Capital redemption reserve transfer excluded from distributable income where company law required mandatory appropriation before dividend

Mandatory transfer of current profits to a capital redemption reserve for redemption of preference shares is not available for distribution as dividend, because company law requires the appropriation before any dividend can be declared. On a harmonious construction of the income-tax dividend restriction provisions, such legally unavailable profits cannot be treated as distributable income, even though the statute does not expressly refer to this type of corporate reserve. The transfer to general reserve, where contemplated by the income-tax scheme, did not alter the distributable surplus computation. The effect was that the reserve transfer had to be excluded from distributable income, eliminating the dividend shortfall and undermining action taken under section 104(1).

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Issues: Whether the amount transferred from current year profits to the capital redemption reserve account for redemption of redeemable preference shares, and the amount transferred to general reserve as required by company law, were to be excluded while computing distributable income and the reasonableness of dividend under the income-tax provisions.

Analysis: The company was required by company law to redeem preference shares by creating a capital redemption reserve out of profits, and the transfer was therefore not available for distribution as dividend. The income-tax provision for computing distributable income did not expressly deal with such mandatory corporate appropriations, unlike the specific adjustment made for banking companies. A harmonious construction was applied so that profits not legally available for dividend under company law could not be treated as distributable for the purpose of the dividend restriction provisions. The 10 per cent transfer to general reserve was treated as already contemplated by the income-tax scheme governing distributable surplus.

Conclusion: The transfer to the capital redemption reserve account was deductible from the distributable surplus, the dividend shortfall disappeared, and the action taken under section 104(1) was without jurisdiction.

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