NAVNITLAL C. JAVERI vs. K. K. SEN, APPELLATE ASSISTANT COMMISSIONER OF INCOME-TAX, D RANGE, BOMBAY

CIVIL APPEAL No. 45/1964Supreme Court[1965] 1 S.C.R. 90928 October 1964Bench: 5 JudgesAuthor: P.B. GAJENDRAGADKAR, K.N. WANCHOO, M. HIDAYATULLAH, RAGHUBAR DAYAL, J.R. MUDHOLKAR B24 pages
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What were the facts?

The assessee, Navnitlal C. Javeri, a shareholder in Malegaon Electricity Co. (Private) Ltd., received a loan exceeding Rs. 4 lakhs from the company. The Income-tax Officer computed his income, including Rs. 2,83,126 from the company's accumulated profits, under Section 12(1B) read with Section 2(6A)(c) of the Income-tax Act, 1922. The assessee challenged the constitutional validity of these sections, arguing that the accumulated profits were not his income and the legislature lacked competence. His writ petition was dismissed by the High Court, leading to this appeal before the Supreme Court. The company's ordinary business was not money-lending, and the assessee held 11 out of 845 shares.

What did the Supreme Court hold?

The Supreme Court, in a majority decision (Gajendragadkar C.J., Wanchoo, Hidayatullah, and Mudholkar JJ.), held that Sections 2(6A)(c) and 12(1B) are within the legislative competence of Parliament. The Court reasoned that these sections apply to controlled companies where a group of persons allied together can determine profit distribution. When such companies advance accumulated profits as loans to shareholders to evade tax, the Legislature is competent to create a fiction deeming such loans as dividends. The wide interpretation of 'income' under Entry 82, List I, allows for such anti-evasion measures. The absence of a provision for the Income-tax Officer to assess the genuineness of each loan does not invalidate the section, as the Legislature can prescribe such fictions if it believes loans are generally for tax evasion. Furthermore, the Court found that Section 12(1B) does not impose unreasonable restrictions on fundamental rights, as the loans are deliberately taken to evade tax, and the other shareholders have agreed to this arrangement. The company receives interest, and the shareholder benefits from the use of money, while tax is evaded. The majority decision allowed the appeal. However, Raghubar Dayal J. dissented, finding the sections void as they lacked a rational connection to the concept of dividend and imposed unreasonable restrictions on the right to hold property by deeming loans exceeding proportionate shares as income.

What were the issues?

1. Whether Sections 2(6A)(c) and 12(1B) of the Income-tax Act, 1922, are beyond the legislative competence of Parliament, specifically concerning Entry 82 of List I of the Seventh Schedule to the Constitution, in treating loans from a controlled company to a shareholder as income. - Assessee's contention: The sections are beyond legislative competence as they deem an ostensible loan as income, which is not rationally connected to the concept of dividend. The Legislature cannot arbitrarily define 'dividend' and include it as 'income'. - Revenue's contention: The sections are within legislative competence as they are designed to prevent tax evasion by controlled companies that distribute profits as loans instead of dividends. The term 'income' in Entry 82 should be interpreted broadly. 2. Whether Sections 2(6A)(c) and 12(1B) of the Income-tax Act, 1922, impose unreasonable restrictions on the assessee's fundamental rights under Article 19(1)(f) and (g) of the Constitution. - Assessee's contention: The provisions are unreasonable as they deem an entire loan as dividend, even if it exceeds the shareholder's proportionate share of accumulated profits, thereby prejudicially affecting their right to property. - Revenue's contention: The sections do not impose unreasonable restrictions as they target devices for tax evasion, and the loans are deliberately taken by shareholders to assist the company in evading tax. Past transactions were excluded by a circular.

Which sections of the Income-tax Act were involved?

Section 12(1B),Section 2(6A)(c),Section 23A,Section 16(3)(a)

AI-generated summary — verify with the full judgment below

A B c D E F G H NA VNITLAL C. JA VERI v. K. K. SEN, APPELLATE ASSISTANT COMMISSIONER OF INCOME-TAX, 'D' RANGE, BOMBAY October 28, 1964 (P. B. GAJENDRAGADKAR C.J., K. N .. WANCHOO, M. HIDAYATULLAH, R.AGHUBAR DAYAL AND J, R. MUDHOLKAR JJ.)

Constitution of India, 1950, List I, '·vu Schedule, Entry 82-Income-- Income-tax Act (11of1922), ss. 2(6'.)(e) and 12(18)-Legislative com- petence and constitutional validity. ·· The assessee was a share holder in a private limitod company whose ordi- naiy business was not money-lending -~usiness. He took a loan amounting to 1!fer Rs. 4 lakhs from a company. The Income-tax Officer computed the assessee's income at Rs. 3 lakhs and odd, under s. 12(1B) read with s. 2( 6A) ( c) of the Income-tax Act, 1922. That amount included a sum of over Rs. 2 lakhs representing tho accumulated profits of the company.

The assessee's share in the accumulated profits, if distributed as dividend, would be an amount proportionate to the number of shares held by him.

He therefore contended, that the balance of the accumulateu profits was not his income and that the Legislature was not competent to enact the two sectiO,!lS according to which th

The order continues below.

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