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TMI Blog1971 (9) TMI 56X X X X Extracts X X X X X X X X Extracts X X X X ..... firm with effect from 18th February, 1962, leaving the other seven as continuing partners of the firm. The terms and conditions of retirement were recorded in a document dated 18th February, 1962, executed by and between the partners. This document was in the form of minutes of the proceedings of the meeting held on 18th February, 1962, at which the decision was taken by the partners that the assessees should retire from the firm. Since one of the main controversies between the parties turns on the true interpretation of this document, it would be desirable to set out its material provisions in extenso. These provisions, according to their English translation, read: "(1) Resolved that out of the partners of our firm, four partners, namely, (1) Shri Mohan Ramabhai, (2) Shri Chandubha Alubha Rana, (3) Shri Bhojubha Seshubha and (4) Shri Hansraj Notibhai are retiring from our partnership with effect from today, i.e., 18-2-1962, after taking their share in the partnership; and since then they are not partners in our firm. (2) The seven partners, namely, (1) Shri Mohan Rudabhai, (2) Shri Amarsi Motibhai, (3) Shri Virji Becharbhai, (4) Shri Parshottam Rudabhai (5) Shri Mohan Kalabha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n clauses (3) and (4) and this amount was worked out by taking the proportionate value of his share in the net partnership assets after deduction of liabilities and prior charges. The amount received by each assessee included in its break-up an amount representing his proportionate share in the value of the goodwill, since goodwill constituted an asset of the partnership and it was liable to be taken into account in determining the share of each assessee in the partnership at the date of retirement. The Income-tax Officer assessing each of the assessees for the assessment year 1963-64, for which the relevant previous year was Samvat year 2016, took the view that the amount received by each assessee to the extent it included his proportionate share in the value of the goodwill represented capital gain chargeable to tax under section 45 of the Income-tax Act, 1961, and he accordingly brought it to tax in the assessment of each assessee. There is no dispute before us as to what was the amount representing the proportionate share of each assessee in the value of the goodwill which was included in the amount received by him on retirement and it is, therefore, not necessary to refer to t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the amount received by the assessee by way of his share in the goodwill of the firm is not liable to be assessed to tax ?" Each of the assessees submitted at the hearing of the reference application that in addition to the two questions proposed by the Commissioner, a third question arising out of the order of the Tribunal, in so far as it decided the first contention against the assessee, should also be referred by the Tribunal. The Tribunal accordingly included the following third question in the reference made in the case of each assessee: " (3) Whether, on the facts and in the circumstances of the case, the retirement of the assesses as partner from the firm amounted to dissolution of the firm, and, therefore, the capital gain, if any, is chargeable to tax in view of the provisions of section 47(ii) of the Act ? " We may point out straightaway that in the view we are taking as regards questions Nos. (1) and (2), it is not necessary for us to consider the third question and we do not, therefore, propose to answer it. So far as the second question is concerned, there were two contentions urged on behalf of the assessees in support of the decision of the Tribunal that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tionate share in the goodwill of the firm [vide clause (4)]. The argument of the revenue was that when the assessees retired from the partnership, the interest of each of the assessees in the partnership assets including the goodwill was extinguished and there was accordingly "transfer" of his interest in the goodwill by each of the assessees within the meaning of section 2(47) and the amount representing the proportionate share in the value of the goodwill having been received by each assessee as consideration for transfer of his interest in the goodwill and there being no cost of acquisition of the goodwill to the firm and, consequently, to any partner the whole of such amount is liable to be taxed as capital gain in the hands of each assessee. This argument, plausible though it may seem, is fallacious in that it ignores the true nature of the interest of a partner in a partnership and the legal consequences which flow when a partner retires from the firm. The most authoritative statement of the law on this subject, is to be found in the decision of the Supreme Court in Narayanapba v. Bhaskara Krishnappa. The facts of that case are rather important and we may briefly state them ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... operty of the partnership. During the subsistence of the partnership, however, no partner can deal with any portion of the property as his own. Nor can he assign his interest in a specific item of the partnership property to anyone. His right is to obtain such profits, if any, as fall to his share from time to time and upon the dissolution of the firm to a share in the assets of the firm which remain after satisfying the liabilities set out in clause (a) and sub-clauses (i), (ii), and (iii) of clause (b) of section 48." The Supreme Court then quoted with approval the following statement of the law from Lindley on Partnership, 12th edition, at page 375: "What is meant by the share of a partner is his proportion of the partnership assets after they have been all realised and converted into money, and all the partnership debts and liabilities have been paid and discharged. This it is, and this only, which on the death of a partner passes to his representatives, or to a legatee of his share.... and which on his bankruptcy passes to his trustee." And, in a later portion of the judgment, summarized the position by stating in clear and specific terms: "...... his right during the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ustment of the rights of the partners in the assets of the partnership : it does not amount to transfer of assets." The learned judge proceeded to observe: "...... adjustment of the rights of the partners in a dissolved firm is not a transfer, nor it is for a price .... A partner may, it is true, in an action for dissolution insist that the assets of the partnership be realised by sale of its assets, but where in satisfaction of the claim of the partner to his share in the value of the residue determined on the footing of an actual or notional sale, property is allotted, the property so allotted to him cannot be deemed in law to be sold to him." These observations, though made in the context of a dissolution of partnership, are equally applicable where a partner retires from the partnership, the last passage quoted by us above from the decision of the Supreme Court in Narayanappa's case. Both these decisions of the Supreme Court were followed by a Full Bench of this court in Velo Industries v. Collector, Bhavnagar. That was a case under the Bombay Stamp Act, 1958, and the question was as to what is the nature of the transaction when a partner retires from the partnership and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ly, his share in the partnership which he receives in terms of money. There is in this transaction no element of transfer of interest in the partnership assets by the retiring partner to the continuing partners: vide also the recent decision of the Supreme Court in Commissioner of Income-tax v. Bankey Lal Vaidya. It is true that section 2(47) defines "transfer" in relation to a capital asset and this definition gives an artificially extended meaning to the term "transfer" by including within its scope and ambit two kinds of transactions which would not ordinarily constitute "transfer" in the accepted connotation of that word, namely, relinquishment of the capital asset and extinguishment of any rights in it. But, even in this artificially extended sense, there is no transfer of interest in the partnership assets involved when a partner retires from the partnership. If relinquishment or extinguishment of interest in partnership assets were involved in the retirement of a partner, the decision in Narayanappa's case could not have been what it was. Section 17(1)(c) of the Registration Act requires compulsory registration of a document where it acknowledges receipt or payment of any co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sent case, " transfer " of interest of each of the assessees in the goodwill when the assessees retired from the firm, the amount received by each assessee in respect of his share in the value of the goodwill must still be held to be outside the pale of chargeability to capital gains tax. It is not every transfer of a capital asset which attracts the charge of capital gains tax. Section 45 which is the charging section, undoubtedly, provides that any profits or gains arising from the transfer of a capital asset shall be chargeable to income-tax under the head "capital gains". But, section 48 shows that the transfer that is contemplated by section 45 is a transfer as a result of which consideration is received by the assessee or accrues to the assessee. Section 48 provides the mode of computation of capital gains by enacting that the income chargeable to tax as capital gain shall be computed by deducting from the "full value of the consideration received or accruing as a result of the transfer of the capital asset" the following amounts, namely: (i) expenditure incurred wholly and exclusively in connection with such transfer ; and (ii) the cost of acquisition of the capital asset an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ts and liabilities have to be deducted from the value of the partnership assets and it is only in the surplus that the retiring partner is entitled to claim a share. It is, therefore, not possible to predicate that a particular amount is received by the retiring partner in respect of his share in a particular partnership asset or that a particular amount represents consideration received by the retiring partner for extinguishment of his interest in a particular partnership asset. We are, therefore, of the view that when the assessees retired from the firm, there was no transfer of interest of any of the assessees in the goodwill of the firm and no part of the amount received by any of the assessees was assessable to capital gains tax under section 45. This decision as regards the first contention renders it unnecessary for us to examine the validity of the second contention but since the second contention has been fully argued before us and it raises a question of some importance, we think it desirable to express our opinion upon it. The determination of this contention rests on the construction of a few relevant provisions of the Act. Section 45 which is the general charging sec ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... business is property and it cannot be acquired except on payment of compensation under article 31(2) of the Constitution. It is, therefore, clear that goodwill is a kind of property held by the owner of the business and it is a capital asset within the meaning of section 2(14). It would, therefore, seem that if there is transfer of goodwill and any profits or gains arise to the assessee from such transfer, they would be assessable to capital gains tax under section 45. But, what is the meaning of the word "transfer" ? The definition of "transfer" is to be found in section 2(47). We have already referred to that definition earlier and we need not, therefore, reproduce it here. It is sufficient to state that it is a definition which includes within its scope and ambit not only transactions which would constitute transfer according to the accepted connotation of that word, but also transactions which would not ordinarily be regarded as transfer according to its ordinary natural sense. The definition gives an extended statutory meaning to the word "transfer" and includes within it relinquishment of a capital asset or the extinguishment of any rights therein. Now, if contrary to the v ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rom the full value of the consideration. Another amount which is to be deducted from the full value of the consideration is "the cost of acquisition of the capital asset "; vide clause (ii). Where the capital asset has cost money to the assessee to acquire it, it must necessarily be deducted from the full value of the consideration in order to ascertain the net profit earned by the assessee. The object of the charging provision is to tax "profits or gains" and this expression means real or net profits or gains and in order to arrive at real or net profits or gains, the cost which has been incurred by the assessee in acquiring the capital asset must be deducted from the full value of the consideration received by him. Now, one question may arise here for consideration: what is the meaning of the words "acquisition of the capital asset" in this context ? Do they mean only acquisition of the capital asset from a third party or do they also include capital asset created by the assessee ? These words seemed to suggest, according to the assessee, that the capital asset must exist as such at the date when it is acquired and that would be possible only when it is acquired from a third part ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s of money has been incurred by the assessee in acquiring the capital asset, as in the present case, where admittedly creation of the goodwill did not cost anything to the firm and its partners in terms of money ? The argument of the assessee was that where the acquisition of the capital asset has cost nothing to the assessee in terms of money, the capital asset must be held to be outside the net of taxation cast by the taxing provision. Section 48, clause (ii), clearly shows, said the assessee, that the transfer of a capital asset would attract the capital gains tax under section 45 only if the capital asset has actually cost to the assessee something in terms of money. If the capital asset did not cost anything to the assessee in terms of money in its acquisition, capital gain resulting from its transfer would not be exigible to tax. This contention was sought to be supported by reference to two decisions, one a decision of the Madras High Court in Commissioner of Income-tax v. K. Rathnam Nadar, and the other, a decision of the Calcutta High Court in Commissioner of Income-tax v. Chunilal Prabhudas and Co. We do not think; this contention is well founded. It is based on a misappl ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l asset. The second part of clause (ii) of section 48 provides that the cost of any improvement of the capital asset should also be deducted from the full value of the consideration. That would also apply where any such cost is incurred by the assessee. If there is no such cost incurred by the assessee, there can be no question of deduction and the provision clearly cannot apply. We cannot, therefore, assent to the argument of the assessee that the charging provision enacted in section 45 is confined only to those cases where the capital asset has cost something to the assessee in terms of money in acquiring it. Even a capital asset which has cost nothing to the assessee in acquiring it would be within the ambit and coverage of the charging provision, provided the conditions for the applicability of the charging provision are satisfied. We have been taken through the other sections of the Act relating to the capital gains tax but we do not find anything in those sections which compel us to give a narrow and constricted meaning to the charging provision enacted in section 45 by excluding self-created capital assets or capital assets which have cost nothing to the assessee in terms ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sferred and there is in the result profit or gain, it would fall fairly and squarely within the plain terms of section 45 and would be clearly taxable under that section, unless we find anything in some other provision of the Act which expressly or by necessary imiplication shows that goodwill was not intended to be a subject of taxable capital gain. The inquiry must be not whether goodwill is intended to be a subject of taxable capital gain but whether it is intended to be excluded from the charge even though it falls within the plain terms of section 45. The second argument is the same which found favour with the Madras High Court and for reasons which we have already given, we are unable to accept it. The decision of the Calcutta High Court does not, therefore, appeal to us and we cannot accept it as laying down the correct law. We may also in passing refer to a recent decision of the Delhi High Court in K. Jagdev Singh Mumick v. Commissioner of Income-tax where the same view has been taken by the Delhi High Court in regard to taxability of profit or gain arising on transfer of goodwill of a business. But, this decision merely quotes the relevant passage from the judgment of the ..... X X X X Extracts X X X X X X X X Extracts X X X X
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