Appeals Nos 2380 and 2381 of 1966
Appeals from the judgment and order dated January 7 1966 of the Calcutta High Court in Income tax References Nos 7 and 176 of 1961
section Mitra section K Aiyar R N Sachthey and B D Sharma for the appellant in both the appeals
A K Sen O P Khaitan and B P Maheshwari for the respondent in both the appeals
The Judgment of the Court was delivered by Grover J
These appeals by certificate arise out of a common judgment of the Calcutta High Court in two Income tax References
The assessee is a private limited company
It carried on the business of banking and financing as also of managing agency
Starch Products Ltd was one of the various companies which was being managed by the assessee
Starch Products had appointed the UP Sales Corporation Ltd as its selling agent
The assessee claimed to have stood guarantee for a loan of Rs 6 lakhs which was advanced to the UP Sales Corporation Ltd by the Gwalior Industrial Bank Ltd The borrower failed to pay the loan which on August 2 1948 stood at Rs 560199
This amount was paid by the assessee pursuant to the guarantee
Thereafter the assessee treated the UP Sales Corporation Ltd as its debtor for the aforesaid amount
That company went into liquidation and as the assessee could not recover anything from it a sum of Rs 560199 was written off in the books of the assessee company
The claim was not entertained either by the Income tax Officer or the Appellate Assistant Commissioner
Before the Income tax Officer the 359 said amount Was claimed as bad debt vide assessee s letter dated September 12 1957
The Income tax Officer rejected the explanation furnished by the assessee for advancing such a large amount to a company whose financial position was far from satisfactory
According to him the advance was not a bona fide money lending investment
Subsequently it was sought to be established before the Income tax Officer that an indemnity had been given to the Gwalior Industrial Bank Ltd in the matter of the loan account of the UP Sales Corporation Ltd and the payment had been made on its failure to clear the debt of the Bank
According to the In come tax Officer the assessee was asked to produce evidence about the guarantee having been furnished but he was not satisfied that there was any directors  resolution authorising the furnishing of a guarantee or that the document purporting to be a guarantee had been properly stamped or that there was other sufficient evidence to establish the transaction
Before the Appellate Assistant Commissioner the only substantial ground taken was that the Income tax Officer had wrongly disallowed the claim or bad debt amounting to Rs 560199
The Appellate Assistant Commissioner considered the question of the aforesaid amount being an admissible deduction or allowance under section 102 xi of the Income tax Act 1922
In his opinion the guaranteeing of a loan though made in the interest of the assessee s business and is a matter of commercial expediency did not represent an advance made in the normal course of the assessee s business
Such an advance could have been made only if it had been made to the company managed by the assessee under a contractual obligation to guarantee the finances of the managed company
According to him the claim for irrecoverable loan would have been also admissible if the assessee could establish that the loan represented an interest bearing advance made in the course of the assessee s money lending business but that was not the case of the assessee
And since the loan had been advanced to assist a concern having trade relations with one of the managed companies it could not be allowed as a permissible deduction
The appellate tribunal did not agree with the finding of the Appellate Assistant Commissioner that the loss was not directly incidental to the assessee s business
This is what the tribunal stated in its order  The Appellate Assistant Commissioner in our opinion failed to appreciate the special nature of the business carried on by the assessee
This is not a case where any money was advanced by the assessee for the purpose of earning interest
All that the assesses did was to stand surety for the money advanced by a Bank to the selling agent of one of its managed companies
If such a 3 60 guarantee was not given Messrs Starch Products Ltd one of the managed companies would have had to give extended credit to the selling agent and this could be possible if the managed company in its turn was financed either by the managing agents or a third party
It was to obviate the necessity of such borrowing by the managed company that the assessee company stood guarantee for the loan given by Gwalior Industrial Bank Ltd to UP Sales Corporation Ltd It was only on the failure on the part of the borrower ie UP Sales Corporation Ltd to fulfill its committment that the assessee as a guarantor came into the picture  There was therefore no question of earning of any interest on any money advanced
It was in the larger interest of the assessee s business that the guarantee was given
The standing of surety for the sales Organisation of the managed company and the consequent loss arising therefrom was in our opinion germane to the assessee s business
It is now well established that a sum of money extended not of necessity and with a view to give a direct and immediate benefit to the trade but voluntarily and on the ground of commercial expediency and in order to indirectly facilitate the carrying on of the business may yet be an allowable deduction in computing the profits and gains of the business
 The Tribunal held that the assessee s claim for the loss of Rs 560199 was an admissible deduction
At the instance of the Commissioner of Income tax the Tribunal referred the following question of law to the High Court Whether on the facts and in the circumstances of the case the sum of Rs 560199 was an admissible deduction in computing the business profits of the assessee  Three other questions were referred to the High Court on an application made under section 662 of the Act
It is unnecessary to refer to them as the real controversy has centred on the above question alone
The High Court addressed itself to the question whether the amount in dispute fell within section 102 xi of the Act
The finding of the Appellate Assistant Commissioner that the guarantee had in fact been furnished to the Bank was not disputed
This is what the High Court said after referring to certain decided cases and the relevant portion of the Tribunal s judgment  We agree that it was in the larger interest of the assessee s business that the guarantee was given and we 3 6 1 are of the opinion that the debt was incidental to the business of the assessee within the meaning of section 102xi of the Act and such a debt was found to be irrecoverable in the relevant accounting year commencing on the 31st October 1951 and ending on the 18th October 1952 While computing profits or gains of business under section 10 certain allowances have to be made under sub section
The allowance covered by clause xi thereof has to be made when the assessee s accounts in respect of any part of his business profession or vocation are not kept on the cash basis of such sum in respect of bad and doubtful debts due to the assessee in respect of that part of his business profession or vocation and in the case of an assessee carrying on a banking or money lending business of such sum in respect of loans made in the ordinary course of such business as the Income tax Officer may estimate to be irrecoverable but not exceeding the amount actually written off as irrecoverable in the books of the assessee
Now a bad debt means a debt which would have gone into the balance sheet as a trading debt in the business or trade
It must arise in the course of and as a result of the assessee s business
The deduction claimed should not be too remote from the business carried on by the assessee
In Madan Gopal Bagla vs Commissioner of Income tax West Bengal1 the principle which was accepted was that the debt in order to fall within section 102 xi must be one which can properly be called a trading debt ie debt of the trade the profits of which are being computed
It was observed that the assessee in that ease was not a person carrying on business of standing surety for other persons nor was he a money lender
He was simply a timber merchant
There was some evidence that he had from time to time obtained finances for his business by procuring loans on the joint security of himself and some other person
But it was not established that he was in the habit of standing surety for other persons along with them for the purpose of securing loans for their use and benefit
Even if such had been the case any loss suffered by reason of having to pay a debt borrowed for the benefit of another would have been a capital loss to him and not a business loss at all
A businessman may have to stand surety for some one in order to get monies for his own business
There may be a custom of the business by which that may be the only method whereby he could get money for the purpose of his own business
If he is to discharge a surety debt and if any such custom is established it would be a business debt
If the assessee has made a payment not voluntarily but to discharge a legal obligation which arises from his business
he would be entitled to have the amount deducted as a bad debt under section 102xi see Commissioner of Income tax Bombay vs 1 362 Abdullabhai Abdulkadar1
In Essen Private Ltd vs Commis sioner of Income tax2 Madras the appellant carried on business as a managing agent of several concerns
Pursuant to the agreement with one of the companies managed by it it advanced large sums of money to the managed company and also guaranteed a loan of Rs 2 lakhs obtained by that company from a Bank
The managed company failed in its business and upon the Bank pressing for payment the appellant in accordance with its guarantee made certain payments to that Bank
The assessee had ultimately to write off certain sum in its books as bad debts and it claimed that allowance under section 101 xi
The Tribunal found that the advances to the managed company and the agreement guaranteeing the loan to the managed company were in pursuance its objects and were made in the course of its business and the claim was allowed
That decision was finally affirmed by this Court
In this case there was a cause in the memorandum of association by which the assessee was entitled to land monies and to guarantee the performance of contracts
Similarly the managing agency agreement contained a clause about lending and advancing of money to the managed company
It was found by the appellate tribunal that it was a part of the managing agency to provide funds to the managed company
In the present case none of those facts have been found
Neither the memorandum of association nor the managing agency agreement contained any such provision by which it could be said that the guaranteeing of the loan made by the Bank to the selling agents was done in the course of the managing agency business
In our judgment the facts relied upon by the appellate tribunal and the High Court are barely sufficient for bringing the allowance claimed under section 102 xi
It may be mentioned that the case of the assessee was confined to that provision and no reliance was placed on any other provision under which such an allowance could be claimed
There was no privity of contract or any legal relationship between the assessee and the selling agent
Neither under customer nor under any statutory provision or any contractual obligation was the assessee bound to guarantee the loan advanced by the Bank to the selling agent
It is difficult how it was in the interest of the assessee s business that the guarantee was given
There was even no material to establish that the managed company was under any legal obligation to finance the selling agent or to guarantee any loans advanced to the selling agent by a third party
It is incomprehensible in what manner the guaranteeing of the loan advanced to the selling agent indirectly facilitated the carrying on of the assessee s business
It is equally difficult to appreciate the observations of the High Court that it was in the larger interest of 1 2 363 the assessee s business that the guarantee was given
In our opinion the view of the appellate tribunal was based on a complete misapprehension of the true legal position
The High Court also fell into the same error
The allowance which was claimed did not fall within section 102 xi
No attempt was made nor indeed it could be usefully made to claim any allowance under section 102 xvof the Act
For the reasons given above the correct answer to the question referred should be in the negative and against the assessee
The appeals are thus allowed with costs and the judgment of the High Court is set aside
One hearing fee
GC Appeals allowed


Summary:
The assessee was a Private Limited Company
It carried on the business of banking and financing as also of managing agency
Starch Products Ltd was one of various companies which was being managed by the assessee
Starch Products had appointed the UP Sales Corporation Ltd as its selling agent
The assessee claimed to have stood guarantee for a loan of Rs 6 lacs which was advanced to UP Sales Corporation Ltd by the Gwali Industrial Bank
The borrower failed to pay the loan which on August 2 1948 stood at Rs 560199
This amount was paid by the assessee pursuant to the guarantee
Thereafter the assessee treated the UP Sales Corporation as its debtor for the aforesaid amount
That company went into liquidation and as the assessee could not recover anything from it a sum of Rs 560199 was written off in the books of the assessee company
Before the Income tax Officer the said amount was claimed as a bad debt under section 102 xi of the Income tax Act 1922
The Income tax Officer rejected the claim
The assessee s appeal before the Assistant Commissioner failed
The Appellate Tribunal however held that the guarantee given by the assessee was of indirect benefit to the assesse s business because if it had not guaranteed the loan in question the company managed by it would have had to give extended credit to its selling agent which it could not have done without borrowing money either from the assessee or some third party
In reference the High Court also held that the guarantee was in the larger interest of the assessee s business
The Commissioner of Income tax appealed to this Court by special leave
HELD  i While computing profits or gains of business under section 10 certain allowances have to be made under sub section
The allowance covered by cl
xi thereof has to be made when the assessee s accounts in respect of any part of his business profession or vocation are not kept on a cash basis of such sum in respect of the bad and doubtful debts due to the assessee in respect of that part of his business profession and vocation and in the case of an assessee carrying an a banking or money lending business of such sum in respect loans made in the ordinary course of such business as the Income tax Officer may estimate to be irrecoverable but not exceeding the amount actually written off as irrecoverable in the books of the assessee
A bad debt means a debt which would have gone into the balance sheet as a trading debt in the business or trade
It must arise in the course of and as a result of the assessee s business
The deductions claimed should not be too remote from the business carried on by the assessee
361 B E 12 Sup
C 170 9 358 In the present case neither the memorandum of association nor the managing agency agreement contained any such provisions by which it could be said that he guarantee of the loan made by the bank to the selling agents was done in the course of the managing agency business
There was no privity of contract or any legal relationship between the assessee and the selling agent
Neither under custom nor under any statutory provision or any contractual obligation was the assessee bound to guarantee the loan advanced by the bank to the selling agent The guarantee could not be said to be indirectly in the interest of the assessee s business or as held by the High Court in its larger interest
The Tribunal and the High Court were therefore in error in holding that the sum in question was allowable as a deduction under section 10 2 xi
362 D E F H Madan Gopal Bagla vs Commissioner of Income tax West Bengal and Commissioner of Income tax Bombay vs Abdullabhai Abdulkadar  applied
Essen Private Ltd vs Commissioner of Income tax 65 ITR 625 distinguished