TMI Blog2011 (3) TMI 964X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessees mentioned above are directed against the order of Ld CIT(A), Rajahmundry. While the appeal numbered as ITA No.495/Viz/2010 relates to the assessment year 1999-2000, the other appeal pertains to the assessment year 2003-04. Since the issue urged in these two appeals is identical in nature, they were heard together and are being disposed of by this common order, for the sake of convenience. 2. The grounds raised by these two assessees give rise to a single issue viz., Whether the Ld CIT(A) is justified in confirming the action of the assessing officer in disallowing a portion of interest paid to the partners by reworking the partners' capital account balances. 3. The facts relating to the issue are discussed in brief. Both the assessees are partnership firms. As per the provisions of section 40(b) of the Act, the interest paid to the partners is allowable as a deduction in computing the income from business, however subject to the conditions prescribed in that section. Both these assessees paid interest to their respective partners and claimed the same as a deduction. There is no dispute that both the partnership firms have complied with the conditions prescribe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sessing officer reworked the capital balances of the partners by reducing the cumulative amount of depreciation there from and accordingly allowed the interest computed on such reduced capital balances. Both these assessees carried the matter in appeal before Ld CIT(A), but did not find favour from him. The Ld. CIT(A) relied upon the decision of SMC bench of Visakhapatnam in the case of Arthi Nursing home v. ITO 119 TTJ 415 in order to reject the appeals filed by these assessees before him. Aggrieved, both the assessees are in appeal before us. 4. The learned counsel for the assessee contended that there is no provision in the Act which enables the assessing officer to rework the capital balances of the partners for the purpose of allowing the interest payable on their capital balances. The allowance/disallowance of interest paid to the partners is governed by the provisions of section 40(b) of the Act. Both the assessees herein have duly complied with the conditions prescribed in that section and hence the Assessing Officer should have fully allowed the claims made by these assessees. He further submitted that, even if it is assumed that the assessing officer is entitled to re ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... In the same manner, a deduction allowed under the Income-tax Act would not decrease the capital balances of the partners. He further submitted that, if the assessing officer's analogy is considered for a moment to be a right proposition of law, then in order to have equity, the assets should have been revalued to bring them to their respective current market value and the said exercise would increase the capital balances of the partners. In view of the complications narrated above, the re-working of capital balances is not an easy exercise as assumed by the assessing officer. He further submitted that the decision in the case of Arthi Nursing home has been rendered by SMC bench of Visakhapatnam. However the division bench of the Visakhapatnam, in the following cases, has held that the assessing officer is not entitled to re-work the capital balances of the partners for the purpose of determination of interest payable to the partners:- (a) Ambica Chemical Products, Order dated 31-5-2005 in ITA No. 612/V/1998 and ITA No. 09/V/1999. (b) Ambica Chemical products - Order dated 09-1-2009 in ITA No. 201/V/2003. The Ld. A.R further submitted that the SMC bench has given much i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cord. We have also carefully perused the order of SMC bench in the case of Arthi Nursing home, supra, on which the Ld. D.R placed heavy reliance. In the case of Arthi nursing home, (supra), the SMC bench, inter alia, placed reliance on the decision of Hon'ble Supreme Court in the case of British Paints Ltd., supra, where in it was held that the assessing officer has right and also duty bound to consider whether the books disclose the true state of accounts and the correct income can be deduced therefrom. Accordingly it was held by the Apex Court that the assessing officer is not bound by the method of accounting followed by the assessee, if the correct income cannot be deduced therefrom. 7. In the case of British paints Ltd. (supra), the dispute was with regard to the method of valuation of stock, which materially affected the book profit and consequently the total income also. The assessee, in that case, was valuing the stock by adopting the cost of raw material and did not take into account over head charges. However, the Assessing Officer therein was of the view that the overhead charges should be added to the value of stock. In that context the Hon'ble Apex Court held that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ow the accounting standards. Even if the accounting standards are not followed, it would be sufficient compliance as per section 211(3B) of the Companies Act, if a note is attached to the financial statements mentioning the said fact of non-compliance and the financial implication thereof. However, as per the provisions of section 205 of the Companies Act, the companies cannot declare dividend unless the depreciation has been provided for in the books of account. Thus, it could be seen that a company may choose not to provide for depreciation in the books and instead may disclose the same in the notes to the accounts. However, under the Partnership Act, there is no such statutory compulsion to provide for depreciation in the books of account or to follow the accounting standards prescribed by the ICAI, though it may be in the interest of the partnership firms to follow the said accounting standards. 9. The Ld D.R vehemently argued that it is mandatory to claim depreciation as per the explanation 5 to section 32 of the Act. The said provision was also taken into account in the case of Arthi Nursing Home, supra. The said explanation reads as under:- "Explanation 5:- For the r ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e of the assessee for any year, on the basis of books of account or other records maintained by the assessee. Thus, it is the responsibility of the assessee to maintain proper record and books of account which would enable the assessing officer to verify them and determine the correct total income of the assessee. There cannot be any dispute that the total income is determined in accordance with the method of accounting regularly followed by the assessee, i.e. Under section 145(1) of the Act, the income chargeable under the "Profits and gains of business or profession" or "Income from other sources" shall, subject to the provisions of sub section (2), be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee. Thus it could be seen that it is the prerogative of the assessee to select the method of accounting for the income chargeable under the two heads cited in section 145. In the similar manner, in our view, it is the prerogative of the assessee to select the method and rate for providing depreciation for book purposes. In case of partnership concerns, since there is no statutory compulsion to provide for depreciation, the par ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... case of any firm assessable as such,- ........... (ii) any payment ..... of interest to any partner. Which,...., is not authorized by, or is not in accordance with, the terms of the partnership deed; or (iii) any payment ..... of interest to any partner, which,..., is authorized by, and is in accordance with, the terms of the partnership deed, but which relates to any period (falling prior to the date of such partnership deed) for which such payment was not authorized by, or is not in accordance with, any earlier partnership deed, so, however, that the period of authorization for such payment by any earlier partnership deed does not cover any period prior to the date of such earlier partnership deed; or (iv) any payment of interest to any partner which is authorized by, and is in accordance with, the terms of the partnership deed and relates to any period falling after the date of partnership deed in so far as such amount exceeds the amount calculated at the rate of (twelve)** per cent simple interest per annum." (** Substituted for "eighteen" by the Finance Act 2002 w.e.f 1-6-2002.) On a careful reading of the above said provisions would show that the asse ..... X X X X Extracts X X X X X X X X Extracts X X X X
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