Kishinchand Chlaram v Comissioner of Income Tax Case

Introduction

The case answers to the question regarding application of Section 16(2) of Income Tax Act, 1922 on the nature of payment in the name of dividend declared out of capital without taking consideration of tax provision & its subsequent reversal at later date by Company. It analyses the issue whether dividend once declared & credited in one resolution can be reversed by passing another resolution.

Facts

In April 1941, Chellsons Ltd. a Private Company was incorporated. Its shareholders (assessees for the purpose of case) were Kishinchand Chellaram (six shares) and Shewakram Kishinchand, Lokumal Kishinchand and Murli Tabilram each holding three shares. Kishinchand, Shewakram and Lokumal were directors of the company. In July, 1943 a resolution declaring dividend at sixty per cent on the shares of the company on the profits of years 1941-42 & 1942-43 was passed in general meeting. In another meeting in July 1944, again dividend at sixty percent on the shares of the company was declared for year 1943-44. These dividends were subsequently credited in the accounts of shareholders on September 29, 1944.

On December 4, 1947, at an Extraordinary General Meeting (EGM) another resolution was passed to reverse the earlier resolutions of July 1943 & 1944. It stated that the dividends were sanctioned without taking the tax liability of Company in account & due to this bona fide mistake of shareholders the dividend amount shall now be considered as loan to such individual shareholders. The Assessees failed to file revised returns excluding the amount of dividend, nor they claimed that such amount is not subject to taxation.

In January 1950, the Income tax officer charged tax on the three years’ dividend brought in by assessees. The assessees challenged it before Appellate Assistant commissioner who rejected the plea. Appeal was filed before Appellate tribunal, it held that dividends in respect of the years 1941-42 and 1942-43, having been received before the year of account in 1945-46, were not liable to be taxed in that year. But it confirmed the orders of assessment as to the dividend for the year 1943-44, because in its view, the resolution declaring dividend could not be reversed by a resolution at a subsequent General Meeting after the dividends had been paid.

The Income department challenged the order before Bombay High Court. The High Court held that the sums received by assessees as dividend in the account year 1944-45 is relevant for the assessment year 1945-46 & assessment was properly made by the department. The Assessees preferred an appeal before Supreme Court against the order of High Court.

Issue in the case

1.  Whether the shareholders of the company reverse the dividend declared and credited to the account of the shareholders by passing a resolution to the effect later on?

Contentions

Assessees:

a.       The assessees contended that the amounts credited by the Company to their accounts in respect of the years 1941-42, 1942-43 and 1943-44 were not dividend.

b.      Even if it were dividends, in view of the subsequent resolution, it is not liable to be taxed as dividend income because such declaration of dividend out of profit is invalid & hence, liable to be excluded.

Commissioner of Income Tax:

1. Section 16(2) of the Income tax Act, provides that for the purposes of inclusion in the total income of an assessee any dividend shall be deemed to be income of the previous year in which it is paid, credited or distributed or deemed to have been paid, credited or distributed to him.
2. The resolution declaring dividend cannot be reversed by subsequent resolution & they correctness of the claim made by the shareholders that dividend was paid without making provision for payment of tax was challenged.

Summary of court decision and Judgement in the case

The Court dismissed the case while observing that the amounts were declared as dividend, treated as dividend and received by the assessees as dividend. It pointed out that although it may be assumed that the company failed to provide for payment of tax before declaring dividend and that after providing for payment of tax the net profits of company may not have been sufficient to justify declaration of dividend at sixty percent of the value of the shares. It can be inferred from this assumption that part of capital was indeed paid out & such payments not being out of profits are prohibited by y Art. 97 of Table A- of the Indian Companies Act, 1913 as amended by Act. XXXII of 1936 read with s. 17(2) of the Income Tax Act. Hence, rendering such payments as unlawful.

The Court observed that the case is not concerned with validity of the distribution of dividend, or the liability of the directors arising out of improper distribution of dividend but with true nature of payment made on 29th September, 1944. It held that payment made as dividend by a company to its shareholders does not lose that character merely because it is paid out of capital and consequently the Income Tax Act is applicable as soon as dividend is paid, credited or distributed or is so declared.

Analysis of the case

The Court was correct while opining that in ascertainment of liability under Income-tax on dividend arose, as soon as a resolution of the company & subsequent payments were made to the shareholders as dividend. Thus, treating them as loans retrospectively cannot alter the character of the payment and thereby cannot exempt assessees from liability which has already been attached thereto.

Conclusion

It can be concluded that Income Tax Act is indifferent from the technicalities or procedure of declaring dividends by Company, if a company or its director pass resolution to declare payments in name of dividend, any subsequent change or reversal in the same by passing another resolution shall not make any difference in its assessability. Hence, the dividend once received by the shareholder cannot be converted to loan at subsequent date.

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