JUDGMENT B.P. Jeevan Reddy, C.J.
1. The Income-tax Appellate Tribunal, Allahabad, has stated the following question under Section 256(2) of the Income-tax Act, 1961 :
"Whether, on the facts and in the circumstances of the case, the Income-tax Appellate Tribunal was right in holding that Section 104 of the Income-tax Act, 1961, was not attracted ?"
2. The assessee is a private limited company in which the public are not substantially interested. It manufactures sodium sulphate. It was incorporated on August 30, 1960, and started manufacturing on January 1, 1962, on which date it took over a partnership firm known as Solar Chemicals which was carrying on the said business and was assessed thereon up to the assessment year 1962-63. The first assessment year for the assessee was 1963-64, the relevant accounting year being the calendar year 1962. Assessment was completed in the first instance but later it was reopened under Section 147, since it was found that there were some factitious loans and some unexplained share capital appearing in the balance-sheet for the said year. In response to a notice under Section 148, the assessee filed a return on June 14, 1967, disclosing an income of Rs. 17,628. On December 8, 1967, however, it moved an application before the Inspecting Assistant Commissioner offering to be assessed on hundi loans amounting to Rs. 1,52,000 and unexplained capital amounting to Rs. 5,075, totalling Rs. 1,57,075. The reassessment was completed on a total income of Rs. 1,84,145. The assessee had declared a dividend of Rs. 3,666. After deducting the said amount and a small donation made by the assessee, the distributable income worked out to Rs. 90,310 on which the assessee ought to have distributed dividend to the extent of Rs. 40,640. Since that was not done, proceedings under Section 104 of the Act were initiated.
3. In response to a notice under Section 104, the assessee submitted various objections which were overruled and an additional tax of Rs. 23,050 was levied. It was confirmed in appeal by the Appellate Assistant Commissioner. On further appeal, the Appellate Tribunal allowed the assessee's appeal and quashed the order under Section 104. The Tribunal was of the opinion that, for the purposes of Section 104, book profits alone are to be taken into consideration and not the assessed income. It, however, conceded that if the assessee concealed its income or inflated its expenses, such income could be included in determining the commercial profits of the assessee. The Tribunal further opined that since the proceedings under Section 104 are penal in nature, the requirements of the section had to be strictly complied with. The assessee found it difficult to prove the genuineness of the hundi loans ; it offered them for assessment since it did not deem it desirable to contest the said issue. From this, said the Tribunal, it could not be inferred that the assessee had admitted that the said hundi loans, or for that matter even unexplained capital, represented its concealed income. Yet another ground given by the Tribunal was that the hundi loans and unexplained capital were included in the assessment under the head "Other sources" and not under the head "Business income" and, therefore, could not have been taken into consideration for determining the profit of the assessee, The last ground given by the Tribunal was that if the assessee was required to declare a larger dividend, the directors would render themselves liable for prosecution under Section 205 of the Companies Act, 1956. Thereupon, the Revenue applied for and obtained the said reference.
4. Section 104 which had been deleted by the Finance Act, 1987, with effect from April 1, 1988, was a measure designed to prevent avoidance of tax by shareholders of a company in which the public are not substantially interested. The rates of income-tax applicable to companies in the past were lower than the rates applicable to other assessees. On account of this, companies in which the public were not substantially interested, tended to accumulate profits without distributing them as dividends. The section was aimed to defeat such acts. This section corresponds to Section 23A of the Indian Income-tax Act, 1922. In CIT v. Gangadhar Banerjee (P.) Ltd. [1965] 57 ITR 176, the Supreme Court held that while applying this provision, the Income-tax Officer must have regard to the actual profit arrived at on commercial principles and not to assessable income. Evidently, there is distinction between assessable income and actual profit determined on commercial principles. The assessable income is determined in accordance with the provisions of the Act which contains many artificial rules both beneficial to the assessee as well as prejudicial to him. The rules relate to additional depreciation, weighted deductions, donations for charity, which do not qualify for exemption. Development allowances are some of the examples of artificial rules. What the Supreme Court meant was that, in applying Section 104, the Income-tax Officer must have regard to the actual profit determined on commercial principles and not the assessable income determined in accordance with the provisions of the Act. This does not, however, mean that book profits alone must be looked into although book profits are certainly to be looked into being relevant material. Now, the assessee pleaded certain hundi loans but, during the reassessment proceedings, he gave up that plea and offered the said amount to be included in his income. Can it be said that the said amount does not constitute actual income ? Would it be reasonable to say that though the said income formed part of assessable income it does not represent actual income. We think not. Holding otherwise would amount to saying two contradictory things. It would not be reasonable to say on the one hand that the alleged hundi loans not being proved constitute the income of the assessee and, at the same time, to say that they do not constitute actual income of the assessee. The principle enunciated by the Supreme Court aforementioned cannot be called in aid of this holding. Yet another error committed by the Tribunal is to say that only business income is relevant for the purposes of Section 104 and not income assessable under other heads. There is no such limitation in Section 104 nor is there any reason for importing such a limitation. (See Indra Singh and Sons Ltd. v. CIT [1958] 33 ITR 341 (Cal)). We, of course, agree with the Tribunal that Section 104, being in the nature of a penal provision, must be construed strictly, in the sense that several conditions prescribed therein should be satisfied before action could be taken thereunder. Learned counsel brought to our notice a series of decisions of the Calcutta High Court, namely, CIT v. National Razors and Blades Pvt. Ltd. [1985] 153 ITR 593, CIT v. Industry Side Pvt. Ltd. [19851 154 ITR 686 (Cal) and CIT v. Chemicals Agents (P.) Ltd. [1987] 167 ITR 387, holding that unproved loans included in the total income should not be treated as part of commercial profits, i.e., actual profits determined on commercial principles. With great respect, we are unable to agree. As we have said, the principle enunciated by the Supreme Court, namely, that no assessable income but actual profits determined on commercial principles, should be looked into for the purposes of Section 104 does not mean that even where a particular amount, pleaded as a loan is not established to be a loan and is, therefore, treated as income, should be excluded from consideration. Doing so would put a premium upon untenable and fictitious claims. It would then be sufficient if any assessee merely puts forward a case of a loan or hundi loan, as the case may be, and even if he does not prove it, he would at any rate be immunised from action under Section 104. We are afraid, we cannot subscribe to such a theory.
5. We may mention that, in this case, none of the authorities have referred to other considerations which are ordinarily relevant under Section 104, namely, smallness of the profits made, losses suffered in earlier years and so on and so forth.
6. For the above reasons, the question referred is answered in the negative, i.e., in favour of the Revenue and against the assessee. No costs.