SHAFIUR-RBHMAN, J.-These four appeals by special leave, raise a common question of law, namely, whether that portion of the management expenses incurred by the Insurance Companies carrying on non-life business, as is in excess of the limits prescribed under section 40-C of the Insurance Act and rule 40 of Insurance Rules, must necessarily be disallowed as business expense, as permissible, otherwise, under clause (xvi) subsection (2) of section 10 of the Income-tax Act.
2. The Insurance Companies involved are two, Messrs Alpha Insurance Company and Messrs Home Insurance Company. For the assessment year 1962-63 Messrs Alpha Insurance Company Ltd., Karachi, submitted a return showing by way of management expense a sum of Rs. 3,66,354.
According to the ceiling prescribed by rule 40 of Insurance Rules the management expenses could not have exceeded Rs. 3,45,784. In this manner it was found that the company had incurred excess management expense of Rs. 20,570. The Assessing Authority disallowed this expense and added it back to the total Income of the Company. The Company went in appeal to the Appellate Assistant Commissioner who relying, on a decision of the Income-tax Tribunal (I. T. A. No. 1403/63-64) subsequently reported as (1967) 15 Taxation (Tribunal) 1 allowed the excess in management expense and deleted its add back. An appeal was taken to the Tribunal which failed. An application was then filed under subsection (1) of section 66 of the Income-tax Act seeking a reference of the question of law to the High Court which was rejected as an identical question of law had been earlier referred and stood answered in Civil Reference No. 31. Of 1966 (Commissioner of Income-tax, Central, Karachi v. Mercantile Fire & General Insurance Company of Pakistan Ltd: An application was then filed.. Under subsection (2) of section 66 of the Income-tax Act in the High Court which too was dismissed following the earlier decision of the High Court. Leave was granted on 23-8-1971 as identical point of law had arisen in other petitions and a certificated appeal had also been filed in this Court.
3. In the case of Messrs Home Insurance Company Ltd. For the assessment years 1964-65, 1965-66 and 1966-67 excess amountinvolved being Rs. 1,08,900, Rs. 1,18.950 and Rs. 97,585 respectively disallowance was made by the Assessing Authority . In the first instance but the same was set aside by the appellate authority, and identical- proceedings ensured in the other forums. Leave was granted in these petitions also.
4. The law applicable to. The specific question of law raised in these appeals is contained in section 10 (7) of the Income-tax Act which provides as follows "(7) Notwithstanding anything to the contrary contained in section8, 9, 10, 12 or 18, the profits and gains of any business of insuranceand the :tax payable thereon. Shall be computed in accordance with therules contained in the First Schedule to this Act."
The First: Schedule referred to in subsection (7) of section 10 of the Income-tax Act divides the insurance business for the purpose ofcomputation of taxinto life insurance business and non-life insurance business.. Rule 6 deals with the computation of profits and gains of business of insurance other than life insurance and has 5 subsections.
Rule 40 of the Insurance Rules prescribed the limitation'-'on expenses of management in general insurance business. It is the admitted position in these cases before us that the limitations were exceeded and the treatment or thedifference is in issue.
5. The arguments advanced by the learned counsel for the petitioner are in three distinct parts. The first part of his argument is that the express words of subsection (7) of section 10 of the Income-tax Act have unmistak--ably the effect of applying by incorporation the rules contained in the First Schedule to the Income-tax Act. This has been done "notwithstanding anything to the contrary contained in section 8, 9, 10, 12 or 18" of the Income-tax Act. The result, according to the learned counsel, is that except for these provisions of the First Schedule no other provision of the Income- tax is applicable. The second part of the argument is that the rules contained in the First Schedule of the Income-tax Act attract by necessary implication and by reference the more compendious provisions of Insurance Act and the Insurance Rules for the preparation of the balance-sheet and the computation of the profits and gains of the insurance business. In providing the basis for such an inference the learned counsel for the petitioner contended that the First Schedule to the Income-tax Act provide only the skeleton as it contains only nine rules of which rules, rules 1 to 4 deal with computation of profits and gains of life insurance business, rule 5 deals with definitions and rule 6 alone deals with the computation of the profits and gains of any "business of insurance other than life insurance". Rule 7 deals with computation of profits and gains of companies carrying on "dividing society" or "assassm ent business." Rule 8 deals with the profits and gains of the branches of an insurance company not resident in Pakistan. Rule 9 makes the rule applicable to the assessm ent of the profits of any business of insurance carried on by a mutual insurance association. From such a scheme of the rules it is contended that of necessity in giving full operational effect to these rules reference has to be made, and guidance sought not from the provisions of the Income-tax Act but from the provisions of the Insurance Act, 1938 and the rules framed thereunder. On this view of the matter, the learned counsel for the petitioner vehemently canvassed the applicability of section 40-C of the Insurance Act and rule 40 of the Insurance Rules both of which considered together prescribe limitation and fix the ceilings of management expenses. The third part of the argument is that it' the Assessing Authority does not take note of or give effect to these limitations not only in doing so it will be countenancing a manifest illegality it will also be failing in its duty of observing in letter and spirit the rules contained in First Schedule of the Income-tax Act which have been expressly applied to such business. Strength for this argument has been sought from the accepted principle in all -taxation matters that penalty, fine, composition fee etc. Which are consequential to breach of law or rules are not allowable as legitimate business expenses. Similarly, no benefit could be obtained by these companies in committing breach of law, in their cases of section 40-C of the Insurance Act and rule 40 of the Insurance Rules and it should not avail to the respondent companies.
6. The first part of the argument of the learned counsel for the petitioners is not in controversy at all.
In fact, it is the starting point, the main plank of the case of both the parties. The First Schedule of the Income-tax Act takes over and governs the computation of the profits and Gains of Insurance Business and is exhaustive of the subject. The learned counsel for the petitioner would like to extend the reference and the incorporation to the Provisions of the Insurance Act and the Insurance Rules, particularly on the subject of management expenses. The learned counsel for the respondent is for limiting the reference and incorporation to the express words or what follows by necessary implication. The latter view was highlighted by the Indian Supreme Court in Life Insurance Corporation of India v. Commissioner of Income-tax (1) in the following words : "The assessm ent of the profits of an insurance business is completely governed by the rules in the Schedule and there is no power to do anything not contained in it."
7. A comparison of rule 2 (proviso only) governing the profits and gain of life insurance business with Rule 6 governing the computation of profits and gains of any business of insurance other than life insurance, makes it clear that the former provides but the latter does not, the ceiling beyond which the management expenses shall not be allowed. This distinction has to be noted, recognized and given effect. Rule 6 of the First Schedule enjoins the assessing authority to compute profits and gains of any business of insurance other than life insurance from the balance of the profits disclosed by the annual accounts, copies of which are required under the Insurance Act, 1938 to be furnished to the Controller of Insurance after adjusting this balance :--
(a) by excludiug from it any expenditure, other than expenditure which may under provision of section 10 of the Income-tax Act be allowed for in computing the profits and gains of a business ;
(b) by applying rule 3 of the First Schedule in the matter of profits and losses on the realisation of investment, and depreciation and apprecia--petition of the value of investment;
(c) by allowing not more than 10 % of the premium income of the year there a reserve is provided for meeting -exceptional losses (sub-rule 2) and such deduction not to exceed a certain ceiling (sub-rule 3).
From such a scheme and content of the rules of the First Schedule it is clear that by reference and incorporation the provision of Insurance Act with regard to the preparation and submission of annual accounts are made applicable, provisions an of section 10 of the income-tax Act are reapplied for deciding what expenditure shall be excluded from the expense account of the balance-sheet and all the remaining matters are leftto be decided by the reference to express provisions of the rules in the First Schedule. Section 11 of the Insurance Act provides the method and the time of preparation of Accounts and Balance Sheet, section 12 provides for its audit, and section 12-A for its special audit. The First Schedule of theInsurance Act in Part I provides the Regulations for the preparation of Balance Sheet and in Part II are contained the different types of Forms forrendering the Balance Sheet and the Accounts. Section 40-B of the Insurance Act provides the limitation of expenses of management in life insurance business. Section 40-C provides limitation of expenses on management in general insurance business. As the controversy in these four appeals centres round the interpetation and effect of section 40-C it is reproduced hereunder in extenso"40-C.-(1) No insurer shall, in respect of any class of general insurance business transacted by him in Pakistan. Spend .
In any calendar year as expenses of management, including commission or remuneration .For procuring business, an amount in excess of the prescribed limits and in prescribing any such limits regard shall be had to the size and age of. The insurer: Provided that the Controller of Insurance may, on an application made to him in this behalf, condone: the contravention of this subsection by an (3) (1964) 51 1 T R 773insurer who has, on reasonable grounds, spent as such expenses an amount in excess of such limits.
(2) Every insurer as aforesaid shall, incorporate in the revenue account a certificate sighed by the Chairman, two directors and the principal officer of the insurer, and an auditor's certificate, certifying that all expenses of management wherever incurred, whether directly or indirectly, in respect of the business referred to in this section, have been fully debited in the revenue account expenses.
Explanation.--In this section-
(a) "expenses of management" means all, charges, wherever `incurred whether directly or indirectly including commission, payment of all kinds and, in the case of an insurer having his principal place of business outside Pakistan, a proper share of head office expenses which shall not exceed such percentage of the total not premiums, that is to say, gross premiums written direct in Pakistan plus reinsurances accepted minus reinsurances ceded during the year as may been prescribed ; and
(h) "insurance business transacted in Pakistan" included insurance business, wherever effected, relating to any property situate in Pakistan or to any vessel or aircraft registered in Pakistan.
8. Rule 40 of the Insurance Rules prescribes the limit of expenses of management as is authorised by subsection (1) of section 40 of Insurance Act, that in limitation of expenses of management in general . Insurance business' The scales are provided and a relaxation has been made for `an insurer during the first ten years of his general insurance business'. The reproduction here of the specific scale or the exact ceiling as such is not necessary in these appeals as it was admittedly exceeded in every case. It is also not known what treatment it received at the hands of Controller of Insurance.
9. What clearly emerges from section 40-C is that there is a prohibition against exceeding the management expenses. The prohibition is not, how ever, absolute, irremediable, or punitive in all cases. On the contrary, it appears from the language of the proviso itself that it is a regulatory p /supervisory and corrective power exercisable by the Controller of Insurance. The other feature of this provision of law is that it is a mandatory requirement that "all expenses of management wherever incurred, whether directly or indirectly" must be "fully debited in the revenue account as expenses." Thus the annual statement of account, the balance-sheet and the profit and loss account must reflect fully and correctly, uncontrolled by any limitations prescribed under the Insurance Act all the expenses of management including there exceeding the ceiling. They have to be treated as -a part of the account and the balance-sheet for all purposes and in fact form the jurisdictional basis for the Controller of Insurance, for either condoning it or' penalizing it. The certificate of the Chairman two directors and the principal officer of the insurer and an auditor's. Certificate "certifying that all expenses of management wherever incurred whether directly or indirectly" in respect of general insurance "have been fully debited in the revenue account as expenses" is to be incorporated in the revenue account.
10. The jurisdiction of the Income-tax Officer under rule 6 of the First Schedule to the Income-tax Act is confined to the taking of the profits and gains of any business of insurance - other than life insurance"to be the balance of the profits disclosed by the annual accounts, copies of which are required under the Insurance Act, 1938 to be furnished to the Controller of Insurance." This presents the Assessing Authority with a fail accompli, over which he exercises no control. If the law requires such excess to be excluded from the balance-sheet the Assessing Authority cannot reintroduce it.
If the law, as in these cases requires such expenses to be included in the balance-sheet, the Assessing Authority cannot exclude it on any principle not made a part of the First Schedule to the Income-tax Act. This brings us back to the starting point, namely, that the Income--tax Officer has "no power to do anything not contained in the First Schedule to the Income-tax Act.
11. The Scheme of the Insurance Act further discloses that section 40-B for life insurance business like 40-C for general insurance business, prescribes in almost identical words the limitations on expenses of management, the details of which are found in rule 40 of the Insurance Rules. For the purposes of Income-tax, however, a distinction has been made. Rule 2 of the First Schedule in spite of section 40-B of Insurance Act and rule 40 1 of Insurance Rules then provided as follows "2. The profits and gains of life insurance business shall be taken to be either-
(a) the gross external incomings of the previous year from that business less the management expenses of that year, or
(b) the annual average of the surplus arrived at by adjusting the surplus or deficit disclosed by the actuarial valuation made for the last inter--valuation period ending before the year for which the assessm ent is to be made, so as to exclude from it any surplus or deficit included therein which was made in any earlier inter-valuation period and any expenditure other than expenditure which may under the provisions of section 10 of this Act be allowed for in computing the profits and gains of a business. whichever is the greater: Provided that the amount to be allowed as management expenses shall not exceed--
(a) 7per cent. Of the premiums received during the previous year in respect of single premium life insurance policies, plus
(b) in respect of the first year's premiums received in respect of other life insurance policies for which the number of annual premiums payable is less than twelve, or for which the number of years during which premiums are payable is less than twelve, for each such premium or each such year 7per cent. Of such first year's premiums received during the previous year, plus
(c) 90 per cent, of the first year's premiums received during the previous year in respect of all other life insurance policies, plus
(d) 12 per cent. Of all renewal premiums received during the previous year. the definition of "expenses of management" in sections 40-B and 40-C of Insurance Act is different from the definition of "management expenses" in clause (iii) of rule 6 of First Schedule to Income-tax. The conclusion is inescapable that where the Legislature wanted that limitation on expenses should be reflected in Income-tax law for the purposes of taxation it expressly incorporated it. As in rule 2, where the intention was to exclude it, an omission was made as in rule 6. It cannot on any principle of interpretation of statutes be urged that the Legislature so alive to the issue, by an omission accomplished similar results as was done by it by providing for it by express words. If at all any conclusion can be drawn by such inclusion in rule 2 and exclusion in rule 6 with a definition of -management expense in rule 5, it is that for one rule specified limitation had to be given effect to while none could be read into the other.
12. The next question concerns the third part of the argument of the learned counsel for the appellant that the excess in management expense involves contravention of law, and any expenses incurred in contravention of law cannot qualify as expense "wholly and exclusively for the purpose of such business." A power has been expressly conferred on the Assessing Authority under rule 6 of the First Schedule of the Income-tax Act t readjust the balance disclosed in the Annual Accounts by excluding therefrom expenditure other than that "which may under the provisions of section 10" of the Income-tax Act "be allowed for in computing the profits and gains of a business."
To this extent alone and on a finding that the expense could not qualify as a legitimate deduction under section 10, it could be excluded from the balance sheet. None of the authorities have held it to be an expense other than that admissible under section 10. On the contrary, the findings proceed on the assumption that such an expenditure, even though in excess, was "wholly and exclusively for the purpose of such business." Section 40-C itself shows that the prohibition is not absolute and the expenses dealt with therein and limited thereby would ordinarily, and by and large, be expenses incurred wholly and exclusively for that business.
13. The effort by the learned counsel for the appellant to equate the excess management, expense with penalty, fine etc. For the purposes of their inadmissibility cannot succeed for various reasons.
His argument on this point would have had greater force and relevance if the penalty imposed under section 102 of the Insurance Act for violating the provisions of section 40-C were involved and were in these appeals. Even in the case of Haji Aziz Abdul Shakoor Brothers v. Commissioner of Income-tax (41 1 T R 350), what was disallowed as business expense was the amount of fine levied for infraction of the law and not the other expenses incurred in the normal course for the carrying on of that very business in an unlawful manner, that is, of importing dates by steamer in violation of law. The more relevant in the context are the observations of the Privy Council in the Minister for Finance v. Smith 1927 A C 193), which were further explained and applied in Mann v. Nash (1929- 1932) 26 H P C 523). The observations of the Privy Council were: "They must not be taken to assent to any suggestion sought to be based on the words used by the learned Lord Justice, that Income-tax are necessarily restricted in their application to lawful business only." .
Mann v. Nash it was held that: "The State is doing nothing of the kind; they are taxing the individual with reference to certain facts.
They are not partners; they are not principals in the illegality or sharers in the illegality; they are merely taxing a man in respect of those resources. 1 think it is only a piece of rhetoric to say that they are sharing his profits, and a piece of rhetoric which is perfectly useless for the solution of the questions which have to decide."
"Revenue expenses incurred by the assessed in his character as a trader and wholly and exclusively for the purpose of his business though tainted with illegality e.g. Infringement of the Companies Act, 1956 are deductible just as income tainted with illegality is assessable; even in an illegal business it is the profits and not the gross receipts, that are taxable."
It follows, therefore, that penalty, fine and forfeiture have a different content altogether and are bound to receive a different treatment, than expenses of business incurred, either in contravention of law or in carrying out the business in contravention of law. The former is invariably disallowed the latter only when some factor other than or in addition to the taint of illegality is present, not otherwise.
14. Our conclusions therefore are that:
(i) the rules contained in the First Schedule to the Income-tax Act completely, exhaustively and to the exclusion of every other provision not expressly incorporated, govern the computation of the Profits and Gains of insurance business,
(ii) the power of the Assessing Authority under rule 6 of the Firs Schedule to the Income-tax Act does not, like rule 2 of the gain Schedule, or on the strength of section 40-C of the Insurance Act o rule 40 of the Insurance Rules, extend to disallowance of the excess management expense,
(iii) the power of the Assessing Authority under first part of rule 6 (ibid) to readjust the balance of the profits disclosed by the annual accounts required to be furnished under the Insurance Act, 193$ is restricted to "exclude from it any expenditure, other than expenditure" which may under the provisions of section 10 of the Income-tax' Act be allowed for in computing the profits and gains of a business. The Assessing Authority has to apply an independent mind uncontrolled by Insurance Act to arrive at such a re-adjustment,
(iv) the expense of management incurred in excess of the limit prescribed under section 40-C of the Insurance Act and rule 40 of the Insurance . Rules are not in the nature of penalty, fine or forfeiture for the' purposes of their admissibility for deduction as business expenses under section 10 of the Income-tax Act.
15. In view of these conclusions all the four appeals fail and are dismissed with costs. s. A. s.Appeal dismissed,