2009 (1) TMI 528 - AT - Income Tax

Business income - Value of any benefit or perquisite arising from business or exercise of profession Capital gains

Issues Involved:

1. Applicability of Section 28(iv) of the Income-tax Act.
2. Applicability of Section 45(4) of the Income-tax Act.
3. Applicability of Section 47(xiii) of the Income-tax Act.
4. Taxability of revaluation of assets and increase in partners' capital accounts.
5. Taxability under the head "Short-term capital gains."

Issue-wise Detailed Analysis:

1. Applicability of Section 28(iv) of the Income-tax Act:
The primary contention was whether the amount credited to the partners' capital accounts due to revaluation of assets should be taxed under Section 28(iv) as a benefit arising from business. The Tribunal concluded that Section 28(iv) would not apply to the increase in capital of partners resulting from the revaluation of assets. The Tribunal stated, "the increase in capital of partner as a result of revaluation of assets of the firm has no nexus with the business of the firm and, therefore, cannot be brought within the ambit of section 28(iv) of the Act." The Tribunal relied on the Gujarat High Court's decision in CIT v. Smt. Chetanaben B. Sheth, which held that amounts received by a partner on account of goodwill and revaluation of assets are not taxable under Section 28(iv).

2. Applicability of Section 45(4) of the Income-tax Act:
The Tribunal examined whether the revaluation of assets and the subsequent increase in partners' capital accounts could be taxed under Section 45(4). The Tribunal agreed with the CIT(A)'s view that Section 45(4) applies to the firm and not to individual partners. The Tribunal cited the Bombay High Court's decision in CIT v. A.N. Naik & Co., which clarified that Section 45(4) applies to the firm in cases of transfer of capital assets on dissolution or otherwise. The Tribunal stated, "if the amount is taxable as capital gains, it is taxable in the hands of the firm and not in the hands of the individual partners."

3. Applicability of Section 47(xiii) of the Income-tax Act:
The Tribunal discussed the conditions under Section 47(xiii), which exempts transfer of capital assets from a firm to a company from being treated as a transfer for capital gains purposes. The Tribunal noted that the firm had complied with these conditions, and therefore, the transaction did not amount to a transfer for the purpose of capital gains. The Tribunal stated, "the fact that provisions of section 47(xiii) are there shows that there is a presumption that assets will be transferred from firm to company at fair market value which need not be the book value."

4. Taxability of Revaluation of Assets and Increase in Partners' Capital Accounts:
The Tribunal addressed whether the revaluation of assets and the corresponding increase in partners' capital accounts should be taxed. The Tribunal concluded that such revaluation does not result in taxable income for the partners. The Tribunal emphasized that the provisions of Section 47(xiii) prevent the revaluation amount from being taxed in the hands of the firm, and by extension, it should not be taxed in the hands of the partners. The Tribunal stated, "Merely because such excess amount is not taxable in the hands of the firm due to the provisions of section 47(xiii) of the Income-tax Act, the Assessing Officer cannot tax the same income in the hands of the partners either under the head 'Business income' under section 28(iv) or as capital gain."

5. Taxability Under the Head "Short-term Capital Gains":
The Tribunal examined whether the amount received by the partners could be taxed as short-term capital gains. The Tribunal held that there was no transfer by the partners; rather, the firm was converted into a company, and any capital gains tax liability would fall on the firm, not the individual partners. The Tribunal stated, "Capital gain on such transfer could be brought to tax only in the hands of firm and not in the hands of the partner."

Conclusion:
The Tribunal dismissed the revenue's appeals and upheld the CIT(A)'s decision that the amount credited to the partners' capital accounts due to revaluation of assets is not taxable under Section 28(iv) or as short-term capital gains. The Tribunal also allowed the cross objections filed by the assessees, affirming that the provisions of Section 47(xiii) exempt the transaction from being treated as a transfer for capital gains purposes. The Tribunal's decision emphasized that any tax liability arising from the revaluation of assets should be borne by the firm, not the individual partners.

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