1981 PLP 257 (PTD)

TULZAPURKAR, J.‑‑These appeals by special leave raise a common question whether on proper construction of the agreement dated November 10, 1955, entered into by the assessee with Kamala Mills Ltd., the later was the "manager" of the assessee within the meaning of section 384 read with section 2(24) of the Companies Act, 1956, and if so whether the remuneration paid by the assessee to the latter in the two calendar years 1957 and 1958 relevant to the assessment years 1958‑59 and 1959‑60 cannot be allowed as business expenditure under section 10(2)(xv) of the Indian I. T. Act, 1922? The facts giving rise to the question may briefly be stated as follows. The assessee (Messrs Alagappa Textile (Cochin) Ltd. is a public limited company carrying on business of manufacture and sale of yarn and has its registered office at Alagappa Nagar in Kerala State. It entered into an agreement dated November 10, 1955, with Kamala Mills Ltd., Coimbatore for financing and managing the assessee Mills at Alagappa Nagar for a period of five years Clause 8 of the agreement provided that Kamala Mills Ltd. shall be paid, for the services rendered by it by way of purchases, sales and management, remuneration at the rate of 1 % on all purchases made by it for the assessee‑mills and at half a per cent, on ail sales of yarn, yarn waste, and cotton waste and other products of the Mill. Pursuant to the aforesaid term, Kamala Mills Ltd. Drew remuneration to the tune of Rs. 1,03,547 and Rs. 18,294, respectively, for the calendar years 1957 and 1958 corresponding the assessment years 1958‑59 and 1539‑

60. These amounts were assesses: tax in the hands of Kamala Mills Ltd. The assessee in its assessment proceedings for the said two assessment years claimed deduction in respect the said two amounts as business expenditure under section 10(2)(xv) of the Act. The claim was disallowed by the I.‑T. O. on the ground that under section 384 of the new Companies Act, 1956, which had come into force on April 1, 1956, the continuation of a body corporate as manager was prohibited the period beyond six months from the Wining into force of the Act :at remuneration paid to Kamala Mills Ltd., subsequent to October 1, 1956, was illegal being in violation of section 384 and, therefore, the deduction ;timed in respect of such payment for the calendar years 1957 and 1958 could not be allowed. In the appeals preferred by the assessee against the decision of the I.‑T. O., it was contended that though the payment of remunaration to a body corporate as manager after October 1, 1956, was illegal under section 384, the payments were for services rendered and were fully justified by commercial expediency and as such the same should be allowed under section 10(2)(xv) of the Act. It was also urged that ever: if the expenses incurred were in violation of the statute such expenses should be allowed since ire computing the profits even of illegal business only the net profit was taxes after allowing all the expenses. The A. A. C. was not impressed by these arguments, but he disallowed the deduction mainly on the ground that the assessee by its own conduct had disputed its liability to pay any remuneration to Kamala Mills Ltd. after October 1, 1956, and in that behalf he relied on an admitted fact that the assessee had filed a suit against Kamala Mills Ltd. to recover tack such remuneration which had been paid to it in contravention of section 384 on the basis that, since the payment was illegal, Kamala Mills Ltd. was holding such amounts of remuneration in trust for and on behalf of the assessee and in such a situation the deduction could not be allowed. The assessee carried the matter in further appeals to the Tribunal, but the Tribunal confirmed the view of the taxing authorities that under section 384 of the Companies Act, 1956, it was not legal for the assessee to have permitted Kamala Mills Ltd. to continue to work as its manager after October I, 1950, and that the payment of remuneration after the said date was illegal and could not be considered as valid expenditure for the purpose of the I.‑T. Act. In this behalf, the Tribunal relied on two decisions in C. I. T. v. Haji Aziz and Abdul Shakoor Bros. (1955) 28 I T R 266 (Bom.) and Raj Woollen Industries v. C. I. T. (1961) 43 I T R 36 (Pb.). An argument was raised before the Tribunal that Kamala Mills Ltd. was not only a manager but also a financier and that the remuneration should be treated as having been paid to the financier. While observing that it was a new case put forward by the assessee, the Tribunal negatived the contention holding, on construction of the agreement, that it was by virtue of its position as manager that Kamala Mills Ltd. was allowed to carry on the financial affairs of the assessee and the remuneration was payable to it as manager and in no other capacity. The Tribunal also held that the claim for deduction was in respect of a disputed liability inasmuch as the assessee had not merely filed a suit to recover the amount but had in the meantime obtained a decree against Kamala Mills Ltd., and, therefore, the amounts could not be lawfully claimed as permissible deduction. At the instance of the assessee, the following question was referred to the High Court for its opinion: "Whether, on the facts and the circumstances of the case, the Tribunal was justified is law in disallowing the claim of the assessee for deduc tion of Rs. 1,03,547 end Rs. 18,294 from the income of the assessment years 1958‑59 and 1959‑60 as not an admissible business expenditure under section 10(a)(xv) of the Indian Income‑tax, 1922?" The High Court answered the question in the negative, in favour of assessee and against the Department. The High Court, on construction of the agreement dated November 10, 1955, took the view that since in the matter of the exercise of its powers and the discharge of its functions there under, Kamala Mills Ltd., could not be said to be "subject to the superin tendence, control and direction of the board of directors" of the assessee Kamala Mills Ltd. was not a "manager" of the assessee within the definition given in section 21(24) of the Companies Act, 1956, and, therefore, the illegality under section 384 way not attracted and as such the remuneration paid by the assessee to Kamala Mills Ltd. for services rendered during the calends:' years 1957 and 1958, was allowable as a business expenditure under section 10(2)(xv) of the Act, As regards the decree that had been obtained by the assessee against Kamala Mills Ltd., the High Court observed that the appeal filed by Kamala Mills Ltd. against the said decree was still pending i: the High Court and if ultimately the appeal was dismissed and the amounts ware recovered back from Kamala Mills Ltd., the assessee could be taxed or these amounts under section 41(1) of the Act, but that could not be a valid fund for disallowing the deduction claimed by the assessee. The revenue has challenged in these appeals the view of the High Court that Kamala Mills Ltd, was not the manager of the assessee within the meaning of section 334 read with section 2(24) of the Companies Act, 1956, and the further view that the remuneration paid to Kamala Mills Ltd., during the calendar years 1957 and 1958, was deductible as business expenditure under section 10(2)(xv) of the Act. Before we consider the principal question relating to the proper cons truction of the agreement date November 10, 1951, it will be desirable to note the relevant provisions bf the Indian Companies Act, 1913, as also the new Companies Act, 1956, which have a bearing on the question at issue. Since the agreement between the assessee on the one hand and the Kamala Mills Ltd. on the other was entered into at a time when the Indian Companies Act, 1913, was in force it will be proper first to refer to the definition of manager given in section 2(9) of said Act. Section 2(9) ran thus: "2. (9) 'manager' means a person who subject to the control and direction of the directors bas the Management of the whole affairs of a company, and includes a director or any other person occupying the position of a manager by whatever name called and whether under a contract of service or not." It will be clear that to satisfy the aforesaid definition a person, which could include a firm, body corporate or an associate of persons, apart from being in Management of the whole affairs of a company had to be "subject to the control and direction of the directors". This definition has undergone a substantial change under the Companies Act. 1955. Under this Act, section 2(24) defines the expression "manager" thus: "2. (24) 'manager' means an individual (not being the managing agent) who, subject to the superintendence, control and direction of the board of directors, has the Management of the whole, or substantially the whole of the affairs of a company, and includes a director or any other person occupying the position of a manager, by whatever name called, and whether under a contract of service or not." In this definition three conditions are required to be satisfied: (a) the manager must be an individual, which means that a firm or a body corporate or an association is excluded and cannot be a manager (a fact which is expressly made clear in section 384), (6) he should have the Management of the whole, or substantially the whole, of the affairs of the Company, and (c) he should be subject to the superintendence, control and directions of the board of directors in the matter of managing the affairs of the Company. Subject to the changes made in the aspects covered by (a) and (b), in both the definitions the aspect that a manager has to work or exercise his powers under the control and directions of the board of directors is common 'and essential. In fact it is this aspect which distinguishes "manager" from "manager" from managing agent . If the definition of "manager" as given in section 2(24) is compare with that of "managing agent" as given in section 2(25) it will appear clear that though there is an overlapping of the functions of the manager as well as the managing agent of the company the essential distinction seems to be that whereas the manager has to be subject to the superintendence, control and direction of the board of directors the managing agent is not so subject. Section 384 of the Companies Act, 1956, in express terms prohibits, after the commencement of the Act, the appointment of a firm or a body corporate or an association of persons as a manager as also the continuation of such employment after expiry of six months from such commencement. It runs thus:‑ "

384. No company shall, after the commencement of this Act, appoint or employ, or after the expiry of six months from such commencement, continue the appointment or employment of, any firm, body corporate or association as its manager." The aforesaid provision positively disqualifies a firm, body corporate or association from being appointed as manager of a company or from continuing the employment of a firm,, body corporate or association as manager after the expiry of six months from the commencement of the Act. Obviously, to attract the prohibition or disqualification contained in S. 384, a firm, body corporate or association must be a "manager" within the meaning of section z (24), that is to say, it should be in management of the whole or substantially the whole of the affairs of a company, and should be under superintendence, control and direction of the board of directors of the company. It was not seriously disputed that under the terms and conditions contained in the agreement dated November 10, 1979, Kamala Mills Ltd. could he said to be in management .of sub stantially the whole of the affairs of the assessee mills but the question is whether it was working under the superintendence, control and direction of the board of directors of the assessee so as to be its "manager" with in S. 2 (24) of the Act? Turning now to the agreement in question it may be stated that at the commencement of the deed the parties thereto have been described in a particular manner, namely, the assessee has been described and refer red to as the "company" while Kamala Mills Ltd. has been described and referred to as the "managers" throughout the document. Then follow two recitals which make very clear the object or purpose with which the agreement was entered into, according to these recitals the assessee was not having sufficient finance to carry on its business of manufacture and sale of yarn and the board of directors thought it pro per to find out a financier who was agreeable to help the assessee monetarily and take active interest in its business and that since Kamala Mill Ltd. agreed to assist the assessee with sufficient finance and to manage the assessee's mill on certain terms and conditions which the board of directors had approved, the agreement was executed between the parties. Then follow the operative parts of the decd setting out the terms and conditions on which Kamala Mills Ltd. agreed to provide sufficient finance as also to manage the business of the assessee. Clause (1) enlisted in sub‑clauses (a) to (m) the powers and functions which were to he exer cised and performed by Kamala Mills Ltd. during the period of five years for which the agreement was to operate; such powers were conferred and functions entrusted for the purpose of "managing and running the mill" of the assessee; inter alia, Kamala mills Ltd. was to make pur chases of all cotton, staple fibre or any other raw material for the manu facture of the yarn and to enter into contracts in that behalf at such rates and prices as it may deem fair and proper and make payment for all such purchases and incur all expenses incidental thereto; it was also to make purchases of all stores and spares and other materials necessary for the manufacture of yarn ; it was to appoint all staff, technical or non‑technical and workers skilled and unskilled as also clerks and other staff necessary for the working of the mill and fix their terms and remune ration and could discharge or dismiss or take disciplinary, action against them ; it had to sell and make contracts for sale for immediate or future delivery of yarn, yarn waste or cotton waste or any other material or pro ducts of the mill at such rates or prices and on such terms and conditions as it may think fit ; it could decide, lay down and change from time to time the programme of manufacture of yarn and other products of the mill and to insure against fire and other risks all cotton, yarn material, stock‑in‑trade and incur and pay all premia necessary in that behalf; it could pledge, secure and hypothecate all stocks and stores and stock-in- trade with such bank or banks where arrangements for overdrafts shall have been completed by the board of directors, and it could claim, demand, realise and sue for all goods, materials and amounts due to the assessee in the exercise and carrying out of any or all of the powers con ferred under sub‑clauses (a) to (k). Clause 2 of the agreement stipulated that Kamala Mills Ltd. shall provide funds or arrange for finance neces sary for exercising the powers of purchase of cotton, stores and other materials and for payment of wages, salaries, commissions and allow ances and for meeting all expenses incidental to manufacture and sale of yarn and other products of the mill. Under clause (3) the assessee was to open a separate current account and an overdraft account for a limit not exceeding Rs. 30,00,000 with such bankers as Kamala Mills may require with powers to Kamala Mills to operate on the said accounts exclusively by itself and in the name of the assessee and it was to have power to receive, endorse, sign, transfer and negotiate all bills, cheques, drafts, etc., that may be received in the name of the assessee in the course of the management of the mill and it was specifically Screed that no one except Kamala Mills shall have power to operate on the said accounts. Clause 4 entitled Kamala Mills Ltd. to charge the assessee interest at the rate of 7 % per annum with half‑yearly rests on all advances made by it and funds provided for the purposes set out in clause

2. Clause 5 gave Kamala Mills Ltd. a first and prior charge on all the stocks and stores and stocks-in‑trade for all the moneys and amounts that may be advanced by it to the assessee except to the extent of any charge or security of such stocks and stores and stock‑in‑trade that may be created in favour of the banks for the overdraft account and such charge in favour of Kamala Mills was to be a possessory charge. Clause 8 quantified the remuneration payable to Kamala Mills Ltd. for services rendered by way of purchases, sales, and the Management of the mill at the rate of I % on all purchases made by it for the assesses‑mill and at 1/2 %. on all sales of products effected for and on behalf of the assesses. Clause 10 requited Kamala Mills Ltd. to maintain proper accounts in respect of all purchases, sales and expenses, commissions and remunerations due to it etc., and submit to the assessee monthly statements of accounts. Clause 11 put the outer limit of Rs. 15,00,000 at any one point of time on the advances and financial assis tance to be given by Kamala Mills Ltd. to the assesses and it was pro vided that if and when sums over and above the said limits become necessary to be advanced, Kamala Mills would be entitled to appropriate and take for itself as owners such quantity of yarn as may be in stock as in value would be equivalent, at cost or market value, whichever was lower, to the sum that it may be obliged to advance over and above Rs. 15,00,

000. Clause 13 of the agreement is very important having a crucial bearing on the question at issue and may be set out verbatim. It ran thus :‑ "13. 'The Company (assessee) either represented by its managing agent or board of directors shall not exercise the powers dele gated to the managers (Kamala Mills Ltd.) under the foregoing clauses, except by way of general supervision and advice, no clause (bb) would be applicable only if the commission o brokerage paid is taxable in Pakistan. Since the amendment has not been made with retrospective effect, the Income‑tax Officer may tend to disallow expenditure in the pending cases. I have been directed to say that keeping in view the Board's earlier instructions on the subject no attempt should be made to disallow the said expenditure unless the commission or brokerage paid to a non‑resident is taxable in Pakistan and no tax has been deducted therefrom tinder section 18 (3B). A perusal of the aforementioned circulars clearly, establishes that directions and instructions of the Central Board of Revenue were to allow commission or brokerage paid to non‑residents if the same is not taxable in Pakistan Tax. As held by the Tribunal in its decision reported a (1981) 43 Taxation 83 (Trib.), the instructions or orders issued by the Central Board of Revenue are binding on all officers and persons employed in the execution of Income‑tax Act by virtue of the provisions of section 5;8) of the Act. Taking up the two decided cases on this issue, it is pertinent to deal with them separately. In the case reported as (1966) 14 Taxation (Trib.) 96, the Tribunal while dealing with a case wherein no payment was involved held as under :‑ "Learned counsel for the appellant reads the word `payment' occurring in clause (bb) and section 18 as meaning "actual pay ment' and we would not say that this reading is not correct. His contention that deduction of tax on commission and broker age is chargeable to tax under the Pakistan Income Tax Act must also prevail. However, this analysis of the two provisions does not absolve him of his duty to get out of the mischief of the general prohibition created by clause (bb). The language of this clause is restrictive. If the recipient of the commission is a non‑resident and the payment is claimed under sec tion 10 (2) (xvi) then in the clear words of this clause the fact of de duction of tax thereon must be proved. In order words this clause completely prohibits the allowance of expenses claimed under section 10 (2)(xvi) if the payment of those expenses is made to a person not resident in Pakistan unless tax is deductible and has been deducted on them under section

18. If tax thereon cannot be deducted for the reasons that they are not paid and are not chargeable to tax then ‑they go out of the exception created by the words "unless tax has been deducted therefrom under section 18" occurring in clause (bb). Mr. Rizvi, the Departmental Representative, went to argue that but for the exception referred to above there is a complete denial of the allowance of commission or brokerage paid to a person not resi dent in Pakistan. In our clear view the arguments advanced by Mr. Rizvi must prevail and they alone flow from the language of clause (bb). We must accordingly hold that unless the asses see's case falls within the exception of the tax having been deducted under section 18, t. e. it should be a case falling under this section, and admittedly neither any payment has been made nor any tax has been deducted thereon, the assessee's claim is barred by the general prohibition created by clause (bb). Stran gely enough when there is no payment how any allowance to respect thereof can he admitted but this is yet another "matter on which we need not dwell." The facts of this case are fairly distinguishable as issue involved therein was different. Therein commission was not paid to non‑resident and the issue cropped up only while deciding the case of managing agency agreement. Taking up the case decided by the High Court reported as (1978)37 Taxation 125, there seems to be a basic difference in the facts of that case. Therein foreign agents commission was remitted from Pakistan and it was held as under :‑‑ "A close reading of clause (bb) of section 10 (4) shows that the language is restrictive and worded in negative. It provides that any allowance in respect of any payment by way of brokerage or commission made to a non‑resident person shall not be deemed to be authorised as business expenditure under section 10 (2) (xvi) unless tax has been deducted therefrom under section

18. In other words, the deduction pf tax at the time of payment is made a condition to the allowance of the claim in respect of the pay ment of brokerage or commission. It is pertinent to observe that it is not a condition for the allowance of business expendi ture of payment of every kind made to a non‑resident person that it shall not be authorised unless tax has been deducted therefrom under section 18, but only of payment brokerage or commission which are specifically provided for in clause (bb). As rightly ob served by the Tribunal, the intention of the Legislature in en acting clause (bb) appears to be that the amount of brokerage or commission payable to a non‑resident should not altogether escape the incidence of taxation and the payer who is claiming the deduction of the amount from his profits as a business expenditure must deduct tax at the time of payment in accordance with the provisions of sub‑section (i) of section 17 of the Act, leaving it either to the nun‑resident person to obtain a certificate in written from the Income‑tax Officer under the proviso to section 18 (2‑B) specifying the rate at which the tax may be deducted, if any, or a prayer to obtain an order to that effect." After taking into consideration all the circulars issued by the Central Board of Revenue as well as two reported decisions we are of the view that the Central Board of Revenue has been as a policy matter, throughout directing the assessing officers to allow commission‑‑paid to the foreign agents. The amendment made in sub‑clause (bb) vide. Finance Ordinance, 1975 was already being acted upon by the Central Board of Revenue. The question that falls for determination is the nature of amendment made by the Finance Ordinance, 1978. After Peru. sat of the Central Board of Revenue's instructions, we are of the consi dered view that the amendment made by Finance Ordinance, 1978 was of rectificatory nature and shall have retrospective application, irrespective of absence of any specific provision in that regard. The amendment was purely curative and must be liberally construed in favour of the subject. There is nothing in the amending Ordinance to show that this amendment was prospective only. The amendment bring of clarificatory nature is just incorporation of consistent directions of the Central Board of Reve nue and as such it shall be deemed to be retrospective. Provision of sub‑clause (bb) when read front its inception to the amendment in the light of consistent directions of the Central Board of Revenue in the form of circulars seems to be of procedural nature. Any clarification or alteration in procedure shall have retrospective effect unless some: good reason is assigned against that. Even otherwise, in the instant case, the facts were fairly distinguish able as commission was paid to Foreign Agents directly by the Foreign Banks who initially received the sale proceeds from the Customers. Agents rendered their services and received there dues outside Pakistan. The commission thus paid to the non‑residents was not taxable in the hands of recipients in Pakistan and as such there was no question of any tax deduction in Pakistan. The Tribunal has already allowed commission paid to foreign agents in similar circumstances vide its un reported decisions in I. T. A. No. 1120/2121 of 1967‑68 dated 19‑8‑1970. The original provision of section 10 (4) (bb) as it existed in the yea under review was not attracted. In view of the fact that the amendment made by the Finance Ordinance, 1978, has been held by us to be of recti ficatory nature, it fully covered the assessee's case. In the decision of the Sind High Court, commission having been remitted from Pakistan, fats therein were distinguishable from the assessee's case. On that score that decision has no relevancy for this case. The I.T.O. erred in blindly following the High Court's decision wherein facts were totally distinguish able. In this view of the matter, the order of the Appellate Assistant Commissioner on the issue involved is maintained and the departmental appeal fails. Appeal disallowed.