1971 (1) TMI 28 - HC - Income Tax

Assessment of the firm - payment of salary to a partner - partner represented a Hindu Undivided Family - whether amount paid is an admissible expenditure u/s 10(4)(b) of Indian Income-tax Act, 1922

Issues Involved:
1. Whether the payment of salary to each of the five partners was hit by the prohibition contained in section 10(4)(b) of the Indian Income-tax Act, 1922.
2. Whether the salary should be allowable under section 10(2)(xv) of the Act despite the written agreement dated September 4, 1956.

Detailed Analysis:

Issue 1: Prohibition under Section 10(4)(b)
The primary issue was whether the salaries paid to the partners were disallowable under section 10(4)(b) of the Indian Income-tax Act, 1922. The Income-tax Officer disallowed the salary payments, citing the specific prohibition in section 10(4)(b), which states that no allowance shall be made in respect of any payment by way of interest, salary, commission, or remuneration made by a firm to any partner of the firm.

The Tribunal upheld the Income-tax Officer's decision, relying on the principle enunciated by the High Court of Madras in A. S. K. Rathnaswami Nadar Firm v. Commissioner of Income-tax and the Supreme Court's decision in Commissioner of Income-tax v. Kalu Babu Lal Chand. The Tribunal concluded that the prohibition in section 10(4)(b) applies irrespective of the capacity in which the partner receives the payment.

The High Court agreed with the Tribunal's interpretation, emphasizing that the prohibition under section 10(4)(b) is absolute and applies to any payment made to a partner, irrespective of their capacity. The Court cited the Madras High Court's view that "the moment the payment is made to a partner, section 10(4)(b) springs into action."

Issue 2: Allowability under Section 10(2)(xv)
The assessee contended that the salaries should be allowed as a deduction under section 10(2)(xv) of the Act, which permits the deduction of any expenditure laid out or expended wholly and exclusively for the purposes of the business, profession, or vocation, provided it is not in the nature of capital expenditure or personal expenses.

Mr. Bajaj, counsel for the assessee, argued that the salaries were paid to the partners for services rendered in their individual capacities, as specified in the written agreement dated September 4, 1956. He contended that the payment of salaries was consistent with section 13(a) of the Indian Partnership Act, 1932, which allows for the payment of remuneration to partners if there is a contract to that effect.

However, the High Court clarified that the question at hand was not whether the partners were entitled to the payment of salaries but whether the assessee-firm could claim these payments as deductible expenses. The Court noted that section 10(4)(b) explicitly prohibits the allowance of any payment by way of salary to a partner, thus overriding the general allowance provision in section 10(2)(xv).

The Court also dismissed the argument that the payment of salaries constituted a diversion of income at the source, citing that this point was not raised before the Tribunal and lacked substance.

Conclusion:
The High Court answered the question in favor of the revenue and against the assessee, holding that the payment of salary to each of the five partners was indeed hit by the prohibition contained in section 10(4)(b) of the Indian Income-tax Act, 1922, and was not allowable under section 10(2)(xv) of the Act, despite the written agreement dated September 4, 1956. The Commissioner was awarded costs of the proceedings, and the counsel's fee was set at Rs. 300.

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