COMMISSIONER OF INCOME TAX, TRIVANDRUMversusM/S TRANVANCORE TITANIUM PRODUCTS LTD.

          COMMISSIONER OF INCOME TAX, TRIV ANDRUM                                 A
                                       v.
          M/S TRANVANCORE TITANIUM PRODUCTS LTD.

                            DECEMBER 7, 2000

                 [S.P. BHARUCHA. D.P. MOHAPATRA AND                               B
                          Y.K. SABHARWAL. JJ.)


      Surtax :

      Companies (Profits) Surtax Act, 1964-Section 18-Capital·-                   C
Computation of. -Amount lying in loan Redemption Reserve Account-Reserve
or Provision- -Held, the amount has been set aside to clear a known liability--
Hence it is a provision and not a reserve-Thus it could not be excluded from
capital.

      Respondent-assessee obtained loan of Rs. 491 lakhs from State
                                                                                  D
Government over a period from 1968 to 1983 for expansion of its plant. Amount
outstanding towards principal to the State Government was Rs. 143 lakhs for
the financial year 1986-87. An amount of Rs. I Crore was lying in 'Loan
Redemption Reserve' account. In computing the capital for the purposes of
the Act, the Revenue treated the amount as a provision and not a reserve and      E
therefore excluded from capital. Commissioner (Appeals) dismissed the appeal
of the assessee. Tribunal allowed the appeal of the assessee directing the
Revenue to include the amount Rs. I crore in the capital for computation of
surtax. On reference by the Revenue, High Court answered the question in
favour of the assessee. Hence the appeal by the Revenue.
                                                                                  F
       In appeal to this Court, Revenue contended that the amount is in nature
of sinking fund for clearing an ascertained liability; that the amount was not
set aside for acquiring an asset; and that the amount was a provision and not
a reserve.

      Allowing the appeal, the Court                                              G

      HELD: I.I. The true nature and character of an appropriation has to
be determined with reference to the substance of the matter. One must have
regard to the intention with which and the purpose for which the appropriation
has been made, such intention and purpose being gathered from the
                                      461
    462                       SUPREME COURT REPORTS [2000) SUPP. 5 S.C.R.

A surrounding circumstances. If any retention or appropriation of a sum falls
    within the definition of 'provision', it can never be a reserve but it does not
    follow that if the retention or appropriation is not a 'provision', it is
    automatically a reserve. The fact that the amount has been set apart for
    redeeming liabilities makes it obvious that the intention is for clearing
B   liabilities and not acquiring an asset. In the instant case, the Tribunal is wrong
    in treating the amount as 'reserve'. 1467-E, F, GI

          1.2. The amount of Rs. l crore lying in 'Loan Redemption Reserve'
    cannot be regarded as a 'reserve' It has to be regarded as a 'provision'. The
    amount was set apart to meet a loan liability. The amount set apart is less
C   than the assessee's liabilities. It cannot be regarded as an asset. [464-B, DJ

          Vazir Sultan Tobacco Co. Ltd v. Commissioner of Income Tax, A.P.,
    (1981) 132 lTR 559, relied on.

          National Rayon Corporation ltd. v. Commissioner uf Income-tax, (1997)
D 227 lTR 764; C.l. T v. Century Spinning & Manufacturing Co. Ltd., (1953)
    24 ITR 499 and Metal Box Company oflndia Ltd. v. Their Workmen, (1969)
    73 ITR 53, referred to.

          C.l.T. v. Pieco Electronics & Electricals, (1987) 166 ITR 299 Cal,
    referred to.
E
          CIVIL APPELLATE JURISDICTION.: Civil Appeal No. 3825 of 1999.

           From the Judgment and Order dated 18.8.98 of the Kerala High Court
    in l.T.R. No. 89of1993.

F        Harish N. Salve, Solicitor General, Ranbir Chandra, S.W.A. Quadri and
    Ms. Sushma Suri for the Appellant.

          C.S. Vaidyanathan and E.M.S. Anam for the Respondents.

          The Judgment of the Court was delivered by

G         Y.K. SABHARWAL, J. This appeal has been filed by the Revenue to
    challenge the correctness of the judgment and order of the High Court of
    Kerala dated 18th August, 1998. The case relates to assessment year 1985-
    86. On reference under Section 256(1) of the Income Tax Act, 1961 as applied
    to surtax by Section 18 of the Companies (Profits) Surtax Act, 1964 the
H   questions that arose for consideration Clf the High Court were:
      Cl.T '" TRANVANCORE TITANIUM PRODUCTS LTD !Y K. SABHARWAL, J]       463
        "(a) Whether, on the facts and in the circumstances of the case, the     A
             Appellate Tribunal is right in law in holding that the loan
             redemption reserve amount to Rs. I crore is a reserve and not
             a provision and is to be included in the computation of capital
             for the purpose of surtax?
        (b)   Whether, on the facts and in the circumstances of the case and     B
              in view of the Supreme Court decision in the case of Vazir
              Sultan Tobacco Co. ltd. (I 32 /TR 559), the Appellate Tribunal
              is right in holding so?"

      By the impugned judgment the High Court answered the questions in
the affirmative, that is, in favour of the respondent-assessee and against the   C
Revenue.

         The respondent had obtained Rs. 491 lakhs as loan from Government
  of Kerala from 1968 to 1983 for the expansion of the Titanium Dioxide Plant.
 It could repay upto March, 1987 only a sum of Rs. 115.50 lakhs. The balance
 of the loan outstanding as on 31st March, 1987 was Rs. 377 .50 lakhs which D
  included a sum of Rs. 245 lakhs being overdue instalment of principal from
  1983 onwards. Out of the sum of Rs. 245 lakhs outstanding, two instalments
 totalling Rs. 102 lakhs were repaid to the Government during June 1987 and
 the arrears due to the Government towards principal of the loan amount as
 on the date of the presentation of the annual report of the company for the E
 financial year 1986-87 was Rs. 143 lakhs. The assessing authority disallowed
 the -sum of Rs. I crore standing in the credit side under the head 'loan
 redemption reserve' holding that even if it is conceded that it is an
 appropriation from profit by way of a fund even then it partakes the nature
 of the 'sinking fund' only which can be only for clearing of an ascertained
 liability. It further held that the fact that a sum has been set apart for F
redeeming liabilities makes it obvious that the intention is for cl~aring a
 liability and not acquiring an asset. The assessing authority held the amount
was a 'provision' and not a 'reserve. The appeal preferred by the respondent
was dismissed on 31st January, 1990 and the assessment order was upheld
by the Commissioner of Income-tax (Appeals). The Income-tax Appellate G
Tribunal, however, by order dated 25th September, 1991 allowed the appeal
of the assessee and directed the assessing officer to include the sum of Rs.
 I crore in the capital of the company for the purpose of surtax. The Tribunal
held that there was no stipulation by the Government for the creation of loan
redemption reserve; on its own volition the assessee had been creating a loan
redemption reserve by making an appropriation of profit of Rs. I 0 lakhs each H
    464                       SUPREME COCRT REPORTS [2000] SUPP. 5 S.C.R.

A   year beginning from 1970; the total reserve amount to Rs. 100 lakhs remained
    undisturbed till the year 1987 and in the year 1988 the same was transferred
    to the general reserve and that the amount appropriated was not against the
    profits but was from out of the profit and the loan redemption reserve did not
    bring into existence any fresh liability because the liability was already in
B   existence. These are the circumstances under which the two questions noticed
    above were answered by the High Court in favour of the respondent-assessee.

           The point for determination is whether the loan redemption reserve
    amount to Rs. 1 crore is a reserve or it is a ·provision'. It may be noticed that
    the tribunal in its order had also relied upon the decision of the Calcutta High
C   Court in C./. T. v. Pieco Electronics & Electricals, ( 1987) 166 !TR 299. That
    decision has also been referred in the impugned judgment of the High Court.
    The decision of the Calcutta High Court in Pieco Electronics (supra) has been
    overturned by this Court in National Rayon Corporation ltd. v. Commissioner
    of Income-tax, (1997) 227 !TR 764. Relying upon Vazir Sultan Tobacco Co.
    Ltd. v. Commissioner of Income-tax, A.P., (1981) 132 !TR 559 the Court rejected
D   the contention that if the redemption or appropriation of a sum out of profits
    and surpluses was for a unknown liability or for a liability which did not exist
    on the relevant date, it must be regarded as a reserve. The contention was
    held to be fallacious. The expressions 'provision' and 'reserve' have not been
    defined in the Companies (Profits) Surtax Act, 1964. After referring to the
E   dictionary meaning of these expressions and bearing in mind the distinction
    between the two concepts as known in the commercial accountancy and
    decision of this Court in C./. T. v. Century Spinning & Manufacturing Co.
    Ltd.. (1953) 24 !TR 499 and Metal Box Company of India Ltd. v. Their
    Workmen, (1969) 73 !TR 53 it was held in Vazir Sultan's case (supra):

                "In other words the broad distinction between the two is that
F           whereas a provision is a charge against the profits to be taken into
            account against gross receipts in the p & I 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
G           how the two concepts are defined and dealt with by the Companies
            Act, 1956.

                Under s.210 of the Companies Act, 1956, it is incumbent upon the
            board of directors of every company to lay before the annual general
            meeting of its shareholders, (a) the annual balance-sheet, and (b) the
H           profit and loss account pertaining to the previous financial year.
CIT v. TRANVANCORE TITANIUM PRODUCTS LTD [Y.K. SABHARWAL, J.]            465

  Section 211 (I) provides that every balance-sheet of a company                 A
  shallgive a true and fair view of the state of affairs of the company
  as at the end of the financial year and shall, subject to the provisions
  of this section, be in the form set out in Pt. I of Sch. VI, or near thereto
  as circumstances admit or in such other form as may be approved by
  the Central Govt. either generally or in any particular case, while s. 211     B
  (2) provides that every profit and loss account of a company shall
  give a true and fair view of the profit or loss of the company for the
  financial year and shall, subject as aforesaid, comply with the
  requirements of Pat. II of Sch. VI, so far as they are applicable thereto.
  In other words the preparation of balance-sheet as well as profit and
  loss account in the prescribed forms and laying the same before the            C
  shareholders at the annual general meeting are statutory requirements
  which the company has to observe. The form of balance-sheet as
  given in Pt. I of Sch. VI contains separate heads of "Reserves and
  Surpluses" and "Current Liabilities and Provisions" and under the
  sub-head "Reserves" different kinds of reserves are indicated and
  under sub-head "Provisions" different types of provisions are indicated.       D
  Part III is the interpretation clause setting out the definitions of
  various expressions occurring in Pts I and II and the expressions
  "reserve", "provision" and "liability" have been defined in cl. 7 thereof.
  Material portion of cl. 7 of Pt.III runs as under:

          '( 1) For the purposes of Parts 1 and II of this Schedule, unless      E
       the context otherwise requires,-

          (a) the expression 'provisions' shall, subject to sub-clause (2)
       of this clause, mean any amount written off or retained by way
       of providing for depreciation, renewals or diminution in value of         F
       assets, or retained by way of providing for any known liability
       of which the amount cannot be determined with substantial
       accuracy;

          (b) the expression 'reserve' shall not, subject as aforesaid,
       indude any amount written off or retained by way of providing             G
       for depreciation, renewals or diminution in value of assets or
       retained by way of providing for any known liability; ........

          and in this sub-clause the expression 'liability' shall include
       all liabilities in respect of expenditure contracted for an all
       disputed or contingent liabilities.                                       H
    466                     SUPREME COURT REPORTS [2000) SUPP. 5 S.C.R.

A                  (2) Where-

                   (a) any amount written off or retained by way of providing
                for depreciation renewals or diminution in value of assets, not
                being an amount written off in relation to fixed asset~ before the
                commencement of this Act; or ·
B                  (b) any amount retained by way of providing for any known
                liability;

                  is in excess of the amount which in the opinion of the directors,
               is reasonably necessary for the purpose, the excess shall be
               treated for the purposes of this Schedule as a 'reserve' and not
c              a 'provision'.

              On A plain reading of cl. 7(l)(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
D         amounts which are not to be included in the term "reserve". In other
          words the effect of reading the two definitions together is that if any
          retention ot appropriation of a sum falls within the definition of
          "provision" it can never be a reserve but it does not follow that if the
          retention or appropriation is not a provision it is automatically a
E         reserve and the question will have to be decided having regard to the
          true nature and character of the sum so retained or appropriated
          depending on several factors including the intention with which and
          the purpose for which such retention or appropriation has been made
          because the substance of the matter is to be regarded and in this
          context the primary dictionary meaning of the term "reserve" may
F         have to be availed of. But it is clear beyond doubt that if any retention
          or appropriation of a sum is not a provision, that is to say, if it is not
          designated to meet depreciation, renewals or diminution in value of
          assets or any known liability the same is not necessarily a reserve. We
          are emphasising this aspect of the matter because during the hearing
          almost all counsel for the assesses strenuously contended before us
G
          that once it was shown or became clear that the retention or
          appropriation of a sum out of profits and surpluses was for an unknown
          liability or for a liability which did not exist on the relevant date it must
          be regarded as a reserve. The fallacy underlying the contention
          becomes apparent if the negative and non-exhaustive aspects of the
H         definition of reserve are borne in mind. Having regard to the type of
      C.LT. v. TRANVANCORE TITANIUM PRODUCTS LTD. [Y.K. SABHARWAL, J]          467

         definitions of the two concepts which are to be found in cl. 7 of Pt.       A
         III the proper approach in our view would be first to ascertain whether
         the particular retention or appropriation of a sum falls within the
         expression "provision" and if it does then clearly the concerned sum
         will have to be excluded from the computation of capital, but in case
         the retention or appropriation of the sum is not a provision as defined,    B
         the q~estion will have to be decided by reference to the true nature
         and character of the sum so retained or appropriated having regard
         to several factors as mentioned above and if the concerned sum is in
         fact a reserve then it will be taken into account for the computation
         of capital."

         In view of the aforestated legal pos1tton, the aspects taken into
                                                                                     c
  consideration by the tribunal and affirmed by the High Court that there was
  no stipulation by the Government for creation of loan redemption reserve;
  that the assessee had not kept to the schedule for repayment; that the
  assessee, on its own volition, had created a loan redemption reserve by
  making appropriation of profit of Rs. 10 lakhs each year beginning from 1970; D
  that the total reserve amounting to Rs. 100 lakhs remained undisturbed till the
  year 1987 and in the year 1988 the same was transferred to general reserve
 and that the balance sheet showed that the amounts credited to the 'loan
  redemption reserve' were not invested outside the company but remained
  internally invested, on the facts found, were not relevant for determining as E
 to whether the amount was an asset or provision. As held in Vazir Sultan,
 the true nature and character of an appropriation has to be determined with
 reference to the substance of the matter, one must have regard to the intention
 with which and the purpose for which the appropriation has been made, such
 intention and purpose being gathered from the surrounding circumstances.
 The Vazir Sultan's case (supra) also holds that if any retention or appropriation F
 of a sum falls within the definition of 'provision' it can never be a reserve
 but it does not follow that ifthe retention or appropriation is not a 'provision'
 it is automatically a reserve. The fact that amount has been set apart for
 redeeming liabilities makes it obvious that the intention is for clearing liabilities
and not acquiring an asset. Bearing in mind these aspects, it is clear that the G
amount in question cannot be regarded as a 'reserve'. It has to be regarded
as a 'provision'. Clearly the amount was set apart to meet a loan liability. It
may also be noticed that the amount set apart is less than the respondent's
liabilities. It cannot be regarded as an asset. The decision in Vazir Sultan's
case (supra) was not correctly appreciated by the High Court. In this view,
the questions deserve to be answered in the negative.                                  H
    468                     SUPREME COURT REPORTS (2000) SUPP. 5 S.C.R.

A         For the aforesaid reasons, we allow the appeal and answer the questions
    in the negative, that is, in favour of the Revenue and against the assessee,
    upholding the order of the assessing authority. The parties are left to bear
    their own costs.
                                                                                    ...
    B.S.                                                        Appeal allowed.