TAXABILITY OF MESNE PROFITS

‘(12) “mesne profits” of property means those profits which the person in wrongful possession of such property actually received or might with ordinary diligence have received therefrom, together with interest on such profits, but shall not include profits due to improvements made by the person in wrongful possession.’

At times, the tenant or lessee continues to use and occupy the premises even after the termination of the lease agreement either due to efflux of time or for some other reasons. In such cases, the courts may direct the occupant of the premises to pay the mesne profits to the owner for the period for which the premises were wrongfully occupied. The taxability of the amounts received as mesne profits in the hands of the owner of the premises has become a subject matter of controversy. While the Calcutta High Court has taken the view that mesne profit is in the nature of damages for deprivation of use and occupation of the property and, therefore, it is a capital receipt not chargeable to tax, the High Courts of Madras and Delhi have taken the view that it is a recompense for deprivation of income which the owner would have enjoyed but for the interference of the persons in wrongful possession of the property and, consequently, it is a revenue receipt chargeable to tax.

LILA GHOSH’S CASE

During its pendency, a settlement was arrived at between the assessee and the State of West Bengal which was recorded by the Court in its order dated 28th February, 1980. Under the terms of the settlement, the property in question was to be acquired by the State under the Land Acquisition Act, 1894 and compensation of Rs. 11 lakhs for the acquisition was to be paid to the assessee. There was no dispute relating to this compensation received. Apart from the compensation, the assessee also received a sum of Rs. 2 lakhs from the State of West Bengal against the assignment of the decree for mesne profits obtained and to be passed as a final decree against the tenant.

While making the assessment for the assessment year 1980-81, the A.O. assessed the said sum of Rs. 2 lakhs representing mesne profits as revenue receipt in the hands of the assessee under the head ‘Income from Other Sources’. It was taxed as income of the assessment year 1980-81 since it had arisen to the assessee in terms of an order of the Court dated 28th February, 1980. On appeal by the assessee before the CIT(A), it was submitted that the mesne profits were nothing but damages and, therefore, capital receipt not chargeable to tax. It was also contended that in case the assessee’s contention in this respect was to be rejected and the mesne profits of Rs. 2 lakhs be held to be revenue receipts, the same could not be taxed in one year since it related to the period from 19th May, 1970 to 24th December, 1979. However, the CIT(A) rejected all the contentions of the assessee and held that the mesne profits of Rs. 2 lakhs were revenue receipts and assessable under the head ‘Income from Other Sources’ in the A.Y. 1980-81.

On further appeal by the assessee, the Tribunal held that the mesne profits of Rs. 2 lakhs had arisen as a result of the transfer of the capital asset and the same was assessable under the head ‘capital gains’. According to the Tribunal, the assessee had received the sum of Rs. 2 lakhs for transferring her right to receive the mesne profits which was her capital asset. The contention of the assessee that no capital gain was chargeable inasmuch as no cost of acquisition was incurred for the so-called capital asset was rejected by the Tribunal. The Tribunal held that it was possible to determine the cost of acquisition of the asset in question which, according to the Tribunal, consisted of the amount spent by the assessee towards stamp duty and other legal expenses incurred for obtaining the decree. From the decision of the Tribunal, both the assessee as well as the Revenue had sought reference to the High Court.

After referring to the definition of ‘mesne profits’ as per the Code of Civil Procedure, 1908, the High Court referred to the observations of the Judicial Committee of the Privy Council in Girish Chunder Lahiri vs. Shashi Shikhareswar Roy [1900] 27 IA 110 in which it was stated that the mesne profits were in the nature of damages which the court may mould according to the justice of the case. Further, the Supreme Court’s observations in the case of Lucy Kochuvareed vs. P. Mariappa Gounder AIR [1979] SC 1214 were also referred to, which were as under:

‘Mesne profits being in the nature of damages, no invariable rule governing their award and assessment in every case can be laid down and “the Court may mould it according to the Justice of the case”.’

Accordingly, the High Court held that the mesne profits were nothing but damages for loss of property or goods. The Court further held that such damages were not in the nature of revenue receipts but in the nature of capital receipt. While holding so, the High Court relied upon the decisions in the case of CIT vs. Rani Prayag Kumari Debi [1940] 8 ITR 25 (Pat.); CIT vs. Periyar & Pareekanni Rubbers Ltd. [1973] 87 ITR 666 (Ker.); CIT vs. J.D. Italia [1983] 141 ITR 948 (AP); and CIT vs. Ashoka Marketing Ltd. [1987] 164 ITR 664 (Cal.).

The Court disagreed with the views expressed by the Madras High Court in CIT vs. P. Mariappa Gounder [1984] 147 ITR 676 wherein it was held that mesne profits awarded by the Court for wrongful possession were revenue receipts and, therefore, liable to be assessed as income. The Calcutta High Court observed that neither the decision of the Privy Council in Girish Chunder Lahiri (Supra) nor the decision of the Supreme Court in Lucy Kochuvareed (Supra) was either cited or noticed by the learned Judges of the Madras High Court. It was also observed that even the decisions of the Patna High Court in Rani Prayag Kumari Debi (Supra) and that of the Kerala High Court in Periyar & Pareekanni Rubbers Ltd. (Supra), wherein it was held that damages or compensation awarded for wrongful detention of the properties of the assessee was not a revenue receipt, were neither noticed nor considered by the Madras High Court.

As far as the Tribunal’s direction to tax the amount received as capital gains was concerned, the High Court held that there was no assignment of the decree for mesne profits. No final decree in respect of mesne profits was passed in favour of the assessee and the State Government had reserved the right to itself for getting an assignment from the assessee in respect of the final decree for mesne profits, if any, passed against the tenant for its use and occupation of the said property. Therefore, the High Court held that the assessee had not earned any capital gains on the transfer of a capital asset.

The High Court held that the mesne profits received was a capital receipt and, hence, not liable to tax.

THE SKYLAND BUILDERS (P) LTD. CASE
The issue thereafter came up for consideration before the Delhi High Court in the case of Skyland Builders (P) Ltd. vs. ITO (2020) 121 taxmann.com 251.

In this case, the assessee company had let out the property in the year 1980 for five years to Indian Overseas Bank. The parties had agreed to increase the rent by 20% after the expiry of the first three years. The lessee bank did not comply with the terms and increased the rent by 10% only. Therefore, the assessee terminated the lease agreement w.e.f. 31st January, 1990 by serving notice upon the lessee. Since the lessee failed to vacate the premises, the assessee filed a suit for damages / mesne profit and restoration of the premises to the owner. The suit of the assessee was decreed vide judgment / decree issued dated 27th July, 1998 for mesne profit and damages, including interest. In compliance with the Court’s order, the lessee Indian Overseas Bank paid Rs. 77,87,303 to the assessee company. In the original return for the A.Y. 1999-2000, mesne profits of Rs. 77,87,303 was declared as taxable income, whereas in the revised return the assessee claimed it as a capital receipt and excluded it from its taxable income.

The A.O. did not accept the contention of the assessee that it was a capital receipt and relied upon the decision of the Madras High Court in P. Mariappa Gounder (Supra) in which it was held that mesne profits were also a species of taxable income. The A.O. taxed it as ‘Income from other sources’ and allowed a deduction of legal expenses incurred in securing the mesne profits.

Before the CIT(A), apart from claiming that the mesne profits were not taxable, the assessee raised an alternative plea that even if it was treated as income in the nature of arrears of rent, even then it could not have been taxed in the year under consideration merely based on its realisation during the year and, rather, should have been taxed in the respective years to which it pertained. It was claimed that the enabling provision to tax the arrears of rent in the year of its receipt was inserted in section 25B with effect from the A.Y. 2001-02 and it was not applicable for the year under consideration. However, the CIT(A) did not accept the contentions of the assessee and held it to be a revenue receipt liable to be taxed as income. Insofar as section 25B was concerned, the CIT(A) observed that it did not bring about any change in law and it only set at rest doubts regarding taxability of income relating to earlier years in the previous year concerned in which the arrears of rent were received.

The Tribunal also rejected the assessee’s claim with regard to the non-taxability of mesne profits as income under the Act on the ground that it was a capital receipt. It followed the decisions of the Madras High Court in the cases of P. Mariappa Gounder (Supra) and S. Kempadevamma vs. CIT [2001] 251 ITR 87. It did not follow the decision of the Calcutta High Court in the case of Smt. Lila Ghosh (Supra) on the ground that the decision of the Madras High Court in the case of S. Kempadevamma (Supra) was rendered after that and it was binding in nature, being a later decision. The Tribunal also held that the sum which was granted by the Civil Court as mesne profit in respect of the tenanted property could be presumed to be a reasonably expected sum for which property could be let from year to year, and the same value could have been taken as annual letting value of the property in dispute as per section 23(1). With regard to the alternate plea of the assessee concerning the provisions of section 25B introduced subsequently, the Tribunal relied upon the decision in the case of P. Mariappa Gounder in which it was held that the mesne profit is to be taxed in the assessment year in which it was finally determined. The Tribunal’s decision has been reported at 91 ITD 392.

In further appeal before the High Court, the following arguments were made on behalf of the assessee:
•    The income falling under the specific heads enumerated in the Act as being taxable income alone was liable to tax and the income which did not fall within the specific heads was not liable to be taxed under the Act.
•    By its definition, ‘mesne profits’ were a kind of damages which the owner of the property, which was a capital asset, was entitled to receive on account of deprivation of the opportunity to use that capital asset on account of the wrongful possession thereof by another. Therefore, such damages which were awarded for deprivation of the right to use the capital asset constituted a capital receipt.
•    Section 25B introduced w.e.f. 1st April, 2001 could not be applied to bring the mesne profits and interest thereon to tax in the A.Y. 1999-2000 even though they pertained to the earlier financial years. Further, the amount received from the erstwhile tenant could not be regarded as rent under the rent agreement which ceased to exist. The assessee had received damages and not rent since there was no subsisting relationship of landlord and tenant between the assessee and the bank post the termination of their tenancy.
•    Reliance was placed on the decision of the Supreme Court in the case of CIT vs. Saurashtra Cement Ltd. 325 ITR 422 wherein it was held that the amount received towards compensation for sterilisation of the profit-earning source, not in the ordinary course of business, was a capital receipt in the hands of the assessee. In this case, the liquidated damages received from the supplier on account of the delay caused in delivery of the machinery was held to be a capital receipt not liable to tax.
•    The facts before the Madras High Court in the case of P. Mariappa Gounder were different from the facts of the present case. In that case, the assessee had entered into an agreement to purchase a property which was not conveyed by the vendor to the assessee as it was sold to another person who was put in possession. The Court decreed specific performance of the assessee’s agreement with the original owner and the assessee’s claim for mesne profits against the other purchaser who was in possession was also accepted. Thus, it was not a case of grant of mesne profits against the erstwhile tenant who continued to occupy the premises despite termination of the tenancy. But it was a case where another purchaser of the same property held on to the possession of the property and the mesne profits were awarded against him.
•    The decision of the Madras High Court in the case of P. Mariappa Gounder was not followed by the Calcutta High Court in a subsequent decision in the case of Smt. Lila Ghosh (Supra). It was the view of the Calcutta High Court which was the correct view and should be followed.
•    Reliance was also placed on the Special Bench decision of the Mumbai Bench of the Tribunal in the case of Narang Overseas (P) Ltd. vs. ACIT (2008) 111 ITD 1 wherein the view favourable to the assessee was adopted, in view of conflicting decisions of the High Courts, and mesne profits were held to be capital receipts.

The Revenue pleaded that the decision of the Madras High Court in P. Mariappa Gounder had been affirmed by the Supreme Court (232 ITR 2). It was submitted that the decision of the Calcutta High Court in Smt. Lila Ghosh was a decision rendered before the Supreme Court decided the appeal in the case of P. Mariappa Gounder. Further, the view taken by the Madras High Court in P. Mariappa Gounder was reiterated by it in the case of S. Kempadevamma (Supra). The Revenue also placed reliance on the decision of the Delhi High Court in the case of CIT vs. Uberoi Sons (Machines) Ltd. 211 Taxman 123, wherein it was held that the arrears of rent received as mesne profits are taxable in the year of receipt, and that section 25B of the Act which was introduced vide amendment in 2000 with effect from A.Y. 2001-02 was only clarificatory in nature.

In reply, the assessee submitted that the real issue in the case before the Delhi High Court in Uberoi Sons (Machines) Ltd. (Supra), was in which previous year the arrears of rent received by the assesse (as mesne profits) could be brought to tax and the issue was not whether mesne profits received by the landlord / assesse from the erstwhile tenant constituted revenue receipt or capital receipt.

The Delhi High Court held that if the test laid down by the Supreme Court in the case of Saurashtra Cement Ltd. (Supra) had been applied to the facts of the case, then the only conclusion that could be drawn was that the receipt of mesne profits and interest thereon was a revenue receipt. This was because the capital asset of the assessee had remained intact, and even the title of the assessee in respect of the capital asset had remained intact. The damages were not received for harm and injury to the capital asset, or on account of its diminution, but were received in lieu of the rent which the appellant would have otherwise derived from the tenant. Had it been a case where the capital asset would have been subjected to physical damage, or of diminution of the title to the capital asset, and damages would have been awarded for that, there would have been merit in the appellant’s claim that damages were capital receipt.

The High Court held that the issue was no longer res integra as it stood concluded not only by the decision of the Supreme Court in P. Mariappa Gounder but also by the co-ordinate Bench of the Delhi High Court itself in Uberoi Sons (Machines) Ltd. In that case, the Court not only held that section 25B was clarificatory and applied to the assessment year in question, but also held that the receipt of mesne profits constituted revenue receipt. The Court also held that the issue of invocation of section 25B was intimately linked to the issue of whether the said receipts were revenue receipts, or capital receipts, and had it not been so there would be no question of the Court upholding the applicability of section 25B. Therefore, the submission of the assessee that the ratio of the decision in Uberoi Sons (Machines) Ltd. was not that income by way of mesne profits constituted revenue receipts, was found to be misplaced by the Court.

The Delhi High Court in this case did not follow the decision of the Calcutta High Court in the case of Smt. Lila Ghosh for two reasons: due to the subsequent decision of the Supreme Court in P. Mariappa Gounder approving the Madras High Court’s view, and due to the decision of the co-ordinate Bench of the Delhi High Court in the case of Uberoi Sons (Machines) Ltd. following the Madras High Court’s view and taking note of its approval by the Supreme Court. The ratio of the decision of the Special Bench in the Narang Overseas case (Supra) of the Tribunal was also not approved by the High Court for the same reason that the jurisdictional High Court’s decision prevailed over it.

Accordingly, the High Court held that mesne profits and interest on mesne profits received under the direction of the Civil Court for unauthorised occupation of the immovable property of the assessee by Indian Overseas Bank, the erstwhile tenant of the appellant, constituted revenue receipts and were liable to tax u/s 23(1) of the Act.

OBSERVATIONS

The definition makes it very clear that mesne profits represent the damages that emanate from the property, the true owner of which has been deprived of its possession by a trespasser. It is not rent for use of the property. The Supreme Court in the case of Lucy Kochuvareed vs. P. Mariappa Gounder AIR 1979 SC 1214 has considered mesne profits to be damages. The relevant observations of the Supreme Court are reproduced below:

‘Mesne profits being in the nature of damages, no invariable rule governing their award and assessment in every case can be laid down and “the Court may mould it according to the justice of the case”. Even so, one broad basic principle governing the liability for mesne profits is discernible from section 2(12) of the CPC which defines “mesne profits” to mean “those profits which the person in wrongful possession of property actually received or might with ordinary diligence have received therefrom together with interest on such profits, but shall not include profits due to improvements made by the person in wrongful possession”. From a plain reading of this definition, it is clear that wrongful possession of the defendant is the very essence of a claim for mesne profits and the very foundation of the defendant’s liability therefor. As a rule, therefore, liability to pay mesne profits goes with actual possession of the land. That is to say, generally, the person in wrongful possession and enjoyment of the immovable property is liable for mesne profits.’

The basis for quantification of mesne profits is the gain that the person in wrongful possession of the property made or might have made from his wrongful occupation and not what the owner of the property has lost on account of deprivation from the possession of the property. This aspect of the nature of the receipt has been explained by the Delhi High Court in the case of Phiraya Lal alias Piara Lal vs. Jia Rani AIR 1973 Del 18 as follows:

‘When damages are claimed in respect of wrongful occupation of immovable property on the basis of the loss caused by the wrongful possession of the trespasser to the person entitled to the possession of the immovable property, these damages are called “mesne profits”. The measure of mesne profits according to the definition in section 2(12) of the Code of Civil Procedure is “those profits which the person in wrongful possession of such property actually received or might with ordinary diligence have received there from, together with interest on such profits”. It is to be noted that though mesne profits are awarded because the rightful claimant is excluded from possession of immovable property by a trespasser, it is not what the original claimant loses by such exclusion but what the person in wrongful possession gets or ought to have got out of the property which is the measure of calculation of the mesne profits. (Rattan Lal vs. Girdhari Lal, AIR 1972 Delhi ll). This basis of damages for use and occupation of immovable property which are equivalent to mesne profits is different from that of damages for tort or breach of contract unconnected with possession of immovable property. Section 2(12) and order Xx rule 12 of the Code of Civil Procedure apply only to the claims in respect of mesne profits but not to claims for damages not connected with wrongful occupation of immovable property. The measure for the determination of the damages for use and occupation payable by the appellants to the respondent Jia Rani is, therefore, the profits which the appellants actually received or might with ordinary diligence have received from the property together with interest on such profits.’

The mesne profit cannot be viewed as compensation for the loss of income which the owner of the property would have earned but for deprivation of its possession, or as compensation for the loss of the source of income. It will be more appropriate to consider the mesne profit as compensation or damages for the loss of enjoyment of the property instead of the loss of income arising from the property. Mesne profits is for the injury or damages caused to the owner of the property due to deprivation of the possession of the property. Mesne profits become payable due to wrongful possession of the property with the trespasser, irrespective of whether or not that property before deprivation was earning any income for its owner. It might be possible that the property concerned might not be a let-out property and, therefore, yielding no income for its owner. Even in a case where the property was self-occupied by the owner which is not resulting in any income, the mesne profits become payable if that property has come in wrongful possession of the trespasser. Therefore, it is inappropriate to consider the mesne profits as compensation for loss of income which the owner would have earned otherwise. Any such compensation received due to the injury or damages caused to the assessee is required to be considered as a capital receipt not chargeable to tax, unless it is received in the ordinary course of business as held by the Supreme Court in the case of Saurashtra Cement Ltd. (Supra).

Mesne profits cannot be brought to tax as income under the head ‘Income from House Property’ as it cannot be said to be representing the annual value and that it will not come within the purview of taxation at all. Section 22 creates a charge of tax over the ‘annual value’ of the property. The ‘annual value’ is required to be determined in accordance with the provisions of section 23. As per section 23, the annual value is the sum which the property might reasonably be expected to get from year to year or the actual rent received or receivable in case of let-out property, if it is higher than that sum. The sum of mesne profits per se, which may pertain to a period of more than one year, cannot be considered as an ‘annual value’ of the property concerned for the year in which it accrued to the assessee by virtue of court order or received by the assessee. Therefore, the mesne profits cannot be held to be an annual value of the property u/s 23(1). For this reason and for the reasons stated in the next paragraph, it is respectfully submitted that part of the Delhi High Court’s decision in Skyland Builders (Supra) requires reconsideration where it held that the mesne profits were taxable u/s 23(1).

The erstwhile provisions of section 25B dealing with the taxability of arrears of rent or the corresponding provisions of section 25A, as substituted with effect from 1st April, 2017, can be pressed into play only if the receipt is in the nature of ‘rent’ in the first place. The Supreme Court in the case of UOI vs. M/s Banwari Lal & Sons (P) Ltd. AIR 2004 SC 198 has referred to the Law of Damages & Compensation by Kameshwara Rao (5th Ed., Vol. I, Page 528) and approved the learned author’s statement that right to mesne profits presupposes a wrong, whereas a right to rent proceeds on the basis that there is a contract. Therefore, the rent is the consideration for letting out of the property under a contract and there is no question of any wrongful possession of the property by the tenant. In a manner, the mesne profits and the rent are mutually exclusive.

Furthermore, the erstwhile sections 25AA and 25B and the present section 25A provide for taxation of an arrear of rent received from a tenant or unrealised rent realised subsequently, in the year of receipt under the head ‘Income from House Property’, irrespective of the ownership of the property in the year of taxation. The objective behind these provisions is to overcome the difficulties that used to arise in the past on account of the year of taxation and also in relation to the recipient not being the owner in the year of receipt. All of these provisions, for the purposes of activating the charge, require that the amount received represented (a) rent and (b) such rent was in arrears or unrealised and which rent was (c) subsequently realised. These three conditions are cumulative in nature for applying the deeming fiction of these provisions. Applying these cumulative conditions to the receipt of ‘mesne profits’, it is apparent that none of the conditions could be said to have been satisfied when a person receives damages for deprivation of the use of the property. The receipt in his case is neither for letting out the property nor does it represent the rent, whether in arrears or unrealised. It is possible that for measuring the quantum of damages and the amount of mesne profits the amount of prevailing rent is taken as a benchmark but such benchmarking cannot be a factor that has the effect of converting the damages into rent for the purposes of taxation of the receipt under the head ‘Income from House Property’. In fact, the right to receive mesne profits starts from the time where the relationship of the owner and tenant terminates and the right to receive rent ends.

The next question is whether the receipt of mesne profits could be considered as income under the head ‘Income from Other Sources’, importantly, u/s 56(2)(x). Apparently, the case of the receipt is to be tested vis-à-vis sub-clause (a) of clause (x) which brings to tax the receipt of any sum of money in excess of Rs. 50,000. Obviously, the receipt of mesne profits is on account of damages and cannot be considered to be without consideration and for this reason alone section 56(2)(x) cannot be invoked to tax such a receipt under the head ‘Income from Other Sources’. It is possible that the head is activated for charging the part of the receipt where such part represents the interest on the amount of damages for delay in payment thereof. But then that is an issue by itself.

It is, therefore, correct to hold that the Income-tax Act does not contain a specific provision to tax mesne profits under a specific head of income listed u/s 14. It is a settled position in law that for a receipt to be taxed as an income it should be fitted into a pigeon-hole of a particular head of income or the residual head and in the absence of a possibility thereof, a receipt cannot be taxed.

The next thing to assess is whether the receipt of mesne profits is an income at all or is in the nature of an income. Maybe not. For a receipt to qualify as income it perhaps is necessary that it represents the fruits of the efforts or labour made, or the risks and rewards assumed, or the funds employed. None of the above could be said to be present in the case of mesne profits where the receipt is for deprivation of the use of property. Such a receipt is not even for transfer of any property or right therein and cannot fit into the head capital gains. The receipt is for the unlawful action of the erstwhile tenant and is certainly not payment for the use of the property by him. No efforts are made by the recipient nor have any services been rendered by him. He has not employed any funds nor has he assumed any risks and the question of him being rewarded for the risks does not arise at all.

Lastly, as regards the decision of the Supreme Court in P. Mariappa Gounder confirming the ratio of the decision of the Madras High Court in the same case and the following of the said decision by the Delhi High Court in Skyland Builders (P) Ltd., it is respectfully stated that the Delhi High Court in the latter case did not concur with the view of the Calcutta High Court in the case of Smt. Lila Ghosh only for the reason that the Court noted that the Madras High Court’s view in the case of P. Mariappa Gounder that the mesne profits were revenue receipts was approved by the Supreme Court. With respect, in that case there was a complete failure on the part of the assessee to highlight the fact that the Supreme Court in deciding the case before it had considered only a limited issue concerning the year in which the mesne profits were taxable which arose from the Madras High Court’s decision. The Apex Court in that case had not considered whether the mesne profits was a capital receipt or revenue receipt and this fact of the non-consideration of the main issue by the Court was not pointed out to the Delhi High Court. Had that been highlighted, we are sure that the decision of the Delhi High Court would have been otherwise. This limited aspect of the Supreme Court’s decision becomes very clear on a perusal of the decisions of the High Court and the Supreme Court in P. Mariappa Gounder. The relevant part of both the decisions is reproduced as under:

Madras High Court – Two controversies arise in these references under the Income-tax Act, 1961 (‘the Act’). One is whether mesne profits decreed by a court of law can be held to be taxable income in the hands of the decree holder? The other question is about the relevant year in which mesne profits are to be charged to income-tax.

Supreme Court – The question which arises for consideration in this appeal is as to in which assessment year the appellant is liable to be assessed in respect of mesne profits which were awarded in his favour.

Further, the Mumbai Special Bench in the case of Narang Overseas (P) Ltd. (Supra) has extensively dealt with this aspect of the limited application of the Supreme Court’s decision at paragraphs 6 to 23 and concluded as follows:

‘The above discussion clearly reveals that the judgment of the Hon’ble Supreme Court in the case of P. Mariappa Gounder (Supra) only decides the issue regarding the year of taxability of the mesne profits. That judgment, therefore, cannot be said to be an authority for the proposition that the nature of mesne profits is revenue receipts chargeable to tax. Accordingly, the contention of Revenue that the issue regarding the nature of mesne profits is covered by the aforesaid decision of the Hon’ble Supreme Court cannot be accepted.’

This decision of the Special Bench has remained unchallenged by the Income-tax Department in an appeal before the High Court as is noted by the Bombay High Court in the case of Goodwill Theatres Pvt. Ltd. [2016] 241 Taxman 352. The appeal filed by the Income-tax Department against the decision of the Special Bench was dismissed for non-removal of the office objections.

Insofar as the reliance placed by the Delhi High Court on its earlier decision in the case of Uberoi Sons (Machines) Ltd. (Supra) is concerned, it is worth noting that the following questions of law were framed for consideration of the High Court in that case:
(i) Whether the ITAT was, in the facts and circumstances of the case, correct in law in quashing the re-assessment order passed by the Assessing Officer under section 147(1) of the Income Tax Act, 1961?
(ii) Whether the ITAT was correct in law in holding that the excess amount payable to the assessee towards mesne profits / compensation for unauthorised use and occupation of the premises accrued to the assessee only upon the passing of the decree by the Civil Court on 14th October, 1998?

It can be noticed that the question about the nature of mesne profits, whether revenue or capital, was not raised before the Delhi High Court even in the Uberoi case. Therefore, in our considered opinion the decision of the Supreme Court cannot be a precedent on the subject of the taxability or otherwise of mesne profits. The Court in that simply confirmed that the year of taxation would be the year of the order of the civil court as was decided by the Madras High Court. Any High Court decision not touching the issue of taxability of the receipt cannot be pressed into service for deciding the issue of taxability or otherwise of the receipt.

It may be noted that the question whether mesne profits were capital receipts or revenue receipts had also arisen before the Bombay High Court in the case of CIT vs. Goodwill Theatres Pvt. Ltd. [2016] 241 Taxman 352. The High Court had dismissed the appeal of the Revenue on the ground that the decision of the Special Bench in the case of Narang Overseas (P) Ltd. (Supra) had remained unchallenged, as the appeal filed against that decision before the High Court was dismissed for non-removal of office objections. The Supreme Court, however, on an appeal by the Income-tax Department challenging the order of the High Court has remanded the issue back to the High Court for its adjudication on merits which is reported at [2018] 400 ITR 566.

It is very difficult to persuade ourselves to believe that the decision of the Supreme Court in the case of Saurashtra Cement Ltd. (Supra) could be applied to the facts of the case to hold that the mesne profits was revenue receipts taxable under the Act. The Supreme Court in the said case was concerned with the facts unrelated to mesne profits. In that case, the capital asset was subjected to physical damage leading to the diminution of the title to the capital asset, and damages had been awarded for that, which damages were found to be capital receipt. It was the assessee who had relied upon the decision to contend that the mesne profits was not taxable. Instead, the Court applied the decision in holding against the assessee that applying the ratio therein the receipt could be exempted from taxation only where there was a damage or destruction to the property and diminution to title. Nothing can be stranger than this. The said decision nowhere stated that any receipt unrelated to damage to the capital asset would never be a capital receipt not liable to tax. The Supreme Court in that case of Saurashtra Cement Ltd. held that the amount received towards compensation for sterilization of the profit-earning source, not in the ordinary course of business, was a capital receipt in the hands of the assessee. In that case, the liquidated damages received from the supplier on account of delay caused in delivery of the machinery were held to be a capital receipt not liable to tax.

The facts in Skyland Builders were better than the facts in P. Mariappa Gounder where the receipt of mesne profits was from a person who was never a tenant of the assessee while in the first case the receipt was from an erstwhile tenant who deprived the owner of the possession, meaning there was a prior letting of the premises to the payer of the mesne profits and the receipt from such a person could have been better classified as mesne profits not taxable under the head ‘Income from House Property’.

The better view, in our considered opinion, therefore, is the view expressed by the Calcutta High Court that mesne profits are in the nature of capital receipts not chargeable to tax.