High Court Of Calcutta
CIT vs. Indo-Burmah Petroleum Co. Ltd.
Asst. Year 1968-69, 1969-70
Sabyasachi Mukharji & Suhas Chandra Sen, JJ.
IT Ref. No. 232 of 1976
23rd March, 1982
Balai Pal with Samar Nath Banerjee, for the Revenue : P. K. Pal with R. P. Banerjee, for the Petitioner
SABYASACHI MUKHARJI, J.:
In this reference under s. 256(2) of the IT Act, 1961, the following two questions have been referred to this Court as directed by this Court :
For the asst. yr. 1968-69 :
“Whether, on the facts and in the circumstances of the case, the Tribunal misdirected itself in law in holding that the legal expenses of Rs. 14,300 incurred by the assessee in connection with two suits were incurred for the purpose of the assessee’s business and were as such allowable in computing the assessee’s total income ?”
For the asst. yr. 1969-70 :
“Whether, on the facts and circumstances of the case, the Tribunal misdirected itself in law in holding that the legal expenses of Rs. 11,500 incurred by the assessee in connection with the suits being Nos. 1684 of 1967 and 1720 of 1967 were incurred for the purpose of the assessee’s business and as such were allowable in computing the assessee’s total income ?”
2. The assessee is a limited company and this reference relates to the asst. yrs. 1968-69 and 1969-70. For these assessment years the assessee-company claimed deduction in working out the business income of legal expenses in connection with two suits, one of which was filed by two shareholders of the assessee- company against the then managing agents and others and the other of which was filed by the United Provinces Commercial Corporation Ltd. against the then managing agents and others, in which the assessee-company was also impleaded as a defendant. These expenses which were claimed as deduction amounted to Rs. 14,300 for the asst. yr. 1968-69 and Rs. 11,500 for the asst. yr. 1969- 70. The ITO, however, did not accept the assessee’s claim and disallowed these expenses while working out the income of the assessee-company. The assessee-company went up in appeal before the AAC. It would be helpful in view of the exhaustive manner in which the AAC dealt with the facts in this case to refer to the relevant portion of the order of the AAC. The AAC observed, inter alia, as follows : “The major items included, however, in this figure are a sum of Rs. 11,000 and Rs. 3,300 (total Rs. 14,300) incurred for Suit No. 1684 of 1967 and Suit No. 1720 of 1967, respectively. As far as the first suit is concerned, this was filed by two shareholders of the assessee-company, namely, Chandra Shekhar Burman and Sohanlal Chaturvedi, against M/s Steel Brothers & Co. Ltd. (the then managing agents of the assessee-company) the assessee and the then director of the assesseecompany. The allegations in this plaint revolve round the point that the funds or assets of the company were being frittered away and dissipated by unwise investments or by making commitments of unsound concerns. The second suit was filed by the United Provinces Commercial Corporation Ltd. against Steel Brothers & Co. Ltd., the assessee and chairman of the assesseecompany and the allegations made in the plaint primarily relate to two points, namely, (1) alleged breach of contract in respect of sale of Steel Brothers & Co. Ltd.’s shareholding in the assesseecompany, and (2) mismanagement of the funds of the assessee-company. Clearly these two suits are mainly against the managing agent and the board of directors of the appellant company. It is only incidentally that the appellant company has just been made a party to the suits. The second suit is clearly only against the managing agent for their breach of contract in respect of sale of some shares. The first suit is in the nature of a domestic quarrel between the shareholders and the management.”
For the reasons recorded by him and for the proposition of law mentioned therein, be, however, did not accept the assessee’s contention and upheld the ITO’s orders. Thereafter, the assessee went up in appeal before the Tribunal. The Tribunal dealt with the claim of the assessee-company and referred to the submissions made by the parties, nature of the suit, and the decision on which reliance was placed. It was also noted that the first suit was primarily against the company and the other defendants were not basically interested in the subject-matter of the suit and, therefore, the entire expenses incurred were for the purposes of the assessee’s business according to the Tribunal. Regarding the second suit the Tribunal noted the submission of the assessee that in this suit both Steel Brothers & Co. Ltd., the managing agents of the assessee-company and the assessee-company were interested parties and, therefore, 30per cent of the expenses incurred were borne by the assessee. After referring to the contentions of the parties the Tribunal came to the conclusion that both the suits were launched against the assessee-company because of its business activities and, therefore, the litigation expenses being revenue expenditure were fully allowable. The assessee obviously resisted the suit in order to protect its business according to the Tribunal. Therefore, the Tribunal held that the entire expenditure of Rs. 14,300 was allowable and directed accordingly. Thereupon, application was made for reference but the questions were disallowed but, as directed by this Hon’ble Court, two questions indicated above have been referred to.
We have noted the nature of the suit. The first suit, as it is apparent, boils down to the allegations that funds or assets of the company were being fittered away and dissipated by “unwise investments” or “by making commitments for the benefit of unsound concerns”. The second suit, however, was filed by the United Provinces Commercial Corporation Ltd. against Steel Brothers & Co. Ltd., the assessee and chairman of the assessee- company and the allegations made were mainly on two pointsâ(i) alleged breach of contract in respect of sale of Steel Brothers & Co. Ltd.’s shareholding in the assessee-company, and (ii) mismanagement of the funds of the assesseecompany. These suits were mainly against the managing agent and the board of directors of the assessee- company. Now, the true test in respect of the question of allowing the litigation expenses should be whether the litigation concerned affects the carrying on of the business of the assesseecompany as a going concern. We have to find out whether the main purpose or the main object of the litigation was to affect the carrying on of the business or the conduct of the business of the assessee. If, on the other hand, the main purpose of the litigation was to determine who would run the particular company or who should be incharge of the running of a particular company, litigation expenses may not affect as such the carrying on of the business of the assessee- company. These principles have been looked at from various points of view in various decisions.
Our attention was drawn to the decision of the Bombay High Court in the case of Premier Construction Co. Ltd. vs. CIT (1966) 62 ITR 176 (Bom). There the Division Bench of the Bombay High Court reiterate that an expense may, in some indirect way, be conducive to the benefit of the business or to the better management of the business would not make it an expenditure wholly and exclusively laid out for the purpose of its business. What must be considered was the purpose for and the object of the expense at the time when it was incurred and whether the expenses that had been incurred had any relation to the carrying on of the business of the company. There what had happened was that at a general meeting of a company a shareholder was not allowed by the president of the meeting to raise certain questions. The shareholder filed a suit against the company and its board of directors praying for a declaration that the ruling given by the president was illegal and invalid and the subsequent resolutions passed at the said meeting were also invalid and asking for consequential relief of several injunctions restraining the assessee-company and its board of directors from giving effect to and acting in accordance with the resolutions passed at the said meeting. The first prayer alone was granted by the trial Court. The company appealed against the decree. It was held that with regard to the expenses incurred by the company in defending the suit in the trial Court, these were allowable under s. 10(2)(xv) as the plaintiff had claimed for reliefs which, if granted, would have affected the carrying on of the business of the company. The expenses of the appeal were not allowable as the appeal related only to a matter which concerned the shareholder and the board, i.e., whether the ruling given by the president, not permitting the plaintiff to put questions, was legal and was not incurred for carrying on the business of the company. As we have noted it would have to be found out whether the expense that has been incurred had any relation to the carrying on of the business of the company.
6. Reliance was also placed on the decision of the Punjab High Court in CIT vs. Shiwalik Talkies Ltd. (1967) 63 ITR 83 (Punj). There, it was held that expenditure incurred in resisting an application to the Court by the shareholders of the assessee-company under, s. 153C of the Companies Act, 1913, questioning the appointment of some of the directors of the company, could not be considered to be an expenditure laid out or expended wholly and exclusively for the purpose of the business of the company and was, therefore, not allowable under s. 10(2)(xv) of the IT Act, 1922. In that case, some of the shareholders during that controversy filed an application under s. 153C of the Indian Companies Act, 1913, questioning the appointment of some of the directors of the assessee company. So it does not appear that the primary object of the litigation was the carrying on of the business of the company but rather the primary object was who should be taken as the directors of the company. In that context the learned Judges of the Punjab High Court had to come to the conclusion that the expenditure was not allowable. The Supreme Court in the case of Sree Meenakshi Mills Ltd. vs. CIT (1967) 63 ITR 207 (SC) had occasion to consider this. That was entirely in a different context. The Supreme Court considered that the expenses were allowable because the object of the filing of the petition was to secure a declaration that the order dated February 20, 1946, in so far as it sought to put restrictions upon the right of the company to carry on its business in the manner in which it was accustomed to do was unauthorised and to prevent enforcement of that order and thereby the company was seeking to obtain an order from the Court enabling the business to be carried on without interference. In that context the expenses were considered necessary for the carrying on of the business. The Supreme Court also considered this question in the case of Dalmia Jain & Co. Ltd. vs. CIT (1971) 81 ITR 754 (SC). There the assessee- company had taken on lease from the Government the Murli Hills for the purpose of quarrying limestone for a period of one year. Therefore, the assessee worked the quarry as an agent of the Government with an understanding that the Murli Hills would be ultimately leased out to the assessee. While the assessee was in possession of the Murli Hills as agent of the Government, the Kalyanpur Lime Co., on the basis of an earlier agreement with the Government, filed a suit for specific performance and in the alternative damages against the Government, impleading the assessee also as a defendant. The suit was resisted by the Government as well as by the assessee. The assessee incurred a sum of Rs. 1,29,994 in resisting the suit, in which ultimately the Supreme Court granted a decree for damages and the question was whether the litigation expenses constituted expenditure laid out wholly and exclusively for the purpose of the business. It was held by the Supreme Court that the assessee resisted the suit in order to protect its business and not to safeguard its prospects of getting a new lease. It did not initiate the proceedings. It merely defended the claim made against it. The suit was launched against it because of one of its business activities and, therefore, the litigation expenses were revenue expenditure laid out wholly and exclusively for the purpose of the business. The Supreme Court reiterated that where litigation expenses were incurred by the assessee for the purpose of creating, curing or completing the assessee’s title to the capital, then the expenses incurred must be considered as capital expenditure. But if the litigation expenses were incurred to protect the business of the assessee, they must be considered as revenue expenditure.
The position was again reviewed by the Supreme Court in the case of CIT vs. Delhi Safe Deposit Co. Ltd. (1982) 26 CTR (SC) 411 : (1982) 133 ITR 756. There, V, L and the assessee-company (which had also other businesses) were partners in a managing agency firm with 50 per cent., 25 per cent. and 25 per cent. shares respectively. At the instance of V, a large sum of money was advanced by the managed company to another firm at Calcutta. When the demand for repayment was made, the Calcutta firm repudiated the claim, and out of the loss of Rs. 1,90,092 to the managed company, the sum of Rs. 95,092 was agreed to be borne by L, the assessee-company, and R, the brother of V, who was inducted into the managing agency firm as partner in place of V. The assessee’s claim to have the sum of Rs. 9,500, which was paid by it to the managed company during the previous year relevant to the asst. yr. 1962-63, in partial discharge of its liability of Rs. 47,500, deducted as business expenditure, was disallowed by the ITO and the AAC confirmed the order of the ITO on the ground that the amount was actually the loss of a firm which was no longer in existence, and that the loss had been borne by the assessee on personal considerations and that the managing agency firm had not claimed the loss in its return. The Tribunal reversed the order of the AAC and allowed the assessee’s claim on the ground that though there was a change in the constitution of the firm the assessee’s liability had not ceased, that since the assessee was a company there was no question of any personal consideration and that the assessee had made the payment purely on business considerations with the sole object of maintaining its business connection which was yielding profit. On a reference, the High Court held that the assessee was entitled to the deductions claimed. On appeal to the Supreme Court, the Supreme Court held that on the facts the managing agency agreement with the managed company was a profitable source of income. The assessee incurred the expenditure in question to avoid any adverse effect on its reputation, to protect the managing agency, which was an income earning apparatus, and for retaining it with the reconstituted firm in which the interest of the assessee was the same as before. Therefore, the expenditure was laid out on purely business considerations and wholly for the purpose of the assessee’s business and the fact that the firm had not claimed the expenditure in its return did not affect the right of the assessee to claim deduction in respect of the amount paid by it. The true test of an expenditure laid out wholly and exclusively for the purposes of trade or business was that it was incurred by the assessee as incidental to its trade for the purpose of keeping the trade going and of making it pay and not in any other capacity than that of a trader. The expenditure incurred on the preservation of a profit-earning asset of a business was always, according to the Supreme Court, deductible expenditure. Our attention was also drawn to a decision of this Court in respect of a litigation which was slightly in a different context. This was the case of Albert David Ltd. vs. CIT (1981) 131 ITR 192 (Cal). There the expenditure incurred in connection with the suit was the subject-matter of consideration by this Court. It was a fight between the two groups of directors as to who would have the controlling block of shares. In this case, as we have mentioned before, the true test is to find out the purpose and the object of the expenses at the time when it was incurred and whether the expenditure incurred had any relation to the carrying on of the business of the assessee-company.
In the instant case before us, as we have noted from the order of the AAC, the suit was primarily concerned with the wise or unwise investments and making commitments for the benefit of unsound concerns. These were the questions which were intrinsically connected with the carrying on of the business, the main question with which the first suit was concerned. The second suit was concerned with the question of mismanagement of the funds of the company, that is to say, the question as to how the funds of the company were to be applied. The primary object, it appears to us, was the carrying on of the business of the company and the litigations affected the carrying on of the business. In view of the nature of the suits, in our opinion, the Tribunal was right in coming to the conclusion that these were allowable expenses.
9. In the premises, both the questions for both the assessment years must be answered in the negative and in favour of the assessee.
The parties will pay and bear their own costs.
SUHAS CHANDRA SEN J.:
[Citation : 142 ITR 141]