Sri Meenakshi Mills Ltd. and Ors. vs.

Commissioner of
Income Tax, Madras and Ors. (08.01.1963 - MADHC):
MANU/TN/0499/1963

Acts/Rules/Orders:

Indian Income-tax Act, 1922 - Section 4, Indian Income-tax Act, 1922 -

Section 42, Indian Income-tax Act, 1922 - Section 42(1), Indian Income-tax
Act, 1922 - Section 66(1)

Overruled / Reversed by:

The Commissioner of Income Tax, Madras vs. Sri Meenakshi Mills Ltd., Ors.,
MANU/SC/0138/1966

Citing Reference:

Discussed 

 3

Distinguished 

 1

Case Note:
Direct Taxation - Tax on interest - Tribunal held that remittance of moneys
by bank at Pudukottai and of its use at Madurai was constructive
remittance - Hence, this reference Petition - Whether, taxing of entire
interest earned on fixed deposits made out of profits earned in Pudukottai
by Assessees branches in Pudukottai branch of Bank of Madurai was
correct - Held, there was no any evidentiary fact in support that bank itself
was started at Madurai and a branch opened at Pudukottai only with a view
to help financial operations of Thyagaraja Chettiar and mills - Further, even
assuming that Thyagaraja Chettiar by reason of position that he held in
Madurai Bank was enabled to cause transference of money from branch at
Pudukottai to Madurai, that by itself would not establish existence of an
arrangement between lender, Assessee-mills and borrower, bank, whether at
Pudukottai or at Madurai - However, even if Thyagaraja Chettiar was a
director of one or more of these mills and was also a director of bank, this
circumstance alone could lead to inference that any basic arrangement
required between lender and borrower could be deemed to exist - Therefore,
no facts were available upon which Tribunal could rightly conclude that
interest accrued through or from money lent at interest outside taxable
territories and brought into taxable territories - Hence, reference question
was answered in negative and in favor of Assessees - Reference Petition
disposed of.

Ratio Decidendi

"If borrower without knowledge of lender brought money into British India
and that money earned income, then lender is not liable to pay any tax on
interest which he received on borrowed money."

Industry: Textile
JUDGMENT

Srinivasan, J.

1. This is consolidated reference made under section 66(1) of the Indian

Income Tax Act on the application of three different assessees covering three
assessment years and three chargeable accounting periods under the
Excess Profits Tax Act. The assessee are public limited companies engaged
in the manufacture and sale of yarn at Madurai. Each of the assessee has a
branch at Pudukkottai for effecting sales of yarn. The Madurai Bank, which
has its head office at Madurai, has also a branch at Pudukkottai. The sale
proceeds of the yarn of the three assessees realised in Pudukottai which was
during the assessment years and chargeable accounting periods a Native
State, were being banked by the respective assessees with the Pudukottai
branch of the Madurai Bank. The accumulation of such sale proceeds was
in the shape of fixed deposits with that branch. Interest was earned on these
fixed deposits. Now it would appear that in the usual course of their
businesses, the assessee-companies borrowed moneys from the head office
of the Madurai Bank at Madurai on the security of the fixed deposits kept
with the banks branch at Pudukkottai. The Income Tax officer held that the
interest income realised by the assessees on their fixed deposits at
Pudukottai was liable to be taxed as amounting to constructive remittances
to the taxable territory, for the reason that the assessees by making the
borrowals from the bank at Madurai had by that means brought that
income into the taxable territory. Appeals were taken to the Appellate
Assistant Commissioner whose view was that section 42 of the Income Tax
Act applied, and justified the assessments. There were further appeals to the
Appellate Tribunal; while the Tribunal appeared to be conscious of the fact
that the weight of judicial opinion was against inferring any arrangement
between the assessee and the bank preceding the transfer of funds from
Pudukottai to the taxable territory, it was still induced to take the view that
because Pudukottai did not appear to be a fertile area for the investment of
the funds and because there was at least one common director of both the
bank of and the assessee-mills, it was reasonable to conclude "that the bank
itself was started at Madurai and a branch of it was opened at Pudukottai
only with a view to help the financial operations of Thyagaraja Chettiar and
the mills in which he was vitally interested." Dealing with the position
occupied by the head office and the branch of both the bank and the
assessee-mills at the two places, the Tribunal further observed :

"If the head office of the mill could use the fixed deposits made by its branch
as security for borrowings made by it, to deny connection or acquaintance
with the facts between the branches and the head office, on the one hand or
of the bank and the mill on the other, seems to offend commonsense. It is on
records that the head office of the bank at Madurai used moneys borrowed
in the branches for making loans at Madurai. At any rate, whatever the
validity or the sanctity of these principles may be as applicable to general
law and the law merchant, they all give place to the all pervasive principle of
Income Tax law and that the Income Tax Officer can go behind the
transactions and find out the truth for himself,"

And the "principle" which the Tribunal apparently derived was that the
department was entitled to draw the inference on the facts and
circumstances, which will be amplified in greater detail in the due course,
that there was an understanding between the assessee-mills and the bank
that the money deposited with the branch at Pudukottai was to be brought
over to the taxable territory and utilised for the purpose of the assessee-
mills at Madurai; and the Tribunal Concluded :

"There is no doubt that the remittance of the moneys by the bank at

Pudukottai and of its use at Madurai is constructive remittance."
2. As stated, on the application of the assessees, the following question
stands referred for determination by this court :

"Whether, on the facts and in the circumstances of the case, the taxing of
the entire interest earned on the fixed deposits made out of the profits
earned in Pudukottai by the assessees branches in the Pudukottai branch of
the Bank of Madurai is correct ?"

3. It will be noticed from the brief narration of the facts set out above that
while the Income Tax Officer brought the interest to assessment on the basis
of constructive remittance, the Appellate Assistant Commissioner thought
that the case came within the purview of section 42 of the Act. The Tribunal
however does not appear to be very clear. It purports to adopt both the
points of view and while the discussion in its appellate order deals with the
applicability of section 42 of the Act, the concluding sentence in its order
seeks to support the assessment on the basis of constructive remittance of
moneys to the taxable territory.

4. We may however observe that both the assessees and the department
have dealt with the matter on the basis of the applicability of section 42 of
the Act in this reference and that is how we propose to deal with the
question.

5. Section 42 of the Act, in so far as those aspects of it which have been

canvassed before us are relevant, is extracted below :

"All income, profits or gains accruing or arising, whether directly or

indirectly... through or from any money lent at interest and brought into the
taxable territories in cash or in kind... shall be deemed to be income
accruing or arising within the taxable territories."

6. The other parts of this section do not concern us. This section accordingly
requires that any money should have been lent at interest outside the
taxable territory, and income, profits or gains should accrue or arise directly
or indirectly from such money so lent at interest, and that money income
should be brought into taxable territories. If these conditions obtain, then
the section lays it down that interest shall be deemed to be income accruing
or arising within the taxable territories, and it would follow that it is liable to
be assessed to Income Tax. Turning now to the facts of this case, we shall
refer to one instance which is typical of the rest. During the assessment year
1946-47, the Sri Meenakshi Mills had an interest income of Rs. 1,08,843,
from the fixed deposits with the Pudukottai branch of the Bank of Madurai.
According to the details of fixed deposits in the Pudukottai branch of the
bank furnished in annexure "A", the volume of fixed deposits held by Sri
Meenakshi Mills as on December 31, 1945, was Rs. 59.75 lakhs. The
assessments order does not disclose what loans were taken by Sri
Meenakshi Mills at Madurai from the head office of the bank. But from a
statement placed before us, it appears that the assessee, Sri Meenakshi
Mills, had a fluctuating account with the Madurai Bank, the balance of
account sometimes resulting in its favour, but mostly it was in debit with
the head office of the bank. It was indebted to the bank at the end of each of
the months of the accounting year relevant to the assessment year 1946-47
in sums ranging from less than rupees one lakh to about rupees ten lakhs.
In at least three months of the year, it had overpaid the loans and stood at
credit with the bank. Actually, at the end of the month of September, 1945,
it was at credit with the bank in a sum of Rs. 2,37,362. This statement is
acknowledged to be typical of the transactions which each of the assessees
had with the bank at Madurai. The view taken by the Income Tax Officer
was, as has already been stated, that these borrowings on the security of
deposits should be treated as constructive remittance of profits to the
taxable territory, and since the remittance exceeded the sum of interest
earnings on the fixed deposits, such interest earnings should be brought to
tax under section 4 of the Income Tax Act as having been remitted to British
India. In coming to this conclusion, the Income Tax Officer relied upon a
similar assessment that had been made in the previous assessment year
1945-46. Though it does not carry any significance, we may mention that
the assessment made in the assessment year 1945-46 on the basis of
remittance of profits in identical circumstances was set aside on appeal.

7. It is necessary to refer in some detail to the reasoning adopted by the

Appellate Assistant Commissioner in applying section 42 of the Income Tax
Act. During the course of the appeal, the department shifted its stand and
dropped the applicability of section 4 of the Act and relied upon section 42.
The Appellate Assistant Commissioner agreed that the amounts brought to
tax could not be regarded as remittances. He set out the position thus :

"In the case of the appellants, the money was first deposited in the
Pudukottai branch of the Madurai Bank Ltd., Madurai, and thereafter these
and other deposits were transferred to the head office at Madurai and used
for lending at interest in British India. At this stage the learned
representative appearing on behalf of the appellants contends that the
Federal Court in the case in A. H. Wadia v. Commissioner of Income Tax,
had held that if the borrower without the knowledge of the lender brought
money into British India and that money earned income, then the lender
was not liable to pay any tax on the interest which he received on the
borrowed money. This was put on the principle that there must be some
nexus between the taxing State and the assessee who is a foreigner and the
nexus which the Federal Court had suggested is that a knowledge must be
attributed to the lender that the borrower had borrowed the money for the
purpose of taking it to British India and earning income in that money; the
knowledge of the lender and the borrower that the money is to be taken into
British India must be an integral part of the transactions. On these
principles, the learned advocate hotly contends that although the money
deposited in the Pudukottai branch of the Madurai Bank Ltd., Madurai,
might have been transferred to the head office in British India, the other
elements pointed out by the Federal Court viz., that the remittance by the
State branch of the bank into British India could not be said to have taken
place with the knowledge of the appellant company and, therefore, the
provisions of section 42(1) would not apply to the facts of the case. In this
connection, I have looked into the records and I find that the deposits in
Pudukottai branch of the Bank of Madurai Ltd. amounted to Rs. 127.86
lakhs and out of this, the deposit made by the appellant company and the
allied concerns amounted to Rs. 126.80 lakhs and the deposits made by
other individuals amounted to a negligible sum of Rs. 1.06 lakhs. There is
no dispute about the fact that these deposits were transferred to the head
office in British India for the purpose of advancing the amounts on interest.
From these, it is clear that the Pudukottai branch of Madurai Bank Ltd.,
Madurai, was started practically by the appellant company and its allied
concerns for purpose of transferring the funds available there to the head
office in Madurai in order to use them for lending to others on interest."

8. We must mention here that we are concerned with only three mills and
not with other concerns which are broadly categorised as the allied
concerns. The extract relates to the assessment year 1947-48 and the true
statement of deposits as seen from annexure "A" is as below.

Assessees

Fixed deposits for the year ended 31-12-1947

 
Rs.

Sri Meenakshi Mills Ltd.

41.60 lakhs

Saroja Mills Ltd.

12.00 lakhs

Rajendra Mills Ltd.

10.70 lakhs

Eight other concerns and individuals

63.56 lakhs

Total

127.86 lakhs

9. The true position therefore is out of the total of Rs. 127.86 lakhs which
was in deposit with the Pudukottai branch of bank, only the total sum of Rs.
64.30 lakhs related to the deposits of the three assessee-mills. Now where
does the record disclose that any of the other concerns which made fixed
deposits to the tune of Rs. 63.56 lakhs had anything to do with these three
assessee concerns. At any rate, no facts appear in the records and none
have been indicated as existing during the arguments before us to show that
the nine other depositors who held the fixed deposits to the extent of Rs.
63.56 lakhs referred to had any connection with the three assessees. On the
statement of fact, therefore, the Appellate Assistant Commissioner seems to
have been in error in holding that practically the entire amount of fixed
deposits belonged to the appellant company, that is, the Sri Meenakshi
Mills, in that particular case and the allied concerns.

10. In the extract above, the Appellate Assistant Commissioner thought that
the fixed deposits made with the Pudukottai branch were transferred to the
head office in British India for the purpose of advancing those amounts on
interest. The balance-sheets of the Bank of Madurai, both of the head office
and the Pudukottai branch, were produced before us. Before referring to the
details of these balance-sheets, we may mention that it is not claimed by the
department or established by any fact on record that there was any specific
transfer of funds as such for the purpose of advancing moneys to these
assessee mills. That is not the case of the department. What the department
seeks to suggest is that because the bank, the head office and the branch
thereof, form one unit, any internal transaction between the head office and
the branch may be treated as indicating such transfer of funds. It seems to
us that such a large inference or assumption is wholly out of place one
considers the activities of a bank. Taking the balance-sheet of the Bank of
Madurai, Pudukottai branch, the liabilities show the fixed deposits at the
end of each year. Under an item "head office investment and bills account"
at the end of the calendar years 1945, 1946, 1947 and 1948, the head office
was at credit with the branch in the sums of Rs. 37 lakhs, Rs. 63 lakhs, Rs.
105 lakhs and Rs. 101 lakhs. Similarly, on the assets side, taking only
transactions with the head office into account, the branch had bills and
other accounts transmitted to the head office for realisation, and the head
office was at debit to the branch in much larger sums, the sums for the
above years being Rs. 52 lakhs, Rs. 93 lakhs, Rs. 105 lakhs and Rs. 112
lakhs, respectively. The position is reflected in the balance-sheet of the office
also. It is clear therefore that there were no doubt transactions between the
head office and the branch, one sending its bills for realisation to the other
and the latter on the realisation placing itself in debit with the other. But
these undoubtedly represent ordinary banking transactions and it seems to
us to be difficult to hold on these facts that the amount placed in fixed
deposit with the branch were intended to and were in fact transferred to the
head office, and what is more important for the purpose of lending them out
to the depositor himself. Even apart from that, it cannot be stated that if at
any point of time these assessees desired to close their fixed deposit account
with the branch, the branch would have been unable to pay off the
depositors excepted by calling for funds from the head office. The inference
that the funds placed in fixed deposits at Pudukottai were intended and
were in fact transferred to the head office for the purpose stated seems to
have been very easily made on material which is noticeable for its absence.

11. What the real scope of section 42 is - that part of it which is relevant for
our purpose - has been dealt with at length in A. H. Wadia v. Commissioner
of Income Tax, by the Federal Court. The facts therein were that the Gwalior
Durbar, which carried on a money-lending business in British India,
advanced in Gwalior to a company incorporated in British India with
headquarters in Bombay, a loan on the security of its first mortgage
debentures. The interest was payable at Gwalior and the debentures were
also deposited there. The company brought the borrowed money to British
India and utilised it for the purpose of its business in British India. The
Durbar, the lender, received the interest on the loan in Gwalior. The taxing
department held that the loan formed part of the operations connected with
the money-lending business of the Durbar, which was being carried on in
British India, and brought it to tax. While the principal question that was
canvassed before the Federal Court was as to the vires of section 42(1) of the
Indian Income Tax Act, the scope of that section came in for detailed
examination. Kania C.J. observed :

"The Commissioner of Income Tax has found that as the money lent was
brought by the company into British India, the income therefrom is deemed
to accrue or arise in British India by virtue of section 42(1) of the Indian
Income Tax Act. Evidently, he has relied on the fourth sub-head of section
42 for his conclusion. The exact words used in the section are arising from
any money lent at interest and brought into British India in cash or in kind.
In my opinion, it is proper to read this as one head and as indicating one
composite transaction. The interest must be the result of the loan of money
and the money must be brought into British India in cash or in kind.
Reading it in that way, the incident of bringing the money into British India
in cash or in kind to the knowledge of the lender and borrower is an integral
part of the transaction. After the money is brought into India, how it is used
by the borrower, to my mind, is an irrelevant question."

12. This passage therefore indicates that where the lending and the bringing
into the taxable territory are independent and unconnected transactions,
the relevant part of section 42(1) would not apply.

13. The above decision of the Federal Court has been explained by Chagla
C.J. in Porbandar State Bank v. Commissioner of Income Tax. In that case,
the Porbandar Bank was resident and ordinarily resident in British India. It
had received deposits in Porbandar State and had claimed that the interest
paid to the depositors was an allowable deduction under section 10(2)(iii).
This claim was disallowed on the basis that as the interest was chargeable
to tax under section 42 and was paid outside British India, the assessee
should have deducted the tax at source. In dealing with the applicability of
section 42, Chagla C.J. observed :
"The Federal Court in a recent judgment reported in A. H. Wadia v.
Commissioner of Income Tax, had laid down that if the borrower without the
knowledge of the lender brings money into British India and that money
earns income, then the lender is not liable to pay any tax on the interest
which he receives on the borrowed money. This is put on the principle that
there must be some nexus between the taxing State and the assessee who is
a foreigner, and the nexus which the Federal Court has suggested is that a
knowledge must be attributed to the lender that the borrower has borrowed
money for the purpose of taking it to British India and earning income on
that money. That is the view taken by the learned Chief Justice of the
Federal Court. The other two judges, Mr. Justice Mukherjee and Mr. Justice
Mahajan, have gone further than that. Mr. Justice Mahajan has taken the
view that there must be an arrangement between the lender and the
borrower to bring the loan into British India, and Mr. Justice Mukherjee has
further emphasised that point by expressing his opinion that it must be the
basic arrangement underlying the transaction that the money should be
brought into British India after it is taken by the borrower outside his
territory. But all the three learned judges agreed that the knowledge of the
lender and the borrower that the money is to be taken into British India
must be an integral part of the transaction."

14. It would accordingly appear that the mere fact that the lender might
have known or believed that the money that he lent would be taken into
British India is not sufficient. The requirement that the taking of the money
must be an integral part of the loan arrangement or basic arrangement
underlying the transaction which has been emphasised by the learned
judges of the Federal Court indicates that the transference of the money
must be the result of a definite arrangement entered into between the lender
and the borrower and not the result of a casual act of the borrower without
any reference to the lender. Mr. Ranganathan, learned counsel for the
department, however, would seem to suggest that this interpretation of the
relevant provision of the Act was adopted by the Federal Court only for the
purpose of meeting the argument that the provision itself was ultra vires
and that it should not be extended to cover a case where the taxing
department is called upon to examine whether there was or was not in fact a
transference of the funds from one area to the other; that is to say, while for
supporting the validity of the provision and to establish the nexus between
the taxing state and the subject who taxed, the learned judges held that if
the arrangement to which the taxed subject was a party was that the money
which he lent should be taken to the taxable territory, that would constitute
the nexus, that interpretation is not necessary for the imposition of the tax.
That is the argument advanced by learned counsel for the department. He
would accordingly urge that the mere fact that the money so transferred,
whether with the knowledge of the assessee or not, would be sufficient to
attract tax liability. We are unable to accept this argument. What the
learned judges had to consider was the proper interpretation to be placed
upon the various parts of section 42 and though that interpretation was
called for in the context of examining the constitutional validity of the
provision, it cannot be contended that that interpretation should be
disregarded when the section itself is sought to be applied. There is
accordingly the positive statement of principle laid down by the Federal
Court that the loan transaction and the transference of the funds must be
parts of a single arrangement between the lender and the borrower, and
unless it can be established that such an arrangement was arrived at
between the two, section 42, which is a deeming provision, cannot be
brought into play.

15. Mr. Ranganathan next claimed that the case could be brought within
the scope of another part of section 42, that is to say, that the income
accrued or arose directly or indirectly through or from any business
connection in the taxable territories. Though we shall briefly consider this
aspect of the matter also, we must point out that whether the income arose
from any business connection in the taxable territories is not a question
which arises from the order of the Tribunal. The matter was not dealt with
from that point of view by the Income Tax Officer or the Appellate Assistant
Commissioner. The entire order of the Tribunal proceeds only on the basis
that it was a case of interest accruing from money lent at interest and
brought into the taxable territories. It is not therefore open to the
department to raise a question which though it has reference to the same
provision of law, viz., section 42 of the Income Tax Act, deals with a totally
different aspect, which was not adverted to either in the proceedings before
the department or before the Tribunal.

16. In Commissioner of Income Tax v. Bank of Chettinad, the question

whether the income arose out of a business connection in the taxable
territories was examined. Two banks, the Bank of Chettinad registered in
British India and the Chettinad Bank registered in an Indian State, were
under the unitary control of a single family. The British Indian Bank had
branches at Rangoon in British India and at Bentong in the Federated Malay
States. The non-resident bank had also a branch at Kualalumpur in the
Federated Malay States. During the years 1930 to 1933, the Kualalumpur
branch advanced moneys to the Bentong branch and the Bentong branch
lent this amount to the Rangoon branch. The question was whether the
British Indian bank could be assessed as the agent of the non-resident bank
on the interest received by the latter on loans advanced to the former on the
ground that there was a business connection between the two banks. The
argument against such assessment was that as the transactions tooks place
outside British India, there was no business connection in British India. In
that case, it was held by this High Court that since a single entity owned
almost all the interest in the two banks and had complete control of both
the banks and further the main function of the non-resident bank was only
to finance the British Indian bank and the loans advanced were also in
excess of half the paid up capital of the non-resident bank and the loans
were without security and for indefinite periods, the taxing department was
entitled to hold that the income from the loans arose accrued to the non-
resident bank through or from a business connection in British India. The
learned judges observed that whether there is a business connection or not
depends on the particular facts of the case, and the facts above-mentioned
were treated as establishing for all practical purposes the identity of the two
banks. The principal fact relied upon was that the non-resident bank was
virtually created for the purpose of financing the resident bank and from
that circumstances followed the irresistible conclusion that the moneys so
advanced by the non-resident bank to the resident bank was to enable the
use of that money in the business of the resident bank, thereby establishing
the necessary business connection. This decision was affirmed by the
Judicial Committee in Bank of Chettinad v. Commissioner of Income Tax.
Even if this decision is to be applied to the facts of the present case, what
has to be established is that the assessee mills earned the interest in
question from a business connection in the taxable territory. Apparently, the
contention of Ranganathan is that since the Pudukottai branch of the bank
and its head office must be deemed to be a single unit, whatever connection
the assessee mills might have with the branch at Pudukottai must be
treated as establishing a connection with the head office at Madurai in the
taxable territory. Had it been a case where the Pudukottai branch had no
banking operations other than those connected with its head office and if all
the funds deposited by its customers with the branch at Pudukottai were
necessarily dealt with by the head office alone, it would be reasonable to
infer that the branch was a mere conduit pipe for the transference of funds
and that it had no real existence in the field of banking activity. It would be
recalled that in the Chettinad Bank case referred to above, it was
established that that bank itself was created only for the purpose of
enabling finance to be obtained by the resident bank and that the control
exercised by the Rajah of Chettinad was of such a far-reaching nature that
the two banks were in reality one. Though in the view that we have
expressed that this question does not arise out of the order of the Tribunal
we are not finally deciding this issue, we must nevertheless state that there
are no facts available in this case to establish that the present case would
come within the ratio of the decision in the Chettinad case
17. Reverting to the principal question, was there a basic arrangement that
the funds deposited by the assessee mills with the Pudukottai branch
should be transferred to the taxable territory, an arrangement which was
come to between the lender and the borrower, it seems to us to be implicit in
the decision in the Wadia case that it would not suffice to bring this part of
section 42 into operation, merely if the lender was aware that the moneys
which he deposited with the Pudukottai branch might be transferred to the
taxable territory in the course of the normal banking activities of the bank.
The decision requires something more positive than that. One of the learned
judges, it would be recalled, held that that should be the basic arrangement
of the loan transaction. It must therefore be established that the
transference of the funds from one area to the other was contemplated by
both the parties as the necessary consequence of the arrangement entered
into. In this regard, it seems to us that there is very little evidence to
support the view of the department or the Tribunal. There is a vague
statement of the Tribunal that the Pudukottai branch itself was brought into
existence for the purpose of the financing of these mills in which Thyagaraja
Chetti had an interest. No material that would lend support to a conclusion
on this head is apparent in the records. What the Tribunal observed is :

"We cannot also forget that Pudukottai is neither a cotton producing area
nor has a market for cotton; except that it was a non-taxable territory, there
was nothing else to recommend the carrying on of the business in cotton
spinning and weaving there. There is yet another aspect to which our
attention was drawn by the learned counsel for the assessee. That being a
non-taxable area, there were many very rich men there with a flux of funds
to invest in banks and industries. By the same token it appears to us it was
not necessary for the Madurai Bank, which was after all a creation of certain
people which started with a small capital of Rs. 32,800, to have gone to
Pudukottai for opening a branch. If there was a flux of money in Pudukottai
because of the finance, nobody would have agreed to have borrowed money
from it. At any rate, it is clear it would have had no field for investment in
Pudukottai, the only source of investment being outside Pudukottai."

18. The extract above is far from intelligible. Nor are we willing to subscribe
to several of the speculative statements that are found there and given
expression to as statements of incontrovertible facts. The Madurai Bank was
no doubt started with a small capital and any bank has to be started by
certain people. It was started in 1943, and if it extended its business and
opened a branch in Pudukottai when it found that industrialists,
particularly textile mills, established their industries in Pudukottai, it does
not follow that the opening of the branch itself was intended for purposes
other than those of normal banking business. We are not clear wherefrom
the Tribunal drew the inference that there was no field for investment in
Pudukottai. It is the normal function of the banks to collect the moneys
lying idle in non-productive areas and to make the funds available for
industrial or other production elsewhere. Even assuming that there was no
scope for investment inside Pudukottai, that would only indicate that any
investor with the local bank at Pudukottai would be aware that his funds
would be utilised in some lucrative fields elsewhere. The extract above does
not justify the conclusion that a mere knowledge that banking transactions
might effect the transference of the money from place to place amounts to a
basic arrangement between every depositor with the Pudukottai branch and
that branch with regard to the transference of funds.

19. It appears undeniable that one Karimuthu Thyagaraja Chettiar is a

person of some importance both in connection with Sri Meenakshi Mills and
the Madurai Bank. It is also undeniable that the three assessees are
themselves shareholders in the Madurai Bank. The extent of the interest of
Thyagaraja Chettiar in each of the assessee-mills is not clearly specified
anywhere. During the course of the arguments it was stated before us that
Thyagaraja Chettiar was not a director of Saroja Mills, one of the assessees.
The Tribunal observed :

"We cannot escape the fact that Thyagaraja Chettiar, his two sons and the
three mills had a preponderant, if not the whole, voice in the creation
running and management of the bank."

20. Later :

"Faced as we are with the tremendous weight of authorities to which we

have referred at the opening of this order, it would normally be difficult to
hold that the knowledge attributable to Thyagaraja Chettiar as a director
both of the bank and of the mills as to how deposits ought to be made and
how the bank ought to use them cannot be ascribed to the mills. But having
regard to the special position of Thyayagaraja Chettiar and the balance-
sheets of the bank referred to above and the lack of investments in
Pudukottai itself of the moneys borrowed there, it seems more reasonable to
conclude that the bank itself was started at Madurai and a branch of it was
opened at Pudukottai only with a view to help the financial operations of
Thyagaraja Chettiar and the mills in which he was vitally interested."

21. We are unable to subscribe to the above view. That Thyagaraja Chettiar
occupied any special position apart from that of a director along with several
others is not established by any material on record. With regard to the
inference made that the bank itself was started at Madurai and a branch
opened at Pudukottai only with a view to help the financial operations of
Thyagaraja Chettiar and the mills, we have been unable to find any
evidentiary fact in support. Even assuming that Thyagaraja Chettiar by
reason of the position that he held in the Madurai Bank was enabled to
cause transference of money from the branch at Pudukottai to Madurai, that
by itself would not establish the existence of an arrangement between the
lender, the assessee-mills and the borrower, the bank, whether at
Pudukottai or at Madurai. In this regard, the Tribunal apparently purported
to rely upon the circumstance that Thyagaraja Chettiar had some measure
of connection with these mills. We are not satisfied that even if Thyagaraja
Chettiar was a director of one or more of these mills and was also a director
of the bank, this circumstance alone can lead to the inference that any basic
arrangement required between the lender and the borrower can be deemed
to exist.

22. Mr. Venkataraman, learned counsel for the assessees, has referred to In
re David Payne & Co. Ltd. That was a case where it had to be considered
whether when a director of a company knew in his private capacity that
another company to which money was to be advanced intended to utilise
that money outside the scope of its business, such knowledge could be
imputed to the company of which he was a director. It was held that it could
not be so imputed. It is not necessary to refer to the details of the reasoning
of the learned judges. The position here is analogous and even if Thyagaraja
Chettiar as one of the directors of the assessee mills knew in his capacity as
the director of the Madhurai Bank that the money placed in fixed deposit by
the mills would be transferred to the taxable territory, that knowledge could
not be imputed to the assessee mills; much less can it be said that the
transfer was part of the integral arrangement of the loan transaction. We are
accordingly of the view that no facts are available in these cases upon which
the Tribunal could rightly conclude that the interest accrued through or
from money lent at interest outside the taxable territories and brought into
the taxable territories. The question is answered in the negative and in
favour of the assessees. The assessees will be entitled to their costs.
Counsels fee Rs. 250.