2023 (5) TMI 624 - AT - Income Tax

Liability of interest paid to the related parties u/s 40(b)(iv) - Interest paid to partner of the firm - AO by holding that since the interest has been paid @ 15% as against allowable rate of interest of 12% as per section 40(b)(iv) the amount exceeding 12% simple interest per annum is not allowable, proposed to add the excess payment of 3%, HELD THAT - It is a fact that prior to issuance of show cause notice the Assessee could not furnish the amended partnership deed by which clause-8 of the original partnership deed itself has been substituted and word partner has also been included and provision for entitlement to the interest @ 15% per annum or such other rate as may be decided by the partners, on the amount standing to the credit of the Loan accounts of the partners has also been made. Therefore, prima facie, the genuineness of such deed of partnership is doubtful and even otherwise, the said partnership Deed is neither registered either by the Notary Public or by the Registration Authority, hence, prima facie, we also are not confident to consider the same as genuine and therefore, are not relying upon the same. Coming to the original partnership deed no doubt as per clause-7 of the same, no interest on capital is allowable to the partners. However, clause 8 clearly specifies that if further funds are required over and above the capital contributed by the partners, the same can be arranged/borrowed from the individuals, banks, finance companies or other persons. Clause-8 further specifies that any interest on such funds borrowed for the purpose of the partnership business shall be treated as expenditure of the partnership firm, meaning thereby there is no restricted clause with regard to the quantum of interest payable on such funds over and above the capital borrowed for the purpose of partnership business and the same shall be treated as expenditure of the partnership firm. The connotation individuals/other persons used in clause 8 of the original partnership deed in any sense cannot exclude the partners because the partners are also individual (s) and/or other person(s) and therefore, the interpretation to the persons mentioned in clause-8 cannot oust the partners, who are collectively working for the partnership firm, but having individual status/personality, thus we are in agreement with the Ld. AR that there was no ambiguity in clause 8 of the original partnership deed, therefore did not require Amend the same. Hence, considering clause-8 of the original partnership deed, we are inclined to allow the claim of the Assessee and consequently, the addition made by the Assessing Officer on account of disallowance of interest expenditure is deleted. Provisions of section 40(b)(iv) prescribes that any payment of interest to any partner which is authorised by, and is in accordance with, the terms of the partnership deed and relates to any period falling after the date of such partnership deed, in so far as such amount exceeds the amount calculated at the rate of twelve per cent simple interest per annum, shall not be deducted in computing the income chargeable under the head profits and gains of business or profession As already held that as per clause-8 of the original partnership deed, the interest is allowable and it is not the case here that the partnership deed ceased to exist. Appeal filed by the Assessee stands allowed.

Issues Involved:
1. Disallowance of interest paid to partners.
2. Validity of the revised partnership deed.
3. Eligibility for deduction under Section 10AA on enhanced income.

Summary:

1. Disallowance of Interest Paid to Partners:
The Assessing Officer (AO) observed that the Assessee paid interest at 15% to related parties, exceeding the allowable rate of 12% as per section 40(b)(iv) of the Income-tax Act, 1961. The AO proposed to disallow the excess 3% interest, amounting to Rs. 3,48,364/-. Further, the AO noted that the original partnership deed did not permit interest on capital, leading to the disallowance of the entire interest payment of Rs. 17,41,822/-.

2. Validity of the Revised Partnership Deed:
The Assessee submitted a revised partnership deed dated 22.02.2017, which allowed interest at 15% per annum. The AO rejected this deed, suspecting it was created post the show cause notice to evade tax liability. The Commissioner upheld the AO's decision, agreeing that the revised deed was an afterthought and not acceptable.

3. Eligibility for Deduction Under Section 10AA:
The Assessee argued that any disallowance should still allow for a deduction under Section 10AA, citing CBDT Circular No. 37/2016 and relevant case law. However, the Commissioner dismissed this claim, stating the disallowance was due to a wrong submission by the Assessee and not applicable under the circular.

Tribunal's Findings:
The Tribunal found that the original partnership deed's clause 8 allowed for interest on funds borrowed over and above the capital, including from partners. This clause did not restrict the interest rate, thus the interest paid was allowable. The Tribunal also doubted the genuineness of the revised partnership deed but found the original deed sufficient to justify the interest payments. Consequently, the addition made by the AO was deleted, and the appeal was allowed in favor of the Assessee.

Conclusion:
The appeal by the Assessee was allowed, with the Tribunal holding that the interest paid to partners was in accordance with the original partnership deed and thus allowable. The disallowance of Rs. 17,41,822/- was deleted, and the Tribunal did not find the revised partnership deed necessary for this decision. The Assessee's eligibility for deduction under Section 10AA was not upheld due to the nature of the disallowance.

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