  have  reason  to  believe  that               income, profits or gains chargeable to income-               tax have ’been under-assessed.  The second  is               that he must have also reason to believe  that               such "under-assessment" has occurred by reason               of either (i) omission or failure on the  part               of an assessee to make a return of his  income               under  s. 22, or (ii) omission or  failure  on               the part of an assessee to disclose fully  and               truly  all  material facts necessary  for  his               assessment   for   that  year.    Both   these               conditions  are  conditions  precedent  to  be               satisfied before the Income-tax Officer  could               have  jurisdiction to issue a notice  for  the               assessment or re-assessment beyond the  period               of  four years but within the period of  eight               years, from the end of the year in question."               Proceeding further the learned judge observed               "The position therefore is that if there  were               in  fact some reasonable grounds for  thinking

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             that  there  had been any  non-disclosure  as,               regards  any primary fact, which could have  a               material  bearing on the question  of  ’under-               assessment’  that would be sufficient to  give               jurisdiction  to  the  Income-tax  Officer  to               issue the notices under s. 34.  Whether  these               grounds  were adequate or not for arriving  at               the conclusion that there was a non-disclosure               of material facts would not be open for-the (1)  [1961] 2 S.C.R. 241 273               court’s  investigation.  In other  words,  all               that   is  necessary  to  give  this   special               jurisdiction  is that the  Income-tax  Officer               had when he assumed ’ jurisdiction some  prima               facie grounds for thinking that there had been               some non-disclosure of material facts". Shah J. (one of us) in his dissenting judgment has  observed that the expression "has reason to believe" in S. 34(1)  (a) of  the  Indian  Income  Tax Act  does  not  mean  a  purely subjective  satisfaction  of  the  Income-tax  Officer   but predicates the existence of reasons on which such belief has to be founded.  That belief, therefore cannot be founded  on mere  suspicion  and  must  be based  on  evidence  and  any question  as  to  the adequacy of such  evidence  is  wholly immaterial  at that stage.  He further observed  that  where the existence of reasonable belief that there had been under assessment due to non-disclosure by the assessee, which is a condition  precedent  to  exercise of  the  power  under  s. 34(1)(a)  is  asserted by the assessing  authority  and  the record prima facie supports its existence, any enquiry as to whether the authority could reasonably hold the belief  that the  under-assessment  was  due  to  non-disclosure  by  the assessee  of  material facts necessary  for  the  assessment must, be barred. In  S. Narayanappa and ors. v. Commissioner of  Income  Tax, Bangalore(1),  this Court held that two conditions. must  be satisfied      in  order  to  confer  jurisdiction  on   the Income-tax  Officer to issue the notice under s. 34  of  the Act  in  respect of assessments beyond the  period  of  four years,  but within a period of eight years, from the end  of the relevant year, viz. (i) the Income-tax Officer must have reason  to believe that income, profits or gains  chargeable to income-tax had been under-assessed and (ii) he must  have reason to believe that such "under-assessment" had  occurred by reason      of either (a) omission or failure on the part of  the assessee to make a return of his income under S.  22 or  (b) omission or failure on the part of the  assessee  to disclose  fully and truly all the material  facts  necessary for his assessment for that year.  Both these conditions are conditions  precedent to be satisfied before the  Income-tax Officer  acquires jurisdiction to issue a notice  under  the section.   If there are in fact some reasonable grounds  for the  Income-tax Officer to believe that there had  been  any non-disclosure  as  regards  any fact, which  could  have  a material  bearing on the question of under-assessment,  that would  be sufficient to give jurisdiction to the  Income-tax Officer  to  issue the notice under S.  34.   Whether  these grounds are adequate or not is not a matter for the Court to investigate.  In other words, the sufficiency of the grounds which  induced  the  Income-tax  Officer to  Act  is  not  a justiciable issue.  It is of course open for the assessee (1)  63, I.T.E., 219 274 to  contend  that the Income-tax Officer did  not  hold  the

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belief  that there had been such nondisclosure.   In’  other words, the existence of the belief can be challenged by  the assessee but not sufficiency of the reasons for the  belief. Therein  it  was  observed that the  expression  "reason  to believe"   in  S.  34  does  not  mean   purely   subjective satisfaction  on  the part of the Income-tax  Officer.   The belief  must be held in good faith : it cannot be  merely  a pretence.   It is open to the court to examine  whether  the reasons  for  the  belief have a rational  connection  or  a relevant bearing to the formation of the belief and are  not extraneous or irrelevant to the, purpose of the section.  To this limited extent. the action of the Income-tax Officer in starting proceedings under s. 34  of  the  Act  is  open  to challenge in a court of law. The  same  view  was  again  expressed  by  this  Court   in Karitamani  Venkata  Narayana and Sons v.  First  Additional Income-Tax Officer, Rajahmundry (1). In  these  cases,  the company in  its  writ  petitions  had repudiated  the assertion of the Income-tax Officer that  he had reason to believe that due to the omission or failure on the part of the company to give material facts, some  income had escaped assessment.  Under those circumstances one would have  expected the officer who issued the notices  under  s. 34(1) (a) to file an affidavit setting out the circumstances under  which he formed the necessary belief.  We  were  told that  one  Mr. Pandey had issued the  notices  in  question. That  officer  had  not filed any affidavit  in  these  pro- ceedings.   The proceedings recorded by him  before  issuing the  notices  have not been produced nor his report  to  the Commissioner  or  even the Commissioner’s sanction  has  not been  produced.  Hence it is not possible to hold  that  the Income-tax  Officer  had any reason to form  the  belief  in question  or  the reasons before him were relevant  for  the purpose.   We  have  no basis before us  to  hold  that  the Income-tax  Officer had jurisdiction to issue, the  impugned notices.   Hence  the proceedings taken by him  have  to  be quashed. For the reasons mentioned above, we allow these appeals, set aside the order of the High Court and quash the  proceeding$ taken under S. 34 (1) (a) of the Act.  The respondent  shall pay the costs of these appeals-hearing fee one set. Y.P.                                 Appeal allowed. (1) 63, I.T.R. 638. 275