Deeming fiction under income tax law cannot expand balancing charges into accumulated profits for deemed dividend taxation on liquidation.

Amounts assessed as balancing charges under section 41(2) could not be treated as a company's accumulated profits for section 2(22)(c), because accumulated profits mean profits in the commercial sense and not every amount brought to tax by a deeming provision. The legal fiction in section 41(2) was confined to assessment under that provision and could not be extended to convert the capital receipt into accumulated profits for taxing shareholders on liquidation. Accordingly, distributions made on liquidation were not taxable as deemed dividends to the extent based on such sums.

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Issues: Whether profits assessed under section 41(2) of the Income-tax Act, 1961 on the sale of depreciable capital assets could be treated as part of the company's accumulated profits for the purpose of section 2(22)(c), and whether the distributions made on liquidation were therefore taxable as deemed dividends in the shareholders' hands.

Analysis: Section 2(22)(c) taxes distributions on liquidation only to the extent attributable to the company's accumulated profits immediately before liquidation. The expression "accumulated profits" refers to profits in the commercial sense and not every amount brought to tax by a deeming provision. Section 41(2) creates a legal fiction by treating the balancing charge, arising on sale of depreciable assets, as business income in the company's hands for the limited purpose of assessment under that provision. That fiction cannot be extended to convert the same amount into accumulated profits for section 2(22)(c) in the shareholders' assessments. The receipt retained its capital character in the shareholders' hands, and the fact that it was taxed as deemed income in the company's hands did not alter that character.

Conclusion: The sums assessed under section 41(2) could not form part of the company's accumulated profits for section 2(22)(c), and the liquidation distributions were not taxable as deemed dividends on that basis.

Ratio Decidendi: A deeming fiction in one taxing provision is confined to the purpose for which it is created and cannot be extended to treat a capital receipt as accumulated profits for taxing shareholders on liquidation.

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