Income Tax Appellate Tribunal - Bangalore
Gurujyothi Enterprises vs First Income-Tax Officer on 31 May, 1995
Equivalent citations: [1996]56ITD117(BANG)
ORDER
S. Bandyopadhyay, Accountant Member
1. Since the issue involved in both these appeals filed by the assessee for the two successive years is common, the appeals have been consolidated and a common order is being passed for the sake of convenience.
2. The assessee-firm was initially constituted in the accounting year corresponding to assessment year 1970-71 with ten partners for the purpose of carrying on the business in the line of exhibiting feature films in a theatre hall named 'M/s. Milan Theatre' at Chikmagalur. The firm underwent changes in its constitution successively and ultimately during the period corresponding to assessment year 1985-86, as a result of a fresh change in its constitution under which four new partners were admitted as partners, the firm stood with 18 partners as on 28-2-1985. On this date i.e. 28-2-1985 again, the firm was dissolved by drawing up of at deed of dissolution. As per the said deed, the two erstwhile partners viz., Shri S. Nagaraja Setty and Shri S.N. Ramanath were allotted the land and building alongwith plant and machinery, furniture, equipments and also the goodwill in respect of Milan Theatre. A new firm was constituted with effect from 1-3-1985 with five partners in which Shri S. Nagaraja Setty and Shri S.N. Ramanath also became partners. In accordance with the partnership Deed drawn for the new partnership firm, the entire assets relating to Milan theatre including its land and building, plant and machinery, furniture, equipments etc., were contributed to the common fund of the new firm by way of capital contribution by the two erstwhile partners. It is required to be mentioned in this connection that at the time of dissolution of the earlier firm on 28-2-1985, the value of all the assets pertaining to the theatre including the land and building was taken at Rs. 35 lakhs instead of the depreciated value of the assets concerned. The accounts of the partners of the erstwhile firm were stated to have been settled on the basis of this enhanced value of the assets. So far as the new firm is again concerned, the value of the assets belonging to the theatre was taken at Rs. 35 lakhs. For assessment year 1986-87, the new firm filed an application in Form No. 11 alongwith a copy of the fresh partnership deed dated 1-3-1985, seeking fresh registration to the firm. The ITO allowed registration to the newly constituted firm. The new firm had filed its return of income for assessment year 1986-87 on 30-6-1986 on the basis of which an assessment was completed under Section 143(1) on 10-6-1988. It is worthwhile to note in this connection that meanwhile however, the representative of the assessee had appeared before the ITO, discussed with him and complied with some of his requirements after filing of the return by the firm, although no formal notice under Section 143(2) had been issued. For assessment year 1987-88 however, as against the return of income having been filed on 30-6-1987, the assessment was completed under Section 143(1) on 12-7-1988.
3. On the basis that in the assessments made for both the years, depreciation had been allowed at enhanced figures on the value of the assets claimed at Rs. 35 lakhs in place of the written down value of the assets of the erstwhile firm being much less, the ITO reopened the assessment proceedings for both the years under Section 147(b) on 20-7-1988. Thereafter, the assessments were duly completed under Section 143(3) read with Section 147(b) on 14-10-1988. The ITO also passed an order under Section 185(1)(a) of the Income-tax Act for assessment year 1986-87 on 14-10-1988. In the said detailed order, he granted registration to the assessee for assessment year 1986-87. At the same time again, he discussed that whereas as per the dissolution deed of the earlier firm, both the partners S/Shri S. Nagaraja Setty and S.N. Ramanath had jointly become entitled to the assets of Milan Theatre, in the accounts of the new firm however, Shri S. Nagaraja Setty alone contributed capital of Rs. 35 lakhs as on 1-3-1985 by throwing the assets of Milan Theatre to the common fund of the firm. Shri S.N. Ramanath, on the other hand, contributed capital of Rs. 1,75,000 only. The other three new partners contributed capital amounts of Rs. 11,66,667 each as on 1-3-1985. On 6-3-1985, each of the three new partners withdrew an amount of Rs. 1,16,667 each, whereas Shri S. Nagaraja Setty withdrew an amount of Rs. 35 lakhs as on the same date. Thus, from 7-3-1985 onward, the capital contribution of the firm remained at the position of Rs. 1,75,000 being the net capital of S/Shri S. Nagaraja Setty and S.N. Ramanath, whereas the other new partners having the balance of capital at Rs. 10,50,000 each. The position corresponded to the profit sharing ratios of the different partners under the new partnership deed in accordance with which S/Shri S. Nagaraja Setty and S.N. Ramanath were entitled to the profit or loss of the firm at the rate of 5% each, whereas each of the other new partners shared in the profits and losses at the rate of 30% each.
4. The ITO also discussed the position of value of the different assets belonging to the theatre as shown in the books of the new firm as per revaluation and what had remained at the time of dissolution of the earlier firm, but before revaluation. He found out that huge enhancements had been made to the values of some of the items like building, machinery, and furniture. The ITO, thereafter stated in his order under Section 185 (1) (a) that since the new partnership firm was said to have been newly constituted with effect from 1-3-1985 retaining all the identity of the erstwhile firm in respect of the trade name, premises, business and assets and since two of the partners of the erstwhile firm continued as the partners of the new firm, there was only a change in the constitution of the firm by way of retirement of 16 erstwhile partners and induction of three new partners. In the assessment order, the ITO allowed depreciation to the firm on the basis of the old WDVs of the assets and not on the basis of the revalued figures thereof.
5. The matter was taken up in appeal by the assessee to the CIT(A). The main contention of the assessee was against denial of depreciation on the enhanced values of the assets. The CIT(A) discussed the facts of the case in detail. He also took into consideration a large number of decisions of different courts. He disallowed the contention of the assessee that this was a case of succession of one firm by another firm falling within the ambit of Section 188 of the Act. On the other hand, the CIT(A) found out that the facts of the present case are similar to those in the case of CIT v. Sree Durga Enterprises [1984] 145 ITR 351 as decided by the Karnataka High Court. He discussed that in that case also, the assessee-firm was constituted with four partners by a partnership deed dated 20-6-1967 and that it was re-constituted with effect from 1-4-1971 and one more partner was admitted. The said partnership was dissolved by a dissolution deed dated 1-11-1974 with effect from 31-10-1974. Under the terms of the dissolution, four of the partners were allowed to take their respective shares out of the firm by relinquishing all their claims over the assets of the firm including the land and building. The remaining partner, however, was allowed to carry on the business under the same trade name with the entire goodwill, privileges and rights. On 3-11-1974, a new deed of partnership was executed with the aforesaid remaining partner and four new partners. The CIT(A) discussed that for assessment year 1975-76, the ITO had made two separate assessments, one in respect of the dissolved firm upto 31-10-1974 and another in respect of the newly constituted firm from 1-11-1974 to 31-3-1975. The CIT however, set aside the assessments under Section 263 on the ground that that was a case only of a change in the constitution of the firm and hence, a single assessment for the entire period was liable to be made. The Karnataka High Court, ultimately held that there was a continuance of the business and hence, a single assessment ought to have been made in accordance with the provisions of Section 187(2).
By comparing the facts in the above case with those of the present case, the CIT(A) finally came to the conclusion that the said decision of the Karnataka High Court was squarely applicable to the present one. He, therefore, held that the provisions of Section 187 only were applicable to the present case and the ITO should have made a single assessment in respect of the income for both the periods before and after the re-constitution. For assessment year 1986-87, the ITO had, however, made a separate assessment for the period from 1-3-1985 to 30-6-1985. To enable the ITO to make a single assessment for the entire year, the CIT(A) set aside the assessment for assessment year 1986-87 for being made afresh in accordance with law. He, however, gave a clear direction that depreciation should be allowed only on the WDVs of the assets as per the books of the erstwhile firm.
6. For assessment year 1987-88, the ITO had allowed continuation of registration to the assessee-firm. Depreciation on the assets of the theatre were, however, allowed on the basis of the WDVs of .the erstwhile firm. In the appeals, the CIT(A) upheld the action of the ITO in that regard.
7. Before us, the assessee has firstly challenged the validity of the reassessment proceedings under Section 147(&). As has been discussed by us above, after completion of the original assessments under Section 143(1), the reassessment proceedings were initiated under Section I47(b) on finding that the assessee had been allowed depreciation on the basis of its claim that the value of the? assets was to the extent of Rs. 35 lakhs and that thereby the assessee had got undue benefit of having excess depreciation which resulted in escapement of income correspondingly.
8. It will be necessary for us therefore to look into some of the decisions of the Supreme Court and other High Courts relating to the conditions which permit initiation of re-assessment proceedings under Section 147(b).
9. In the case of Kalyanji Mavji & Co. v. CIT [1976] 102 ITR 287, the Supreme Court held that the word "information" used in Section 34(1)(&) of the 1922 Act (corresponding to Section 147(6) of the 1961 Act) is of the widest amplitude and comprehends a variety of factors. Finally, the Supreme Court enumerated that Section 34(1)(6) of 1922 Act would apply to four different categories of cases. Out of the four aforesaid categories, categories No. (2) and No. (4), as enumerated below would be relevant for the purpose of our consideration :
(2) Where in the original assessment the income liable to tax has escaped assessment due to oversight, inadvertence or a mistake committed by the Income-tax Officer;
(4) where the information may be obtained even from the record of the original assessment from an investigation of the materials on the record or the facts disclosed thereby or from other enquiry or research into facts or law.
10. While disposing of the appeal in the case of Indian & Eastern Newspaper Society v. CIT [1979] 119 ITR 996 the Supreme Court once more (this time the Bench consisting of three Judges as against two in the earlier case) discussed the above earlier decision of the same Court in the case of Kalyanji Mavji & Co. (supra) and dissented from the same in certain respect. At page 1004 of the reported case, the Supreme Court commented as below:
... Reliance is placed on Kalyanji Mavji & Co. v. CIT [1976] 102 ITR 287 (SC), where a Bench of two learned judges of this court observed that a case where income had escaped assessment due to the 'oversight, inadvertence or mistake' of the ITO must fall within Section 34(1)(&) of the Indian I.T. Act, 1922. It appears to us, with respect, that the proposition is stated too widely and travels farther than the statute warrants in so far as it can be said to lay down that if, on re-appraising the material considered by him during the original assessment, the ITO discovers that he has committed an error in consequence of which income has escaped assessment, it is open to him to reopen the assessment. In our opinion, an error discovered on a reconsideration of the same material (and no more) does not give him that power...
It would thus appear that the second set of circumstances as enumerated by the Supreme Court in the case of Kalyanji Mavji & Co. (supra) and as narrated above would not hold good for the purpose of initiation of reassessment proceedings under Section 147(4). The earlier law, laid down by the Supreme Court in that case, may thus be considered to have been rendered ineffective and a bad law by the aforesaid later judgment of the Supreme Court in the case of Indian & Eastern Newspaper Society (supra) delivered by a Bench of three Judges.'
11. The Supreme Court had the further occasions to consider the same issue in its; judgment in the case of A.L.A. Firm v. CIT [1991] 189 ITR 285. After referring to the detailed discussions made in the case of Kalyanji Mavji & Co. (supra) and the observations on the said issued made by the same Court in the case of Indian & Eastern Newspapers Society (supra), it was finally discussed by the Supreme Court in the case of A.L.A. Firm (supra) as below (at pages 297 and 298):
We have pointed out earlier that Kalyanji Mavji [1976] 102 ITR 287 (SC) outlines four situations in which action under Section 34(1)(&) can be validly initiated. Indian & Eastern Newspaper Society's case [1979] 119 ITR 996 (SC) has only indicated that proposition (2) outline in this case and extracted earlier may have been somewhat widely stated; it has not cast any doubt on the other three propositions set out in Kalyanji Mavji's case [1976] 102 ITR 287 (SC). The facts of the present case squarely fall within the scope of propositions (2) and (4) enunciated in Kalyanji Mavji's case [1976] 102 ITR 287 (SC). Proposition (2) may be briefly summarised as permitting action even on a 'mere change of opinion'. This is what has been doubted in Indian & Eastern Newspaper Society's case [1979] 119 ITR 996 (SC) and we shall discuss its application to this case a little latter. But, even leaving this out of consideration, there can be no doubt that the present case is squarely covered by proposition (4) set out in Katyanji Mavji & Co. [1976] 102 ITR 287 (SC). This proposition clearly envisages a formation of opinion by the Income-tax Officer on the basis of material already on record provided the formation of such opinion is consequent on 'information' in the shape of some light thrown on aspects of facts or law which the Income-tax Officer had not earlier been conscious of. To give a couple of illustrations; suppose an Income-tax Officer, in the original assessment which is a voluminous one involving several contentions accepts a plea of the assessee in regard to one of the items that the profits realised on the sale of a house is a capital realisation not chargeable to tax. Subsequently, he finds, in the forest of papers filed in connection with the assessment, several instances of earlier sales of house property by the assessee. That would be a case where the Income-tax Officer derives information from the record on an investigation or enquiry into facts not originally undertaken. Again, suppose an Income-tax Officer accepts the plea of an assessee that a particular receipt is not income liable to tax. But, on further research into law, he finds that there was a direct decision holding that category of receipt to be an income receipt. He would be entitled to reopen the assessment under Section 147(b) by virtue of proposition (4) of Kalyanji Mavji [1976] 102 ITR 287 (SC). The fact that the details of sales of house properties were already in the file or that the decision subsequently come across by him was already there, would not affect the position because the information that such facts or decision existed, comes to him only much later.
What then is the difference between the situations envisaged in propositions (2) and (4) of Kalyanji Mavji [1976] 102 ITR 287 (SC). The difference, if one keeps in mind the trend of the judicial decisions, is this. Proposition (4) refers to a case where the Income-tax Officer initiates re-assessment proceedings in the light of 'information' obtained by him by an investigation into material already on record or by research into the law applicable thereto which has brought out an angle or aspect that had been missed earlier, e.g., as in the two Madras decisions referred to earlier. Proposition (2) no doubt covers this situation also but it is so widely expressed as to include also cases in which the Income-tax Officer having considered all the facts and law, arrives at a particular conclusion, but re-initiates proceedings because, on a reappraisal of the same material which had been considered earlier and in the light of the same legal aspects to which his attention had been drawn earlier, he comes to a conclusion that an item of income which he had earlier consciously left out from the earlier assessment should have been brought to tax. In other words, as pointed out in Indian & Eastern Newspaper Society's case [1979] 119 ITR 996 (SC), it also ropes in cases of a 'bare or mere change of opinion' where the Income-tax Officer (very often a successor officer) attempts to reopen the assessment because the opinion formed earlier by himself (or more often, by a predecessor Income-tax Officer) was, in his opinion, incorrect, Judicial decisions had consistently held that this could not be done and Indian & Eastern Newspaper Society's case [1979] 119 ITR 996 (SC) has warned that this line of cases cannot be taken to have been overruled by Kalyanji Mavji [1976] 102 ITR 287 (SC). The second paragraph from the judgment in Indian & Eastern Newspaper Society's case [1979] 119 ITR 996 (SC) earlier extracted has also reference only to this situation and insists upon the necessity of some information which makes the Income-tax Officer realise that he has committed an error in the earlier assessment. This paragraph does not in any way affect the principle enumerated in the two Madras cases cited with approval in Anandji Haridas [1968] 21 STC 326 (SC). Even making allowances for this limitation placed on the observations in Kalyaji Mavji [1976] 102 ITR 287 (SC), the position as summarised by the High Court in the following words represents, in our view, the correct position in law (at p. 629 of 102 ITR):
The result of these decisions is that the statute does not require that the information must be extraneous to the record. It is enough if the material, on the basis of which the reassessment proceedings are sought to be initiated, came to the notice of the Income-tax Officer subsequent to the original assessment. If the Income-tax Officer had considered and formed an opinion on the said material in the original assessment itself, then he would be powerless to start the proceedings for the reassessment. Where, however, the Income-tax Officer had not considered the material and subsequently came by the material from the record itself, then such a case would fall within the scope of Section 147(&) of the Act'.
12. It would thus appear that the Supreme Court, in either of the judgments as reported in Indian & Eastern Newspaper Society's case (supra) or A.L.A. Firm's case (supra), rendered applicability of the provisions of Section 147(b) in a case covered by category (4) as enumerated in the judgment of Kalyanji Mavji & Co. (supra) as valid. Thus, we may hold that it is possible for the ITO to initiate" proceedings under Section 147(b) on the basis of an information which may be obtained even from the record of the original assessment from an investigation of the materials on record or the facts disclosed thereby or from other inquiry or research into facts or law. What is, however, necessary for this purpose is that at the stage of the original assessment, the ITO must not have been aware of the existence of the said material in his own records and later on alone, he found it out through diligent exercise or otherwise by way of delving into the said records. It should not be, therefore, a mere "change of opinion" on the basis of the materials already considered in the original assessment. The material might be found out from the same records but it is required to be shown that at the time when the original assessment was made, the ITO, on account of voluminousness of the records or complexity of the matter, had not taken the material into consideration.
13. On the basis of the above proposition, it would now be required of us to examine whether the present case can be considered to be falling within the ambit of the said fourth category as enumerated by the Supreme Court in the case of Kalyanji Mavji & Co. (supra). As has been stated earlier, the original assessments had been completed under Section 143(1). Even if, therefore, the ITO was aware of the fact that the assessee had unduly claimed depreciation on the basis of enhanced figures of values of the assets, it was not possible for the ITO to correct the situation in his assessments orders under Section 143(1), wherein he was compelled to accept the returned figures of income subject to making certain arithmatical corrections etc. It is also required to be noted in this connection that when the original assessments under Section 143(1) were made, the time-limit for issuing notice under Section 143(2) had already expired and it was, therefore, not possible for the ITO to make the assessment under Section 143(3). The only course left open to him, therefore, was to initiate proceedings under Section 147(6), alone, the conditions for applicability of the provisions of Section 147(d) having been much more stringent. Thus, we are to form the opinion that the basic material on the basis of which the ITO reopened the proceedings under Section 147(6), viz., that income of the assessee had escaped assessments on account of its claim of excess depreciation, was not available for the consideration of the ITO at the time of completion of the original assessments under Section 143(1). The said material, therefore, although existing in his own assessment records, must be considered to have arisen to him at the time of commencing the reopening proceedings. We are, therefore, of the opinion that the ITO could have formed the belief about escapement of income by virtue of the material on which he was able to lay hands at that stage. The learned counsel for the assessee has, however, placed reliance on the decision of the Calcutta High Court in the case of Allahabad Bank v. CIT [1993] 199 ITR 664 in which also, the said High Court had held, in similar circumstances relating to claim of depreciation at higher rate having been allowed in the original assessment, that inasmuch as the principles laid down in Kalyanji Mavji & Co.'s case (supra) do not prevail after the pronouncement of the judgment of the Supreme Court in the case of Indian & Eastern Newspaper Society (supra), the re-assessment proceeding under Section 147(&), being based merely on a change of opinion, was not a valid one. However, so far as the present case is concerned, the original assessments having been made under Section 143(1), there was no scope for the ITO to form any opinion about allowability of depreciation. Hence, the present case cannot be considered to be one of mere change of opinion. We, therefore, hold on to our views as above, by distinguishing the present case from that of Allahabad Bank (supra) as relied upon by the learned counsel for the assessee. The conditions precedent for applicability of the provisions of Section I47(b) were, therefore, present and the ITO had jurisdiction to initiate reopening proceedings under Section 147(&). The validity of the proceedings, as such therefore, are considered by us to be legal. In that way, we dismissed the appellate ground on the issue of validity of the reassessment proceedings as such.
14. Now, let us consider the merits of the case. As discussed by us above, the support given by the CIT(A) to the action of the ITO with the modified order that he should make a single assessment for the entire period, comes almost entirely from the decisions of the Karnataka High Court in the case of Sree Durga Enterprises (supra). The said decision is not a very detailed one. The Karnataka High Court has mainly relied on its immediately preceding decision in the case of CIT v. Shambulal Nathalal & Co. [1984] 145 ITR 329. In accordance with the majority view in the said judgment, in a case where the same business is continued by a new firm in which one or more of the partners of the erstwhile firm are also partners, the provisions of Section 187(2) alone would apply and not those of Section 188. In adopting the said judgment, reliance was mainly placed on the decision of the Punjab & Haryana High Court (Full Bench) in the case of Nandlal Sohanlal v. CIT [1977] 110 ITR 170. The majority view also dissented from the judgments of Delhi High Court in the case of CIT v. Sant Lal Arvind Kumar [1982] 136 ITR 379 and also of the Calcutta High Court in the case of Mathurdas Govardhandas v. CIT [1980] 125 ITR 470. In the dissenting judgment, Justice Venkatachalaiah had held by relying mainly on the Full Bench decision of Andhra Pradesh High Court in the case of Addl. CIT v. Vinayaka Cinema [1977] 110 ITR 468 which had overruled the earlier Full Bench decision of Andhra Pradesh High Court in the case of Addl. CITv. Visakha Flour Mills [1977] 108 ITR 466 and also of the Calcutta High Court decision in the case of Mathurdas Govardhandas (supra) and further more by taking into consideration the Law Commission's 12th Report (1958) and the Direct Taxes Administration Enquiry Report (1959) dealing with the framing of Sections 187, 188 and 189 in the 1961 Act in place of the erstwhile provisions of Section 26(1) and 26(2) in the 1922 Act, that in a case like that where the firm is dissolved and a new firm is formed, the provisions of Section 188 should apply irrespective of whether some of the old partners continued in the business carried on by the new firm.
15. We would now like to refer to the decision of the Supreme Court in the case of Wazid Ali Abid Ali v. CIT [1988] 169 ITR 761. In the said decision, the Supreme Court approved the Delhi High Court decision in the case of Sant Lal Arvind Kumar (supra). The Supreme Court, in the said judgment, quoted profusely from the abovementioned judgment of the Delhi High Court in the case of Sant Lal Arvind Kumar (supra) and finally accepted the reasoning of that direction. The detailed discussion of the Supreme Court about the aforesaid decision of the High Court as contained at pages 778 and 779 of the reported judgment are being reproduced below:
The Delhi High Court, however, held in the case of CIT v. Sant Lal Arvind Kumar [1982] 136 ITR 379, that section of the Income-tax Act came into operation and applied only when there was in the eye of law a firm with continued existence and not to a case where under the law, one firm had ceased to exist and another came into existence. The High Court observed that the purpose of Sub-section (2) of Section 187 was not one of expansion of the normal concept of a change in the constitution of a firm but was really one of limitation; the purpose was not to say that a firm would continue in spite of dissolution but rather to say that, even in a case where there was only a change in the constitution, Sub-section (1) would not apply if the partners before or after the change were not common. It is not correct, according to the High Court, to say that Section 187(2) contemplated a change in all cases where the business continued though in the hands of a different firm provided there were common partners. The High Court was of the view that though creating a mild ambiguity, the language of Section 188 is not only inconsistent or contradictory but in a way is to clarify the meaning of Section 187 and to exclude the possibility of the common law doctrine regarding the personality of a firm even in cases of a mere change in the constitution. The concept of partnership, it was held, is one of agreement between the partners. If the partners agreed, not that one partner should go out and another should come in, but that on a particular event happening the firm should be treated as dissolved, it is not for the Department to unite unless there is specific authorisation in the Act. Where there is, however, no agreement to treat the firm as continuing notwithstanding the death of a partner, the partners have no option to treat the firm as continuing. Under the Indian Partnership Act, 1932, the firm gets dissolved and the Income-tax Officer is not entitled to ignore this consequence. There is nothing in the language of Section 187, 188 or 189, according to the High Court, which precludes the application of the partnership law principles even under the Income-tax Act. It was accordingly held by the High Court that where the partnership deed of a firm did not contained any provision that the death of a partner would not dissolve the firm, one of partners of the firm died in the middle of the accounting period and thereafter a fresh deed was executed under which the surviving partners took a fresh partner in the place of the deceased and continued to carry on the business, the case was one of succession and not one of change in the constitution and separate assessments had to be made in regard to the incomes. With respect, we agree that where in a case, there is a change in the constitution of the firm by taking of a new partner and the old firm is succeeded by a new firm then, in such a case, there might be succession and there could be two assessments as contemplated under Section 188 of the Act. We accept the reasoning of that decision.
16. It would thus appear that in its aforesaid judgment in the case of Wazid Ali Abid Ali (supra), Supreme Court had impliedly disapproved of the majority judgment of the Karnataka High Court in the case of Shambulal Nathalal & Co. (supra) on which the later judgment of the Karnataka High Court in the case of Sree Durga Enterprises (supra) is based. The Supreme Court has clearly held that in a case where the firm is actually dissolved, two separate assessments in accordance with the provisions of Section 188 will have to be made for the two different periods corresponding to the old and the new firm in spite of the fact that some of the erstwhile partners of the old firm might have continued as partners in the new firm which in its turn continues to carry on the same business. We are thus of the opinion that the decision of the Karnataka High Court in the case of Sree Durga Enterprises (supra) on which the CIT(A) has mainly based his judgment is no longer a good law. We, therefore, would like to follow rather the Supreme Court decision in the case of Wazid Ali Abid Ali (supra) in its true spirit.
17. In the instant case, there is no doubt about the fact that dissolution deed was drawn up in respect of the old firm on 28-2-1985. However, it is also required to examine whether on actual facts, also, there was a dissolution of the old firm or not. The dissolution deed made provision for payments of the capital amounts lying to the credit of the different partners after allowing the assets pertaining to the cinema theatre to the two partners viz., S/Shri S. Nagaraja Setty and S.N. Ramanath. There is no doubt about the fact that the value of the assets was revalued at the exceedingly high figure of Rs. 35 lakhs. This point may raise some suspicion about the bona fide of the dissolution, which in its turn may even impeach the genuineness of the dissolution process. While dealing with the case of Sunil Siddharthbhai v. CIT [1985] 156 ITR 509 (SC), although on a different point as to whether on introduction of capital asset by a partner to the firm, capital gains arise or not, the Supreme Court held firstly, that there was a transfer of capital asset within the terms of Section 45 of the IT Act, 1961 in the process of the said introduction of capital asset to the firm. At the same time again, the Supreme Court held that however capital gains tax is not exigible on the same inasmuch as it is impossible to arrive at the value of the consideration for the transfer.
The Supreme Court, however, also took note of a special aspect of matters like this. In its own language, the finding of the Supreme Court may be stated as below:
... If the transfer of the personal asset by the assessee to a partnership in which he is or becomes a partner is merely a device or ruse for converting the asset into money which would substantially remain available for his benefit without liability to income-tax on a capital gain, it will be open to the income-tax authorities to go behind the transaction and examine whether the transaction of creating the partnership is a genuine or a sham transaction and, even where the partnership is genuine, the transaction of transferring the personal asset to the partnership firm represents a real attempt to contribute to the share capital of the partnership firm for the purpose of carrying on the partnership business or is nothing but a device or ruse to convert the personal asset into money substantially for the benefit of the assessee while evading tax on a capital gain ...
Supreme Court prescribed a number of factual considerations to be paid attention to in examining a matter like that. In the instant case, one of the partners viz. Shri S. Nagaraja Setty is found to have been able to withdraw a sum of Rs. 35 lakhs from the new firm by contributing capital in the form of assets pertaining to the theatre valued exorbitantly (as complained by the Department). There is nothing to show that Shri S. Nagaraja Setty has been assessed to capital gains on this maneuvered transfer of the capital asset to the new firm. The Department could have, on the basis of the aforesaid decision of the Supreme Court in the case of Sunil Siddharthbhai (supra) tried to pierce the veil of the new partnership and challenged the genuineness thereof by trying to establish that the so-called formation of the new partnership was simply for the purpose of evading capital gains on the transactions. The Department has not chosen to do so. On the other hand, the Department has simply challenged the claim of the assessee about depreciation at higher figures based on the values of the assets shown in the books of the new firm. The Department has not done any thing to show that the dissolution of the old firm was merely on paper and did not actually take effect. On the other hand, the Department has accepted the proposition that the transfer of the assets pertaining to the theatre firstly by the old firm to the two erstwhile partners and secondly, to the new firm was in order inasmuch as the Department has, in principle, agreed to allow depreciation on the said assets in the hands of the second firm. Thereby, the Department has in an indirect manner accepted the genuineness of the dissolution. Factually, therefore, also, we are not in a position to challenge the genuineness of the dissolution under consideration. Therefore, ultimately, we hold that inasmuch as the dissolution of the old firm is not only legally valid but also found to be genuine on facts, the provisions of Section 188 alone would apply to the present case in accordance with the decision of the Supreme Court in the case of Wazid Ali Abid Ali (supra). Thus, we reverse the decision of the CIT(A) and direct that two separate assessments should be made in this case corresponding to the two periods of existence of the old firm and the new firm in accordance with the provisions of Section 188 of the Act.
18. Lastly, we are concerned with the question as to whether depreciation will have to be allowed in the hands of the new firm on the basis of the enhanced valuation of the assets at Rs. 35 lakhs. The ITO himself has shown in his order under Section 185(1)(a) that the new firm has not only taken into consideration the value of the assets at Rs. 35 lakhs but has also paid the price at that figure in respect of the assets by allowing Shri S. Nagaraja Setty to withdraw from the coffers of the firm an amount of Rs. 35 lakhs presumably towards the value of the assets under consideration. There is nothing on record on behalf of the department to show that the transaction of putting in the assets into common fund of the firm by the erstwhile partners was a sham one or that the value shown in the books was also not the real value thereof. If an assessee pays a fantastic price on certain assets, albeit foolishly, he must be allowed depreciation on the basis of the said price, unless it can be shown that that transaction was a bogus or a collusive one and that the price had not, in fact, been paid. The new firm is certainly a new entity inasmuch as it has come into existence after the dissolution of the old firm. As the records show, it has paid the price of Rs. 35 lakhs in respect of the assets under consideration and the genuineness of the said payment has not been challenged by the Department at all. Furthermore, the Department has also not taken any steps to consider the "actual cost" of the assets at the figure of the WDV of the same in the hands of the old firm, by taking recourse to the procedure as envisaged in Explanation 3 to Section 43. We are, therefore, of the opinion that the Department has got no case in trying to refuse depreciation on the claim of the assessee at the enhanced value of the assets. We, therefore, reverse this portion of the direction of the CIT(A) also about allowing depreciation on the basis of the WDVs of the assets as in the hands of the old firm. On the other hand, we direct, by accepting the claim of the assessee on this issue that depreciation be allowed in the hands of the new firm as per the value of the assets shown in its books of account.
19. So far as the assessment year 1987-88 is concerned, the same procedure with regard to allowance of depreciation as for assessment year 1986-87 will have to be followed.
20. In the result, the appeals as filed by the assessee are partially allowed to the above mentioned extent.