Case ID: 2229

Judgment:
Appeal No. 1975 of 1966. Appeal by special leave from the judgment and order dated July 11	 1962 of the Madras High Court in Tax Case No. 84 of 1960. section Swaminathan and R. Gopalakrishnan	 for the appellant. Veda Vyasa	 A. N. Kirpal	 R. N. Sachtliey and section P. Nayar	 for the respondent. The Judgement of the Court was delivered by Shah	 J. This is an appeal with special leave. The appellant is a Society registered under the . The following table sets out the data relating to the earnings	 investments	 working capital	 outgoings and expenditure of the Society for the year ending June 30	 1955	 relevant to the assessment year 1956 57: (i)Interest from Government securi ties. Rs.4	310	453.00 (ii) Total gross earnings. . Rs.21	00	99(4.00 (iii) Investments in Government securities. . Rs.130	60	653 00 (iv) Total working. capital. Rs.473	42	603 00 (v) Interest paid on debentures	 depo sits and other accounts Rs. 15	09	490 00 (vi) Total overhead expenses and es tablishment overhead charges Rs. 3	01	102 00 32 In a proceeding for assessment of the total income of the Society to tax for the year 1956 57 it was claimed that under section 14 (3) of the Indian Income tax Act	 1922 (as added by section 10 of the Finance Act	 1955	 with effect from April 1	 1955) the income of the Society from business was exempt from payment of tax	 and that in accordance with the instructions issued under section 60 of the Act	 out of the gross income from securities amounting to Rs. 4	30	053/ 	 Rs. 4	16	475/ being income attributable to the assets utilized in the business	 only the balance of Rs. 13	578/was chargeable to tax. In support of its claim the 'Society 'relied upon the instructions published in the Income tax Manual	 1946. In the view of the Income tax Officer the Society could not claim the benefit of the Departmental Instructions	 since in the relevant year of assessment those instructions had ceased to operate	 and the Society 's claim was governed by the Explanation to section 8 of the Income tax Act as incorporated by the Finance Act of 1956	 with effect from April 1	 1956. He accordingly computed the taxable income under the head "interest on securities" in the sum of Rs. 59	498/ . The Appellate Assistant Commissioner modified the order of the Income tax Officer and reduced the taxable income under the head "interest on securities" to Rs. 13	578/ applying the Departmental Instructions. He held that the Explanation to section 8 of the Act applied to Banking Companies and not to Co operative Societies. In appeal by the Commissioner of Income tax the Appellate Tribunal reversed the order of the Appellate Assistant Commissioner	 and restored the order of the Income tax Officer. In the view of the Tribunal	 the Explanation to section 8 of the Act cannot be invoked as the Society was not a Banking	 Company	 but the principle of the Explanation may well be called in aid and that the relief granted by the Income tax Officer was the only relief to which the Society was entitled. The following question of law was submitted by the Tribunal to the High Court of Madras: "Whether the Tribunal is justified in law in holding that the taxable income of the assessee from interest on securities is Rs. 59	498/ ?" The High Court reframed the question to read: "Whether the taxable income of the assessee from interest on securities is Rs. 13	578/ as contended by the assessee and as worked out on the basis of the Departmental instructions contained at pages 248 and 249 in Part III of the year 1946?"	 and answered it in favour of the Commissioner. 33 Counsel for the Society in the first instance	 contended relying upon the judgment of this Court in Commissioner of Incometax Andhra Pradesh vs Cocanada Radhaswami Bank Ltd.	(1) contended that no part of the income of the Society	 even if it be earned from Government securities	 was liable to be taxed. It may be recalled that the Society had claimed before the Departmental authorities and the Tribunal that according to the instructions issued by the Central Government under section 60 of the Income tax Act only Rs. 13	578/ out of the income from Government securities were chargeable to tax. The Income tax Officer and the Tri bunal held that Rs. 59	498/ were chargeable to tax. The decision in Cocanada Radhaswami Bank 's case(1) relates to the right of a Bank to carry forward the net loss incurred by a Banking Company and to set it off in subsequent years against income from securities held as part of its trading assets. It is not a decision under section 14(3) of the Act. Again it is not open to the Society in this reference to contend that the amount of Rs. 13	578/ itself is not taxable. Such a question was never raised before the Tribunal and cannot be permitted to be raised in this Court. The Income tax Act	 1922	 as originally enacted	 did not give to a Co operative Society exemption from payment of tax in respect of income from its business activities. But by Departmental Instructions issued under section 60 of the Act	 certain exemptions were given by a notification issued on August 25	 1925 and modified by notifications dated June 25	 1927	 October 20	 1934 and August 18	 1945. Among the classes of income exempt from liability to pay tax under the notification was: "(2) The profits of any cooperative society other than . or the dividends or other payments received by the members of any such society out of such profits. Explanation For this purpose the profits of a cooperative society shall not be deemed to include any income	 profits or gains from: (1) investments in (a) securities of the nature referred to in section 8 of the Indian Income tax Act	 or (b). . (2) dividends	 or (3) the 'other sources ' referred to in section 12 of the Indian Income tax Act". By the notification	 profits of a Co operative Society were exempt from tax	 but those profits were not to Include any income	 profits or gains from securities of the nature referred to in section 8 of the (1)157 I.T.R. 306. N)ISCI 4 34 Indian Income tax Act. The Legislature by section 10 of the Finan Act of 1955 added sub sec. (3) to section 14	 whereby it was enacted. inter alia	 that: "The tax shall not be payable by a co operative society	 including a	 co operative society carrying on the business of banking (i) in respect of profits and gains of business carried on by it	 (ii) in respect of interest and dividends derived from its investments with any other cooperative society; A co operative society since the enactment of the Finance Act	 1955	 with effect from April 1	 1955	 was therefore not liable	 by the express provisions in the Act	 to pay tax in respect of the profits and gains of business carried on by it. Under section 8 of the Incometax Act	 1922	 tax is payable by an assessee under the head "Interest on securities" in respect of the interest receivable by him on any security of the Central Government or of a State Government	 or on debentures or other securities for money issued by or on behalf of a local authority or a company	 subject to exemption	 inter alia	 in respect of any sum deducted from such interest by way of commission by a banker realizing such interest on behalf of the assessee	 or in respect of any interest payable on money borrowed for the purpose of investment in the securities by the assessee. The Parliament by the Finance Act	 1956 amended the first proviso	 and added an Explanation to section 8 providing for the computation of the sum reasonably spent for the purpose of realising interest and of interest paid on sums borrowed for the purpose of investment by a Banking Company. The Explanation provides: "Explanation In the case of a banking company	 (a) the amount which bears to the aggregate of its expenses as are admissible under sub section (2) of section 10	 other than clauses (iii)	 (vi)	 (vi a)	 (vi b)	 (vii)	 (viii)	 (xi)	 (xii)	 (xiii) and (xiv) th ereof	 the same proportion as the gross receipts from interest on securities inclusive of tax deducted at source) chargeable to tax under this section bears to the gross receipts from all sources which are included in the profit and loss account of the company	 shall be deemed to be the sum reasonably expended by it for the purpose of realising such interest		 and the amount for which allowance is admissible under sub section (2) of section 10 shall be reduced correspondingly; and (b) money borrowed shall include moneys received by way of deposits; and that amount which bears to the amount of interest payable on moneys borrowed the same proportion as the gross receipts from interest on securities (inclusive of tax deducted at source) chargeable to tax under this section bears to the gross receipts from all sources which are included in the profit and loss account of the company	 shall be deemed to be interest payable on money borrowed for the purpose of investment in the securities by the assessee	 and the amount of such interest for which allowance is due under sub section (2) of section 10 shall be reduced correspondingly." and 35 (b) money borrowed shall include moneys received by way of deposits; and that amount which bears to the amount of interest payable on moneys borrowed the same proportion as the gross receipts from interest on securities (inclusive of tax deducted at source) chargeable to tax under this section bears to the gross receipts from all sources which are included in the profit and loss account of the company	 shall be deemed to be interest payable on money borrowed for the purpose of investment in the securities by the assessee	 and the amount of such interest for which allowance is due under sub section (2) of section 10 shall be reduced correspondingly. " Broadly stated	 under cl. (a) the sum reasonably spent is computed as that proportion of the aggregate of the expenses admissible under the various clauses of sub section (2) of section 10 mentioned therein which the gross receipts from interest on securities bear to the gross receipts from all sources included in the profit and loss account of the banking company. Similarly under cl. (6) interest payable on money borrowed for the purpose of investment in Government securities is that proportion of the total interest paid on borrowings which gross receipts from securities bear to gross receipts from all sources. Income of the Society from its trading activity being exempt from tax	 its income from Government securities had	 it was common ground	 to be apportioned between income earned from investments for trading purposes and for non trading purposes. The Income tax Officer applied the first proviso read with the Explanation to section 8 of the Income tax Act. The Income tax Appellate Tribunal held that in terms	 the Explanation to section 8 did not apply because the Society was not a banking company	 but the principle of the Explanation furnished	 after the Departmental Instructions had been withdrawn	 a reasonable basis for apportionment. In the view of the Tribunal	 the principle embodied in the Explanation was an "improvement on the instructions"	 since it co related the income chargeable under the head with the expenditure and also provided for proportionate allocation of overhead charges. The High Court held that the benefit of the departmental notification was not available to the Society in the year of assessment	 because it must be deemed to be withdrawn and the Explanation to section 8 did not in terms apply to the Society. It was common ground between the parties in this Court and the High Court that Explanation to section 8 has no application to a co operative society which does not carry on the business of a banking company. There is also no dispute that the departmental notification relied upon by the company was withdrawn before the relevant assessment year. There is	 therefore	 no statutory rule	 and nor there are departmental instructions	 governing the apportionment of income from Government securities between business 36 and non business sources of income. It was never urged	 and it cannot be urged	 that in the absence of a specific rule for apportionment	 the entire income from Government securities should be brought to tax. Any attempt to bring the entire income from Government securities would infringe section 14(3) of the Act. A rule of apportionment consistent with commercial accounting must be evolved for determining the income from Government securities attributable to business activity of the Society. The rule contained in cl. (a) of the Explanation to section 8 has specially been evolved for determining the appropriate outgoings for the purpose of realizing interest from securities held by a Banking Company in computing income ' chargeable to tax; it seeks to exempt	 on the footing that it is deemed to be the sum reasonably expended for the purpose of realizing interest	 a part thereof which is equal to the proportion which the gross receipts from interest on securities chargeable to tax	 bear to the gross receipts from all sources. The rule is an artificial rule for allocating business expenditure between different sources of income of Banking Companies. It is not a rule for apportionment for the purpose of taxation of composite income which is partly taxable and partly not. Clause (b) provides for allocation of outgoings in respect of "money borrowed"	 which expression includes money deposited with the Bank. Interest payable on borrowings is directed to be allocated in the proportion in which income is received from investments from securities and from other sources. This clause also deals with the proportion in which the outgoings are allocable. The problem arising under section '14(3) is of apportionment of income under heads taxable and nontaxable: it is not a problem relating to allocation of outgoings to determine taxable income. In our judgment	 a rule of apportionment which dismembers income in proportion to the business and non business components of the single source from which it arises would be more consistent with principles of commercial accounting. The proportion of income from securities which is exempt from taxation under section 14 (3) of the Act will be that proportion which the capital of the Society used for the purpose of the business bears to the total working capital. It is admitted that Rs. 13	578/ is the gross income from securities which is	 according to that rule	 liable to tax. No question was raised in the High Court about any deduction to be made in respect of expenses for collection of that amount	 and admissibility of deduction on that score does not fall to be considered. The appeal is allowed. Answer to the question as reframed by the High Court is that Rs. 13	578 / are taxable as income of the Society received from Government securities under section 8 of the Income tax Act. The Commissioner will pay the costs of the Society in this Court. V.P.S. Appeal allowed.

Summary:
The Income tax Act	 1922	 as originally enacted did not give to a cooperative society any exemption from payment of tax in respect of income from its business activities. By departmental instructions issued under section 60 of the Act	 exemption from payment of tax in respect of certain receipts of a co operative society were given. The notification provided inter alia that as regards interest received by it from government securities	 an amount which bears the same proportion to the total interest paid on debentures etc. as the capital invested in government securities bears to the total working capital	 shall be deducted from the interest on government securities as being exempt from tax. The departmental instructions were later withdrawn and sub section (3) was added to section 14 of the Act	 by which	 with effect from April 1	 1955	 a cooperative society was not liable to pay tax in respect of the profits and. gains of business carried on by it. In 1956	 an Explanation	 applicable to banking companies	 was added to section 8. Clause (a) of the Explanation provided for the allocation of business ex penditure between different sources of income of banking companies; and cl. (b) provided for allocation of outgoings in respect of " money borrowed" including money deposited with the bank [33BH; 34C F] Thus	 in spite of section 14(3)	 for the assessment year 1956 57	 there were no departmental instructions governing the apportionment of income from government securities between business and non business sources of income; and	 in the case of a cooperative society which did not carry on the business of a banking company. there was no statutory rule for such apportionment	 the Explanation to section 8 not being applicable. Therefore	 in the case of a cooperative society which was not carrying on the business of a banking company a rule of apportionment consistent with commercial accounting for determining the income from government securities attributable to the business activity of the society had to be evolved. [35H; 35A B] The appellant was a cooperative society not carrying on business of banking and for the assessment year 1956 57; it claimed that out of its gross income from securities	 only Rs. 13	578 was chargeable to tax on the principle of the departmental instruction. The Appellate Tribunal applied the principle of the Explanation to section 8 and computed the taxable income at Rs. 59	498. The High Court held that the benefit of the departmental notification was not available to the appellant	 because it must be deemed to have been withdrawn and that	 the Explanation to section 8 did not in terms apply to the appellant. 31 In appeal to this Court	 Held:In the absence of a statutory rule and departmental in structions	 a rule of appointment which dismembers income in pro"portion to the business and non business components of the source from which it arises would be more consistent with principles of commercial accounting. The proportion of income from securities which is exempt from taxation under section 14(3) will be that proportion which the capital of the Society used for the purposes of the business bears to the total working capital	 and according to this rule	 the gross income from securities which would be liable to tax was only Rs. 13	578. It was not open to the appellant to contend that even this amount was not taxable. Such a question was never raised either before the department or the Tribunal. [33C D; 36F H] The principles laid down in cls. (a) and (b) of the Explanation to s	 8 are not Applicable. The rule in cl. (a) is not a rule of apportionment for the purpose of taxation of composite income which is partly taxable and partly not. It is an artificial rule	 specially evolved for determining the appropriate outgoings for the purpose of realising interest .	from securities held by a banking company in computing income chargeable to tax. Clause (b) deals with the proportion in which the outgoings are allocable. The problem arising under section 14(3) is not one relating to allocation of outgoings to deter. mine taxable income	 but of apportionment of income under the taxable and non taxable heads. [36C E]