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TMI Blog1977 (9) TMI 13X X X X Extracts X X X X X X X X Extracts X X X X ..... le to tax as capital gain by reason of section 47(ii) of the Act ? " The questions relate to the assessment year 1962-63 and arise out of the assessment proceeding of the assessee (Tribhuvandas G. Patel), a retired partner of the firm of Kumar Engineering Works, Bombay. The facts giving rise to the questions may be stated : the assessee was a partner in the firm of Kumar Engineering Works up to 31st August, 1961, whereafter he retired therefrom. It appears that on December 5, 1960, he served on the remaining partners a notice of his intention to dissolve the firm with effect from December 31, 1960, but as the remaining partners opposed the move of the assessee to dissolve the firm and contended that the firm continued to exist notwithstanding the notices served on them by the assessee, the assessee filed Suit No. 72 of 1961 on the original side of this court oil March 8, 1961, for a declaration that the firm was dissolved with effect from December 31, 1960, and for accounts and other reliefs. The dispute was ultimately settled by the partners out of court and under a deed dated January 19, 1962, the assessee retired from the firm with effect from August 31, 1961, and the remainin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as such section 47(ii) did not apply and the entire amount of Rs. 4,77,941 was chargeable to capital gains tax as all the assets other than the land at Kalina were purchased after January 1, 1954, and as the land at Kalina had not appreciated in value by January 1, 1954. He also included the sum of Rs. 50,000 in the total income as an item being liable for capital gains tax. In the appeal that was preferred by the assessee, the Appellate Assistant Commissioner substantially confirmed the ITO's order in regard to the said three items. He confirmed the inclusion of Rs. 1,72,155 in the total income of the assessee on the ground that the partner in his personal assessment could not challenge the allocation of profit made under section 158 of the Act and that if he were aggrieved by the said allocation he should have preferred an appeal on behalf of the firm. He also supported the inclusion of the said amount on the ground that the assessee was liable to tax not merely on the income received by him but on income which accrued or was deemed to accrue to him. As regards the entire amount of Rs. 4,77,941 which. was held liable to capital gains tax by the ITO he took a different view on the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y way of distribution of capital asset on the dissolution of the firm and as such the case was covered by section 47(ii) of the Act. The Tribunal, however, held that share or interest of a partner in the firm was property and payment received by a partner for surrendering the said property or his rights therein would attract the provisions of section 45 provided other relevant conditions were satisfied. The Tribunal then pointed out that there was a distinction between retirement of a partner from the firm and dissolution of a firm, and on an examination of facts on record, it held that the assessee had received Rs. 4,77,941 on retirement from the firm and not upon its dissolution and the case was, therefore, not saved by section 47(ii) and was not covered by the decision in Bankey Lal Vaidya [1965] 55 ITR 400 (All). The Tribunal on a consideration of the material on record valued the land at Rs. 10 per sq. yard as on January 1, 1954, and directed the ITO to work out the capital gain on that basis. At the instance of the Commissioner of Income-tax, Bombay, the three questions set out at the commencement of the judgment have been referred to us for our opinion. At the outset we ma ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the occasion of such retirement the assessee was, inter alia, paid a sum of Rs. 1 lakh as his share of profit of the firm for the broken period ended August 31, 1961. By the time the assessee's individual assessment came up for consideration the assessment of the firm as a registered firm had been completed by the Income-tax Officer, A-IV Ward, and on apportionment a sum of Rs. 1,78,155 was allocated by the ITO to the assessee as his share of profit of the firm under section 158 of the Act. The question is whether in the individual assessment of the assessee a sum of Rs. 1 lakh actually received by him on his retirement from the firm or his share of profit that may ultimately be determined in the assessment of the firm is liable to be included in the total income of the assessee. We are deliberately indicating two alternatives in the aforesaid form because the Tribunal has observed while disposing of the appeal preferred by the assessee that till then no assessment of the firm had been made or had come into existence. In this behalf, we may refer to the actual state of affairs as it existed at the time of passing of the order by the Tribunal which was sought to be put before us by ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion that arises for our determination is whether the sum of Rs. 1 lakh actually received by the assessee on his retirement from the firm or his share of profit that may ultimately be determined in the assessment of the firm is liable to be included in his total income. On the above question relying upon the provisions of sections 67, 158 and 182 of the Act, Mr. Joshi contended that once the assessment of a registered firm was completed by the ITO and the partners' share is allocated or apportioned, then statutorily it was incumbent upon the ITO to deal with, in the individual assessment of a partner, and assess such allocated share of a partner as his share of profit of the firm and include the same in his total assessable income and in such a case in view of the said statutory provisions the theory of real income could not be resorted to and, therefore, in the instant case not the amount of Rs. 1 lakh which was actually received by the assessee on his retirement as his share of profit from the firm for the broken period ending August 31, 1961, but his share of profit that may ultimately be determined in the assessment of the firm could be includible in the total income of the as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of each partner in the income of the firm shall be included in his total income and assessed to tax accordingly. Section 158 so far as is material provides that whenever a registered firm is assessed the Income-tax Officer shall notify to the firm by an order in writing the amount of its total income assessed and the apportionment thereof between the several partners. But before the benefit or advantage of the provisions of these sections can be availed of by the partnership firm and its partners, the firm must obtain registration under section 185(1)(a) of the Act and for that purpose an application in the prescribed form under the Rules is required to be made under section 184(6) and the requisite procedure is required to be gone through. Sub-section (6) of section 184 states that the application shall be made in the prescribed form and shall contain the prescribed particulars, while sub-section (5) states that the application shall be accompanied by the original instrument evidencing the partnership, together with a copy thereof. Rule 22 of the Income-tax Rules, 1962, deals with how, when and in what form such application should be made and, inter alia, provides that the applica ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of the firm is a profit or a loss, his share (whether a net profit or a net loss) shall be computed as follows : (a) any interest, salary, commission or other remuneration paid to any partner in respect of the previous year, and, where the firm is a registered firm or an unregistered firm assessed as a registered firm under clause (b) of section 183, the income-tax, if any, payable by it in respect of the total income of the previous year, shall be deducted from the total income of the firm and the balance ascertained and apportioned among the partners ; (b) where the amount apportioned to the partner under clause (a) is a profit, any salary, interest, commission or other remuneration paid to the partner by the firm in respect of the previous year shall be added to that amount, and the result shall be treated as the partner's share in the income of the firm ; (c) where the amount apportioned to the partner under clause (a) is a loss, any salary, interest, commission or other remuneration paid to the partner by the firm in respect of the previous year shall be adjusted against that amount, and the result shall be treated as the partner's share in the income of the firm." I ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n that the method prescribed by that section cannot be resorted to unless the firm's assessment is completed first or its total income is computed first or that the same firm must continue throughout the year or that the assessee must be a partner of the firm throughout the relevant previous year or must be a partner at the time when the firm's assessment is being completed. In our view, section 67(1) merely lays down the method of computing a partner's share in the income of the firm and how the same should be ascertained and that method will have to be applied and can be applied irrespective of the aspects mentioned by Mr. Dastur. It is, therefore, not possible to accept the contention of Mr. Dastur that section 67(1) was not attracted to the facts of the case. Even the alternative contention put forward by him must be rejected. As we have stated above the provisions of sections 182, 158 and 67(1) read with the relevant rule and the form prescribed for obtaining registration of the firm clearly lay down statutorily how the apportionment of the profits of the firm to each of the partners is to be made and the same has got to be in the same profit-sharing proportion as has been spe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . In our view, the principle or theory of real income would undoubtedly apply to a situation as obtained in N. M. Raiji's case [1949] 17 ITR 180 (Bom), but it would not necessarily apply to a converse case like the present one, more especially when to such a converse case the statutory provision is applicable. In view of the above discussion, the first question is answered thus. On the facts and in the circumstances of the case not Rs. 1 lakh but the assessee's share of profit that may ultimately be determined in the assessment of the firm as his share of profit from the firm is liable to be included in his total income. Turning next to the last question whether the sum of Rs. 4,77,941 or any part thereof is liable to tax as capital gain the rival contentions were these : Mr. Dastur for the assessee contended that the retirement of the assessee as a partner from the firm of Kumar Engineering Works and quantification of his share or interest therein and payment thereof to him does not result in any transfer of capital asset within the meaning of section 45 of the Act, inasmuch as upon retirement there is merely an adjustment of his rights and, according to him, retirement of a par ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tnership and its assets to the continuing partners, who are permitted to use such partnership assets including the retiring partner's erstwhile interest therein for the purpose of carrying on partnership business, he relied upon certain passages from Lindley on Partnership and decided cases in which an instrument executed by a retiring partner in favour of the continuing partners has been regarded as a conveyance chargeable to stamp duty as such. He also placed strong reliance upon the recitals and operative parts of the deed dated January 19, 1962, whereunder the assessee retired from the firm and was paid several amounts including the sum of Rs. 4,77,941. In substance his contention was that upon retirement of a partner the retired partner's share or interest in the partnership and the partnership assets, which is a capital asset, is relinquished, assigned, released and transferred to the continuing partners and as such whatever price or consideration he receives, therefore, would become chargeable to capital gains under section 45 of the Act. At the outset it will be desirable to set out the material provisions of the Act, which deal with the capital gains. Section 2(14) defin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed income of the previous year in which the transfer has taken place. Then follow sections 46 and 47 which except certain types of transactions from the purview of section 45. Section 46 provides thus : " 46. (1) Notwithstanding anything contained in section 45, where the assets of a company are distributed to its shareholders on its liquidation, such distribution shall not be regarded as a transfer by the company for the purposes of section 45." We are not concerned with this provision in the instant case but we are concerned with section 47 which provides that nothing contained in section 45 shall apply to certain transfers specified therein and one of the transactions specified in clause (ii) is " any distribution of capital assets on the dissolution of a firm ". The question in the instant case is whether when the assessee retired from the firm of Kumar Engineering Works and upon such retirement received the sum of Rs. 4,77,941 as his share in the remaining assets of the firm, the transaction amounted to " transfer " within the meaning of section 2(47) so as to attract section 45 or whether the said transaction amounted to " distribution of capital assets on the dissolution ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 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 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."' Mr. Dastur then pointed out that in a later portion of the judgment the Supreme Court has summarised the position by stating in clear and specific terms thus : "........ his right during the subsistence of the partnership is to get his share of profits from time to time as may be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... deduction of liabilities and prior charges is determined on taking accounts on the footing of notional sale of partnership assets and given to him, what he receives is his share in the partnership and not any consideration for the transfer of his interest in the partnership to the continuing partners, that his share in the partnership is worked out by taking accounts in the manner prescribed by the relevant provisions of law and it is this, namely, his share in the partnership which he receives in terms of money, and that there is in this transaction no element of transfer of interest in the partnership assets by the retiring partner to the continuing partners. He further pointed out that the Gujarat High Court has in terms held that when a partner retires from the partnership what he receives is his share in the partnership which is worked out and realised and does not represent consideration received by him as a result of extinguishment of his interest in the partnership assets. Relying upon this decision he strongly urged that in the instant case also the sum of Rs. 4,77,941 could be said to have been received by the assessee by way of adjustment of his rights upon retirement f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... continue to carry on the business of the partnership as a firm, while in the latter case the firm as such no more exists and the dissolution is between all the partners of the firm. In the Indian Partnership Act the two concepts are separately dealt with. Sections 31 to 38 which occur in Chapter V deal with the incoming and outgoing partners and some of the consequences of retirement of a partner are dealt with in sub-sections (2) and (3) of section 32 while some others are dealt with in sections 36 and 37. Under section 37, the outgoing partner or the estate of the deceased partner, in the absence of a contract to the contrary, would be entitled at the option of himself or his representatives to such share of the profits made since he ceased to be a partner as may be attributable to the property of the firm or to interest at 6 per cent. per annum on the amount of his share in the property of the firm. The subject of dissolution of a firm and the consequences are dealt within Chapter VI---sections 39 to 55. Section 48 deals with the mode of settlement of accounts between partners upon dissolution and the rules of settlement of accounts between the partners mentioned therein are sub ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing partner ", the following statement of law occurs : " An assignment by a partner of his share and interest in the firm to his co-partners, in consideration of the payment by them of what is due to him from the firm, is regarded as a sale of property within the meaning of the Stamp Acts ; and consequently the deed of assignment, or the agreement for the assignment, requires an ad valorem stamp. But if the retiring partner, instead of assigning his interest, takes the amount due to him from the firm, gives a receipt for the money, and acknowledges that he has no more claims on his co-partners, they will practically obtain all they want ; but such a transaction, even if carried out by deed, could hardly be held to amount to a sale ; and no ad valorem stamp, it is apprehended, would be payable." A couple of things emerge clearly from the aforesaid passages. In the first place, a retiring partner while going out and while receiving what is due to him in respect of his share, may assign his interest by a deed or he may, instead of assigning his interest, take the amount due to him from the firm and give a receipt for the money and acknowledge that he has no more claim on his co-pa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... greement dated 24th August, 1957, contained AND IN further pursuance of the said agreement and in consideration of the premises aforesaid and without making any further payment of any amount to him the retiring partner as beneficial owner doth hereby assign and release up to the continuing partners and each of them all that his right, title interest and undivided half share in the said partnership firm and all his share and interest on the said pieces of land, hereditaments and premises, structures and buildings standing thereon ...... and machinery, plant, equipment, etc...... TO HOLD the same unto the continuing partners absolutely in equal shares as tenants-in-common...... AND THIS INDENTURE FURTHER WITNESSETH that in pursuance of the said agreement and in consideration of the premises aforesaid the retiring partner doth hereby release, grant, convey and transfer and assure all that his individual half share in all the several pieces or parcels of land-hereditaments ...... TO HAVE AND TO HOLD the said undivided half share and the premises hereby granted as expressed so as to be UNTO AND TO THE USE of the continuing partners absolutely as tenants-in-common in equal shares for eve ..... X X X X Extracts X X X X X X X X Extracts X X X X
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