l Appeals Nos
1993 of 1968 and 1173 of 1971
Appeals by certificatespecial leave from the judgment and order dated August 3 4 1967 of the Gujarat High Court in Income tax Reference No 18 of 1966
section T Desai R N Sachthey and B D Sharma for the appellant in both the appeals
VS Desai K L Hathi and P C Kapur for the respondent in both the appeals
The Judgment of the Court was delivered by Grover J
This is in appeal from a judgment of the Gujarat High Court
Originally an appeal CA 199368 had 952 been brought by certificate but that certificate was found to be defective as no reasons were stated therein for granting it
A Petition for special leave was therefore filed and the same has been granted
Both the appeals shall stand disposed of by this judgment
The assessee is a registered firm and carried on the business of commission agency and general merchants
It also does forward business
It is a member of the Saurashtra Oil and Oilseeds Association Ltd Rajkot
During the assessment year 1958 59 the corresponding accounting period being the samvat year 2013 the assessee claimed to have incurred a loss of Rs 3 40443 in certain transactions entered into with different people for the supply of groundnut oil
The transactions according to the assessee were non transferable ready delivery contracts entered into with non members of the Association
It was expected that these contracts would be performed but owing to certain reasons some of the contracts could not be performed and differences had to be paid
According to the assessee it had acted as a Pucca Artia
The assessee claimed that the aforesaid loss was allowable under section 101 of the Income Tax Act 1922 as a deduction against its other business income
The Income tax Officer came to the conclusion that the transactions in question were hit by the provisions of the Forward Contracts Regulation Act 1952 hereinafter called the Act  and the Rules and Regulations of the Saurashtra Oil and Oilseeds Association Ltd
In particular the transactions were hit by the provisions of sub sections
1 and 4 of section 15 of the Act and were not saved by section 18
The losses were held to have been incurred in illegal transactions
He rejected the contention of the assessee that even on the assumption that the losses were incurred in illegal transactions they could be allowed in the computation of the income
The Income tax Officer further held that the losses incurred in illegal business could not be deducted from the speculative profits under section 24 of the Indian Income tax Act 1922 hereinafter called the Act of 1922
The Appellate Assistant Commissioner confirmed the order of the Income tax Officer
In the appeal before the Tribunal it was held that the transactions in question were not illegal contracts but were contracts which had been validly entered into under the Act and the bye laws etc
The Tribunal thereafter proceeded to examine the question whether the losses incurred could be allowed on the assumption that the transactions were illegal
It was of the view that the assessee would be entitled to a set off under section 24 even if the losses were incurred in illegal transactions
The Tribunal remanded the matter for a report from the Appellate Assistant Commissioner as to the applicability of the proviso to section 241 read with the Explanation of the Act of 1922
After the remand report was received the Tribunal gave the following two findings  1 the contracts under consideration were all 953 non transferable specific delivery contracts where the intention ab initio was either to give or take delivery 2 the contracts were entered into either for the purchase or sale and later on the same quantity was either sold or purchased back by the assessee on behalf of the same constituents at the market rates prevailing at the material time ie they were squared up by corresponding sales or purchases as the case might be
After referring to certain decisions of High Courts the Tribunal held that the loss of Rs 340443 had been incurred in speculative transactions
The Tribunal next proceeded to consider whether notwithstanding that the losses had been incurred in speculative transactions the assessee could set off those against the other income under section 101 of the Act of 1922
Purporting to follow the view of the majority of the High Courts the Tribunal held that such a loss could not be set off against the other income
But according to the Tribunal the assessee was certainly entitled to set off the loss against the profits in speculative transactions and to that extent the contention of the assessee was accepted
Both the assessee and the Commissioner of Income tax moved the Tribunal for submitting a case and referring certain questions of law to the High Court
Thus in all the following four questions were referred by the Tribunal 1 Whether on the facts and in the circumstances of the case the contracts in respect of which the loss of Rs 340443 was claimed were illegal contracts and were not validly entered into under the Forward Contracts Regulation Act 1952  2 Whether even assuming the transactions in which the loss of Rs 340443 was incurred were illegal transactions the assessee would be entitled to the set off of the said loss  3 Whether on the facts and in the circumstances of the case the transactions resulting in a loss of Rs 340443 were speculative transactions for the purpose of section 24 of the Indian Income tax Act 1922 merely on the ground that The assesses had not performed the contracts by giving delivery and had paid damages in settlement of the obligations contracted for  4 Whether on the facts and in the circumstances of the case the assessee is entitled to set off the balance of the loss of Rs 121397 against the assessee s other income  The High Court did not consider that it was necessary to answer the first question
The answer to the second question was that 954 even though the disputed contracts were not validly entered into in accordance with the provisions of section 154 of the Act the loss of Rs 340443 was liable to be taken into account in computing the business income of the assessee under section IO of the Act of 1922 and the assessee was entitled to set it off against the profits fro other speculative transactions
The third question was answered in the affirmative with the result that the transactions resulting in the loss of Rs 340443 were held to be speculative for the purpose of section 24 of the Act of 1922
The fourth question was answered in the negative and against the assessee
It is the Commissioner of Income tax alone who has appealed
So far as the first question is concerned we are unable to comprehend why the High Court did not decide it
A lot of debate took place before us on the question whether the contravention of section 15 4 of the Act would render the contracts illegal
According to that provision no member of a recognised Association shall in respect of any goods specified in the notification under sub section
1 enter into any contract on his own account with any person other than a member of the recognised Association unless he has secured the consent or authority of such person and disclosed in the note memorandum or agreement of sale or purchase that he has bought or sold the goods as the case may be on his own account
It is not necessary to refer to the proviso
It is common ground and has been admitted before us that there was a clear contravention of the provisions of section 154 so far as the transactions in question were concerned
According to section 20e any person who enters into any contract in contravention of the provisions of section 154 among other sections shall on conviction be punishable for the first offence with imprisonment which may extend to one year or with fine of not less than Rs 1000 or with both
It is wholly incomprehensible how such a contract would not fall directly within the ambit of the first part of section 23 of the Indian Contract Act which deals with consideration or object of an agreement which is forbidden by law
Such consideration or object would be unlawful according to the provisions of that section and the agreement would consequently be void
The High Court did not decide the point whether the contracts which contravened the provisions of section 154 of the Act were illegal
It did not consider it material to decide whether the impugned contracts were illegal
In its opinion what was material was that the impugned contracts had been entered into unlawfully and the question was whether the loss sustained in the unlawful business could be taken into account in computing the business income of the assessee
We consider that the first question which was referred to the High Court stands concluded by the law laid down by this Court in Sunderlal  Son vs 955 Bharat Handicrafts P Ltd 1 It was laid down that the prohibition imposed by section 15 4 of the Act was not imposed in the interest of revenue
That provision was conceived in the larger interest of the public to protect them against the malpractices indulged in by members of recognised associations in respect of transactions in which their duties as agents came into conflict with their personal interest
Parliament had made a writing evidencing or confirming the consent or authority of a non member as a condition of the contract if the member has entered into a contract on his own account
So long as there was no writing as was contemplated by section 15 4 or its proviso there was no enforceable contracts It is well settled that contracts which are prohibited by statute the prohibition being either express or implied would be illegal and unenforceable if they are entered into in contravention of the statute
Under the provisions of the Act there is not only an express prohibition section 15 4  but punishment is also provided for contravention of that prohibition s  20
Such contracts could not possibly be regarded as having been validly entered into under the Act
The answer to the first question therefore should have been in the affirmative and against the assessee
Coming to the second question the language thereof is some what ambiguous and the question was not framed properly
It appears that there were two aspects which had come up for consideration before the departmental authorities the Tribunal and the High Court
The first aspect related to the deduction of the loss of Rs 340443 incurred in the aforesaid illegal transactions while computing the profits of the assessee s speculative business under section 101
The other was the set off which can be allowed within the relevant parts of section 24 of the Act of 1922
The High Court referred to various English decisions as also to Wheat croft s Law of Income tax and Simon s Income tax for supporting the View that even where a trade is illegal it would still be a trade within the meaning of income tax law and if any profits are derives from such trade they would be assessable to tax
The High Court did not accept the contention urged on behalf of the Revenue that although the profits from an illegal I trade or business would be exigible to tax the losses from such business could not be taken Court observed There is in principle no distinction between profits and losses of a business and if the profits of an illegal business are assessable to tax equally the losses arising 1  956 from illegal business must be held to be liable to be taken into account in computing the income of the assessee 
The High Court was not inclined to accede to the submission on behalf of the Revenue that the same principle would be applicable as has been applied in certain cases in which the question which came up for determination was whether an expenditure incurred on an illegal activity would be deductible under section 10 2 xv of the Act of 1922
One of such cases is a decision of the Punjab High Court in Raj Woollen Industries vs Commissioner of Income tax Simla1
In that case the real question was whether a certain amount which was paid to achieve what was prohibited by law viz the export of wool without having the requisite export licence was an amount which the assessee was entitled to deduct under section 10 2 xv of the Act of 1922
It was held that according to principle and authority such a deduction could not be claimed
It was also observed that such a deduction would not be permissible even under section 101
Following observations may be referred to  lm15 Profits had to be ascertained according to the accepted principles of commercial accountancy and if section 102 xv did not permit deduction of an item of expenditure which was laid out or expended for carrying on the business in contravention of the law then such an outgoing though otherwise properly admissible as set off against the gross receipts on the principles of commercial accountancy could not be taken into consideration in computing the profits
On the other hand according to the decision of a full bench of the Allahabad High Court in Chandrika Prasad Ram Swarup vs Commissioner of Income tax UP  CP 2 income assessable to tax is the actual income of an individual or a firm irrespective of the manner in which the income was derived
Legality or illegality of the transaction culminating in profits or losses was therefore foreign to the scope of an inquiry into the income of an individual or a firm for the purpose of income tax
Now while section 101 of the Act of 1922 imposes a charge on the profits or gains of a business it does not provide how these profits are to be computed
Section 102 enumerates various items which are admissible as deductions
They are however not exhaustive of all allowances which can be made in ascertaining the profits of a business taxable under section 101
It is undoubtedly true that profits and gains which are liable to be taxed under 1 2 957 s101 are what are understood to be such under ordinary commercial principles
The loss for which the deduction is claimed must be one that springs directly from the carrying on of the business and is incidental to it
If this is established the deduction must be allowed provided that there is no provision against it express or implied in the Act  See Badridas Daga V Commissioner of Income tax1
In that case loss sustained by the business by reason of embezzlement by an employee was held to be an admissible deduction under section 101 although it did not fall within section 102 xi of the Act of 1922
Indeed profits cannot be computed without deducting the loss and permissible expenses incurred for the purpose of the business
The approach of the high Court in the present case has been that in order to arrive at the figure of profits even of an illegal business the loss must be deducted if it has actually been incurred in the carrying on of that business
It is the net profit after deducting the out goings that can be brought to tax
It certainly seems to have been held and that view has not been shown to be incorrect that so far as the admissible deductions under section 102 are concerned they cannot be claimed by the assessee if such expenses have been incurred in either payment of a penalty for infraction of law or the execution of some illegal activity
This however is based on the principle that an expenditure is not deductible unless it is a commercial loss in trade and a penalty imposed for breach of the law during the course of the trade cannot be described as such
Penalties which are incurred for infraction of the law is not a normal incident of business and they fall on the assessee in some character other than that of a trader See Haji Aziz  Abdul Shakoor Bros vs Commissioner of Income tax Bombay City2
In that case this Court said quite clearly that a disbursement is deductible only if it falls within section 102 xv of the Act of 1922 and a penalty cannot be regarded as an expenditure wholly and exclusively laid for the purpose of the business
Moreover disbursement or expense of a trader is something which comes out of his pocket
 A loss is something different
That is not a thing which he expends or disburses
That is a thing which comes upon him abextra Finlay J in Allen vs Farquharson Brothers  Co 3
If the business is illegal neither the profits earned nor the losses incur red would be enforceable in law
But that does not take the profits
out of the taxing statute
Similarly the taint of illegality of the business cannot detract from the losses being taken into account for computation of the amount which can be subjected to tax as profits under section 1 0  1  of the Act of 134 ITR 10
3 2 958 1922
The tax collector cannot be heard to say that he will bring the gross receipts to tax
He can only tax profits of a trade or business
That cannot be done without deducting the losses and the legitimate expenses of the business
We concur in the view of the High Court that for the purpose of s101 the losses which have actually been incurred in carrying on a particular illegal business must be deducted before the true figure relating to profits which have to be brought to tax can be computed or determined
This will however not conclude the answer to question No 2 because it seems to have been framed with the other aspect relating to set off under s24 of the Act
The High Court found that the transactions were of a speculative nature
It was thus held that the loss of Rs 340443 sustained in the impugned contracts was liable to be set off against the profit of Rs 219046 which was admittedly a profit from speculative transactions
The concluding portion of the judgment of the High Court may be reproduced because to Our mind it creates a certain amount of difficulty
The loss of Rs 340443 sustained in the impugned contracts was therefore liable to be set off only against the profit of Rs 219046 which was admittedly profit from speculative transactions and the balance of Rs 121397 after such set off was not liable to be set off against the other income of the assessee in view of the first proviso to section 241
We may make it clear that in taking this view we have proceeded upon the basis that the impugned contracts which resulted in the loss of Rs 340443 constituted a separate business distinct from the business of forward contracts resulting in the profit of Rs 219046 
The result would however be the same even if the impugned contracts which resulted in the loss of Rs 340443 did not constitute a separate business but were part of the same business of forward contracts which resulted in the profit of Rs 219046 for in that event the loss of Rs 340443 would be liable to be taken into account in determining the profits from such business under section 10
Section 24 to the extent it is material for our purposes is set out below  Set off of loss in computing aggregate income 1Where any assessee sustains a loss of profits or gains in any year under any of the heads mentioned in section 6 he shall be entitled to have the amount of the 959 loss set off against his income profits or gains under any other head in that year Provided that in computing the profits and gains
chargeable under the head profits and gains of business profession or vocation any loss sustained in speculative transactions which are in the nature of a business shall not be taken into account except to the extent of the amount of profits and gains if any in any other business consisting of speculative transactions Explanation 1
Where the speculative transactions carried on are of such a nature as to constitute a business the business shall be deemed to be distinct and separate from any other business
Explanation 2
A speculative transaction means a transaction in which a contract for purchase and sale of any commodity including stocks and shares is periodically or ultimately settled otherwise than by actual delivery or
transfer of the commodity or scripts In order to claim the set off the meaning of the speculative transaction has to be first looked at
Under Explanation 2 such a transaction means a transaction in which a contract for the purchase and sale of any commodity is periodically or ultimately settled otherwise than by actual delivery etc
Now the contract has to be an enforceable contract and not an unenforceable one by reason of any taint of illegality resulting in its invalidity
It has already been found by us that the contracts in question were illegal and unenforceable on account of contravention of section 154 of the Act
The High Court was in error in considering that any set off could be allowed in the present case under the first proviso to section 241 which must be read with Explanation 2
There would have been no difficulty in disposing of the matter finally after the above discussion
But enough attention was not devoted to the business which the assessee was doing and in which the profit of Rs 219046 was made and the loss of Rs 340443 was sustained
It has been found to be of a speculative nature but the High Court has not clearly found that it was the same business in which the amount of the profit and the loss mentioned above was earned and sustained in which case alone a deduction will be possible of the loss under section 101
The High Court proceeded on the basis that if the business in which the profit was made and the business in which the loss was incurred were separate a set off could be claimed by the assessee under section 241
If however the business was the same then the loss would be liable to be taken 960 into account while computing the profits under s101
As we have come to the conclusion that no set off could be allowed under section 241 of the Act of 1922 it will have to be determined whether the profits and losses were incurred in  the same business even though that business involved the entering into contracts some of which were in the eye of the law illegal
If the trade or the business for instance the business of commission agency or forward business was the same in which the profits were made and the loss was incurred then in order to arrive at the figure which can be subjected to tax the loss will have to be deducted from the profit
For this purpose we shall have to remit the matter to the High Court to decide this point and if necessary after calling for a supplementary statement of the case
In the result our answer to the first question is that the contracts were illegal
on the third and the fourth questions there is no dispute nor has any appeal been preferred by the assessee relating to them that the answers returned by the High Court in the affirmative and in the negative respectively were not correctly answered
As regards question No 2 the High Court will have to answer the same in the light of our judgment
Th  appeal by special leave ie CA 117371 shall stand disposed of accordingly and the other appeal by certificate ie CA 199368 is hereby dismissed
There will be no order as to costs
VPS Appeal partly allowed


Summary:
Section 154 of the Forward Contracts Regulation Act 1952 is conceived in the larger interest of the public to protect them against the malpractices indulged in by members of recognised associations in respect of transactions in which their duties as agents come into conflict with their personal interest
Parliament had made a writing evidencing or confirming the consent or authority of a non member as a condition of the contract if the member has entered into a contract on his own account
So long as there was no such writing there was no enforceable contract
Under the Act there is not only an express prohibition but also punishment for contravention of that prohibition
The assessee a registered firm was a member of the Saurashtra Oil and Oilseeds Association and was carrying on the business of commission agency and general merchants
It was also doing forward business
During the assessment year 1958 59 it incurred a loss in certain transactions
Those transactions were in contravention of the provisions of section 154 of the Forward Contracts Regulation Act
The assessee claimed that the loss was allowable under section 101 of the Income tax Act 1922 as a deduction against its other business income even if the losses were incurred in illegal transactions
The Income tax Officer rejected the contention of the assessee and also held that the losses incurred in illegal business could not be deducted from speculative profits under section 24 of the Income tax Act
The Appellate Assistant Commissioner confirmed the order
The Tribunal held that the assessee could not set off the loss against the other income under section 101 of the Income tax Act but was entitled to do so under section 24
On the questions referred to the High Court namely  1 Whether the loss was in respect of illegal contracts 2 Whether the loss was a result of speculative transactions and therefore could be set off under section 24 of the Income tax Act and 3 whether even if the loss was as a result of illegal transactions the assessee was entitled to set off the loss under section 101 of the Income tax Act the High Court did not answer the first question but held that the losses could be set off both under section 10 and section 24 of the Income tax Act
In appeal to this Court HELD1 It is well settled that contracts which are prohibited by statute the prohibition being either express or implied would be illegal and unenforceable if they are entered into in contravention of the statute
Therefore the contracts in the present case were illegal contracts and the loss was in respect of such illegal contracts
955 C D Sunder Lal vs Bharat Handicrafts   followed
951 2Under Explanation 2 of section 24 a speculative transaction means a transaction in which a contract for purchase and sale of any commodity is periodically or ultimately settled otherwise than by actual delivery etc but the contract has to be an enforceable contract and not an unenforceable one by reason of any taint or illegality
In the present case the contracts were illegal and unenforceable on account of the contravention of section 154 of the Forward Contracts Regulation Act
The High Court was therefore in error in considering that set off could be allowed under section 241 of the Income tax Act
959 D F 3While section 101 of the Income tax Act imposes a charge on profits or gains of a business it does not provide how those profits are to be computed
Section 102 enumerates various items which are admissible as deductions but they are not exhaustive
The profits and gains which are liable to tax under section 101 are what are understood to be such under ordinary commercial practice
The loss for which the deduction is claimed must be one that springs directly from the carrying on of the business and is incidental to it that is the profit was earned and the loss was sustained in the same business
If this is established the deduction must be allowed provided that there is no provision against it
If the business is illegal neither the profits earned nor the losses incurred would be enforceable in law but that does not take the profits out of the taxing statute
Simi larly the taint of illegality of the business cannot detract from the loss being taken into account for computation of the amount which can BE subjected to tax as profits
Cases which deal with payment of a penalty for infraction of law or the execution of some illegal activity stand on a different footing because an expenditure is not deductible unless it is a commercial loss in trade and such a penalty cannot be described as such
956 G H 957 A B D E G H 959 H 960 A B Since in the present case no finding was given by the High Court that the two businesses in which profits were made and losses were sustained were the same the matter was remanded to the High Court for decision on this point Raj Woollen Industries vs CIT Simla  Chandrika Prasad Ram Swarup vs CIT UP  CP 7 ITR 269 Badridas Daga vs Commissioner of Income tax 34 ITR 10 Haji Aziz  Abdul Shakhor Bros vs CIT Bombay City and Allen vs Fraquharson Bros  referred to