Provision versus reserve test: leave pay liability set aside for a known statutory obligation cannot be treated as capital reserve.

Amount set apart to meet leave pay liability was held to be a provision and not a reserve for capital computation under the Companies (Profits) Surtax Act, 1964. The distinction turns on whether the sum is appropriated out of profits to form part of capital employed, or is charged against profits to meet a known liability. Because the leave wage obligation was a statutory liability under the Factories Act and the amount was earmarked for that existing obligation, it could not be treated as a reserve merely because the corresponding deduction was disallowed or payment was deferred. It was therefore excluded from capital as reserve for surtax purposes.

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Issues: Whether the amount set apart as provision for leave pay liability was a "reserve" or a "provision" for the purpose of computing capital under the Companies (Profits) Surtax Act, 1964.

Analysis: The distinction between a reserve and a provision depends on whether the amount is appropriated out of profits to form part of capital employed, or is set apart as a charge against profits to meet a known liability. The leave wage liability was a statutory obligation under the Factories Act, and the amount was created to meet that existing obligation. Amounts earmarked for known liabilities do not become reserves merely because the corresponding deduction may be disallowed or because the exact payment is deferred.

Conclusion: The amount represented a provision and not a reserve, and it could not be included in capital as reserve for surtax purposes.

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