Case: Commissioner of Income Tax, Madras Vs. P. K. N. Company Limited

1. A partnership styled P. K. N. was carrying onbusiness in several towns in India and also in the Federated States of Malaya. In the course of its business the P. K. N. firm acquired rubber estates and other immovables in the Districts of Murar and Segamat in the Federated States of Malaya. On December 4, 1937 a private limited company was registered in the name of P. K. N. Company Ltd.hereinafter called the Companyunder the Pudukottai Company Regulation V of 1929 with its head Office at Viswanathapuram, in the territories of His Highness the Maharaja of Pudukottai. The share capital of the Company was of the face value of 6,60,000 Malayan dollars. Between March 23, 1939 and July 8, 1939, an area of more than 3,000 acres of rubber plantations, several houses and open plots of land, which were the assets of the P. K.N. firm were transferred to the Company for an aggregate consideration of 16,50,000 Malayan dollars. In consideration of the transfer of these properties, the Company allotted shares of the face value of 6,60,000 Malayan dollars to the partners of the firm of P. K. N. and the balance remained outstanding as a debt due by the Company to the firm of P. K. N. On March 14, 1941 the Company purchased a rubber estate called the Lee Estate for 2,62,655 Malayan dollars. On July 7, 1941 the Company purchased for 5,000 Malayan dollars a house inwith another firm. In the year 1941 and 1942 some of the properties acquired from the firm of P. K. N. were sold by the Company. Between 1942 and 1945 the territory of Malaya was under occupation by the Japanese forces, and it appears that during that period some houses belonging to the company were destroyed by fire. After 1945 some more lands admeasuring approximately 700 acres in the aggregate were sold by the Company.2. On August 1, 1949 the State of Pudukottai integrated with the Province of Madras, and after the extension of the IndianAct to that territory, the Company was assessed by theOfficer, Pudukottai as a dealer in real estate and profits amounting to 34,272 Malayan dollars and 40,613 Malayan dollars were brought to tax in the assessment years1. But theAppellate Tribunal set aside the orders. The Tribunal observed that the activities of the Company outside India were limited to the holding of properties, and deriving income therefrom, and that the properties did not come to the Company in the course of itsbusiness, nor could it be said that they were acquired for the purpose of resale at a profit, and that the Company "was formed in order to take over these properties and it would be far from correct to say that the properties taken over were intended to be turned intoand therefore profits realised by sale of the properties were of capital nature.3. Before the order of the Tribunal was pronounced, theOfficer assessed the Company for the assessment yearon a total profit of 1,41,326 Malayan dollars earned from the sale of immovable properties. The Appellate Assistant Commissioner confirmed the order in appeal. On further appeal theAppellate Tribunal confirmed the order of the Appellate Assistant Commissioner observing that all the material facts were not brought to the notice of the Tribunal at the hearing of the appeals in respect of the earlier years. Thereafter pursuant to a direction of the High Court of Madras under S. 66 (2) of theAct, 1922, the Tribunal referred the following question for the opinion of the Highon the facts and circumstances of the case, the surplus of $ 1,41,326 realised by the assessee company by the sale of some of its estates and properties held by it in Malaya was income chargeable to tax under the Indiane High Court answered the question in favour of the Company and held that the amount sought to be brought to tax was not income chargeable under the IndianAct. With special leave, the Commissioner ofhas appealed to this Cour

Court's reasoning:
On an analysis of this table it is clear that there were no fresh acquisitions after July 7, 1941 till 1950. The two items mentioned in the year of account ending March 31, 1943 and March 31, 1945 are only transfer entries. 30,600 Malayan dollars entered in the last column in the year ending March 31, 1943, it is common ground represents loss by fire and does not represent loss as a result of a sale transaction. Admittedly there were sales spread over a number of years resulting in profit to the Company. These sales were affected when opportunity arose or necessity dictated. It is not, however, disputed by the Department that the primary activity of the Company was that of planters. It is disclosed by the books of account maintained at the head office in India that during the year ending March 31, 1948, the Company spent on the estates about Rs. 3,50,000 and made realisation from the stocks of rubber exceeding Rs. 5,25,000. In the next year the expenditure was Rupees 3,31,000 and the receipts from rubber were Rs. 6,70,000. In the year ending December 31, 1950 the disbursements of the estates including salaries were Rs. 5,25,000 while the receipts by way of sales of rubber and stocks came to Rs. 16,50,000. These lend support to the view that the primary object of the Company was to function as planters and dealers in rubber, and that year after year the Company was extending its planting operations. It is true that some items of property purchased in the year 1939 were sold from time to time, but these were not transactions of purchase and sale of immovable properties indicating an intention on the part of the Company to treat its investment in immovable properties as an adventure in the nature of trade.But these facts found by the Tribunal do not, in our judgment, justify the inference that the acquisition of the estates was for the purpose of carrying on business in real estate. Existence of power in the memorandum of association to sell or turn into account, dispose of, or deal with the properties and rights of all kinds, has no decisive bearing on the question whether the profits arising therefrom are capital accretion or revenue income.These cases merely illustrate that the nature of the transaction must be determined on a consideration of all the circumstances, and the fact that a transaction is within the powers of a trading Company is relevant but has, standing alone, not much significance.14. The assessee Company did acquire two large blocks of properties between the years 1939 and 1941, but thereafter no substantial acquisitions were made. Limitation upon the admission of members to the Company and other attendant features suggest an intention of conserving the properties of the members of the P. K. N. firm. Some of the houses purchased from the P. K. N. firm were destroyed by fire and the vacant sites and outlying properties were sold on account of difficulty of management of outlying portions of the estate. Occasional sales of small and unimportant portions out of the estate acquired from the P. K. N. firm was motivated by necessity and not to realize profits. The Lee Estate was never disposed of and it was treated as a nucleus for carrying on profitable business of producing rubber and selling it on advantageous terms.15. As already observed, determination of the question whether in purchasing and selling land the taxpayer enters upon a business activity has to be determined in the light of the facts and circumstances. The purpose or the object for which it is incorporated where the taxpayer is a Company may have some bearing, but is not decisive, nor is the circumstance that a single plot of land was acquired and was thereafter sold as a whole or in plots decisive. Profit motive in entering into a transaction is also not decisive. Here, as already pointed out, the primary object of the Company was to take over the assets of the P. K. N. firm to carry on the business of planters and to earn profits by sale of rubber. The incidental sale of uneconomic or inconvenient plots of land or houses could not covert what was essentially an investment into a business transaction in real estate.