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TMI Blog1988 (11) TMI 153X X X X Extracts X X X X X X X X Extracts X X X X ..... 25,000 contributed by the three partners and such capital shall not carry any interest. Clause 5 however stated that if any additional funds are required for the partnership business the partners may contribute such amounts from themselves which shall carry interest. This clause further stated that interest shall be allowed on all loan accounts of the partners at 12 per cent and interest shall be charged on the excess drawings in their share of profits at 12 per cent per annum. The assessee had a current account with a firm. The relevant entries of the same are as follows : Date Particulars Debit Credit 1st, April 1979 By balance b/f 4,206.35 31st, March 1980 By interest 504.80 To net loss for the year 78,960.17 --------- -------- ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... be deducted in assessing the share of income in his hands. The ITO rejected this claim on the ground that the assessee had not borrowed any capital for investment in the firm for which he had paid this interest and, therefore, it could not be allowed as a deduction under section 36(1) (iii) of the Income-tax Act, 1961. On appeal, the Commissioner (Appeals) agreed with this view and upheld the disallowance. 4. In the further appeal before us it was contended on behalf of the assessee that the authorities below had not properly appreciated the claim. It was argued that the share of the assessee in the income of the firm had to be assessed in the hands of the assessee as income from business and in so doing the interest paid by the assessee w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ly achieved that object. In other words, the contention was that the matter should not be decided on the basis of the substance of the transaction but on the form in which it was carried out. 6. On a consideration of the rival submissions, we are of the opinion that the assessee is entitled to succeed. A look at the current account of the assessee shows that the debit balance arose because the assessee was debited his share of losses in the previous years ended 31st March 1980 and 1981. Therefore, the interest was not paid in respect of any money borrowed as such from the firm or to use the phrase in the partnership deed 'on the excess drawings' in his share of profits as such. However, the contention of the assessee is that he was bound t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... No doubt, it is not interest paid on any capital directly borrowed and invested in the business of the firm. But if the assessee were to avoid this payment, he would have had to provide the funds which would have required the assessee having to borrow the funds from some other persons and paying interest thereon. Since he has not provided the funds, the firm has borrowed funds and had paid interest. In the circumstances, it is clear that this interest is really the cost of the capital borrowed for making up the losses which has been debited to the assessee's account as a reimbursement, so to say. In other words, this is interest paid on capital indirectly borrowed for the purpose of the business. Section 36(1) (iii) provides that the amoun ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... se there was practically no withdrawal by the assessee and the debit of the interest was made only in respect of the losses which had been debited. The sum of Rs. 20,000 withdrawn on 3rd April 1982 has been repaid on 1st September 1982 and the interest charged is stated to be only in the opening debit balance in the current account. The objection here of the Revenue could be that interest debited was not strictly in accordance with the terms of the partnership deed since the opening debit balance cannot be considered to be a withdrawal by the assessee. In this context, we may recall the observations of Chagla, C.J., in Commissioner v. Kolhia Hirdagarh Co. Ltd. (1949) 17 ITR 545 at 555 (Bom) : Now, in taxation matters it is not necessary to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... being assessed in respect of income from business because the share of income from the partnership is acknowledged to be income from business carried on in partnership. Any amount invested in the firm and lost would still be the capital of the assessee. As held in the case of A.L.A.R. Brothers v. Commissioner 3 ITC 209 interest paid on capital borrowed which had been lost in the earlier year would still be an admissible expenditure in computing the share income of the partner for the subsequent years even though those sums did not continue to be available for the purposes of the business in the accounting year. On the same analogy though the debit arose in the previous years ended 31st March 1980 and 31st July 1981 by reason of the loss in ..... X X X X Extracts X X X X X X X X Extracts X X X X
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