COMMISSIONER OF INCOME-TAX, BOMBAY v. M/S. ABDULLABHAI ABDULKADAR (J. J.,. KAPUR, M. HIDAYATULLAH and J. c. SHAH, JJ.) Income-tax-.,Commission Agent's liability to pay for non-resi- dent principal-Test of dediJctible business loss-Indian Income-tax Act, r922 (II of r922), SS. IO(I), I0(2)(xi), 42(I), 43.
The respondent was a registered firm carrying on business as commission agents, and for the purpose of income-tax it was treated as the agent of a non-resident principal doing business outside India. Under s. 42(1) of the Indian Income-tax Act the respondent was deemed to be the assessee and had to pay
Rs. 3,78,491 as income-tax on behalf of the non-resident princi- pal. After allowing for the amounts lying with the respondent- firm the account of the non-resident principal showed a debit balance of Rs. 3,20,162. The respondent treated this amount as a bad debt and claimed it as a deductible loss. The Income- tax Officer and the Appellate Assistant Commissioner disallowed the respondent's claim but the Income Tax Appellate Tribunal held it to be an allowable deduction being a bad debt incurred as a result of the respondent's business activities with the non- resident principal. The High Court treating the amount as a deductible business loss incurred by the respondent affirmed the decision of the Income-tax Tribunal. On appeal by the Commis- sioner of Income-tax,
Held, that the respondent was not entitled to the reduction claimed by it. The liability to pay imposed upon it under s. 42(2) of the Income-tax Act did not arise directly from the carrying on of the business nor was it incidental to the busine.ss. The loss was not a commercial loss incurred in the respondent- firm's own business but it arose out of the business of another person and that was not a permissible deduction within s. 10(1) or s. 10(2)(xi) of the Act.
Gresham Life Assurance Society v. Styles, (1892) 3 T. C. 185 (H. L.), referred to. Commissioner of Income-tax v. Sir S. M. Chitnavis, (1932) L. R. 59 I. A. 290, followed. Badridas Daga v. Commissioner of Income-tax, [1959] S.C.R. 69oand Curtis v. ]. and G. Oldfield, Ltd., (1925) 9 T. C. 319, dis- cussed.
Lord's Dairy Farm Ltd. v. Commissioner of Income-tax, Bom- bay, (1955} 27 I.T.R. 700, Calcutta Co., Ltd. v. Commissioner of Income-tax, [1959] 37 l.T.R. l and C.I.R. v. Hagart and Burn Murdoch, [1929] A.C. 386, not applicable.
uo I960 December 6. Cpmmissione, oj [1961) CryIL APPELLATE JURISDICTION: Civil Appeal No. 312 of 1959. Income-tax, Appeal from the judgment and order dated August Bombay 23, 1956, of the Bombay High Court in Income-tax
M /s. A~dullabhai Reference No. 21 of 1956. Abdulhadar Hardyal Hardy and D. Gupta, for the appellant. A. V. Viswanatha Sastri and I. N. Shroff, for the respondent. 1960. December 6.
The Judgment of the Court was delivered by Kapur. J. KAPUR, J.-This is an appeal by special leave brought by the Commissioner of Income-tax against the judgment and order of the High Court of Bom-
bay answering the question in favour of the assessee. The question referred by the Tribunal was : "Whether on the facts and in the circumstances of the case the amount of Rs. 3,20,162 is an allowable
deduction under Section 10(2)(xi) or 10(2)(xv) of the Income-tax Act?" which was amended by the High Court as follows : "Whether on the facts and in the circumstances of the case the amount Rs. 3,20,162 is an allowable
deduction" and was answered in the affirmative and against the appellant. The facts of the case shortly stated are these: The respondent is a registered firm carrying on business as .
commission agents. It was treated as the agent of a non-resident principal Haji :i\fohamed Syed Al Bar- bari of Port Sudan (hereinafter referred to as the 'non-resident principal'). It was carrying on the busi-
ness of export of cloth and kariana (i.e., miscellaneous goods) to Aden, Saudi Arabia and Sudan. It used to supply goods from India to the non-resident princi- pal, who on his part, was sending cotton to the res-
pondent and other merchants for sale in India. For the years 1942-43, 1943-44, 1944-45 and 1945-46, the respondent firm was treated as the agent of the non- resident principal under s. 43 of the Income-tax Act
jl! i (which will hereinafter be termed 'the Act') for ·the r96o Purpose of income-tax and Excess Profits Tax. The c :-·-:- ommissione1 o respondent firm had to pay m all Rs. 3, 78,491 under
Income-tax s. 42(1) of the Act and after allowing for the amounts Bombay ' which were in its hands the account of the principal v. non-resident showed a debit balance of Rs. 3,20,162. M/s. Abdullabhai For the year of assessment, 195f3-54, the respondent
Abdulkadar firm treated this amount as a bad debt and claimed it [(apur J. as a deductible loss to be set off against profits. The Income-tax Officer treating this claim as one under
s. 10(2)(xv) of the Act, disallowed it. The Appellate Assistant Commissioner treated it as one under s. 10 (2)(xi) of the Act and he also disallowed it. On appeal to the Income-tax Appellate Tribunal it was held to
be a bad debt and an allowable deduction as it was incurred as a result of the business activities which the respondent firm was carrying on with the non- resident principal. At the instance of the Commissio-
. ner of Income-tax, the case was stated to the High Court and the High Court modified the que_stion and answered the same in the affirmative, i.e., against the appellant. The High Court held that as the law im-
posed an obligation upon the respondent firm to dis- charge the liability and it was incidental to the busi- ness of the respondent the amount was a deductible loss; and even if it was not a debt, then also the
amount could be claimed by the assessee as a business or trading loss, because in arriving at the true profit of the respondent's business that loss had to be deduc- ted. The High Court thus applied s. 10(1) of the Act
to the amount claimed by the respondent. The allowability of the amount in dispute depends upon the nature of the liability imposed upon the respondent firm. The contention of the respondent's
counsel was that it was carrying on foreign trade and had dealings with a foreign merchant and in the course of the business there were imports and exports and therefore the inter-connection between the res-
pondent firm and the non-resident principal was so intimate as to invite the application of s. 42(1), i.e., the establishment of agency as contemplated in that section. The liability to pay arises under s. 42(2)
which provides : [1961] "Where a person not resident or not ordinarily f resident in the taxable territories carries on business ommsss1oner o , h "d Income-tax wit a person res1 ent m the taxable territories, and
Bombay ' it appears to the Income-tax Officer that owing to the v. close connection between such persons the course of M/•. Aba#llabhaibusiness is so arranged that the business done by the Abdulkodar
resident person witJi the person not resident or not Kapur 1. ordinarily resident produces. to the resident either no profits or less than the ordinary profits which might be expected to arise in that business, the profits deriv-
ed therefrom or which may reasonably be deemed to have been derived therefrom, shall be chargeable to income-tax in the name of the resident person who shall be deemed to be, for all the purposes of this Act,
the assessee in respect of such income-tax." Relying on this provision it was argued that the nature of the respondent's business was foreign trade which was inter-connected with the business of the
non-resident principal. Its nature was such as to attract the imposition of liability on the respondent firm under s. 42(2) of the Act and therefore the loss so incurred must be taken to be incidental to and arising
out of the business of the respondent. "The thing to be taxed", said Lord Halsbury, L. C., "is the amount of profits and gains. The word 'pro- fits' I think is to be understood in it8 natural and pro-
per sense-in a sense which no commercial man would misunderstand": Gretiham Life Assurance Society v. Styles ('). Hence even if a deduction is not speci- fically enumerated in sub-section (2) of s. 10 it would
still be a debitable item to reflect the taxable profits. The Privy Council in Commissioner of Income-tax v. Sir S. M. Ghitnavis (2) held that the Act nowhere authorises the deduction of bad debts of a business,
such a deduction is necessarily allowable because what is chargeable to income-tax in respect of a business are the profits and gains of a year and in assessing the amount of profits and gains of that year account must
necessarily be taken of all losses incurred, otherwise true profits and gains cannot be ascertained. In order (1) (1892) 3 T.C. 185, 188 1H.L.). (2) (1932) L.R. 59 I.A. 290, 296. that a. loss may be deductible it must be a. loss in the
r9io business of the assessee and not payment relating to c -. -. h 01nmissiontt o the busmess of somebody else which under t e prov1- Income-tax sions of the Act is deemed to be and becomes the liabi-
Bombay • lity of the assessee. The loss becomes allowable if it v. "springs directly from and is incidental" to the busi- M /s. Abdullabhai ness of the assessee. The decision therefore mainly
Abdulkadar depends upon whether the loss claimed is a business Kapur J. loss of that nature. In our opinion the amount which became payable by the respondent firm cannot be called its business loss. In order to be deductible the
loss must be in the nature of a commercial loss and, as has been said above, must spring directly out of it and must reaMy be incidental to the business itself. It is not sufficient that it falls on the trader in some
other ca.pa.city or is merely connected with his busi- ness. Counsel for the respondent relied upon a Judgment of this Court in Badrid,as Daga v. The Commissioner of Income-tax (1). In that case an agent of the assessee
engaged for the purpose of carrying on of the asses- see 's business hf.1.d authority to operate a bank account. Acting under such authority the agent withdrew from the bank monies and put them to his personal use.
The assessee was able to recover from the agent only a pa.rt of the amount misappropriated and the balance was written off as irrecoverable debt and it was held that it was not allo'"'.able under s. 10(2Xxi) or 10(2)(xv) of the Act but it was a loss deductible in computing
the profits under s. 10(1) of the Act as a loss inciden- tal to the carrying on of his business. Counsel relied on the following observation of Venkatarama Ayyar, J., at p. 695: "The result is that when a claim is made for a
deduction for which there is no specific provision in s. 10(2), whether it is admissible or not will depend on whether having regard to accepted commercial prac- tice and trading principles it can be said to arise out
of the carrying on of the business and to be incidental to it." That passage has to be read in the circumstances of (1) [1959] S.C.R. 690. (1961) '9 60 that c11-se where the employment of agents was inci-
Commissioner of dental to the carrying on of the business and it was In,ome-tax, observed that it logically followed that the losses Bombay which were incidental to such employment were also
v. . incidental to the carrying on of the business. At M /s. Abdullabha• page 696, it was observed:- Abdulkadar "At the same time it should be emphasised that Kapur J. the loss for which a deduction could be made under
s. 10( 1) must be one that springs directly from the carrying on of the business and is incidental to it and not any loss sustained by the assessee, even if it has some connection with his business."
Reference may also be made to an English decision in Curtis v. J. & G. Oldfield Ltd. (1). In that case the managing director of a company of wine and spirit merchants embezzled monies of the company and that
was claimed as-a loss as a bad debt and it was held that it was not a trading loss and was therefore not an admissible deduction. In that case the contention of the Crown was that the sum was not an ordinary
trading debt and therefore could not be a bad debt and that the loss was not connected with and did not arise out of the. trade. Rowlatt, J., said at p. 330: "When the Rule speaks of a bad debt it means a
debt which is a debt that would have come into the balance-sheet as a trading debt in the trade that is in question and that it is bad. It does not really mean any bad debt which, when it was a good debt, would
not have come in to swell the profit." In the present case the liability was imposed upon the respondent firm because it was treated as an agent within the meaning of s. 42(1) of the Act and the
liability was imposed because of the deeming provision in sub-s. (2) of s. 42 of the Act. Can it be said, in the present case, that the liability imposed upon the res- pondent firm was a business debt arising out of the
business of the respondent or to use the words of Venkatarama Ayyar, J., "springs directly from the carrying on of the business and is incidental to it or is a trading debt in the business of the respondent
firm." As we have said above, that condition has not (I) (1925) 9 T.C. 319. been fulfilled and the loss which the respondent r960 has ihcurred is not in its own business but the c
f h b . f h ommissioner o liab1hty arose because o t e usmess o anot er Income-tax, person and that is not a permissible deduction within Bombay s. 10(1) of the Act. It is not a loss which has to
v. be deducted in respect of the business of the respon- M/s. Abdullabhai dent from the profits and gains of the respondent's Abdulkaaar business. Kapur ]. Counsel for the respondent also relied on Lord's
Dairy Farm Ltd. v. Commissioner of Income-tax, Bom- bay (1). That was a case of embezzlement by an employee and it was held that the loss directly arose from the necessity of employing cashiers and
therefore the loss by embezzlement was a trading loss but in that very case it was held that before a claim could be made for deduction of a debt as bad debt it must be a debt in law. That case is
not applicable to the facts of the present case and is of little assistance in the decision of the question before us. Counsel for the respondent next relied on O<ilcutta Go., Ltd. v. The Commissioner of Income-
tax (g). It was held in that case that the expression "profits and gains" has to be understood in its com- mercial sense and that there could be no computation of profits and gains uhtil the expenditure necessary
for earning those profits and gains is deducted there- from and that when there is no specific provision in s. 10(2) in regard to claim made, ·its allowability will depend on accepted commercial practice and trading
principles and it will be allowed if it can be said to arise out of the carrying on of the business and is incidental to it. As a principle it is unexceptionable but it does not carry the matter any further.
It was next contended that the matter falls within s. 10(2)(xi) of the Act, i.e., it is in r~spect of the busi- ness. This contention has even less substance than the claim of deduction under s. 10(1).
Under cl. (xi) also a debt is only allowable when it is a debt and ~rises out of a~d as an incident to the trade. Except m money-lendmg trade debts can only be so described (1) [1955] 27 I. T.R. 700.
(2) [1959] 37 I. T.R. l. SUPREME COURT H,EPORTS [1961] •y6o if they are due from customers for goods supplied or / loans to constituents or transactions of a similar kind. ommsssiofier o I
h b Income-ta• n every case t e test is, was the de t due as an Bombay ' incident to the business; if it is not of that character v. it will be a capita.I loss. Thus a loan advanced by a
M /s. Abd«llabhai firm of Solicitors to a company in the formation of Abdulkad•• which it acted as legal adviser is not deductible on its Kapu• J. becoming irrecoverable because that is not a part of
the profession of a Solicitor: C. I. R. v. Hagart &: z960 Dece1nber 6. Burn Murdoch (1). In our opinion the High Court was in error in answering the question in favour of the respondent.
We therefore allow this appeal, set aside the judgment and order of the High Court and answer the question against the respondent. The appellant will have his costs in this Court and in the High Court.
Appeal allowed. HOSHIARPUR ELECTRIC SUPPLY CO. v. COMMISSIONER OF INCOME TAX, SIMLA (J. L. KAPUR, M. HIDAYATULLAH and J.C. SHAH, JJ.) Income Tax-Assessee's receipts for installing new electricity installations-If "Profit" or capital-Indian Electricity Act, I9IO (9 of I9IO), Schedule c. 6 (I)(b)-Intlian Income-tax Act, x9n (II of x922), s. 66(r).
The assessee, an electricity supply undertaking, received certain sum of money for new service connections granted to its customers. Part of this amount was spent for laying mains and service lines. The Income-tax Officer treated the entire amount as trading receipt. In appeal the Appellate Assistant Commis- ner excluded the cost of laying service lines and the mains and treated the balance as taxable income. The Appellate Tribunal agreea with the Appellate Assistant Commissioner and held
that the service connection receipts were trading receipts and the "profit element" therein was taxable income in the hands (t) [1929] A.C. 386; (1929) 14 T.C. 43~· ….