CBDT's circular No 739 dated 25-03-1996 on section 40(b)(v) is invalid- HP High Court

[AMIT BAJAJ ADVOCATE]

Himachal Pardesh High court in an important recent Judgment namely M/s Durga Dass Devki Nandan.V Income-tax Officer, Palampur decided on 11-03-2011 has held the circular No 739 dated 25-03-1996 of CBDT as invalid. The said circular is on the issue of availability of deduction to a partnership firm in relation to remuneration available to partners of a firm u/s 40(b)(v) of Income Tax Act 1961. The said circular stated that the deduction u/s 40(b)(v) will be available only if the remuneration to partners is authorized by the partnership deed by way of specification of amount of remuneration therein or by way of quantification of remuneration.

Brief facts of the case: The assessee, a firm, provided by the partnership deed that its partners would be “working partners within the meaning of s. 40(b)” and “be paid a monthly salary as per the income-tax provisions”. The AO relied CBDT Circular No. 739 dated 25.3.1996 and held that because the deed did not specify the amount of remuneration payable to the partner or lay down the manner of quantifying such remuneration, the deduction was not admissible. This was reversed by the CIT (A). However, the Tribunal upheld the AO on the ground that the agreement did not meet with the requirements of the circular and so deduction of salary paid to the partners was not admissible

Verdict: S. 40(b)(v) allows a deduction of payment of remuneration to a working partner if it authorized by the partnership deed and not in excess of the limits. S. 40(b)(v) does not lay-down any condition that the partnership deed should fix the remuneration or the method of quantifying remuneration. Accordingly, CBDT circular No. 739 dated 25.3.1996 which requires that either the amount of remuneration payable to each individual should be fixed in the agreement or the partnership agreement deed should lay down the manner of quantifying such remuneration goes beyond s. 40(b)(v). The CBDT cannot issue a circular which goes against the provisions of the Act. The CBDT can only clarify issues but cannot insert terms and conditions which are not part of the main statute. A partnership deed which provides that the remuneration would be as per the provisions of the Act meaning thereby that the remuneration would not exceed the maximum remuneration provided in the Act is valid and deduction is admissible.

Thus as per the above Judgment even if no quantification of remuneration has been made or no specific amount of remuneration is mentioned in the Partnership deed, even then the deduction u/s 40(b)(v) should be available.

Interesting Fact: One interesting thing is here to be noted that on this similar point earlier HP High court in Commissioner of Income Tax Versus M/s. Anil Hardware Store [2009 -TMI - 34559 - HIMACHAL PRADESH HIGH COURT], had decided the matter on the basis of the above circular holding that if the remuneration in the partnership deed was mentioned on the lines of section 40(b)(v) then this is a valid quantification as per the circular No 739 of CBDT. In this case the words mentioned in the partnership deed regarding remuneration to partners were “profits upto Rs.75,000/-, upto Rs.50,000/- or 90% of the book profits” and it was argued by the revenue that use of these words show that the partnership deed does not exactly determine the remuneration of the partners but it was held as valid quantification by the Hon'ble High Court as per the above mentioned circular of CBDT.

 In the said case nothing was decided by Hon’ble HP High court on the question of validity of the said CBDT circular instead the matter was decided on the basis of that very circular.

 But now in this Durga Dass Devki Nandan case the circular has been declared as invalid. Although it’s a decision of the HP High Court but it gives a valid reasoning behind declaration of the circular No 739 as invalid and should work as a guiding force for the departmental and appellate authorities while deciding similar matters.