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Tax Reference No. 237 of 1971, decided on 13th April 1976.

S. 2(6-C) read with Insurance Act (IV of 1938), S. 95(1)(a) "Profits and gains"-Mutual insurance company composed entirely of its policy holders and no outsiders-Surplus amount in hands of such company-Held, cannot be said to be profits or gains and hence not taxable.

The effect of the status of a mutual insurance association is that as members deal with themselves as a class, the surplus is not a profit to the company but only meant to either deal with an unforeseen situation or an eventuality concerning themselves or to divide the same between them selves at the time of winding-up. Thus only such profits, as have been derived by the company from its dealings with outsiders and not from its members, can be termed as profits or gains and brought within the definition of section 2(6-c) of the Income-tax Act. Therefore, only such transactions of the petitioner can be taken into consideration for the purpose of section 2(6-c) as are referable to the outsiders and not to those with its members.

Thomas v. Richard Evan & Co. Ltd. 11 Tax Cas. 790 ; Faulconbridge v. National Employers' Mutual General Insurance Association Ltd. 33 Tax Cas. 103 and Commissioner of Income-tax v. The Lyallyur Central Cooperative ,sank Ltd. P L D 1959 Lah. 627 ref.

Muhammad Ali Khan for Appellant.

Sh. Abdul Haq for Respondent.

Date of hearing : 13th April 1976.

-the assessee is carrying on insurance business as Mutual Insurance Company within the meaning of section 95(l)(a) of the Insurance Act, 1938. It submitted returns of its income with regard to the assessment years 1953-54, 1954-55 and 1955-56, which were duly completed by the Income-tax Officer. After exhausting the remedy of appeals, three references Nos. 76, 77 and 78 of 1962/63 came up before this Court in which it was directed as follows:-

We have, therefore, no alternative but to send back the reference to the Tribunal for holding an inquiry whether the insurance transactions of the assessee Company are of mutual character and in the result make such additions or alterations as may be necessary in the statement of the case."

The Tribunal, in pursuance to the above direction, took up the matter and, has submitted that in its opinion the petitioner's activities were of a character satisfying all the conditions of mutuality'.

2. It is contended by the learned counsel for the assessee that as the Tribunal has found the petitioner to be a 'mutual insurance company' within the meaning of section 95(1)(a) of the Insurance Act, and has also held,, that it is composed entirely of its policy holders and no outsiders, the surplus amount in its hands cannot be said to be profit or gains and is not taxable. Reliance was placed on Thomas v. Richard Evans & Co. Ltd. 11 Tax Cas. 790, Faulcon bridge v. National Employers' Mutual General Insurance Association Ltd. 33 Tax Cas. 103 and C. I. T. v. The Lyallpur Central Co-operative Bank Ltd. P L D 1959 Lah. 627 in support of that plea.

3. The learned counsel for the Department vehemently contested the contention raised by the learned counsel for the assessee. It was firstly contended that if the surplus amount collected by the company is distributed amongst only those persons who were the members of the company at the relevant time, when the surplus amount accrued, the company is a 'mutual insurance company'. However, if the membership goes on changing and the surplus earned at one time can be distributed to those who were not members at the relevant time, when the surplus was earned, the concern is not a mutual company. Precisely the contention is that as the members of the assesses company in this case were changing from year to year and those who had lost membership because of the expiry of the policy, would not benefit from the surplus assets arising during their period, the mutuality, between the members is absent and the company would not be entitled to any benefits on that score. A similar contention raised in the case of Faulconbridge's case referred to above was considered by the House of Lords -and dealt with at page 125 as under:-

"In this case it is observed first that the fire policy-holders were not entitled as of right under the articles to any return of their excess contributions by way of reduction of future premiums before the winding-up; but nevertheless it was conceded that with regard to fire business the business of the company was truly mutual. Secondly the fire policy-holders appear to have been under no liability to .contribute to any losses save and except l0 in a winding-up, and a liability to contribute before winding up was not regarded by Lord Macmillan as a cordinal requirement. Thirdly, it may be inferred from the words of Lord Macmillan that in his opinion the transaction of the company would have been truly mutual notwithstanding the existence of two or more classes of insurance business if the surplus arising from those classes of business had gone back to the contributors as a whole and not to one class of policy-holder.

I do not think I need refer to the next case which was cited to me, namely, the Ayrshire Mutual Insurance case, 27 T. C. 331, which turned on the true construction of section 31 of the Finance Act, 1933, and I will conclude my review of the authorities by a short quotation from the English and Scottish Joint Co-operative Wholesale Society, Ltd. v. Commissioner of agricultural Income-tax, Assam (1948) A C 4 5, a decision of the Privy Council, where Lord Normand delivered the judgment of the Board. At page 419, after dealing with the speeches of Lord Watson and Lord Herschell in Styles's case (2 T C 460), he said this:

"From these quotations it appears that the exemption was based on (1) the identity of the contributors to the fund and the recipients from the fund, (2) the treatment of the company, though incorporated, as a mere entity for the convenience of the members and policy-holders, in other words, as an instrument obedient to their mandate, and (3) the impossibility that contributors should derive profits from contribu tions made by themselves to a fund which could only be expended or returned to themselves"

The same situation was discussed by Rowatt, J. in Thomas v. Richard Erans ,dc Co. Ltd. at page 823, in King's Bench as under:-

'****Where all that a company does is to collect money from a certain number of people-it does not matter whether they are called members of the company, or participating policy holders-and apply it for the benefit of those same people, not as shareholders in the company, but as the people who subscribed it, then, as I understand the New York case, there is no profit. If the people were to do the thing for themselves, there would be no profit, and the fact that they incorporate a legal entity to do it for them makes no difference, there is still no profit. This is not because the entity of the company is to be disregarded, it is because there is no profit, the money being simply collected from those people and handed back to them, not in the character of shareholders, but in the character of those who have paid it. That, as I understand it, is the effect of the decision in the New York case .

I

Vicount Core L. C. in the House of Lords at pages 838-839 dealt with it as follows :-

"Counsel for the appellant contended that the present case was distin guishable from the New York Life Insurance Company's case (2 T C 462). on the ground that, whereas the company there in question returned to its participating policy-holders the surplus of its receipts over its expenditure at the end of each year, the Articles of the respondent Association require that surplus to be carried to reserve and not at once returned to the members. I do not think this a sound distinction. In this case, as in the New York Life Insurance Company's case, there are no shareholders interested, and the whole of the yearly surplus remains to the credit of the members and must either be applied to meeting their future claims or be returned to them on retirement. Sooner or later, in meal or in malt, the whole of the Association'& receipts must go back to the policy-holders as a class, though not precisely in the proportions in which they have contributed to them; and the Association does not fn any true sense make a profit out of their contributions. It may be added that in that case, as in this, some part of the receipts of each year was carried forward as funds in hand."

We respectfully agree with the views expressed in the above cases and hold that the contention raised by the petitioner is correct and valid.

4. The learned counsel further submitted that even as a mutual insurance company a portion of its profits is subject to tax being 'income' as defined under section 2(6-C) of the Income-tax Act. This may be correct with regard to such profits and gains of the company as may have been earned through transactions with outsiders but not with its members as discussed above. It is, however, a question of fact if the amounts retained by the company included sums of that sort. The effect of the status of s 'mutual insurance association' is that as members deal with themselves as a class, the surplus is not a profit to the company but only meant to either deal with an unforeseen situation or an eventuality concerning themselves or to divide the same between themselves at the time of winding-up. Thu only such profits, as have been derived by the company from its dealings with outsiders and not from its members, can be termed as 'profits or gain and brought within the definition or section 2(6-C) of the Income-tax Act, We, therefore. hold that only such transactions of the petitioner can taken into consideration for the purpose of section 2(6-C) as are referable to the outsiders and not to those with its members.

5. Apart from what has been discussed above, it may be noted that the Tribunal has found as a fact that the petitioner did satisfy all the conditions of mutuality. The relevant portion of the findings of the Tribunal racy be reproduced below with advantage :-

"In the main our submission is that there is no dispute about the appellant being a mutual insurance company within the meaning of section 95(1)(a) of the Companies Act, 1913. It is also a fact that the company as incorporated is composed of entirely by its policy holder members since no outsider could become a member. The insurance transactions which are entered into between the company and its policy holders are of a mutual character. From the statement furnished it is also established that its policy holders do receive the benefits of lower premia and rebates. This fact is however true that on the expiry of the policy a particular shareholder ceases to be a, member of the company and as such his to participate in any surplus also ceases but it is to be admitted that the interest in this money does not go beyond the people or the class of people who subscribe to it. This is a class only the policy holders of the assessee Company can participate in the surplus and although their individual identity, may be lost yet the class identity is maintained. In this view of the matter in our opinion the appellant's transactions would be of a mutual character which would satisfy all the conditions of mutuality. We accordingly resubmit the case to the High Court with the above supplementary statement of the case."

This being an admitted position that the petitioner is registered as a 'Mutual Insurance Company' with the Controller of Insurances under that Act and admittedly there being mutuality of interest between its members, we have no option but to hold that all the conditions of mutuality stand proved and that the petitioner is entitled to all the benefits of a mutual insurance company. The Department shall pay to the costs.

s. Q. Order accordingly.-

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