High Court Of Delhi
AMD Metplast (P.) Ltd. vs. DCIT
Assessment Year : 2005-06
Section : 36(1)(II)
Sanjiv Khanna And R.V. Easwar, JJ.
IT Appeal No. 650 Of 2011
December 16, 2011
JUDMENT
1. M/s. AMD Metplast Private Limited has filed the present appeal under section 260A of the Income-tax Act, 1961 (Act, for short) impugning the order dated August 31, 2010, passed by the Income-tax Appellate Tribunal (“the Tribunal”, for short). The appeal pertains to the assessment year 2005-06.
2. After hearing learned counsel for the parties, the following substantial question of law is framed :
“Whether the Tribunal is right in holding that commission of Rs.25,00,000 paid to Mr. Ashok Gupta, managing director of the assessee, cannot be allowed as a deduction in view of section 36(1)(ii) of the Income-tax Act, 1961, and the said amount can be only allowed under section 36(1)(ii) if dividend of Rs. 25,00,000 could not have been paid to Mr. Ashok Gupta ?”
3. With the consent of the parties, the matter is taken up for hearing/disposal and arguments have been heard.
4. The facts are not in dispute. The appellant is a company and for the assessment year 2005-06 had filed a return declaring nil annual income after accounting for unabsorbed depreciation of Rs. 1,18,68,142. The Assessing Officer in the assessment order observed that an amount of Rs.41,20,000 had been paid to Ashok Gupta and H. S. Gupta in violation of section 36(1)(ii) of the Act and this amount should be disallowed. Accordingly, addition of Rs. 41,20,000 was made. However, in spite of the said addition, taxable income was computed at a nil figure, in view of the unabsorbed depreciation.
5. The Commissioner of Income-tax (Appeals) deleted the aforesaid addition. He noticed that Ashok Gupta was the managing director of the appellant company and was paid commission of Rs. 25,00,000. There was an agreement dated April 1, 1997, between Ashok Gupta and the appellant company. Under this agreement, Ashok Gupta was entitled to salary of Rs.30,000 per month and commission at 1 per cent. of the annual turnover of the company in case it achieves annual sales of Rs. 10 crores. In case of shortfall, the commission was payable at ½ per cent. This agreement was valid up to March 31, 2002. Thereafter, by a resolution passed by the board of directors dated June 18, 2002, it was agreed that Ashok Gupta, managing director would be paid commission of 1 per cent. of the sales subject to a ceiling of Rs. 25,00,000. It was further noticed that the appellant had claimed that Ashok Gupta and H. S. Gupta, were paid Rs.7,20,000 and Rs. 9,00,000 as salary respectively.
6. The Commissioner of Income-tax (Appeals) held that this amount of Rs.9,00,000 paid to Mr. H. S. Gupta and Rs. 7,20,000 paid to Ashok Gupta apparently appears to be salary. He directed the Assessing Officer to verify the said contention from records and if the same was paid as salary, then delete the said disallowance. This direction was given as an application under section 154 of the Act was pending before the Assessing Officer. On the question of commission of Rs. 25,00,000, after examining the factual matrix of the case, the Commissioner of Income-tax (Appeals) held that section 36(1)(ii) was not attracted and the disallowance made by the Assessing Officer was incorrect. It was observed that the payment of commission to the managing director, who was an employee, was towards services rendered by him and was allowable.
7. The Revenue preferred an appeal before the Tribunal against the deletion of the addition of Rs. 25,00,000 under section 36(1)(ii). The Tribunal considered the contentions of the parties and observed that the reliance cannot be placed are section 37, if a particular expense is covered by section 36 of the Act. To this extent, there cannot be any doubt or dispute. Thereafter, the Tribunal observed that Ashok Gupta held 19.89 per cent of the paid-up share capital and the Assessing Officer had observed that the appellant company had earned net profit of Rs. 1,20,03,950 but had not paid any dividend. However, commission of Rs. 25,00,000 was paid to Ashok Gupta. It was held that the company should have first paid dividend and then only if any balance amount was left, commission should have been paid. Commission paid could not have been allowed as an expense in view of section 36(1)(ii) of the Act, unless dividend to this extent was not payable to Ashok Gupta. It was accordingly directed as under :
“9. . . We, therefore, hold that the assessee would not be entitled for deduction on account of commission under section 36(1)(ii) of the Act to the extent of profit which would have been payable to him as dividend. We, therefore, set aside the order of the learned Commissioner of Income-tax (Appeals) and restore the matter to the file of the Commissioner of Income-tax (Appeals) with the directions to compute the dividend payable as per Companies Act and disallow the same under section 36(1)(ii). However, the difference between the commission paid at Rs. 25 lakhs an amount of dividend payable to the assessee will be allowable as deduction under section 37(1) of the Act subject to fulfilment of the requirements of section 37(1) of the Act. The Assessing Officer is directed accordingly.”
8. Section 36(1)(ii) of the Act reads as under :
“36. Other deductions.-(1) The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28-. . .
(ii) any sum paid to an employee as bonus or commission for services rendered, where such sum would not have been payable to him as profits or dividend if it had not been paid as bonus or commission ;”
9. A similar provision was interpreted by the Bombay High Court in Loyal Motor Service Company Limited v. CIT [1946] 14 ITR 647 (Bom). Stone C.J. in his judgment has observed as under (page 650) :
“Now, the facts as shown by the reference are that this company was formed by fourteen persons, thirteen of whom were originally owner drivers of motor vehicles, the fourteenth member contributing in money. The thirteen not only contributed their motor vehicles but also their services and accordingly became employees of this company. Besides the thirteen there are twenty-eight other employees making a total of forty-one. In the year in question the company granted a bonus at the rate of two months’ salary to its forty-one employees and the total sum required to pay this bonus was Rs.6,084, of which Rs. 1,954 went to the twenty-eight other employees and Rs. 4,130 to the thirteen shareholder employees. It is to be noted that the quantum of bonus paid to each of the shareholder employees was by reference to their salaries and not to their stakes in the company. A tabulated result is set out in the application for this reference and is printed on page 12 of the record. It is there shown that of the thirteen shareholders employees six employees got less bonus than they would have got as dividends if the sum of Rs. 4,130 had been distributed by way of additional dividends. Five of them got more bonus than such dividends and in the case of two of them the figure works out the same. That is an accident in the sense that the bonus payments being referential to their wages and the dividends being referential to their shares have no relation to each other. Now, the answer to the question referred to us depends on the construction that is to be placed upon para. (x) of sub-section (2) of section 10. It should be noted that the body of this sub-section provides an allowance and the qualifying part of it is by way of exception to that allowance. What is to be allowed is ‘any sum’ paid to an employee as bonus or commission for services rendered and the exception is, where ‘such sum’ would not have been paid to him as profits or dividends if it had not been paid as bonus or commission. In the exception the words ‘such sum’ can, in my opinion, only refer to the last and the only antecedent, which is ‘any sum’ paid as commission or bonus. Therefore, unless the commission or bonus would be paid to the assessee as profits or dividends the exception to the allowance does not operate. Mr.Setalvad on behalf of the Commissioner has pointed out with considerable force that strictly construed there can hardly ever be a case which comes within the ambit of the exception. Sir Jamshedji Kanga on behalf of the assessee-company suggests two such cases, viz., in the case of what is generally called a one-man-company which is not unlawful under the Indian Companies Act, and also in a case in which a company, in declaring a dividend, or a partnership, in declaring division of their profits, say that instead of distributing their profits by way of dividends, or shares of profits, they will distribute the amount to themselves, as salaried employees in their own company, or partnership, as bonus. We are construing a taxation statute and the subject is entitled to have such a statute strictly construed in his favour. In my opinion in placing a strict construction on this sub-section, the sum excepted under the expression ‘such sum’ must be the same sum as is described by the expression ‘any sum paid as bonus or commission’, and that an equivalent sum even in the two cases where by accident the bonus and the prospective dividend are the same, is not included in that construction. If that is the construction which is to be placed upon this sub-section, then the answer to the question is, that the whole of the sum of Rs. 4,130 paid as bonus to the shareholder employees is allowable as deduction under the provisions of section 10(2)(x). I answer the question referred to us in the affirmative. The Commissioner must pay the costs of this reference.” (emphasis supplied)
10. Kania J. in his judgment had elucidated and interpreted section 10(2)(x) of the Indian Income-tax Act, 1922, and observed (page 652) :
“In my opinion, that construction of the clause is not correct. The word ‘such’ must refer to what had been previously mentioned in the same clause in connection with the word ‘sum’. To find that out we must look to the first part of the clause. That refers to ‘any’ sum. Reading the clause in that way the plain meaning appears to be that when a particular amount was paid by way of bonus to an employee, if the same amount would have been paid to him as a shareholder as dividend or profit, the company cannot be allowed a deduction on the ground of payment of bonus. To put it in other words the clause is intended to prevent an escape from taxation by describing a payment as bonus, when in fact ordinarily it should have reached the shareholder as profit or dividend. The argument would be equally applicable in the case of a partnership as in the case of a limited company. This construction leads to no hardship. It does not allow a wrong payment of bonus to escape taxation. In the first instance, the bonus in the hands of the employee is liable to be taxed, unless exempted by a special notification. Moreover, the proviso contains conditions under which if a wrong claim is made, the same can be investigated and disallowed. An illustration will perhaps make the position clear. Five persons in a firm realizing that the profits of the year were Rs.50,000 and they had an equal share in the profits of the business decide that instead of receiving Rs. 10,000 each as the share of profits each of them will be paid Rs. 10,000 as bonus or commission. In such a case the firm, when sought to be assessed, may contend that Rs.10,000 were paid as bonus. The contention will be clearly rejected. But the safeguards do not end there. The firm will have to prove to the satisfaction of the taxing authority that the five partners were employees, in the first instance. Secondly, that the bonus was a reasonable amount having regard to the pay of the employee and the conditions of his service. Thirdly, that the profits of the business for the year in question made it reasonable to pay the amount granted as allowance ; and lastly, the general practice in similar businesses or trade justified the payment of the amount as bonus. It seems to me that the plain reading of the clause means that the profits of a business will not be allowed to be dwindled by merely describing the payment as bonus, if the payment is in lieu of dividend or profit. I do not see any reason why any strained construction should be put on the plain meaning of the words of the clause. I, therefore, agree with the learned Chief Justice with regard to the answer to be given to the question referred to us.” (emphasis supplied)
We fail to understand how the aforesaid observations assist and help the Revenue in the factual matrix of the present case. Ashok Gupta is the managing director and in terms of the board resolution is entitled to receive commission for services rendered to the company. It is a term of employment on the basis of which he had rendered service. Accordingly, he was entitled to the said amount. Commission was treated as a part and parcel of salary and TDS has been deducted. Ashok Gupta was liable to pay tax on both the salary component and the commission. Payment of dividend is made in terms of the Companies Act, 1956. Dividend has to be paid to all shareholders equally. This position cannot be disputed by the Revenue. Dividend is a return on investment and not salary or part thereof. Herein the consideration in the form of commission which was paid to Ashok Gupta was for services rendered by him as per terms of appointment as a managing director.
In view of the aforesaid position, we answer the question of law in negative and in favour of the assessee and against the Revenue. The appeal is accordingly allowed. No costs.
[Citation : 341 ITR 563]
