Development allowance reserve treated as capital reserve for surtax computation; profit and loss surplus allowed, taxation provision rejected.

A statutory development allowance reserve was treated as a true reserve, not a provision, and therefore fell within "other reserves" for capital-base computation under the Companies (Profits) Surtax Act; it was included in the assessee's capital base. For Rule 2(ii), surplus in the profit and loss account could be set off against the cost of shares yielding inter-corporate dividend, because "any surplus" was read consistently with the capital-computation scheme. Provision for taxation, however, was not an allowable deduction under that rule, as it could not be brought in as "any fund" without defeating the statutory scheme.

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Issues: (i) Whether development allowance reserve created under section 33A of the Income-tax Act, 1961 could be included in the capital base under the Second Schedule to the Companies (Profits) Surtax Act, 1964. (ii) Whether, for purposes of Rule 2(ii) of the Second Schedule, surplus in the profit and loss account and provision for taxation could be deducted from the cost of shares yielding inter-corporate dividend.

Issue (i): Whether development allowance reserve created under section 33A of the Income-tax Act, 1961 could be included in the capital base under the Second Schedule to the Companies (Profits) Surtax Act, 1964.

Analysis: Development allowance reserve was held to be a reserve properly so called and not a provision. It was not specifically mentioned in Rule 1(ii), but it fell within the wider expression "other reserves" in Rule 1(iii). The creation of the reserve retained capital in the company and satisfied the settled distinction between a provision and a reserve.

Conclusion: The issue was decided in favour of the assessee, and the development allowance reserve was directed to be taken into account in computing the capital base.

Issue (ii): Whether, for purposes of Rule 2(ii) of the Second Schedule, surplus in the profit and loss account and provision for taxation could be deducted from the cost of shares yielding inter-corporate dividend.

Analysis: The expression "any surplus" in Rule 2(ii) was confined to the surplus item excluded from capital computation under the explanatory scheme of Rule 1, so surplus in the profit and loss account could be set off against the cost of shares. By contrast, provision for taxation could not be treated as "any fund" under Rule 2(ii); the rule had to be read with Rule 1 and its Explanation, and a contrary reading would defeat the scheme of the statute by allowing an excluded provision to enter through the back door.

Conclusion: The issue was partly in favour of the assessee: surplus in the profit and loss account was deductible, but provision for taxation was not.

Final Conclusion: The appeals succeeded only in part, with the assessee obtaining relief on the treatment of development allowance reserve and profit and loss surplus, but not on the claim relating to provision for taxation or the consequential interest ground.

Ratio Decidendi: Under the Companies (Profits) Surtax Act, a sum specifically earmarked as a statutory development allowance reserve is a reserve and may fall within "other reserves" for capital-base computation, while Rule 2(ii) must be construed contextually so that only the surplus/fund categories excluded by the capital-computation scheme can be used for reduction of the cost of relevant investments.

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