Case Analysis: Oriental Fire & General Insurance vs. Commissioner of Income Tax

• ORIENTAL FIRE & GENERAL INSURANCE CO. LTD. V. COMMISSIONER OF INCOME-TAX, BOMBAY CITY-IV
• Income-tax Reference No. 164 of 1973.
• Hon'ble High Court of Mumbai.

MATTER BEFORE THE COURT

In this reference at the instance of the assessee, the following two questions have been referred to this court under s. 256(1) of the I.T Act, 1961.

“(1) Whether, on the facts and in the circumstances of the case, and on a proper construction of the First Schedule read with Section 44 of the Income-tax Act, 1961, the assessee could claim that a sum of Rs. 21,26,932, representing the appreciation in value of some of its foreign assets consequent on the devaluation of the rupee was not assessable to income-tax?

(2) If the assessee could so claim, whether this amount of Rs. 21,26,932 was, on the facts and in the circumstances of the case, liable to tax as income under the Income-tax Act, 1961?”

BRIEF FACTS

1. The assessee-company, The Oriental Fire and General Insurance Co. Ltd., Bombay, carried on the business of general insurance. The relevant assessment year is 1967-68, for which the previous year was the calendar year 1966. In the profit and loss account for 1966, an entry with regard to Rs. 21,26,932 was as follows:

“Profit on exchange (net) see note 3- Rs. 21,26,932.”

2. Note 3 referred to in the entry reads as follows:

“Incorporated in the accounts are the figures of the company's foreign branches, agencies, treaties, etc., at the pre-devaluation rate in respect of transactions effected up to 5th June, 1966. The assets and liabilities thereof (except estimated liability for outstanding claims) at the close of business on 5th June, 1966, have been converted at the new rate of exchange. Estimated liability for outstanding claims of the foreign business as on 5th June, 1966, was not ascertained. The amount of outstanding claims in respect of the foreign business as at 31st December, 1965, was converted at the new rate of exchange.”

3. While making a computation of the income for the assessment year in question, the assessee deducted the abovementioned sum of Rs. 21,26,932 on the ground that it did not represent income as there was no physical transfer of funds to him.

4. The INCOME TAX OFFICER (AO) held that the gain on devaluation of currency was profit which arose in the course of business carried on by the assessee and, therefore, such gain could not be excluded from the income.

FIRST APPEAL

5. In appeal before the AAC, details of the assets and liabilities were furnished to show that the appreciation in question was notional and unrealised and that the funds had never been transferred to India. It was also urged before the AAC that there were certain assets in Ceylon, Burma and Pakistan and there was no possibility of repatriation of those funds lying in those countries owing to the restriction on remittances.

6. The case of the assessee also was that the assessee had stopped doing business in Burma and Ceylon in 1964 and in Pakistan in 1965 and that since the assets were immobilised in these countries, any appreciation in the value of such assets could not constitute the income of the assessee.

7. Relying on the decision of the Supreme Court in Commissioner Of Income Tax, Mysore v. Canara Bank Ltd., [1967] 63 ITR 328 and the decision of the Bombay High Court in Commissioner Of Income-Tax, Bombay v. Mogul Line Ltd., Bombay., [1962] 46 ITR 590, the AAC held that the assessee was entitled to the relief claimed in respect of the assets in Burma, Ceylon and Pakistan and directed the ITO to exclude the amounts in question.

The figures relating to Burma, Ceylon and Pakistan were as follows:

Country In the respective currencies In Rupees Burma (Gain on exchange) Kyats 3,41,715.11 5,36,492.73 Ceylondo. C. Rs. 1,52,204-15 2,38,960.52 Pakistan (Loss on exchange) P. Rs. 8,894.70 13,964.68

8. The operative order of the AAC directed that the total income of the assessee should be reduced by Rs. 23,73,819, which included the amount of Rs. 21,26,932 in question.

9. The Department filed an appeal against the order of the AAC and the contention raised was that the scheme of taxing the profits of insurance business is distinct and separate and that the ITO could not go beyond the limits of the rules prescribed in the First Schedule read with Section 44 of the I.T Act, 1961.

THE TRIBUNAL

• This contention was accepted by the Tribunal which held that the ITO could not travel beyond the annual accounts and treat some amount as balance of profits other than the balance of profits disclosed by the annual accounts furnished by the assessee under the Insurance Act. The order of the AAC was thus set aside and the order of the ITO wasrestored. The correctness of this order of the Tribunal is put in issue by the questions raised at the instance of the assessee in this reference.
• Munim, appearing on behalf of the assessee, has contended that the surplus arising as a result of conversion of foreign currency into Indian currency is an accretion to fixed capital and not liable to tax and further that an entry in the balance-sheet of the assessee was not conclusive. According to the learned counsel, taxability could not be decided solely on the basis of the entry made by the assessee. His further contention was that the assessee-company did not carry on any business in Burma, Ceylon and Pakistan in the relevant assessment year and if there was any appreciation in the value of the assets of the company in those countries,. The appreciation could not be treated as profits because it did not arise in the course of any trading operation. The learned counsel for the assessee has contended that neither the provisions of Section 44 of the I.T Act, 1961, nor the provisions of rule 5 in the Schedule prevented the ITO from truly ascertaining the profits of the insurance business of the assessee. In other words, the contention was that the amount in question should not have been treated by the ITO as profits, even though that amount was expressly shown as profits in the accounts submitted to the Controller of Insurance, under the I.T Act.
• The question which has to be decided in this case is whether it is open to the ITO to go behind the accounts submitted by the insurance company (assessee) in which the amount of Rs. 21,26,932 is expressly shown in the profit and loss account as “profit on exchange”. In that context, the learned counsel for the assessee has placed reliance on the decision of this court in CIT v. New India Assurance Co. Ltd., [1969] 71 ITR 761. In that decision, which arose under the provisions of the Indian I.T Act, 1922, in which Section 10(7) was the provision corresponding to Section 44 of the I.T Act, 1961, was construed and it was held that when rule 6 of the Schedule to the 1922 Act provided that “profits and gains of any business of insurance (other than life insurance) shall be taken to be the balance of the profits disclosed…….”, the words “taken to be” would suggest that the tax officer is bound to accept the balance of the profits disclosed by the annual accounts, but it is not the same thing assaying that it shall be deemed to be profits and gains of any business of insurance.

The Division Bench held that the provisions of Section 10(7) of the 1922 Act and rule 6 in the Schedule do not prevent the ITO from granting exemptions to which the assessee would be entitled and that “there is nothing to indicate in sub-section (7) of section 10 that the exemption under sections 15B and 15C and the exemption under Notification No. 39 issued under section 16 or the deduction under section 4(1) cannot be allowed………..” It was pointed out by the learned counsel for the assessee that this decision was followed by another Division Bench of this court, to which one of us was a party, in Life Insurance Corporation of India v. CIT, [1978] 115 ITR. 45, in which it was held that the deductions which were claimed by the assessee whose assessment is governed by Section 44 read with rule 2 of the First Schedule to the I.T Act, 1961, were allowable.

• Now, at the outset, we must refer to the provisions of s. 44 of the I.T Act, 1961, which reads as follows:

“Notwithstanding anything to the contrary contained in the provisions of this Act relating to the computation of income chargeable under the head ‘Interest on securities', ‘Income from house property', ‘Capital gains' or ‘Income from other sources' or in section 199 or in sections 28 to 43a, the profits and gains of any business of insurance, including any such business carried on by a mutual insurance company or by a co-operative society, shall be computed in accordance with the rules contained in the First Schedule.”

• If we go to the First Schedule, it deals with two categories of insurance business- life insurance business and other insurance business. The mode of computation of profits or gains of life insurance business is dealt with by rules 1 to 4. We are concerned with rule 5 which deals with computation of profits and gains of other insurance business.

This rule reads as follows:

“The profits and gains of any business of insurance other than life insurance shall be taken to be the balance of the profits disclosed by the annual accounts, copies of which are required under the Insurance Act, 1938 (4 of 1938), to be furnished to the Controller of Insurance, subject to the following adjustments:

(a) subject to the other provisions of this rule, any expenditure or allowance which is not admissible under the provisions of sections 30 to 43a in computing the profits and gains of a business shall be added back;

(b) any amount either written off or reserved in the accounts to meet depreciation of or loss on the realisation of investments shall be allowed as a deduction, and any sums taken credit for in the accounts on account of appreciation of or gains on the realisation of investments shall be treated as part of the profits and gains:

Provided that the Income-tax Officer is satisfied about the reasonableness of the amount written off or reserved in the accounts, as the case may be, to meet depreciation of or loss on the realisation of investments;

(c) such amount carried over to a reserve for unexpired risks as may be prescribed in this behalf shall be allowed as a deduction.”

• On its plain terms, Section 44 mandatorily requires that the profits and gains of any business of insurance shall be computed in accordance with the Rules contained in the First Schedule. In its earlier part, Section 44 has a non obstante clause and the effect of the non obstante clause is that in the case of a business of insurance, provisions relating to computation of income which is chargeable under the head “interest on securities”, “income from house property”, “capital gains” and “Income from other sources” will not apply but the profits and gains of business of insurance will have to be computed only in accordance with the rules contained in the First Schedule.

Similarly, the provisions of Section 199 and Sections . 28 to 43A also cannot be looked into for the purposes of computation of the profits and gains of the business of insurance. The bare reading of rule 5 will show that it mandatorily requires that the balance of profits disclosed by the annual accounts, copies of which are required under the Insurance Act, 1938, to be furnished to the Controller of Insurance, shall be taken to be the profits and gains of the business of insurance other than life insurance.

A limited scope for adjustment of the balance of profits as disclosed in the annual accounts is permissible and could be made by the ITO as indicated in clauses (a), (b) and (c) of rule 5. None of these clauses are relevant for the purposes of the present case.

Now it is difficult to accept the arguments of the learned counsel for the assessee that though the amount of Rs. 21,26,932 is shown as a part of the profits of the assessee in the annual accounts which are submitted to the Controller of Insurance as required by Section 15 of the Insurance Act, that amount should not really be treated as part of the profits. Such an argument would run counter to the provisions of rule 5.

• The provisions of the First Schedule and rule 5 in the instant case being the only mode prescribed by the Legislature for determining the profits and gains of business of insurance other than life insurance and the mode being to look at the balance of profits disclosed by the annual accounts, copies of which are required under the Insurance Act, 1938, to be furnished to the Controller of Insurance, and the permissible adjustments not being relevant in the instant case, no power can be found in the I.T Act under the provisions of the Act to meddle with the balance of profits disclosed by the annual accounts.
• The question as to whether any particular amount is really profit or not is wholly irrelevant in a case to which rule 5 applies because the criterion for determining the profits and gains of the business of insurance other than life insurance is exclusively laid down in rule This has nothing to do with the nature of the exemptions which were the subject-matter of the decision in New India Assurance Company's' case, [1969] 71 ITR 761 (Bom) or the Life Insurance Corporations case, [1978] 115 ITR 45 (Bom), cited supra. In these cases exemptions were claimed under certain provisions of the I.T Act. It is not the case of the assessee that though the amount of Rs. 21 lakhs odd is in fact a part of the profits of the assessee-company, that amount is liable to be excluded for the purpose of taxability as being exempt under any specific provisions of the I.T Act.
• It may be pointed out that in Life Insurance Corporation of India v. CIT, [1964] 51 ITR 773; 34 Comp Cas 258, the Supreme Court has laid down that the assessment of profits of an insurance business is completely governed by the rules in the Schedule in the Indian I.T Act, 1922, and that the ITO has no power to do anything not contained in it and there is no general right to correct any error in the case of insurance business.
• This view was reiterated in Pandyan Insurance Co. Ltd. v. CIT, [1965] 55 ITR 716 (SC). In New Asiatic Insurance Co. Ltd. v. Commissioner Of Income-Tax, [1973] 90 ITR 243, a Division Bench of the Delhi High Court took the view that the character of the entries in the annual accounts furnished by an assesseeinsurer to the Controller of Insurance cannot be gone into and the accounts as accepted by the Controller must form the basis of assessment in the case of insurers who fall within the ambit of the rules of the Schedule to the Indian I.T Act, 1922. The question in that case was whether the amounts credited by the assessee, insurance company, to its profit and loss account for the relevant year, by transfers from the dividend equalisation fund and the general reserve account could be taken into consideration in computing its profits and the Division Bench held that the question must be answered in the affirmative. After referring to the provisions of Section 10(7) of the Indian I.T Act, 1922, which corresponded to Section 44 of the I.T Act, the Division Bench observed as follows (P. 246):

“It is on account of the wide powers conferred on the Controller of Insurance and the sanctity that is attached to the returns accepted by him that provision has been made in the Income-tax Act precluding any-further investigation and the Income-tax Officer is required to accept, subject to any adjustment he may make so as to exclude from it any expenditure other than expenditure which may under the provisions of section 10 of the Income-tax Act be allowed in computing the profits and gains of business, the accounts that have been submitted to the Controller of Insurance. Since that statute so provides, once the annual statements of accounts have been submitted by the assessee-insurance company, and the same have been accepted by the Controller of Insurance, the assessee cannot be heard to argue that the revenue receipts as shown in the statement of accounts were really not revenue receipts but had some other character.”

• This court has also taken the same view in South India Insurance Company Ltd. v. CIT, [1977] 106 ITR 969, in which dealing with Section 10(7) and rules 3 and 6 in the Schedule to the 1922 Act, the Division Bench held that the intention of rules 3 and 6 of the Schedule to the Indian I.T Act, 1922, was that the balance of profits as disclosed by the accounts submitted to the Controller of Insurance shall be accepted by and binding on the ITO and it would not be open to the tax authorities to go behind the balance of profits disclosed by the annual accounts as filed before the Controller of Insurance except to make any adjustment so as to exclude from it any expenditure other than expenditure which may under Section 10 be allowed in computing the profits and gains of a business.

21. It would, therefore, not be possible to accept the argument of the learned counsel for the assessee that the sum of Rs. 21,26,932 should not be treated as a part of the profits of the assessee.

• It was then argued that at least the appreciation of the assets in Burma and Ceylon should be excluded from the computation of profits. This argument must be rejected on two grounds.

1. Firstly, it was never aruged before the Tribunal that in any case the appreciation in the value of the assets in Burma and Ceylon should be excluded from the profits shown in the annual accounts. It is no doubt true that in the statement of the case a reference to the figures of the appreciation of the assets in Burma and Ceylon has been made but the reference made is in the statement of the case in the course of recital of facts in the appeal before the AAC. The Tribunal was never called upon to deal with the question as to whether these amounts should be excluded from the profits of the assessee-company. We do not know what view the Tribunal would have taken on the question and it was not permissible for the assessee now to agitate the question that the assets were blocked or frozen in Burma and Ceylon and they had ceased to be stock-in-trade.

932. The second and more substantial ground on which this contention will have to be rejected is the view which we have taken earlier that once certain amounts have been shown as profits in the annual accounts it is not open to the ITO to go behind those figures. We are not, therefore, in a position to accept the alternative submission that at least the amount of appreciation of assets in Burma and Ceylon should be excluded from the profits of Rs. 21,26,932.

• Consequently, in the view which we have taken, question No. 1 has to be answered in the negative and question No. 2 does not arise. The assessee to pay costs of the reference.

CONCLUSION: "(1) Whether, on the facts and in the circumstances of the case, and on a proper construction of the First Schedule read with Section 44 of the Income-tax Act, 1961, the assessee could claim that a sum of Rs. 21,26,932, representing the appreciation in value of some of its foreign assets consequent on the devaluation of the rupee was not assessable to income-tax?- the High Court decision on this question is negative. It means that any profit/gain shown in the Balance Sheet of the insurance company ,which has been made according to the provisions of Insurance Act, 1938 and IRDAI ( Preparation of Financial Statement and Auditors' Report of Insurance Companies) Regulations, 2022 and is be taxable.

(2) If the assessee could so claim, whether this amount of Rs. 21,26,932 was, on the facts and in the circumstances of the case, liable to tax as income under the Income-tax Act, 1961?”-the court has not given decision on this question.

DISCLAIMER: the case law referred above is only for information and knowledge of readers. the views expressed here are the personal views of the author and same should not be considered as professional advice. In case of necessity do consult with insurance professionals.

Section 44 of Income Tax Act, 1922 - Liability in case of firm or association discontinued or dissolved

(1) Where any business, profession or vocation carried on by a firm or other association of persons has been discontinued or where a firm or other association of persons is dissolved, the Income-tax Officer shall make an assessment of the total income of the firm or other association of persons as such as if no such discontinuance or dissolution had taken place.

(2) If the Income-tax Officer, the Appellate Assistant Commissioner or the Appellate Tribunal in the course of any proceedings under this Act in respect of any such firm or other association of persons as is referred to in sub-section (1) is satisfied that the firm or other association is guilty of any of the acts specified in clause (a) or clause (b) or clause (c) of sub-section (1) of section 28, he or it may impose or direct the imposition of a penalty in accordance with the provisions of that section.

(3) Every person who was at the time of such discontinuance or dissolution a partner of the firm or a member of the association, as the case may be, shall be jointly and severally liable for the amount of tax or penalty payable, and all the provisions of Chapter IV so far as may be, shall apply to any such assessment or imposition of penalty.

THE FIRST SCHEDULE

INSURANCE BUSINESS

A.- Life insurance business

Profits of life insurance business to be computed separately.

1. In the case of a person who carries on or at any time in the previous year carried on life insurance business, the profits and gains of such person from that business shall be computed separately from his profits and gains from any other business.

Computation of profits of life insurance business.

2. The profits and gains of life insurance business shall be taken to be the annual average of the surplus arrived at by adjusting the surplus or deficit disclosed by the actuarial valuation made in accordance with the Insurance Act, 1938 (4 of 1938), in respect of the last inter-valuation period ending before the commencement of the assessment year, so as to exclude from it any surplus or deficit included therein which was made in any earlier inter-valuation period.]

Deductions.

3. [Omitted by the Finance Act, 1976, w.e.f. 1-4-1977. Earlier, the rule was first amended by the Finance Act, 1966, w.e.f. 1-4-1966 and by the Finance Act, 1965, w.e.f. 1-4-1965.]

Adjustment of tax paid by deduction at source.

4. Where for any year an assessment of the profits of life insurance business is made in accordance with the annual average of a surplus disclosed by a valuation for an inter-valuation period exceeding twelve months, then, in computing the income-tax payable for that year, credit shall not be given in accordance with section 199 for the income-tax paid in the previous year, but credit shall be given for the annual average of the income-tax paid by deduction at source from interest on securities or otherwise during such period.

COMPUTATION OF PROFITS AND GAINS OF OTHER INSURANCE BUSINESS. RULE 5 OF

The profits and gains of any business of insurance other than life insurance shall be taken to be the profit before tax and appropriations as disclosed in the profit and loss account prepared in accordance with the provisions of the Insurance Act, 1938 (4 of 1938) or the rules made thereunder or the provisions of the Insurance Regulatory and Development Authority Act, 1999 (4 of 1999) or the regulations made thereunder, subject to the following adjustments:-

(a) subject to the other provisions of this rule, any expenditure or allowance including any amount debited to the profit and loss account either by way of a provision for any tax, dividend, reserve or any other provision as may be prescribed] which is not admissible under the provisions of sections 30 to 43B in computing the profits and gains of a business shall be added back;

(b) (i) any gain or loss on realisation of investments shall be added or deducted, as the case may be, if such gain or loss is not credited or debited to the profit and loss account;

(ii) any provision for diminution in the value of investment debited to the profit and loss account, shall be added back;

(c) such amount carried over to a reserve for unexpired risks as may be prescribed in this behalf shall be allowed as a deduction.