# [1957] 1 S.C.R. 1002

- **Citation:** [1957] 1 S.C.R. 1002
- **Court:** Supreme Court of India
- **Decided:** 1957
- **Case number:** Civil Appeal No. 12 of 1955
- **Source:** https://unisonlegal.in/judgment/supreme-court-of-india/1957-1-s-c-r-1002-1290
- **Pages:** 18

## Headnote

1002
SUPREME COURT REPORTS
[1957]
THE COMMISSIONER OF EXCESS PROFITS TAX,
WEST BENGAL
ti.
THE RUBY
GENERAL INSURANCE CO., LTD.
(BHAGWATI,
VENKATARAMA
AYYAR and
J. L. KAPUR JJ.)
Excess
Profits
Tax-Insurance company-Premium receiptsR~scrve for unexpired risks on pending policies-Whether "accruing
liability''-iVhether could be deducted as a debt-Excess Profits Tax
Act, 1940 (XV of 1940), SS. 4, 6, rr. I, 2 of Sch. Il-Indian Income-tax
Act, 1922 (XI of 1922), s. 10(7), r. 6 of the Sch.
The respondent was a company carrying on life, fire, marine
anJ general insurance business, and the
question
for detennination related to the assessment of excess
profits tax on its income
other th:'!n life insurance.
The n1ethod adopted by
the company
with respect to fire insurance policies was that while the premiums
received
were all of them included in the assets of the
year, a
portion thereof, 40 per cent., was treated as reserye for unexpired
risks on the outstanding policies, and sho\\-·n
as
a liability. The
appellant; the
Co1nmissioner for Excess Profits
'fax, claimed that
the sum set apart as
reserve for unexpired risks was liable to be
deducted under r. 2 of Sch. II of the
Excess
Profits
Tax
Act,
1940, fron1 out of the capital en1ployed in business for that year.
The respondent, \Vhile maintaining that all the premiu1ns received
must be
treated as capital
under r.
1 of
Sch. II to
the
Act
contended that the
provision for
unexpired risks
was
only a
contingent
liability
and
that a liability
under
a contract
of
insurance whereunder risk had not .materialised could not be hcl<l
to be a debt and was therefore
not
an accruing liability
within
r. 2 of Sch. II to the Act.
Held, that. the reserve
liability
for unexpired
risk,
unlike
borrowed money and
debts, cannot be
treated as part of the real
trading assets
of the
business
so as
to have
an effect on the
running of the business or the earning of profits, and consequently,
as it cannot be included as capital under r. 1, it cannot be deducted
as an .J.ccruing liability v,rithin r. 2 of Sch. II of the Excess Profits
Tax .-\ct, 1940.
Sun lnsun;nce Office
Ra::i;!1c:y of Peru Ltd. '"
gu1sii.e<l.
v. Clad(, (1912) A.C. 443 and Southern
O.vm, (1956) 2 All
E.R.
728,
distin-
!/urthrrn /l/;;:;:h1iu11i Co., Ltd. v. In!and Revenue
Cor;imissionc:·s,
(19~6) /\ll E.R.
54\i agd Inland Reve1iue Commissioners
v.
N o,them
Aluminium
Co., Ltd. (1947) I All
E.
R. 608,
relied on.
..
1
S.C.R.
SUPREME COURT REPORTS
1003
CrvrL
APPELLATE
J URISDIGTION :
Civil Appeal No.
12 of 1955.
Appeal from the judgment and decree <lated September 10, 1953, of the Calcutta High Court
(Original
Side) in I. T. Refrrcnce No. 8 of 1947.
C. K. Daplitary, Solici:'Or-General for
India, G. N.
Joshi and R. H. Dliebar, for the appellant.
K. P. Khaitan, Ramesluvar Nath. S. N. Andley and
/. B. Dadaclianji, for the respondents.
1957. April 24. The Judgment of the Court was
deli\"ered by
VENKATAR.u.1A
AIYAR
J.-This
appeal
raises
a
question of importance as to whether amounts shown
by an insurance company as reserves
for unexpired
risks on pending
policies are liable
to be deducted
under r. 2 of Sch. II to the Excess Profits Tax Act
(XV of 1940) hereinafter referred to as the Act.
The respondent is a company carrying on life, fire,
marine and general insurance business, and the present
dispute relates
to
the assessment of excess profits tax
on its income from business other than lifr insurance
for the chargeable accounting periods ending December
31, 1940, and December 31,
1941. To appreciate the
contentions
raised. it is necessari; to state that the
policies of insurance with which these proceedings are
concerned, are, unlike
life insurance policies, issued in
general for short periods or rid hoc in relation to a
specified voyage or event. To take the most important
of them, fire insurance policies, they are issued normally
for one year, and the whole of the premium due thereon
is received when the policies
:ire
actually issued. In
any given year, while

## Text

_Characters 0–39,850 of 41,423. This is a partial read: ask again with offset=39850 for what follows._

1002
SUPREME COURT REPORTS
[1957]
THE COMMISSIONER OF EXCESS PROFITS TAX,
WEST BENGAL
ti.
THE RUBY
GENERAL INSURANCE CO., LTD.
(BHAGWATI,
VENKATARAMA
AYYAR and
J. L. KAPUR JJ.)
Excess
Profits
Tax-Insurance company-Premium receiptsR~scrve for unexpired risks on pending policies-Whether "accruing
liability''-iVhether could be deducted as a debt-Excess Profits Tax
Act, 1940 (XV of 1940), SS. 4, 6, rr. I, 2 of Sch. Il-Indian Income-tax
Act, 1922 (XI of 1922), s. 10(7), r. 6 of the Sch.
The respondent was a company carrying on life, fire, marine
anJ general insurance business, and the
question
for detennination related to the assessment of excess
profits tax on its income
other th:'!n life insurance.
The n1ethod adopted by
the company
with respect to fire insurance policies was that while the premiums
received
were all of them included in the assets of the
year, a
portion thereof, 40 per cent., was treated as reserye for unexpired
risks on the outstanding policies, and sho\\-·n
as
a liability. The
appellant; the
Co1nmissioner for Excess Profits
'fax, claimed that
the sum set apart as
reserve for unexpired risks was liable to be
deducted under r. 2 of Sch. II of the
Excess
Profits
Tax
Act,
1940, fron1 out of the capital en1ployed in business for that year.
The respondent, \Vhile maintaining that all the premiu1ns received
must be
treated as capital
under r.
1 of
Sch. II to
the
Act
contended that the
provision for
unexpired risks
was
only a
contingent
liability
and
that a liability
under
a contract
of
insurance whereunder risk had not .materialised could not be hcl<l
to be a debt and was therefore
not
an accruing liability
within
r. 2 of Sch. II to the Act.
Held, that. the reserve
liability
for unexpired
risk,
unlike
borrowed money and
debts, cannot be
treated as part of the real
trading assets
of the
business
so as
to have
an effect on the
running of the business or the earning of profits, and consequently,
as it cannot be included as capital under r. 1, it cannot be deducted
as an .J.ccruing liability v,rithin r. 2 of Sch. II of the Excess Profits
Tax .-\ct, 1940.
Sun lnsun;nce Office
Ra::i;!1c:y of Peru Ltd. '"
gu1sii.e<l.
v. Clad(, (1912) A.C. 443 and Southern
O.vm, (1956) 2 All
E.R.
728,
distin-
!/urthrrn /l/;;:;:h1iu11i Co., Ltd. v. In!and Revenue
Cor;imissionc:·s,
(19~6) /\ll E.R.
54\i agd Inland Reve1iue Commissioners
v.
N o,them
Aluminium
Co., Ltd. (1947) I All
E.
R. 608,
relied on.
..
1
S.C.R.
SUPREME COURT REPORTS
1003
CrvrL
APPELLATE
J URISDIGTION :
Civil Appeal No.
12 of 1955.
Appeal from the judgment and decree <lated September 10, 1953, of the Calcutta High Court
(Original
Side) in I. T. Refrrcnce No. 8 of 1947.
C. K. Daplitary, Solici:'Or-General for
India, G. N.
Joshi and R. H. Dliebar, for the appellant.
K. P. Khaitan, Ramesluvar Nath. S. N. Andley and
/. B. Dadaclianji, for the respondents.
1957. April 24. The Judgment of the Court was
deli\"ered by
VENKATAR.u.1A
AIYAR
J.-This
appeal
raises
a
question of importance as to whether amounts shown
by an insurance company as reserves
for unexpired
risks on pending
policies are liable
to be deducted
under r. 2 of Sch. II to the Excess Profits Tax Act
(XV of 1940) hereinafter referred to as the Act.
The respondent is a company carrying on life, fire,
marine and general insurance business, and the present
dispute relates
to
the assessment of excess profits tax
on its income from business other than lifr insurance
for the chargeable accounting periods ending December
31, 1940, and December 31,
1941. To appreciate the
contentions
raised. it is necessari; to state that the
policies of insurance with which these proceedings are
concerned, are, unlike
life insurance policies, issued in
general for short periods or rid hoc in relation to a
specified voyage or event. To take the most important
of them, fire insurance policies, they are issued normally
for one year, and the whole of the premium due thereon
is received when the policies
:ire
actually issued. In
any given year, while the premiums due on the policies
would ha\·e been n:cei\"ed
in full, the risks CO\"ered by
them would han· run only in part and :i p:irt will be
outstanding
for the next year. The companies
have
to prep1re annual statements of profit and loss for the
purpose of ascertaining their
profits
and
distributing
their
di\"idents.
They have also to prepare
revenue
statements to be sent to the
authorities
under the
provisions of the Insurance Act,
1938. The method
1957
The Com11zissioner
of Excess Prujits
Tax, West Bengal
v.
The Ruby General
/murance Co., Ltd.
Venkatarama
A(Yar ].
1957
Tha Commissioner
of &ctsJ Profits
Tax, Wese Bengal
v.
The Ruby General
lnsuranc~ Co. Lld.
V enkatarama
Atyar. J.
1004
SUPREME COURT REPORTS
[1957]
adopted by
the
respondent in preparing the
above
statements has been that while the premiums received
are all of them included in the assets of the year, a
certain
proportion thereof, usually
40 per cent.,
is
treated as the reserve for unexpired risks, and that is
shown as a liability. To take a concrete example, if
in the year
1939 the respondent issued
annual fire
insurance policies and received a sum of Rs. 1.00,000
as premiums thereof, the whole of it would be shown as
income in the statement for the year 1939, and a sum
of Rs. 40,000 will be shown as a reserve for unexpired
risks.
In the profit and
loss
statement. the former
will be shown as part of the assets and the latter as
liability, and it is only the balance that will be included
in the net profits. In 1940, the policios issued in
1939
would all of them have expired, and
the sum of
Rs. 40,000 shown as reserve in 1939 would be treated
as part of the assets in 1940. There will. of course, be
fresh policies issued in 1940, and in the statement of
that year, the
premiums received
on
those policies
would be shown as part of the income, a1'd 40 per cent.
thereof would be set apart as
reserve
for unexpired
risks.
This method of account-keeping
ts
what is
usually adopted by insurance
companies, and
is in
accordance with well-recognised and
approved practice
of accountancy.
Now, the question is whether in the illustration
given above, the ium of Rs. 40,000 which is set apart
in 1939 as reserve for unexpired risks is liable to be
deducted under r. 2 of Sch. II to the Act from out of
the capital employed in business for that year, which
would, of course, include the whole of Rs. 1,00.000
received as premiums. The contention of the appellant
is that if all the premiums received are
to be treated
as capital under r. 1,
Sch. II, then the sums
which
represent the
outstanding liability
in respect
of
the
unexpired period
of
the
policies-in the illustration
given
above,
Rs.
40,000-should be
deducted as
a
liability under r. 2 of Sch. II. The respondent, while
claiming
that
all
the premiums received
rnust be
treated
as
capital, maintains that the provision for
unexpired risks is a contingent liability, and that that
S.C.R.
SUPREME COURT REPORTS
1005
is not within r. 2 of Sch. II. The Tribunal decided
the question against the respondent, but on reference
under s. 66(1) of the Indian Income-tax
Act read with
s. 21 of the Act, the High Court of Calcutta answered
the question adversely to the appellant, but granted a
certificate under s. 66-A, and that is how the appeal
comes before us.
The
relevant
statutory
provisions
may
now
be
noticed. Under s. 4 of the Act, the charge is on the
"amount
by which the profits during any chargeable
accounting
period
exceed
the
standard
profits".
'Standard profits'
are
defined in s. 6,
sub-s. (1), and
the respondent
having exercised his option under the
second proviso
thereto, they have to be calculated "by
applying the
statutory
percentage
to
the
average
amount
of capital employed in the business during
such
chargeable
accounting
period.
Schedule
H
enacts rules
for
the determination
of the average
capital
employed.
Under r. l(c), the capital employed
will include the \'alue of ail
assets "when they
became
assets of the
business".
Rule 2(1)
enacts
that any
borrowed money
and debts shall be deducted from out
of the value of the assets.
There is a further provision
in r. 2(1), which is what is material for the purposes of
the present appeal, and it runs as follows :
"The debts
to
be
deducted
under this
sub-rule
shall include
any
such
sums in respect of accruing
liabilities as are allowable as a deduction in computing
profits for
the
purposes of excess profits tax ........ ;
and the said smm shall be
deducted
notwithstanding
that th.::y h:l\"e not become pavable."
For this clause to appll', two conditions must be satisfied.
The sums to be dcJuctcd should be allowable
as
a deduction in computing the
profits for
the purposes
of the
Act, :md further thc1·
should
be in respect of
accruing lialiil;ties. Rule 1 of Sch. I enacts that,
"The profits
of a · business .............. during any
chargeable
acco!.lnting
period ............ shall, subject
to the provisions of thi~ Scheduk. be computed on the
principles
on
which the profits
of a business
are
computed for the purposes of income-tax under s.
10
of the Indian Income-tax Act, 1922."
1957
The Commissioner
of Excess Profits
Tax, West Bengal
v.
The Ruby General
lmurance Co. Ltd.
Venkatarama
Aryar J.
1957
Tht CommiJJiontr
of Er··!rs~Profits
Tax, WeJl Bengal
v.
The Ruby General
l1uura1c~ C9. Ltd.
Venkatarama
-~ivar ].
1006
SUPREME COURT REPORTS
[1957]
Section 10(7) of the Indian Income-tax
Act provides
that,
"Notwithstanding
anythinl'
to
the
contrary
contained in sections 8, 9, 10, 12 or 18, the profits and
gains of any business of insurance and the tax oavable
thereon shall be computed in accordance with the ~l' :CS
contained in the Schedule to this Act."
Rule 6 of the Schedule provides :
"The profits and gains of any
business of insunnce
other than life inmrance shall be token to be ·he
balance of the prof1t'i Lli$closcc1 t1y thr.:
annual acccllnt.;;,
copies of which are required uncler the Insurance Act,
1938, to be furnislml
to the Contrcl!er of lmm:rnce.
after adjusting such balance co as to exclude from it
any expenditure other than expenditure
which
may
under the provisions of section
10 of
this
Act
he
allowed for in computing the
profits :md gains of a
business."
It is common ground that :he statements furnished
to the
Controller of
Insurance by the respondent for
the
relevant peri0ds did disclose
40 per cent. of the
premiums received as reserve for unexpired risks on
the outstanding policies and
that the same has been
treated as a liability in its profits and
loss statements
and allowed in the assessment of income-tax. Ti 'us,
one of the conditions required by r. 2 has been satisfied.
The whole controversy between the parties relates to
the other condition whether the reserve of 40 per cent.
can be
regarded as
a sum in respect of
accruing
liability.
The contention
of
the
learned
SolicitorGeneral is that it must be so regarded, and his ar!(Ument in support of it may thus he state:l : A contract
of insurance
is
con1nletc
as
scon
as
the
policy
i~;
issued. From th3t time
the ri'k
bc,~ins to attach to
it, and there is a liability
incurred. Rule 2 does not
require that the liabilitv. should
have actuallv accrnrd;
it is
sufficient that it is accrniil•!.
Liahilitv under a
policy must be held to be accruing so long as the
policy
is
in force. because it can
ripen
into actual
liability at any time during the life of the policy on
the happening
of the specified event.
\Vhen the
assessee shows a certain amount as the ,·alue of that
S.C.R.
SUPREME COURT REPORTS
1007
liability, it is a sum in respect of an accrumg liability
1957
anJ must be deducted under r. 2.
!11 support of this
contention, the decision in Sun
Insurance Office v. Clqrk ( ') was relied on. The facts
of that c:ise were :is follows : A fire insur:ince company
which bd been following the practice of entering in
its annual statements 40 per cent. of the
total premium
receipts
:is
reserve for unexpired
risks
claimed
a
<leductim;
therefor in· the
assessment of
its annual
profits. The validity of the claim having been disputed,
the question as to its jdmissibility was referred to
the decision
of the court. Bray J.,
who heard the
reference, held th:it the amounts
reserved for unexpired
risks should be de<lucti:d lirstiy on the ground th:it the
premium which haci
been paid in respect of a risk for
a whole year could not be said to have been wholly
earned, when a portion of the period covered by the
poiicy was still to run, and that the reserve therefore
was not income · earned, and secondly and in the alternative, on rhe ground that as the premium had been
received
burdened with a liability which had
been
only partially
discharged
in the year
of account, the
portion
of the
liability
still
outstanding should
be
valued on the analogy of unpaid price due in respect
of property
purchased
and
included in the
trading
assets.
This decision was taken in appeal,
and
was
reversed bv the Court of Appeal, the learned Judges
holding
that
though
the reasoning of Bray J.
was
sound, the question was concluded against the
assessee
bv the decision of the House of Lords in The General
Accident
Fire
and Life
Asmrance
Corporation
v.
McGotl'an (
2 ). The case came on further appeal before
the House of Lords which agreed with Bray J. that
the deduction
was admissible,
and
distinguished
the
decision in
T lie
Gene~·al Accident Fire m:d
Life
on the facts of that case and as
not laying down that,
A.<mra11ce
Corporation v. McG0tt1an (2) as one turning;.
·as a m::!tter of law. the deduction could not be made.
Lord
Haldane st:ted the ~round of his de.:i~ion thus :
" .... the case is analogous
to one
in which if
goods ;ire bought their value cannot be treatcLl
as
(t} (1910] A. C. 41-3; 6 T.C. 59.
(•) (1903) 5 T. C. 3o8.
T 114 Commissioner
of Exm s Profits
Tax, We<t Bengal
v.
The Ruby General
Insurance Co. Ltrl.
Ver.katarama
A!J·ar J.
1957
Tht Commissioner
of ExctsJ Profits
Tax, West Bengal
v.
The Ruby General
Insurance Co. Ltd.
V enkatarama
Aryar J.
1008
SUPREME COURT REPORTS
r19s71
profit without deducting the value of the liability to
pay for them which the buyer has incurred."
Lord Alverstone expressed the reasoning on which he
based his conclusion as follows ·:
"Premiums
are
not profits
or
gains,
they
are
receipts which must be brought into account and out
of which, after proper deduction for losses, profits will
accrue."
Lord Atkinson also rested his decision on the same
ground, and observed :
"That
case (Gresham
Life
Assurance
Society
v.
Styles)
( 1 ) clearly decided that the receipts of a business
are not
in
themselves profit and gains
within
the
meaning of the Income Tax Acts, but that it is what
remains of those receipts after there has
been deducted
from
them the cost of earning them which constitute
the taxable profits and gains. Now wh:it is the service
which a
Fire
insurance
Company
renders
to
each
insurer
in consideration for the
premiu1n it
receives ?
It is
only
by
rendering this service in each case
it
earns these receipts.
The service consists in indemnifying
the
insurer against
loss
by
lire
<luring
the
continuance
of
his
policy .... Yet
until
that
time
has expired the service for which the Company has
been paid
has not
been
completely
performed. If
the accounts
of the Company
are
to be
rendered
before the 'date of expiry, theri some division of the
premium must be
made, and
the proportion to be
appropriated
to
t~e service which is to be performed
thereafter. I think the description 'unearned premium'
which has been used
to
describe
this
latter portion
is a very appropriate and accurate description."
It is also material to note that one of the authorities
relied
on for the Crown was
the decision in Scottish
Union and National Insurance
Company v. Smiles( 2 )
wherein,
discussing
how
the
reserve
for
unexpired
risk in lire policies is to he dealt with in computing
the pro Ii ts, the
Lord President observe< l :
"Seeing that
lire
insurance
policies
are
contracts
for one year only,
the premiums received for the year
(1) [1892] A. C. 309.
(2) (1889) 2 T. C. 551.
S.C.R.
SUPREME COURT REPORTS
1009
of assessment, or on an average of three years, deducting losses by fire during the same period and ordinary
expenses, may be fairly taken as profits and gains of
the Company without taking into account or making
any allowance for the balance of annual risks unexpired
at the end of the financial year of the Company."
Referring to this and to another decision, Lord
Haldane observed that they "are not, when carefully
examined in the light of what appears to be the true
principle,
reliable
as authorities for !he proposition
which would run counter to the practice and good
sense of the commercial community."
On the strength of the observations quoted above,
the argument has
been
advanced
by
the
learned
Solicitor-General that the obligation which an• insurance
company contracts when it issues a policy is to' be
treated, in computing its profits for the purposes of
taxation, as a liability in praesenti. Mr. K. P. Khaitan,
learned
counsel for
the
n;spondent,
disputes
the
correctness of this contention. He argues
that
what~,
ever the position under the English law, a contract of
insurance is under the Indian Contract Act merely, 3
contingent contract, that until the event specified in
the policy
happens, there is no
enforceable liability,
and that
accordingly unexpired
risks
in pending
policies cannot be treated
as
present liabilities. He
also urges a further contention based on the history of
the enactment of r. 2 of Sch. II to the Act. That rule
as originally passed
mentioned only borrowed money
and debts, and it was by s. 10 of the Excess Profits
Tax (Amendment) Act (XLII of 1940) that accruing
liabilities were brought within that rule. And when
they were brought in, they did not come as something
independent of and distinct from borrowed money and
debts. They came in under a provision, which enacted
that the debts to be deducted under the rule included
sums
in
respect of accruing liabilities. Relying
on
this circumstance, counsel for the respondent contends
that however liberally the expression "accruing liabilities" might be construed, it cannot be interpreted so
as to take in liabilities which do not bear the character
of debts, and that a liability under a contract of
1957
The Commissioner
of Eicms Pfqfil&
T1J11, West Bengal
v.
The Ruby General
Insurance Ct>. Lid.
Venkatarama
AiJar].
1957
The Commilsianer
of Excess Prqfits
Tax/.WtJt Bengal
v.
The Ruby General
In.st.ranee Co. Ltd.
Venkatarama
Aljar J.
1010
SUPREME COURT REPORTS
[19571
insurance
whereunder risk
had
not
materialised,
cannot be held to be a debt, and is therefore not an
~ ..
accruing liability v1ithin the rule. In. support of
this
position, he relies on the decisions in Webb v. Stenton ( 1 )
and Israelson v. Dawson (Port of Manchester Insurance
Co., Ltd., Garnishees) ( ').
In Webb v. Stenton (1 ), the question was whether a
sum which was payable to the judgment-debtor under
a trust deed but which had not become due could be
attached in the ha.nds of the trmtees as a debt owin"
or accruing within 0. 45, R. 2 of the English Rules ~f
Practice. In holding that it codd not be, Lindley L.J.
observed :
"] should say, apart from any
authority, that a
debt legal or equitable can be attached whether it he
a debt owing or accruing ; but it must be debt, and a
debt is a sum of money which is now payable or will
become payable in the future by reason of a present
oblig'.ltion, debitr<m in pracsenti, solvendum ;,,
jmuro.
An accruing debt, therefore, is
a debt not yet actually
payable, but a debt which is represented by an existing
obligation.''
Israelson v. Dawson (Port of Manchester Insurance Co.,
Ltd., Garnishees) (2 ) was again a decision on 0. 45, R. 2,
the Court holding that the amount which became payable under a policy
as
the result of the accident
specified
therein
having
occurred
was,
n.evertheless,
not a debt which could be attached under this rule,
before the compensation had been determined bv the
arbitrator in accordance with the conditions o( t11e
policy.
The argument of the
respondent based on the above
decisions is that until the risk specified in the policy
n1aterialises and,
consequent
thereon, th'e compensation
payable thereunder is
asctrtained,
there is
only a
contingent
li~bility and not a debt,
and that such
liability is not within r. 2 of Sch. II to the Act.
In
answer,
th·" learned
Solicitor-General contends t11at the
decisions quoted
J;;8ve
a.re
not
in point, they having
been given on a diff·:rent
statute, that the decision m
(<') [1~33] I K.B. 301.
S.C.R.
SUPREME COURT REPORTS
1011
Sun Insurance Offir;e 'l. Clark (1) which dealt with the
question of
assessment for
purposes of taxation was
directly
applicable, and that according to that decision,
the amounts
reserved
for
unexpired
risks would be
sums in respect of accruing liabilities.
That a contract of insurance is a contingent contract
does not admit of argument. That i~ so under f.. 31 of
the Indian Contract Act. and that is also the law in
England where it is
termed "conditional contract".
(Vide Pollock on Contracts, 13th Edn.,- p. 222). This,
however, is not material for the purpose of the present
discussion which is how such
contracts are to be dealt
with in asse3sing the taxable profits of an insurance
company. That is a matter which must be determined
on the provisions
o_f
the
taxing statutes and
their
application
to the facts found with reference
to the
particular assessment. · And it is in this view that the
decision in Sun Insurance Office v. Clark (1) becomes
important. Now, what is
the ratio
of this decision ?
The law is well settled that a liability which is purely
contingent cannot be allowed as a deduction in computing the profits of a business. And in holding that
unexpired risks in respect of pending policies could be
estimated and deducted out of the gross premium
receipts, the
House of Lords must be held to have
decided
that the obligation of an insurer under such
risks was a liability in praesenti.
Reference might be made in this connection to the
recent decision of the House of Lords in Southern Railway of Peru Ltd. v. Owen ( 2), There, the appellant
Company operated a railway in Peru under a statutory
scheme under which its
employees were entitled to
receive from it a lump sum payment on retirement,
death or other termination of service. The Company
claimed that it was entitled to value this liability in
accordance with "accountancy practice" and to deduct
t~12 same from out of its annual profits. And support
for this contention was sought in the decision in Sun
fo:,nwce Office v. Clarf (1). In rejecting this claim
it vias observed by the House of
Lords that the
accountancy valuation was not necessarily
the correct
(1) [1912] A. C. 443, 6 T.C. 59.
(2) [1956] 2 All E. R. 728.
1957
T lie Commissioner
of Excess Profits
Tax, West Bengal
v.
The Ruby General
Insurance Co. Ltd.
Venkataranuz
A!Yar J.
1957
The Commi.uioner
ef Excess Profits
Tax, We.st Bengal
v.
The Ruby General
Insurance Co. Ltd.
Venkatarama
Aiyar ].
1012
SUPREME COURT REPORTS
[1957]
valuation for purposes of income-tax, and that the
real point for decision was whether the claim was to be
regarded as an essential
charge
against the trade
receipts during the year.
In distinguishing the decision in Sun Insurance Office v. Clark ('),Lord Oaksey
made the following
observations, which are pertinent
to the present discussion :
"Reliance
was
placed, during
the
argument,
on
Sun Insurance Office v. Clerk (1), in which this House
held that a percentage of the premium income of an
insurance company might be deferred as a receipt to a
future year because it was paid as consideration for
future liability, but the principle of that decision is
not, in my opinion, applicable to the present case. The
premium income was only deferred and would suffer
tax in a future year, whereas, in the present case., if
the appellant is
permitted to deduct
compensation,
which it has not paid and which it may never have to
pay,
that
compensation
will
escape
tax
altogether.
There is, in my opinion, a fundamental distinction
between a contingent liability and a payment dependent on a contingency. When a debt ·is not paid at
the time it i; incurred its
payment is,
of course,
contingent on the
solvency
of the · debtor but the
liability
is not contingent.
Similarly, the
liability in
Sun Insurance Office v. Clark l1) was not, in my opinion,
contingent but remained in force throughout the period of
the insurance, though payment in pursuance of that
liability might, or ~ight not, have to be made."
The decision in Sun Insurance Office v. Clark (1) and
the observations in Southern Railway of Peru, Ltd. v.
Owen C) quoted above do support the contention of the
appellant that in computing the profits of an insurance
company 'for purposes
of
income-tax,
the unexpired
risks are to be treated as a present liability.
But even so, on the footing that r. 6 in the Schedule
to the Indian Income-tax Act has adopted the law as
laid down in Sun Insurance Office v. Clark ( 2), the
question still remains whether unexpired risk in an
outstanding policy
is an accruing liability within r. 2
of Sch.
II to the Act.
It is
contended for
the
(>) [•912] A.C. -143; 6 T. C. 59.
(z) [•9\6] 2 All E. R. 728.
S.C.R.
SUPREME COURT REPORTS
1013
purposes of assessing the taxable profits for purposes
appellant that if that liability is a present liability for
of income-tax, it must logically
be
the
same for
purposes of excess profits tax, and must therefore be
deducted under r. 2 of Sch. II to the
Act. That woi1ld
be so, if the scheme and framework of the Excess
Profits Tax Act were the same as those of the Incometax Act.
But the fact is that the Excess Profits Tax
Act differs in material respects from the Income-tax
Act, and the principles applicable in the assessment of
profits under s., 10 of the latter enactment cannot
necessarily be held to be applicable in the ascertainment of the capital employed under rr. 1 and 2 of
Sch. II to the former Act.
The object of the Excess
Profits Tax Act is to tax profits of a business when
thev overflow a certain level.
That level is determined
thu's :
A certain period called the standard period is
taken; the capital invested and the profits made in
the business during that year are ascertained, and the
standard profits are. worked out in relation to those
two factors.
Then, the capital actually employed in
business
during the
chargeable
accounting period is
ascertained. If the capital is the same as that employed
in the standard
period,
then
there
is no further
problem; but if it is more, then the standard profits
are increased, and if it is less, they are reduced pro
tanto.
Thus, the whole scheme of the Act is to tax
profits above a certain level, and that level will move
upwards or downwards as the capital employed may
be more or less.
It is the this that constitutes the
distinguishing feature of the Excess Profits Tax Act,
and it is the determination
of
the
capital actually
employed
in
business that
forms one of the
most
important and arduous tasks in the ascertainment of
taxable profits under the Act.
Rule I of Sch. II to the Act enumerates three categories of properties, which are to be included in the
computation of capital. It is to be noted that this rule
does not adopt any legali~tic or conventio11a! notion of
what is technically termed 'capital'; but it proceeds
on a factual basis to include whatever is utilised in
business, whether it be tangible rroperty or intangible
1957
The Commissioner
of Excess Pro.fits
Tax, West Bengal
v.
The Ruby General
Insurance Cn. Ltd.
V enkatarama
Aryar ].
1957
The Commissioner
of ExcesJ Profit!
Tax, Wot Bengal
The Ruby Gerural
In:.uranu Ca. Ltd.
Venkalarama
AijiarJ.
1014
SUPREME COURT REPORTS
11957]
property.
The object of the provision is clearly to
confer a benefit on the assessee by enabling him to
retain at least in part the profits realised by him by
investment of additional capital.
Then there is r. 2,
which provides for certain '.:leductions being made out
of capital. Omitting for the present "accruing liabilities'', which form
the
subject of
the present controversy, the other two items mentioned
therein are
borrowed money and debts, and the reasons for their
exclusion from capital falling within r. 1 would appear
to be this :
Money borrowed and cjebts incurred for
the purpose of the business must have been utilised in
it, and would be included in the capital employed as
defined in r. 1.
The policy of the law being to give
some relief to an assessee who invests additional capital
in his business, the reason of it requires that that should
be limited to capital contributed by the assessee himself. Otherwise, the benefit intended to be given te
him might be abused, and the object of the legislation
defeated
by
large
scale
employment of
borrowed
capital. Burrowed money and debt are therefore to
be deducted out of what is capital within · r. 1.
\Ve now come to the expression "accruing liabilities".
What does it precisely import?
To decide that.
we
must have regard to the scope and purpose of rr. 1 and
2 of Sch. II to the Act and to the context and setting
of the expression.
It has been already pointed out
that the object of the Act is to tax profits which overflow
a certain
line
indicated by what is termed
"standard profits", that the location of that line varies
with the capital employed, that the scheme of r. 1 is on
a factual basis to treat as capital all assets tangible
and intangible which are thrown into a business and
contribute to the earning of profits and to exclude
therefrom under r. 2 that part of it which came in as a
result
of
borrowing.
Now,
obviously, a
deduction
under r. 2 can only relate to what is capital under r. 1,
and that must be a really profit-earning asset, whether
tangible or ·not.
Borrowed money
to
be
deducted
under r. 2 is money borrowed for the purpose of the
business, and which has gone to swell the capital under
r. 1.
That is also the position as regards debts.
And
S.C.R.
SUPREME COURT REPORTS
1015
accrumg liabilities which are liable to be
deducted
under r. 2 must also be of the same character as
borrowed money and debts with
which they
are
associated on the principle of noscitur a sociis.
They
must be such as can be said to have been utilised in
the business and formed part of the really effective
tracfo1g
assets
during
the
chargeable
accounting
period.
If that is the correct approach, as we conceive it is,
the question to be considered is neither, on the one
hand, whether the liability amounts in law to a debtfor if it is capable of being utilised in business and is
so utilised, it will fall under r. 2, even though it
is not strictly speaking a debt; nor, on the other
hand, whether it is a liability which has been treated
as one for the purpose . of assessing income-tax.
In
assessing income from business under s. 10 of the
Income-tax Act, what is allowed as a deduction is
any liability incurred solely and exclusively for the
purpose of the business,
and when that has not matured,
its · value is to be determined according to rules of
accountancy and deducted.
But when a deduction is
claimed under r. 2, what has to be seen is whether the
obligation is such that it could be regarded as an asset
used
in the business,
such
as
could
conceivably
contribute to its profits. If that is riot established, then
it cannot be included as capital under r. 1, and cannot
be deducted therefrom under r. 2 as an accruing
liability. It should not be overlooked that a deduction
under s. 10 of the Income-tax Act and that under r. 2
of Sch. II to the Act proceed on totally different lines
and have different objects in view. Under s. 10, the
deduction is claimed by the assessee, and that has the
effect, when allowed, of reducing the taxable profits.
Under r. 2, it is claimed by the department, and if
allowed, it will enhance the liability of the assessee by
reducing the capital under r. 1. Incidentally, how
inappropriate the principle liad down in Sun Insurance
Office v. Clari,: ( 1 ) would be if it is applied for determinin;r the question of capital employed in business for
th~ purpose of Excess Profits Tax Act will be seen from
(1) [1952) A. C. 443, 6 T.C. 59.
!i-61 S. C. India/59
1957
T1" Commissio.,r
4 Excess Profits
Tax, West Bengal
v
Th• Ruby General
Insuranu Co. Ltd.
V 1 nkalarama
Aiyar ].
1957
The Consinislioner
of Excess Profit;
Tax, West Bengal
"
The Ruby General
lnsuranet Co. Lid.
Venkatarama
Ai.var].
1016
SUPREME COURT REPORTS
[1957]
the fact that one of the grounds on which the decision
therein was based was that 40 per cent. of the premiums
received and set apart as reserve for unexpired risks
was unearned income, and could
not
therefore
be
regarded as profits for the purpose of the Act. If that
were the true position under the Excess Profits Tax Act,
then the reserve could not be included in the capital
of the business, and, indeed. that was one of the
contentions
urged
by
the
learned
Solicitor-General.
But that was not the stand taken by the department
before the Tribunal and that is directly opposed to the
plain language of r. 1 of Sch. II, under which all the
premiums thrown into the business would be
capital
employed in the business. That clearly shows how
unsafe it will be to adopt the principles laid down for
the purpose of assessing business profits under the
income tax Act to a determination of the question of
the capital employed under the Excess Profits Tax Act.
In this view,
is the reserve for unexpired risks an
"accruing liability"
within
r. 2?
The decision
in
Sun Insurance Office v.
Clark ( 1 )
that it should be
allowed as a deduction was based on two grounds. One
was that it should be regarded as "unearned income",
and for the reasons already stated, it cannot avail when
the question is one of determining capital under the
Act. And the other was that the reserve represents a
liability in the nature of unpaid price
of property
included in the trading acsets.
But apart from the
fact that we have to strain the analogy in applying it
to the present situation, can that liability be held to
be of the character contemplated by r. 2? Can it be
said that the reserve for unexpired
risk was, like
borrowed money and debt, part of the real
trading
assets of the business? The answer must clearly be
in the
negative.
The reserve
liability
could
not
factually be said to have contributed to the running
of the business or the earning of profits. It was something in the air, and. could have had no effect in the
working of the concern, during the chargeable accounting period. It cannot therefore be held to be an
"accruing liability" within r. 2 of Sch. II to the Act.
(1) [1912] A. C. 443, 6 T.C. 56.
S.C.R.
SUPREME COURT REPORTS
1017
A case very much in point is the decision in Northern
Aluminium Co. Ltd. v. Inland Revenue Commissioners( 1 ).
There, the question arose whether a conditional liability
under a contract was an "accruing liability" within
the corresponding
provision
in the English Excess
Profits Tax Act. The .facts were tlut on December 16,
1939, an agreement
was entered into between the
Ministry of Aircraft Production and a company engaged
in manufacturing aluminium products 'and supplying
them to manufacturers of aircraft for the Government,
wherein it was provided that the prices which the
latter was then charging to its customers should be
reduced for the period July 1, 1939, to June 30, 1940,
and that the amount by which the prices paid to the
company were in excess of the reduced prices should
be paid by the company to the Ministry. The agreement
further
provided
that negotiations should be
started not later than June 30, 1940, for determining
the rates to be charged for the periods following June
-30, 1940._ The agreement was, in fact, concluded only
on October 12, 1942, whereby the prices to be charged
by the company· were fixed for the years 1941, 1942
and 1943. In accordance with the agreement entered
into on October 12, 1942, a sum of £2,743,469
was
repaid by the company to the Ministry in 1943 being
the difference between the price paid by the customers
and that fixed in the agreement. This amount was
actually allowed as a deduction in the assessment of
the business income for purposes of income-tax, and
the dispute related to the question whether it could be
deducted in assessing the excess
profits tax as an
"accruing liability" of the company for the chargeable
accounting period which was January 1 to December
31, 1941. It was held by the Court of Appeal that
there was, in fact, no agreement between the parties
during the chargeable
accounting
period,
and
that
therefore no liability was incurred. In the alternative,
it was held that even if the agreement dated December
16, 1939, could be construed as amounting to a conditional agreement for the period subsequent to June 30,
1940, the obligation created
thereby could not be
(1) [1946) 1 All. E. R. 546, 554·
1957
• Th• Commissioner
of ExceJS Profits
Tax, WeJI Bengal
v.
The Ruby General
imurance Co. Ud.
Venkataram!I
Aryar J.
1957
Thi Ctnmniss iontr
of Excess Pro.fits
Tax, Wljt Bengal
v
TM Ruby General
lmurance Co. LJd.
Vtnkatarama
Ai)>ar J.
1018
SUPREME COURT REPORTS
[1957}
regarded as an accruing liability within the rule in
question. Lord Greene M.R. stated the reason thus :
"A purely conditional liability, which may or may
not mature, is not one which falls within that language,.
for this reason : Quite apart from the actual words,.
it would be contrary to the whole conception underlying
these capital provisions because a purely conditional
liability, which may or may not eventuate, is not a
thing which affects a company's capital position, any
more than a conditional receipt can affect its capital
position. A receipt which may or may not be received,
according as some event does or does not happen, is
·not a thing with which you can earn profits. It is the ·
possibility of earning profits on your real capital that
these capital provisions are concerned with. Therefore,
in my opinion, even if one could spell such a hypothetical and conditional contract out of these words, the
result would not give rise to an accruing liability
within the meaning of the section."
This decision was taken in appeal to the House of
Lords and was affirmed. Vide Inland Revenue Commissioners v. Northern Aluminium Co. Ltd.( 1 ).
This decision establishes that a conditional liability
under a concluded contract-it is on that footing that
the second point arose for decision-was not an accruing
liability for the purposes of the Excess Profits Tax Act, ~
as the same had no effect on the actual capital position
·
·of the company, and the fact that it was allowed for
purposes of income-tax did not affect the position
under
the
Excess Profits Tax Act.
The
learned
Solicitor-General sought to distinguish this decision on
the ,ground that it did not relate to an insurance
business, whereas it was contended that Sun Insurance
Office v. Clark(') directly dealt with the question now
1mder consideration whether reserves for
unexpired
risks in pending policies were liabilities which could be
deducted. We do not see how it makes any difference
in the construction of r. 2 of Sch. II to the Act that
1"' #
the liability sought to be deducted arises under an
'
insurance policy and not under some other contract.
(1) [1947] 1 All E.R. 608.
(•) [1912] A.C. 443, 6 T.C. 59.
S.C.R.
SUPREME COURT REPORTS
1019
We are of opinion that the principles bid down in
Northern
Aluminium
Co., Ltd.
v.
Inland
Revenue
Commissioners(
1
) and fo!cmd Revenue Commissioners v.
··N orthem Aluminium Co., Ltd.( 2 ) are applicable to the
decision of
the present case, and that a contingent
liability in respect of unexpired risk is not an "accruing
liability" within r. 2 of Sch.