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TMI Blog1983 (5) TMI 74X X X X Extracts X X X X X X X X Extracts X X X X ..... the amount of Rs. 8,449 to be deducted from the gross total income of the assessee. However, as can be seen from the assessment order dated 30-6-1978 relating to the assessment year 1977-78, the assessment for 1976-77 was reopened and the amount of Rs. 8,449 which was allowed as deduction in the original assessment was withdrawn while computing the assessee's income for 1976-77. Neither the date of the reassessment nor the copy of the reassessment order is available in record. For the assessment year 1977-78 the ITO stated in his order dated 30-6-1978 that following his reopened assessment for 1976-77, he had disallowed the sum of Rs. 9,747 representing the interest paid to the firm. Aggrieved by the reassessment order for the assessment year 1976-77 and the assessment order for 1977-78 the assessee went in appeal before the AAC. It is contended before him that the decision of the Andhra Pradesh High Court in the case of CIT v. Smt. Allareddy Sudarsanamma [1972] 83 ITR 759, on the basis of which the interest was disallowed by the ITO, does not apply to the facts of the case. The firm was running in losses year after year and the debit balance of the assessee was on account of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... -tax for the assessment years 1973-74, 1974-75 and the total of the drawals thus made towards payment of wealth-tax for the assessment years 1973-74 and 1974-75 amounted to Rs. 3,396. We are of the view that these debit balances are not allowable either as items of business expenditure or as interest payable on the amount borrowed for tax payment under section 80V of the Act. Section 80V contemplates allowance of interest on the amount borrowed for payment of income-tax dues and not for the payment of wealth-tax dues. Further under section 40(a)(iia) of the Act any sum paid on account of wealth-tax cannot qualify itself as a legitimate deduction from the computable business income of the assessee. Therefore, in any event the amounts debited towards wealth-tax payments in the capital account of the assessee is not deductible expenditure. Now let us come to the main argument advanced by Shri Prasad, the learned representative for the assessee. He says that debits in the capital account of the assessee for these two assessment years would clearly reveal that they did not allow out of personal borrowings or withdrawals but due to sustained losses over the years debiting to the capital ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d on behalf of the assessee deal with different sets of facts and the ratio of those decisions cannot appropriately be applied to the facts on hand. 3. Thus we heard both sides in this matter fully and completely. We are of the view that the distinction sought to be drawn by the learned representative for the assessee between a case where a debit balance arose because of repeated personal drawings and a case where the debit balance arose because of the sustained yearly losses of the firm, is a distinction, without difference. There is no rationale, in our opinion, to mark a distinction between the two situations mentioned above. Further, we are also of the opinion that the decisions relied upon by the learned representative for the assessee are not very much germane to the matter in issue. The cited decisions on behalf of the assessee deal with different sets of facts. For instance in Jabarmal Dugar's case the firm is at Calcutta and the assessee, who is one of the partners, manages the firm from Sardar Shahr. The question is whether the expenses incurred towards salaries for accountant and other employees working under him at Sardar Shahr are admissible deductions. Admittedly th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r opinion, the decision of the Madhya Pradesh High Court in Chhotalal Keshavram's case relied upon by the revenue is directly applicable to the facts on hand. The second question referred to the High Court in that case is as follows : " Whether, on the facts and in the circumstances of the case, in apportioning the total income of the firm between the several partners as required under section 23(6) of the Act of 1922 and section 158 of the Act of 1961, the interest adjusted on the debit balances of the accounts of the partners in the books of the firm is deductible from the share in profits of the respective partners ? " In that case in the original firm Chhotalal Keshavram, Rajnandgaon, there used to be only two partners, viz., Ghanshyamdas Chhotalal and Rameshchandra Chhotalal and the partnership was constituted under the deed dated 29-12-1954. They sustained losses and so there was reconstitution of the firm. One Amrutlal Somabhai was introduced as a financing partner. At the time of reconstitution the liabilities of the firm stood at Rs. 4,09,628 and this amount was debited to the accounts of Ghanshyamdas Chhotalal and Rameshchandra Chhotalal in equal shares. They were not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y if all the conditions under section 67(3) are fulfilled. Section 67(3) is thus a special provision, in our opinion, made by the Legislature for the allowability of interest to a partner in a firm. Therefore, whatever general provision may be there in the Act allowing the interest is deemed to have been hedged by the special provision and to our minds it appears that in all cases of allowing interest one has to see only to the special provision and the special provision should be held to prevail over the general provision. So, also, the special provision should be deemed to be exhaustive on the topic of granting interest. So apart from section 67(3) we are not prepared to consider the claim of the assessee under any other provision. Perhaps keeping in view the same principle, the Madhya Pradesh High court also in the above stated case did not consider the allowability of interest under any other section of the act. We respectfully follow the decision of the Madhya Pradesh High Court in Chhotalal Keshavram's case and hold that the lower authorities are quite correct in disallowing interest for the two assessment years to the assessee. 4. A feeble attempt is made to invalidate the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d by the assessee to the firm. It is for consideration whether such interest is deductible from her share income either under section 67(3) or section 37 or on commercial principles or on the theory of real income. Since I am of the view that only interest other than interest pertaining to drawings to meet wealth-tax liability is deductible, reference to interest on debit balances of the partner will refer only to such balance of interest in the remaining paragraphs. 4. The Supreme Court in the case of CIT v. Ramniklal Kothari [1969] 74 ITR 57 had held with reference to analogous provisions of the 1922 Act that the share of profits from a partnership should itself be treated as profits and gains of business in the following words : ". . . Share in the profits of a partnership received by a partner is 'profits and gains of business' carried on by him and is on that account liable to be computed under section 10, and it is a matter of no moment that the total profits of the partnership were computed in the manner provided by section 10 of the Income-tax Act and allowances admissible to the partnership in the computation of the profits and gains were taken into account. Income of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... her, section 67(3) which is meant to authorise a deduction cannot, in my opinion, be treated as having an in-built prohibition against all other types of interest when Courts have held that it is no prohibition to deductions other than interest. I am, therefore, of the view that if section 37, which would apply to the assessee, would authorise the deduction, the assessee is entitle to the same. The assessee is bound to pay the interest to retain her partnership interest. The debit balances had not come about because of her personal drawings (other than those to meet wealth-tax liabilities). In fact, they are business losses. If her share of loss had been met by her by borrowing from others, she would have been entitled to it. Should it make a difference if she pays interest to the firm itself on such losses, since the co-partners were content with interest in lieu of her bringing in cash to meet her debit balance ? Hence, though the interest is clearly not admissible under section 67(3), she is entitled to the allowance under section 37. 5. Such interest would be admissible even on commercial principles. Interest payment by a partner to a firm is a necessity to be matched by his ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sh High Court in the case of Smt. Allareddy, a decision which incidentally dealt with the 'real income' theory. This decision was directly concerned with the question of deductibility of interest paid by a partner to the firm. Rival and inconsistent arguments relating to questions as to : (i) whether there could be a transaction as between firm and its partners in view of general law, (ii) whether the payment was only 'notional' with reference to real income theory, (iii) whether there was anything inequitable in assessing the interest in the hands of the firm while disallowing it in the case of a partner, and (iv) whether in facts the deduction was barred. The High Court found as regards the first issue that 'the scheme of the 1961 Act as well as the 1922 Act is that the firm and its partners are treated as separate and distinct entities for the purpose of assessment'. As regards the argument whether the payment by partner to firm is only notional and not 'real', the High Court after an elaborate discussion of case law characterised such argument as based on a 'misconception' that firm and partners are one and the same legal entity for purposes of tax. The High Court proceeded to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the allocation of profits of the firm between its partners. It was held by the High Court that the interest received from the partners was the real income of the firm and was rightly assessable in firm's hands. In holding so, it referred to the decision of the Andhra Pradesh High Court in Smt. Allareddy's case mentioned in the immediately preceding paragraph with approval. In the case of the firm (of which the assessee is a partner) there is no dispute that the interest was rightly assessed in its hands. As for allocation, the High Court held that section 23(5)(a) of the 1922 Act makes no provision for deducting interest received from a partner as ithad only provided for adding interest paid to him. Here also, the firm had not claimed the type of allocation wanted by the applicant before the Madhya Pradesh High Court. In fact, if such an adjustment had been made, the question of the assessee claiming interest payment in her personal assessment would not have arisen at all. The Madhya Pradesh High Court was not concerned with the partner's assessment at all. It had no doubt referred to section 67(3) as not being applicable in case of interest payment by partner to firm because there ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... uction. The AAC relied upon the judgment of the Madhya Pradesh High Court in the case of Chhotalal Keshavram. 4. Against the order of the AAC, appeals were preferred to the Tribunal. The learned Judicial Member of the Tribunal was of the opinion that the claim made by the assessee was inadmissible, that the Madhya Pradesh High Court decision in Chhotalal Keshavram's case squarely applied to the facts of this case and according to that judgment, the AAC was right in disallowing the claim. The contention of the assessee that the accumulated debit balance which arose on account of yearly business losses, should be equated to capital borrowed for the purpose of business so that the claim could be allowed under section 67(3), was not appealing to the learned Judicial Member. He was of the opinion that the Madhya Pradesh High Court in Chhotalal Keshavram's case had decided a similar point though it was arising under section 23(6) of the 1922 Act, and that there was discussion about the allowability of the claim in that case even under section 67(3) of the 1961 Act, which the High Court had rejected. He was of the opinion that when section 67(3) made a provision for the allowance of int ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng basic issues arise in this case : (a) whether the debit balance on account of accumulated business losses could be regarded as a debt owed by the assessee to the firm so that the interest paid on that debt could be treated as a business expense, (b) whether section 67(3) puts a bar on the allowance of any claim from the share income from the firm of a partner other than the interest paid on the capital borrowed for the purpose of investment in the firm, and (c) whether section 37 could be invoked. 7. Before I deal with these basic issues, I must refer to a certain portion of the debit balance which did not represent the business loss. Certain amounts paid by way of wealth-tax were also debited to this account and interest relatable to the payment of wealth-tax was held by both my learned brothers as disallowable and on that point there was no difference of opinion. Hence I would confine my discussion only to the allowance of interest on the balance of debit balance. 8. What is the nature of the debit balance of a partner in a firm if the debit balance of a partner is either on account of his withdrawing for personal reasons or on account of loss incurred in business and de ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ey which she had not contributed by reason of which the firm was deprived of the use of the money. When the firm was thus deprived of the use of the money, it is naturally entitled to levy of interest. That interest comes upon the partner as a business expense, as a liability and that liability has to be discharged. If there is no prohibition for the allowance of such a liability under the Act in computing the income of the partner, then that interest automatically becomes allowable. Reference may usefully be made to the Supreme Court decision in the case of Dr. Shamlal Narula v. CIT [1964] 53 ITR 151. 9. The question now is whether the Act contained a prohibition for the allowance of such interest. The learned Judicial Member depended upon section 67(3) for such a prohibition. Let me see what is section 67(3). It says : "Any interest paid by a partner on capital borrowed by him for the purposes of investment in the firm shall, in computing his income chargeable under the head 'profits and gains of business or profession' in respect of his share in the income of the firm, be deducted from the share." This sub-section appears in section 67, which is the section which lays down t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tioned under the various heads of income in the same manner in which the income of the firm has been determined under each head of income. Then, sub-section (3) comes in and says as a concession, that the interest paid by a partner on capital borrowed by him for the purposes of investment in the firm shall be deducted from the share. Then, sub-section (4) says that if the share of a partner is a loss, that loss can be set off, or carried forward and set off, in accordance with the provisions of this Chapter. Therefore, the object of enacting section 67 is just confined to computing what is legally designated as 'partner's share in the income of the firm'. In arriving at the partner's share in the income of the firm, provision was made for the deduction of interest paid on capital borrowed by him for the purpose of investment in the firm. This is provided for invoking the assessment of the firm, only for the sake of administrative convenience. There is also a history behind enacting sub-section (3) of section 67. In the 1922 Act, there was no provision for the allowance of interest paid by a partner on capital borrowed for the purpose of investment in a firm. Then the question arose ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... deduction for interest paid to the firm, was in the individual assessment of the partners and certainly not in the assessment of the firm. On further appeal, the Tribunal confirmed the view taken by the AAC. On a reference, the Madhya Pradesh High Court held that the interest debited to the two partners having been transferred to the interest account and ultimately adjusted to the profit and loss account, it was not a mere adjustment entry but represented commercial and real profits actually received by the firm and, therefore, it was the income of the firm. Then it held that in apportioning the total income of the firm between the several partners as required under section 23(6) of the 1922 Act, the interest adjusted on the debit balances of the accounts of the partners is net deductible from the share of profits of the respective partners. In arriving at the conclusion that the interest paid to the partners was not to be allowed as a deduction from the share of profits of the partners, the Madhya Pradesh High Court pointed out that under section 23(6) of the 1922 Act and section 16(1)(b) of the same Act, no provision similar to the one under section 67(3) under the 1961 Act was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... terest paid by the partners cannot be allowed as a deduction against the share income from other firms. This computation has necessarily to be made under the provisions of the Act treating the share income as income from 'business'. Now that it is a settled proposition of law and in fact on this point there is no dispute before me that the share income is income from 'business' and if the liability to pay interest on the debit balance arose on account of accumulated losses of the business, that should be allowed in computing the income of the assessee for the purpose of the assessment. In this context, reference may be made to a recent decision of the Calcutta High Court in the case of CIT v. Smt. Shanti Devi Jalan [1983] 139 ITR 152. In this case, the question was identical to the one that arose before me, namely, whether interest paid to firm by a partner on debit balance on account of losses, could be allowed as a deduction in computing the income for the purpose of the assessment. In the wake of this question, the other related question, namely, whether section 67(3) has put an embargo on the allowance of any other item and whether it is exhaustive as interpreted by the learned ..... 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