Case: Commissioner of Income Tax, A.P Vs. Sirpur Paper Mills Limited

The facts in brief are that the assessee is a public limited company engaged in the business of manufacturing varieties of paper. Its head office is at Hyderabad. The mill, however, is at Sirpur which came to be known asthe year ending on June 30, 1961, relevant to the assessment yearthere were two fire accidents in the assessees factory one on December 6, 1960, which affected the paper machine shop No. III; the other was on March 21, 1961, in the boiler house. The machinery and the plant were covered by fire insurance. The company in all received a sum of Rs. 13, 12, 772 as compensation for the loss occurred on the occasion of both the fireof the said amount Rs. 11, 92, 146 related to paper machine shop No. III. Out of this amount Rs. 9, 41, 070 related to the buildings, plant and machinery. The assessee spent a sum of Rs. 1, 57, 713 in repairing the damages to the above assets and put all of them in workingassessee credited the entire sum of Rs. 13, 12, 772 to the profit and loss account for the year ending June 30, 1961The assessee for the yearclaimed before theOfficer the balance of Rs. 7, 83, 207 left after incurring expenditure on repairs, as a capital receipt as, according to it, it pertained to the fixed assets of thex Officer regarded the sum of 7, 83, 207 as having merely gone to reduce the cost of the capital assets of the company. He, therefore, reduced the written down value of the plant and machinery of paper machine shop No. III. Consequently, he allowed reduced depreciation and developmentAppellate Assistant Commissioner held that the compensation received in respect of the fixed assets could not be deducted either from the actual cost or from the written down value of the plant and the machinery. He, therefore, held that theOfficer was not correct in reducing the written down value by Rs. 7, 83, 207. The Appellate Assistant Commissioner, however, held that the said amount which was surplus in the hands of the assessee did not represent capital receipts. He, therefore, after notice to the assessee held that the receipt of Rs. 7, 83, 207 could not be regarded as capital in nature. He held that the receipt in question partook of the nature of profits in the hands of the assessee. It was held that the surplus money received has arisen out of the business and, therefore, is liable toTribunal reached the conclusion that what the assessee received was nothing but an amount to compensate it for the loss or damage to itsand fixed assets. The compensation received would not be revenue receipts. Consequently, the sum of Rs. 7, 83, 207 was held to be not assessable

Reasoning: Now, it is obvious that the only question referred by the Tribunal in regard to the expenditure incurred by the assessee on the maintenance of the guest house was whether such expenditure is not entertainment expenditure. The question proceeded on the assumption that if it is not entertainment expenditure, it would be allowable as a permissible deduction. It was not argued by the revenue before the Tribunal that even if such expenditure is not entertainment expenditure, it would still not be allowable under section 37tax Act, 1961, and hence no question, in general terms, was raised as to whether such expenditure was allowable as a deduction. But the question was limited only to the issue as to whether it was not entertainment expenditure. Even before the High Court the only question raised was whether the expenditure on maintenance of the guest house was not entertainment expenditure and it was common ground between the parties that the decision of the High Court in Reference Case No. 93 of 1970 in respect of the assessment yeargoverned the determination of the question arising before the Tribunal. It is indeed surprising that the learned counsel appearing on behalf of the revenue did not urge before the Tribunal and even before the High Court that the decision of the High Court in Reference Case No. 93 of 1970 had no application in the present case because that was a decison given under the IndianAct, 1922, whereas the question in the present case arose under theAct, 1961, where the relevant provision was entirely different. We are constrained to observe that this was nothing but gross negligence on the part of the learned advocate who represented the revenue before the Tribunal and the High Court. When the only contention raised by the revenue before the Tribunal was whether the expenditure incurred by the assessee on the maintenance of the guest house was or was not entertainment expenditure and the revenue conceded before the High Court that the determination of the question before it was concluded by the decision given in Reference Case No. 93 of 1970, it is difficult to see how the revenue can now be permitted to argue that this expenditure was not allowable as a permissible deduction under section 37,(3), of theAct, 1961. It is not an aspect of the question which can be decided as a pure point of law because section 37,(3), provides that the expenditure incurred on the maintenance of the guest house shall be allowed "only to the extent and subject to such conditions, if any, as may be prescribed " and it would, therefore, have to be ascertained whether and to what extent the conditions prescribed by the Rules were satisfied in the present case and that would involve investigation of newapproach was rightly rejected both by the Appellate Assistant Commissioner and the Tribunal. Apart from the fact that such an approach is not justified under any provision of the Act, the view that the compensation reduce the cost of the machinery itself is of doubtful validity. The damaged machinery and the compensation together represented the total asset. The question of reduction in written down value cannot, therefore,contention then was that the amount of Rs. 7, 83, 207 represents really the business profit. We do not find any force in this contention also. To attract section 14 read with the relevant provision the income must arise from profits and gains of business. Surely, it cannot be argued and in fairness we must say that it was not argued that to set fire to the assets and get compensation from the insurance company can be said to be part of the business of the assessee. The Tribunal, in our view, rightly rejected such an56 also cannot be said to be attracted obviously because it is not an income from any other source. The hard fact is that a part of the asset was damaged by the fire for which compensation was received. The compensation, therefore, replaces the asset and is a substitute for the part of the asset damaged. It could not be doubted that if machinery was sold damaged or destroyed, the compensation received would be asset and not profit or gain in the business. The same thing applies to a part of the machinery damaged or destroyed. Merely because the assessee saved some amount out of compensation by adopting a device to repair the machinery instead of substituting it, we fail to see how that would alter, the nature of the compensation received for the part of the asset damaged. The amount left in the hands of the assessee would continue still to be compensation representing the capital and not revenue receivedIt is now well settled that if any injury is inflicted on the trading, making so to say a hole in the assessees profits and damages recovered could not be reasonably or appropriately put to any other purpose than to fill that hole, then the damages recovered would properly enter his profit and loss account for the year. On the other hand, if the capital or the assets themselves are damaged and the assessee received damages, there could be no doubt that the damages so recovered could not be entered in the profit and loss account because the destruction would be an injury inflicted not on his trading but on the capital assets of his trade making a hole in them, and the damages would, therefore, be used only to fill that hole : vide Burmah Steamship Company v. Commissioner of Inland Revenue [1930] 16 TC 67, 71 (C Sess)