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TMI Blog1985 (9) TMI 7X X X X Extracts X X X X X X X X Extracts X X X X ..... hip firm, the assessee made over certain shares of limited companies which were held by him as his capital assets. The book value of those shares in his account books was shown as Rs. 1,49,819, but on the date when he contributed those shares to the partnership firm, he revalued the shares at the market value of Rs. 1,60,279 and credited the resulting difference of Rs. 10,460 to his capital account. The Income-tax Officer, when drawing up the assessment order for the assessment year 1974-75 in respect of the assessee did not include the difference in the assessable income. The Commissioner of Income-tax, however, being of opinion that the difference between the market value of the shares and the cost of acquisition of the shares to the assessee should have been brought to tax as capital gains in view of section 45 of the Income-tax Act, 1961, exercised his revisional jurisdiction and reopening the assessment, he remanded the case to the Income-tax Officer directing him to revise the assessment after computing the capital gains arising out of the transfer. The assessee appealed to the Income-tax Appellate Tribunal and the Appellate Tribunal held that while the transaction did amoun ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... chand Premchand P. Ltd. was Rs. 2,668. On that day, the assessee introduced the two shareholdings in the partnership firm as his capital contribution and the firm credited his account with the market value of the shares, namely, Rs. 4,75,136. In the assessment proceedings for the assessment year 1973-74, the, Income-tax Officer took the view that the contribution by the assessee of the shares to the asset of the partnership firm constituted a transfer within the meaning of clause (47) of section 2 of the Income-tax Act, 1961, and that the assessee was liable to income-tax on a capital gain of Rs. 2,94,030, being the difference between the market price at which the shares were entered in the books of the partnership firm and the cost of the shares to the assessee. The assessee appealed to the Appellate Assistant Commissioner of Income-tax, but the appeal was dismissed. In second appeal, however, the Income-tax Appellate Tribunal took the view that there was no transfer of a capital asset within the meaning of section 45 read with clause (47) of section 2 of the Income-tax Act, 1961, and, consequently, lie deleted the item from the assessment. In the circumstances, the Appellate Tri ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... embedded in the consideration. It is urged that if any of the three conditions remains unfulfilled, no charge can be levied under the head " Capital gains ". In support of the submission that there is no " transfer " in the general sense of that term when a partner brings his personal assets into the firm as his contribution towards its capital, learned counsel points out that a partnership firm is not a separate legal entity and that the assets owned by the partnership are collectively owned by the partners. We have no hesitation in accepting that proposition, for, in Malabar Fisheries Co. v. CIT [1979] 120 ITR 49 (SC), this court observed (p. 59): "....... it seems to us clear that a partnership firm under the Indian Partnership Act, 1932, is not a distinct legal entity apart from the partners constituting it and equally in law the firm as such has no separate rights of its own in the partnership assets and when one talks of the firm's property or firm's assets all that is meant is property or assets in which all partners have a joint or common interest." Our attention has been invited to CIT v. Hind Construction Ltd. [1972] 83 ITR 211 (SC). In that case, the assessee entered ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... did not fall under any of them, it held that there was no transfer. In its general sense, the expression " transfer of property " connotes, the passing of rights in property from one person to another. In one case, there may be a passing of the entire bundle of rights from the transferor to the transferee. In another case, the transfer may consist of one of the estates only out of all the estates comprising the totality of rights in the property. In a third case, there may be a reduction of the exclusive interest in the totality of rights of the original owner into a joint or shared interest with other persons. An exclusive interest in property is a larger interest than a share in that property. To the extent to which the exclusive interest is reduced to a shared interest, it would seem that there is transfer of interest. Therefore, when a partner brings in his personal asset into the capital of the partnership firm as his contribution to its capital, he reduces his exclusive rights in the asset to shared rights in it with the other partners of the firm. While he does not lose his rights in the asset altogether, what he enjoys now is an abridged right which cannot be identified wi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the partnership or with his retirement from partnership of the, of his share in the net partnership assets as on the date of dissolution or retirement after a deduction of liabilities and prior charges." It is apparent, therefore, that when a partner brings in his personal asset into a partnership firm as his contribution to its capital, an asset which originally was subject to the entire ownership of the partner becomes now subject to the rights of other partners in it. It is not an interest which can be evaluated immediately, it is an interest which is subject to the operation of future transactions of the partnership, and it may diminish in value depending on accumulating liabilities and losses with a fall in the prosperity of the partnership firm. The evaluation of a partner's interest take, place only when there is a dissolution of the firm or upon his retirement from it. It has sometimes been and we think erroneously, that the right of a partner to a share in the assets of the, partnership firm arises upon dissolution of the, firm or upon the partner retiring from the firm. We think it necessary to state that what is envisaged here is merely the right to realise the intere ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... partnership firm. On evaluation, that share in a particular case may be realised by the receipt of only one of all the assets. What happens here is that a shared interest in all the assets of the firm is replaced by an exclusive interest in an asset of equal value. That is why it has been held that there is no transfer. It is the realisation of a pre-existing right. The position is different, it seems to us, when a partner brings his personal asset into the partnership firm as his contribution to its capital. An individual asset is the sole subject of consideration. An exclusive interest in it before it enters the partnership is reduced on such entry into a shared interest. Our attention has also been invited to clause (b) of sub-section (1) of section 17 of the Registration Act, which requires the registration of non-testamentary instruments which purport or operate " to create, declare, assign, limit or extinguish, whether in present or in future, any right, title or interest, whether vested or contingent, of the value of one hundred rupees and upwards, to or in immovable property ", and to the view taken by the courts in this country that when a person brings in even his immova ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e to time and, after the dissolution of the partnership or with his retirement from the partnership, to get the value of a share in the net partnership assets as on the date of the dissolution or retirement after deduction of liabilities and prior charges. The credit entry made in the partner's capital account in the books of the partnership firm does not represent the true value of the consideration. It is a notional value only, intended to be taken into account at the time of determining the value of the partner's share in the net partnership assets on the date of dissolution or on his retirement, a share which will depend upon deduction of the liabilities and prior charges existing on the date of dissolution or retirement. It is not possible to predicate beforehand what will be the position in terms of monetary value of a partners' share on that date. At the time when a partner transfers his personal asset to the partnership firm, there can be no reckoning of the liabilities and losses which the firm may suffer in the years to come. All that lies within the womb of the future. It is impossible to conceive of evaluating the consideration acquired by the partner when he brings his ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... urt proceeded on the basis that in working out capital gain or loss, the principles which had to be applied are those which are a part of commercial practice or which an ordinary man of business would resort to when making computation for his business purposes. It will be noticed that this principle was applied by the court in a case where a capital gain was sought to be taxed under the Income-tax Act. That profits or gains under the Income-tax Act must be understood in the sense of real profits or gains, that is to say, on the of ordinary commercial principles on which actual profits are computed, a sense in which no commercial man would misunderstand, had been regarded as a principle of general application, and there is a catena of cases of this court which affirms that principle. Reference may be made to Calcutta Co. Ltd. v. CIT [1959] 37 ITR 1 (SC), CIT v. Bai Shirinbai K. Kooka [1962] 46 ITR 86 (SC), Poona Electric Supply Co. Ltd. v. CIT [1965] 57 ITR 521 (SC), CIT v. Birla Gwalior (P.) Ltd. [1973] 89 ITR 266 (SC) and Bafna Textiles v. ITO [1975] 98 ITR 1 (Kar). What is the profit or gains which can be said to accrue or arise to the assessee when lie makes over his personal a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... that these cases fall outside the scope of section 45 of the Act altogether. We have decided these appeals on the assumption that the partnership firm in question is a genuine firm and not the result of a sham or unreal transaction and that the transfer by the partner of his personal asset to partnership firm represents a genuine intention to contribute to the share capital of the firm for the purpose of carrying on the partnership business. If the transfer of the personal asset by the, assessee to a partnership in which he is or becomes a partner is merely a device or ruse for converting the asset into money which would substantially remain available for his benefit without liability to income-tax on a capital gain, it will be open to the income-tax authorities to go behind the transaction and examine whether the transaction of creating the partnership is a genuine or a sham transaction and, even where the partnership is genuine, the transaction of transferring the personal asset to the partnership firm represents a real attempt to contribute to the share capital of the partnership firm for the purpose of carrying on the partnership business or is nothing but a device or ruse to ..... X X X X Extracts X X X X X X X X Extracts X X X X
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