Bonus computation under the Payment of Bonus Act must treat direct tax as a prior charge before deducting bonus payable.

Direct tax under the Payment of Bonus Act is computed as a prior charge on gross-profits and prior charges without first deducting bonus payable for the same accounting year, so the Tribunal's contrary computation of allocable surplus was incorrect. Amounts already earmarked from reserves for dividend cannot remain part of reserves for return calculations, and doubtful debts treated as a provision, together with patent fees, plant transfer charges and disallowable rent treated as capital items, were correctly added back in gross-profit computation. On that basis, the award of 20% bonus and the direction of set on could not stand.

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Issues: (i) whether direct tax under the Payment of Bonus Act, 1965 is to be computed after deducting bonus payable for the relevant accounting year; (ii) whether the amount appropriated out of reserves for payment of dividend for the previous year was deductible from reserves for the purpose of return on reserves; (iii) whether doubtful debts and certain expenditure items were rightly added back in computing gross-profits; and (iv) whether the Tribunal's award of bonus at 20% and the direction of set on could stand.

Issue (i): whether direct tax under the Payment of Bonus Act, 1965 is to be computed after deducting bonus payable for the relevant accounting year.

Analysis: The scheme of the Act treats direct tax as a prior charge under Section 6(c), to be computed under Section 7 on the gross-profits and prior charges, without first deducting the bonus payable for the same accounting year. The earlier rulings on the point had already settled that the tax liability is not to be worked out on a basis that first subtracts bonus from gross-profits. The later amendment did not alter that principle, and the Act was treated as a self-contained code for computing available and allocable surplus.

Conclusion: Direct tax had to be computed without deducting the bonus payable for the relevant accounting year, and the Tribunal's contrary view was incorrect.

Issue (ii): whether the amount appropriated out of reserves for payment of dividend for the previous year was deductible from reserves for the purpose of return on reserves.

Analysis: For the relevant accounting year, the balance-sheet, directors' report, and notice of meeting showed that a definite sum had been set apart from the general reserve for payment of dividend for the previous year. Although actual declaration and payment occurred later, the amount had effectively been earmarked for dividend from the commencement of the accounting year and could not remain part of the reserve for earning return under the Third Schedule.

Conclusion: The deduction from reserves was justified, and the Tribunal correctly allowed return only on the reduced reserve figure.

Issue (iii): whether doubtful debts and certain expenditure items were rightly added back in computing gross-profits.

Analysis: The amount described as doubtful debts was treated by the employer's own accounts as distinct from bad debts and was in substance a provision not allowable for deduction in computing gross-profits. The items of patent fees, plant transfer charges, and disallowable rent were also shown by the evidence to be capital in nature and therefore not admissible as revenue expenditure for the purpose of reducing gross-profits.

Conclusion: The Tribunal was right in adding back the amount of doubtful debts and the three capital expenditure items.

Issue (iv): whether the Tribunal's award of bonus at 20% and the direction of set on could stand.

Analysis: Once direct tax was to be computed without deducting the bonus payable for the relevant accounting year, the allocable surplus could not support the Tribunal's conclusion that the statutory maximum bonus of 20% was payable. The direction of set on also depended on that erroneous computation and could not be sustained on the corrected basis.

Conclusion: The award of bonus at 20% and the direction of set on were unsustainable.

Final Conclusion: The award was modified in the company's favour on the principal question of direct-tax computation, while the Tribunal's other findings on reserves and additions back were upheld; the connected workmen's appeals were not pressed.

Ratio Decidendi: For computation of bonus under the Payment of Bonus Act, direct tax is a prior charge to be worked out on gross-profits and prior charges without first deducting the bonus payable for the same accounting year, and amounts already earmarked from reserves for dividend or capital outlays cannot be retained in the reserve or deducted as revenue expenditure for surplus computation.

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