Appropriation to reserve must be made by authorised person by the material date to qualify as capital; later entries fail.

An appropriation to reserves counts as part of computed capital only if profits were factually appropriated by the person(s) with authority on or before the material date; where directors validly resolved to allocate sums before the material date those sums qualified as capital for that chargeable period, but a post date directors' resolution or mere retrospective balance sheet entry does not convert undistributed profits into reserves as of the earlier material date. Outcome: first appropriation upheld as capital; second appropriation disallowed for the earlier period.

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Issues: (i) Whether sums appropriated in the company's accounts and shown as reserves on the balance sheet brought forward on 1st April, 1946 (Rs. 11,00,000) formed part of the company's capital within the meaning of Rule 2(1) of Schedule II of the Business Profits Tax Act, 1947 for the chargeable accounting period 1st April, 1946 to 31st December, 1946; (ii) Whether sums appropriated and shown as reserves on the balance sheet brought forward on 1st January, 1947 (Rs. 5,25,000) formed part of the company's capital within the meaning of Rule 2(1) of Schedule II of the Business Profits Tax Act, 1947 for the chargeable accounting period 1st January, 1947 to 31st March, 1947.

Issue (i): Whether Rs. 11,00,000 constituted reserves forming part of capital on 1st April, 1946.

Analysis: The question turns on whether an appropriation of profits to specified reserves was validly and effectively made by a person having authority on or before the material date (1st April, 1946). Directors' resolutions of 15th March, 1946, expressly allocated sums to tax provision and to reserve fund and the articles of association together with section 131A authorize directors to set aside sums to reserves prior to recommending dividends. The shareholders' subsequent approval did not create the allocation but merely ratified what had already been ordered by directors. The reserve character of an appropriation is not defeated by the fact that the funds were earmarked for tax payment where the appropriation was validly made by the proper authority.

Conclusion: The sum of Rs. 11,00,000 formed part of the company's capital within the meaning of Rule 2(1) of Schedule II of the Business Profits Tax Act, 1947 for the chargeable accounting period 1st April, 1946 to 31st December, 1946 (decision in favour of assessee on this issue).

Issue (ii): Whether Rs. 5,25,000 constituted reserves forming part of capital on 1st January, 1947.

Analysis: Determination requires a factual appropriation to reserve by the person(s) with requisite authority on or before the material date (1st January, 1947). The directors' resolution effecting the appropriation was passed on 15th April, 1947, after the material date. A subsequent balance sheet entry or retrospective statement of appropriation does not convert undistributed profits into a reserve for the earlier material date.

Conclusion: The sum of Rs. 5,25,000 was not validly and effectively allocated to reserves on or before 1st January, 1947 and therefore did not form part of the company's capital within the meaning of Rule 2(1) of Schedule II of the Business Profits Tax Act, 1947 for the chargeable accounting period 1st January, 1947 to 31st March, 1947 (decision against assessee on this issue).

Final Conclusion: The reference is partly answered in favour of the assessee on the first issue and against the assessee on the second issue, resulting in a partial allowance of the claim to include reserves in computed capital for the relevant chargeable accounting periods.

Ratio Decidendi: For reserves to be included in computed capital under Rule 2(1) of Schedule II of the Business Profits Tax Act, 1947, an appropriation of profits must be factually made on or before the material date by a person having the requisite authority; undistributed profits or later retrospective entries do not qualify as reserves as of the material date.

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