1. By this Income Tax Reference under section 256(1) of the Income Tax Act 1961, the Income Tax Appellate Tribunal (ITAT) has referred the following question of law for the opinion and determination of this Court:-
“(A) Whether, on the facts and in the circumstances of the case, the Tribunal was justified in approving the depreciation granted on Rs. 93,14,942/- when the profits of the Indian undertaking of nonresident parent company were computed in accordance with the provisions of Rule 10 of the Income Tax Rules ?”
2. The Assessment Years in question are 1976-77, 1977-78 & 1978-79. The question to be decided in this Reference is whether the Applicant – Assessee is entitled to claim depreciation on the fixed assets taken over by it under a Scheme of Amalgamation with its Parent Company (May and Baker Ltd.), on the basis of the original cost of the said fixed assets, or on the basis of the written down value thereof, which had been arrived at by the authorities below by granting depreciation to the Parent Company on a notional or implied basis.
3. The facts stated briefly are that the Assessee, an Indian Company, was a subsidiary of one May and Baker Ltd., a U.K. Company. The said U.K. Company had an industrial undertaking in India. Under a Scheme of Amalgamation, the said industrial undertaking of the U..K. Company was hived off to the Assessee Company under a Scheme of Amalgamation that was approved by this Court and the assets and liabilities of the said undertaking were taken over by the Assessee Company in terms embodied in the Scheme of Amalgamation.
4. Prior thereto, the U.K. Company (which was the Parent Company of the Assessee Company) was assessed to tax in India right from Assessment Year 1960-61 in respect of its profits in relation to its Branch in India. The profits of the Indian Branch of the U.K. Company were determined as per Rule 33 of the Income Tax Rules as it then stood and thereafter under Rule 10 of the Income Tax Rules, 1962. This was being done from year to year. It appears that the Assessing Officer sought to re-open the completed assessment of the U.K. Company because he found that its Indian Branch was maintaining separate books of accounts, from which the profits and gains attributable to its Indian undertaking could be ascertained. The Assessing Officer was of the view that in most of the years, the profits as per the books of the Indian Branch of the U.K. Company were higher than those determined as per Rule 33/10 of the Income Tax Rules, 1962.
5. In view of avoiding a protracted litigation with the Department, the U.K. Company approached the CBDT by way of a settlement petition which was disposed off by its order dated 30th August 1990. On an agreed basis, the member of the CBDT ordered that the figure under assessment for Assessment Years 1960-61 to 1974-75 would be Rs. 95,00,000/- and for the Assessment Year 1975-76, would be Rs. 42,00,000/- as against the sum of Rs. 40,92,000/- disclosed by the U.K. Company.
6. As stated earlier, the Scheme of Amalgamation, under which the industrial undertaking alongwith all its assets and liabilities of the U.K. Company, were taken over by the Assessee Company, was approved by this Court with effect from 1st January 1975. The Scheme of Amalgamation between the U.K. Company and the Assessee Company [which at that time was known as May and Baker (India) Pvt. Ltd.] inter alia stated as follows :-
“1. With effect from the 1st day of January 1975 (hereinafter called 'the Appointed Date') save as otherwise provided herein, the entire business and undertaking in India of May and Baker Limited, a Company incorporated under the English Companies Act and having its Registered Office at Dagenham, Essex, U.K. and a place of business in India at Bombay Agra Road, Bhandup, Bombay 400 078 (hereinafter referred to as 'M&B') including all its properties and assets of whatever nature and wheresoever situate and disclosed by its audited Indian Branch Balance Sheet as on the day prior to the Appointed date (all which assets are more particularly set out in Schedule A hereto) and including leases, tenancy rights, licences and quota rights situate in India but excluding the investments of M&B in the share capital of May and Baker (India) Pvt.Ltd., a company incorporated in India with limited liability under the Indian Companies Act 1913 (hereinafter called M&B) and excluding the dividend already declared on the said shares to be remitted to M&B on receipt of approval from all requisite authorities in India (all of which undertaking, property, assets, rights and powers are hereinafter for brevity's sake referred to as “the said undertaking of ‘M&B’) shall, without further act or deed be transferred to and vested in or deemed to be transferred to and vested in MBI pursuant to the provisions of section 394 of the Companies Act 1956 but subject nevertheless to all charges, if any, then affecting the same or any part thereof. It is hereby clarified that the said undertaking of M&B referred to in this paragraph relates only to the undertaking in India of M&B.”
(emphasis supplied)
7. Schedule 'A' referred to in paragraph 1 of the said Scheme set out the value of the fixed assets (at cost less depreciation) at Rs. 1,72,78,297/-. The original cost of these assets to the U.K. Company was Rs. 2,54,67,325/-. For all the three years in question, the Assessee claimed that for the purpose of granting depreciation, the cost of the assets should be taken at the original cost viz. Rs. 2,54,67,325/-, or alternatively at Rs. 1,72,78,297/- (being the cost, less depreciation) as reflected in Schedule ‘A’ to the scheme of amalgamation. The Assessing Officer rejected both these figures and granted depreciation on the written down value of Rs. 93,14,942/- which was arrived at after taking into account depriciation that would have been granted to the U.K. Company under the provisions of the Income Tax Act. In other words, the Assessing Officer held that the written down value of the said fixed assets taken over by the Assessee Company as on 1st January 1975 was Rs. 93,14,942/-.
8. Being aggrieved thereby, the Assessee challenged the same before the CIT (Appeals) who confirmed the findings of the Assessing Officer. In further Appeal by the Assessee, the ITAT also confirmed the aforesaid findings on the reasoning that when the profits of the Indian undertaking of the U.K. Company were determined as per Rule 33/10 of the Income Tax Rules, depreciation is impliedly granted to the U.K. Company. That rule, according to the ITAT, prescribed more than one method for the determination of profits. The ITAT held that the method that had commended itself to the Assessing officer was the method set out in Rule 10(ii) of the Income Tax Rules, 1962 which read as under :-
“10. In any case in which the Income-tax Officer is of opinion that the actual amount of income accruing or arising to any non-resident person whether directly or indirectly, through or from any business connection in India or through or from any property in India or through or from any asset or source of income in India or through or from any money lent at interest and brought into India in cash or in kind cannot be definitely ascertained, the amount of such income for the purposes of assessment to income-tax may be calculated:-
(i) …......
(ii) On any amount which bears the same proportion to the total profits and gains of the business of such person (such profits and gains being computed in accordance with the provisions of the Act), as the receipts so accruing or arising bear to the total receipts of the business, or
(iii) ….......”
9. In a nutshell, what the rule stipulates is that the income accruing or arising to any non-resident person, whether directly or indirectly, through or from any business connection in India or through or from any property in India etc., will be, for the purposes of assessment to income tax, calculated on any amount which bears the same proportion to the total profits and gains of the business of such person, as the receipts so accruing or arising, bears to the total receipts of the business. This computation has to be done in accordance with the provisions of the Income Tax Act.
10. In view of the fact that the profits and gains under Rule 10(ii) were to be computed in accordance with the provisions of the Income Tax Act, the ITAT held that it was evident that this method could be applied only after all statutory allowances including depreciation as set out in section 32, was allowed to the non-resident. The ITAT held that they could not loose sight of the fact that implicit in the computation of income under the method followed by the Assessing Officer viz. under Rule 10(ii), was the grant of depreciation. The ITAT therefore upheld the order of the Assessing Officer as well as the CIT (Appeals). Though the ITAT referred to the judgment of the Supreme Court in the case of Madeva Upendra Sinai v/s Union of India and others, reported in [1975] 98 ITR 209:(1975) 3 SCC 765 which laid down that the written down value of the building, plant, machinery and/or furniture for any year would be the actual cost, as reduced by the depreciation “actually allowed” to the Assessee, for some inexplicable reason held that the same was not required to be followed literally in this case. It is this order of the ITAT that has given rise to this Reference in which we are called upon to decide the question of law framed earlier.
11. Before we proceed further, we need to make note of certain provisions of the Income Tax Act, 1961 and the Income Tax Rules, 1962. Section 32 of the Income Tax Act deals with depreciation and how it is to be allowed. Section 32(1)(ii) inter alia provides that in respect of buildings, machinery, plant or furniture owned by the Assessee and used for the purpose of business or profession, the prescribed percentage of depreciation is to be computed on the basis of the written down value of the asset. This is known as the “written down value” method. This method seeeks to ensure that the aggregate of the depreciation allowances granted, year to year, do not exceed hundred per cent of the original cost of the asset. For our purpose, the percentages that were prescribed and how depreciation was to be calculated was set out in Rule 5(1) as it then stood, and read as under :-
“5. (1) Subject to the provisions of sub-rules (2) and (3), the allowance under clause (i) or clause (ii) of sub-section (1) of section 32 in respect of depreciation of buuildingsz, machinery, plant or furniture or the allowance under clause (i) of sub-section (1A) of section 32 in respect of depreciation of any structure or work referred to in that sub-section shall be calculated at the percentages specified in the second column of the Table in Part I of appendix I to these rules on the actual cost or, as the case may be, the written down value of such of the assets aforesaid as are used for the purposes of the business or profession of the assessee at any time during the previsous year.”
12. The said Rule clearly provided that depreciation with reference to buildings, machinery, plant or furniture was to be calculated at the percentages specified in the second column of the Table in Part I of Appendix I to the Rules, on the actual cost or as the case may be, the written down value of such of the assets as are used for the purposes of business or profession of the Assessee during the previous year. Section 34 of the Act provides for the conditions under which depreciation would be allowed and stipulates that deductions/depreciation referred to in section 32(1) shall be allowed only if the prescribed particulars have been furnished by the Assessee. In other words, no deductions/depriciation can be allowed to an Assessee who hasn’t furnished the prescribed particulars. Section 43 as it then stood, dealt with the definition of certain terms relevant to income from profits and gains of business or profession. For our purposes section 43(1) & 43(6) are relevant and reproduced hereunder:-
43. Definitions of certain terms relevant to income from profits and gains of business or profession.—In Sections 28 to 41 and in this section, unless the context otherwise requires—
(1) “Actual cost” means the actual cost of the assets to the assessee, reduced by that portion of the cost thereof, if any, as has been met directly or indirectly by any other person or authority:
Explanation 1. -- ……….
Explanation 2. -- ……….
Explanation 3. -- ……….
Explanation 4. -- ……….
Explanation 5. -- ……….
Explanation 6. -- ……….
Explanation 7.—Where, in a scheme of amalgamation, any capital asset is transferred by the amalgamating company to the amalgamated company and the amalgamated company is an Indian company, the actual cost of the transferred capital asset to the amalgamated company shall be taken to be the same as it would have been if the amalgamating company had continued to hold the capital asset for the purposes of its own business;
(6) “written-down value” means—
(a) in the case of assets acquired in the previous year, the actual cost to the assessee;
(b) in the case of assets acquired before the previous year, the actual cost to the assessee less all depreciation actually allowed to him under this Act, or under the Indian Income Tax Act, 1922 (11 of 1922), or any Act repealed by that Act, or under any executive orders issued when the Indian Income Tax Act 1886 (2 of 1886), was in force:
Provided that in determining the written-down value in respect of buildings, machinery or plant for the purposes of clause (ii) of subsection (1) of Section 32, “depreciation actually allowed” shall not include depreciation allowed under sub-clauses (a), (b) and (c) of clause (vi) of sub-section (2) of Section 10 of the Indian Income Tax Act, 1922 (11 of 1922), where such depreciation was not deductible in determining the written-down value for the purposes of the said clause (vi);
Explanation 1. -- ……….
Explanation 2. -- ……….
Explanation 2A. – Where in a scheme of amalgamation, any capital asset is transferred by the amalgamating company to the amalgamated company, and the amalgamated company is an Indian company, the written down value of the transferred capital asset to the amalgamated company shall be taken to be the same as it would have been if the amalgamating company had continued to hold the capital asset for the purposes of its business.
Explanation 3. -- ……….”
(emphasis supplied)
13. What can be discerned from the foregoing provisions is that (i) in case of buildings, machinery, plant or furniture, the depreciation to be allowed is on the actual cost of the asset or, as the case maybe, the written down value thereof [section 32(1)(ii) read with rule 5(1)]; (ii) no depreciation can be allowed to the Assessee unless the prescribed particulars have been furnished in that regard [section 34]; (iii) actual cost means the actual cost of the assets of the Assessee, reduced by that portion of the cost thereof, if any, as has been met directly or indirectly, by any other person or authority [section 43(1)]; (iv) the written down value of the assets would be the actual cost to the Assessee, less the depreciation “actually allowed” to him under the Act [section 43(6)]; and (v) when under a Scheme of Amalgamation, a capital asset (in the present case, the industrial undertaking) is transferred by the Amalgamating Company (in the present case, the U.K. Company) to the Amalgamated Company (in the present case, the Assessee Company) and the Amalgamated Company is an Indian Company, the written down value of the transferred capital asset to the Amalgamated Company shall be taken to be the same as it would have been if the Amalgamating Company had continued to hold the capital asset for the purposes of its business [Expln 2A to section 43(6)]. In other words, the depreciation to be allowed to the Amalgamated Company would be on the same basis as it was being allowed to the Amalgamating Company before its amalgamation. If no depreciation was actually allowed to the Amalgamating Company, then the original cost of the capital asset that was transferred persuant to the amalgamation, would be taken into account for the purposes of allowing depreciation to the Amalgamated Company.
14. Keeping these provisions in mind and what they lay down, we must now ascertain whether any depreciation was actually allowed on the fixed assets of the Indian Branch of the U.K. Company, when they were being assessed to tax in India. In the present case, the U.K. Company was being assessed to income tax in India right from the Assessment Year 1960-61 in respect of profits of its Branch in India. The profits of the Branch of the U.K. Company were determined as per Rule 33 (under the earlier rules) & thereafter as per Rule 10 of the Income Tax Rules, 1962 . This was being done from year to year. Nothing has been brought on record to show or indicate that whilst computing the profits under the said rules, any depreciation was being actually allowed to the U.K. Company in relation to the assets of its branch in India. In fact, this was a query specifically put by us to Mr. Suresh Kumar, the learned counsel appearing on behalf of the Revenue. He was unable to bring to our attention any document whatsoever, that could indicate the same. In fact, the order of the ITAT dated 8th November, 1993 indicates otherwise. The ITAT confirmed the findings of the Assessing Officer as well as that of the CIT (Appeals) on the reasoning that when the profits of the Indian undertaking of the U.K. Company were determined as per Rule 33/10 of the Income Tax Rules, depreciation is impliedly granted to the U.K. Company. The ITAT held that they could not loose sight of the fact that implicit in the computation of income under the method followed by the Assessing Officer viz. under Rule 10(ii) of the Income Tax Rules, is the grant of depreciation. To our mind, the authorities below gravely misdirected themselves in adopting the method that they did. From all the provisions discussed earlier, it is clear that there is no concept of depreciation being allowed on a notional basis or that the same can be granted implicitly as held by the ITAT. The depreciation has to be actually allowed as can be discerned from a conjoint reading of the aforesaid provisions.
15. On this aspect, we are supported in our findings by a majority view of a Constitution Bench judgment of the Supreme Court in the case of Madeva Upendra Sinai (supra) which the ITAT, as noted earlier, just seemed to brushed aside. Whilst deciding the validity of the second proviso to clause 2 of the Taxation Laws (Extension to Union Territories) (Removal of Difficulties) Order 2 of 1970 the Supreme Court had the occasion to consider the provisions of sections 32, 34 and 43 of the Income Tax Act, 1961. Whilst analysing the said provisions, the Supreme Court, in the SCC report, held:-
16. The definition of “actual cost” is to be found in Section 43(1) and that of “written-down value” in Section 43(6). The latter defines it to mean—
“(a) in the case of assets acquired in the previous year, the actual cost to the assessee;
(b) in the case of assets acquired before the previous year, the actual cost to the assessee less all depreciation actually allowed to him under this Act or under the 1922 Act or any Act repealed by that Act, or under any executive Orders issued when the Indian Income Tax Act, 1886 was in force.” (emphasis supplied)
17. The pivot of the definition of “written-down value” is the “actual cost” of the assets. Where the asset was acquired and also used for the business in the previous year, such value would be its full actual cost and depreciation for that year would be allowed at the prescribed rate on such cost. In subsequent year, depreciation would be calculated on the basis of actual cost less depreciation actually allowed. The key word in clause ( b ) is “actually”. It is the anti-thesis of that which is merely speculative, theoretical or imaginary. “Actually” contra-indicates a deeming construction of the word “allowed” which it qualifies. The connotation of the phrase “actually allowed” is thus limited to depreciation actually taken into account or granted and given effect to i.e. debited by the Income Tax Officer against the incomings of the business in computing the taxable income of the assessee; it cannot be stretched to mean “notionally allowed” or merely allowable on a notional basis.
(emphasis supplied)
16. We find that the ratio laid down in the judgement of the Supreme Court would clearly apply to the facts of the present case and the ITAT was in grave error in ignoring the said judgement even though the same finds reference in its order dated 8th November, 1993.
17. In view of the clear statement of the law laid down by the Supreme Court in the aforesaid judgment as well as the analysis of the Income Tax Act, we have no hesitation in holding that in the facts of the present case, the written down value of fixed assets of the U.K. Company had to be calculated on the basis of the actual cost less the depreciation “actually allowed” to the U.K. Company. The written down value could not have been arrived at on the basis that depreciation had been granted on a notional basis, or implicitly as held by the ITAT, more so, when nothing contrary to the above decision of the Hon'ble Supreme Court, or in law has been brought to our notice.
18. Having held so, we must now decide what would be the written down value of the fixed assets taken over by the Assessee Company, and on which depreciation ought to be granted. On a perusal of Schedule ‘A’ to the Scheme of Amalagamation it is clear that the fixed assets of the U.K. Company were taken over by the Assessee Company at cost less depreciation. In the Scheme of Amalgamation the fixed assets (less depreciation) were valued at Rs. 1,72,78,297/-. Therefore, the written down value of the fixed assets transferred to the Assessee Company pursuant to the Scheme of Amalagamation would have to be Rs. 1,72,78,297/-. We are unable to agree with the submission of Mr. Toor that for the purpose of calculating the written down value, the figure of Rs. 2,54,67,325/- had to be taken into account. The Scheme of Amalgamation approved by the Assessee Company itself, has valued the fixed assets at Rs. 1,72,78,297/-, which valuation has been arrived at after taking into account depreciation. This being the case, and the Assessee having accepted the written down value of the fixed assets at Rs. 1,72,78,297/-, it cannot be heard to say that the written down value had to be calculated by taking into account the figure of Rs. 2,54,67,325/- being the original cost of the fixed assets to the U.K. Company. In any event, this argument runs contrary to Explanation 2A to section 43(6) set out above. In the Scheme of Amalgamation, with effect from 1st January, 1975 (the Appointed Date under the scheme) the U.K. Company and the Assessee Company had valued the fixed assets at Rs. 1,72,78,297/- being the cost less depreciation. In the assessment years in question, hypothetically, if the U.K. Company claimed depreciation on these fixed assets as if the amalgamation had not taken place, then depreciation would have been allowed to it on Rs. 1,72,78,297/- being the value of the fixed assets at cost less depreciation, and not on Rs. 2,54,67,325/- being the original cost of the fixed assets. This being the case, in view of Explanation 2A to section 43(6) the Assessee Company also cannot claim depreciation by valuing the fixed assets at Rs. 2,54,67,325/-. This argument of Mr. Toor also runs contrary to the principle that the “written down value” method seeks to ensure that the aggregate of the depreciation allowances granted, year to year, does not exceed hundred per cent of the original cost of the asset. In this case, the original cost of the fixed assets to the Assessee Company is Rs. 1,72,78,297/-. The argument of Mr. Toor in this regard is therefore rejected. To be fair to Mr. Toor, we must state that we have not dealt with the other judgements cited by him, as they basically lay down the same principle as in the judgement of the Supreme Court in the case of Madeva Upendra Sinai (supra) and which has been followed by us in this judgement.
19. In view of what we have held in this judgement, we answer the question raised in this reference in the negative i.e. in favour of the Assessee and against the Revenue, by holding that depreciation on the fixed assets taken over by the Assessee Company under the Scheme of Amalgamation, ought to be granted by taking the written down value of the fixed assets at Rs. 1,72,78,297/- and not Rs. 93,14,942/- as held by the authorities below. The Income Tax Reference is disposed off in the aforesaid terms. No order as to costs.