' U. N. BHACHAWAT, 1,-This is a reference under section 256 (1) of the Income-tax Act, 1961 (for short hereinafter referred to as 'the Act') at the instance of the department.
2. The material facts giving rise to the present reference are these : ' The relevant assessm ent year is 1973-74. The assessee is a registered firm and derives income from that business. It has claimed messing expenses at Rs, 16,400 as an allowable expenses. The claim was disallowed by the Income-tax Officer on two grounds-
(i) that the expenditure was not proved and (II) that the expenditure was in nature of entertainment expenditure which could not be allowed in view of section 37 (2-B) of the Act.
3. The assessee had also claimed debts amounting to Rs, 27,000. This deduction regarding the bad debts was claimed on the ground that the debtor who owed the above sum to the assessee had filed insolvency petition and was adjudicated as insolvent. The claim was disallowed by the Income-tax Officer on the ground that no dividend was yet declared, the petition had not been finally decided and therefore, debt could not be treated as bad debt.
4. The assessee filed an appeal before the Appellate Assistant Commissioner. The Appellate Assistant Commissioner allowed the claim of expenses but reduced it from Rs, 16,400 to Rs, 2,600.
The Appellate Assistant Commissioner also allowed the claim of the bad debt to the tune of Rs, 13,500 as against the amount of Rs, 25,000 claimed by the assessee.
5. The department as well as the assessee filed appeals against the order of the Appellate Assistant Commissioner. The department claimed that messing expenses could not be allowed in view of the embargo of section 37 (2-B) of the Act. It also challenged the allowance of Rs, 13,500 as bad debt out of the claim of Rs, 27,000. The assessee in its appeal claimed allowance of full amount of Rs, 27,000 claimed as bad debt. The Tribunal held that assessee being an Adhatiya is entitled to claim messing expenses as per the practice prevailing amongst Adhatiya and the Appellate Assistant Commissioner properly allowed the messing expenses. As regards the claim for bad debt the Tribunal dismissed the department's appeal and allowed assessee's claim as bad debt but restricted its allowance to 10% on the concession made by the assessee himself. The relevant part of the Tribunal's order on this account is extracted hereinbelow.
"In our view since the statement of assets and liabilities was filed by the debtor and on 12th October, 1972 i,e, before the close of the accounting year the assessee was justified in claiming the entire bad debt though he himself conceded that 10% of the claim could be rejected as the assets levied were at Rs, 1,48,000 and the liabilities on the debtor of about Rs, 14 lacs. In the circumstances we restrict the disallowance on account of bad debt to 10% of the total claim and as such the order of the Appellate Assistant Commissioner is modified accordingly."
6. In the setting of the above facts following questions have been referred to this Court for answer.
"(1) Whether on the facts and circumstances of the case, the Tribunal was right in law in holding that the assessee is entitled to deduction of bad debt to the extent of 900/0 of the total claim of Rs, 27,000 even though no dividend had been declared by the appropriate authorities in the insolvency proceedings ?
(2) Whether on the facts and circumstances of the case the Appellate Tribunal was right in law in holding that the expenditure claimed by the assessee for providing messing facilities to the trade clients is an admissible business expenditure and that such expenses are not in the nature of "entertainment within the meaning of section 37(2-B) of the Income-tax Act"?
7. We shall first take question No,
1. It is an admitted position as the question itself indicates that the insolvency proceedings are yet pending and no dividend has been declared. It is only when the official Assignee or Receiver would declare a final dividend then the portion of the debt which would remain outstanding after deducting the final amount of dividend payable to the assessee would become finally a bad debt ; till then the debt due to the assessee is in a melting pot. Merely from the statements of assets and liabilities filed by the debtor of the assessee in insolvency proceedings it could not be determined by the Tribunal whether the debt is a bad debt or to what extent it is a bad debt. It is as already said by us just above, on the declaration of final dividend by the authorities concerned that bad debt can be determined. The view taken by us is in line with the 4decision of the Punjab High Court in Nanakchand v. Commissioner of income-tax Simla (1). The principle laid down in this case is capsulised in the headnote which is set out hereinbelow.
"Bad Debt-Insolency of Debtor - Appointment of Receiver-Whether Debt can be held to have become bad until completion of winding up. {{FOOT NOTE}}
(I) (1964) 52 I T R 410 {{FOOT NOTE}} Where a debtor has been adjudicated an insolvent and. His estate is in the hands of a receiver it would not be proper to hold that the debt or any part of it had become bad until the receiver has completed his work. A debtor was adjudicated an insolvent in 1938 and the assessee received a sum of Rs, 13,000 as first dividend. No further sum was received until 1950 when as a result of a litigation the assessee received another sum of Rs, 2,195. In the year 1949-50 the assessee claimed a sum of Rs, 1,00,000 as a bad debt. The Tribunal held that the debt had become irrecoverable soon after the year 1941. On the ground that subsequent to the payment of the first dividend in 1941 there was no visible asset belonging to the insolvent except a sum of Rs, 10,000 regarding which there was a dispute between the Punjab National Bank Ltd. And the official receiver and that whichever way the dispute was settled the assessee could never hope to receive more than Rs, 2,500 and from this concluded that the bulk of the debt had become irrecoverable soon after 1941 and in any case long before the relevant accounting year 1948-49 : ' Held that there was no material to justify the finding of the Tribunal that the bulk of the debt had become irrecoverable long before 1948-49 as the receiver completed the winding up only in 1950."
8, We would also like to quote with advantage the following observations of the Krishanaswami Ayyangar, J. In Alagananda Mudaliar v. Commissioner of Income-tax Madras (1) which also supports our view.
"According to the Income-tax Officer the debt should have been written off as a bad debt in the year 1929 in which the insolvents were adjudicated. He took the view that as it was possible for the assessee from the schedule of and liabilities to calculate the approximate rate of dividend they should have written off the balance in that year. This reasoning is quite unsound and has not been pressed before us."
9. It was argued by the learned counsel for the assessee that whether particular debt is a bad or not is a question of fact and not of law therefore the question No, I did not arise. We are unable to agree with the argument of the learned counsel. The question at hand in the facts and circumstances of this case is a question of law. The question is whether in law during the pendency of the insolvency proceedings in the Court unless the dividend has not been declared by the authority competent in law, merely on the basis of the list of assets and liabilities filed by the debtor can it be said that a debt has become bad. Had the matter not been pending in court in insolvency proceedings the fact that a debt has become bad can be proved by evidence and a finding on such evidence would be a finding of fact.
10. In the light of the foregoing discussion the 1st question has to be answered in the negative.
11. With regard to the second question it is not necessary for us to dilate on it. It is covered by a decision of this Court in Miscellaneous Civil Case No, 15 of 1977 decided on 12th September, 1980 : Commissioner of Income-tax Bhopal v. Lakhmichand Muchhal Indore) (2). In view of this decision this question has to be answered in the affirmative. {{FOOT NOTE}}
(1) (1940) 81 T R 69 (2) 1982 1 L R 1951 {{FOOT NOTE}}
12. In the result as indicated hereinabove we answer question No, 1 in the negative that is in favour of the department and against the assessee and question No, 2 in the affirmative that is in favour of the assessee and against the department, .