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Security Printers Of India (P.) ... vs Commissioner Of Income-Tax

High Court Of Judicature at Allahabad|15 July, 1970

JUDGMENT / ORDER

JUDGMENT T.P. Mukerjee, J.
1. The present reference under Section 66(1) of the Income-tax Act, 1922, hereinafter referred to as "the Act", raises the question of disallowance of certain pre-incorporation expenses incurred by the promoters of the company. The material facts are these : M/s. Security. Printers of India (P.) Ltd., hereafter referred to as "the assessee", was incorporated on April 6, 1957, with a view to execute jobs of security printing such as printing of cheques, drafts, fixed deposit receipts and life papers for Indian banks. The printing of these forms was never before done in India in printing presses. The Indian branches of foreign banks used to get their security printing jobs executed by M/s. W. W. Sprague and Co. Ltd. of London, hereafter referred to as "the London company". Mr. M.C. Khunna, managing director of Job Press Ltd., Kanpur, conceived the idea of executing these jobs in India in collaboration with the London company. Accordingly, he entered into an agreement with the London company to float a private company, limited by shares, to be named and styled M/s. Security Printers of India (P.) Ltd. This company, as already stated, was incorporated on April, 6, 1957. It was agreed that a representative of the London company would be appointed as a director of the assessee-company to look after the security arrangements. The shares of this company were held as under :
W.W. Sprague and Co. Ltd.
..
3,570 shares.
L.N. Khunnah ..
10 shares.
L.N. Khunnah on behalf of ..
3,430 shares.
L.N. Khunnah and Sons
2. Mr. W.J. Harffey was the director representing the London company and Mr. M.C. Khunnah was the director of the assessee-company representing the Khunnah group.
3. The assessee-company fell to be assessed for the first time in the assessment year 1958-59. In this assessment a sum of Rs. 70,437 was disallowed by the Income-tax Officer being pre-incorporation expenses of the company which were capital in nature. The break up of this amount is given below under appropriate heads:
Through whom, and on whose account incurred Purpose Date Amount Rs.
1. W. G. Hubbard Travelling expenses to explore possibilities of business with Indian banks January, 1955 2,529
2. L. N. Khunnah Travelling expenses incurred for procuring import licence of fugitive paper July 1956 380
3. W. J. Harffey Travelling expenses to collect details of actual orders and quantity to be supplied and expenditure for joining company as director January, 1957 23,549 4 M. C. Khunnah Trip to England to study techniques of security printing January 1956 To January 1957 15,455
5. W. J. Harffey and M. C. Khunnah Director's remuneration June 1956 To March 1957 24,824 6 W. J.Harffey Rent of flat July 1956 To March 1957 3,700 Total 70,437
4. The Income-tax Officer regarded all these items of expenditure as: preliminary expenses of a capital nature incurred to establish the company and he disallowed the entire sum of Rs. 70,437, as stated above.
5. The assessee-company appealed against the disallowance made by the Income-tax Officer. The Appellate Assistant Commissioner found that the expenses were all of a revenue nature and as they had been incurred by the promoters of the assessee-company in connection with the business which was subsequently taken over by the company on its incorporation, they were allowable as business expenses. Against the decision of the Appellate Assistant Commissioner the department field an appeal to the Tribunal and it was contended that, as the company had no existence prior to its incorporation, no part of the pre-incorporation expenses could be allowed in its assessment. The Tribunal found that before the assessee-company was incorporated, its promoters had not only made preliminary arrangements for obtaining orders for security printing, but it had also actually commenced trading operations. It was demonstrated before the Tribunal that an import licence was granted by the Import Controller in the name or M/s. Security Printers of India (P.) Ltd. for the period from July, 1955 to July, 1956, though, in point of fact, the company was incorporated in April, 1957. Furthermore, orders of the value of Rs. 3,60,000 were actually secured by Mr. Harffey, between June, 1955, and November, 1956, and the first consignment of printed cheques was delivered in March, 1957. The Tribunal held that inasmuch as receipts resulting from these transactions which had taken place before the incorporation of the assessee-company had been included in its first assessment for the year 1958-59, the revenue expenses attributable to those receipts should also be allowed in that assessment.
6. In the opinion of the Tribunal, however, a part of the sum of Rs. 23,549 incurred by Mr. W.J. Harffey as travelling expenses and also a part of Rs. 15,455 expended by Mr. M.C. Khunnah in connection with his trip to England should be regarded as capital in nature as the assessee-company derived, more or less, enduring benefit thereby. The Tribunal estimated the amount at Rs. 20,000 and, while setting aside the order of the Appellate Assistant Commissioner, directed that the disallowance should be restricted to this amount in place of Rs. 70,437 disallowed by the Income-tax Officer.
7. At the instance of the assessee-company the following question has been referred to this court for opinion :
"Whether, on the facts and in the circumstances of the case, any portion of the sums of Rs. 23,549 and Rs. 15,455 incurred by the directors could be disallowed as capital expenditure ?"
8. The sum of Rs. 23,549, as already noted, represents travelling allowances paid to Mr. W. J. Harffey. The purpose for which this amount was paid to Mr. Harffey, as recorded by the Tribunal, was "to collect details to actual orders and quantity to be supplied and expenditure for Joining the compony as director". The Tribunal has also noted that a part of the expenditure was incurred by Mr. Harffey for importing fugitive papers which is a raw material for the assessee's business. In fact, an import licence was granted by the Import Controller to the assessee-company even before its incorporation for the period from July, 1956, to December, 1956. There can hardly be any doubt that the amount of the expenditure incurred for the purpose of importing fugitive papers for execution of jobs in security printing is of a revenue nature. Mr. Harffey contacted several bank managers, for the first time; with a view to secure orders for printing. The Tribunal has observed that there is an "element of capital nature" in the travelling expenses paid to Mr. Harffey, because by these contacts, Mr. Harffey ensured a continuous flow of orders for printing "the benefit of which accrued to the company for the future also"'
9. In our opinion, the view taken by the Tribunal as to the nature of this expenditure is entirely incorrect. Any expenditure incurred by the director or an agent of a company to secure orders for the purpose of carrying on the business of the company is entirely of a revenue nature. Such expenditure, or any part thereof, does not bring into existence any asset for the enduring benefit of the company. It is possible that, by virtue of the contacts made by Mr. Harffey, the managers of the banks might have been persuaded to place orders with the assessee-company during the next few years. But, nevertheless, it is not an advantage of a permanent nature, obviously, because the banks concerned might still find it more convenient to place their orders for security printing with other printing presses as there was no agreement to bind them. The expenniture iu question does not, therefore, satisfy the test laid down by Viscount Cave in Atherton's case, [1926] A.C. 205 ; [1925] 10 T.C. (H.L.).
10. As regards the amount spent by Mr. Harffey for joining the assessee-company as a director, there can be no doubt that it is an expenditure of a revenue character and this does not appear to have been disputed before the Tribunal. The result is that no part of the sum of Rs. 23,549 may be-regarded as capital in nature and the whole of the amount has to be allowed as revenue expenses of the company.
11. It is no doubt true that the above expenditure was incurred before the incorporation of the assessee-company, but, as pointed out above, the corresponding receipts were entered in the accounts for the relevant previous year and included in the assessment for the year 1958-59. The principle laid down lay this court in Commissioner of Income-tax v. Bijli Cotton Mill Ltd., [1953] 23 I.T.R. 278 (All.) is that the profits of a business commenced by the promoters which is, taken over by the company, on its incorporation is assessable in the hands of latter. If the pre-incorporation profits are assessable in the hands of the company, the expenditure incurred to earn such profits must also be allowed in the assessment. In the present case, it is common ground that the business of the assessee-company was commenced by the promoters, namely, Mr. Harffey and the Khunnahs and they secured orders of considerable value and also procured the necessary import licence for indent of fugitive papers for the purpose of execution of jobs in security printing. These expenditures were, evidently, incurred wholly for the purpose of the business commenced by the promoters, before incorporation and they should be allowed as deduction against receipts of the same period.
12. The next item relates to the expenditure of Rs. 15,455 incurred by Mr. M.C. Khunnah in connection with his trip to England to study the techniques of security printing. The Tribunal held that, although the expenditure was incurred after the company had started its business, it was incurred once and for all, and there was a continuing benefit to the assessee-company on account of the experience gained by Mr. Khunnah. Hence, according to the Tribunal, "there is some element of capital'' involved in this expenditure.
13. On behalf of the assessee it has been contended that a study tour undertaken for the acquisition of technical knowledge for the purpose of transaction of the business in security printing is not an advantage of an enduring benefit; such knowledge, it was argued, enables the assessee to carry on the business efficiently as other businessmen engaged in the same trade Hence, the expenditure incurred by Sri M.C. Khunnah to equip himself with the necessary technical skill for the purpose of conducting the business in security printing cannot be regarded as an expenditure of a capital nature.
14. On the other hand, Dr. Misra, appearing for the revenue, contended that the purpose for which Mr. Khunnah went abroad was, evidently, to acquaint himself with new methods in printing technology so that the knowledge thus acquired would prove to be an advantage for the permanent benefit of the company. According to Dr. Misra, expenditure incurred by a businessman or his agent to brush up and improve his existing knowledge would be revenue in character, but expenditure to acquire entirely new techniques of operation is capital. It is difficult to understand the distinction. How can a person improve his existing knowledge without learning improved techniques? In our opinion, the expenditure incurred by a businessman or his agent in foreign tours to acquaint himself with new and modern techniques is revenue in character. Such expenditure is earned only with a view to earn greater profits in a competitive market and not to acquire a new asset. This is also the view taken by the High Court of Andhra Pradesh in a recent case, Commissioner of Income-tax v. S. Krishna Rao, [1970] 76 I.T.R. 664 (A.P.).
15. Moreover, there is nothing on record to show that the study tour undertaken by Mr. Khunnah was to acquire knowledge of some new technology in security printing. In fact, as already stated, at the relevant time, jobs in security printing were not executed by any printers in India. The purpose of Mr. Khunnah in undertaking the tour was, evidently, to learn the methods of security printing which was then in practice in England. It cannot, therefore, be said that Mr. Khunnah came back with knowledge of new methods of security printing which enured to the permanent and enduring benefit of the company.
16. In the case of Chemical Industries and Pharmaceutical Laboratories Ltd. v. Commissioner of Income-tax (I.T.R. No. 14 of 1951), decided by the Bombay High Court, on the 31st August, 1951 (noticed in The Unreported Income-tax Judgments of the Bombay High Court, Book 1, 1959), the facts were that the managing director of a company, Dr. Hamid, visited England and America with a view to study the developments made in the chemical industries in those countries and to establish collaboration between foreign and indigenous chemical and pharmaceutical industries. A sum of Rs. 25,000 was allowed by the company for the expenditure of Dr. Hamid in the foreign countries and, later on, the company claimed this sum as an amount expended wholly and exclusively for the purpose of its business. It was found, as a fact, that as a result of the visit of Dr. Hamid, certain benefits had been derived by the company ; there was an improvement in the manufacturing processes and developments of research, and the prestige of the company was enhanced in the United Kingdom and the U. S. A. On behalf of the department it was contended that the benefits were of an enduring character and, therefore, the expenditure incurred in the tours was a capital expenditure. The learned judges answering the reference by the Tribunal rejected the contentions advanced on behalf of the department and held that the expenditure had been incurred, wholly and exclusively, for the purpose of business, allowable under Section 10(2)(xv). Delivering the judgment of the Bench, Chagla C.J. observed':
"Now Mr. Joshi has, in the first place, argued that this was not an expenditure wholly and exclusively for the purpose of business. We had occasion to point out in Tata Sons Ltd. v. Commissioner of Income-tax, [1950] 18 I.T.R. 460 (Bom.) that one has not got to take an abstract and academic view of what is proper expenditure laid out and expended wholly and exclusively for purposes of one's business. One has got to take into consideration questions of commercial expediency and the principles of ordinary commercial trading and the main consideration that has got to weigh with the court is whether the expenditure was a part of the process of profit-making.
Now, it is impossible to say that when the company decided to make use of the visit of Dr. Hamid to the United Kingdom and the U. S. A., it was not doing something as a process of profit-making. The company realized that the visit of Dr. Hamid would improve its processes, its manufacturing activities, that it would help to develop research and that by doing all this it would improve its profits. . . Now the ordinary test applied is whether as a result of the expenditure some new asset came into existence. Mr. Joshi says that as a result of Dr. Harnid's visit ;to the two countries a permanent benefit was derived lay the company and, inasmuch as the benefit was permanent, it must be said that a new asset had come into existence. Now, it would be impossible to hold that in every case where a businessman expends money with a view to deriving benefit for his business, the expenditure is of a capital nature. Take the ordinary case of a businessman giving a bonus to his employees. He gives the bonus in order to earn the goodwill of his employees, in order to make them work better and in order to see that they are contented. Can it be said that by reason of his bringing these qualities into existence and by creating that atmosphere in his office he has brought an asset into existence and, therefore, the payment of the bonus is a capital expenditure and not a revenue expenditure. In the case I have just given, the businessman gives bonus to his employees; in the case that we are considering the company sends its managing director to foreign countries in order to improve the prospects of business of the company. Both cases stand more or less on the same footing. The result of the expenditure is not the bringing into existence of a new asset, but the expenditure is calculated to increase the profits of the company, and everything that is calculated to increase the profits of a business, is not necessarily a capital expenditure."
17. As laid down by Chagla C. J. in the above case, the main consideration that has got to weigh with the court is whether the expenditure was a part of the process of profit-making, or it was designed to bring into existence a new asset. In the present case, the business of security printing was entirely a new venture undertaken in India by the assessee-company and it is obvious that Mr. M. C. Khunnah, who was a director of the assessee-company, had no knowledge about the technique of security printing. Even if it is assumed that Mr. Harffey, who was deputed by the London company to work as a director of the assessee-company, was conversant with the technique, it was very necessary that Mr. M. C. Khunnah should also have technical knowledge necessary to run the business. Evidently, the study tour was undertaken by Mr. Khunnah with the said objective, namely, to acquire the know-how of such specialized printing. The expenditure so incurred by Mr. Khunnah was, undoubtedly, a part of the process of profit-making. It would be wrong to suppose that by the technical knowledge acquired by Mr. Khunnah in England, the assessee derived an advantage or benefit of an enduring nature. In the present era of scientific inventions and development, the manufacturing processes now in operation may become outdated and outmoded in a short few years after which still better methods might be evolved. It is not possible, therefore, to say that any part of the expenditure incurred by Mr. Khunnah in undertaking the study tour was capital in nature. The whole of this item should also be allowed.
18. The question referred by the Tribunal must be answered in the negative and in favour of the assessee-company. The assessee will get cost of this reference, assessed at Rs. 200, Counsel's fee is also assessed at the same amount.
Question answered in the negative.
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Title

Security Printers Of India (P.) ... vs Commissioner Of Income-Tax

Court

High Court Of Judicature at Allahabad

JudgmentDate
15 July, 1970
Judges
  • R Pathak
  • T Mukerjee