Tuesday, 23 October 2012

Whether before invoking provisions of Sec 179 against Director of a Pvt Company it is necessary for Revenue to establish that tax due cannot be recovered from company - YES: Gujarat HC

THE issues before the Bench are - Whether in order to invoke the provisions of section 179 against a director of a private limited company, the Department must first establish that tax dues from the company cannot be recovered; Whether under section 179 of the Act, the Department could only recover tax due from the director of a private limited company and not interest or penalty and Whether on the facts and in the circumstances of the case, the Department is not justified in seeking recovery of the dues against the petitioner on the ground that there was no gross negligence on part of the petitioner to which non recovery can be attributed. And the verdict goes in favour of the assessee.
Facts of the case

The petitioner was one of the two directors of one Agni Briquette Pvt. Ltd. (herein- after to be referred to as “the said company”). For the AY 1997-1998, the said company filed its return of income declaring nil income. The AO framed
assessment on 18.2.2000 holding that the said company had income of Rs.26,55,117/- from undisclosed sources. He also issued a notice for imposing penalty u/s 271(1)(c) of the Act. The Tribunal dismissed the assessee's appeal on 23.2.2007 on the ground that the notice of hearing of the appeal when sent to the company, the same was returned with a postal remark “left”.

On 4.12.2002, the ITO, issued a tax demand on the company stating that upon verification of records it was observed that an amount of Rs.26,55,117/- and penalty of Rs.11,41,702/- was payable by the company. On 1.8.2001, the Tax Recovery Officer issued a prohibitory order stating that in view of the warrant of attachment issued on 19.1.2001, the machinery lying in the factory premises of the company shall not be sold or transferred or removed from the place of the factory without the permission of the Tax Recovery Officer of the Income Tax department.

On 29.8.2011 the Tax Recovery Officer even attached personal property of the petitioner namely, his share in an immovable property situated at survey no. 990/4 at Gujarat Saw Mill Compound, Anand. On 14.2.2012, the Assistant Commissioner of income tax issued a notice to the petitioner pointing out that the petitioner was a director during the previous year relevant to the AY in which the demand related. He was called upon to state why he should not be personally held liable for payment of demands of the company with interest as per the provisions of section 179 of the Act.

The petitioner contended that the tax department had issued a prohibitory order against the sale of the company's assets as far back as in August 2001. The department therefore, could have taken necessary action for recovery of the dues. If proper care had been taken, dues of GSFC (in whose favour the company had created a first charge over its immovable properties) could have been recovered and residue could have been sufficient to cover company's tax dues. The petitioner also contended that he had filed a writ petition before the High Court questioning the action of the GSFC in auctioning the property. Despite the fact that negotiations were going on, GSFC had auctioned the property to recover its dues. The petitioner also contended that requirements of section 179 of the Act were not fulfilled. It cannot be stated that the dues of the company could not be recovered. He contended that in such a situation recovery against the Director could not be effected. He pointed out that the department had not taken effective steps to recover the dues from the company and that non recovery of the tax arrears cannot be attributable to any negligence or breach of duty on his part.

Rejecting all such contentions of the petitioner, the Assistant Commissioner passed the impugned order on 27.2.2012 u/s 179 of the Act and recorded that various effective steps for recovery of outstanding dues of the company were taken by the department from time to time. He listed as many as 23 such different efforts made, of issuance of recovery notices, of orders of attachment of immovable properties, of summonses issued to the officers of the company and so on. He concluded that inspite of such various steps, the arrears of outstanding demand remained unpaid by the company. He concluded that the petitioner as a director of the company had failed to prove that non recovery of arrears of outstanding demand cannot be attributed to his gross negligence, misfeasance or breach of duty in relation to the affairs of the company as required u/s 179 of the Act.

The petitioner filed the present petition in which in addition to challenging the said order dated 27.2.2012 passed by the Assistant Commissioner u/s 179 of the Act, he has challenged various other consequential communications as also the very notice pursuant to which the said order came to be passed.

Having heard the matter, the High Court held that,

++ Sub-section(1) of section 179 provides for joint and several liability of the directors of a private company wherein the tax due from such company in respect of any income of any previous year cannot be recovered. First requirement therefore, to attach such liability of the director of a private limited company is that the tax due cannot be recovered from the company itself. Such requirement is held to be pre- requisite and a necessary condition to be fulfilled before action u/s 179 of the Act can be taken;

++ insofar as requirement of law is concerned, there is unanimity of view of this Court. In the present case however, from the impugned order itself it is noticed that the department had taken strenuous steps to make recovery against the company itself. As many as 23 different steps were enumerated which included, issuance of recovery notices, of summonses to the directors of the company, of recovery letters to the company and its directors, of attachment of the property and issuance of prohibitory orders. Despite such detailed steps by the department spanning from the year 2001 till the year 2011, no recovery could be made from the company. Over the immovable property of the company which was attached by the Income Tax department, GSFC had first charge. Such property was sold by GSFC to recover its dues. It is not even the case of the petitioner that the company has other property from which the tax dues can be recovered. It therefore, cannot be stated that basic requirement of section 179(1) of the Act that the tax due cannot be recovered from the company was not satisfied;

++ controversy arises in view of the fact that u/s 179 of the Act what is made recoverable from the director of a private company is “tax due”. The Apex Court in case of Harshad Mehta had an occasion to interpret the term 'tax due'. It was noticed that the Act uses the terms the tax, interest and penalty differently;

++ section 179(1) of the Act permits recovery of tax dues of any private company from its Directors under certain circumstances. Such circumstances being that such tax cannot be recovered from the company and unless the Director proves that the non recovery cannot be attributed to gross negligence, misfeasance or breach of duty on his part in relation to the affairs of the company. Section 179(1) of the Act thus statutorily provides for lifting of corporate veil under given set of circumstances. The liability of tax dues which is basically fastened on the company, is permitted to be recovered from its Director in case of private company, provided the conditions set out in said section noted above are fulfilled;

++ in section 179 of the Act, term used is “tax due”. Section 2(43) of the Act defines tax. Term 'penalty' has not been defined. Term 'interest' is defined in section 2(28A) of the Act but is in context of interest payable in any manner in respect of any moneys borrowed or debt incurred and has no relation to interest chargeable under various provisions of the Act on tax arrears. Section 156 which pertains to notice of demand provides that where any tax, interest, penalty, fine or any other sum is payable in consequence of any order passed under the Act, the AO shall serve upon the assessee a notice of demand in the prescribed form specifying the sum so payable;

++ When the language used in section 179(1) of the Act is compared with that of section 156, it emerges that in section 179, the term used is 'tax due' whereas in section 156 which is a recovery provision refers to a notice of demand which would specify the sum payable. The sum payable may as provided in the section itself include tax, interest, penalty fine or any other sum which is payable in consequence of any order under the Act. Section 220 of the Act pertains to “when tax payable and when assessee deemed to be in default”. Section 220(1) provides for time limit for payment of amount otherwise than advance tax specified in notice demand u/s 156. Section 220(2) provides that if the amount so specified is not paid within such time, the assessee shall be liable to pay interest. Such interest thus would be on the entire sum payable which may include the tax, interest and penalty or any other source found payable. It would therefore, not be possible to stretch the language of section 179(1) of the Act to include interest and penalty also in the expression 'tax due';

++ the liability of the director to pay the dues of the company arises in terms of section 179(1) of the Act and such liability would be co-extensive as provided in the said provision which as we notice refers to tax dues. The director may be considered an assessee u/s 2(7) of the Act which provides that assessee means a person by whom any tax or any other sum of money is payable under the Act. However, the same must be qua the tax of the company which was due and remained unpaid. By virtue of section 179(1) of the Act, the director cannot be held liable for interest and penalty and thereupon be treated as an assessee u/s 2(7) of the Act as a person by whom any tax or any other sum of money is payable under the Act;

++ the last question namely, whether in facts of the case respondent was justified in ordering recovery against the petitioner. In this respect, it is noticed that the petitioner before the authority in response to the notice u/s 179 of the Act made a detailed representation and contended that he had taken all the steps within his powers. He had not been negligent in his duties. The GSFC had auctioned the property for realisation of its dues. The tax department had issued attachment order but done nothing thereafter, to prevent the sale by GSFC. The Assistant Commissioner however, in the impugned order rejected all such contentions. He was of the opinion that the petitioner failed to establish that non recovery of arrears cannot be attributed to any gross negligence, misfeasance or breach of duty on part of the petitioner in relation to the affairs of the company;

++ the authority completely failed to appreciate in proper perspective the requirement of section 179(1) of the Act. As long as the director establishes that the non recovery of the tax cannot be attributed to his gross neglect, etc., his liability u/s 179(1) of the Act would not arise. Here again the legislature advisedly used the word gross neglect and not a mere neglect on his part. The entire focus and discussion of the Assistant Commissioner in the impugned order is with respect to the petitioner's neglect in functioning of the company when the company was functional. Nothing came to be stated by him regarding the gross negligence on part of the petitioner due to which the tax dues from the company could not be recovered. In absence of any such consideration, the Assistant Commissioner could not have ordered recovery of dues of the company from the director. It was clarified that in the present case the petitioner had putforth a strong representation to the proposal of recovery of tax from him u/s 179 of the Act. In such representation, he had detailed the steps taken by him and the circumstances due to which non recovery of tax cannot be attributed to his gross neglect. It was this representation and the factors which the petitioner had putforth before the Assistant Commissioner which had to be taken into account before the order could be passed. It is not even the case of the department that the petitioner paid the dues of other creditors of the company in preference to the tax dues of the department. It is not the case of the department that the petitioner negligently frittered away the assets of the company due to which the dues of the department could not be recovered. To suggest that the petitioner did not oppose the GSFC's auction sale is begging the question. GSFC had sold the property after several attempts through auction. It is not the case of the department that proper price was not fetched;

++ additionally, it was also noticed that the Assistant Commissioner has referred to several factors, dates and events which, according to him, established gross negligence on part of the petitioner without even putting the petitioner to notice about such factors and events. Therefore, quite apart from our conclusion that the Assistant Commissioner did not record that the petitioner failed to prove that non recovery of tax from the company could not be attributed to his gross neglect, misfeasance or breach of duty, such findings were also based on materials relied upon by the Assistant Commissioner without notice to the petitioner.

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