TaxTMI 
TaxTMI 
1981 (11) TMI 19
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.... for which the relevant accounting years were ended on December 31, 1962, and December 31, 1963, respectively. It appears that on the first day of the accounting year relevant to the assessment year 1963-64, there was a sum of Rs. 25,38,694 shown as surplus in the balance-sheet of the assessee. It would be relevant to set out the balance-sheet as on December 31, 1962, on the reserve and surplus items, which read as follows: " II. Reserves & Surplus(Schedule2) Rs. Capital reserves-Share premium account 70,00,000 Revenue reserves-General reserve 3,49,24,162 Development rebate reserve 74,50,000 Doubtful or bad debts reserve 12,00,000 ....
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....find that no such specific amount, as claimed, has been transferred to any 'surplus account'. Year after year, the net profit shown by the assessee has been added to the surplus left over in the profit and loss account of the earlier year out of which provisions and transfers to general reserve have been made leaving another surplus to be carried forward to the next year. This clearly shows that there is no such specific 'surplus' but the amount actually represents a mass of undistributed profits in the profit and loss account. We specifically asked the learned representative of the assessee to produce before us a copy of the company's resolution, if any, to prove that there was a clear indication to show that the amount had been transferred to any specific purpose which failed. This goes to show that nobody with any authority on the relevant date had made or declared that above amount as a reserve. " Similarly, for the assessment year 1964-65, the assessee had claimed that the surplus of Rs. 25,88,011 should be treated as a reserve for working out the capital base of the company under r. 1 of the Second Schedule to the C. (P.) S.T. Act, 1964. The claim was rejected by the ITO a....
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....; Rs. " V. Net profit available for disposal 1,68,86,953 VI. Surplus brought forward from previous year 25,88,011 Provision for retirement gratuities written back 5,00,000 ----------- &n....
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....sp; 1,99,74,964 ----------- So, the second year involved the question whether the sum of Rs. 25,88,011 should be treated as a reserve for working out the capital base of the company under r. 1 of the Second Schedule to the C, (P.) S. T. Act, l964. As we have mentioned before, there was an Explanation to r. 1 of the Second Schedule to the said Act, which was not there in respect of the previous year, which reads as follows: Explanation.-For the removal of doubts it is hereby declared that any amount standing to the credit of any account in the books of a company as o....
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....946, constituted reserves within the meaning of r. 2(1) of Sch. II of the said Act. The Supreme Court noted at p. 503 of the report that the term " reserve " had not been defined in the Act and, therefore, resort must be made to the ordinary meaning as understood in the common parlance. The Supreme Court referred to the dictionary meaning given in the Webster's New International Dictionary, 2nd Edn. Then at p. 504 of the report the Supreme Court went on to observe that what was the true nature and character of the disputed sum must be determined with reference to the substance of the matter and when this was borne in mind it followed that according to the Supreme Court on the facts of the case on April 1, 1946, the sum of Rs. 5,08,637 could not be called a " reserve " for nobody possessed of the requisite authority had indicated on that date the manner of its disposal or destination. On the other hand, on February 28, 1946, the directors clearly earmarked it for distribution as dividend and did not choose to make it a reserve. Nor did the company in its meeting on April 3, 1946, decide that it was a reserve. It had remained on the 1st of April as a mass of undistributed profits whi....
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....r the " Capital paid in surplus " was a premium realised from the issue of shares within the meaning of r. 3 of Sch. II to the Business Profits Tax Act, 1947 ? (ii) whether the " Capital paid in surplus " and the " Earned profits " were reserves within the meaning of r. 2(1) of the Schedule ? It was held that it was not necessary that the reserve admissible in the computation of capital should be one built out of profits. Reserves built up from sources other than profits were also admissible for inclusion in capital under r. 2(1) of the Business Profits Act, 1947, and that " Capital paid in surplus " was also a " reserve " within the meaning of the said r. 2. It was further held that the expression " reserve " meant something specifically kept apart for future use or for a specification. The Supreme Court was further of the opinion that the accumulated profits of the assessee-company at the end of the year were not carried forward into the account of the next year as they could not be, according to the system of accounting prevalent in the United States. They had to be allocated to some account, and they were allocated to " earned surplus " which was intended to designate a fund to....
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.... account was specifically allocated for utilisation for the purpose of business year after year. It was an account in which the net profits less the appropriations were added, and the account was intended for application in extending the business of the assessee-company. The amounts entered in the account, 'earned surplus' cannot therefore, be regarded as mere unallocated profits at the end of the accounting year. The High Court was therefore right in holding that the 'earned surplus' represented reserves. The method in which the accounts are maintained in the light of the accountancy practice clearly indicates that, at the end of each year, there have been specific appropriations in the account, and the conditions which this court regarded as essential in Century Spining & Manufacturing Company's case [1953] 24 ITR 499 (SC), for constituting the fund into reserve are fulfilled." Our attention was also drawn to an old decision of this court in the case of Indian Steel and Wire Products Ltd. v. CIT [1955] 27 ITR 436 (Cal), where Chakravartti C.J., at pp. 442, 443, after referring to the observations of the Supreme Court in the case of CIT v. Century Spg. and Mfg Co. Ltd. [1953....
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....e direction of the company. That being the way in which the two sums had been dealt with, there could not possibly be any distinction between the two for the purposes of capital computation. It follows that in so far as the Tribunal allowed the smaller sums it was in error and in so far as it disallowed the larger sums, it decided rightly. The answer to the first question must, therefore, be in the negative and that to the second question in the affirmative. " Now these cases will have to be reviewed and the question of reserve will have to be decided in the light of the observations of the Supreme Court in the case of Vazir Sultan Tobacco Co. Ltd. v. CIT [1981] 132 ITR 559. The Supreme Court held therein that the expression " reserve had not been defined in the Act and, therefore, one would be inclined to resort to its ordinary and natural meaning as given in the dictionary. But the Supreme Court felt that the dictionary meaning, though useful in itself, might not be sufficient, for the dictionaries, according to the Supreme Court, did not make any distinction between the two concepts, " reserve " and " provision " while giving their primary meanings whereas in the context of t....
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....of the Supreme Court in the case of Vazir Sultan Tobacco Co. Ltd. v. CIT [1981] 132 ITR 559, where the Supreme Court in pp. 568-569 observed as follows: "The expression `reserve' has not been defined in the Act and, therefore, one would be inclined to resort to its ordinary natural meaning as given in the dictionary but it seems to us that the dictionary meaning, though useful in itself, may not be sufficient, for, the dictionaries do not make any distinction between the two concepts ' reserve ' and ' provision ' while giving their primary meanings whereas in the context of the legislation with which we are concerned in the case, a clear distinction between the two is implied. According to the Dictionaries (both Oxford and Webster) the applicable primary meaning of the word ' reserve ' is : ' to keep for future use or employment, to set apart for some purpose or end in view ; to keep in store for future or special use : to keep in ' reserve ', while 'provision', according to Webster means: 'something provided for future'. In other words, according to the dictionary meanings, both the words are more or less synonymous and connote the same idea. Since the rules for computation of ....
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....ce sheet by way of deductions from the assets in respect of which they are made, whereas general reserves and reserve funds are shown as part of the proprietor's interest. (See Spicer and Pegler's Book-keeping and Accounts, 15th Edn., p. 42. In other words the broad distinction between the two is that whereas a provision is a charge against the profits to be taken into account against gross receipts in the profit and loss account, a reserve is an appropriation of profits, the asset or assets by which it is represented being retained to form part of the capital employed in the business. Bearing in mind the aforesaid broad distinction we will briefly indicate how the two concepts are defined and dealt with by the Companies Act, 1956." Then the Supreme Court referred to the provisions of the Companies Act and observed at pp. 570 and 571 of the said report as follows : " On a plain reading of cl. 7(1)(a) and (b) and cl. 7(2) above it will appear clear that though the term 'provision' is defined positively by specifying what it means, the definition of 'reserve' is negative in form and not exhaustive in the sense that it only specifies certain amounts which are not to be includ....
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.... the case of First National City Bank Ltd. v. CIT [1961] 42 ITR 17 (SC) and the CIT v. Standard Vacuum Oil Co. Ltd. [1966] 59 ITR 685 (SC), the two decisions which we have referred to hereinbefore, and the Supreme Court, referring to the observations mentioned hereinbefore, observed at p. 582 of the said report, in respect of these two cases, as follows : " This court in the first case held that the amount designated as `undivided profits' which was available for continuous future use of the business of the bank was a part of the reserve and had to be taken into account while computing the capital under r. 2(1) of Sch. II to the Business Profits Tax Act; similarly, in the second case the court held that the amount which had been allocated to 'earned Surplus' which was intended for the purpose of the business of the assessee-company and was used in subsequent years in business, represented ' reserves ' within the meaning of r. 2 of Sch. It of the Business Profits Tax Act, 1947. From these two decisions two aspects emerge very clearly. In the first place, the nomenclature accorded to any particular fund which is set apart from out of the profits would not be material or decisive o....
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....nue sought to urge that this balance-sheet would be effective only from April 1, 1964. Firstly, it appears from the expression used, the directors noted, that the general reserve had been increased by Rs. 1,07,00,488 and the directors felt that it would not be prudent to merge the surplus as on December 31, 1962. Therefore, the merging of surplus as on December 31, 1962, could take effect only from January 1, 1963. That account naturally must be passed in the year when the accounts and the balance-sheet for that year would be passed, i.e., after the close of the accounting year. In this connection, it would be relevant to bear in mind that when accounts have been closed and approved by the shareholders, the directors could make any recommendation for the profits from the shares. But when the accounts have not yet been closed and passed, the directors could not make any appropriation of the profits from the particular date and such appropriation will take effect from that date on which the accounts are passed. Therefore, the directors stated that in the accounts for the year ending December 31, 1962, they decided to merge the surplus standing on December 31, 1962, as general surplus....