THE BANK OF RAJASTHAN LTD. vs. COMMISSIONER OF INCOME TAX

2024 INSC 781 REPORTABLE IN THE SUPREME COURT OF INDIA CIVIL APPELLATE JURI ICTION CIVIL APPEAL NOS. 3291­3294 OF 2009 Bank of Rajasthan Ltd. … Appellant

versus Commissioner of Income Tax … Respondent with Civil Appeal Nos.11200­11201 of 2024 (Arising out of S.L.P. (C) Nos. 1445­1446 of 2021) Civil Appeal No.11202 of 2024 (Arising out of S.L.P. (C) No. 4843 of 2020) Civil Appeal No.11203 of 2024 (Arising out of S.L.P. (C) No. 7055 of 2021) Civil Appeal No.11204 of 2024 (Arising out of S.L.P. (C) No. 7404 of 2021) Civil Appeal No.11205 of 2024 (Arising out of S.L.P. (C) No. 15281 of 2021) Civil Appeal No.11196 of 2024 (Arising out of S.L.P. (C) No. 1686 of 2021) Civil Appeal No.11197 of 2024 (Arising out of S.L.P. (C) No. 1687 of 2021) Civil Appeal No.3291­3294 of 2009, etc. Page 1 of 45 Digitally signed by Anita Malhotra Date: 2024.10.16 16:58:06 IST Reason: Signature Not Verified

Civil Appeal No.11198 of 2024 (Arising out of S.L.P. (C) No. 8968 of 2018) Civil Appeal No.11199 of 2024 (Arising out of S.L.P. (C) No. 24841 of 2019) and Civil Appeal No. 4755 of 2023 (Arising out of S.L.P. (C) No. 16299 of 2023) J U D G M E N T ABHAY S. OKA, J.

into the following three categories: (a) Held to Maturity (HTM); (b) Available for Sale (AFS); and (c) Held for Trading (HFT).

company.     Section   21   provided   that   the   interest   payable outside India was not admissible for deduction. Sections 18 to 21 were repealed by the Finance Act, 1988, effective from 1st April 1989. We are dealing with cases involving the period post the deletion of the four Sections.

interest paid by it for the broken period.  The Commissioner relied upon a decision of this Court in the case of  Vijaya Bank   Ltd.   v.   Additional   Commissioner   of   Income   Tax, Bangalore1. This Court held that under the head “interest on securities”, the interest for a broken period was not an allowable deduction. Being aggrieved by the orders of the CIT, the   appellant   preferred   an   appeal   before   the   Income   Tax Appellate   Tribunal   (for   short,   ‘Appellate   Tribunal’).   The Tribunal allowed the appeal by holding that the decision of this Court in the case of  Vijaya Bank Ltd.1  was rendered after considering Sections 18 to 21 of the IT Act, which have been   repealed.     Therefore,   the   Tribunal   held   that   as   the appellant was holding the securities as stock­in­trade, the entire amount paid by the appellant for the purchase of such securities, which included interest for the broken period, was deductible.  The respondent Department preferred an appeal before the High Court against the decision of the Appellate Tribunal.     By   the   impugned   judgment,   the   High   Court interfered and, relying upon the decision of this Court in the case of  Vijaya Bank Ltd.1, allowed the appeal.   This order was impugned in Civil Appeal Nos. 3291­3294 of 2009. 7. All other appeals that  are the subject matter of this group are preferred by the Revenue.   These are the cases where   the  deduction   of   interest   for  the broken  period   was allowed. 1 (1991) Supp (2) SCC 147 Civil Appeal No.3291­3294 of 2009, etc. Page 5 of 45

the case of American Express International Banking Corporation2 has been approved by the order dated 12th August 2008 of this Court in the case of Commissioner of   Income   Tax,   Bombay   v.   Citi   Bank   NA3. The learned counsel pointed out that this Court affirmed the decision of the Bombay High Court in the case of Citi Bank NA3, which in turn relied upon its earlier decision in   the   case   of  American   Express   International Banking Corporation2. c. Our   attention   was   also   invited   to   a   decision   by   this Court in the case of  Commissioner of Income Tax, Andhra   Pradesh,   Hyderabad   v.   The   Cocanada Radhaswami   Bank   Ltd.,   Kakinada4. Inviting   our attention to the said decision, it is pointed out that this Court   accepted   that   the   securities   held   by   Banking companies are held as stock­in­trade.   He pointed out that   this   Court,   in   the   case   of  United   Commercial Bank Ltd.; Calcutta v. Commissioner of Income Tax, West Bengal5, held that government securities are held as stock­in­trade by Banking companies.  He submitted that the assessee pays interest for the broken period to which he is not entitled as after the purchase, when the interest becomes due, the assessee gets income for the 3 Civil Appeal No. 1549 of 2006 4 (1965) 57 ITR 306 : 1965 SCC OnLine SC 186 5 (1957) 32 ITR 688 : 1957 SCC OnLine SC 74 Civil Appeal No.3291­3294 of 2009, etc. Page 7 of 45

entire period even covering the interest payable before the date on which the assessee makes the acquisition. It is submitted that there cannot be any dispute that such securities held by Banking companies constitute stock­in­trade.     He   submitted   that   in   the   case   of Commissioner   of   Income   Tax,   Jalandhar   v. Nawanshahar   Central   Cooperative   Bank   Ltd.6,  it was held that investments are a part of the Banking business,   particularly   when   statutorily   mandated.     It was submitted that Banking companies buy government securities to comply with SLR requirements. d. It is well­settled that in the Banking business, securities purchased by Banks, per se, constitute stock­in­trade of the Bank as normal and ordinary Banking business is to deal in money credit. The money is parked in readily marketable securities so that it is available to meet the demand of depositors. This argument is supported by a decision of this Court in the case of  Bihar State Co­ operative   Bank   Ltd.   v.   Commissioner   of   Income Tax7. e. It   was   contended   that   when   the   interest   income   of securities is uniformly assessed under the head “profits and gains from business or profession”, the decision of this Court in the case of  Citi Bank NA3  will squarely 6 (2007) 289 ITR 6 : (2007) 15 SCC 611 7 (1960) 39 ITR 114 : 1960 SCC OnLine SC 193 Civil Appeal No.3291­3294 of 2009, etc. Page 8 of 45

apply.  It was submitted that in the case of many Banks, for   several   assessment   years,   the   assessment   officer allowed the deduction of interest for the broken period. Reliance was placed on a decision of this Court in the case of M/s. Radhasoami Satsang, Saomi Bagh, Agra v. Commissioner of Income Tax8. f. It was submitted that IndusInd Bank Ltd. is following a practice that interest accrued on a security but not due on the date of purchase of security is debited to the profit and loss account as expenditure and is claimed as such   in   return   of   income.     The   balance   amount remaining after reducing the broken period interest is capitalised to the balance sheet covering the acquisition cost   of   such   securities.     It   is   submitted   that   the department   has   accepted   the   said   methodology   for several   years.     It   was   submitted   that   the   exercise undertaken   by   Revenue   in   disallowing   broken   period interest on the footing that it is a capital expenditure is revenue neutral. It was pointed out that if the deduction of   broken   period   interest   as   a   capital   expense   is disallowed, it will have to be added to the acquisition cost of the securities, which will then be deducted from the sale proceeds when such securities are sold in the subsequent years. It was submitted that, consequently, the related interest received would have to be excluded from the income and truncated from the purchase cost, 8 (1992) 193 ITR 321 : (1992) 1 SCC 659 Civil Appeal No.3291­3294 of 2009, etc. Page 9 of 45

or   alternatively,   both   the   broken   interest   period   and interest   received   thereof   will   be   netted   and added/subtracted   from   the   cost   of   acquisition. Therefore,   the   exercise   done   by   the   Department   is academic.   It was submitted that the decision of this Court in the case of Vijaya Bank Ltd.1 is per incuriam as it was rendered in ignorance of the decisions of this Court in  the  case  of  Cocanada   Radhaswami   Bank Ltd4. Reliance was also placed on the Central Board of Direct Taxes (for short, “the CBDT”) Circular No. 665 of 1993. g. It was also pointed out that though Banks are required to   maintain   SLR   by   investing   amounts   in   specified securities,   as   long   as   Banks   maintain   a   specified percentage of reserve, they are permitted to buy and sell such   securities,   irrespective   of   their   categorisation. There is no embargo on the Bank to hold security in SLR up to the maturity date of the security.   It was submitted that Banks always treat interest income from all   securities   as   profit   or   loss,   irrespective   of   the categorisation of investments.  The interest on securities held by Banks is always taxed under the head “income from business or profession”.  This contention is raised by HDFC Bank.   It was submitted that in accordance with   the   well­settled   and   accepted   method   of accounting,   the   amount   of   broken   period   of   interest Civil Appeal No.3291­3294 of 2009, etc. Page 10 of 45

which is debited in the profit and loss account of the Bank is claimed as a deduction while computing the income   from   business   under   the   head   “income   from business and profession” as the entire interest income is offered to tax under the said head. h. Reliance was placed on the RBI Circular dated 1st July 2009, which permits the debit of broken period interest to the profit and loss account. Reliance was also placed on a Circular dated 2nd  November 2015 issued by the CBDT. The Circular provides that the investments made by a Banking company are a part of the business of the Bank.   Therefore,   income   from   such   investments   is attributable to the business of Banking falling under the head “profit and gain of business and profession”. i. It was submitted that assuming that as per the mandate of   the   1949   Act,   the   securities   are   treated   as investments in the books of accounts, it cannot be held that even for the purposes of the IT Act, securities would continue to be investments and not stock­in­trade.   It was submitted that this Court has repeatedly held that the entries in the books of accounts are not relevant for determining the taxability under the provisions of the IT Act. Reliance is placed on the RBI Circular dated 1st July 2009, which provides that broken period interest is not to be capitalised as part of the cost and is required to be debited to the profit and loss account. Civil Appeal No.3291­3294 of 2009, etc. Page 11 of 45

j. It   is   submitted   that   as   required   by   the   Banking Regulation   Act,   all   three   categories   of   securities   are treated in the same manner, and there is no distinction between the securities which are HTM and the other two categories of securities. It was submitted that Banks can always shift the securities falling in the category of HTM to the other two categories. k. It was further urged on behalf of the assessee that the plea based on distinguishing the nature of the treatment of SLR securities viz­a­viz non­SLR securities has been raised   for   the   first   time   by   the   Revenue   before   this Court. l. Considering the fact that securities are held as stock­in­ trade,   interest   paid   on   them   constitutes   an   expense which is liable to be claimed as a deduction.

Bank Ltd.1 would squarely apply as while omitting Sections 18   to   21,   corresponding   amendments   have   been   made   in Sections   28,   56(2)(d)   and   57(3)   of   the   IT   Act,   and   the securities are now taxable under the head of “Income from other Sources”.   Therefore, the principles laid down in the case of Vijaya Bank Ltd.1 will squarely apply. He argued that the increase in capital by the acquisition of securities results in the expansion of the Bank's capital base, which helps in profit making.   Therefore, the expenditure in the nature of broken   period   interest   was   capital   expenditure.       Learned ASG, thus, submitted that the assessees in these cases will not be entitled to a deduction of broken period interest. CONSIDERATION OF LEGAL POSITION

“14. Heads   of   income.—   Save   as   otherwise provided by this Act, all income shall, for the purposes   of   charge   of   income­tax   and computation of total income, be classified under the following heads of income:— A.—Salaries. B. * * * * * C.—Income from house property. D.—Profits   and   gains   of   business   or profession. E.—Capital gains. F.—Income from other sources.” Civil Appeal No.3291­3294 of 2009, etc. Page 13 of 45

Clause B was of “interest on securities”.  It was deleted with effect from 1st April 1989 along with Sections 18 to 21, which dealt with interest on securities.  Head ‘D’ is of income from “profits   and   gains   of   business   or   profession”   covered   by Section 28 of the IT Act.  Profits and gains from any business or profession that the assessee carried out at any time during the   previous   year   are   chargeable   to   income   tax.     Under Section 36(1)(iii), the assessee is entitled to a deduction of the amount of interest paid in respect of capital borrowed for the purposes of the business or profession.  Section 37 provides that any expenditure which is not covered by Sections 30 to 36 and not being in the nature of capital expenditure, laid out or expended wholly and exclusively for the purposes of the business or profession shall  be allowed for  computing  the income   chargeable   under   the   head   “profits   and   gains   of business or profession”. Section 56 of the IT Act provides that income of every kind which is not to be excluded from the total income under the IT Act shall be chargeable to income tax under the head “income from other sources” if it is not chargeable to income tax under any of the five heads provided in Section 14. Therefore, interest on investments may be covered by Section 56. Section 57 provides for the deduction of expenditure not being in the nature of capital expenditure expended wholly and exclusively for the purposes of making or earning such income.  In the case of interest on securities, any reasonable sum paid for the purposes of realising interest is also entitled to deduction under Section 57 of the IT Act. Civil Appeal No.3291­3294 of 2009, etc. Page 14 of 45

DECISIONS STARTING FROM THE CASE OF VIJAYA BANK LTD.

1

assessee   for   broken   period   interest.   The   assessing   officer followed the decision in the case of  Vijaya Bank Ltd1. The Bombay High Court distinguished the decision in the case of Vijaya Bank Ltd.1 and held thus:

“18. The   assessee­Bank,   like   several   other Banks, were consistently following the practice of valuing the securities/interest held by it at the end of each year and offer for taxation, the appreciation   in   their   value   by   way   of profit/interest   earned   due   to   efflux   of   time. The   Bank   also   claimed   deduction   for   broken period   interest   payments. However,   the department did not accept the assessee's method in the assessment year in question in view of the judgment of the Karnataka High Court in the case of   (Commissioner   of   Income­tax,   Mysore v. Vijaya Bank)5, reported in 1976 Tax Law Reporter page

due dates from R.B.I. on purchase. Therefore, according to the department, the income which the assessee­Bank received came under section 18 of the Income­tax Act interest on securities. Under the circumstances, it was not open to the assessee   Bank   to   claim   deduction   for   broken period   interest   payment   made   to   the selling/transferor Bank. That, it was not open to the   assessee   to   claim   deduction   as   revenue expenditure for broken period interest payment as no such deduction was permissible under sections 19 and 20 of the Income­tax Act. That, it was not a sum   expended   by   the   assessee   for   realizing interest   under   section   19   and,   therefore,   the assessee was not entitled to claim deduction for broken   period   interest   payment   as   a   revenue expenditure under  section  28 of  the Income­tax Act. In this connection, the department followed the   judgment   of   the   Karnataka   High   Court in Vijaya Bank's case. Therefore, the point which we   are   required   to   consider   in   this   case   is: Whether   the   judgment   of   the   Karnataka   High Court in Vijaya Bank's case was applicable to the facts of the present case.

difference   under   the   head   “Business”,   the   A.O. disallowed   the   broken   period   interest   payment, which gave rise to the dispute. It was open to the department to assess the above difference under the head “interest on securities” under section 18. However, they chose to assess the interest under the   head   “business”   and,   while   doing   so,   the department taxed broken period interest received, but disallowed broken period interest payment. It is in this light that one has to read the judgment of the Karnataka High Court and the Supreme Court in Vijaya Bank's case. In that case, the facts were as   follows.   During   the   Assessment   Year   under consideration,   Vijaya   Bank   entered   into   an agreement   with   Jayalakshmi   Bank   Limited, whereby   Vijaya   Bank  took  over  the  liabilities  of Jayalakshmi   Bank.   They   also   took   over   assets belonging   to   Jayalakshmi   Bank.   These   assets consisted of two items viz. Rs. 58,568.00 and Rs. 11,630. 00. The   said   amount   of   Rs.   58,568.00 represented interest, which accrued on securities taken over by Vijaya Bank from Jayalakshmi Bank and Rs. 11,630.00 was the interest which accrued upto   the   date   of   purchase   of   securities   by   the assessee­Bank from the open market. These too amounts were brought to tax by the A.O. under section   18   of   the   Income­tax   Act.   The   assessee Bank claimed that these amounts were deductible under sections 19 and 20. This was on the footing that   the   department   had   brought   to   tax,   the aforestated two amounts as interest on securities under section 18. It is in the light of these facts that   one   has;   to   read   the   judgment   in Vijaya Bank's case. In the light of the above facts, it was held that outlay on purchase of income bearing asset was in the nature of capital outlay and no part   of   the   capital   outlay   can   be   set   off   as expenditure   against   income   accruing   from   the asset in question. In our case, the amount which the assessee received has been brought to tax Civil Appeal No.3291­3294 of 2009, etc. Page 18 of 45

under  the  head   “business”  under  section  28. The amount is not brought to tax under section 18  of the  Income­tax  Act.  After  bringing  the amount to tax under the head “business”, the department   taxed   the   broken   period   interest received   on   sale,   but   at   the   same   time, disallowed broken period interest payment at the   time   of   purchase   and   this   led   to   the dispute. Having assessed the amount received by   the   assessee   under   section   28,   the   only limited   dispute   was   whether   the   impugned adjustments   in   the   method   of   accounting adopted   by   the   assessee   Bank   should   be discarded.   Therefore,   the   judgment   in Vijaya Bank's case has no application to the facts of the   present   case.   If   the   department   had brought to tax, the amounts received by the assessee   Bank   under   section   18,   then Vijaya Bank's case was applicable. But,in the present case,   the   department   brought   to   tax   such amounts   under   section   28   right   from   the inception. Therefore, the Tribunal was right in coming   to   the   conclusion   that   the   judgment in Vijaya Bank's case did not apply to the facts of the present case.  However, before us, it was argued on behalf of the revenue that in view of the judgment   in Vijaya   Bank's   case,   even   if   the securities   were   treated   as   part   of   the   trading assets, the income therefrom had to be assessed under section 18 of the Act and not under section 28 of the Act as income from securities can only come within section 18 and not under section 28. We do not find any merit in this argument. Firstly, as   stated   above, Vijaya   Bank's   case has   no application to the facts of this case. Secondly, in the present case, the Tribunal has found that the securities were held as trading assets. Thirdly, it has   been   held   by   the   Supreme   Court   in   the      Civil Appeal No.3291­3294 of 2009, etc. Page 19 of 45

subsequent decision reported in 57 I.T.R. Page 306,   in   the   case   of C.I.T.   Andhra Pradesh v. Cocanada

Radhaswami

Bank Limited, that income from securities can also come   under   section   28   as   income   from business. This judgment is very important. It analyzes the judgment of the Supreme Court in UCO Bank's case reported in 53 I.T.R. page 250, which has been followed by the Supreme Court   in Vijaya   Bank's   case.   It   is   true   that once   an   income   falls   under   section   18,   it cannot come under section 28. However, as laid down   by   the   Supreme   Court   in Cocanada Radhaswami Bank's case (supra), income from securities treated as trading assets can come under   section   28. In   the   present   case,   the department has treated income from securities under section 28. Lastly, the facts in the case of UCO   Bank reported   in   53   I.T.R.   page   250, also   support   our   view   in   the   present   case. In UCO Bank's case, the assessee Bank claimed a set off under section 24(2) of the Income­tax Act,   1922   (section   71(1)   of   the   present   Act) against its income from interest on securities under   section   8   of   the   1922   Act   (similar   to section   28   of   the   present   Act).   It   was   held that UCO Bank was not entitled to such a set off as the income from interest on securities came   under   section   8   of   the   1922   Act. Therefore,   even   in UCO   Bank's   case,   the department had assessed income from interest on   securities   right   from   the   inception   under section 8 of the 1922 Act and, therefore, the set­off was not allowed under, section 24(2) of the   Act.   Therefore, UCO   Bank's   case has   also no application to the facts of the present case in which the assessee's income from interest Civil Appeal No.3291­3294 of 2009, etc. Page 20 of 45

on securities is assessed under section 28 right from inception, in fact, in UCO Bank's case, the matter was remitted back as it was contended on   behalf   of UCO   Bank that   the   securities   in question were a part of trading assets held by the assessee in the course of its business and the   income   by   way   of   interest   on   such securities was assessable under section 10 of the Income­tax Act, 1922 (similar to section 28 of the present Act). It is for this reason that in the subsequent judgment of the Supreme Court in the case

of Radhaswami

Bank Limited (supra),   that   the   Supreme   Court   has observed, after reading UCO Bank's case, that where   securities   were   part   of   trading   assets, income by way of interest on such securities could come under section 10 of the Income tax Act 1922. 20. In   the   light   of   what   we   have   discussed hereinabove, we find that the assessee's method of accounting does not result in loss of tax/revenue for the department. That, there was no need to interfere with the method of accounting adopted by the assessee­Bank. That, the judgment in the case of Vijaya Bank had no application to the facts of the case. That, having assessed the income under section 28, the department ought to have taxed interest for broken period interest received and the department ought to have allowed deduction for broken period interest paid.” (emphasis added)

purchase of securities.  In this decision, this Court quoted the above   paragraphs   from   the   decision   of   the   Bombay   High Court   in   the   case   of  American   Express   International Banking Corporation2. This Court expressly approved the conclusions recorded by the Bombay High Court. This Court held thus: “The facts in the present case are similar to the facts in American Express (supra).   Agreeing with this view and accepting the distinction pointed out by the Bombay High Court, this Court dismissed the two special leave petitions filed by the revenue, one   of   which   was   dismissed   by   a   three   Judge Bench. After going through the facts which are similar to the facts in American Express (supra), since the tax effect is neutral, the method of computation adopted   by   the   assessee   and   accepted   by   the revenue cannot be interfered with. We agree with the view expressed by the Bombay High Court in American Express (supra) that on the facts of the present case, the judgment in Vijaya Bank Ltd. (supra) would have no application.” Thus, this Court approved the view taken by the Bombay High Court that the interest paid for the broken period should not be considered as part of the purchase price, but it should be allowed as revenue expenditure in the year of purchase of securities.   This Court has reiterated the view taken by the Bombay   High   Court   in   the   case   of  American   Express International Banking Corporation2. Civil Appeal No.3291­3294 of 2009, etc. Page 22 of 45

WHETHER SECURITIES ARE HELD AS STOCK­IN­TRADE

“3. Learned counsel for the Revenue argued that the   income   from   business   and   securities   fell under different heads, namely, Section 10 and Section 8 of the Act respectively, that they were mutually   exclusive   and,   therefore,   the   losses under the head “business” could not be carried forward   from   the   preceding   year   to   the succeeding year and set off under Section 22(4) of  the  Act  against   the   income  from  securities held by the assessee.

the business i.e. income from the business including the income from the securities.

forward of the loss of one year and setting off of the   same   against   the   profit   or   gains   of   the assessee   from   the   same   business   in   the subsequent   year   or   years   The   crucial   words, therefore, are “profits and gains of the assessee from   the   same   business”   i.e.   the   business   in regard   to   which   he   sustained   loss   in   the previous   year.  The   question,   therefore,   is whether   the   securities   formed   part   of   the trading assets of the business and the income therefrom was income from the business. The answer   to   this   question   depends   upon   the scope of Section 6 of the Act. Section 6 of the Act classified taxable income under the following   several   heads   :   (i)   salaries;   (ii) interest   on   securities;   (iii)   income   from property; (iv) profits and gains of business, profession or vocation; (v) income from other sources; and (vi) capital gains. The scheme of the Act is that income tax is one tax. Section 6   only   classifies   the   taxable   income   under different   heads   for   the   purpose   of computation   of   the   net   income   of   the assessee.   Though   for   the   purpose   of computation   of   the   income,   interest   on securities is separately classified, income by way of interest from securities does not cease to be part of the income from business if the securities   are   part   of   the   trading   assets. Whether a particular income is part of the income from a business falls to be decided not on the basis of the provisions of Section 6 but on commercial principles. To put it in other words, did the securities in the present case which yielded the income form part of the   trading   assets   of   the   assessee?   The Tribunal and the High Court found that they were   the   assessee's   trading   assets   and   the      Civil Appeal No.3291­3294 of 2009, etc. Page 25 of 45

income therefrom was, therefore, the income of the business. If it was the income of the business,   Section   24(2)   of   the   Act   was immediately attracted. If the income from the securities was the income from its business, the loss could, in terms of that section, be set off against that income.

therefore, is enacted to give further relief to an assessee carrying on a business and incurring loss   in   the   business   though   the   income therefrom   falls   under   different   heads   under Section 6 of the Act.

each specific head covering items of income arising   from   a   particular   source.   On   that reasoning this Court held that even though the securities were part of the trading assets of the company doing business, the income therefrom had to be assessed under Section 8 of the Act. This decision does not say that the   income   from   securities   is   not   income from the business. Nor does the decision of this   Court   in East   India   Housing   and   Land Development Trust Ltd. v. CIT [(1961) 42 ITR 49] support the contention of the Revenue. There, a company, which was incorporated with the   objects   of   buying   and   developing   landed properties   and   promoting   and   developing markets,   purchased   10   bighas   of   land   in   the town of Calcutta and set up a market therein. The question was whether the income realised from the tenants of the shops and stalls was liable to be taxed as “business income” under Section 10 of the Income Tax Act or as income from   property   under   Section   9   thereof.   This Court held that the said income fell under the specific head mentioned in Section 9 of the Act. This   case   also   does   not   lay   down   that   the income from the shops is not the income in the business.

In CIT v. Express

Newspapers Ltd [(1964) 53 ITR 250, 260] this Court held that both Section 26(2) and the proviso thereto dealt only   with   profits   and   gains   of   a   business, profession, or vocation and they did not provide for the assessment of income under any other head   e.g.   capital   gains.   The   reason   for   that conclusion is stated thus: “It (the deeming clause in Section 12­B) only introduces a limited fiction, namely, that   capital   gains   accrued   will   be deemed   to   be   income   of   the   previous year in which the sale was effected. The      Civil Appeal No.3291­3294 of 2009, etc. Page 28 of 45

fiction does not make them the profits or gains of the business. It is well settled that   a   legal   fiction   is   limited   to   the purpose   for   which   it   is   created   and should   not   be   extended   beyond   its legitimate field … The profits and gains of   business   and   capital   gains   are   two distinct concepts in the Income Tax Act : the former arises from the activity which is called business and the latter accrues because capital assets are disposed of at a value higher than what they cost the assessee.   They   are   placed   under different   heads;   they   are   derived   from different   sources;   and   the   income   is computed under different methods. The fact that the capital gains are connected with the capital assets of the business cannot   make   them   the   profit   of   the business. They are only deemed to be income of the previous year and not the profits   or   gains   arising   from   the business during that year.” It will be seen that the reason for the conclusion was that capital gains were not income from the business.   Though   some   observations   divorced from content may appear to be wide, the said decision was mainly based upon the character of the   capital   gains   and   not   upon   their   non­ inclusion   under   the   heading   “business”.   The limited   scope   of   the   earlier   decision   was explained by this Court in CIT v. Chugandas & Co. [(1965) 55 ITR 17, 24] . Therein this Court held that interest from securities formed part of the assessee's business income for the purpose of   exemption   under   Section   25(3).   Shah,   J., speaking for the Court, observed: “The heads described in Section 6 and further   elaborated   for   the   purpose   of      Civil Appeal No.3291­3294 of 2009, etc. Page 29 of 45

computation of income in Sections 7 to 10 and 12, 12­A, 12­AA and 12­B are intended merely to indicate the classes of   income   :   the   heads   do   not exhaustively delimit sources from which income arises. This is made clear in the judgment   of   this   Court   in   the United Commercial Bank Ltd. case [(1958) SCR 79] , that business income is broken up under   different   heads   only   for   the purposes   of   computation   of   the   total income : by that break up the income does   not   cease   to   be   income   of   the business, the different heads of income being only the classification prescribed by   the   Indian   Income   Tax   Act   for computation of income.”” (emphasis added) The same principles apply to the cases in hand.

“2. In   its   return   the   appellant   showed   these various  sums  as  “other   sources”,  but   nothing turns   on   the   manner   in   which   the   appellant chose  to   show  this  income  in  its  return.  The Income   Tax   Officer,   however,   assessed   the interest for these three years under Section 12 of the   Income   Tax   Act,   as   income   from   “other sources”. The appellant took an appeal to the Appellate Assistant Commissioner where it was contended that as the business of the appellant Bank   consisted   of   lending   money   and   the deposits had been made not for the purpose of investment but for that business and thereby Civil Appeal No.3291­3294 of 2009, etc. Page 30 of 45

fulfilling the purpose for which the cooperative Bank   was   constituted,   these   various   sums   of interest were not subject to income tax because of   the   notification   issued   by   the   Central Government under Section 60 of the Income Tax Act.   The   relevant   portion   of   that   notification, CBR Notification 35 dated 20­10­1934, and No. 33 dated 18­8­1945, was: “The following classes of income shall be exempt from the tax payable under the said Act, but shall be taken into account in   determining   the   total   income   of   an assessee for the purpose of the said Act: *** (2) The profits of any cooperative society other than the Sanikatta Salt Owners' Society in the Bombay Presidency for the time   being   registered   under   the Cooperative Societies Act, 1912 (Act 2 of 1912), the Bombay Cooperative Societies Act, 1925 (Bombay Act 7 of 1925), or the Madras Cooperative Societies Act, 1932 (Madras Act 6 of 1932), or the dividends or   other   payments   received   by   the members of any such society out of such profits. Explanation :   For   this   purpose   the profits of a cooperative society shall not be   deemed   to   include   any   income, profits or gains from: (1) Investments in (a) securities of the nature  referred  to   in  Section  8  of  the Indian Income Tax Act; or (b) property of the  nature   referred   to  in   Section   9  of that Act; (2) dividends, or      Civil Appeal No.3291­3294 of 2009, etc. Page 31 of 45

(3)   the   ‘other   sources’   referred   to   in Section   12   of   the   Indian   Income   Tax Act.” The Appellate Assistant Commissioner, however, repelled the contention of the appellant. He held that the business of the appellant consisted of ‘lending   money,   and   selling   agricultural   and other products to its constituents’ which could be planned ahead and required no provision for extraordinary   claims   He   remarked   that   it appeared from the balance sheets that in the Accounting   Year   1945   the   Bank   invested   Rs 13,50,000   as   fixed   deposits,   which,   in   the following year was raised to Rs 15,00,000 and it was only in the Accounting Year 1947 that the fixed deposits, “were realised on maturity with interest”. He was also of the opinion that the length of the period during which this money “was   kept  locked   in   this   way”   showed   clearly that “not the exigencies of pressing necessities, but the motives of investment of surplus fund had  actuated   the   deposits”.  He   therefore   held that the fixed deposits with Imperial Bank were held   as   an   investment   quite   apart   from   the business of the appellant and the interest from these deposits was not exempt from income tax. He further held that the exemption as to  the profit   of   a   cooperative   society   extended   to   its sphere   of   cooperative   activities   and   therefore interest   from   investments   was   no   part   of   the appellant's   business   profits   exempt   from taxation. Against this order an appeal was taken to the Income Tax Appellate Tribunal and it was there contended that the Bank did not make the deposits as investments, but in order that cash might   be   available   to   the   appellant “continuously”   for   the   carrying   on   of   the purposes of its business, and that the deposits were intimately connected with the business of      Civil Appeal No.3291­3294 of 2009, etc. Page 32 of 45

the appellant and therefore the interest should have been held to be profits arising from the business   activities   of   the   Bank,   and   that   the finding that the short­term deposits in Imperial Bank   were   separate   from   the   appellant's Banking business was  erroneous. The  Income Tax Appellate Tribunal, by its order dated 11­4­ 1955, held: “(1)   That   the   interest   was   an   income rightly to be included under the head of ‘other sources’. *** (2) The profits of a cooperative society indicates   the   profit   derived   from   the business which can be truly called the business   of   the   cooperative   society. Investments   by   the   society   either   in securities or in shares or in Bank fixed deposits are made out of surplus funds. The   interest   or   dividend   derived   from such investment cannot be regarded as part of the profits of the business (sic) qua such Bank and therefore, it is not exempt

from income

tax (vide Hoshiarpur   Central   Cooperative Bank v. CIT [24 ITR 346, 3501], 24 I.T.R. 346, 350).” Against   this   order   a   case   was   stated   at   the instance of the appellant under Section 66(1) of the Act, and the following two questions of law were referred for the opinion of the High Court: (1) Whether, in the facts and circumstances of this case, the receipt of interest on fixed deposits was   an   income   under   the   head   of   “other sources”: and      Civil Appeal No.3291­3294 of 2009, etc. Page 33 of 45

(2) Whether in the facts and circumstances of this case, the receipt of interest from the fixed deposits   was   an   income   not   exempt   from taxation   under   the   CBR   Notification   No.   35 dated 20­10­1934 and No. 33 dated 18­8­1945.” In paragraphs 9 and 10, this Court proceeded to hold thus:

“9. In the instant case the cooperative society (the appellant) is a Bank. One of its objects is to carry  on the  general  business of Banking. Like other Banks money is its stock­in­trade or circulating capital and its normal business is to deal in money and credit. It cannot be said that the business of such a Bank consists only in receiving   deposits   and   lending   money   to   its members   or   such   other   societies   as   are mentioned in the objects and that when it lays out   its   moneys   so   that   they   may   be   readily available to meet the demand of its depositors if and when they arise, it is not a legitimate mode of carrying on of its Banking business. The Privy Council in Punjab Cooperative Bank Ltd. v. CIT Lahore [24 ITR 346, 350] where the profits   arose   from   the   sale   of   government securities   pointed   out   at   p.   645   that   in   the ordinary   cases   the   business   of   a   Bank essentially consists of dealing with money and credit. Depositors put their money in the Bank at a small rate of interest and in order to meet their demands if and when they arise the Bank has   always   to   keep   sufficient   cash   or   easily realisable securities. That is a normal step in the   carrying   on   of   the   Banking   business.   In other words that is an act done in what is truly the carrying on or carrying out of a business. It may be added that another mode of conducting business   of   a   Bank   is   to   place   its   funds   in      Civil Appeal No.3291­3294 of 2009, etc. Page 34 of 45

deposit with other Banks and that also is to meet demands which may be made on it. It was however   argued   that   in   the   instant   case   the moneys had been deposited with Imperial Bank on long   term   deposits   inasmuch   as   they   were deposited for one year and were renewed from time to time also for a year; but as is shown by the accounts these deposits fell due at short intervals and would have  been available to  the  appellant had any need arisen.

them   would   form   part  of  its   profits  from  its business. In a commercial sense the directors of the Company owe it to the Bank to make investments which earn them interest instead of letting moneys lie idle. It cannot be said that the funds of the Bank which were not lent to borrowers   but   were   laid   out   in   the   form   of deposits in another Bank to add to the profit instead of lying idle necessarily ceased to be a part of the stock­in­trade of the Bank, or that the interest arising therefrom did not form part of its business profits. Under the bye­laws one of the objects of the appellant Bank is to carry on the general business of Banking and therefore subject to the Cooperative Societies Act, it has to carry on its business in the manner that ordinary Banks do. It may be added that the various heads under Section 6 of the Income Tax Act and the provisions of that Act applicable to these various heads are mutually   exclusive.   Section   12   is   a   residuary section and does not come into operation until the preceding   heads   are   excluded. CIT v. Basant   Rai Takht Singh [(1933) ITR 197, 201].” (emphasis added)

case, Californian

Copper Syndicate v. Harris [(1904) 6 F. 894 : 5 Tax Cas. 159.]   and  the   statement   has   been  more  than once approved both in the House of Lords and in the Judicial

Committee:

See

for example Commissioner   of   Taxes v. Melbourne Trust Ltd. [1914 A.C. 1001 at p. 1010.]. Some 9 (1940) SCC Online PC 46 Civil Appeal No.3291­3294 of 2009, etc. Page 36 of 45

dicta which appear to support the view that it is necessary to prove that the taxpayer has carried on a separate or severable business of buying and selling investments with a view to profit in order to establish that profits made on the sale of   investments   are   taxable,   for   example,   the dicta   in   the   case   of Commissioners   of   Inland Revenue v. Scottish   Automobile   and   General Insurance Co. [(1913­16) 6 Tax Cas. 381, at pp. 388, 389.] , cannot now be relied on. It is well established,   to   cite   the   exact   words   used in Californian Copper Syndicate v. Harris [(1904) 6 F. 894 : 5 Tax Cas. 159.]. “that   enhanced   values   obtained   from realization   or   conversion   of   securities may   be   so   assessable   where   what   is done   is   not   merely   a   realization   or change of investment, but an act done in what is truly the carrying on, or carrying out, of a business”. In the ordinary case of a Bank, the business consists in its essence of dealing with money and credit. Numerous depositors place their money with the Bank often receiving a small rate of interest on it. A number of borrowers receive   loans   of   a   large   part   of   these deposited funds at somewhat higher rates of interest. But the Banker has always to keep enough cash or easily realisable securities to meet any probable demand by the depositors. No   doubt   there   will   generally   be   loans   to persons   of   undoubted   solvency   which   can quickly   be   called   in,   but   it   may   be   very undesirable   to   use   this   second   line   of defence. If as in the present case some of the securities of the Bank are realised in order to meet withdrawals by depositors, it seems to their Lordships to be quite clear that this is a      Civil Appeal No.3291­3294 of 2009, etc. Page 37 of 45

normal   step   in   carrying   on   the   Banking business, or, in other words, that it is an act done in “what is truly the carrying on” of the Banking   business.   This,   it   appears   to   their Lordships,   is   the   more   appropriate   and satisfactory   ground   for   dealing   with   the question arising in the present case.” (emphasis added)

comprising   securities,   which   are   to   be   treated   as   capital assets, and the other can be a trading portfolio comprising stock­in­trade, which are to be treated as trading assets.

the   profit   earned   from   the   sale   would   be   reduced   by   the amount   of   broken   period   interest. Therefore,   the   exercise sought to be done by the Department is academic.

observed that the appellant­Bank, in its books of accounts and annual report, offered taxation on the basis of actual interest received and not on a due basis.

assessing officer had treated the interest income earned by the   respondent   Bank   on   securities   as   income   from   other sources.     The   Tribunal   observed   that   the   investments   in securities   are   in   stock­in­trade,   and   this   fact   has   been accepted in the past by the Income Tax department.  It was held that the securities in the category of HTM were also held as   stock­in­trade,   and   income/loss   arising   out   of   such securities,   including   HTM   securities,   has   been   treated   as business income/loss.  The Appellate Tribunal held that the interest   for   the   broken   period   would   be   admissible   as   a deduction, and the High Court confirmed the same.  We may note   here   that   the   Tribunal   followed   the   decision   of   the Bombay High Court in the case of HDFC Bank Ltd. v. CIT11. We find no error in the view taken in this case.

the Revenue will have to be dismissed subject to clarification regarding securities of the HTM category.