Holding

The refund is deemed to be included in the predecessor’s assets transferred to LIC under Section 7, and therefore is allowable as a deduction under Rule 2(1)(b).

Summary

The Life Insurance Corporation of India (LIC) received a large income‑tax refund for the life‑insurance business in the assessment year 1963‑64, which it claimed should be treated as a profit and deducted under Rule 2(1)(b) of the Income‑Tax Act. The tax authorities argued that only the portion of the refund that had been included in the surplus of the earlier actuarial valuation could be deducted, rejecting the rest as revenue. The dispute turned on whether the refund, arising from tax paid by predecessor insurers before LIC’s formation, could be deemed to have been "included therein" for the purposes of Rule 2(1)(b) in view of Section 7 of the Life Insurance Corporation Act, which transfers all assets and liabilities of predecessor insurers to LIC. The Supreme Court held that Section 7 creates a legal fiction whereby the refund is part of the assets transferred to LIC and is therefore deemed to be included in the opening balance of the earlier inter‑valuation period. Consequently, the entire refund qualifies for deduction under Rule 2(1)(b). The Court set aside the High Court and Tribunal decisions and allowed the appeal.

Issues considered

Whether the income‑tax refund received by LIC, relating to tax paid by predecessor insurers before the appointed day, should be allowed as a deduction under Rule 2(1)(b) of the First Schedule to the Income‑Tax Act, 1961, given the provisions of Section 7 of the Life Insurance Corporation Act, 1956.

Legislation cited

Income Tax Act, 1961s. Rule 2(1)(b) of the First Schedule, s. Section 44
Life Insurance Corporation Act, 1956s. Section 7, s. Section 9

Subjects

income taxlife insurance businesssurplusactuarial valuationlegal fictionSection 7Rule 2(1)(b)deductionpredecessor insurerharmonious construction

Judgment

LIFE INSURANCE CORPORATION OF INDIA A
v.
COMMISSIONER OF INCOME TAX

[J.S. VERMA A.Nb K. VENKATASWAMY JJ.)
B
FEBRUARY 19, 1996

Income Tax Act, 1961/Life Insurance Corporation Act, 1956-Section
44 read with Rule 2(1)(b) of the First Schedule/S.7-Life Insurance Busi-
ness-Computation of Income-Refund of amount of excess tax paid by
predecessor insurer prior to appointed day in 1956--Held, an allowable deduc- C
tion-Cannot be disallowed on mere ground of not having been included in
the surplus in any earlier inter-valuation perio~Hamwnious construction of
Rule 2(1)(b) of Income Tax Act and Section 7 of Life Insurance Corporation
Act wa1Tants such constmction.
D
Interpretation of Statutes-Hmmonious co11stmtion :

Legal Maxim : "Lex 11011 cogit ad impossibilia" applicability of

The assessee, Life Insurance Corporation of India, a statutory Cor-
poration established under the Life Insurance Corporation Act which was E
established with effect from 1 September, 1956, received during the
relevant assessment year 1963-64 refunds of income-tax aggregating to Rs.
3,02,90,898 in life insurance business. The Income Tax Officer treated the
entire amount on revenue account and negatived the contention of the
assessee that the same to be treated as profits and gains of the assessee F
for the relevant period. On appeal, the Appellate Assistant Commissioner
held that out of the amount of Rs. 3,02,90,898 included in the revenue
account, the sum of Rs. 2,73,50,939 only was to be excluded and the balance
amount had to be included. In the cross appeals filed by both the Revenue
and the Assessee before the Income Tax Appellate Tribunal, it was inter-
alia contended by the Revenue that in computing the profits of the Assessee G
under section 44 read with Rule 2(1)(b) of the First Schedule to the Income
Tax Act, 1961, only such adjustments to the surplus or deficit as disclosed
by actuarial valuation was permissible under the rule; and that rule
permitted adjustment by way of exclusion of any surplus or deficit included
therein which was made in any earlier inter-valuation period relating to H
795
796 SUPREME COURT REPORTS [~996] 2 S.C.R.
...
A the assessee itself and not that of its predecessor in business. It was also
inter-alia stated that the words 'included therein' occurring in Rule 2(1) (b)
indicated that the surplus or deficit in any earlier inter-valuation period
must relate to that of the Corporation and not of its predecessor.

For the assessee, it was contended that the payment of taxes giving
B rise to the refund had made prior to the formation of the Corporation by
the predecessor and that on the strength of section 7 of the Life Insurance
Corporation Act, the Corporation stepped into the shoes of its predecessor
for all practical purposes including the legal consequences flowing from
the refund received by the Corporation as the successor in business. The
C Tribunal accepted the contention of the Revenue and affirmed the order
of the Appellate Assistant Commissioner to the effect that only a sum of
Rs. 2, 73, 50, 939 which had entered into the surplus of the earlier
inter-valuation period was allowable under section 2 (l)(b).

The High Court, on reference, upheld the view taken by the Tribunal
D observing that Rule 2 (l)(b) of the First Schedule to the Income Tax Act
1961 cannot be reconciled with Section 7 of the Life Insurance Corporation
Act.

Allowing the appeal of the Assessee, this Court
E HELD : 1.1 In view of the legal fiction enacted in Section 7 (2) of the
Life Insurance Act, the amount of refund made to the Corporation because
of excess tax paid by the predecessor prior to the appointed day on which
the Corporation was formed, must form part of the assets of the predeces-
sor which came to be transferred and vested in the Corporation on the
F appointed day in 1956, on the formation of the Corporation. For the same
reason, the amount of refund, even though made later, must also be
deemed to be included in the inherited opening balance shown by the
Corporation in the earlier inter-valuation period which undisputedly had
to be deducted under Rule 2 (l)(b). The amount so refunded to the
Corporation must be deemed to be included in the earlier inter-valuation
G period of the Corporation. Thus the requirement of Rule 2(1)(b) is satis-
fied since the amount is deemed to be included in the earlier inter•
valuation period of the Corporation itself. (804-E-G]

1.2 A reading of Sections 7 and 9 of the Life Insurance Corporation
H Act ma~es it clear that from the appointed day, the Corporation stepped
L.l.C. v. C.l.T. 797

into the shoes of all insurers. By virtue of Section 7(1), all assets and A
liabilities appertaining to the controlled business of all insurers were to
be transferred and vested in the Life Insurance Corporation from the
appointed day in 1956. The legal fiction enacted in Section 7 (2) included
within the assets transferred to the Corporation of all such insurers, any
amounts which were due to the predecessor-insurer and which remained
to be recovered and Section 9(2) enabled the Corporation to prosecute any
B
legal proceeding of whatever nature for the. purpose of recovering the
amounts due to the predecessor on the appointed day. It is only by virtue
of this character of the Corporation that the amount refunded as excess
tax paid prior to the appointed day by the predecessor came to be refunded
to the Corporation. [802-G, F, 803-B-C] c
1.3 The expression 'included therein' occurring in Rule 2 (l)(b) of
Schedule 1 to the Income Tax Act 1961 must be construed to mean also
the amount deemed to be included therein because of the legal effect of
section 7 of the Life Insurance Corporation Act. [804-H]
D
1.4 On a harmonious construction of the provisions of Life In-
surance Corporation Act, particularly Section 7 and Rule 2(1)(b) of the
First Schedule to the Income Tax Act 1961, the actuarial valuation is to be
shown as part of the surplus and would not be liable to tax once again.
Unless this is done, full effect cannot be given to Section 7 of the Life
E
Insurance Corporation Act. The requirement of harmonious construction
leads to this result which is also in consonance with logic and justice of
the cause. [805-H, 806-A]

Bombay Mutual Life Insurance Society Ltd. v. CIT, (1951) 20 ITR,
explained and affirmed. F
Life Insurance Corporation of India v. Commissioner of Inconie Tax,
115 ITR 45, reversed.

- ~~
CIVIL APPELLATE JURISDICTION : Civil Appeal No. 295 (NT)

From the Judgment and Order dated 4.11.77 of the Bombay High
G

-- Court in I.T.R. No. 35 of 1968.

H.N. Salve, T.A. Ramachandran, A.V. Rangam, A. Ranganadhan
and K.K. Sharma for the Appellants. H
j
798 SUPREME COURT REPORTS (1996) 2 S.C.R.

A J. Ramamurthi and S.N. Terdol for the Respondent.

The Judgment of the Court was delivered by

J.S. VERMA, J. A reference was made by the Income-tax Appellate
Tribunal under Section 256(1) of the Income-tax Act, 1961, at the instance
B of the assessee, to the Bombay High Court for deciding seven questions of
law arising out of the Tribunal's order. The first six questions were
answered by the High Court in favour of the assessee, while the seventh
question was answered against the assessee. This appeal by special leave
is by the assessee challenging the High Court's decision only in respect of
C the seventh question decided against the assessee. That question is as
under:

"Whether on the facts and in the circumstances of the case, the
sum of Rs. 23,39,959 being the refund of income- tax received by
the Corporation during the intervaluation period in respect of the
D income-tax upto the assessment year 1956-57 of the life insurance
business of the erstwhile insurers whose business had been taken
over by the Corporation, should be allowed as a deduction while
computing the income of the assessee under Rule 2(1)(b) of the
First Schedule to the Income-tax Act, 1961 ?"
E In this. appeal, no further reference to the other six question.~ is necessary.

The assessee Life Insurance Corporation of India (Corporation) is a
statutory Corporation established under the Life Insurance Corporation
Act, 1956 with effect from 1st September, 1956. The relevant assessinent
F year is 1963-64 for which the accounting period ended on 31.3.1963. During
the relevant assessment year, the assessee received refunds of income-tax
of 3,02,90,898 in the life insurance business. The assessee contended before
the Income-tax Officer that the entire amount of refund was not includable
in the revenue account and treated as profits and gains of the assessee for
.the assessment year under consideration. The Income-tax Officer rejected
G the contention and included the entire amount in the revenue account. In
the assessee's appeal, the Appellate Assistant Commissioner held that out

-
of the amount of Rs. 3,02,90,898 included in the revenue account, the sum
of Rs. 2,73,50,939 only was to be excluded but the balance amount had to
be included. The assessee as well as the revenue preferred appeals to the
H Tribunal..
L.I.C.v. C.l.T. [J.S. VERMA,J.] 799

Before the Tribunal, it was contended by the revenue that in com- A
puting the profits of the assessee under Section 44 read with Rule 2(1)(b)
of the First Schedule to the Income-tax Act, 1961, the Income-tax Officer
can make only such adjustments to the surplus or deficit disclosed by the
actuarial valuation which are permissible under the rule; that the rule
permits adjustment by way of exclusion of any surplus or deficit included
B
therein which was made in any earlier inter-valuation period relating to the
assessee itself and not to that of its predecessor in the business. It was
contended that a part of the refund of tax~s received by the Corporation
had not been included in the surplus of the earlier inter-valuation period
relating to the assessee but of its predecessor since the refund was in
respect of the taxes paid by the predecessor prior to the formation of the c
Corporation on 1st September, 1956. It was contended that the words
"included therein" used in Rule 2(1)(b) indicated that the surplus or deficit
in any earlier inter-valuation period must relate to that of the Corporation
and not its predecessor. The decision of the Bombay High Court in
Bombay Mutual Life Assurance Society Ltd. v. Commissioner of Income-tax, D
Bombay City, (1951) 20 ITR 189 was distinguished. The contention of the
assessee was that the payment of taxes which gave rise to the refund having
been made prior to the formation or the Corporation, by the predecessor,
there was no occasion for the surplus or deficit in any earlier inter-valua-
tion period of the Corporation being required to be looked into for the
purpose. Relianee was placed. on Section 7 of the Life In~urance Corpora- E
· tii:m Act, 1956 (for short ,;the LIC Act") to contend that the Corporation
stepped into the shoes of its predecessor for all practical putpcises includ-
ing the legal consequences floWing from the refund received by the Cor-
poration as the success9r of its predecessor in business.
F
The Tribunal accepted the contention of .the revenue and held as
under : -

But only such portion of the refunds which has been
included in the surplus or deficit made in the earlier intervaluation
period alone has to be excluded. On the analysis of the refunds G
and the assets to which they related, the appellate Asstt. Commis-
sioner found that this sum of Rs; 2, 73,50,939 only had entered into
the surplus of the earlier intervaluation period out of Rs.
3,02,90,898. Therefore, only that portion is allowable u/s. 2(1)(b)
and has been rightly allowed by the Appellate Asstt. Commis- H
800 SUPREME COURT REPORTS [1996] 2 S.C.R.

A sioner. Disallowance of the balance of the tax refund was quite in
order because they did not come out of the assets which were
included in surplus of the earlier inter-valuation period."

The above-quoted question was referred to the High Court for its
decision at the instance of the assessee-Corporation, under Section 256(1)
B of the Income-tax' Act. The High Court upheld the view by the Tribunal.
That decision of the High Court is reported in (1978) 115 ITR 45 Life
Insurance Corporation of India, Bombay v. Commissioner of Income-tax,
Bombay City-Ill. The relevant part of the High Court's judgment, rejecting
the assessee's contention, is as under :
c .
"It is difficult to accept this submission. Rule 2(1)(b) is an
artificial mode of computation of profits of an assessee who carries
on life insurance business. -These profits are arrived at by first
determining the annual average of the surplus after adjusting the
D surplus or deficit as disclosed by the aetuarial valuation made in
-accordance with the Insurance Act, 1938, in respect of the last
inter-valuation period. What is contemplated by rule 2(1)(b) is that
if there is a surplus of the earlier inter-valuation period, which was
entered in the accounting while finding out the surplus for the
inter-valuation period in question, then that surplus has to be
E deducted for the purposes of find~g out the surplus in respect of
r . ~c~ •

the assessment year in question. It is necessary to remember that
when an actuarial valuation -is made by an actuary on behalf of the
company, first of all a consolidated revenue account is prepared,
which would show on the one side the amount of life insurance
F fund at the end of the period for which the consolidated revenue
account is prepared. The actuary then fitids out what is the net
liability of the company under the current policies and after fixing
the net liability on the current policies, he deducts that liability
from the life assurance fund and the result is the surplus. If this is
the concept of the surplus to be found on actuarial valuation, than_
G it is obvious that that before a surplus is asked to be deducted on
the ground that part of the surplus was carried forward from the
earlie~ inter-va_lliation period, it must be found as a fact that what -
is now-sought to be deducted was shown as a surplus ofthe earlier -
inter-valuation period. Rule 2(1)b) operates ill respect of the
H particular assessee whose profits of the life insurance business are
L.l.C. v. C.l.T. (J.S. VERMA, J.] 801

under computation. Accepting the contention of the learned coun- A
sel for the assessee would mean that we would have to add to the
language of rule 2(1)(b) so that it should be so construed that what
is to be taken into account is not the actual surplus which has been
carried forward into the inter-valuation period in question but also
some amount which must be deemed to have been carried forward B
into the surplus of the inter-valuation period. It is, no doubt, true
that the legal effect of section 7 of the Life Insurance Act is that
the assets of the insurer who carried on the life insurance business
are vested in the Life Insurance Corporation, but the legal effect
of that vesting cannot be imported into the provisions of rule
2(1)(b) where a pre-condition has to be satisfied before a deduc- c
tion in respect of the surplus is made, the pre-condition being that
that surplus has to be shown as a surplus of the previous inter-
valuation period. There is no scope of reading into rule 2(1)(b)
any additional powers for the income-tax authorities to so amend
the figure of surplus that is different from the actual surplus which D
is shown on the basis of the actuarial valuation..........."

(at page 55)

In substance, the High Court declined to give effect to Section 7 of
the LIC Act on its view that the provision in Rule 2(1)(b) alone was E
decisive and it could not be given effect to, if the legal effect of Section 7
of the LIC Act is. to be taken into account. Apparently, the High Court
took view that Rule 2(1)(b) cannot be reconciled with Section 7 of the LIC
Act. The question is whether this view is correct.

The relevant provisions in the Life Insurance Corporation Act, 1956 F
are as under :

"7. Transfer of assets and liabilities of existing insurers carrying
on controlled business . - (1) On the appointed day* there shall
be transferred to and vested in the Corporation all the assets and G
liabilities appertaining to the controlled business of all insurers.

(2) The assets appertaining to the controlled business of an·
insurer shall be deemed to include all rights and powers, and all
property, whether movable or immovable, appertaining to his con-
trolled business, including, in particular, cash balances reserve H
802 SUPREME COURT REPORTS [1996] 2 S.C.R.
J
A funds, investments, deposits and all other interests and -rights in or
arising out of such property as may be in the possession of the
insurer and . all books of account or documents relating to the
controlled business of the insurer; and liabilities shall be deemed
to include all debts, liabilities and obligations of ·whatever kind
then existing and appertaining to the controlled business of the
B insurer.

..
xxx xxx xxx

* 1st September, 1956."
c "9. General effect of vesting of controlled business. - ( 1) ....... .

(2) If on the appointed day any suit, appeal or other legal
proceeding of whatever nature is pending by or against an insurer,
then, in so far as it relates to his controlled business, it shall not
D abate, be discontinued or be in any way prejudicially affected by
reason of the transfer to the Corporation of the business of the
. insurer or of anything done under this Act, but the suit, appeal or
other proceeding may be continued, prosecuted and enforced by
or against the Corporation."
E Sub-section (1) of Section 7 clearly provides that from the appointed
day in .1956, ali the assets and liabilities appertaining to . the controlled
blisiness of all insurers, are to be trru;isferred and vested in the Life
Insurance Corporation of India. Sub~section (2) of Section 7 enacts the ·
legal fiction by virtue of which "all rights and powers, an
property, whether
F movable or immovable, appertaining to his controlled business, including,
in particular, cash balances, reserve funds, investments, deposits and all .
other interests and rights in or arising out of such property as ·may be in .
the possession of the .msurer and all books of accounts. or document~
relating to the controlled business of the insurer" were deemed to be assets
of ari:· insuret which came to be transferred and vested irt the Corporation
G from th'e aPRointed day, and so also all the liabilities. In other words, from
the"appoinfo4 ,day, th~_ Corporation stepped into the shoes of all-. such
insur~rs. Section 9 provides for the _general effect of vesting· of. controlled
·busines~ ~d sub-section (2) ther~in express_ly enacts that the Corporation
stepped into the shoes of the predecessor-insurer from the appointed day
·H in respect of any suit, appeal 01 other legal proceeding of whatever nature
L.I.C.v. C.l.T. [J.S. VERMA,J.) 803

pending by or against an insurer. A
This legal fiction enacted in Section 7(2) includes within the assets
transferred and vested in the Corporation of all such insurers any amounts
which were due to the predecessor-insurer and which remained to be
recovered. Section 9(2) enable the Corporation to prosecute any legal
proceeding of whatever nature for the purpose of recovering amounts due B
to the predecessor on the appointed day. There is no dispute that any
liability of the insurer also stood transferred similarly to the Corporation;
Accordingly, if any amount remained due towards taxes to be recovered
from the predecessor, it was a liability transferred to the Corporation and
the Corporation became liable to discharge the same. It is also not in C
dispute that it is only by virtue of this character of the Corporation that
the amount refunded as excess tax paid prior to the appointed day by the
predecessor came to be refunded to the Corporation to whom all the assets
of the predecessor stood transferred and vested from the appointed day in
1956. It is also not disputed that the opening balance inherited by the
Corporation from the predecessor on the appointed day had to be D
deducted under Rule 2(1)(b) and the amount shown as such was so
deducted. It is further not disputed that if this excess amount of tax paid
by the predecessor had not been so paid and the question of refund did
not arise, then this extra amount would have formed a part of the inherited
opening balance with the Corporation and deduction of the same would E
have been given under Rule 2(1)(b). The question is: Whether, the refund
having been made to the Corporation only because of. the provision in
Section 7 of the LIC Act, the same result should not follow on the wording
of Rule 2(1)(b) ?

Rule 2(1)b) of the First Schedule to the Income-tax Act, 1961 is as F
under:

"2. Computation of profits of life insurance business. - (1) The
profits and gains of life insurance business shall be taken to be the
greater of the following - G
(a)············

(b) the annual average of the surplus arrived at by adjusting
the surplus or deficit disclosed by the actuarial valuation made in
accordance with the Insurance Act, 1938 (4 of 1938)j in respect of H
804 SUPREME COURT REPORTS [1996] 2 S.C.R.

A the last inter-valuation period ending before the commencement
of the assessment year, so as to exclude from it any surplus or
deficit included therein which was made in any earlier inter-valua-
tion period and any expenditure or allowance which is not deduct-
ible under the provisions of (Sections 30 to 43-A)* in computing
income chargeable under the head "Profits and gains of business
B or prpfession".

' *Subs. by Finance (No. 2) Act of 1967 (w.e.f. 1-4-1967).

It is obvious that in the surplus or deficit in any inter- valuation
C period relating to the Corporation which came to be formed only on the
appointed day in 1956, this amount could not be reflected since it related
to a period to the formation of the Corporation. The law does not con-
template or require the performance of an impossible act - lex non cogit
ad impossibilia. It is now to be seen whether the expression "included
D therein" in Rule 2(1)(b) is alone sufficient to negative the logical legal effect
of Section 7 of the LIC Act.

The legal fiction enacted in Section 7(2) of the LIC Ac~must be
taken to its logical conclusion. For this reason, the amount of refund made
to the Corporation because of excess tax paid by the predecessor prior to
E the appointed" day on which the Corporation was formed, must form a part
of the asset of the predecessor which came to be transferred and vested in
the Corporation on the appointed day in 1956 on the formation of the
Corporation. For the same reason, this amount of refund, even though
made later, must also be deemed to be included in the inherited opening
F balance shown by the Corporation in the earlier inter-valuation period
which undisputedly had to be deducted under Rule 2(1)(b). It follows that
because of this legal fiction being required to be taken to its logical
conclusion, the amount so refunded to the Corporation: must be deemed
to be included in the earlier inter- valuation period of the Corporation. On
G this conclusion, the requirement of Rule 2(1)(b) is satisfied since the
amount is deemed to be included in the earlier inter-valuation period of
the Corporation itself. The expression "included therein" which is the basis
of the view taken by the Tribunal and the High Court and is also the
contention of the revenue before us, must be construed to meaa also the
amoµnt deemed to be included therein because of the legal effect of
H Seation 7 of the LIC Act.
l
L.l.C.v. C.l.T. [J.S. VERMA,J.) 805

The High Court failed to appreciate the true import of the decision A
in Bombay Mutual Life Assurance Society Ltd. v. Commissioner of Income-
tax, Bombay City, (1951) 20 ITR 189, to take the view that the decision
turned on the application of Rule 3(b) of the Schedule which made certain
provisions for the purposes of computing surplus for the purposes of Rule
2; and that the latter part of Rule 3(b) was given effect to because it was
found that amount was liable to be included as a part of the surplus. The
B
significance of that decision in the present context is in the observations of
Chagla, C.J. speaking for the Bench, as under :

"With regard to these two sums we would like to add that as
we are holding that these two amounts form part of the surplus C
and therefore liable to tax although in the accounts of the company,
they have not been shown as forming part of the surplus, Sir
Jamshedji apprehends that when in fact these amounts are shown
as part of the surplus in future the taxing authorities will tax this
amount over again. Now it is clear that when you determine the D
surplus for the purposes of Rule 2(b) you have to deduct from it
any surplus or deficit included therein which was made in any
earlier intervaluation period. Therefore if the department proposes
to tax this sum of Rs. 2, 72, 946 and also the sum of Rs. 1,00,000
it can only be on the basis that these two amounts formed part of
the surplus. Therefore, in future if these two amounts are shown . E
in the actuarial valuation as part of the surplus they would not be
liable to tax over again as the position in law is clear and we have
no doubt that the Department will act in accordance with the
directions we are giving in this reference."

(at page 198)
F

The principle enunciated in the above passage to be noticed is : •

"......... in future if these two amounts are shown in the actuarial
valuation as part of the surplus they would not be liable to tax over G
again as the position in law is clear ............"

This aspect has been overlooked by the High Court.

A harmonious construction of the provisions of the LIC Act, par-
ticularly Section 7 therein, and Rule 2(1)(b) of the First Schedule to the H
J
806 SUPREME COURT REPORTS [1996] 2 S.C.R.

A I.ncome-truc Act, 1961, is requires this construction to be made. Unless this
done, full effect cannot be given to Section 7 of the LIC Act, for which we
find no reason. Since the requirement of harmonious construction leads to
this result which is also in consonance with logic and justice of the cause,
we do not find any reason to take a different view.

B· Consequently; the appeal is allowed. The judgments of the High
Court and the Tribunal are set aside. The aforesaid question is answered
in favour of the assessee and against the revenue. No costs.

R.D.R. Assessee's appeal allowed.