Reasonable provision for taxation cannot reduce capital base merely because final tax liability is higher.

Rule 1A of the Second Schedule to the Companies (Profits) Sur-tax Act, 1964 does not permit automatic reduction of the capital base merely because the provision for taxation is lower than the final assessed liability. The provision must first be shown to be unreasonable; a provision made on a reasonable basis cannot be treated as a reserve simply because later assessment results in a higher tax figure. On the record, there was only a shortfall between assessed tax and the amount provided, without material proving that the provision was inadequately or unreasonably made, so reduction of the capital base was not justified.

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Issues: Whether a shortfall in provision for taxation justified reduction of the capital base under Rule 1A of the Second Schedule to the Companies (Profits) Sur-tax Act, 1964 when the provision made was otherwise reasonable.

Analysis: Rule 1A does not operate mechanically whenever the provision for taxation falls short of the final tax liability. Its application depends on whether the amount actually provided for was made on a reasonable basis. The purpose of the rule is to prevent inflation of the capital base by omitting or inadequately providing for taxation or dividends, but a reasonable provision cannot be treated as a reserve merely because the assessed liability is later found to be higher. The record showed only the difference between assessed tax and the provision made, without any material establishing that the provision was unreasonably low.

Conclusion: The reduction of the capital base was not justified and the assessee succeeded on this issue.

Ratio Decidendi: Under Rule 1A of the Second Schedule to the Companies (Profits) Sur-tax Act, 1964, a shortfall in provision for taxation warrants adjustment only where the provision made is shown to be unreasonable; a reasonable provision cannot be disturbed merely because the final assessed tax is higher.

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