Reserve versus provision test under super profits tax: only amounts not set aside for existing liabilities count as capital.

For computation of capital under the Second Schedule to the Super Profits Tax Act, the decisive test is the true character of the amount in the accounts. Amounts not earmarked for an existing or accrued liability, not charged against profits as a provision, and not created to meet a present liability qualify as reserves and are includible in capital. On that principle, several specified funds, including capital reserve, rehabilitation reserve, bad and doubtful debts reserve, gratuity reserve, reserve for contingencies, fleet replacement reserve and dividend equalisation reserve, were treated as reserves. Forfeited moneys reserve was not so treated, and one item was deleted as not pressed.

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Issues: Whether various balances and funds created out of appropriation of profits or capital receipts constituted reserves includible in the company's capital under the Second Schedule to the Super Profits Tax Act, 1963, or were provisions set apart for existing or anticipated liabilities.

Analysis: The determining test is the true character of the amount reflected in the accounts. Amounts not earmarked for an existing liability, not charged against profits as a provision, and not created to meet a present or accrued liability were treated as reserves. On that principle, capital reserve, stocks and stores reserve, rehabilitation reserve, bad and doubtful debts reserve, loan and insurance reserve, investment reserve, gratuity reserve, reserve for special survey, reserve for contingencies, fleet replacement reserve, reserve for exempted profits, reserve for investment depreciation, and dividend equalisation reserve were held to be includible as reserves. Forfeited moneys reserve was not treated as a reserve. Obsolescence reserve was not pressed and was deleted from consideration.

Conclusion: The question whether the impugned amounts were reserves had to be answered substantially in favour of inclusion, except for forfeited moneys reserve and the item not pressed. The High Court's view was upheld and the matters were dismissed.

Final Conclusion: The governing principle is that a fund created for a liability not yet arisen or accrued may qualify as a reserve, whereas a fund set apart against an existing liability or a specific provision does not form part of capital under the statutory schedule.

Ratio Decidendi: For purposes of computing capital under the Second Schedule, the decisive test is whether the amount is truly a reserve or merely a provision for an existing or accrued liability; only amounts not earmarked for such liability are includible as reserves.

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