1962 (9) TMI 64 - HC - Income Tax

Court defines 'accumulated profits' under section 2(6A)(e) and deems overdrawings as dividends.

The High Court ruled in favor of the department, holding that 'accumulated profits' for the purposes of section 2(6A)(e) include amounts in the general ... - Issues Involved1. Whether 'accumulated profits' for purposes of applying section 2(6A)(e) include general reserve.2. Whether the net overdrawings of the assessees during the previous year ended March 31, 1956, for the assessment year amount to dividends within the meaning of section 2(6A)(e).Detailed AnalysisIssue 1: Accumulated Profits and General ReserveThe primary question addressed was whether 'accumulated profits' for the purposes of section 2(6A)(e) include amounts transferred to the general reserve. The Tribunal held that the term 'accumulated profits' is not defined in the Income-tax Act and should be interpreted in its natural meaning. The Tribunal opined that transferring profits to a reserve account does not alter their character as accumulated profits. The company retains the ability to utilize these reserves for any purpose, including the payment of dividends, until they are irretrievably spent. Therefore, the Tribunal concluded that sums transferred to the reserve account remain part of accumulated profits.The High Court upheld this view, stating that the mere transfer of profits to a general reserve does not change their nature as accumulated profits. The Court referenced company law principles, noting that dividends can only be paid out of profits in the legal sense, and there is no restriction on re-transferring amounts from reserves to profits for dividend distribution. The Court emphasized that unless profits are capitalized in some form, transferring them to any reserve account does not strip them of their character as accumulated profits.Conclusion: The Court affirmed that 'accumulated profits' for the purposes of section 2(6A)(e) include amounts in the general reserve.Issue 2: Net Overdrawings as DividendsThe second issue was whether the net overdrawings of the assessees from the company constituted dividends under section 2(6A)(e). The Tribunal found that the overdrawings did not amount to loans or advances within the meaning of the section. It reasoned that the term 'advance' implies a sort of permanent advance not intended to be repaid, and 'loan' typically involves a fixed sum lent at interest. The Tribunal noted that in this case, the transactions were part of a current account with fluctuating balances, and interest was charged on both debit and credit balances, indicating that these were not fixed loans or advances.However, the High Court disagreed with the Tribunal's conclusion. The Court examined the nature of the transactions and found that the company made payments on behalf of the shareholders for personal expenses, income-tax demands, and life insurance premiums. These payments were debited to the shareholders' accounts, and interest was charged on the debits. The Court held that such payments could be regarded as loans or advances, or as payments made on behalf of or for the individual benefit of the shareholders, which fall within the scope of section 2(6A)(e).The Court emphasized that the provision covers various types of payments, including advances, loans, and payments made on behalf of or for the benefit of shareholders. The Court concluded that the net overdrawings constituted deemed dividends since there were adequate accumulated profits to cover these payments.Conclusion: The Court ruled that the net overdrawings of the assessees during the previous year amounted to dividends within the meaning of section 2(6A)(e).Final JudgmentThe High Court answered both questions in favor of the department. It held that 'accumulated profits' include amounts in the general reserve and that the net overdrawings constituted deemed dividends under section 2(6A)(e). The department was entitled to its costs, with counsel's fee set at Rs. 250.