The main legal point established is that a statutory obligation creating an overriding charge can result in a diversion of profits at source, making the contribution liable for deduction.

S. Rajendra Babu, J.—This is a reference under section 256(1) of the Income Tax Act, 1961 (hereinafter referred to as the "Act"), made at the instance of the Department for our opinion on the following question of law :

"Whether, on the facts and in the circumstances of the case, the Tribunal was correct in holding that the amount of Rs. 9,431 paid by the assessee to the Co-operative Education Fund was allowable as a deduction in computing the assessable income."

2. The assessee is a co-operative society registered under the Karnataka Co-operative Societies Act (hereinafter referred to as the "Societies Act"). For the relevant assessment year, the assessee claimed deduction of an amount of Rs. 9,431 being the contribution to the education fund which was made as required under section 57(4)(a) of the Societies Act. The Income Tax Officer disallowed this claim. On appeal, the Appellate Assistant Commissioner allowed the same. On further appeal by the Revenue, the Tribunal confirmed the order of the Appellate Assistant Commissioner.

3. The Tribunal held that the contribution to the education fund was out of the net profits and did not fall in the exclusionary provisions of rule 22 of the said Societies Rules by which the computation of profit is made. On behalf of the Department, it was contended that the view of the Tribunal is not correct and that the contribution to the education fund is only an application of profits and not diversion of income at source in view of section 57 of the Societies Act. Learned counsel for the assessee has contended that this conclusion is correct which is based on the provisions of sections 28, 36, 37(1) and 37(4) of the Act and rules 20 and 22 of the rules framed under the Societies Act which had the effect of diverting the income by an overriding title or charge.

4. The scheme of the Societies Act is as follows : Every co-operative society (other than a co-operative society whose net profit does not exceed Rs. 500) which declares payment of a dividend to its members on the paid-up share capital at a rate of 2% or more shall contribute towards the Co-operative Education Fund at such rates not exceeding 1 1/2 % of the net profits. Rule 20 of the rules provides that the payment has to be ascertained by reference to the rate of dividend. An analysis of section 57 of the Societies Act and rule 20 of the Societies Rules will disclose that the condition for payment is that if the profits of a society exceed Rs. 500, and a declaration of payment of dividend to the members on paid-up share capital at the rate of 2% is made, then the society is under an obligation to contribute towards the Co-operative Education Fund at a rate not exceeding 1 1/2 % of the net profits. The rate of contribution depends upon the rate of dividend. The language of section 57(4)(a) of the Societies Act makes it clear that though the contribution is to be made with reference to the profits, it is not out of profits, and the rate is with reference to the rate of dividend. What is provided in the section is an obligation to contribute to the Cooperative Education Fund under certain contingencies and is a statutory liability which is an overriding charge on the income or profits of the society. In somewhat similar circumstances, in Poona Electric Supply Co. Ltd. Vs. Commissioner of Income Tax, Bombay, AIR 1966 SC 30 , the Supreme Court has held that the assessee is a Commercial undertaking carrying on the business of supply of electricity in accordance with the provisions of the Electricity (Supply) Act. Certain amounts were credited by it to "the consumers" benefit reserve account" which was part of the excess amount paid to it and reserved to be returned to the consumers. The Supreme Court held that such amounts do not form Part of the real profits of the assessee because such amounts which were paid to the company even at source were impressed with the character or obligation that the same shall be paid or contributed to