Fresh notice is not necessary when reassessment is set aside for non-observance of natural justice

SUPREME COURT OF INDIA

Commissioner of Income-tax

versus

T.S.PL.P. Chidambaram Chettlar

J.C. SHAH, C.J.

AND K.S. HEGDE AND A.N. GROVER JJ.

CIVIL APPEAL NOS. 365 AND 671 OF 1967

JANUARY 21, 1971

B. Sen, Senior Advocate (B.D. Sharma and R.N. Sachthey, Advocates, with him), for the appellant in C.A. No. 365 of 1967 and respondent

T.A. Ramachandran and D.N. Gupta, Advocates, for the respondent in C.A. No. 365 of 1967 and appellant in C.A. No. 671 of 1967.

JUDGMENT

Hegde J.

The first of these two appeals (both by certificate), viz., that filed by the Commissioner of Income-tax succeeds and the second, that filed by the legal representatives of the assessee fails. The facts as found by the Tribunal and set out in the statement of the case, relevant for the purpose of these appeals, are as follows:

The relevant assessment year is 1944-45, corresponding to the accounting year ended on April 12, 1944. The assessee is one Chidambaram Chettiar (since deceased). The father of the assessee, Palaniappa Chettiar, was a money-lender. He had made various advances to one Nallathambi Sakkarai Manradiar, who will hereinafter be referred to as the Pattayagar, a prominent landlord in Coimbatore District, on promissory notes. The total principal advanced by the father of the assessee up to July 6, 1932, amounted to Rs. 1,38,535. The interest on the same came to Rs. 1,34,965. On July 6, 1932, a further advance of Rs. 2,500 was made to the Pattayagar and for the amounts due from him, the Pattayagar executed a mortgage of some of his properties in favour of the assessee’s father for a sum of Rs. 2,76,000. Till 1938, only a sum of Rs. 13,620 was paid by the mortgagor in part payment of the debt due from him. On December 14, 1940, the mortgagor instituted a suit on the foot of the mortgage bond claiming a sum of Rs. 5,50,573, inclusive of principal and interest. On September 19, 1943, the claim was compromised and on October 5, 1943, a compromise decree was passed for a sum of Rs. 3,50,500, in full satisfaction of the mortgagee’s claim. The decree amount was made payable on or before October 1, 1944. The debt under the compromise decree was subsequently discharged.

For the assessment year 1944-45, the assessee, Chidambaram Chettiar, as karta of his undivided Hindu family was assessed under section 23(3) of the Income-tax Act, 1922 (to be hereinafter referred to as “the Act”), on February 12, 1946, on a total income of Rs. 78,556 which, on appeal, was reduced to Rs. 53,153. When the assessment proceedings of the assessee were pending before the Income-tax Officer, Trichy, that Income-tax Officer received information from the Income-tax Officer, Erode, that the mortgagor had paid secretly to the mortgagee a sum of Rs. 1,50,000 during the year ended on April 1, 1944, and that the same was not included in the compromise decree. When the Income-tax Officer asked the assessee about the same, he denied having received any amount secretly. Apart from the information conveyed by the Income-tax Officer, Erode, the assessing officer had no other material before him to show that any amount had been paid secretly by the mortgagor to the mortgagee. Hence, on May 27, 1945, the Income-tax Officer made the following note in the order sheet:

“It is denied that there was any secret understanding not to show the payment of Rs. 1,50,000. The receipt of this amount is entirely denied… The Income-tax Officer, Erode, should be asked to give further details and to ask the Pattayagar to produce evidence of the payment. In any event, this should come up for consideration only in the assessment year 1945-46, as only the excess over Rs. 2,76,000 plus legal expenses can be treated as interest income in the hands of the assessee and so, the assessment for 1944-45 should not beheld up pending further investigation”.

After some time the assessing officer made further enquiry into the information given by the Income-tax Officer, Erode, and, thereafter, he came to believe that a sum of Rs. 1,50,000 had escaped assessment by reason of the omission of the assessee to disclose fully and truly all material facts necessary for his assessment for the assessment year 1944-45. He accordingly issued a notice under section 34(1)(a) on March 9, 1953. In reply to that notice, the assessee filed a return similar to the one filed by him earlier. He defined having received Rs. 1,50,000 secretly from the mortgagor. The Income-tax Officer did not accept the plea of the assessee. He accordingly included an additional sum of Rs. 1,50,000 in the income of the assessee earlier determined for the assessment year 1944-45 and taxed him on that basis. In appeal, the Appellate Assistant Commissioner set aside the order of the Income-tax Officer and directed the Income-tax Officer to redo the assessment after giving the assessee an opportuniny to cross-examine the parties examined by the Income-tax Officer on the basis of whose statements he had come to the conclusion that a sum of Rs. 1,50,000 had been secretly paid to the mortgagee by the mortgagor. Thereafter the Income-tax Officer further inquired into the matter; Pattayagar’s books of account were got produced to prove that an additional sum of Rs. 1,50,000 had been paid to the assessee. Some witnesses were also examined in the presence of the assessee to prove that fact. After doing so, a fresh order of assessment was made on the assessee under section 23(3) read with section 34. His order was affirmed by the Appellate Assistant Commissioner as well as by the Tribunal. At the instance of the assessee, the following three questions were submitted to the High Court under section 66(1) of the Act:

“(1) Whether assessment under section 34 was valid and proper?

(2) Whether the Income-tax Officer rightly acted in giving effect to the order of the Appellate Assistant Commissioner setting aside the assessment to redo the same according to law after giving an opportunity to the appellant to place all his cards before the department?

(3) Whether Rs. 1,50,000 is taxable as income of the year of account?”

The High Court answered the first two questions against the assessee and the third question against the department. The legal representatives of the assessee are challenging the High Court’s decision on the first two questions and the Commissioner is challenging the High Court’s decision on the third question.

We shall first take up the assessee’s appeal. There is hardly any merit in that appeal. It was urged on behalf of the representative of the assessee that as, even when the original assessment proceedings for the relevant year were before the Income-tax Officer, he had before him the information given by the Income-tax Officer, Erode, but yet, he did not choose to act on that information, it was not open to him thereafter to initiate proceedings under section 34. We are unable to accept this contention. On the facts found by the Tribunal, it is established that the assessee’s father had clearly suppressed the receipt of Rs. 1,50,000 from the mortgagor. The assessee had a duty to disclose fully and truly all material facts necessary for his assessment. Herein we are not dealing with a case coming under section 34(1)(b). All that we have to see is whether the requirements of section 34(1)(a) are satisfied. This court in Calcutta Discount Co. Ltd. v. Income-tax Officer, Companies District I, Calcutta¹, ruled that to confer jurisdiction on the Income-tax Officer to take action under section 34(1)(a) two conditions must be satisfied, viz., (1) he has reason to believe that there was under-assessment, and (2) that he must have reason to believe that the under-assessment has resulted from non-disclosure of material facts. On the facts found, under-assessment is established and it is also established that the under-assessment was due to non-disclosure of material facts. There can be no doubt that at the time he issued notice under section 34(1)(a) on the basis of the material before him, the Income-tax Officer could have formed the necessary belief. In the notice issued he says that he had formed that belief. In our opinion, the requirements of section 34(1)(a) are fully satisfied. The fact that there was some vague information before the Income-tax Officer that the assessee’s father had secretly received a sum of Rs. 1,50,000 from the mortgagor was by itself not sufficient to bring to tax that amount particularly in view of the fact that the assessee had stoutly denied that fact and the court records did not support that information It is true that the Income-tax Officer could have made further enquiry into the matter but the fact that he did not make any further enquiry does not take the case out of section 34(1)(a) particularly when the assessee had failed to place truly and fully all the material facts before him. The remark of the Income-tax Officer that “in any event this (the receipt of Rs. 1,50,000) should come up for consideration only in the assessment year 1944-45 as only the excess over Rs. 2,76,000 plus legal expenses can be treated as interest income in the hands of the assessee and so, the assessment for 1944-45 should not be held up pending further investigation” in the order sheet does not amount to a decision taken by him. It may be noted that those remarks were not made in the order assessing the income of the assesssee. It must also be remembered that the Income-tax Officer, at the time he made those remarks was not satisfied about the correctness of the information given by the Income-tax Officer, Erode. Hence, these remarks must be treated as casual observations and not a decision taken on the basis of facts found.

We see no substance in the contention that the Income-tax Officer did not give effect to the order of the Appellate Assistant Commissioner when the latter asked him to reassess the income of the assessee. The only ground on which the assessment order was set aside by the Appellate Assistant Commissioner was that the assessee had not been given a proper opportunity to put forward his case. The Appellate Assistant Commissioner did not hold that the notice issued by the Income-tax Officer under section 34(1)(a) was an invalid notice. Therefore, there was no need for the Income-tax Officer, Trichy, to issue a fresh notice to the assessee under section 34(1)(a) as contended on behalf of the assessee’s representatives. All that the Income-tax Officer had to do was to afford proper opportunity to the assessee to show that in fact he had not received the aforementioned sum of Rs. 1,50,000. That opportunity had been given.

In view of our above conclusion Civil Appeal No. 671 of 1967 fails and the same is dismissed.

Now coming to the appeal filed by the Commissioner of Income-tax, the High Court came to the conclusion that the sum of Rs. 1,50,000 received by the assessee during the relevant account year must be presumed to have been appropriated by the assessee towards the principal amount due to the mortgagor, and, hence, the same cannot be considered as an income of the assessee during that year. The assessee was maintaining his accounts in accordance with what is known as Chetty system of accounts. The material on record shows that, according to the Chetty system of accounts, the creditor appropriates a receipt first towards the cost of litigation, then towards the principal amount due and the balance towards the arrears of interest. The High Court was of the view that the sum of Rs. 1,50,000 secretly received by the creditor must be deemed to have been kept in suspense. As the debtor had not given any direction about the appropriation of that amount, it was open to the creditor to appropriate the same towards the principal amount and further he must be presumed to have appropriated that amount towards the principal amount before section 34 proceedings were started against him, firstly, because of the system of accounts maintained by him, and, secondly, because every one must be deemed to have acted in a manner least disadvantageous to him. In support of this conclusion reliance was placed by the High Court on the decision of the Judicial Committee in CIT v. Kameshwar Singh². In that case, the nature of several receipts by the assessee came up for consideration. For our present purpose we need only refer to two of them. One Damodar Das Burman owed to the assessee in the Fasli year 1332 Rs. 3,09,281. During the currency of the debt the debtor had made regular payments to the assessee over a number of years, the total of which payments was not stated. Those payments were entered in the deposit register maintained by the assessee but no allocations thereof were made as between principal and interest, and no part of those payments was carried to the interest register maintained by the assessee. Consequently, no part of these payments was subjected to tax until the Fasli year 1331, in which year for the first time the Income-tax Officer came to know about the deposit register maintained by the assessee. In that year, the deposit register showed a receipt of Rs. 38,091 and on this the officer claimed and was paid tax on the footing that it was attributable to interest and not to principal. The result is that against the total interest on the debt, viz., Rs. 3,09,281, no sums had been attributed by the assessee to interest out of the payments made to him by the debtor. But the Income-tax Officer had himself treated the sum of Rs. 38,091 received in the year Fasli 1331 as interest and taxed it accordingly. That left Rs. 2,71,190 as the balance of the total interest on the debt, during its currency towards which balance the assessee made no attributions of interest out of the payments received by him from the debtor during its currency. No tax accordingly had been paid in respect of any of these receipts other than on Rs. 38,091. Therefore, the question before the court was how, in those circumstances, should the receipt of Rs. 2,78,000 in the Fasli year 1332 be treated.

Dealing with that question the Judicial Committee observed:

“Now, where interest is outstanding on a principal sum due and the creditor receives an open payment from the debtor without any appropriation of the payment as between capital and interest, by either debtor or creditor, the presumption is that the payment is attributable in the first instance towards the outstanding interest………This presumption is no doubt operative primarily in questions between debtor and creditor, but in their Lordship’s view, the Income-tax Officer, finding that the assessee received a payment from his debtor of Rs. 2,78,000 in the year Fasli 1332 and that the assessee had not up till then credited himself as having received any interest or disclosed or accounted for any interest receipts to the revenue authorities was entitled in the circumstances to treat this sum of Rs. 2,78,000 as applicable to the outstanding interest to the extent of Rs. 2,71,190, and, accordingly, to treat the payment to that extent as income of the assessee in the year of payment.

From the facts noted above, it is clear that what presumption should be drawn in regard to appropriation of an open payment depends on the circumstances of a case. Now, we shall proceed to deal with the second receipt, namely, that from Kumar Ganesh Singh. In the Fasli year 1332 Kumar Ganesh Singh owed the assessee Rs. 32 lakhs as principal and Rs. 6,09,571 as interest, or a total of Rs. 38,09,571 in all, in respect of an unsecured loan. In that year the assessee and his debtor entered into an arrangement whereby, as the Commissioner stated, the assessee took over from the debtor in satisfaction of this amount the following items of property movable or immovable;

The question for decision was whether, as a result of the above settlement, it could be said that in the account year the assessee had received a sum of Rs. 6,09,571 due to him as interest. The Judicial Committee came to the conclusion that the first six items mentioned above amounting to Rs. 20,74,973 may perhaps reasonably enough be regarded as the equivalent of cash, but the seventh item of Rs. 17,34,596 consisting of the debtor’s own promissory notes, was clearly not the equivalent of cash. A debtor who gives his creditor a promissory note for the sum he owes can in no sense be said to pay his creditor; he merely gives him a document or voucher of debt possessing certain legal attributes. The question was whether the receipt of Rs. 20,74,973 can be said to include a receipt of interest of Rs. 6,09,571? The Judicial Committee answered that question thus:

“He (counsel for the Crown) relied on the presumption, already invoked in the case of Damodar Das Burman above, that a creditor is presumed to apply payments received from his debtor towards the extinction of interest claims before capital claims. But the situation which their Lordships are now considering differs materially from that which existed in the case of Damodar Das Burman. In that case, apart from other specialities there was no settlement, but merely an open payment to account. Here there was an arrangement affecting the whole indebtedness whereby certain assets were accepted in part satisfaction and promissory notes were taken for the balance. The basis of the presumption, namely, that it is to the creditor’s advantage to attribute payments to interest in the first place, leaving the interest-bearing capital outstanding, is gone. Moreover, if the question were one between Kumar Ganesh Singh and the assessee, i.e., between debtor and creditor, the assessee might up to the last moment appropriate the Rs. 20,74,973 to capital account…………….. Their Lordships have also not omitted to bear in mind the provisions of sections 60 and 61 of the Indian Contract Act, though these were not relied on in argument as applicable to the case. In the result their Lordships are of opinion that having regard to the nature of the transaction, the assessee is entitled to say that he has accepted the first six items in discharge pro tanto of his debtor’s capital liability and that the capital debt now stands discharged to that extent. No part of the sum of Rs. 20,74,973 accordingly was received by the assessee as taxable income in the year of computation”.

Here again, we notice that the conclusion drawn by the Judicial Committee depended on the facts and circumstances before them. Though the factum of settlement of the debt was relied upon as one of the circumstances, for finding out the meaning of appropriation it was by no means a conclusive circumstance. Evidently, their Lordships bore in mind the possibility of the assessee not being able to realise the debts under the hand-notes. Under those circumstances it was advantageous to the assessee to appropriate the money value of the properties received towards the capital, otherwise there was a possibility of his having to pay income-tax on a receipt which ultimately may not prove to be an income. It is under those circumstances their Lordships observed:

“that in a question with the revenue the taxpayer is entitled to appropriate payments as between capital and interest in the manner least disadvantageous to himself”.

In our opinion the High Court was in error in thinking that the decision of the Judicial Committee in Kameshwar Singh’s case³ has laid down a firm rule that whenever an assessee receives a payment and does not appropriate the same either towards the principal or interest, he must be deemed to have appropriated the same towards the principal. The decision in question, in our opinion, does not lay down the rule that, whenever any amount is received by a creditor which he has not specifically appropriated either towards the principal or the interest due to him, the taxing authorities should proceed on the basis of the presumption that it has been appropriated towards the principal. On the facts of that case it was clear that it was advantageous’ to the creditor to appropriate the receipt towards the principal. But turning to the facts of the present case the total amount due to the assessee was over Rs. 6 lakhs. Out of that the principal amount was less than Rs. 3 lakhs. The compromise decree was for Rs. 3,50,500. The creditor secretly received Rs. 1,50,000. He does not enter the same in his account books. Evidently he did not enter the same in his account books with a view to evade tax. If he intended to appropriate that amount towards the principal, there was no need for him not to enter that receipt in his accounts. Obviously, he appropriated the amount towards the interest due to him and that is why he did not enter that receipt in the account so as to facilitate evading payment of tax on that amount. The fact that the assessee was maintaining Chetty system of accounts is immaterial on the facts of the case. The system of maintaining accounts is wholly irrelevant because the receipt in question had not been entered in the account at all. Hence, in our opinion the High Court erred in answering the third question against the department.

We accordingly allow Civil Appeal No. 365 of 1967 and answer the third question referred to the High Court in favour of the revenue, namely, that the receipt of Rs. 1,50,000 is taxable as income of the year of account. The assessee shall pay the costs of these appeals—hearing fee one set.