1972 (7) TMI 2 - HC - Income Tax

Partner goes abroad for studies - Whether the income of the assessee derived from partnership business is earned income or unearned income - knowledge gained by the assessee during his stay abroad would finally benefit the firm in carrying on its business in a better manner - therefore, the income earned by him was an earned income

Summary

Issues Involved
1. Whether the income of the assessee derived from partnership business is earned income or unearned income.
2. Interpretation of the term "actively engaged in the conduct of the business" under section 2(7)(iii)(b) of the Finance (No. 2) Act, 1962.

Detailed Analysis

Issue 1: Whether the income of the assessee derived from partnership business is earned income or unearned income

The assessee, assessed as an individual, was a partner in two firms engaged in construction work. For the assessment year 1962-63, the assessee declared income from these partnerships and claimed it as "earned income," arguing active engagement in the business. The Income-tax Officer (ITO) rejected this claim, stating that the assessee was in the U.S. for nine months during the relevant period and thus could not have been actively engaged in the business. This decision was upheld by the Appellate Assistant Commissioner, who noted that even during the three months before the assessee's departure, he was preoccupied with preparations for his trip and was not actively engaged in the business.

The Income-tax Appellate Tribunal, however, found that the assessee had been actively engaged in the business before his departure and was sent abroad at the firm's expense to gain technical knowledge beneficial to the firm's business. The Tribunal concluded that the income should be treated as earned income, leading to the revenue's appeal to the High Court.

Issue 2: Interpretation of the term "actively engaged in the conduct of the business" under section 2(7)(iii)(b) of the Finance (No. 2) Act, 1962

The High Court examined the definition of "earned income" under section 2(7)(iii)(b) of the Finance (No. 2) Act, 1962, which includes income from business or profession where the assessee is a partner actively engaged in the conduct of the business. The court considered two rival interpretations:

1. Revenue's Interpretation: The revenue argued that the term "actively engaged in the conduct of the business" implies continuous and active participation in the business throughout the entire previous year.

2. Assessee's Interpretation: The assessee contended that the term should be broadly construed, allowing for activities that contribute to the business's preservation and growth, even if not involving daily management.

The court favored the broader interpretation, noting that "actively engaged in the conduct of the business" does not necessarily mean continuous day-to-day participation. It can include activities like gaining technical knowledge abroad, which ultimately benefit the business.

The court referenced English decisions and a Madras High Court decision, finding that the term "engaged in" does not imply actual physical participation but can include obligations and activities contributing to the business.

The court concluded that the assessee, who was sent abroad to gain technical knowledge for the firm's benefit, was actively engaged in the conduct of the business. The Tribunal's decision to treat the income as earned income was upheld.

Conclusion

The High Court answered the question in the affirmative, agreeing with the Tribunal that the assessee's income was earned income within the meaning of section 2(7)(iii)(b) of the Finance (No. 2) Act, 1962. The Commissioner was directed to pay the costs of the reference to the assessee.