2019 (7) TMI 938 - HC - Income Tax

Taxability of income received after disolution of firm - income derived after discontinuance of the business is governed u/s 189 as well as u/s 176(3A) - HELD THAT - Since the discontinuance of the business of the firm in cases at hand was with effect from 1.4.2004, we are in agreement that the assessment of the income received in any subsequent year need to be made in accordance with the procedure contemplated in Section 176 (3A). In the cases at hand, the income was received during the previous years corresponding to the assessment years 2005-06 and 2006-07. Going by Sub-Section (3A) of Section 176, such income shall be deemed to be the income of the recipient, which in the cases at hand is the partnership firm. The said provision stipulates that such income need to be charged to tax in the year of the receipt, which in these cases are the previous years corresponding to the above said assessment years. Such sum received should be included in the total income of the firm as if it is the income received before such discontinuance. Therefore there cannot be any dispute that the income received during the relevant years is to be charged to tax in accordance with the provisions contained in Section 176(3A). Whether such income received is profit and gains derived out of the business, coming within the purview of Section 28 ? - The receipts in the cases at hand are derived by way of income out of the business activities carried on by the firm before its discontinuance. Therefore it has to be construed that the receipts are profits and gains arose out of the business activity of the firm. Hence the finding of the Assessing Authority as well as the Tribunal that it is not an income coming within the purview of Section 28, as it is not profit or gains arising out of the business, cannot be accepted. The income charged to tax, which were received in the subsequent years of the discontinuance of the business, can only be treated as profit and gains arose out of the business of the firm, coming within the purview of Section 28. Deduction on the payments of interest to partners u/s 40(b) when income was taxed u/s 176 (3A) - HELD THAT -There is nothing to indicate that in the case of an assessment u/s 176 (3A), such deductions are not allowable. We notice that, under Section 176(3A) the assessment on income received subsequent to the discontinuance of business need to be charged for tax as if such sum was received before the discontinuance of the business. So also, u/s 189 with respect to the assessment of firm which discontinued business, it is provided that, the total income of the firm shall be assessed as if no such discontinuance had taken place. Therefore we are of the considered opinion that, either u/s 189 or u/s 176 (3A), there is no restriction provided against allowing the deductions. Hence, while assessing the tax leviable on the income received by the assessee firm during the years after its discontinuance of business under Section 176(3A), deductions are allowable as contemplated u/s 40(b) Hence both the questions of law framed above, are answered in favour of the appellant/assessee and against the revenue. It is not clearly discernible as to whether the deductions claimed with respect to interest paid to the partners of the firm would satisfy all the stipulations and restrictions contained under clause (iv) of Section 40(b). Therefore we are of the opinion that the matter requires a remand to the Assessing Officer for recomputing the extent of deductions allowable with respect to both the years, in terms of Section 40(b)(iv). Both the above appeals are hereby allowed.

Summary

Issues:
1. Deduction of interest paid to partners after discontinuance of business under Section 40(b) of the Income Tax Act, 1961.
2. Disallowance of deduction for interest payments under Section 176(3A) of the Act.

Analysis:
1. The appellant, a partnership firm, transferred assets and liabilities to another company and ceased business operations. The firm received income from previous business activities after discontinuance. The Assessing Officer disallowed deductions claimed on interest payments to partners, citing Section 176(3A) for taxing post-discontinuance income but not as income derived under Section 28. The Commissioner allowed the deductions, noting compliance with Section 40(b) provisions. The Tribunal reversed this decision, stating that interest payments cannot be allowed without a business purpose. The appellant argued that Sections 189 and 176(3A) do not prohibit deductions under Section 40(b). The court held that the income post-discontinuance is taxable under Section 176(3A) and constitutes business income under Section 28, allowing deductions under Section 40(b).

2. Section 189 mandates assessment of a firm's total income as if no discontinuance occurred. Section 176(3A) taxes post-discontinuance income as if received before discontinuance. The court found the income received post-discontinuance as business profits under Section 28. Section 40(b) allows deductions for interest payments if authorized by the partnership deed. The court concluded that deductions are permissible under Sections 189 and 176(3A) without restrictions, answering in favor of the appellant. However, due to unclear compliance with Section 40(b)(iv), the matter was remanded to the Assessing Officer for recalculating allowable deductions.

In conclusion, the court allowed the appeals, setting aside the Tribunal's order and remanding the assessment back to the Assessing Officer for proper computation of deductions under Section 40(b)(iv) for both years post-discontinuance.