Income Tax Appellate Tribunal - Ahmedabad
Parmeshwar Engineers, Surat vs Assessee on 28 September, 2007
IN THE INCOME TAX APPELLATE TRIBUNAL
'D' BENCH - AHMEDABAD
(BEFORE S/SHRI BHAVNESH SAINI, JM AND D.C. AGRAWAL, AM)
ITA No.4369/Ahd/2007
A. Y.: 2004-05
M/s. Parmeshwar Engineers, Vs The A. C. I. T., Circle-2,
C-113, Udhna Udhyognagar, Aayakar Bhavan,
Sangh Shopping Complex, Majura Gate,
Udhna Surat. Surat
PA No. AADFP 1709 J
(Appellant) (Respondent)
Appellant by Shri Rasesh Shah, AR
Respondent by Shri Bhuvnesh Kulshrestha, DR
ORDER
PER BHAVNESH SAINI: This appeal by the assessee is directed against the order of the learned CIT(A)-II, Surat dated 28-09-2007 for the assessment year 2004-05 on the following grounds:
"1. On the facts and in circumstances of the case as well as law on the subject, the learned Commissioner of Income-tax (Appeals) has erred in confirming the action of the Assessing Officer in making disallowance of Rs.11,00,000/- on account of premium paid under Keyman Insurance Policy.
2. On the facts and in circumstances of the case as well as law on the subject, the learned Commissioner of Income-tax (Appeals) has erred in confirming the action of the Assessing Officer in making disallowance of Rs.2,27,328/- being 1/5th of expenses relating to vehicle and telephone".
2. We have heard the learned representatives of both the parties and perused the materials on record.
3. On ground No.1, the assessee has contested the disallowance of Rs.11,00,000/- being premium paid towards Keyman Insurance Policy ITA Nos. 4369/Ahd/2007 2 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat (KIP). Briefly, the facts of the case are that the assessee had debited a sum of Rs.11,00,000/- as KIP premium paid for a partner of his firm by treating him as keyman. The A. O. took the view that such premium was not allowable as revenue expenditure and therefore, issued a show cause notice to the assessee asking to explain why the said sum should not be disallowed. The assessee explained that the policy was taken as insurance against financial loss which could arise from premature death of the keyman. Even though there might have been doubts regarding treatment of premium paid, the Finance Bill of 1996 introduced five amendments to settle the issue. According to the assessee, the Explanatory Notes at Para 14.4 clearly mentioned that the premium paid on the KIP was allowable as business expenditure and that the amount received back on maturity of such policy was made taxable u/s 28 (vi) with effect from 01-10-2996. Therefore, there was no question of not allowing the premium as business expenditure. The AO rejected the submission of the assessee observing that though the assessee had placed reliance on CBDT Circular NO.762 dated 18-02-1998, but failed to consider the circular in its entirety. The AO noted that the circular clearly define Keyman as an employee or a director whose services is perceived to have a significant effect on the profitability of the business. The premium was to be paid by the employer. The AO has reproduced the relevant portion of the circular at Para 9 of the assessment order and discussed the concept of Keyman Insurance, its purpose and who could be a Keyman as per Explanation to section 10 (10D) of the IT Act and took the view that a Keyman is either an employee of the organization or any other salaried person who is a key person in the organization. The KIP is a policy where the proposer as well as the payer of the premium is the employer and the life to be insured is that of an employee and there has to exist employer - employee relationship for KIP to be allowed as a deduction. Such relation is absent between the partnership firm and the partners. The partners constitute the firm and, therefore, there cannot be ITA Nos. 4369/Ahd/2007 3 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat any employer - employee relationship between the firm and the partners. The AO further observed that the amount received on maturity of KIP is not exempt u/s 10 (10D) of the Act since the matured amount acquires the nature of capital receipt and that the premium paid towards KIP is in the nature of capital expenditure and cannot be allowed as deduction u/s 37(1) of the IT Act. Further, relying on the decision of the Hon'ble Gujarat High Court in the case of CIT Vs Khodidas Motiram Panchal 161 ITR 99 the AO observed that the purpose of taking out such policy is to ensure the availability of liquid cash at the requisite point of time and since liquid cash is capital asset, the expenditure incurred towards KIP premium can only be said to be in the nature of capital expenditure. Accordingly, the AO came to the conclusion that a partner of a firm cannot be a keyman of the firm, there being no employer - employee relationship between the firm and the partners and the expenditure incurred towards the KIP premium is a capital expenditure and such expenditure could only be treated as personal expenditure of the partners. The AO, therefore, disallowed the claim of the assessee and added Rs.11,00,000/- to the total income of the assessee.
4. The addition was challenged before the learned CIT(A) and in the written submission submitted during the course of appellate proceedings the learned Counsel for the assessee contended that the AO was not justified in disallowing the expenditure incurred on the premium of Rs.11,00,000/- under KIP and that as per section 10 (10D) of the IT Act, KIP is a life insurance policy taken by a person on the life of another person, who is or was the employee for the first mentioned person or he is or was connected in any manner whatsoever with the business of the first mentioned person. Therefore, according to the learned Counsel for the assessee, existence of employer- employee relationship is not at all essential and that the AO was not justified in disallowing the expenditure on the ground that there was no employer-employee relationship between ITA Nos. 4369/Ahd/2007 4 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat the assessee firm and its partners. It has been further argued by the learned Counsel for the assessee that the insurance company issues the policy if all its conditions are met and since in this case, the insurance company had issued the policy to the partner of the assessee, the AO was not justified in going into the aspects which are not essential to the issue of the KIP. In the partnership firm, the partners are directly connected with the business of the firm and they are the key person who takes decisions for running the business of the firm. Death of a partner or any damage caused to him would have definite adverse affect in the business of the firm. Referring to CBDT Circular No.762 dated 18-2-1998, the learned Counsel for the assessee submitted that since the surrender value of the KIP is to be treated as income from other sources and taxed, the premium paid towards such policy is to be allowed as business expenditure and that the AO failed to correctly interpret the said circular or to apply it in a fair and judicious manner. Regarding the AO's view that the expenditure incurred towards the premium was a capital expenditure, it has been submitted by the learned Counsel for the assessee that section 28(vi) clearly lays down that any sum received under the KIP was taxable under head of business income and therefore, the receipt cannot be treated as capital expenditure and if that be so, the premium paid towards the KIP could not be treated as capital expenditure. Regarding AO' reliance in the case of Khodidas Motiram Panchal (supra), the learned Counsel for the assessee submitted that the ratio of the said case support the assessee's case and that the Hon'ble High Court held that if the amount received from the insurance company on the demise of a partner is a capital asset, what the firm expends for acquiring that capital asset can only be said to be capital in nature within the meaning of sec. 37(1) of the IT Act. It was further submitted that as a corollary, it can be said that if the amount received is not capital in nature, the expenditure incurred for getting the said amount cannot be treated as a capital expenditure and section 28(vi) of the IT Act ITA Nos. 4369/Ahd/2007 5 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat clearly lays down that the maturity value of the KIP was to be taxed as revenue receipt. The learned Counsel for the assessee relied on the decision of ITAT Delhi Bench in the case of P. G. Electronics Vs ITO 98 TTJ 896 in support of the claim of the assessee.
5. The learned CIT(A) considering the submissions of the assessee and the material on record dismissed the appeal of the assessee and confirmed the addition. His findings on Para 6, 6.1 and 6.2 are reproduced as under:
"6. I have carefully considered both the positions. I do not accept the alternative view taken by the A. O. that the amount received on maturity of an insurance policy is a capital receipt and consequently, the sum expended towards the premia of such policy is to be treated as capital expenditure. As argued by the A. R., Circular No.762 dated 18-02-1998 issued by the CBDT clearly laid down that the premium paid towards the KIP is to be allowed as a business expenditure and that, as per the provisions of sec. 28 (vi) of the Act, the amount received on maturity of the KIP is to be brought to tax. In fact, the A. O. himself has reproduced the relevant portion of the said Circular at Para (9) of the assessment order. Therefore, the view taken by the A. O. that the premia paid towards KIP was to be treated as a capital expenditure and disallowed, was absolutely erroneous.
6.1 The Explanation below sec. 10(10D) defines the KIP. The same is reproduced hereunder:
"Explanation - For the purpose of this clause, "Keyman insurance policy" means a life insurance policy taken by a person on the life of an other person who is or was the employee of the first - mentioned person or is or was connected in any manner whatsoever with the business of the first - mentioned person."
As per the Explanation, the KIP is a policy taken by a person on the life of an employee or a person who is or was connected in any manner whatsoever with the business of the person taking the policy. In the case of a partnership firm, a partner cannot be treated as an employee of the firm. As ITA Nos. 4369/Ahd/2007 6 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat observed by the A. O. at Para 16 of the Assessment Order, the partners constitute the firm. Therefore, if a KIP is taken by the firm, it would amount to the partners insuring themselves. Consequently, it would amount to the firm bestowing personal benefits to a partner and would represent a personal expenditure and not a business expenditure. The A. R. has not countered this observation of the A. O. He has merely stated that the A. O. gave a very narrow meaning to the word "keyman" and that, the partner being directly connected with the business of the firm, is therefore, the keyman since his death would adversely affect the firm's business. There is no merit in such an argument.
6.2 As per the Explanation, if it is not an employee, the person in whose name the KIP is taken has to be connected in some manner with the business of the person taking policy. The partners are not merely 'connected' to the firm. They are the firm, and they constitute the firm. Therefore, any partner cannot be a keyman for the firm. To that extent, I would respectfully reject the view taken by the Hon'ble Delhi Bench of the ITAT in the case of P. G. Electronics supra). In any case, the only issue before the ITAT was whether or not the premium paid on the KIP is allowable as a business expenditure. The ITAT held that it was allowable as a business expenditure since it was clarified as such in the Circular NO.762 issued by the CBDT. Para 14.1A of the Circular clarified that a keyman is an employee or a director whose services are perceived to have a significant effect on the profitability of the business. The premium is paid by th4e employer. The A. O. therefore, was fully justified in taking the view that the partner of a firm could not be a keyman and consequently, in disallowing the sum of Rs.11 lacs paid by the Assessee firm as premium for the KIP. The addition of the said sum is confirmed".
6. The learned Counsel for the assessee reiterated the submissions made before the authorities below and relied upon the decision of the Hon'ble Bombay High Court in the case of CIT Vs B. N. Exports 231 CTR 227 and the order of the ITAT Ahmedabad Bench in the case of M/s. Gem Art dated 26-03-2010 in ITA No. 2725/Ahd/2007. He has also filed copy of the Keyman Insurance Policy through which the amount in question was paid for insurance. It was paid in a sum of Rs.10,00,000/-
ITA Nos. 4369/Ahd/2007 7M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat in case of Mr. Ashishbhai M. Amin and Smt. Tejasben M. Amin in a sum of Rs.1,00,000/- as a sleeping partner. On the other hand, the learned DR relied upon the orders of the authorities below.
7. We have considered the rival submissions and the material available on record. The assessee has relied upon the circular No.762 dated 18-02-1998 Para 14.4 of which are reproduced as under:
"14.4 The Act also lays down that the sums received by the said organisation on such policies, be taxed as business profit; the surrender value of the policy, endorsed in favour of the employee (keyman), or the sum received by him at the time of retirement be taken as "profits in lieu of salary" for tax purposes; and in case of other persons having no employer- employee relationship, the surrender value of the policy or sum received under the policy be taken as income from other sources and taxed accordingly. The premium paid on the Keyman Insurance Policy is allowed as business expenditure".
The premium paid on KIP has been allowed as business expenditure. The amount received in KIP has been made taxable and according to section 28 (vi) of the IT Act with effect from 01-10-1996 which provides that a sum received under KIP including the sum allocated by way of bonus on such policy will be treated as income chargeable to income tax under the head profit and gains of business or profession. Explanation to section 10(10D) is reproduced above in the finding of the learned CIT(A) find mention the word "is or was connected in any manner whatsoever with the business" would have wider meaning. The same is considered by the Hon'ble Bombay High Court in the case of CIT Vs. B. N. Exports (supra) and it was held as under:
"Held, for the purpose of s. 10(10D), a keyman insurance policy means a life insurance policy taken by a person on the life of another person who is or was in employment as well as on a person who is or was connected in any manner whatsoever with the business of the subscriber. The word "is ITA Nos. 4369/Ahd/2007 8 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat or was connected in any manner whatsoever with the business" of the subscriber are wider than what would be subsumed under a contract of employment. The later part makes it clear that a keyman insurance policy for the purposes of cl. (10D) is not confined to a situation where there is a contract of employment. Circular No.762, dated 18th Feb., 1998 issued by the CBDT clarifies the position by stipulating that the premium paid for a keyman insurance policy is allowable as business expenditure. There is a finding of fact by the Tribunal that the firm had not taken for the personal benefit of the partner, but for the benefit of the firm, in order to protect itself against the set back that may be caused on account of the death of a partner. The object and purpose of a keyman insurance policy is to protect the business against a financial set back which may occur, as a result of a premature death, to the business or professional organization. There is no rational basis to confine the allowability of the expenditure incurred on the premium paid towards such a policy only to a situation where the policy is in respect of the life of an employee. A keuman insurance policy is obtained on the life of a partner to safeguard the firm against a disruption of the business that may result due to the premature death of a partner. Therefore, the expenditure which is laid out for the payment of premium on such a policy is incurred wholly and exclusively for the purpose of business. Hence, the appeal by the Revenue does not raise any substantial question of law".
8. The learned Counsel for the assessee also filed copy of the Keyman Insurance Policy in the matter in respect of two of the partners in which payment of Rs.10,00,000/- and Rs.1,00,000/- have been paid. In this KIP, the assessee firm is a proposer firm and the name of the life insured is the partner of the assessee firm. The periodical premium payment is prescribed yearly and that the benefits out of the policy was payable to the proposer i.e. the assessee firm. In the case of dissolution of partnership firm for any reason other than death of any of the partners insured under the policy, than the mentioned policy shall be either surrendered to the company for its cash value if any or may paid up for value if any as acquired under the policy as on the date of the dissolution of the partnership and such paid up policy shall be absolutely assigned in ITA Nos. 4369/Ahd/2007 9 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat favour of the partners insured under the policy. It would mean that the assessee firm had not taken insurance for the personal benefit of the partners but for the benefit of the firm, in order to protect itself against the set back that may be caused on account of death of a partner. Therefore, the assessee firm being proposer and ultimate beneficiary out of KIP has been able to prove that policy was obtained with the object to protect the interest of the assessee firm in the event of death of any of the partners. Therefore, the KIP is obtained by the assessee firm for the purpose of its business. In the case of dissolution, the benefits would go to the partners meaning thereby the partners of the erstwhile firm. In that event, no personal benefit has been assigned to the partners. Thus, the assessee firm proved that it has taken the KIP for its partners who are connected with the business of the assessee firm except the sleeping partner. The partners are directly connected with the business of the assessee firm and are key persons to take decision in the business of the assessee. As noted above, the policy was taken for the benefit of the business of the assessee, therefore, the amount incurred for obtaining KIP policy shall have to be considered as revenue expenditure. The KIP is not confined to a situation where there is a contract of employment, premium of KIP of partners of the firm is wholly and exclusively for the purpose of business and is allowable as business expenditure. The same view is taken by the ITAT Ahmedabad Bench in the case of M/s. Gem Art (supra) in which departmental appeal has been dismissed on the identical issues. The view of the AO that it is capital expenditure is negated by the learned CIT(A) and there is no challenged to the finding of the learned CIT(A) in this regard. Since the amount is laid out wholly and exclusively for the purpose of business and that according to section 28(vi) of the IT Act with effect from 01-10-1996 the sum received under KIP is taxable income, therefore, the authorities below should have held that the amount incurred by the assessee for obtaining KIP was a revenue expenditure except in the case of sleeping partner who has ITA Nos. 4369/Ahd/2007 10 M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat not been taking any active part in the business of the assessee and had not been connected with day to day business activity of the assessee.
9. Considering the above discussions, we are of the view that KIP obtained by the assessee firm in the names of the partners Mr. Ashishbhai M. Amin on payment of Rs.10,00,000/- is allowable as revenue expenditure. We accordingly, set side the orders of the authorities below and delete the addition of Rs.10,00,000/-. The addition of Rs.1,00,000/- is however, confirmed in respect of the sleeping partner. In the result, ground No.1 of the appeal of the assessee is partly allowed.
10. On ground No.2, the AO disallowed one fifth of expenditure being personal in nature. The learned CIT(A) confirmed the addition. Considering the above finding of the authorities below, we do not find it to be a fit case for interference because the expenditure mentioned on these heads like vehicle and telephone expenses, the same could be used by the partners and their family members for personal purpose. No record is produced before us to show that the same were exclusively used for the purpose of business. Therefore, no interference is called for in this matter. As a result, ground No.2 of the appeal of the assessee is dismissed.
11. In the result, the appeal of the assessee is partly allowed.
Order pronounced on 20-08-2010
Sd/- Sd/-
(D. C. AGRAWAL) (BHAVNESH SAINI)
ACCOUNTANT MEMBER JUDICIAL MEMBER
Date : 20-08-2010
Lakshmikant/-
ITA Nos. 4369/Ahd/2007 11
M/s. Parmeshwar Engineers Vs ACIT Cir ((2), Surat Copy of the order forwarded to:
1. The Appellant
2. The Respondent
3. The CIT concerned
4. The CIT(A) concerned
5. The DR, ITAT, Ahmedabad
6. Guard File BY ORDER Dy. Registrar, ITAT, Ahmedabad