# COMMISSIONER OF INCOME-TAX, KERALA v. GEMINI CASHEW SALES CORPORATION, QUILON

- **Citation:** [1967] 3 S.C.R. 727
- **Court:** Supreme Court of India
- **Decided:** 1967-04-20
- **Case number:** Civil Appeal No. 702 of 1966
- **Bench:** J. c. SHAH, s. M. SIKRI, v. R.i\MASWAMI
- **Source:** https://unisonlegal.in/judgment/supreme-court-of-india/commissioner-of-income-tax-kerala-v-gemini-cashew-sales-corporation-quilon-4016
- **Pages:** 9

## Headnote

Income-Tax Act, 1922, s. 10(1) and 10(2) (xv)-Partnership dissolved on death of one pattnefr-Whether liability to pay retrenchment
compensation under s. 25FF on transfer of business to surviving partner
a permissible deduction as liability of a revenue nature.
A partnership of two partners was. dissolved on the death of ono .of
them on August 24, 1957 and the busmess was taken over by the _...
ing {'artner on his own account. The services of the employees were
not interrupted and there was no alteration in their terms of employ·
ment. In proceedings for assessment to income-tax for the ·assessment
year 1958-59 it was urged on behalf of the firm that an amount of
Rs. 1,41,506 taken in.to account under the head "gratuity payable to
workers of the business" in settlin_g the accounts of the firm till August
24, 1957 was a permissible out$01ng. The Income-tax Oftlcer rejected
the claim and the Appellate Ass!Stant Commissioner confirmed his order.
However, the Tribunal, in a{'peal, held that on the dissolution of the firm,
the workmen became en II tied to retrenchment 'compensation under
s. 25FF of the Industrial Disputes Act, 1947 and the firm was therefore
entitled to the deduction. The High Court, upon a reference, confirmed
this view.
On appeal to this Court,
HELD : The amount claimed by the assessee as a permissible allowance in his profit and loss account could not be regarded as properly
admissible either under s. 10(1) or under s. 10(2)(x~) of the IncomeTax Act, 1922. [735 Bl
Under the proviso to s. 25FF the liability to pay retrenchment com·
pensation arose for the first time after the closure of . the business and
F
not before. It arose not in the carrying on of the business, but on
account of the transfer of the business. It was not therefore a liability
of a revenue nature and could not be treated as a permissible deduction
under s. 10(1). [733 HJ
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Alex A. Apcar (Jr.) & Company v. M. V. Gan and Othtr~ AJ.R,
1960 Cal. 14, referred to.
Anakpalia Cooperative
Agricultural and Industrial
Society v. Its
W~r~men & Others, [1962] 2 LL.J, 621, Calcutta Company Ltd, v. Commrssroner of Income-tax, West Bengal, 37 I.T.R. 1 and Owen (H. M.
Irispe_ctor of Taxes) v. Southern Railway of Peru Ltd., 36 T.C. 602. distinguished.
Where accounts are maintained on the mercantile system if liability
to make a payment has arisen during the time the ~
i9 carried on
and the ~penditure is for .the purpose of carrying on the business, it may
be deductible under Section 10(2) (xv) but where the liability is during
the whole of the period that the business is carried on Wholly contingent
and does not raise any definite obligation during that time it cannot fall
L9Sup.Cl/67-3
128
SUPllEME COURT REPORTS
(1967] 3 S.C.R.
within the expression "expenditure laid out or expended wholly or ex·
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elusively" for the purpose of the business. (734 D-E]
Commissioner of Income-tax, Madras v. Indian Metal and Metallurgical Corporation, 51 · I.T.R. 240 and Standard Mills
Company Ltd. v.
Commissioner of Wealth-tax, Bombay, 63 I.T.R. 470, relied on.

## Text

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COMMISSIONER OF INCOME-TAX, KERALA
v.
GEMINI CASHEW SALES CORPORATION, QUILON
April 20, 1967
[J. c. SHAH, s. M. SIKRI AND v. R.i\MASWAMI, JJ.J
Income-Tax Act, 1922, s. 10(1) and 10(2) (xv)-Partnership dissolved on death of one pattnefr-Whether liability to pay retrenchment
compensation under s. 25FF on transfer of business to surviving partner
a permissible deduction as liability of a revenue nature.
A partnership of two partners was. dissolved on the death of ono .of
them on August 24, 1957 and the busmess was taken over by the _...
ing {'artner on his own account. The services of the employees were
not interrupted and there was no alteration in their terms of employ·
ment. In proceedings for assessment to income-tax for the ·assessment
year 1958-59 it was urged on behalf of the firm that an amount of
Rs. 1,41,506 taken in.to account under the head "gratuity payable to
workers of the business" in settlin_g the accounts of the firm till August
24, 1957 was a permissible out$01ng. The Income-tax Oftlcer rejected
the claim and the Appellate Ass!Stant Commissioner confirmed his order.
However, the Tribunal, in a{'peal, held that on the dissolution of the firm,
the workmen became en II tied to retrenchment 'compensation under
s. 25FF of the Industrial Disputes Act, 1947 and the firm was therefore
entitled to the deduction. The High Court, upon a reference, confirmed
this view.
On appeal to this Court,
HELD : The amount claimed by the assessee as a permissible allowance in his profit and loss account could not be regarded as properly
admissible either under s. 10(1) or under s. 10(2)(x~) of the IncomeTax Act, 1922. [735 Bl
Under the proviso to s. 25FF the liability to pay retrenchment com·
pensation arose for the first time after the closure of . the business and
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not before. It arose not in the carrying on of the business, but on
account of the transfer of the business. It was not therefore a liability
of a revenue nature and could not be treated as a permissible deduction
under s. 10(1). [733 HJ
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Alex A. Apcar (Jr.) & Company v. M. V. Gan and Othtr~ AJ.R,
1960 Cal. 14, referred to.
Anakpalia Cooperative
Agricultural and Industrial
Society v. Its
W~r~men & Others, [1962] 2 LL.J, 621, Calcutta Company Ltd, v. Commrssroner of Income-tax, West Bengal, 37 I.T.R. 1 and Owen (H. M.
Irispe_ctor of Taxes) v. Southern Railway of Peru Ltd., 36 T.C. 602. distinguished.
Where accounts are maintained on the mercantile system if liability
to make a payment has arisen during the time the ~
i9 carried on
and the ~penditure is for .the purpose of carrying on the business, it may
be deductible under Section 10(2) (xv) but where the liability is during
the whole of the period that the business is carried on Wholly contingent
and does not raise any definite obligation during that time it cannot fall
L9Sup.Cl/67-3
128
SUPllEME COURT REPORTS
(1967] 3 S.C.R.
within the expression "expenditure laid out or expended wholly or ex·
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elusively" for the purpose of the business. (734 D-E]
Commissioner of Income-tax, Madras v. Indian Metal and Metallurgical Corporation, 51 · I.T.R. 240 and Standard Mills
Company Ltd. v.
Commissioner of Wealth-tax, Bombay, 63 I.T.R. 470, relied on.
CIVIL APPELLATE JURISDICTION:
Civil Appeal No. 702 of
1966.
B
Appeal by special leave from the judgment and order dated
July 30, 1964 of the Kerala High Court in Income-tax Referred
Case No. 20 of 1963.
S . .T; Desai, S.1( ... Aiyar and R. N. Sachthey, for the appellant.
C
T. V. Viswanath. Iyer, S. K. Dho/akia, and 0. C. Mathur,
for the respondent.
The Ju.dgment of the Court was delivered by
Shah, J. ·Two persons--Walter
and Ramasubramqny-
:-:arried. on business in ca5hewnuts as piirtners in the name and
style of Messrs; Gemini Cashew Sales Corporation. The partnership wa5 .dissolved on the death of Ramasubramony on August
24, .1957, and the business was taken over and continued by
Walter on his own account. The services of the employees were
not interrupted and there was no alteration in the terms of employment of the employees of .the establishment.
In proeeedings for assessment of tax it was urged on behalf
of the firm that an amount of Rs. 1,41,506 taken into account
under the head "Gratuity payable to workers of the business" in
sett~g the accounts of the firm till August 24, 1957, was a permis-
.sible outgoing. The Income-tax Officer rejected the claim and the
Appellate Assistant Commissioner
confirmed that order.
The
Income-tax Appellate Tribunal held that by the transfer of the
undertaking to Walter, there was no interruption in the employment of the workmen of the establishment, that the terms and
conditions ·of service applicable to· the workmen were not altered
to their detriment, that Walter bad not expressly agreed to take
over the. liability for compensation payable. under s. 25FF of the
Industrial Disputes Act, 194 7, and since there was dissolution of
the ·parinership on August 24, 1957 and the undertaking was
transferred, the workmen· became entitled to retrenchment compensation, which the firm was liable to pay. The Tribunal accordingly .held that . the firm was entitled to deduct the sum of Rs .
.l ,41 ;506 in the computation otincome in the assessment year
1958-59.
. ..
. In recording their opinion on the following question submitted by the Tribunal,
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C.I.T. V. GEMINI CORP. (Shah, J.)
"Whether the allowance of Rs. 1,41,506 constitutes an allowable expenditure in the assessment of the
72!>
firm for the year 1958-59",
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the High Cour;t of Kerala observed that in the determination of
the taxable profits of the firm till its dissolution, considerations
about the liability to pay retrenchment compensation devolving
upon Walter as the assignee of the business for valuable con..<ideration were irrelevant, and since it was maintaining accounts
on mercantile system, the firm could claim as a permissible outgoing the amount for which liability was incurred though no
actual payment was made to the workmen. The Commissioner
of Income-tax appeals with ~pecia\ leave, against the order of the
High Court recording an answer in the affirmative.
The subject-matter of the claim was retrenchment compensation payable to workmen of the establishment under s. 25FF
of the Industrial Disputes Act, 194 7, Section 25F of the Industrial Disputes Act, 1947, provides :
''No workman employed in any industry who has
been in conti.nuous service for not less than one year
under an employer shall be retrenched by that employer until-
(a) the workman has been given one month's notice
in writing indicating the reasons for retrenchment and the period of notice has expired, or the
workman has been paid in lieu of such notice,
wages for the period of the notice:
Provided that no such notice shalJ be necessary if the retrenchment is under
an agreement which specifies a date for the termination
of service;
(b) the workman has been paid, at the time of retrenchment,
compensation
which
shall be
equivalent to fifteen days' average pay for every
~ompleted y~r of service or any part thereof ·
m excess of six months; and
( c) notice in the prescribed manner is served on the
appropriate Government."
Section 25FF, as substituted by Act 18 of 1957 with effect from
November 28, 1956, provides :
"Where the ownership
or management of
an
undert::iking is transferred, whether by agreement or by
operauo~ of law, from the employer in relation to that
undertaking to a new employer, every workman who
730
SUPREME COURT REPORTS
[1967] 3 S.C.R..
has been in continuous service for not Jess than one
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year in that undedaking immediately before such transfer shall be entitled to notice and compensation in
accordance with the provisions of Section 25F, as if the
workman had been retrenched :
Provided that nothing in this section shall apply to a workman
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in any case where there has been a change of employers by
reasoil" of the transfer, if-
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(a) the service of the workman has not been interrupted by such transfer;
(b) the terms and conditions of service applicable
to the workman after such transfer are not in
any way less favourable to the workman than
those applicable to him immediately before the
transfer; and
( c) the new employer is, under the terms of such
transfer or otherwise, legally liable to pay to
the workman, in the event of his retrenchment,
compensation on the basis that his service has
been continuous and has not been interrupted
by the transfer."
Under s. 25FF the right of. the workmen to retrenchment compensation arises on iransfer of ownership or management from the
empfoyer in relation to the undertaking to a new employer. But
in the conditions set out in the proviso no such right accrues. It
is common ground that the first and the second conditions in the
proviso are satisfied.
Counsel for the Commissioner contended
that the third condition of tl1e proviso was also satisfied, and no
right to retrenchment compensaiion arose in favour of the workmen under s. 25FF of the Industrial Disputes Act. Counsel for
the Commissioner contended that the liability of the partners in
a firm to pay retrenchment compensation being joint and several,
when the undertaking carried on by a firm is continued by one of
the partners after its dissolution, and the services of the workmen
are not terminated and the terms and conditions of the service
are not made less favourable, the partner continuing the business
may appropriately be held liable to pay to ihe workmen retrench·
ment compensation on the footing that the service of the work·
men had been continuous.
Counsel relied upon ,the view expressed' by the Calcutta High Court in Alex A. Apcar (Ir.) &
Company v. M. N. Gan and Others(') in which it was observed
that a change of partnership by inclusion or retirement of partner,
which legally changes the constitution of the firm, does not result
--(OAJ~R. 1960 Cal. 14
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. C.I.T. v. GEMINI CORP. (Shah, J.)
731
in a "change of business or employer within the meaning of
ss. 25F and 25FF".
Counsel for the assessee relied upon a judgment of this Court
in Anakapa/ia Co-operative Agricultural and Industrial Society v.
Its Workmen & Others(') in support of the contention that on a
bona fide transfer of an undertaking the workmen employed in
the undertaking are entitled to retrenchment compensation under
s. 25FF against ,the transferor. That however was a case in
which the transferee had declined to re-employ the workmen of
the transferor and the first condition of the proviso was not
fulfilled. That case can have no application to ,the present case.
In the view we take, that the allowance claimed is not a proper
outgoing, or allowance in computing the profits of the assessee, we
do not express any opinion on the question whether. the workmen
of the undertaking became entitled to retrenchment compensation
on the transfer of the undertaking to Walter.
Liability to pay retrenchment compensation ,arises under
s. 25FF when there is a transfer of the ownership or management
of an undertaking : it arises on the transfer of the undertaking aad
not before. Transfer of ownership or management of an undertaking in law operates, except in the conditions sei. out ·in the
proviso, as retrenchment of the workmen. But until there is a
transfer of the undertaking resulting in determination of employment, the workmen do not become entitled to retrenchment compensation. . So long as the ownership of the business continues
with the employer, the right of the workmen to claim compensation remains contingent. A workman ~, before the ·transfer Qf
ow~rship of the business, himself terminate the employment: he
may die or he may become superannuated: in none of these cases
the owner of the business is under any obligation .to pay retrenchment compensation to the workman. The · obligation to pay
compensation becomes definite only when there is retrenchment
by .the employer, or when the ownership or management of the
undertaking is, except in the cases contemelated by the proviso,
transferred to a new employer, and not till then. The right
therefore arises from determination of employment, or from
transfer of the undertaking : it has no existence before these events
take place.
The judgment of this Court in Calcutta Company Ltd v. Commt'ssioner of Income-tax, West Bengal(2 ) on which reliance was
placed by. counsel for 0the assessee has no bearing on the present
cas!'., for m that case, expenditure which it was estimated had to
be mcurred t.o discharge an ~xisting and definite obligation enforceable agamst the .assessee m praesenti was held a permissible
(I} (1962) 2 L.L.J. 621.
(2) 37 I.T.R. t.
732
SUPREME COURT REPORTS
(1967] 3 S.C.R.
deduction in ·the compuiation of income.
The Calcutta Company Ltd had sold plots of land for building purposes undertaking
to develop them within six months by laying out roads, providing
drainage and installing lights, etc. In. the accounts of the Company maintained according to the mercantile system, the Company
had credited the full sale price of the plots agreed to be paid by
the purchasers, but not actually received, and against the price
it debited an estimated sum as expenditure for the development it
had undertaken to carry out, even though no part of the amount
was actually spent. By the terms of sale, the Company had undertaken an unconditional obligation which was enforceable against
it : the liability was not contingent upon the happening of a future
event. It was held by this Court that the outgoing debited was
properly admissible.
The decision of the House of Lords in Owen (H. M. Inspector of Taxes) v. Southern Railway of Peru Ltd.(') on which
counsel for the assessee relied also does not assist the the assessee.
In that case under the Peruvian law the Southern Railway of Peru
Ltd. was bound to pay its employees in Per~ prescribed compensation payments upon tennination of .their services, subject to the
fulfilment by the employee of certain conditions. The amount to
be paid depended on the length of service and rate of pay at the
end of .the period of service. The Company set apart from the
gross profits of each year sums prospectively payable under the
Peruvian law as compensation on the termination of employment.
In proceedings for assessment to tax of the Company made under
Case I of Sch. D of the Income Tax Act, 1918 (8 & 9 Geo. 5, Ch.
40), it was contended on behalf of the Company that upon proper
principles of commercial accountancy compensation
calculated
to have accrued due to each employee from year to year as deferred remuneratien was properly allowable as a deduction.
The
Special Commissioners upheld .the claim of the company on the
ground that it was a matter of correct accountancy practice to
make provision in the accounts for the sums in question. . The -
matter reached .the House of Lords in appeal from an order on a
reference under s. 64 of the Income-Tax Act, 1952. The House
held that where a number of similar contingent obligations arise
from trading, there is no rule of 'law which prevents the deduction
of a provision for ~hem in ascertaining annual pro~ts,. if a sufficiently accurate eshmate can be made. But a ma1or1ty of the
House held that the "provision claimed by the Company throughout the proceedings was not permissible by reason of the absence
of discount and other factors".
Lord MacDermott observed at
p. 635:
". .
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. as a general, proposition it is, I think,
right to say "that in computing his taxable profits for a
(I) 36 T.C. 602.
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C.I.T. V. GEMINI CORP. (Shah, /.).
particular year a trader who is under a definite obligation to pay his employees for their services in that year
an immediate payment and also a future payment in
some subsequent year, may properly deduct not only
the immediate payment but the present value of the
future payment provided such present value can be
satisfactorily determined or · fairly estimated.
Apart
from special circumstances, such a procedure, if practicable, is justified because it brings the true costs of
trading in the particular year into account for that· year
and thus promotes the -ascertainment of the "annual
profits or gains arising or accruing from" the trade."
733
Lord MacDermott was of the view that the provision made by
the Company led to anomalies, and was not admissible as made,
and .the case should be remitted to the Special Commissioners
whether it is practicable to arrive at satisfactory deductions .. Lord
Radcliffe with whom the Lord Chancellor and Lord Tucker a~reed
was of the view that there is no rule of law which forbids the introduction of a provision for future payme1,1ts in or payments· out, if
the right to receive them or the liability to make them, is in legal
terms contingent at the closing of the relevant year.
'·
The question which arises· in the present case is not about the
admissibility of a provision made by. a trader by the adoption of
a reasonably satisfactory method estimating the present value of
an obligation which may arise in future to pay a sum of money to
his employees.
The question that falls to be determined is
whether the liability which arises on transfer of the business is to
be regarded as a permissible outgoing in the account of the business which is transferred. Broadly stated, the present ·value on
commercial valuation of money to become due in future, under
~ definite .obligation, will be a permissible outgoing or deduction
m computing the taxable profits of a trader, even if in certain conditions the obligation may cease to exist because of forfeiture of
the ~ght. Where, h.owever, tJ:te o~lig~tion of the trader is purely
contingent, no questton of estimating tts present value may arise
for to be a permissible outgoing or allowance, there must in th~
year ~f account be a present obligation capable of commercial
valuatton.
As. already observed, the liability .to pay retrenchment compensation arose for the first time after the closure of the business
and not before. It arose not in the carrying-on of the business
but. on account of t~e transfer of ~e business. · During the entir~
penod that the busmess was contmuing, there was no liability to
pay retrenchment .compensation.
The liabllity which arose on
tra~sfer ~f the busmess was not of a revenue nature. Profits of a
bus.mess mvolve comparison between the state of the business at
734
SUPREME COURT REPORTS
[1967] 3 s.c.R.
two specific dates. Nonnally the liability which occurs after the
last date, unless its source is in a pre,existing definite obligation,
cannot be regarded as a part of the outgoing of the business debitable in the profit & Joss account. A deduction which is proper
and necessary for ascertaining the balance of profits and gains of
the business is undoubtedly properly allowable,
but. where a
liability .to ma!ce a payment arises not in the course of the business,
not for the purpose of carrying on the business, but springs from
the transfer of the business, it is not, in our judgment, a properly
debitable item in its profit & loss account as a revenue outgoing.
Thel claim of the finn to treat it as an item in the detennination of
the profits of the finn under s. 10 (I) of the Income-tax Act cannot, therefore, be sustained.
Under s. 10(2) (xv) of the Indian Income-tax Act in the
computation of taxable profits (omitting parts of the clause not
material) "any expenditure laid out or expended wholly and exclusively for the purpose of such business, profession or vocation'',
i.e. business, profession or vocation carried on by tlte assessee, is
a permissible allowance.
But to be a permissible allowance the
expenditure must be for the purpose of carrying on the business.
Where accounts are maintained on the the mercantile system, if
liability to make the payment has arisen during the time the
business is carried on, it may appropriately be regarded as expenditure. But where the liability is, during the whole of the period
that the business is carried on, wholly contingent and does not
raise any definite obligation during the time that the business is
carried on, it caruiot fall within the expression "expenditure laid
o~t or expended wholly and exclusively" for the ptirpooe of. the
business.
Two cases illustrative of the principle may be noticed. It was
held by the Madras High Court in Commissioner of Income-tax,
Madras v. Indian Metal and Metallurgical Corporation(') that a
provision made in the annual accounts maintained by an employer
setting apart by way of a reserve to meet the liability, if any, to
which the employer may become subject in the event of retrenching workmen because of the necessity of retrenchment of the services of the staff, was not a liability in praesenti in the year of
account, but was only a contingent liability which ip.ay arise on the
happening of a particular continge;n~y and '"'.as not. allo"'.able as a
deduction in assessment of tax. This Court m dealmg with a case
under the Wealth Tax Act in Standard Mills Company Ltd. v.
Commissioner of Wealth-tax, Bombay( 2 ) held that .a liab~ty
under the award of the Industrial Court to pay gratuilty to its
employees at certain rates on death while in service, or on :voluntary retirement or resignation after fifteen
years'
contmuous
(I) 511.T.R. 24J.
(2) 63 l.T.R.47J,
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C.I.T. v. GEMINI CORP. (Shah, /.)
735
service, or on tennination of service after certain specified periods,
but not if the employee was dismissed for dishonesty or misconduct, was a mere contingent liability which arose only when the
employment of the employee was determined by death, incapacity, retirement or resignation : the liability did not exist in
praesenti.
The amount of Rs. 1,41,506/- claimed as a permissible allowance by the assessee in its profit & loss account cannot, in our
judgment, be regarded as properly admissible either under s. 10
(I) or s. 10(2)(xv) of the Income-tax Act. The answer to the
question must, therefore, be in the negative.
The appeal is allowe4 and the order passed by the High Court
is set aside.
The Commissioner will be entitled to his costs in
this Court.
R.K.P.S.
Appeal allowed.