SATYANARAYANA RAO. J.
Under Section 66 (1) of the Indian Income-tax Act, the following question was referred to the High Court decision :-
"Whether on the facts and circumstances of the case, the payment of the sum of Rs. 6, 111 made made by the assessee under the terms of the agreement entered into with the Director of Industries and Commerce, Madras on 9th November, 1945, was not an item of revenue expenditure incurred in the course of carrying on the business of the assessee and, therefore, allowable under the provisions of Sections 10 of the Indian Income-tax Act."
In view of the decision of the Judicial Committee in Mohanlal Hargovind v. Commissioner of Income-tax, C. P. & Berar and the decision relating to the same assessee, which covers the present dispute in Abdul Kayam Sahib Hussain v. Commissioner of Income-tax v. Chengalvaroya Mudaliar I. L. R. 58 Mad. I). and Chengalvaroya Chettiar v. Commissioner of Income-tax I. L. R. it was thought necessary when the matter came before a Division Bench to place it before a Full Bench. The case was, therefore, posted before us for decision.
The relevant facts appear from the statement of the case by the Appellate Tribunal. The assessee is a registered firm carrying on business in chanks. For the purpose of his business, the assessee had to engage divers to collect chanks from the sea, which are sold after sorting. On the 9th of November, 1945, there was an agreement between the Director of Industries and Commerce, Madras, and the assessee, the material portions of which are as follows :-
"The lessor hereby grant unto the lessees the full, free and exclusive right, liberty and authority to fish for, take and carry away all the chank shells in the sea off the coast line of the South Arcot district including the French (Kuppams of Pondicherry more particularly described in the schedule hereto) hold the premises to the lessees from the 1st day of July, 1944, for a period of three years ending 30th June, 1947, paying therefore the yearly rent of Rs. 6, 111 (Rupees Six thousand one hundred and eleven only) to be paid yearly in advance, the first payment to be made within 15 days from the date of intimation of acceptance and the second and third payment to be made on or before the 15th June, 1945 and 1946, respectively at the Government Treasury at Tuticorin or Madras."
During the accounting year ending with 30th June, 1945, the assessee paid a sum of Rs. 6, 111 as the annual rent to the Government under the said deed and claimed deduction of the same. The Income-tax Officer, treating it as capital expenditure, disallowed it, and, in doing so, he followed the decision which relates to the same assessee and reported in Abdul Kayum Sahib Hussain v. Commissioner of Income-tax. The appeal to the Assistant Commissioner was unsuccessful. On further appeal the Tribunal thought that the matter was covered by the decision of the Judicial Committee in Mohanlal Hargovind v. Commissioner of Income-tax, C. P. & Berar but as there was an earlier decision of a Full Bench of this Court relating to the same assessee they felt that they were bound by it. In the result the appeal was dismissed and at the instance of the assessee, the aforesaid question was referred to this Court.
On behalf of the assessee, Mr. Subbaraya Ayyar, the learned Advocate, contented that in view of the decision of the judicial Committee in Mohanlal Hargovind v. Commissioner of Income-tax, C. P. & Berar the decision of the Full Bench in Abdul Kayum Sahib Hussain v. Commissioner of Income-tax must be taken as overruled, including the earlier decisions of this Court, which were allowed by the Full Bench.
Under Section 10 (2) (xv) of the Income-tax Act,
"any expenditure (not being in the nature of capital expenditure or personal expenses of the assessee) laid out or expanded wholly and exclusively for the purpose of such business, profession or vocation."
If it is a capital expenditure, the deduction cannot be allowed. So, the question is whether the deduction claimed by the assessee is capital expenditure or revenue expenditure. The expression "capital expenditure" is not defined in the Act but it has to be understood in a business sense except in so far as there may be rules of construction applicable to it. Vide Mohanlal Hargovind v. Commissioner of Income-tax, C. P. & Berar. There is a considerable volume of case law both in England and in India on this subject but they do not enable us to lay down a definite and tangible test to distinguish capital expenditure from revenue expenditure and draw the boundary line between the two. The decision however are of considerable assistance in deducing certain relevant general principles which afford guidance in deciding whether on the facts of the case the expending under consideration falls under the one head or the other. No useful purpose would, therefore, be served in examining critically the innumerable case, English and Indian, which have considered the question from one aspect or the other. But some of the decisions, which have become landmarks in deciding the question, may be usefully referred to. It may be taken that until 1926, i. e., until the decision of Viscount Cave, Lord Chancellor, formulated a test, which with slight variation, has ever since been followed both in England and in India. The Lord Chancellor considered that the opinion of lord Dunedin in Vallambrosa Rubber Co. c. Farmer 1926 AC 205) "that in a rough way I think it is not a bad criterion of what is capital expenditure as against what is income expenditure to say that capital expenditure is a thing that is going to recur every year, " was not a decisive test applicable to every case. According to Viscount Cave, the test is :-
"But when an expenditure is made, not only once and for all, but with a view to bringing into existence an asset or an advantage for the enduring benefit of a trade, I think that there is very good reason (in the absence of special circumstances leading to an opposite conclusion) for treating such an expenditure as properly attributable not to revenue but to capital."
Lord Atkinson in the same case stated that the word "asset" need not be confined to something material. Romer, Lord Justice, in Anglo Persian Oil Co. v. Dale 1932 (1) KB 124 at 146). at page 146 observed :-
"It should be remembered, in connection with this passage (referring to the above passage of Viscount Cave), that the expenditure is to be attributed to capital if it be made with a view to bringing an asset or advantage into existence. It is not necessary that it should have that result. It is also to be observed that the asset or advantage is to be for the 'enduring' benefit of the trade. I agree with Rowlatt, J., that by 'enduring' is meant 'enduring in the way that fixed capital endures.' An expenditure on acquiring floating capital is not made with a view to acquiring an enduring asset. It is made with a view to acquiring an asset that may be turned over in the cause of trade at a comparatively early date. Nor, of course, need the advantage be of a positive character. The advantage may consist in the getting rid of an item of fixed capital that is of an onerous character, as was pointed out by this court in Mallet v. Staveley Coal & Iron Co. 1928 (2) KB 405).
Lord Sands in Commissioners of Inland Revenue v. The Granite City Steamship Co. Ltd. 1927 (13) Tax(Cas) 1 at page 14 laid down yet another test, which has also been adopted in a number of cases."
Broadly speaking outlay is deemed to be capital when it is made for the initiation of a business, for extension of a business or for a substantial replacement of equipment."This undoubtedly helps to determine whether the expenditure is a capital expenditure and whether the asset is a capital asset or not. If an amount is spent for starting a business, or if the business is already existing to extend and expand the business or even if it be to replace substantial machinery and other equipment of the business, it would undoubtedly be a capital expenditure. Another principle is to find out whether the expenditure is in relation to the fixed or circulating capital. In the former case, it will be expenditure of a capital nature while in the latter it will be revenue. Fixed capital is what the owner turns to profit by keeping it in his own possession while circulating capital is what makes profit of by allowing it to rotate in the business. The circulating capital, which is turned over in the business, in the process of being turned over, yields profit or loss. It only afford source from and out of which the profits are produced. A man' stock-in-trade in his business is circulating capital whereas the plant and machinery, which are fixed and which are used in the manufacturing process, are capital assets. If a person however is a trader in machinery and plant, his stock-in-trade will be the plant and the machinery. It all depends upon the nature of the trade, which a person carries on, whether the capital employed in the business is fixed capital or is circulating capital. If a man buys and sells goods, the goods are his stock-in trade. Instead of directly selling the goods, he may use it as raw material for the manufacture of finished goods which he sells in the market. Another distinction, which is emphasized in the cases is between the purchase of the source from which the material is taken, which becomes directly the stock-in-trade or which is utilized in the process of manufacture as raw material for the production of the finished goods, which are subsequently marketed and the purchase of the material itself, whether it is raw material which is utilized in the manufacturing process or it is goods which are directly sold without submitting it to any manufacturing process. A dealer in paddy or coal may buy the land or the coal mine, which produces the paddy or coal in which case the outlay in acquiring such an asset will be capital expenditure as he becomes the owner of a fixed capital asset. If on the other hand, instead of buying the land itself, he buys the crop ready for harvest, or the coal which is drawn from the mine, the purchase will be only of the goods and not the source from which the goods are produced. The amount spent in such a case will be normally treated as revenue expenditure as such a goods are his stock-in trade.It is not always easy to draw the line so clearly on the facts of every in the illustrations above stated. Taking for example the. three decisions of this court which are more or less analogous to the present case, in which a view against the assessee's contentions was taken, the difficulty in applying this test to the facts of each case will be evident. Commissioner of Income-tax v. Chengalvaroya Mudaliar I was a case in which the assessee entered into an agreement with the Government for the excavation of lime shells from certain Government lands under that agreement, he was to have the exclusive privilege of excavating chunam shells within the area specified in the agreement for a period of three years on condition of his paying a sum or Rs. 27, 750 in twelve equal quarterly installments for the privilege conferred upon him. The document was in the form of a lease. The point raised was whether the sum so paid could be treated as revenue expenditure and was a permissible deduction. The answer given by the Full Bench was that it was a capital expenditure. The terms of the agreement were construed as not constituting the assessee the purchaser of the lime shells were not previously excavated and heaped up on the land, and the amount paid was not rent in any sense of the term not withstanding the fact that it was payable in installment. Reference was made in the judgment to the decision of the House Lords in John Smith & Son v. Moore 1921 (2) AC 13). The appellant's father in that case carried on business as a shipping and coal agent for a number of years. Prior to the death of the father, the appellant acquired the business under the father's trust disposition and settlement on the terms of taking over the assets of the business at a valuation but without paying anything for goodwill. The assets included certain forward coal contracts made by the father with several colliery owners for the delivery of coal in periodic installments at prices which were favourable to the purchasers. The appellant valued these coal contracts at 30, 000 lb. and claimed in arriving at the profits of the business chargeable to excess profits duty, to deduct the said sum as part of the purchase price of the stock-in-trade. It was held by Lord Haldane and Lord Summer that it was not a permissible deduction as it was capital expenditure. The reasoning adopted by the House of Lords, was that when he acquired the business of the father, it was not by selling the contracts but by retaining them that he was able to employ the circulating capital by buying under them. Though the contracts were of short duration, they were part of his fixed capital and the fact that he paid a price for them made no difference. That principle was applied in the case before the Full Bench and it was, therefore, held that the expenditure, i. e. the rent paid was a capital expenditure, which could not be deducted. This was followed in chengalvaroya Chettiar v. Commissioner of Income-tax. It was also a case in which assessee got the exclusive right to excavate shells under a contract with the Government; the term of this contracts with the Government; the terms of this contract were similar to the one in the previous case.The learned Judges thought that the case before them was indistinguishable from the case in Commissioner of Income-tax v. Chengalvaroya Mudaliar.
On behalf of the assessee, the contention was raised that in the document in the case the payment was described as 'annual lease amount' and that made a difference between that case and the earlier case in Commissioner of Income-tax v. Chengalvaroya Mudaliar 2 as thereby the agreement became a rental agreement, The contention was repelled with the observation that the words "annual lease amount" occurring in the document did not make any material difference and hat the transaction was exactly similar to the one which was considered by the learned Judges in Commissioner of Income-tax v. Chengalvaroya Mudaliar. With reference to the present assessee, the earlier decision in Abdul Kayum Sahib Hussain v. Commissioner of Income-tax. decided in circumstances similar to the present case that the expenditure was capital expenditure. The learned Judges followed two earlier decisions. At page 657, their Lordships observed :-
"Now in the present case what the assessee paid for was the right to win conch shells. He was not purchasing the right to any specified quantity of conch shells. It was merely the right to win what he could from the beds where the conch shells were lying. What he got was the means of obtaining the material for his business, not the material itself. This case is clearly governed by the decision in Commissioner of Income-tax v. Chengalvaroya Mudaliar. Commissioner of Income-tax v. Messrs. P. T. Chengalvaroya Chettiar and P. L. M. M. V. S. & Company, Madras."The decision in Golden Horse Shoe (New) Limited v. Thurgood 1934 (1) KB 548; 18 Tax(Cas) 280)., was distinguished as in that case the dumps were part of the stock-in-trade of the company. The test applied by Romer L. J., was the dumps the raw material of the appellants' business, or do they merely provides the means of obtaining that raw material? In my opinion, they are the raw material itself." So that the distinction drawn by the learned Judges between the decision of the English Court of Appeal and the case before them was that in the case before them the quantity was not specified and what was acquired was the means of obtaining material for the business and not the material itself. The lease of course was obtained under an agreement with the Government. Whether this view is correct is the question now before us.
On behalf of the assessee, Mr. Subbaraya Ayyar contends that this opinion is not sound in view of the decision of the Judicial Committee in Mohanlal's case 2. The appellants in that case were manufacturers of beedies and for that purpose tendu leaves were required which were obtained by them under short-term contracts with the Government and other owners of forests entered into by them wholly and exclusively for their business. In consideration of a sum payable in instalments, the privilege to pick and carry away the leaves was granted to them. The question that arose for decision was whether the payments made under the contracts were allowable deductions, being expenditure on revenue account and not on capital account. The answer of he Privy Council was that it was an allowable deduction. The contracts in the case were construed as conveying no interest in land and no interest in the trees and the plant.
"They simply and solely conferred upon the grantees the right to pick and carry away the leaves which of course implied (observed Lord Greene) the right to appropriate them as their own property. The small right of cultivation given in the first of the two contracts is merely ancillary and is of no more significance than would be, e. g. a right to spray a fruit tree given to the person who has bought the crop of apples. The contracts are short-term contracts. The picking of the leaves under them has to start at once or practically at once and to proceed continuously."
The fact that the contracts conferred an exclusive privilege upon the assessee was treated as matter of significance. It was observed that as there was no definition of capital expenditure in the Act, it must be construed in a business sense unless that sense is excluded by the rules of construction applicable to it. Viewed in that light, their Lordships had no doubt in holding that in a business sense the expenditure was expenditure on revenue account and not on capital account in the same manner as if the tendu leaves had been bought in a shop. Lord Greene observes :-
"Under the contracts it is the tendu leaves and nothing but the tendu leaves that are acquired. It is not the right to pick the leaves or to go on the land for the purpose. Those rights are merely ancillary to the real purpose of the contracts and if not expressed would be implied by law in the sale of a growing crop."
It was also pointed out that the cases relating to the purchase or leasing of mines, quarries, deposits of brick-earth, land with standing timber etc. were of no assistance in deciding the question before their Lordships. Two decision however were relied on before their Lordships. One was the decision in Alianza Co. v. Bell 1904 (2) KB 666) which was affirmed by the Court of Appeal in 1905 (1) KB 184 and by the House of Lords in (1906 Appeal Cases 18). In that case, the assessee acquired the right to work and develop a bed containing a material called caliche, which was utilized in the manufacture of nitrates and iodine. The case was treated as one analogous to the purchase or leasing of a mine and, therefore, the expenditure for the privilege conferred was treated as capital expenditure."The claim", it was observed,
"was one equivalent to a claim to deduct the expenditure made in acquiring the land for it was a claim to deduct the amount carried year to a sinking fund set up to meet the exhaustion of the caliche. This case appears to their Lordships to bear no resemblance to the facts of the present case, which resembles much more closely the case described and distinguished by Channel, J., at page 673 of the report in Alianza Co. v. Bell 1904 (2) KB 666), of the cost of material worked up in a manufactory. That, said the learned Judge is a current expenditure and does not become a capital expenditure merely because the material is provided by something like a forward contracts, under which a person for the payment of a lump sum down secures a supply of the raw material for a period extending over several year."
The other case was the timber case, Kauri Timber Co. v. Commissioner of Taxes 1913 AC 771). The importance of this case is two-fold. It was not a company which carried on any manufacturing business. Its business consisted solely of cutting and disposing of timber. Under a lease for 99 year, the company acquired a right in certain timber-bearing lands, it also purchased standing timber in other cases. The case was treated as analogous to a case where the source from which the material proceeded was acquired, for when the land was acquired the expenditure undoubtedly was capital expenditure. Where standing timber was purchased it was an interest in the land that was purchased as the purchasers had the right to allow the trees to grow as long as they liked. The case was, therefore, distinguished on the ground that there liked. The case was therefore, distinguished on the ground that there the interest in land itself was conveyed under the document. From the judgment of Lord Shaw in that case the following passage was extracted in the judgment of the Judicial Committee :-
"So long as the timber, at the option of the company, remained upon the soil, it derived its sustenance and nutriment from it. The additional growths became ipso jure the property of the company."
That emphasises the fact that what was acquired in that case was the land itself, which was the source from which the timber was obtained.
The case, therefore was distinguished by Lord Greene for he stated at page 478 of ITR thus :-
"In the present case, the trees were not acquired : nor were the lees acquired until the appellants had reduced them into their own possession and ownership by picking them. The two cases can in their Lordships' opinion, in no sense be regarded as comparable. If the tendu leaves had been stores in a merchant's godown and the appellants had bought the right to go and fetch them and so reduce them into their possession and ownership, it could scarcely have been suggested that the purchase price was capital expenditure. Their Lordships see no ground in principle or reason for differentiating the present case from that supposed."
So that not withstanding the facts that the quantity of tendu leaves purchased was uncertain and undefined and there was also the additional burden of going upon the land and picking the leaves it was held by the Judicial Committee that the contract was one for the purchase and sale of goods. It is as if the leaves were in the godown and were purchase by the assessee and appropriated by him for his business.
In our opinion, the facts in the case before the Judicial Committee are indistinguishable from the facts of the present case. In one case, the leaves had to be picked from the tress by going upon the land while in the other case the chanks had to be collected and gathered by diving into the sea. It is impossible to construe the documents in the present case as conferring any interest in that portion of the sea from which the exclusive right of winning of chanks was conferred upon the assessee.
A similar view was taken even prior to the decision of the Privy Council in three cases of the Lahore High Court. Two of them related to salt-petre, viz. Messrs. Parmanand Haveli Ram v. Commissioner of Income-tax which was followed in Commissioner of Income-tax, Punjab v. Bhijraj Harichand which also related to salt-petre. These decisions were again considered in a latter Full Bench of that Court in Benarsidas Jagannth In re in which Mehr Chand Mahajan, J., delivered the judgment of the Court. The learned Judge formulated the tests after a full consideration of the decisions, English and Indian, nd came to the conclusion that where an assessee, who was manufacturer of bricks, obtained certain lands on lease for the purpose of digging the earth for the manufacture of bricks up to 3 to 3 feet, the payments made for the privilege conferred was revenue expenditure, which was permissible deduction. It is unnecessary to quote in extension the summary of the law contained in that judgment at pages 197 and 199 of the report. With great respect to the learned Judge, we think that the test laid down in that decision to revenue account and not to capital account, lays down the law correctly and is in consonance with the decision would Committee in Mohanlal's case (1949 71 L. T. R. 473). The principle of that decision would equally apply to the case before us. We respectfully follow the reasoning of the learned Judge.On behalf of the Commissioner of Income-tax Mr. Rama Rao Sahib, the learned Advocate, strongly relied upon the decision of the Chief Justice and Yahya Ali, J., in Commissioner of Income-tax, Madras v. Sidda Reddy Venkata Subba Reddi and Bros. 1949 (7) ITR 15) which was given before the decision of the Judicial Committee and contended that the principles of the decision in Mohanlal's case (1949 17 L. ITR 473) applies only to raw material acquired for or in connection with a manufacturing process, and as in the present case the assessee was merely a dealer in chanks without subjecting them to any manufacturing process, the principle of Mohanlal's case should not be applied. The learned Chief Justice Commissioner of Income-tax, Madras v. Sidda Reddy Venkata Subba Reddy and Bros 1949 (7) ITR 15) elaborately considered the decisions bearing upon the point and distinguished the cases cited before him, observing that the principles therein laid down did not apply to the business of an assessee, who did no manufacturing business i. e. the test laid down in the English cases and the Indian decisions would apply only if the raw material is acquired in the course of the manufacturing business. This is clear from his observation at pages 32 and 3
3. In the case before the learned Judges, the assessees, who were doing the business of winning mica and selling it after refinement, entered into an agreement, under which in consideration of the payment of sums of money in instalments, they obtained the mining rights in deferent plots of land. The duration of the agreement was from 5 to 9 years. The decision was that, as the assessees were not carrying on any manufacturing business and there was no sale of any raw material, and as their business consisted in winning and selling mica, and for that purpose they acquired mining rights in various places, the money expended for the acquisition of such rights was capital expenditure of such rights was capital expenditure. We do not, however, think that there is really any distinction between acquiring raw material for a manufacturing business and acquiring material for the purpose of sale. As pointed out already, the floating or circulating capital may consist of raw materials to be worked up in the case of a business of manufacture and of manufactured articles purchased and sold in the case of a selling business. When goods are bought for purposes of sale, the business is carried on with them, and it is on the turnover of these and their replacement by further goods that the trader makes his profit or loss. Consequently, if money is invested for the purchase or acquisition of goods, which form the stock-in-trade, i. e. the circulating and floating capital of the business such an expenditure is a necessary and proper deduction in computing the profits of the business. If what was acquired under the computing the profits of the business. If what was acquired under the contracts in the present case was not a fixed asset or a permanent or enduring advantage but merely certain goods, viz., chanks, then, whether they were required for any difference. The question, therefore, to be decided is not whether they were acquired for any manufacturing process of the assessee but whether what was acquired was a capital asset or was merely a stock-in-trade. If it was merely the purchase of goods and did not involve the acquisition of the source from which the goods are produced the amount so spent for the acquisition of the goods by purchase would be revenue expenditure. From the judgment of Lord Greene of the Judicial Committee it is clear that the acquisition of the tendu leaves was treated like a purchase of the goods from a godown and though the question (Is expenditure of this character made in acquiring one of the raw material of the appellant's manufacture capital expenditure within the meaning of this Act? ) was formulated, no point was made of it in the actual decision of the case. The very timber case, viz. Kauri Timber Co. Ltd. v. Commissioner of Income-tax 1913 AC 771). referred to by Lord Grene, was not a case of a manufacturer. The assessee's business in that case consisted of merely cutting and selling timber. Had not the Judicial Committee on the facts of that case come to the conclusion that what was acquired was not interest in the land but was merely the purchase of timber, the amount expended in acquiring the timber would have been clearly a revenue expenditure. Lord Shaw at page 778 in that report quotes from Saunders's' Report the following passage :-
"The principle these decisions appears to be this : that wherever at the time of the contract it is contemplated that the purchasers should derive a benefit from the further growth should derive a benefit from the further growth of the thing sold from further vegetation is over, or the parties agree that the thing sold shall be immediately withdrawn from the land, the land is to be considered as a mere warehouse of the things sold and the contract is for goods."
It is probably with reference to this passage, if one may venture a guess, that Lord Greene stated in Mohanlal's case that, if the; leaves had been stored in a merchants godown and the appellant's had bought the right to go and fetch them and so reduce them into their possession and ownership, it could scarcely have been suggested that the purchase price was capital expenditure. If in that case the documents could have been construed as constituting merely purchase of goods. viz. the leaves, there is no reason to refuse to apply that principle to the present case merely because the assessee is not a manufacturer. We do not think that there should be any distinction between cases where goods are required for manufacture or where required for sale as such without subjecting them to further manufacturing process. In either event, the question to be answered is : was it the purchase of goods as such or was it the purchase of the source from which the goods emanated? If the answer is that it was material that was purchased and not the source of the material the only possible answer that could be given as regards the amount expended is that the expenditure was a revenue expenditure and not, a capital expenditure. We do not, therefore, think that there is any force in the distinction which Mr. Rama Rao Sahib attempted to draw between the case before the Judicial Committee and the present case.It was then urged that a right of fishery has been treated as a right in immovable property and, therefore, the right to win chanks may also be treated as conferring an interest in immovable property and that, therefore the present case falls within the exception contemplated by Lord Greene in Mohanlal's case We do not think that the right to collect chanks from the sea stands on the same footing as an exclusive fishery right, and on that ground refuse to apply the principle of the decision of the Judicial Committee. We are, therefore, of opinion in view of the decision of the Judicial Committee n Mohanlal's Case that the item of expenditure is revenue expenditure. The question has to be answered in favour of the assessee and against the Commissioner of Income-tax.
The petitioner is entitled to his costs Rs. 250.
Reference answered accordingly.