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CAPITAL GAINS ON CONVERSION OF PARTNERSHIP FIRM INTO A PRIVATE LIMITED COMPANY

Corporate Laws / Banking / SEBI - By: - Mr. M. GOVINDARAJAN - Dated:- 13-5-2016 - Introduction The partnership firm and a private limited company are two different legal entities, with different legal liability. The liability of a partner is different from that of the liability of a director in a company. The company has an independent legal entity, de hors its shareholders, whereas the partnership firm has no such independent existence, de hors the partners. On conversion of a firm into a priva .....

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ansfer of interest possible as the investment is in the form of shares, whereas in case of partnership reconstitution is required whenever any partner retires or a new partner joins. However, the decision of converting the firm into a company should be taken after considering all pros and cons. Modes of conversion The following modes may be adopted for converting a firm into a company depending upon the suitability in the circumstances of the persons concerned: Conversion by first making the com .....

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he Companies Act, 1956 is discussed with reference to the provisions of Income Tax Act, 1961 and decided case laws. Capital gains Section 45(1) of the Income tax Act, 1961 provides that any profits or gains arising from the transfer of a capital asset effected in the previous year shall, save as otherwise provided in sections 54, 54B, 54D, 54E, 54EA, 54EB, 54F, 54G and 54H, be chargeable to income-tax under the head Capital gains , and shall be deemed to be the income of the previous year in whi .....

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in ; or the compulsory acquisition thereof under any law ; or in a case where the asset is converted by the owner thereof into, or is treated by him as, stock-in-trade of a business carried on by him, such conversion or treatment the maturity or redemption of a zero coupon bond; or any transaction involving the allowing of the possession of any immovable property to be taken or retained in part performance of a contract of the nature referred to in section 53A of the Transfer of Property Act, 18 .....

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ion provides that the profits or gains arising from the transfer of a capital asset by way of distribution of capital assets on the dissolution of a firm or other association of persons or body of individuals (not being a company or a co-operative society) or otherwise, shall be chargeable to tax as the income of the firm, association or body, of the previous year in which the said transfer takes place and, for the purposes of section 48, the fair market value of the asset on the date of such tr .....

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e claim), belonging to or vested in a company at the date of registration in pursuance of Part IX, shall, on such registration, pass to and vest in the company as incorporated under this Act for all the estate and interest of the company therein. Partners rights In Malabar Fisheries Co. V. Commissioner of Income Tax - 1979 (9) TMI 1 - SUPREME Court the Supreme Court held that firm s assets all that is meant is property of assets in which all the partners have a joint or common interest. The firm .....

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ithin the meaning of Section 2(47) of the Act. The Supreme Court held that there is no transfer of assets involved in the partnership assets when distribution takes place upon dissolution. Difference between vesting and distribution of the property In Commissioner of Income tax V. Texspin Engineer and Manufacturing Works - 2003 (3) TMI 56 - BOMBAY High Court the High Court held that there is a difference between vesting of the property and distribution of the property. On vesting in the limited .....

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hen a partnership is transformed into a company, there is no transfer of capital asset, as the transfer is by operation of law. In Commissioner of Income Tax V. Rita Mechanical Works - 2012 (6) TMI 647 - Punjab and Haryana High Court the High Court is concerned with a partnership firm being treated as a company under the statutory provisions of Part IX of the Companies Act. The Court observed that generally, in the case of a transfer of a capital asset, two important ingredients are- existence o .....

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fer. It is a statutory vesting of properties in the company as the firm is treated as a limited company. On the vesting of all the properties statutorily in the company, there is no transfer of a capital asset as contemplated under Section 45(1) of the Act. In L.K.S. Gold House (P) Limited V. L.K.S. Gold Palace Application - 2004 (3) TMI 432 - HIGH COURT OF MADRAS the High Court held that conversion of a firm into a private Limited company under Part IX of the Companies Act, 1956 statutorily ves .....

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gains In CADD Centre V. Assistant Commissioner of Income Tax - 2016 (5) TMI 422 - MADRAS HIGH COURT the appellant, erstwhile registered firm, is engaged in the business of training and trading of software. The appellant firm was constituted in the year 1988 vide deed of partnership dated 20.10.1988. The firm consisted of only two partners who were holding equal stakes in the firm. During the year 1991 the partners of the firm felt the necessity of having a corporate identify and decided to inco .....

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private limited company as a going concern. All the assets of the firm got vested as assets of the private limited company. The appellant filed its return for the year 1992 - 93 on 23.10.1992. The Assessing Officer found that the accounts of the appellant firm were closed on 30.11.1991 and existing business was taken over by a private limited company. He came to the conclusion that the transfer of business would constitute distribution of assets and would attract capital gains as contemplated un .....

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sion otherwise as contemplated under Section 45(4) of the Act. The Tribunal held that the appellant is liable to pay tax. The appellant filed appeal before the High Court in which the appellant submitted the following: all the assets of the firm got vested with the private limited company and on succession of the firm by a private limited company, there was no transfer of assets; therefore capital gains as contemplated under Section 45(4) would not be attracted and the appellant is not liable to .....

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zation of a recognized stock exchange in India as a result of which an association of persons or body of individuals is succeeded by such company; There is no dissolution of the partnership and therefore there is no transfer of capital assets and hence the appellant is not liable to pay tax on capital gains. The Revenue submitted the following: When the partnership firm, without dissolution, get transferred into a private limited company, the process involves the transfer of asset; It would fall .....

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the Legislature is to cover cases of capital gains even where is no dissolution of the firm at all and when the transfer takes place in other mode also. The assessee is, therefore, liable to pay the tax on capital gains on the transfer of assets. The Revenue relied on various judgments to support their arguments. The High Court distinguished all the judgments relied on by the Revenue since the same are not relevant to the facts of the present case. The High Court observed that that there is no .....

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