Case: State Bank of Patiala, Patiala Vs. Commissioner of Income Tax, Patiala

The appellant-assessee set apart amounts as "reserve" for "bad and doubtful debts" in all the years. A claim was laid that such sums qualified as reserves for the purpose of Rule 1 (xi) (b) of the First Schedule and Rule 1 (iii) Of the Second Schedule of the Act and such sums, representing reserves, should be included in the capital of the appellant for appropriate relief. The Income Tax Officer rejected the claim. In appeal, the Income Tax Appellate Tribunal allowed the plea of the assessee. The Income Tax Appellate Tribunal, by its detailed order dated 23.1.198 0, upheld the plea of the assessee and held that the amounts set apart as reserves are entitled for appropriate relief under Rule 1 (xi)(b) of the First Schedule and Rule 1(iii) of the Second Schedule of the Act. On motion by the Revenue the Appellate Tribunal referred the following questions of law for the decision of the High Court of Punjab and Haryana, which were numbered as Income Tax Reference Nos. 235 to 238 of 1980:"i) Whether, on the facts and in the circum stances of the case, the Appellate Tribunal was right in law in holding that the amounts provided by the assessee for bad and doubtful debts in the balance sheets of the relevant previ ous years qualified as reserves for the Purpose of clause xi (b) of Rule 1 of the First Schedule to the Companies (Profits) Sur-tax Act, 1964 and consequently allowing year wise deduction as under: 1971-72 Rs. 7, 00, 000/- 1972-73 Rs. 13, 78, 000/- 1973-74 Rs. 22, 11, 000/- 1975-76 Rs. 15, 98, 000/- ii) Whether on the facts and in the circumstan ces of the case, the Appellate Tribanal was right in law in holding that the amounts of Rs.15, 53, 576/-, Rs.27, 21, 641/-, Rs.29, 91, 641/- and Rs.47, 16, 641, provided for bad and doubtful debts as at the beginning of the relevant accounting year respectively for the assessment years 1971- 72, 1972-73, 1973-74 and 1975- 76 qualified as a reserve for inclusion in the capital of the assessee under Second Schedule ot the companies Profits) sur-tax, Act, 1964." *(emphasis supplied)By a detailed judgment dated 27.7.1992 the High Court took the view that on the facts and circumstances of the present case, sums of money set apart by the assessee as reserves are really "provisions" and not "reserves" and so, such sums are not entitied to the relief granted by the Appellate Tribunal. It is, thereafter the assessee moved this Court by special leave petition Nos. 2392-95 of 1993 and obtained special leave in the four cases. The judgment of the High Court is reported as Commissioner of Income Tax vs. State Bank of Patiala.  3. Special leave peti tions (C) Nos. 27543-5Q of 1995 relate to the same assessee and eight assessment years are involved therein - 1979-80 to 1987-88 except 1985-86. For those years, identical claim put forward by the appellant- assessee was rejected by the Income Tax Officer. In appeal, CIT allowed the claims. In the meanwhile, the decision of the High Court for the previous four years, i.e., 1971-72, 1972-73, 1973-74 and 1975-76 had been rendered and so the Tribunal, following the decision of the High Court, held against the assessee. The plea of the assessee to refer the matter either to the appropriate High Court or to this Court was disallowed. The assessee has filed special leave petitions in this Court directly against the aforesaid order of the Appellate Tribunal.  4. Special leave petition (C) No. 27551 of 1995, relating to the same assessee and involving consideration of the same question, relates to the assessment year 1985-86. The Appellate Tribunal finally decided against the assessee following the earlier decision of the High Court reported in. The attempt to get the matter referred to the High Court was unsuccassful and so the assessee filed the special leave petition in this Court against tne order of the Appelate Tribunal.  5. All the 13 appeals involve conslderation of the same question between the same parties. So, they were heard together and are disposed of by this common judgment.

Reasoning: 12. A fair reading of the above decisions would go to show that if the transfer of amount is made ad hoc, when there is no known or anticipated liability, such fund will only be treated as reserve. In this case, substantial amounts were set apart as reserves No amount of bad debt was actually written off or adjusted against the amount claimed as reserves. No claim for any deduction by way of bad debts were made during the relevant assessment years. The assessee never appropriated any amount against any bad and doubtful debts. The amounts throughout remained in the account of the assessee by way of capital and the assessee treated the said amounts as "reserves" and not as "provisions" designed to meet liability, contingency, commitment or diminution in the value of assets known to exist at the relevant dates of balance sheets. These facts have been found by the Tribunal. On the facts, the amount set apart as re serves cannot be said to be so earmarked, when ans liability has actually arisen or was anticipated by the assessee. It cannot be said either, that the amounts set apart out of the profits were designed to meet any known liability, that exiisted at the date of the balance-sheet. Tested in the light of the decisions of this Court, referred to hereinabove, it appears to us, that the amounts set apart towards bad and doubtful debts in these cases are "reserves" qualifying for appropriate relief under rule l(xi)(b) of the First Schedule and rule 1(iii) of the Second Schedule of the Act13. We are afraid that the High Court has grossly misunderstood the following observations of this Court contained in Commisioner of Income-Tax vs. Saran Engineering Co. Ltd. at p. 74814. The High Court has taken the view that the "fund created or a sum of money set apart to meet an y liability which the assessee "can reasonably and legitimately anticipate " on the date of preparation of the balance sheet, is the same, as in a case "where the liability has actually arisen", (a present known liability) and the fund to meet such liability cannot be treated as reserve". In the view of the High Court, since the assessee is a banking company, it would be "reasonable and leqitimate to assume" that in the course of its business, "it is bound to have" bad and doubtful debts fo r which "it may", in anticipation, make a provision in the balance sheet by having a separate fund or an account to meet such anticipated liability We are afraid that the aforesaid assumption is totally unjustified and proceeds on mere surmises and conjectures. This is not a case, when at the time fund is earmarked, there is a known liability one which has either arisen or anticipated legitimately, by the assessee - and the fund to meet such eventuality cannot be treated as "reserves". Th e observations of this Court that the liability should be one "which has actually arisen or is anticipated leqitimately by the assessee", cannot be extended to hold, that in the case of an assessee carrying on banking business, it is "bound" or "can reasonably anticipate" on the date of the preparation of balance sheet "bad and doubtful debts", for which "it ought", in anticipation, make a provision and such provision for anticipated liability should be equafied with known and existing liability and should be construed as a provision.The question in such cases, is whether the liability was "known" or "anticipated" on the date when the balance sheet was prepared. The question is not whether the assessee "can anticipate" or "reasonably anticipate" on the date when the balance sheet was prepared about "the bad and doubtful debts". The High Court was in error in surmising that the assessee being a banking company is bound to have bad and doubtful debt s. It need not necessarily be so. It is not bound to anticipate on the date of preparation of balance sheet that all or any of its debts "are bound to be bad and doubtful". It all depends upon facts and circumstances. We are of the view that the High Court misunderstood the scope of the observations in Saran Engineering Co.s case (supra) and surmised that the observations quoted at page 748 wail even cover cases, where the liability was not factually anticipated on the date of the preparation of the balance sheet, but also will apply to cases, where the company "ought and can" anticipate on the date of preparation of the balance sheet