1984 (10) TMI 20 - HC - Income Tax

Summary

Issues Involved:

1. Extent of interest disallowable u/s 40(b) of the Income-tax Act, 1961.
2. Binding nature of CBDT circulars on Income-tax Officers.

Summary:

1. Extent of Interest Disallowable u/s 40(b):

The primary issue was whether the net interest payable to partners, after deducting the interest due by the partners to the firm, is the only amount to be disallowed u/s 40(b) of the Income-tax Act, 1961. The assessee, a partnership firm, contended that only the net interest should be disallowed, while the Income-tax Officer (ITO) argued for disallowing the entire interest paid to partners. The Appellate Assistant Commissioner (AAC) and the Income-tax Appellate Tribunal (ITAT) upheld the assessee's view, relying on the Allahabad High Court decision in Sri Ram Mahadeo Prasad v. CIT [1953] 24 ITR 176. The Tribunal's decision was challenged by the Commissioner under section 256(1) of the Act.

2. Binding Nature of CBDT Circulars:

The court examined the relevant provisions of section 40(b) and noted that the Central Board of Direct Taxes (CBDT) Circular No. 33-D(XXV-24) of 1965 supported the assessee's claim that only the net interest should be disallowed. The court emphasized that CBDT circulars, issued u/s 119 of the Act, are binding on Income-tax Officers. The court referenced Supreme Court decisions in Navnit Lal C. Javeri v. K. K. Sen, AAC [1965] 56 ITR 198, Ellerman Lines Ltd. v. CIT [1971] 82 ITR 913, and K. P. Varghese v. ITO [1981] 131 ITR 597, which affirmed the binding nature of such circulars on departmental officers.

The court also noted that the Taxation Laws (Amendment) Bill, 1984, introduced Explanation 1 to section 40(b), effective from the assessment year 1985-86, which clarified that only the net interest should be disallowed. The court opined that this amendment merely reiterated the existing legal position and should be applied to preceding assessment years to avoid unnecessary litigation.

Conclusion:

The court concluded that the Tribunal was justified in holding that only the net amount of interest paid to partners should be added back in computing the total income of the assessee-firm. The question was answered in the affirmative, in favor of the assessee and against the Revenue. There was no order as to costs.