QADEERUDDIN AHMAD, C. J.--The Income-tax Appellate Tribunal of Pakistan at Lahore has referred the following question to us under subsection (1) of section 66 of the Income-tax Act "Whether, in the facts and circumstances of the case, the borrowed money invested in the undertaking was rightly included in the capital computation in accordance with subsection (3) of section 15-B, read with the Rules framed by the Central Government under the said subsection?"
2. The facts which form the background have been set out by the Income-tax Appellate Tribunal as follows :- "We are concerned with the assessment years 1953-54 and 1954-55, the account years being, respectively, the financial years 1952-53 and 1953-54. The assessee is a public limited company and its business consists of manufacture and sale of yarn of cloth. The company was incorporated on the 24th August 1946, and the commencement certificate was issued on the 29th November 1946. It did cotton ginning business and was assessed to tax for the assessessment year 1948-49. It is common ground that the company did not then own any industrial undertaking, machinery or plant of any sort. Later, the company set up a new industrial undertaking, 'Textile Mill and commenced its business in the territories of Pakistan between the 15th day of August 1947, and the 31st day of March 1951."
The company claimed exemption from income-tax in terms of section 15-B of the Income-tax Act 1922, but it was disallowed by the Income-tax Officer on the ground that the five years period of exemption had already expired. The company went in appeal to the Appellate Assistant Commissioner who held that the five years period had not yet expired but allowed exemption with respect to that part of the capital which was not borrowed. The Income-tax Commissioner as well as the Company preferred appeals against his decision to the Income-tax Appellate Tribunal. The stand of the Income-tax Commissioner was that the five years period had expired whereas the stand of the company was that exemption was applicable with respect to the assets of the company irrespective of whether the capital which was employed was borrowed or not. The Tribunal dismissed the appeal of the Income-tax Commissioner and allowed the appeal of the company vide its order, dated the 11th of November 1956.
3. The portion of the order with which we are concerned is as follows :- "The Appellate Assistant Commissioner appears to be arguing In circle. A borrowed capital is as much capital as the assessee's own money and unless there is any specific provision in the Act or the Rules which exclude such borrowed capital for purposes of computation, the assessee is entitled to claim what is allowed to him under rules 4 and 5. The exclusion of borrowed money, if at all, comes in for purposes of capital computation in relation to cases covered by rule 7. But since the assessee's case is covered by rules 4 and 5 the residuary rule 7 does not come into play at all.
We are not sure if the Income-tax Officer would have accorded the same treatment if he had come to the conclusion that relief under section 15-B was admissible in the assessment year 1953-
54. The Appellate Assistant Commissioner's order excluding borrowed money is absolutely untenable. The assessee is, therefore, entitled to include his borrowed money in the computation of capital employed in the undertaking. The assessee's relief on this score amounts to Rs 8,47,805 out of which the Appellate Assistant Commissioner allowed a sum of Rs, 4,07,699. The maximum relief admissible to the assessee should, however, be worked out by the Income-tax Officer who had not, for reasons already stated, examined the claim on merits."
4. The Income-tax Commissioner was not satisfied with the view of the Tribunal and proposed three questions to be referred to this Court in terms of section 66 of the Income-tax Act, 1922. The Tribunal has declined to refer two of those questions and has referred only the third one, with a little modification in its language. The question which has been referred to us has been reproduced above.
5. In order to appreciate the question, it is necessary to reproduce the relevant part of section 15-B of the Income-tax Act and the rules which need to be examined for the present purpose. The relevant part of the section is as follows :- "Section 15-B.--(1) Subject to the provisions of this section, there shall be exempt from the tax payable under this Act so much of the profits and gains derived from any industrial undertaking to which this section applies as do not exceed an amount computed with reference to the capital employed in the undertaking, as hereinafter provided.
(2) .......................................................................
(3)The amount referred to in subsection (1) is a sum equal to five per cent. of the capital employed in the undertaking, such capital being computed in accordance with rules made by the Central Government under this subsection. The said sum shall be subject to an adjustment where the profits and gains of the undertaking, computed for any year of assessment, cover a period which is less than or more than one year. The adjustment shall decrease or increase the said sum to an amount bearing the same proportion to the said sum as the said period bears to a period of one year.
The relevant rules (of 1948) are as follows :- "Rule 4.--In respect of assets being the property of the assessee and ranking for depreciation, the capital employed shall be taken to be-- (a)in the case of assets acquired on or before the first day of the computation period and used in the undertaking throughout the computation period--the written down value of the assets on the first day of the said period ; (b)in the case of assets acquired on or before the first day of the computation period and used in the undertaking for only a part of the computation period one-half of the written down value of the assets on the first day of the said period ; (c)in the case of assets acquired after the first day of the computation period and in use in the undertaking at the end of that period one-half of the cost of the assets.
Rule 5.--In respect of land or any fixed assets being the property of the assessee and not ranking for depreciation, the capital employed shall be taken to be-- (a)in the case of assets acquired on or before the first day of the computation period and used in the undertaking throughout the computation period the cost of the assets ; (b)in the case of assets acquired on or before the first day of the computation period and used in the undertaking for only a part of that period one-half of the cost of the assets ; (c)in the case of assets acquired after the first day of the computation period and in use in the undertaking at the end of that period one-half of the cost of the assets.
Rule 6.--In respect of trading stock and stock of raw-materials the capital employed shall be taken to be the mean of the values of such stock or materials at the beginning and at the end of the computation period.
Rule 7.--In respect of capital outlay other than that provided for in the foregoing rules, and not consisting of borrowed money, the capital employed shall be taken to be such sum representing the average amount of the capital used in the undertaking as the Income-tax Officer may determine."
The contention of Sh. Abdul Haque, Advocate, who has appeared on behalf of Income-tax Commissioner, is that exemption is not allowable with respect to borrowed capital because such capital has been expressly excluded by rule 7. He argued that rule 7 only is applicable to the facts of this case and not rule 4, 5 or 6 which precedes that rule. He has criticised the above-noted order of the Income-tax Appellate Tribunal by saying that the Tribunal has erroneously applied rules 4 and 5 whereas the correct course was to apply rule 7 to this case. The logic on which this contention of counsel is based has been explained by him to be that rule 4 speaks of "assets being the property of the assessee and ranking for depreciation" ; rule 5 speaks of "land or any fixed assets being the property of the assessee and not ranking for depreciation, and rule 6 speaks of "trading stock and stock of raw materials". But none of these three categories of property can be said to be "capital" and no exemption, according to counsel, is permissible except with respect to "capital" in terms of subsection (1) of section 15-B of the Income-tax Act, 1922 which has been reproduced above. Since, according to counsel, neither "assets ranking for depreciation" nor land and fixed assets not ranking for depreciation "nor" trading stock and stock of raw materials" fall within the category of "capital", the only provision on the basis of which exemption could be claimed by the company was rule 7, which alone speaks of capital outlay and expressly excludes "borrowed money" from the benefit of exemption. In support of his contention, he has referred to Muhammadi Steamship Co. Ltd. v. The Commissioner of Income-tax (Central), Karachi, and drawn our attention to the following observations which appear at pages 836 and 837 :- "to claim the exemption it is necessary therefore, for the assessee to show :- (a)that it is carrying on an undertaking of any of the classes specified in subsection (2), (b)that it has earned profits and gains from such an undertaking, and (c)that the amount which is claimed to be exempted does not exceed a fixed percentage of the capital employed which is to be computed in accordance with the rules made under subsection (3). The rules were made on the 7th of May 1948. Rule 2 states that the capital employed in an undertaking to which section 15-B of the Income-tax Act, 1922, applies, shall be computed in accordance with the rules. Rule 3 gives some definitions. Rule 4 deals with assets ranking for depreciation. Rule 5 deals with land and fixed assets not ranking for depreciation. Rule 6 deals with1 trading stock and stock of raw-materials and rule 7 deals with capital outlay. We are concerned in the present case with rule 7. It prescribes as follows:-
7. In respect of capital outlay other than that provided for in the foregoing rules and not consisting of borrowed money, the capital employed shall be taken to be such sum representing the average amount of the capital used in the undertaking as the Income-tax Officer may determine.'
This rule clearly contemplates that only the 'capital used in the undertaking', is to be taken into account."
On the basis of the above observations, counsel has argued that rule 7 alone applies to capital outlay and not rules 4, 5 and 6.
6. Before proceeding further, we may mention that the question before their Lordships in that case was whether an amount of money placed in fixed deposit could be included in `capital outlay' for claiming exemption from tax in respect of it. Their Lordships came to the conclusion that such amount of money could not be so included because only the capital which is actually used in an undertaking could be taken into account for that purpose. It is thus clear that the question before their Lordships was not whether borrowed capital could be taken into account for purposes of rules 4, 5 and 6 or not, nor were their Lordships concerned with the determination of the question as to whether rule 7 only was applicable for claiming exemption from Income-tax under section 15-B to the exclusion of rules 4, 5 and 6 or not The observations of their Lordships are clearly applicable and are intended to be applicable to the distinction which was drawn for the purposes of the case before them between the capital which was used and the capital which was not used in the undertaking.
7. Mr. Muhammad Amin Butt, Advocate, has rightly drawn our attention to the following observations of their Lordships which follow those which have been reproduced above :- "The Income-tax Authorities have computed the capital employed in accordance with these rules.
They have given exemption in respect of assets ranking for depreciation, in respect of lands and other fixed assets not ranking for depreciation, trading stock and stocks of raw-materials in accordance with rules 4, 5 and 6 but in respect of the capital outlay under rule 7 they have only included sundry debts due from agents, deposits and advances, cash in hand and bank balances in current account."
With the help of the above observations, counsel has argued that assets ranking for depreciation, lands and other fixed assets not ranking for depreciation, trading stock and stocks of raw- materials could be taken into account for purposes of granting exemption from Income-tax under rules 4, 5 and 6. For purposes of rule 7, other capital outlay such as sundry debts due from agents, deposits and advances, cash in hand and bank balances in current accounts are taken into consideration. He, therefore, argued that it was incorrect to contend that only capital existing in the form of money can attract exemption from income-tax in terms of rule 7 and not the assets which are dealt with in rules 4, 5 and 6.
8. It appears to us plain from the language of rule 7 itself that it contains provisions relating to "capital outlay other than that provided fur" in rules 4, 5 and 6. This means that rules 4, 5 and 6 also deal with capital outlay, but of different kind and nature from the capital outlay with which rule 7 deals. Therefore, to our mind, the distinction which has been pressed by Sh. Abdul Hach Advocate, on behalf of the Income-tax Commissioner is not supported by the language of the section and that of the rules. Subsection (1) of section 15-B does not speak of "capital alone", it speaks of "capital employed in the undertaking". Rule 4 also deals with "capital employed" and so do rules 5 and 6. Rule 7 is a residuary provision which was made to cover those cases which may not fall within the provisions of rules 4, 5 and 6. This case falls within the purview of rules 4, 5 and 6 as is proved by the order of the Income-tax Officer who has worked out the amounts with respect to which the respondent is entitled to get exemption under the order of the Income-tax Appellate Tribunal. Mr. Muhammad Amin Butt, counsel for the respondent, has produced a photostat copy of the calculations made by the Income-tax Officer in order to show that the Income-tax Department itself could not compute the exemption except by applying rules 4, 5 and 6. This was inevitable because exemption can be granted with respect to "capital employed in an undertaking" and when it is employed, it must take one of the form with which the B relevant rules deal. Rule 7 would apply only if the assets were other than those with which the earlier rules deal and belonged to other categories, some of which have been mentioned by their Lordships of the Supreme Court in that part of their judgment which has been reproduced above in paragraph 7.
9. No other contention has been advanced before us on behalf of the Income-tax Commissioner.
We answer the question in the affirmative, that is, in favour of the Company. The Company will get the costs of these proceedings.
PLD 1966 SC 828