Surtax capital computation: reserves for contingencies and excess development rebate reserve were includible in capital.

For surtax capital computation, an amount existing as an actual reserve on the first day of the previous year was includible even if shown later as a proposed addition. A reserve created for employees' indemnities was treated as a reserve, not a provision, because it related only to a possible future contingency and not a known liability on the relevant date. Excess development rebate reserve beyond the statutory requirement was also includible as an other reserve if not otherwise allowed in computing profits. The disputed amounts were therefore treated as part of capital.

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Issues: (i) Whether an amount shown as proposed addition to reserve on the last day of the accounting period but existing as reserve on the first day of the previous year formed part of capital for surtax purposes; (ii) whether a reserve created for employees' indemnities was a reserve or a provision for contingent liability; (iii) whether excess development rebate reserve over the statutory requirement was includible in capital for surtax purposes.

Issue (i): Whether an amount shown as proposed addition to reserve on the last day of the accounting period but existing as reserve on the first day of the previous year formed part of capital for surtax purposes.

Analysis: The relevant date for capital computation was the first day of the previous year, not the last day of the preceding accounting period. On that date the amount stood as an actual reserve and not merely as a proposed addition. The appropriation was also supported by the principle that a later formal approval can relate back to the beginning of the accounting year when the reserve had already been treated as such in substance.

Conclusion: The amount was part of the reserve and was includible in capital, in favour of the assessee.

Issue (ii): Whether a reserve created for employees' indemnities was a reserve or a provision for contingent liability.

Analysis: The amount was set apart to meet possible retrenchment compensation arising only on a future contingency and not to meet any known or existing liability on the relevant date. The distinction between provision and reserve turned on whether the amount was retained for a known liability; a merely possible or future contingency did not make it a provision. The account was therefore not covered by the exclusion applicable to provisions for known liabilities.

Conclusion: The amount was a reserve and was includible in capital, in favour of the assessee.

Issue (iii): Whether excess development rebate reserve over the statutory requirement was includible in capital for surtax purposes.

Analysis: Only the amount required by the statutory scheme could be treated as development rebate reserve under the relevant provision. The excess amount was not allowed as development rebate under the Income-tax Act and, according to the Board's circular, such excess constituted other reserves and could enter capital computation if not otherwise allowed in computing profits.

Conclusion: The excess amount was includible in capital, in favour of the assessee.

Final Conclusion: All the referred questions were answered for inclusion of the disputed amounts in the company's capital computation under the surtax regime, resulting in the reference being disposed of against the Revenue and in favour of the assessee.

Ratio Decidendi: For surtax capital computation, an amount is a reserve if it is not set aside to meet a known liability on the relevant valuation date; amounts related back to the first day of the previous year may be treated as reserves from that date; and any excess development rebate reserve beyond the statutory requirement, if not allowed in computing profits, is includible as an other reserve.

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