Supreme Court Dismisses Revenue Appeal in Income Tax Section 23A Dividend Distribution Matter; Reasonableness of Dividend Distribution Must Be Judged from Businessman's Perspective Considering Actual Accounting Profits. Section 23A of Indian Income-tax Act, 1922, Being Penal, Places Burden on Revenue to Prove Conditions Including 'Smallness of Profit' Based on Commercial Profits, Not Merely Assessable Income.

Income tax reference under Section 66(1) of the Indian Income-tax Act, 1922 arising from an order under Section 23A deeming undistributed profits as dividends.

The Revenue sought to set aside the High Court's decision in favour of the assessee and sustain the Income-tax Officer's order under Section 23A.

The Income-tax Officer found that the company had distributed less than sixty per cent of its assessable income as dividends and passed an order deeming the undistributed portion as dividends, which the assessee challenged.

Income-tax Officer passed order under Section 23A; Appellate Assistant Commissioner and Income-tax Appellate Tribunal affirmed; Calcutta High Court on reference held in favour of assessee, setting aside the order; Revenue appealed to Supreme Court.

Whether on the facts and circumstances of the case any larger dividend than that declared by the company could reasonably be distributed within the meaning of Section 23A of the Indian Income-tax Act, 1922, and whether the application of Section 23A was in accordance with law. Interpretation of 'smallness of profit' in Section 23A: whether it refers to actual accounting profits or assessable profits. Whether the burden lies on the Revenue to prove that the conditions for invoking Section 23A are satisfied. Whether the balance sheet figures are final or can be rebutted by evidence. Whether estimated tax or actual assessed tax should be deducted from profits for determining distributable income.

Learned Attorney-General for the Revenue contended that the balance sheet of the company on the basis of which dividends were declared was final and the profits disclosed thereunder would be the correct basis for the Income-tax Officer; the balance sheet showed sound financial condition with capital reserve and taxation reserve, justifying the Section 23A order. Alternatively, if the respondent could go behind the balance sheet, both parties should be allowed to do so and the case remanded to ascertain true facts. Mr. A.V. Viswanatha Sastri for the assessee-company contended that the burden lay on the Revenue to establish that the dividend declared was not reasonable and that this burden had not been discharged. He argued that for testing the smallness of profit, the Income-tax Officer had to consider commercial profit, not assessable income, and that considering commercial profit, a higher dividend would be unreasonable. He also pleaded that if the Court allowed the Revenue to go behind the balance sheet, the assessee should also be permitted to prove real commercial profits and that reserves were less than liabilities.

Section 23A of the Indian Income-tax Act, 1922 is a penal provision, and the Revenue must strictly comply with its conditions and bear the burden of proving that the dividend declared was unreasonable. The reasonableness of dividend distribution must be judged from the standpoint of a prudent businessman, considering factors such as previous losses, present profits, availability of surplus money, and future requirements. The expression 'smallness of profit' in Section 23A refers to actual accounting profits in comparison with assessable profits, as accounting profits and assessable profits are distinct concepts. The balance sheet affords only prima facie proof of financial position and can be rebutted by cogent evidence showing items inflated, deflated, or omitted. When tax has already been assessed before action under Section 23A, the actual assessed tax should be deducted, not merely estimated tax.

Section 23A of the Income-tax Act is in the nature of a penal provision. The words 'smallness of profit' in s. 23A of the Act refer to actual accounting profits in comparison with the assessable profits of the year. The reasonableness or the unreasonableness of the amount distributed as dividends is judged by business considerations, such as the previous losses, the present profits, the availability of surplus money and the reasonable requirements of the future and similar others. There is no provision in the Income-tax Act which makes the Balance Sheet final for the purpose of s. 23A of the Act or even for the assessment.

The Income-tax Officer, with previous approval of the Inspecting Assistant Commissioner, passed an order under Section 23A of the Indian Income-tax Act, 1922 deeming Rs.1,07,902 as distributed dividends. The assessee appealed to the Appellate Assistant Commissioner, who upheld the order after noting that assessed income had been reduced on assessment appeal and that the company had no past losses and substantial past profits. On further appeal, the Income-tax Appellate Tribunal held that based on the balance sheet, a dividend of Rs.64,000 being sixty per cent of assessed profits less income-tax could be distributed, and such distribution was not unreasonable. The Tribunal referred the question to the Calcutta High Court under Section 66(1) of the Act. The High Court held that the Tribunal erred in considering past profits, taxation reserves, and balance-sheet profits while ignoring actual assessed tax, and concluded that having regard to the smallness of profits, the order under Section 23A was not justified. The Revenue appealed to the Supreme Court by certificate, and the Supreme Court affirmed the High Court's decision and dismissed the appeal.

• Indian Income-tax Act, 1922: 23A, 66(1)