Karnataka High Court
The Commissioner Of Income Tax vs Mr P N Panjawani on 12 March, 2012
Bench: N.Kumar, Ravi Malimath
_S"r--i4:_G.:,KefrT--a|adhar, Advocate) IN THE HIGH COURT OF KARNATAKA AT BANGALORE DATED THIS THE 12"' DAY OF MARCH 2012" PRESENT THE HON'BLE MR.JUSTICE N.KutM.A.Rj, I AND V THE HON'BLE MR.Jus T1_cE l3§"+'I\_/'I'MALHIi*IiAAA15I:ljvI&. " ITA.NO.131§''(Ifi_2O0O''- ITA.---NC. 1 31 6, OF" «.2006 % _ 1TA.%NO.T1;318OF '2~oo'e~ ITA.NQ§.%3 g: O1: 1§':_° I2' " -'~~:5 BETwEEM_: A 1. The" tC't3-n.VTr:;'1is§':'I::g'v.ar'.--er"'Of'-Itneome ax CR.Buildi'n.gV,...VAttavaI'a,_ . ' Ma"n«gal_or'e._ " 2. The IncomeVTax'Qfficer 4;W'ard--1(1'),,VC'.R.Bui|ding, V-':D..\"Ban9a.l'ore. ..... ...APPELLANTS "" * COMMON AND: -----a-it ' Sri I5.vNAf'Panjawani .. I L/---!rj offllate Sri Kartar Panjawani ' "N_o_,.8, Cliston Apartments, "§No.51/11, III Floor, 4. Renu M.Mansi_gani (By 'A.AShanlZar.,VE:5t M.'L:.ava, Advocates) Richmond Road, Bangalore. Deceased by LR's 1. Kamala P.Panjawani \ Aged Major, W/o late P.N.Panjawani. 2. Ajay K.Panjawani Aged Major, . _ " ' S/o late P.N.Panjawani. ' _ '"--._Amein-ded.as' .per._'C---ourt Grder d'a_t_ed. 01.03.2012 3. Sanjay P.Panjawani __ Aged Major, S/o late P.N.Panjawani;~ - 2 D/o late Aged Major; ' .--' All are,__resi~d%ihg~:.gVt_ _ No.8, C|islto.n_Apa,rtment's, _ No.51/1.1', Rich'mo'nd"P._o'a--d,' - Bangalore -- 560 i_002*5__. - - ...RESPONDENTS COMMON *****
_ "5'.__1Th'i'sa"_ITA.:N'o.1317/2006 filed under section 260-A of I.T.Act, 1.961;,arising out of order dated 31.03.2006 passed in ITA.No.1227/Bang/2003, for the Assessment year 1996-
"-1997, praying to formulate the substantial questions of law * :--.stai'e,d therein, allow the appeal and set aside the order "passe'd by the ITAT, Bangalore in ITA.No.1227/Bang/2003 .3 dated 31.03.2006 confirming the order of the Appellate l/ AND}: if Commissioner & confirm the order passed by the Inc__ me Tax Officer, Ward--1(1), Bangalore. This ITA.No.1316/2006 filed under section,...?,60fA'jof"V, I.T.Act, 1961 arising out of order dated 31.03.2006 p'a.ss--edv--.--_g' 1. in ITA.No.1226/Bang/2003, for the Assessment"y,earl_i1996?.. _ 1997, praying to formulate the subs_ta.ntia| qulesti-.ofn..s "ofv"law_.V "
stated therein, allow the appeal and s'et..aside-t_he_.ord'er passed by the ITAT, Bangalore in ITA.1\los..'1226/'Ba'ng/2003i dated 31.03.2006 & the order passed by theg.i.lnC'ome 'Tax ' Officer, Wa rd-1(1), Bangalore.
ITA.NQ.1318[2QQ6:
BETWEEN: N
1. The Commissioner of Income"Tax C.R.Bui|ding, AAttava.:'a,"'flf " V' ' Mangaloreg
2. The Income_;Tax Officéfijvs. "
Ward..-._1_,(1"), C.'R;..._Buil.,d'in_g', "
Bar,lgaIo're....sf._ *1 ' " ...APPELLANTS (By Sri '3' .ASrn..t_.Us,ha.%i<.:Panjawani ' of l_.'a.t_e-Sri Kartar Panjawani, No.8,' Cl'ist'on Apartments, No.51/11., IIjI'F|oor, Richmond Road,
-V Banga|ore."' ...RESPONDENT if (B*y--.,$riVVA.Shankar & Sri M.Lava, Advocates) >l<>l<**>l< M This ITA filed under section 260--A of I.T.Act, 1961 arising out of order dated 31.03.2006 passed.» in ITA.No.1228/Bang/2003, for the Assessment year...V19,9i6._- 1997, praying to formulate the substantial questio.ns,of~l'aw'i« stated therein, allow the appeal and set asidel'_.the=»o'r.dei*.___V"
passed by the ITAT, Bangalore in ITA.No.1228'/Bang/2'003.f dated 31.03.2006 & the order passed by t.h'e'*InficomVe 'Tax, "= Officer, Ward-1(1), Bangalore.
These ITAs coming on fo.r__ N.KUMAR J., delivered the fo|low_i_ng:-- " ' * « JUDGM_lV:-ZV:4'l:\'flV".:_ As a common quvestiion in all these three appeals, they are:tal<en.u.'p--V together and disposedpeff tl1i.s:"coin_'mo_r.i """ firm"~M)'s.'Kamal"'Industries was dealing in manufalctulriyng of audio and video cassettes. The partnership was icons-tiituted on 05.04.1961. The firm ~"'~._,own:e§d ,_p_?rop__erty" "i'r1~---t«.-he form of land situated at 6/2 and Industrial Road, Tubbarahalli village, Marathahéa'iV'li'j_measuring 1,67,765 sq.ft. The firm filed its ';_return. income for the assessment year 1992-93. ":2.°A:fVtVe"rwards, no returns were filed on the ground that the firm had stopped its activities and there was no income. lt/ In the books of accounts, the value of the land shownisgat Rs.25,747/-, the value at which it was purchas.¢d,'_,»in'__' year 1967. The value of the borewell, din.iVn'g'-lrtoofm factory building along with the value"'of the shown at Rs.1,93,510/--. Thefirm revasged th_'e_ass'ets=~..a's.v'V on 01.04.1995 and the opening"'va'i*ue was As on 31.03.1995, the,f'ihm fipartners each having equal share. J .ipa1rt.nership was reconstituted 12.10.1995 admitting four four new partners contributed"Rlsiijh.50:}:-gcrorei$,:"f0wa'rd's"Ethelr share of capital. As a resu~I_t ..the firm, the assets hitherto owned by the.fir'm,of_ th5ee~~--'partners were made over to the
-"2recorls'titu_ted__ firm,"of--«seven partners. The result was that V.'«..theV'intei"egst;'of:"t~he three partners of the erstwhile firm whic.h"'iAn the'..'i_nn'movab|e property was reduced from 1/3'"
to 1/6"'. 16.67%. Therefore, the Assessing Authority that there was a relinquishment of right and interest so far as 50% of the interest of each of the partners in V the erstwhile firm by means of assets made over totthe reconstituted firm which amounted to transfer w_it-hVi'i1--u'cj't.hel.V terms of Section 2(47) of the Income Tax it short hereinafter referred to as 'th'é"Act')."._ T:helV':e.r_stwh.i|e"'~) three partners after reconstitution__ thle"H.,j(.fI'r.m«. withdrawn a sum of Rs.1,16,V€>6v,c:'ET3'66/~ eachon 5' According to the Assessin.g'"' -Authosrigty, fiét"r'i-isW3amount represented the capital'gainford're:lin.q_u.ish_ment of their 50% of the firm and its assets. assessment order and accordingly is the capital gain and the same from each of the partners aVit5..g;is,v1,vi6__,66v,'66'5/-- and called upon them to pay «=,_inco:rr2.eEtax__ on "|'ong.._.t«erm capital gain of Rs.23,04,329/-- with»inte4r'estvl.u'n-der Section 234 (A) and 234(B), in all in a surn*of f{s';V-VS'__9V[5V6,689/--. Aggrieved by the said order, the '.Vassess.eV*e.._ preferred an appeal to the Commissioner of if lflflncome Tax (Appeals). The Appellate Authority after to Sections 45 (1), 45(3) and 45(4) of the Act )2 held that the facts of the case clearly suggest thatxthe property in the form of the land or the landed V. certainly not held by the assessee partners personal capacity. This landed p:ro"pe'rtyg_ asset of the firm in its capacity.lA:'ag:'.--'i¢gal landed property belonged to 'name if in the relevant legal Vdocuments."c_:of°ownershi'p and was reflected as such in its hoo_l_<s'--'of. Therefore, if at all there'.Vvaa:Vsv:._a .of':fth_ese"':'assets or landed property from partners in which event it~-is taxed, and not the individual' that reduction in the share of profit and-..lVoss of-_th'eV lfirrn on account of induction of new partners__fquVa|ifies"«t0....be categorized as "capital gains" in han.d'sC_o.f:""the old and continuing partners, is not correct. 'fill'-?j'ne1'VVof the provisions of the Income Tax Act '.Vspecifir;a"lly envisages a situation where capital gains would "fbe 'lc'h.carg'eable on account of reduction in the share of a ' partlnler in the firm following the reconstitution of the firm l\/ by way of induction of new partners. Therefore,-,g a reduction in the share in a partnership firm on reconstitution of the firm by way of inductfifoih -- partners cannot be said to have eff'ected« a"-t'ra.;n'sAfer. kind even by an act of extinguishrrtent.V_A"f 1h t«isew of judgment of the Apex Court Co. vs. CIT reported in" {]979)""1:é§0:4 if/'R._,49,Aw'here it has been held that there even when distribution takes; ':.place' of the firm. Therefore jj:usigt'i'fieci:'y_t:i':at...t'here is a transfer of asset the firm through inductiovnéoféfg therefore, the Appellate Authority s'e--t, asid'e__ tliveorder passed by the Assessing taxing'*th.e.«assessee for the capital gain. said order, the revenue preferred an appeal' to Tribunal. The Tribunal after taking note of {the relevantv provisions of the Income Tax Act as well as 'Indian Partnership Act, 1932 and the judgmentsof the court held that the judgments relied on by the li/ revenue would apply to a case where the firmV,--"'-._the assessee is not genuine and the action taken should lead to a situation of tax evasion. M case, it is nobody's case that the ff-rn1'is.not genluiinel:
firm even after the induction of newypa-r_tners,"cyontinuestoW exist. Merely because, they did,::'r*:ot carry.ong:a_ny'pbusin'ess if after induction of new vp--artners"i's:..n:o 'g'ro2undat'o'*lho'id that it is not a genuine firm. V'thé--admission of a partner to the share of interest fror;i"'t'h_eV ofjjt_he. fi'r'm:.b',zV_'Jirtue of reduction in the share«-ofiprfolfiltji§:,but"-itis not'*the"§ same as in transfer of propertyrfor" in favour of the newly admitted plartnersl. ._"fhe"re.:f§)re, in the instant case, it is not «=,_a C€iii2€:__i3f_tI'ah'S'fer..._._o.f property by the three partners because__'t~he«fifirm is still subsisting and has not been dis.so!ived§ KT-_he'refore, it declined to interfere with the well- '.Vcons4i'derVed.V'order passed by the Appellate Authority.
"..jjAggri«.eved by the said order, the revenue is in appeal. V, -10-
3. The learned Counsel for the revenue assa"i.l_ing the impugned order contended that it is not the partnership firm was reconstituted by M partners on 12.10.1985 who bro:ug'h't=in"..Rs_.5.5'O__crores': towards share of capital. Prior to partners had 1/3"' share pa.rtner*s.h_ip and 5' consequently, the property the"~partnership firm. After 'days i.e., on 14.10.1985 are erstwhile partners fir:j1?""~.haye:'..:g'withdrawn a sum of th"e'ir"drawings i.e., the entire incoming partners. After such recon:-.tVitution,A'..th'e..'-*'l'firm is not carrying on any busi_'ri'es.s_g.: Under .... these circumstances, the amount withdrawnl byjtiie partners represents the consideration for the""'r'educ'tion.a:' of their share capital percentage in the f_»partne.rsh:_ipV and therefore, it falls within Section 45 (1) of A ..ffthei'Act and they are liable to pay capital gains. In support of their contention, they relied on two judgments, one is of ll/ -11- the Apex Court and another of this Court and contended that the impugned orders are liable to be set aside.
4. Per contra, the learned Counsel appearing-Cforff "
the assessee submitted that the aforesaid factsfla-re V dispute but it does not constitute transferllasdefinecz. Section 2(47) read with 3/jkct.
Assuming it is to be treatxed a.s"'a:..t_ran"sfer, the-'n., the tax is to be levied at the handéislof' on individual partners. Adm.it§e$4_|y, 'continues and the erstwhile have interest in the partnership.,aAsshetsEg:.; bec'a~us'e, they have withdrawn moneyyffrom firm, it does not constitute consideration for p_ro'port.ionate reduction in their share in BotAh"«the«'appe||ate authorities on a careful 'c.onsidevratio'n:'"o--f the facts and the law on the point have rightly the contention of the assessee and it does not callllforvany interference and therefore, he submits that A is no merit in these appeals and are liable to be dismissed.
-12..
5. These appeals were admitted to consider---_._the following substantial question of law "Whether the appellate authoritiesf:were: it right in holding that the admission ofhthé _V partners and assignment of right-.in A l the new partners out, of they rights _o'.f.tthe V assessee for consideratioifdoes .not.an7:o(_Jntito"' transfer in the hands of__assessee under 2(47) of the Act ¢o;nse--quen_tly" not liable to tax under Sec.45 of the
6. relying on the judgmen_t__Vof"th:é 1'-V';.Vg_eVV>_< i"i*.'.:tVheV.:§'case of Malbar Fisheries Co., has proceeded.»jiongggltheassumption that the partnership firm has no|egValV"e>EistenE:_etV The partnership property will ves,t._iin' all the" p.artners and in that sense, every partner :'h:as.,H;an_V:'inte.re'st_ in the property of the partnership. The 1"part.nershai'_p.__fi'rm..under the Indian Partnership Act, 1932 is not"'a "---Vdistitnct legal entity apart from the partners it'-4l"xiconstituting it and equally in law, the firm as such has no .' "s--epa'rate rights on its own in the partnership assets and i/ _13_ when one talks of the firm's property or firm's assets all that is meant is properties or assets in which _.alV_l*-.,_tlz.e partners have a joint or common interest. Th.ei:refoire'g~«:
was of the view that the ownership of the .propertgie's: vest" "
in all the partners of the firm and no got any independent interest respelctof firm. But at the same time, as will of its own although, it under the provisions of thegAct. view that when the a share of 1/3"' each in the Vhiaveliigrelinquished their 50% share favour of the four new partners oni'account':.gof:_4whV'ich each of the three partners were able.to4ga.in;a"'sun1 of Rs.1,16,66,666/-- each. By the ifl'saidV'""re|iEnqLiishmentflof their share by 50% it has resulted inat-_capiVt:al_"_gaii-n--:"accrued even though the firm continued 2 after.its,.__»reco~nistitution. Further, he held that the capital arising in the hands of the partners of the erstwhile _A'fi.rm computed on the basis of reduction in their respective l/ -14- shares consequent to the admission of the new partners has to be brought to tax by holding that the recons.titu;tio.n of the firm had the effect or relinquishment _ the rights» of the old partners. Hewfurther"'relied:«they judgment in Mc.D0we// Co. Ltd., reportedmA;ef 1986 sc 649 wherein it was held thatatax p|a:1v'n%'ing:4_may% be legitimate, provided it is of law.
Colourable devices cannot befja planning and it is wrong to enc.ouragey..V-or._entertain'"t'hAe«'lbelief that it is honourable the by resorting to dubiousgpmethoiclsgfl o_bligVa§.tiVon of every citizen to pay taxes uii_tla.ou.t _-- resorting to subterfuges. Therefore», assessee being one of the partrgersof the .ers'twhi|e:firm having derived a gain in the revaluation and reconstitution of the firm is A"'!ia'bl_e.'tcV4:c«aylpitVal.--:gain tax to the extent of relinquishment of his"r.igh__ts the assets of the erstwhile firm in favour of J't.he_.fouVr. partners of the reconstituted firm. It is the '~c_o'r-rectness of this finding, which is before us. ll/ _l5_
7. The assessees are sought to be taxed .-tinder Section 45(1) of the Act on the ground that"
transfer. The word transfer has been define'cl__jir:jisielctionf 2(47) of the Act as under:--
"transfer", in relation to \:C@zDital.',.".%Sset,if includes,- V_ A' 2 _
(i) the sale, exchange: 0r_»relih'q.tj_is.hment of the asset; Of,._._ p
(ii) the extinpyishmeriit __ f any rights therein;:'d)<~»@f:: '1 "ii
(iii) iacqiijisition thereof is '
(iv)'*~ ., ";-Vin a'ft.a:ase- .Vyvhe/re" the asset is converted thereof into, or is i v trealteod as, stock-in--trade of a _:busi.ness 'carried on by him, such _ co'I'rve.rsion or treatment;][ or] A [ maturity or redemption of a zero ' V.AV.i'V~cr)upon bond; or] i' 'any transaction involving the allowing it V of the possession of any immovable property to be taken or retained in part performance of a contract of the r -15- nature referred to in section 53A of the Transfer of Property Act, 1882 (4 1882); or ' '
(vi) any transaction (whether by H becoming a membepof, or--"a'cq'u'_iring shares in, or co¥operagtifve' society,' A' company or other} a'ssociagt'i0ADt" of ' persons or byV>Mi;ayV_%of any agrejenfient' or any arrangement or in..any_oVther manner' ;:yiihats.oe\(er):«._V_ has the effect of transferring,.AA.ena_bling the enjoyment' ' immovable Expla.nati;fon:3?: 'i-'o"r»,t:he purpose of sub-clauses V) and. -~ property" shall have the same clause (d) of section :2v69UA;]x,y , if Section 14 of the Indian Partnership Act, 1932 ld~ea'i:--si~w'i'th".'the'l§;p'roperty of the firm, which reads as under:--
. The property of the firm -- Subject tocontract between the partners, the property x ffgof the firm includes all property and rights and interests in property originally brought into the V ._17_ stock of the firm, or acquired, by purchase or"
otherwise, by or for the firm, or for purposes and in the course of the business,' the firm, and includes also the goodwillpof business. 2 V' Unless the contrary property and rights and interest in propertyl*,:"~.,_V"
acquired with money belongingfi'to.__the_fi,rm..;a're' deemed to have been acquired for the
9. The Apex Court i-trie::Vcasei- fofllvarayanappa vs. Bhaskara Krishnilapgpa Are;§ojr}tea,'~:'rn;.AIR I1966 sc 1300 dealing 'pa_r:'t:f1é'rLship held as under:--
'''' partnership is to eimb-aI'k.V'up'ong'"a'°jo_int' venture and for that purpose! capital money or even _ ._o_roperty,_:Vinc.ludir:gVimmovable property. Once is done, .... whatever is brought in would __ be the exclusive property of the brought it in. It would be the l' asset of the partnership in which all the partners would have interest in proportion to l 'A their share. The person who brought it in ..'would, therefore, not be able to claim or \x/ -18- exercise any exclusive right over any property ._ which he has brought in, much less over other partnership property. He would able to exercise his right even to the exteintv his share in the partnership, Ml-lis rig'ht"'during:
the subsistence of the partnershipiis to share of profits from time to".tim.e as nlaylbel agreed upon among thepartners dissolution of the partnerslnp or" his retirement fromv theilvalue of his share in thenc-_t' as on the date 'of tdissolutioin o'I*«..V:re'tirerr)ie'nt after a deduct_ic=._n 'andlother prior charges." Couttbyin the case of Malbar Fisheries. co} vsgacIf=r§pdrted in (1979) 120 ITR 49 exp|a_in_ing vposit}voh"'.' of a partnership under the ,.,_Parth'ership'vl-Act asWé'I|'Vas Income Tax Act held as under:- A »v4'4"A.:v'I'_--'g'.artnership Firm under the Indian Act, 1932, is not a distinct legal "apart from the partners constituting it .9 arid; equally in law the Firm as such has no Eseparate rights of its own in the Partnership Assets and when one talks of firm's property or t/ _19....
the firm's assets all that is meant is property ._ or assets in which all partners have a joint common interest. It can not, therefore,...__'be':'~fk. said that, upon dissolution, the firm's rights' the partnership assets are extinguisl7ed.'----:I:t the partners who own jointly:_or assets of the partnership and, :'therefo're_."th'e'V consequence of the d.is:vti=ibutioii,._. divisior'i~.;""or"' allotment of assets to the4_l:pa:ri'ners flofws upon dissolutio/7. alter discharg_e,.l_h'ofliabilities is nothing but a mutual 'of rights between pa'rt_ners'V'and:tth.erei'-is Vncgicjuestion of any jjfirin:'s"'rights in the "to a transfer of assetsthe'--meanin'g"'of sec.2(47) of the A-ct, is "no transfer of assets involved 'ieven ,. the sense of any _ extinguishrnent "v.of".the firm's rights in the 5%.partnership' 'assets when distribution takes A " ~ _ V Place - upon dissolution.
order to attract S.34(3)(b) it is necessary that the sale or transfer of asset must be by the assessee to a person.
it ff;Dissolution of a firm must, in point of time, be anterior to the actual distribution, division or \/ _20_ allotment of the assets that takes place after" making accounts and discharging the and liabilities due by the Firm.
dissolution the firm ceases to exist;T" follows the making up of accounts,."'thven'_'v discharge of debts and liabil;{:ties_anjd 'thereupon 'V, g distribution, division Or allotffiellt ofjfissetslv takes place inter se "b_e'tween"' the _Verst'w_:h'ile~ partners by way of mutualadjustmerit.of rights between them. The clistribu§io_n,--..division, or allotment of assetsof theVlerstwh-ilepartners, it not done by the "? ~
11. 'the case of Sunil Siddha:rthbha)'."4'x.Vxrstf Commissioner of Income Tax, Ahmedabad reper£el;j=3hi---(l:1"985) Vol. 156 ITR 509 (sc) at pages -518, 513520 aindwszz held as underc-
V ix"./g_l._/hen Hawpartner brings in his personal 3 partnership firm as his contribution ."7toV capital, an asset which originally was to the entire ownership of the partner becomes now subject to the rights of other 'ifpartners in it. It is not an interest which can be evaluated immediately. It is an interest V ._21._ which is subject to the operation of future ._ transactions of the partnership, and it diminish in value depending on accumula.t_ing':"s.4"a~ liabilities and losses with a fall in the prosperity' of the partnership firm. Themeva/uat/'oniiofla» partner's interest takes place j.wh_eng_theI*e is a dissolution of the firm upon" hish retirement from it. It somettimgesj b.een~ said, and we think erroneous.'y{ that right of a partner to "th_e,'vvvl'a.ssets of the partnership firm a¥r;ses of the firm or upon the ,vart/fer Vretiring the firm. We to jstate""that what is envis£§ge_r;l*.here-- theright to realise the----~i.nterest*§:.and'~.receive'""its value. What is rea/isedVtbi's.'ftheginterest; which the partner enjoys in the 'asse'ts_during the subsistence of the partn_ers.hip firm" by virtue of his status as a V_»*'-1_parftr:er and~.in.....accordance with the terms of thevpartnership agreement.
it the partner gets upon dissolution or°Cup'on retirement is the realisation of a pre-- exfisting right or interest. It is nothing strange the law that a right or interest should exist in praesenti but its realisation or exercise \x/ -22- should be postponed. Therefore, what was the . exclusive interest of a partner in his persona/'f,_ asset is, upon its introduction into partnership firm as his share to the partnéeirship is capital, transformed into anMminterest"'shared "
with the other partners in that a_sse.t.".Qua' that asset, there is a shared interest, Dur/'nig"th>e\"
subsistence of the partnerstbip, tl*:e'_va/ue.:o"r',tfie~~ interest of each partner qiuafhtat asset cannot be isolated or carried out fro'/n_V_th'e..ya/ue fiofuthe partner's interest Vi in it of the partnership" a_ssets{ regard the latter, the va_lue by/"his share in the net dissolution of the firm or upon 2 "Whatfiisfjthe-~._profit or gain which can be said to. accrue or arise to the assessee when he makes ''over_ his personal asset to the firm as his contribution to its cAcap.ita!i?'e._v"_The consideration, as we have is the right of a partner during the subsisfitence of the partnership to get his share ofwprofits from time to time and after the dissolution of the partnership or with his retirement from the partnership to receive the m/ ._23._ value of the share in the net partnership assets _ as on the date of dissolution or retiremeni5,_ after a deduction of liabilities and charges. When his personal asset merges' into the capital of the partnership_*"'fir-mgda corresponding credit entry! is_ma 'in partner's capital account in :'the'--.books'V;of'they V partnership firm, but tliat"e.ntryAis made for the purpose of adjusting the rights: of the partners inter-s§..,,,,_whén is dissolved or the part/fer. firetiresfi evidences no debt due by the Indeed, the capital the notional entry to the account may be comp/g{tg/'y.*:Vga;iped. bylosses which may be subseqLiei;!iyiincurred the firm, even in the very 4'account'ing,. year in which the capital _.account_:'/s-"credited. Having regard to the "fknagture and quality of the consideration which _ 'p:ar.tner may be said to acquire on his personal asset into the partnegrship firm as his contribution to its capital it cannot be said that any income or " 4_ gain arises or accrues to the assessee in the h/ -24- true commercial sense which a business man;'"--. would understand as real income or gain." ~_' «. "
12. From the aforesaid judgments, it is.c|eaV"r., that under the provisions of the Inbdian in Act, 1932, the firm is not recog>3ni_se'd,_n'as b'§'..':'ie:ga.l by entity. However, the Income»"Fa:.>V:'(»«.Act firm as a distinct legally' avssessa'biefentiAty apart"frorn its partners. This is cIe'ar._f'ro'rni'§ec_t,iov:nsV.V?i$(1), (3) and (4), of reads as unden-- ' hi i i V """ p'r"o"fitsV: or gains arising from thatVtransfer'éotiawcapital asset effected in the' preivious save as otherwise provided _in~.s.ections: [***] [54, 543, [***] [ _[542_="," ~[.54i_-'A, 54153,] 54F [, 54G and A 54}-l:]]]]fi],~--,be chargeable to income tax under tired':headj:~'.'.€apita/ gains", and shall be deemed '' bebthebwlincome of the previous year in which the transfer took place.
.Vr"'[(1A) Notwithstanding anything contained in sub-section (1 ), where any person receives at p[ ._25_ any time during any previous year any money or other assets under an insurance from an, insurer on account of damage to,__'*or""' destruction of, any capital asset, as a result
(i) flood, typhoon, nu};/eane,., earthquake or other 'eéonvu'/'.4/.'.'CA5.*.z', Of' nature; or 'V V _
(ii) riot or civil disturbance; or. '
(iii) accidenyta./..V_fire ' j.'osfo_n; or ' ' ' " V
(iv) action taken in cowmbatinganf»en~emy 'whether with or ;" Wifilotlt ha deciara tio/7,' of ), then,=:' arising from receipt of.,_.suuch,"' or "ot.h,er5 assets shall be ctharg.ea'iple...,_ income-tax under the head "Capital gainsff"v.andf"s«ha// be deemed to be the income of such -person of the previous year in which such. money or other asset was received the purposes of section 48, value of m'one.y or the fair market value of other V'"iassevt$_ the date of such receipt shall be " deemed to be the full value of the consideration received or accruing as a result of the transfer of such capital asset.
M/e _26_ Exp/anation,- For the purposes of this sub- section, the expression "insurer" shall have thefiig meaning assigned to it in clause (9) of 2 of the Insurance Act, 1938 (4 of 1938), (2) xxxx [(3) The profits or gains fa-rising fro.h2.Vth'eV" "
transfer of a capital asse-tfbyga person or other association of...persons or " 'b.o_cly,:§ of individuals (not --bze:'ng"__a;;_comp£§ny_ or a co- operative society) in' o;_=.b'e'comes a partner, or of capital contribszitiorfioir ot_h_e/'wise, ishallube chargeable to ta:x._as. previous year in ' tal<es'V' place and, for the p'urpo_ses:of the amount recorded in the'book_s tor account of the firm, association or 'body as'-the value of the capital asset shall be if cieeniegd to be the full value of the ggcon'-yfderation received or accruing as a result tlfansfer of the capital asset.
..(:4*,} V The profits or gains arising from the " transfer of a capital asset by way of ' distribution of capital assets on the dissolution K/.
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of a firm or other association of persons or body of individuals (not being a company or co-operative society) or otherwise, shaiI;""1'3e[~..._b'» A4 chargeable to tax as the income of the""f_irn1,_c~~. association or body, of the previous-l_4 yearfin ' which the said transfer takes 'p/ac_jeea:nd,<.for the" '« purposes of section 48,,*th_e fair_vn2arket"'§IeI:qe _ of the asset on the date"ofT"such .tr"ansfe"r'.= b be deemed to he the--------i?u/.l"'--:/a/ue"of, the consideration receiveid_o.r as result of the transfer]" T ' b 'V
13. Tfmcome Tax Act defines 'person:''as"foe!iowsbfii "
(_3v'"1.') ht" .person.ifinc/udesg,. . an 4ii:.divi,dua/,
(ii) . Hindu undivided family, V (iii) a company, "ea firm, 'V ' an association of persons or a body of individuals, whether incorporated or not,
(vi) a local authority, and {X -23-
(vii) every artificial juridical person, not_--.___ falling within any of the preceding sub- clauses; l [Explanation - For the purposes'__o'f..:this'» % clause, an association of »-persons 4 or [a if body of individuals or a'»i:/ocalaiuthorityor'if'-~.. an artificial juridical person shall/L deemed to be a person, whether or not"
such person. or body-.or-,_auth'ority..--or juridical p'er:";on'--_L formed or established 'or' Vincorp_orated~:f:_viith the object,' of deriving »iii¢om¢,f', ' profits or 1%}. »froflm..__the aforesaid provisions, it is clear thata_in»the= the Income Tax Act, the identity" of the' as well as that of the partners for l'vt'axa]bi!it:y:iilofjvhjincvome are separate and distinct. The firm is lasepara4te..,,»V_ta$;a'ble entity liable to pay tax on income _ arising or accruing to it because of its own distinct set of income earning activities and factors. Similarly, in the a._'ca_ls'e~of individual partners also. If there is a transfer V
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effected by a firm of capital assets i.e., property heVl_d___ by the firm, the capital gain tax arises in the hands of and not in the hands of the partners and vice
15. Section 45(3) of thre.4Act, which the Finance Act, 1987, from 01.04.1988, deals with capital assets to a firm as a cagpgitelg becomes a partner of a is liable to be taxed at the or partner. Whereas sub-Secvtjtiomn "'4A~~.,f0:f with profits or gains arising capital asset by way of distribution capital 'assets on the dissolution of a firm "c.h,arge'ab'ie totax asthe income of the firm. Therefore, a 82'clearudnist'in_ctioVn.has been made between the income of the firm»..,,_and,~inc}ome of the partner and the person who is 87-'~___"transfe'rri_n'g the capital assets being liable to pay capital ._30._
16. It is in this background if we look at---___the background of this case, the landed property w:as.7jr1:ot.4 owned by the erstwhile partners. It was "
partnership firm. May be the erstVwh'ile.par_tners' 1-'/'3'd-VA it share each in all the partnershi.pja:s.séts assets. On reconstitution of th_e=.firm,'''fQur.;fiQré~--;'pa'rtners '' were inducted, who contributedliy.'i§s[3..,5O lclrores./as their capital contribution. '"'thVe}indu_cted.V.partners also became partnersidn continue to assets own,::. The erstwhile partners.wit'h'dr'ew'::the in by the incoming partners' as did not retire from the partnershipfirin.Vxlfhéey "continued to be the partners of the firm...~§;rlowevery"the_i_r__gshare got reduced. In other words, Vof..Vti*..e'irySh__are held before reconstitution became the sha.re'of iii?-"coming partners. As the property was not g owned.' this erstwhile partners, it cannot be said they ':jtrlans.ferred 50% in favour of incoming partners and any amount represents the consideration received for such i/ _31_ transfer and as such it is liable for payment of capital 'gains under Section 45 (1) of the Act. It is because they"'.d'i'd:"g:no't.. transfer the capital assets. In so far as arguments: M regard to the reconstitution, theirv-share got 'aTndx@ V 'the amount which was withdrtawritl"and".pa~rtn.ers'h~i..p'l"
represents inducted partners e_rstwh:i.le'"'partners. As rightly pointed by the asp-pVellaté"-._authoriti.es~ii in the scheme of the Income provision for levying capital: gains received for reduction of firm. The provisiovrisofg'Section. not applicable to the facts of:V'the'- the contention that this is a colourableldevicelll by the firm as well as the asses:§s:ees*to avo'i'd.p_a_yment of tax is concerned, it has no ":2suibstance'«.be.ca*use tax planning is legitimate. However, it h.astto'be 'duoneA'.within the frame work of law. g The partnership firm came into existence in the It acquired property in the year 1967. It .t:ca_r§ried on business upto 1992-93 and returns were filed ll/9 _32_ from time to time. It is only in the year 1995, reva|L!a_tion was done, four new partners inducted who brouo.ht":I'ni}_:ash and the firm was not dissolved, the incoming«~..p;art'ners "
not retire from the firm and it if'..i the partnership firm. The erstwhile' their share in the partnership-fiiyjlrm and conti,Vnueo,._to"bé the " V partners of the reconstituted--------ul7i'rm"~--a_|§Q'.' fiheriefore, it cannot be said that eithe:r..'the,_fi}n71 :du»bious one or the entire transact,i.o;r..__'is and the only object is to 'Therefore, the law laid down of Mc.Dowe// Company Limiteci's case to the facts of this case. The 'learnedlltounsel for the revenue relied on ' "«--._,t'hé.e._j:ud.gmént of theHéApex Court in the case of Kartikeya V'..SaVra,b'i*iai' i/s,V_1~~Commissioner of Income-tax reported in [19.97]v_228n,i'JTR 0163, where it was held as follows:
"Section 2(47) of the Income-tax Act, , H 1961, defines "transfer" in relation to a capital asset. It is an inclusive definition which, inter ll} _33_ alia, provides that re/inquishment of an asset-'--.._ or extinguishment of any right therein amounts:'j'«.._i"'-- to a transfer of a capital asset. It necessary for a capital gain to arise, must be a sale of a capita/I-asseti. AS'aA/e_:
one of the modes of tranlsferfenvisage it-It Section 2(47) of the Act.seize/my/shme.rit'iaf the :2 . asset or extinguishme/"'1"t._T'of any" ,r_i_c'7ht-I it, which may not a.mount"'to"L_:'sa'ie,,_ can'"a/sosbe considered as a transfer and pr-ofit or gain which arises fromithe vV.traLns;7fevrV"oIf-- "a capital asset /5.'/iapie: to¥__be; taxed TU'nfde_r_Vsection 45 of the " Q" " T
19. ._ -InVithe_V:Vi'nst'a.ntv--«case, as the assessee was not the owner - of .- asset, the question of relixngiuishing ti~..e_:iVr"interest in that asset or extinguishment their asset would not arise. The assets The incoming partners paid money to the'""firn:1:bytway of their capital contribution. The firm as it has not relinquished its interest in favour of the 'inco'ming partners. On the contrary, by inducting them, 21/
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they are also entitled to interest in the said asseytstand therefore, the said judgment has no applicati.onV:'Vto,j'they facts of this case.
20. Further, reliance wasltplacecdZon,.the"*-j'u'd'g-srneaaté of this Court in the case of.r'Commi'ss_ioner ;{ncome§--tax_VV"» vs. Gurunath Talkies reportedléiin' [2010] 328 1772 0059, where it was held as fo:l,l.o:ws:--¥_;V if 2 "Section 47,.o.f:'the fiIkg¢oni'e-fta}gAnct, 1961, was introduced out:'ce)'ta.lnT.§'transactions which "Ct;'1_ei:wise ' litrayn-sfers of capital assets and otheiirvifiset section 45, from reintroduction of sub-
sections the Finance Act, 1987 in section ii) of section 47 has been 'expressl'y._V_on7itt:ed removing the protective fiuffibrella. Them'/egis/ative intent is quite clear "~,a'i2r:j't/iisivtakes care of any situation where in is transfer of a capital asset, by any mode and to ensure the gain being taxed." In the aforesaid case, a reconstitution of the __fi_s3m took place in July 1994 by addition of two partners to l/ -35- the firm, who brought in about Rs.17 lakhs towards.-their capital contribution to the firm. Thereafter, again was reconstituted with the erstwhile four M from the partnership and newly afid'ed~4par':tnersAf in the firm and continuing the firm';V_It--.i_sf' was held that the series'--V._:of..pg traV'ris_aCtion_sV7-;VsVuc'h'V' as 4' reconstitution of firm Vtwice; oi'i'cVei:in"V3-ulgy 1§9'4~, and again in December 1994 andlléentire' in the hands of the newly<.a.d:ded in transfer of assets of the assets of the firm as had """ llield "--ljjVy--.:V'thewerstwhile partners were transfe'r.red4'_toV two partners though all along theta-ssevtsgfo-f th_e' continued in the hands of the firrfis. ET__?herefo're*,'-itmwas held that there was transfer of .._within the meaning of Section 2 (47) a'tt.ralcting'.ii<3pi'tal gains tax in terms of Section 45(4) of the Act."
22. In the instant case, the firm is not taxed. It is ..,.the individual partners who are taxed. More over, in the V
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0 instant case, the erstwhile partners have not retired, they also continued to be the partners along with partners. All that has happened is that erstwhile partners are reduced; »»»» ';t.he4--'.i';«sai-d it judgment also has no application
23. For the aforesaid'V"'re.aso_ns, w-egfdof see any merit in these appeals.'~~.The"suhstaV_ntiia.!.Aquestion of law is answered in favour of the'..'as{sesse.es'..'_j_and against the revenue. Convs'e;qu'entliy, the';ap'p.eal-srare dismissed. Parties.to=*b:ear ltheir__iown..co_s»ts. ..... JUDGE Sd/-
JUDGE