VARADARAJAN J.

The question of law referred by the Income-tax Appellate Tribunal, Madras, for the opinion of this court at the instance of the revenue is this

"Whether, on the facts and in the circumstances of the case, the Appellate Tribunal was right in holding that the royalty amounts should be assessed on cash basis for 1967-68, 1968-69, and 1969-70 assessment if the books and balance-sheet of such receipts were found to be maintained on cash basis and in directing fresh assessment on such basis " *

The assessee is a non-resident company having its place of business at Coventry in the United Kingdom. Under the collaboration agreement of the assessee with the Standard Motor Products of India Ltd., the assessee, is entitled to payment every half year of a royalty calculated at the sterling equivalent of 5 per cent. of the sale proceeds of all Standard motor cars and components sold by the Indian company. For the assessment years 1967-68 and 1968-69 the assessee submitted returns admitting royalty income of Rs. 7, 21, 600 and Rs. 4, 57, 311 respectively for the years ended September 30, 1966, and September 30, 1967, respectively. The assessee stated in the returns that it was maintaining accounts on the mercantile system, and did not dispute its liability to assessment. But, for the assessment year 1969-70 the assessee admitted a royalty of Rs. 9, 25, 257 for the year ended September 30, 1968 and filed a nil return saying that it was maintaining accounts on the cash basis and not on the mercantile basis and that no part of the royalty has been received and that it is not taxable

The ITO found that the original agreement dated October 19, 1959, between the assessee and the Indian company expired on November 24, 1965, and a fresh agreement had been entered into between them in June, 1966, with retrospective effect from November 25, 1965, and he assessed the royalty of Rs. 6, 46, 395 earned after that date at 50 per cent. for the assessment year 1967-68 and levied interest of Rs. 31, 610 under s. 139(8) of the I.T. Act for the period of default on the ground that the return due on October 1, 1967, was filed only on August 19, 1968. For the subsequent assessment year 1968-69 the ITO held that the entire amount was taxable at 50 per cent. and for the next assessment year 1969-70 he found that the Indian company maintains accounts on the mercantile basis and that the royalty of Rs. 9, 25, 257 was taxable at 50 per centThe assessee filed an appeal before the AAC for each of the assessment years 1967-68 to 1969-70. There was no dispute that during the previous years relevant to the assessment years 1967-68 and 1968-69 the assessee was entitled to receive royalty of Rs. 7, 21, 600 and Rs. 4, 57, 311 respectively which, in fact, were declared as the assessees income in the returns filed for those assessment years. The AAC found that the records did not disclose anything to show that the assessee was contesting at any stage of the assessment proceedings relating to the assessment years 1967-68 and 1968-69 its liability to be assessed to tax on those royalty incomes. But before the AAC it was contended that the assessee was maintaining accounts on cash basis and that in the absence of actual payment of the royalty by the Indian company, the assessee was not liable for assessment on any income by way of royalty. The further contention put forward before the AAC on behalf of the assessee was that though the Indian company had credited the assessee in its account books for the calendar year, the assessee making up its accounts to 30th September each year, had neither received the amount nor taken credit for the amount in its books at Coventry and that the assessee maintains its accounts on cash basis and cannot be taxed until the royalty is actually received having regard to s. 145(1) of the I.T. Act. This was the position taken up on behalf of the assessee before the AAC in respect of all the three assessment years. The AAC held that since the ITO had found that the assessee was assessable to tax on the basis of accrual of income, the assessees accounting is according to the mercantile system especially having regard to the fact that the assessment orders of the past revealed that the assessees method of accounting was mercantile and that it was not open to the assessee to change the method of accounting without the approval of the ITO to suit its own convenience. The AAC accordingly found that the assessee had been rightly assessed on accrual basis and dismissed the appealsThe assessee filed three further appeals before the Income-tax Appellate Tribunal. It was contended before the Tribunal, as can be seen from page 70 of the typed set of papers, that the assessee was not following any regular method of accounting while returning the income and that it was the Indian company which was finally filing the returns of income on behalf of the assessee by incorporating the figures in its profit and loss account, not being aware of the assessees system of accounting in regard to royalty and that the assessee came forward to correct the mistake after it noticed the same and mentioned in the return submitted for the assessment year 1969-70 that the method of accounting was on cash basis. The Tribunal found that in respect of the assessment year, 1963-64 nothing had been mentioned about the method of accounting and that in respect of the assessment year 1964-65, the method of accounting was mentioned as cash basis. As already stated, the assessee had mentioned the method of accounting in the returns filed for the assessment years 1967-68 and 1968-69 as mercantile basis and in the return filed for the assessment year 1969-70 as cash basis. The Tribunal, therefore, thought that it was necessary to go into the question of the method of accounting adopted by the assessee afresh and remanded the matters for all three assessment years to the ITO. The Tribunal gave liberty to the parties to adduce additional evidence in regard to the matter, and it directed that the assessment should be on cash basis if it is found that the assessee was maintaining its accounts and balance-sheet on cash basis in respect of the royalty

Section 5(1) of the I.T. Act, 1961, deals with the scope of total income of any previous year of a person who is a resident in India. Section 5(2), dealing with the scope of the income of a non-resident, lays down that

"Subject to the provisions of this Act, the total income of any previous year of a person who is a non-resident includes all income from whatever source derived which--

(a) is received or is deemed to be received in India in such year by or on behalf of such person; or

(b) accrues or arises or is deemed to accrue or arise to him in India during such year." *

Section 145 reads thus

(1) Income chargeable under the head Profits and gains of business or profession or income from other sources shall be computed in accordance with the method of accounting regularly employed by the asssssee

Provided that in any case where the accounts are correct and complete to the satisfaction of the Income-tax Officer but the method employed is such that, in the opinion of the Income-tax Officer, the income cannot properly be deduced therefrom, then the computation shall be made upon such basis and in such manner as the Income-tax Officer may determine

(2) Where the Income-tax Officer is not satisfied about the correctness or the completeness of the accounts of the assessee, or where no method of accounting has been regularly employed by the assessee, the Income-tax Officer may make an assessment in the manner provided in section 144.

"Section 144 provides for the best judgment method of assessment and determination of the sum payable by the assessee or refundable to the assessee on the basis of such assessment

Clause 5(a) of the agreement dated June 29, 1966, between the assessee and the Indian company referred to above, provides for payment by the Indian company to the assessee at the end of each half-yearly period during the continuance of the agreement, a royalty of five per centum less Indian tax, etc., in sterling and states that all such payments shall be made by confirmed irrevocable letters of credit drawn on an acceptable bank in London within ninety days of the end of each such half-yearly period or by such other methods of payment as the assessee may , from time to time, agree in writing. The net royalty thus becomes payable to the assessee at the end of each half-yearly period in sterling, and the Indian company is bound by the agreement to make such payments by confirmed irrevocable letters of credit drawn on an acceptable bank in London within ninety days of the end of each half-yearly period or by other method of payment as may, from time to time, be agreed in writing between the assessee and the Indian company. This would show that it is open to the assessee to obtain payment of the royalty from a bank in London under confirmed irrevocable letters of credit drawn by the Indian company within 90 days of the end of each half-yearly periodAs mentioned above, it had been contended before the Tribunal that the assessee was not following any regular method of accounting while returning the income and that it was the Indian company which was finally filing the returns of income on behalf of the assessee by incorporating the figures as per its profit and loss account, and that the Indian company was not aware of the assessees system of accounting in regard to the royalty. It is seen from the Indian companys letter dated September 6, 1965, found at page 37 of the typed set of papers, that the Indian company had enclosed with that letter the return of income for the assessment year 1965-66, received from the assessee for onward transmission to the ITO and that the Indian company had informed the ITO that the tax of Rs. 1, 84, 709.20 had already been paid to the credit of the Government on 24th June, 1965. Therefore, it is probable that the return of income was being forwarded by the assessee from its office at Coventry in the United Kingdom, with all the particulars except the quantum of the royalty, to the Indian company for the quantum alone being incorporated in the return before the return is forwarded by the Indian company to the taxing officer

Reference has been made in the orders of the AAC and the Tribunal to the decision of the Supreme Court in Keshav Mills Ltd. v. CIT where we find the following observations" *

Mr. Kolah appearing for the company drew our attention to the following cases : Subramanian Chettiar v. Commissioner of Income-tax 1927 (50) ILR(Mad) 765 ; 1927 AIR(Mad) 841, Ahmad Din Alla Ditta v. Commissioner of Income-tax Kanwalnen Hamir Singh v. Commissioner of Income-tax and Commissioner of Income-tax v. Shrimati Singari Bai The assessees there were all residents in British India and maintained their books of account according to the mercantile system. Except in the case of Commissioner of Income-tax v. Singari Bai where the assessment was in respect of the total income or profits, stray items of income treated as received in British India were sought to be charged for tax and they were all assessed for tax not on the basis of actual receipts in British India but on the basis of their having accrued or arisen in British India. The cases were decided with reference to the law as it stood before the amendment in 1939 which under section 4(1) rendered liable to tax all income, profits or gains from whatever source derived, accruing or arising or received in British India or deemed under the provi- sions of the Act to accrue, arise or to be received in British India. The question that arose for the determination of the courts was whether, under the mercantile system, profits which were credited in the books could be taxed even though they had in fact not been received and the conclusion reached by the courts was that these profits credited in the books of account were earned and could be charged as having accrued or arisen within British India even though they were in fact not received. In none of these cases were the courts concerned with a non-resident claiming to have received profits or gains outside British India under the mercantile system of accounting and claiming exemption from liability to tax under section 4(1)(a) in respect of profits actually received in British India

It follows from the above that the mercantile system of accounting treats profits or gains as arising or accruing at the date of the transaction notwithstanding the fact that they are not received or deemed to be received, and under that system, book profits are assessed as liable to taxMr. Kolah pressed into service the argument based on section 13 of the Act that the mercantile system of accounting regularly adopted by the assessee was obligatory on the income-tax authorities for computation of his income. While agreeing generally with that submission in case of residents, we doubt whether that position would be available to a non-resident, who maintains his books of account outside British India according to the mercantile system. The section would only be relevant where the total profits of the assessee have to be computed, in which event he would be entitled to claim that they should be computed according to the system of accounts maintained by him. But the section would hardly be relevant where stray items of income are caught in taxable territories as received in taxable territories by a non-resident.

"The revenue appears to have relied upon the latter portion of the above observation before the AAC and the Tribunal, namely, that their Lordships of the Supreme Court doubt whether the position, namely," *

that the mercantile system of accounting regularly adopted by the assessee was obligatory on the income-tax authorities for computation of his income

"would be available to a non-resident who maintains his books of accounts outside British India according to the mercantile system. The learned counsel for the assessee invited our attention to a number of decisions and submitted that the said latter part of the aforesaid observation of the Supreme Court in that case is in the nature of obiter dicta and could not be relied upon for the purpose of deciding this case. We need not consider how far the observation of the Supreme Court is binding on us, for we proceed to deal with the matter on our own

The learned counsel for the assessee invited our attention to the decision of the Supreme Court in CIT v. McMillan & Co. which was relied upon by the assessee even before the TribunalIn that case, governed by the provisions of the Indian I.T. Act, 1922, it has been observed" *

Section 13 and its proviso are concerned with the method of accounting. In the context of the statement of the case, however, the first question really means this : Is it open to the Appellate Assistant Commissioner, on an appeal preferred by the assessee, to reject for the first time the method of accounting, purporting to act under the proviso to section 13 of the Act, on the ground that the income, profits and gains cannot be properly deduced therefrom, when the Income-tax Officer, although he has not expressly said so, must be taken to have accepted the self-same method of account

The answer to the question depends on a correct interpretation of sections 13 and 31 of the Act. We shall first read section 13 of the Act

13. Income, profits and gains shall be computed, for the purposes of sections 10 and 12, in accordance with the method of accounting regularly employed by the assessee

Provided that, if no method of accounting has been regularly employed, or if the method employed is such that, in the opinion of the Income-tax Officer, the income, profits and gains cannot properly be deduced therefrom, then the computation shall be made upon such basis and in such manner as the Income-tax Officer may determine.

The section enacts that for the purposes of section 10 (profits of business, profession or vocation) and section 12 (income from other sources) income, profits and gains must be computed in accordance with the method of accounting regularly employed by the assessee. The choice of the method of accounting lies with the assessee ; but the assessee must show that he has followed the method regularly for his own purposes. The section and the proviso read together clearly make such a method of accounting regularly employed by the assessee a compulsory basis of computation unless, in the opinion of the Income-tax Officer, the income, profits and gains cannot properly be deduced therefrom. If the true income, profits and gains cannot be ascertained on the basis of the assessees method, or where no method of accounting has been regularly employed, the income must be computed upon such basis and in such manner as the Income-tax Officer may determineThus far, there is no divergence of opinion as to the true scope and effect of section 13 and its proviso. The divergence starts when section 13 is read along with section 31, and we come to the powers of the Appellate Assistant Commissioner. Section 31, in so far as it is relevant for our purpose, is in these terms

31. (3) In disposing of an appeal the Appellate Assistant Commissioner may, in the case of an order of assessment, --

(a) confirm, reduce, enhance or annul the assessment, or

(b) set aside the assessment and direct the Income-tax Officer to make a fresh assessment after making such further enquiry as the Income-tax Officer thinks fit or the Appellate Assistant Commissioner may direct, and the Income-tax Officer shall thereupon proceed to make such fresh assessment, and determine where necessary the amount of tax payable on the basis of such fresh assessment

Provided that the Appellate Assistant Commissioner shall not enhance an assessment or a penalty unless the appellant has had a reasonable opportunity of showing cause against such enhancement

Provided further that at the hearing of any appeal against an order of an Income-tax Officer, the Income-tax Officer shall have the right to be heard either in person or by a representative

He has referred us to certain other sections of the Act where, according to him, the determination is also subjective, ....... By what we must admit is a very adroit and plausible piecing together of some of these sections, learned counsel has built up his argument that in the present case the opinion of the Income-tax Officer that the income, profits and gains can be properly deduced from the method of accounting regularly employed by the assessee is a subjective determination of the Income-tax Officer alone, and the opinion of no other officer or authority can be substituted therefor. The Appellate Assistant Commissioner had, therefore, no jurisdiction to go behind that opinionWe are unable to accept this line of argument as correct ......."

This decision does not help the assessee except to the extent that it clarifies that s. 145(1) of the Act of 1961 makes it obligatory on the ITO to compute the income chargeable under the head "Profits and gains of business or profession" or "Income from other sources" having regard to the method of accounting regularly employed by the assessee

The learned counsel for the revenue relied upon the decision of the Supreme Court in Raghava Reddi v. CIT. In that case, the assessee-firm was exporting mica to Japan, and it appointed a Japanese company to negotiate on the gross proceeds of the sales effected in Japan. The Japanese company instructed the assessee to credit the amount of commission due to it in the books of the assessee without remitting them to Japan until definite instructions were given. The income-tax authorities treated the assessee as a statutory agent of the Japanese company under s. 43 of the I.T. Act and assessed the amounts credited in the assessees books to the Japanese company as income derived by that company in India. The assessee contended that mere entry in the account books cannot amount to receipt and that the amounts could not be assessed until they are actually paid over to the Japanese company or dealt with according to its directions. The Supreme Court held that in view of the direction given by the Japanese company, as soon as the assessee credited the amounts to the company in the assessees accounts, the relationship between the parties ceased to be that of debtor and creditor and that when the monies were credited in the accounts, they should be treated as monies deposited by the Japanese company with the assessee and the monies were thus "received" by the Japanese company in India on the date when they were credited and the assessee could be assessed as the Japanese companys agent in respect of such monies. This decision will not apply to the facts of the present case where there is nothing on record to show that any such direction was given by the assessee to the Indian companyAs stated at the outset, the assessee is a non-resident company having its principal place of business at Coventry in the United Kingdom. The agreement between the assessee and the Indian company provides for payment of the royalty in the sterling equivalent of the net five per cent. of the sale proceeds of the cars and components sold by the Indian company. If the contention of the assessee that the royalty should be assessed to income-tax only on its actual receipt under s. 5(2)(a) of the Act on the ground that it maintains its accounts on cash basis is accepted, the income could not be taxed at all as it would be received in England and not in India. The assessee-company, a non-resident, receiving its income outside India could be assessed to tax only under s. 5(2)(b) of the Act on accrual basis. Section 5(2)(a) cannot be made applicable to such an assessee. In the case of a non-resident, to whom income accrues in India, s. 5(2)(a) will have no application, unless the non-resident receives income in India. On the facts of this case, it is clear that that eventuality will never arise in regard to the income with which we are concerned, because that income will have to be remitted to the non-resident by obtaining an irrevocable letter of credit and will thus be received only outside India. We have already noticed that the principle of the decision in Raghava Reddi v. CIT will not apply, because there is no direction for crediting the income by the Indian company in any particular manner to the credit of the assessee, to constitute "receipt in India". So it is clear that there can be cases of non-residents to whom s. 5(2)(a) will never apply in regard to a particular income. The question then is, whether in such circumstances the assessee concerned (non-resident to whom income had accrued in India) can insist that, since he has kept his accounts in regard to that income on the cash basis, he is not liable to be taxed on the accrual basis. In other words, the question is whether s. 145(1) can be applied in such circumstances. The effect of applying the section would be to take the income outside the purview of taxation, though the charge of tax on that income had taken effect on the accrual basis. Further, no occasion for imposing tax on receipt outside India would arise in the case of a non-resident, because s. 5(2)(a) will apply only to receipt in India. In such circumstances, to apply s. 145(1) would be to defeat the charge under s. 4 and to obliterate the provisions of s. 5(2)(b) and let the income which is taxable escape tax. Such a result is not certainly intended by the statute. Section 145(1) is only an enabling provision to effectuate the charge. The section cannot be used for destroying the charge to tax and the provisions of s. 5(2)(b), though by merely looking at the wording of s. 145(1) it may appear that in all cases the method of accounting must be followed, unless in any case where the accounts are correct, but the method is such that, in the opinion of the ITO, the income cannot properly be deduced therefromBut, it must be remembered that s. 145 is only a machinery provision and cannot qualify the charging section so as to make the latter otiose. So s. 145(1) should not be permitted to be applied in such circumstances as those which arise from the facts of this case. It is, therefore, immaterial whether the assessee is keeping his accounts in regard to a particular income regularly on the cash basis. Even if the assessee is keeping his accounts on the cash basis in regard to his income, the assessee is liable to tax under s. 5(2)(b). To hold otherwise would be to take the income outside the purview of taxation under the Act, though such income had accrued in India to a non-resident and under s. 5(2)(b) the charge to tax had taken effect and there is no possibility of s. 5(2)(b) ever coming into operation. We cannot give to s. 145(1) such an overriding effect as to defeat the charge and the provisions of s. 5(2)(b)

We are of the opinion that the Tribunal erred in holding that the royalty amount should be assessed on cash basis for the three assessment years if it is found that the books and balance-sheets of the assessee are maintained on cash basis. We, accordingly, answer the question in the negative and in favour of the revenue and against the assessee. The assessee will pay the revenues costs. Advocates fee Rs. 500.