2022 (6) TMI 1269 - AT - Income Tax

Disallowance of remuneration paid by the assessee to its Working Partner u/s 40A(3) - Cash payment of expenditure in excess of specified limit - Scope of separate identity for the firm and its partners - HELD THAT - It is trite that the partnership firm is not a juristic person and there is no separate identity for the firm and its partners. The partnership is only a collective of separate persons and not a legal person in itself. For the purpose of the Act, a firm is considered as a unit of assessment by special provisions. The Hon ble Supreme Court in the case of CIT v. R.M. Chdambaram Pillai ( 1976 (11) TMI 2 - SUPREME COURT while holding that payment of salary to a partner represents a special share of the profits and the salary paid to the partner retains the same character of the income, observed that remuneration paid to the partner is share of profits of the partnership firm and same cannot be treated to be in the nature of salary paid to the employee. It is not the case of Revenue that the transaction of payment of remuneration to the Working Partner was of colourable nature. As the remuneration is from the firm to the Working Partner, which is nothing but sharing of profits, the identity of the payer and payee is also not doubted by the Revenue. Further, the genuineness of remuneration and source is also not in dispute. Thus, even in view of the above, the applicability of section 40A(3) of the Act, in the present case, is not justified. As section 40A is a general provision and section 40(b) is a special provision and only in situation which are not covered by section 40(b), section 40A shall be applicable. In the present case, assessee being a partnership firm and section 40(b) being the special provision dealing with computation of income of firm, same shall be applicable for determining the amount of deduction available to the assessee. Further, in the present case, there is no dispute that the remuneration was paid to the Working Partner. Also, there is no allegation that conditions of section 40(b) of the Act are not complied with. Thus, in view of the aforesaid judicial pronouncements also, we are of the view that section 40A(3) was wrongly invoked by the Revenue for disallowing remuneration paid to the Working Partner, which is within the permissible limits as per section 40(b) of the Act. Therefore, in view of our aforesaid findings, the order passed by the learned CIT(A), affirming the disallowance made under section 40A(3) of the Act, is set aside and the grounds raised by the assessee in present appeal are allowed.

Issues Involved:
1. Disallowance of remuneration paid to a working partner under section 40A(3) of the Income Tax Act, 1961.

Issue-Wise Detailed Analysis:

1. Disallowance of Remuneration Paid to a Working Partner under Section 40A(3):

The primary issue in this appeal is the disallowance of remuneration paid by the assessee to its working partner under section 40A(3) of the Income Tax Act, 1961. The assessee, a partnership firm engaged in the wholesale business of Canvas Tarpaulins, filed its return for the assessment year 2015-16, declaring a total income of Rs. 9,40,320. During the assessment proceedings, the Assessing Officer (A.O.) found that the assessee paid Rs. 30,000 in cash as remuneration to a working partner, Mr. Prakash Desai. The A.O. disallowed this payment under section 40A(3) of the Act, which restricts cash expenditure above Rs. 20,000, and added Rs. 3,60,000 to the total income of the assessee.

The assessee contended that the remuneration paid to the working partner is not covered under section 40A(3) and should be considered allowable under section 40(b). The learned CIT(A) upheld the A.O.'s decision, leading the assessee to appeal before the Tribunal.

During the hearing, the assessee's representative argued that the remuneration paid to the working partner is a share of profits and not an expenditure subject to section 40A(3). The Revenue's representative, however, supported the lower authorities' orders.

The Tribunal considered the submissions and noted that a partnership firm is not a separate legal entity from its partners. The remuneration paid to a partner is considered a share of profits and not a salary. The Tribunal cited the Supreme Court's decision in CIT v. R.M. Chdambaram Pillai, which held that remuneration to a partner is a share of profits and retains its character as such.

The Tribunal further analyzed the relevant provisions of the Act. Section 40(b) specifies conditions under which payments to partners are not deductible, but if these conditions are met, the payments are deductible. The Tribunal noted that the A.O. disallowed the payment solely because it was made in cash, exceeding the limit under section 40A(3).

Section 40A(3) disallows deductions for cash payments exceeding Rs. 20,000 unless made by account payee cheque, bank draft, or electronic clearing. However, the Tribunal emphasized that remuneration to a partner is a share of profits, not an expenditure, and thus not subject to section 40A(3). The Tribunal referred to the Supreme Court's interpretation of "expenditure" in Attar Singh Gurmukh Singh v. ITO, which clarified that "expenditure" includes all outgoings, but remuneration to a partner is not an outgoing or payment for expenditure.

The Tribunal also considered the objective of section 40A(3), which is to prevent the use of unaccounted money. In this case, the remuneration was genuine, and the identity of the payer and payee was not in doubt. Therefore, the Tribunal concluded that section 40A(3) was not applicable.

Supporting its conclusion, the Tribunal cited decisions from various courts, including the Co-ordinate Bench in Chhajed Steel Corpn. v. ACIT and the Allahabad High Court in CIT v. Great City Manufacturing Co., which held that section 40A does not override section 40(b) for payments to partners.

In conclusion, the Tribunal found that the remuneration paid to the working partner was within the permissible limits of section 40(b) and not subject to disallowance under section 40A(3). The Tribunal set aside the learned CIT(A)'s order and allowed the assessee's appeal.

Judgment:

The appeal by the assessee was allowed, and the disallowance made under section 40A(3) was set aside. The Tribunal pronounced the order in the open court on 21/04/2022.

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