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2020 (2) TMI 1433 - AT - Income TaxCapital gains on the amount of revaluation of assets - rearrangement of partnership deed - AO held that the outgoing three partners have drawn the amounts from the Capital and retired from the firm thus whole process constitutes a deemed dissolution of the firm u/s. 45(4) and accordingly he has brought the difference of WDV as on 01-04-2010 and 31-03-2011 as income of the Respondent Firm from Long Term Capital Gains - whether the word Otherwise appearing in the phrase Distribution of capital asset on dissolution of the firm or otherwise would include retirement of partner also? - HELD THAT - Even if the retirement is assumed to be covered within the ambit of expression otherwise Section 45(4) will not apply to retirement where only money value of the partner s interest in the firm is paid to the outgoing partner and no specific asset is distributed or transferred to the outgoing partner because the firm continues to own the asset and for Section 45(4) to attract the firm should cease to be the owner of the asset. In the present case the assets of the firm continued to be owned by the same firm and the outgoing partners are not taken away any asset in its physical form. Being so in our opinion Section 45(4) of the Act could not be applied. Accordingly we dismiss the ground of the appeal taken by the revenue.
Issues Involved:
1. Applicability of Section 45(4) of the Income Tax Act to the reconstitution and retirement of partners in a partnership firm. 2. Validity of the assessment order based on an overruled judgment. 3. Determination of capital gains tax liability on the revaluation of assets and retirement of partners. Issue-wise Detailed Analysis: 1. Applicability of Section 45(4) of the Income Tax Act: The primary issue was whether the reconstitution of the partnership firm and the retirement of certain partners constituted a "transfer" under Section 45(4) of the Income Tax Act, thereby attracting capital gains tax. The Assessing Officer (AO) argued that the revaluation of assets and subsequent retirement of partners, who withdrew their appreciated capital, amounted to a deemed dissolution of the firm and thus, was taxable under Section 45(4). The AO relied on the judgment in the case of CIT vs. Gurunath Talkies, which held that such rearrangements were taxable as capital gains. However, the assessee contended that there was no dissolution or distribution of assets, and thus, Section 45(4) was not applicable. The assessee cited the decision of the Karnataka High Court in CIT vs. Dynamic Enterprises, which overruled the Gurunath Talkies judgment and held that Section 45(4) does not apply to mere reconstitution or retirement of partners without actual transfer of assets. 2. Validity of the Assessment Order Based on an Overruled Judgment: The assessee argued that the AO erred in relying on the overruled judgment of Gurunath Talkies while passing the assessment order. The Larger Bench of the Karnataka High Court in Dynamic Enterprises had already clarified that Section 45(4) does not apply to scenarios where there is no actual transfer of assets. The AO's reliance on the overruled judgment was highlighted as a significant error, leading to a wrongful assessment of capital gains tax. 3. Determination of Capital Gains Tax Liability: The Tribunal examined whether the revaluation of assets and the retirement of partners resulted in any capital gains liable to tax under Section 45(4). The Tribunal noted that for Section 45(4) to apply, there must be a "transfer" of a capital asset resulting in the firm ceasing to own the asset and the partners acquiring exclusive interest in it. In this case, the assets continued to be owned by the firm, and the retiring partners did not receive any specific assets but only the money equivalent of their share. The Tribunal referred to several judgments, including CIT vs. Kunnamkulam Mill Board and CIT vs. Dynamic Enterprises, which clarified that mere reconstitution or retirement, where partners receive money and not specific assets, does not constitute a "transfer" under Section 45(4). Thus, the revaluation of assets and the retirement of partners did not result in any taxable capital gains for the firm. Conclusion: The Tribunal concluded that the provisions of Section 45(4) were not applicable to the case as there was no actual transfer of assets. The AO's reliance on the overruled judgment of Gurunath Talkies was incorrect, and the assessment order was not justified. Consequently, the Tribunal dismissed the Revenue's appeal and upheld the CIT (Appeals)'s order, which had deleted the addition made by the AO under Section 45(4). The cross-objection filed by the assessee was also dismissed as infructuous. Final Judgment: Both the appeal of the Revenue and the cross-objection by the assessee were dismissed. The Tribunal pronounced the judgment in the open court.
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