Case Law Details
SUMMARY OF ADVANCE RULING
Merely because the objective of the provision will be better served, it is not permissible to read words into a provision which is otherwise clear.
RELEVANT PARAGRAPH
5. It would be appropriate to reproduce section 36(1)(viii) of the Act as it stood in the relevant assessment years i.e. A.Y.1997-98 in the following terms: –
Section 36(1)(viii) : as it stood in the statute during the A.Y.(1997-98) 36(1) – The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28
xxx xxx xxx
(viii) …. In respect of any special reserve created by a financial corporation@ which is engaged in providing long-term finance for [industrial or agricultural development or development of infrastructure facility in India or by a public company formed and registered in India with the main object of carrying on the business of providing long-term finance for construction or purchase of houses in India for residential purposes, an amount not exceeding forty per cent of the profits@ derived from such business of providing long-term finance computed under the head “Profits and gains of business or profession” [before making any deduction under this clause ] carried to such reserve account@:]
Provided that the corporation [or, as the case may be, the company] is for the time being approved by the Central Government for the purposes of this clause:
Provided further that where the aggregate of the amounts carried to such reserve account from time to time exceeds [twice the amount of] the paid-up share capital [(excluding the amounts capitalized from reserves)] of the corporation [or, as the case may be, the company], no allowance under this clause shall be made in respect of such excess.”
Explanation –
xxx xxx xxx
6. In section 36(1)(viii) the amendment was made by the Finance Act, 1997 with effect from 1.4.1998, by inserting the word `and maintained’ after the word `created’. The provision after the amendment, to the extent it is relevant, is quoted hereunder:-
Section 36(1)(viii) ….” In respect of any special reserve created [and maintained]@ by a financial corporation, which is engaged in providing long-term finance for [industrial or agricultural development or development of infrastructure facility in India or by a public company formed and registered in India with the main object of carrying on the business of providing long-term finance for construction or purchase of houses in India for residential purposes, an amount not exceeding forty per cent of the profits derived from such business of providing long-term finance computed under the head “Profits and gains of business or profession” [before making any deduction under this clause ) carried to such reserve account:-
Provided that the corporation [or, as the case may be, the company] is for the time being approved by the Central Government for the purposes of this clause:
Provided further that where the aggregate of the amounts carried to such reserve account from time to time exceeds [twice the amount of] the paid-up share capital [(excluding the amounts capitalized from reserves)] of the corporation [or, as the case may be, the company], no allowance under this clause shall be made in respect of such excess.”
xxx xxx xxx
7. Along with the amendment in section 36(1)(viii) as referred to in preceding Para, there has been simultaneous amendment w.e.f. 1.4.1998 in section 41 by way of insertion of clause (4A) in the following terms: –
Profits chargeable to tax.
Section 41.(1)xxx xxx xxx
(4A) “Where a deduction has been allowed in respect of any special reserve created and maintained under clause (vii) of sub-section (1) of section 36, any amount subsequently withdrawn from such special reserve shall be deemed to be the profits and gains of business or profession@ and accordingly be chargeable to income-tax as the income of the previous year in which such amount is withdrawn.”
Explanation. – Where any amount is withdrawn from the special reserve in a previous year in which the business is no longer in existence, the provisions of this sub-section shall apply as if the business is in existence in that previous year.”
8. From the above, it can be seen that while the Legislature had amended section 36(1)(viii) and intended to confer the benefit under that section only if that special reserve created is maintained, the consequence of withdrawing the amount from the special reserve in the previous year is taken care of by sub-section (4A) of section 41. In other words, if any deduction has been allowed in respect of any special reserve under section 36(1)(viii) of the Income-tax Act and it is subsequently withdrawn, then it shall be deemed to have been profits and gains of the business and are chargeable to income-tax. Thus, the creation and maintenance of the reserve funds has been made a condition with effect from 1.4.98 for availing the benefit under section 36(1)(viii) and the consequence of withdrawing any such amount after deduction is made, by fiction of law, deemed to be the profit and gains of business chargeable to tax as the income of the previous year in which the amount is withdrawn.
9. Further, a comparative analysis of the provisions for two respective assessment years, as extracted above, shows that under section 36(1)(viii) of the Act, subject to certain conditions, a deduction is provided in respect of a special reserve created by a financial corporation of an amount not exceeding 40 per cent of the total income, carried to such reserve account. We think that crucial words in these provisions are `special reserve created’, ’40 per cent of the total income’ and `carried to such reserve account’. With these crucial words, the section contemplates the creation of reserve out of the total income of the relevant previous year and it contemplates that the Profits should be carried to such reserve account. At this juncture, the following observations of Madras High Court in the case of CIT vs. Tamilnadu Industrial Investment Corporation, reported in 240 ITR 573, can be usefully referred to: –
“Unless the assessee creates a special reserve out of the income of the previous year, the assessee is not entitled to claim the deduction under section 36(1)(viii) of the Act. The statutory condition is that the reserve must be out of the profit of the relevant previous year…….. may point out that under section 36(1)(viii) of the Act, the special reserve should not only be created but must be carried to reserve account”.
We find that between the provisions as they stood in A.Y. 1997-98 and A.Y. 1998-99, the material variation is that of insertion of the word `and maintained’ with effect from 1.4.1998 i.e. applicable from the A.Y. 1998-99. The amendment has been effected primarily to incorporate the condition regarding maintenance of reserve and seems to have been necessitated to overcome some deficiencies in the Act such as likely misuse of the provision. An amendment to section 41 i.e. insertion of clause (4A) has also simultaneously been made in order to bring to tax any amount withdrawn from such special reserve in the year in which the amount is withdrawn.
10. The combined effect of the amendments made by the Finance Act 1997 in section 36(1)(viii) and section 41 of the IT Act have been aptly analyzed by a division bench of Kerala High Court in Kerala Finance Corporation vs. CIT (2003, 129 Taxman 365). “Thus, it can be seen that while the Legislature had amended section 36(1)(viii) and intended to confer the benefit under that section only if that special reserve created is maintained, the consequence of withdrawing the amount from the special reserve in the previous year is taken care of by sub-section (4A) of section 41. In other words, if any deduction has been allowed in respect of any special reserve under section 36(1)(viii) of the Income-tax Act and it is subsequently withdrawn, then it shall be deemed to have been profits and gains of the business and are chargeable to income-tax. Thus, the creation and maintenance of the reserve funds has been made a condition for availing the benefit under section 36(1)(viii) and the consequence of withdrawing any such amount after deduction is made, is also made by fiction of law, deemed to be the profit and gains of business chargeable to tax as the income of the previous year in which amount is withdrawn. Going by the plain language of the section as it stood at the relevant point of time, it can be seen that creation of a special reserve was sufficient to entitle the assessee to claim the benefit under section 36(1)(viii) of the Income-tax Act and that the word “and maintained” was inserted only with effect from 1.4.1998 and it is not given any retrospective effect either expressly or impliedly. The Circular issued by the Department as quoted above also clarifies the position that it was intended only to operate subsequent to assessment year in question, after the same was amended and not before.”
13. We find it difficult to accept the contention of the Revenue’s counsel that clause (viii) of Section 36(1) as it stood before amendment has to be so construed as to imply an obligation to maintain the special reserve intact. It would amount to reading words which were not there in the pre-amended provision. The importance of difference between the expressions `created’ and `maintained’ cannot be understated. But for the amendment, the restriction against withdrawal of special reserve cannot be read into the main clause (viii). The legislature having noticed the need for amendment so as to prevent its misuse or to carry out the objective in a more effective manner, thought it fit to introduce the word `maintain’ while at the same time amending section 41 in order to ensure that the amount withdrawn from the special reserve is subjected to tax. Thus, the Finance Act, 1997 has brought into existence a new scheme of taxation. It cannot be said to be just a reiteration of the old provision. True, the main provision as well as the proviso should be read together and if possible be so construed as to promote the objective of the proviso; but, it cannot be done, in the absence of clear words and in the absence of ambiguity in the pre-existing provision. The apprehension expressed by the learned counsel for Revenue that unless the requirement of maintenance of special reserve created is implied, the second proviso will be a dead letter does not appeal to us. The diversion from special reserve need not always be there to circumvent the second proviso. Various business exigencies or considerations may weigh with the assessee in deciding upon withdrawal from special reserve. It need not always be viewed from taxation angle. For instance, in the present case, the applicant has still maintained a substantial part of the special reserve even after transferring a part of it to general reserve, as seen earlier. Assuming that the effective working of the second proviso is impaired if the special reserve is not required to be maintained intact, the remedy lay in legislative amendment and that is why the legislature stepped in to introduce the amendment without giving retrospective effect to the same. Merely because the objective of the provision will be better served, it is not permissible to read words into a provision which is otherwise clear. We have, therefore, no hesitation in rejecting the contention advanced on behalf of the Revenue.
14. It is well-settled that an amending provision is regarded as clarificatory or declaratory when the same is introduced to clear the doubts or ambiguity as regards its meaning in order to avoid unintended consequences. In the instant case, there is no ambiguity in the earlier provision of section 36(1)(viii) as the only requirement for claiming the deduction was the creation of the special reserve and the proviso was there to take care of the computational aspect. This very scheme had been existing right from the inception of the Act. Moreover, in the absence of clear words indicating that the amendment was clarificatory, it would not be so construed when the pre amended provision was clear and unambiguous (Ref.Sakuru vs. Tanoji, AIR 1985 1277). Where a new provision impairs an existing right or creates a new obligation, retrospectively cannot be inferred (vide Govinddas vs. I.T.O.)@. Another observation therein relevant to the present case is that `if the enactment is expressed in language which is fairly capable of either interpretation, it ought to be construed as prospective only.”
24. Section 36(1)(viia)( c) permits the deduction allowable @5% of the total income in respect of the notified financial institutions if a provision of bad and doubtful debts are made by an assessee. The A.O. considered the applicant’s plea and came to the conclusion that since the applicant has not made a provision for bad and doubtful debts, as required by section 36(1)(viia)( c) of the Act, the deduction under the said section is not merited. For coming to this conclusion, the A.O. has observed that there is clear distinction between the words `Reserve’ and `Provision’.
26. Section 36(1)(viia)( c) as it stood in the relevant assessment year i.e. A.Y. 1997-98:-
Section 36(1)(viia)( c) : as it stood in the statute during the A.Y.(1997-98)
36(1) – The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28(1) to vii
(viia) “in respect of any provision for bad and doubtful debts made by –
(a) xxx xxx xxx
(b) xxx xxx xxx
(c) a public financial institution or a State financial corporation or a State industrial investment corporation, an amount not exceeding five per cent of the total income (computed before making any deduction under this clause and Chapter VI-A).”
A look into the section 36(1)(viia)( c), as above, shows that this clause grants deduction up to the aggregate ceiling of 5 per cent of the total income, subject to the modalities of computation, to a public financial institution or state financial corporation or State Industrial Investment Corporation, if these entities make any `provision for bad and doubtful debts’. Thus, the requirement of section is that of making a provision for bad and doubtful debts and it does not enjoin that the provision is to be debited to Profit and Loss Account. However, as per the decision in the case of Vazir Sultan, reported in 132 I.T.R. 559 (SC), the provision is a charge against the profits to be taken into account in the gross receipts as Profits and Loss account and `reserve’ is an appropriation of profits… When we look into entries in the accounts of the applicant, it emerges that in the P&L Appropriation Account the exact stipulation made reads:– “Reserve under Section 36(1)(viia) of the Income Tax Act for Bad and Doubtful debts@” and the amount debited on this score is 4.5 crores. It is thus clear that the intention of the applicant was for deduction under section 36(1)(viia) only though the `provision’ was nomenclatured as `reserve’. It is the contention of the applicant that the entry under the caption `reserve’ in place of `provision’ was made in pursuance of the opinion expressed by the Expert Advisory Committee of the Institute of Chartered Accountant Accountants (ICAI). The first Appellate Authority, in his order dated 26.4.2005, has referred to such plea, but did not comment anything. Be that as it may, even if it is termed as reserve, which according to the applicant’s counsel, was in pursuance of the ICAI’s opinion, we are of the view that the nature and character of the entry remains the same as envisaged under clause (viia)(c) of Section 36(1) of the Act. In substance, we are of the opinion that it is a `provision’ though named as `reserve’. In our view, the debit in the appropriation account would not by itself dis entitle the applicant from claiming the deduction. We have to see the substance and real nature of the methodology adopted by the applicant. Here, the following observation of the ITAT Delhi in the case of Power Finance Corporation (supra) may be usefully extracted:-
“mere debit in the appropriation account by the assessee would not dis entitle the assessee from claiming deduction when the same is permissible to it under the provisions of section 36(1)(viia)( c) of the Act, more so, when the same has consistently been allowed by the department since 1990-91 to 1995-96 ….”
27. We are, therefore, of the view that the applicant merits deduction under section 36((viia)(c) of the Act.
Ruling
28. In view of the above discussion, we rule as under:-
Question No.1 : It was not legally proper on the part of the Revenue to disallow the deduction claimed under section 36(1)(viii) of the Act.
Question No.2 : It was not legally proper on the part of the Revenue to disallow the deduction claimed under section 36(1)(viia)( c)) of the Act.
