Capital reserve on takeover remains includible in surtax capital where no book asset is created or revalued.

A capital reserve arising on takeover, where the consideration paid for the undertakings was less than the net value of the real and tangible assets and liabilities acquired as a going concern, was not excluded by Explanation 1 to rule 2 of the Second Schedule to the Companies (Profits) Surtax Act, 1964. The exclusion applies only to a paid-up share capital or reserve created by revaluation or by creating or increasing a book asset. As no book asset was created or increased by revaluation, the reserve remained includible in the company's capital for surtax computation, and the High Court's contrary view was set aside.

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Issues: Whether the capital reserve arising from the difference between the consideration paid for acquisition of the undertakings and the net value of the assets taken over was excluded by Explanation 1 to rule 2 of the Second Schedule to the Companies (Profits) Surtax Act, 1964, and whether the reserve was includible in the company's capital for surtax purposes.

Analysis: Explanation 1 excludes only a paid-up share capital or reserve brought into existence by creating or increasing, by revaluation or otherwise, any book asset. The reserve in question arose because the assessee took over real and tangible assets and liabilities as a going concern at the approved consideration, and the difference between that consideration and the net worth had to be shown in the accounts as capital reserve. No book asset was created or increased by revaluation. The earlier decision under an in pari materia provision was directly applicable, and the High Court erred in treating the reserve as falling within the exclusion.

Conclusion: The reserve was not hit by Explanation 1 and was includible in the capital of the assessee for surtax computation.

Final Conclusion: The order of the High Court was set aside and the Tribunal's view restoring inclusion of the reserve in capital was restored, resulting in success for the assessee.

Ratio Decidendi: A reserve arising merely from the excess of the net value of real and tangible assets over the consideration paid on takeover is not a reserve brought into existence by creating or increasing a book asset and therefore does not fall within the exclusion in Explanation 1 to rule 2.

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