TMI Blog1973 (6) TMI 8X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee-firm was initially registered for the purpose of assessment to income-tax under section 26A of the Indian Income-tax Act, 1922, in assessment year 1957-58 and the registration was thereafter renewed from year to year up to assessment year 1961-62. The registration was, however, cancelled subsequently by the Income-tax Officer under rule 6B of the Income-tax Rules, 1922, principally on the ground that, in the facts and circumstances of the case, two of the partners of the firm who were coparceners of a Hindu undivided family could not have validly entered into partnership with the third partner who was the karta of the said Hindu undivided family and that the firm was, therefore, not lawfully constituted. On appeal, the Appellate Assistant Commissioner upheld the said decision but came to the conclusion that where a partnership was illegal or non est, rule 6B could not be invoked and, therefore, the order cancelling the registration of the firm was ultra vires. On further appeal, the Income-tax Appellate Tribunal concurred with the decision of the taxing authority to the effect that the firm was not validly constituted. On the question of applicability of rule 6B, there app ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d that since the discontinuance of the association of Anubhai and Rajnikant with the family firm was not in the interest of the Hindu undivided family, the karta had agreed to induct the said two persons as partners in the family firm in their individual capacity on and with effect from Kartak Sud 1, S.Y. 2012, on the terms and conditions set out in the said agreement. The partnership agreement then sets out in eleven clauses the various terms and conditions of partnership. Clause (i) provided that the family business carried on in the name and style of Messrs. Purshottamdas Ghelabhai was converted into a partnership business (on and with effect from 15th November, 1956). Chimanlal, as the karta of the Hindu undivided family, would have ten annas share and Anubhai and Rajnikant would respectively have four annas and two annas share in the profits and losses of the firm. Clause (ii) provided that irrespective of profits and losses of the firm, Anubhai would be entitled to receive a sum of Rs. 6,000 per annum as salary and Rajnikant would be entitled to receive Rs. 3,000 per annum as salary for S. Ys. 2012 and 2013. For the subsequent years, Rajnikant would also be entitled to get sa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... stated earlier, the registration was, thereafter, renewed from year to year up to the assessment year 1961-62. The assessee's assessment to income-tax was completed for the aforementioned assessment years treating it as a registered firm. Anubhai and Rajnikant were also separately assessed to income-tax in their individual capacities. By a notice dated January 20, 1965, the Income-tax Officer having jurisdiction over the assessee-firm for the purpose of assessment to income-tax, called upon the assessee to show cause as to why the certificate of registration granted to the assessee under section 26A should not be cancelled under rule 6B since there was no genuine firm in existence and further as to why the assessment for the assessment years 1957-58 to 1961-62 should not be reopened. The assessee showed cause by a letter dated 22nd February, 1965, addressed by the assessee's legal adviser to the Income-tax Officer concerned. The assessee pointed out that the joint family firm was converted into a partnership firm and Anubhai and Rajnikant were inducted as partners in the said firm in view of the fact that both of them had expressed their unwillingness to attend to the family bus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ase valid since the consideration in admitting them as partners was not capital which they contributed to the business. It may be mentioned that in reaching the aforesaid conclusion, the Income-tax Officer relied heavily on the decision of this court in Pitamberdas Bhikhabhai and Co. v. Commissioner of Income-tax and this is apparent from the order cancelling registration which he has passed in relation to the assessment year 1961-62. The Appellate Assistant Commissioner concurred with the view of the Income-tax Officer that the partnership in question was invalid. In coming to this conclusion, the Appellate Assistant Commissioner also relied upon the decision of this court in Pitamberdas Bhikhabhai's case which according to him had taken the view that " two capacities of a person, one as a coparcener and the other as a partner, are irreconcilable and, therefore, a valid partnership cannot come into existence ". The Appellate Assistant Commissioner, however, held that rule 6B could be invoked " only where a firm obtained registration by putting up something which in fact was not genuine and the genuine partners are detected afterwards ". In the opinion of the Appellate Assistan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ence, he necessarily comes to the conclusion that the firm is not genuine and he would in such a case be entitled to invoke the provisions of rule 6B and cancel the registration on the ground that the firm could not have been validly brought into existence. The Accountant Member was of the view that the word " genuine " has a meaning which is different from " illegal " and that merely because a partnership is invalid, it would not necessarily follow that the firm is not genuine. In the instant case, according to the Accountant Member, there was no dispute about the genuineness of the firm ; in fact, by assessing the firm in the status of an unregistered firm as a protective measure after the cancellation of the registration, the Income-tax Officer proceeded on the assumption that there was a genuine firm in existence. However, since the Judicial Member was inclined to take the view that the word " genuine " was comprehensive enough to embrace illegality and invalidity of partnership and there was no clear decision on the point taking a contrary view, the Accountant Member ultimately agreed with the conclusion of the Judicial Member as regards applicability of rule 6B. The Tribunal, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s: (i) that it is well-settled,- (a) that an individual coparcener, without separating himself from the family, can possess, enjoy and utilise property acquired by him by personal labour and without the use or help of joint family funds, and (b) that in order to enjoy the benefit of such separate property, he can without breaking away from the family enter into contractual relations with others including his family represented by the karta ; (ii) that the two coparceners in the present case had their separate property in the shape of savings made out of remuneration earned by them on account of their personal skill and labour and that each one of them had in fact put in such separate property into the partnership firm at the time of his induction in the partnership ; (iii) that the partnership in question was, therefore, in substance and effect one which was entered into for enjoying the benefits of the separate property of each one of the said two coparceners and the fruits of its investment and that such a partnership is clearly legal and valid ; (iv) that, in any event, the principle of Hindu law which in terms recognises that the karta of a joint Hindu family cou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the joint family and that the sum of Rs. 48,000 should be treated as a loan by Daulat Ram to the family. On appeal, the Appellate Assistant Commissioner upheld the order of the Income-tax Officer. On further appeal, the Tribunal reversed the said decision and held that the mill belonged to the partnership and that the partnership was validly constituted since it was competent for a member of a joint Hindu family to contract in his own individual capacity with the family as a matter of partnership and to maintain a separate interest for himself in that concern. The matter went on a reference before the Lahore High Court which reversed the decision of the Tribunal. The High Court held that though it was true that the rules of Hindu law permitted formation of a partnership between the managing member of a Hindu joint family on the one hand and a stranger on the other, Daulat Ram could not be regarded as a stranger so long as he continued his connections with the undivided family in his capacity as a coparcener and this would be so irrespective of the fact that he might have made a contribution to the partnership in his individual capacity from his separate funds. There could, there ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... with the family funds and to be able to do this it is not necessary for him to separate from the family. This decision of the Judicial Committee was it terms referred to and approved by the Supreme Court in Bhagat Ram's case. The question in that case was whether there was a change in the persons carrying on business within the meaning of section 8(1) of the Excess Profits Tax Act, 1940, and the question arose in the context of the following facts. The firm of Bhagat Ram Mohanlal originally had three partners. One of the partners, holding eight annas share, was the Hindu undivided family known by the same name. One Mohanlal was the karta of the said joint Hindu family which consisted of himself and his two brothers Chhotalal and Bansilal. In the accounting years ending 1943 and 1944, the firm made profits on which it was assessed to excess profits tax. During the year ending 1945, however, it sustained a loss and acting under section 7 of the Excess Profits Tax Act, the concerned officer set off the profits of the firm for the years ending 1943 and 1944, against the deficiency of profits during the year ending 1945. Under section 8 of the said Act, such relief could not have been ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ir joint status and carrying on business as partners in respect of those properties treating them as its capital. But in the present case, the basis of the partnership agreement of 1940 is that the family was joint and that Mohanlal was its karta and that he entered into the partnership as karta on behalf of the joint family. It is difficult to reconcile this position with that of Chhotalal and Bansilal being also partners in the firm in their individual capacity, which can only be in respect of their separate or divided property. If members of a coparcenary are to be regarded as having become partners in a firm with strangers, they would also become under the partnership law partners inter se, and it would cut at the very root of the notion of a joint undivided family to hold that with reference to coparcenary properties the members can at the same time be both coparceners and partners. " It would appear that the principle of law laid down by the Judicial Committee, namely, that the karta of a joint Hindu family could enter into partnership with an individual member of the coparcenary in respect of his separate property was quoted with approval by the Supreme Court at two places ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... amberdas was to have eight annas share and the two sons were to have four annas share each respectively in the profits or losses of the partnership. An application was made by the partnership firm for registration under section 26A of the Income-tax Act. The application was rejected by the Income-tax Officer and he brought to tax the whole of the income from the business in the hands of the Hindu undivided family. On appeal, the Appellate Assistant Commissioner held that there was no firm which could be granted registration and that the business belonged to an association of persons consisting of the Hindu undivided family and its two coparceners in their individual capacity. Though registration was not granted to the firm, the assessment made upon the Hindu undivided family was, in conformity with the said finding, set aside by the Appellate Assistant Commissioner. On further appeal, the Tribunal restored the decision of the Income-tax Officer. At the instance of the partnership firm and the Hindu undivided family, reference was made to the High Court and one of the questions referred was whether Ramanlal and Jayantilal in their personal capacity and Pitamberdas as the karta of th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Such a situation, as laid down by the Supreme Court, is not permissible and such a partnership is not one which can be constituted under law. " In order to appreciate correctly the ratio of this decision it would have to be borne in mind that two facts were clearly found in that case ; first, that the business in the hands of Pitamberdas was an ancestral business and, secondly, that the sums of Rs. 10,001 gifted by Pitamberdas to Ramanlal and Jayantilal and put by them into the business also belonged to the Hindu undivided family. The net effect of these findings was that Ramanlal and Jayantilal put into the partnership only the said two sums, that they did not contribute to the alleged partnership what was their separate property unconnected with the family and that the entire capital of the said firm in substance and effect continued to be contributed by the Hindu undivided family. The business, therefore, retained its ancestral character and coparceners became partners in it without putting in their separate property. It is against the background of these facts that it was held by this court that the partnership in that case was invalid and, with respect, rightly, since the a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... received by them while in the employment of the ancestral business, Anubhai saved an amount of Rs. 4,812.12 and Rajnikant had saved an amount of Rs. 3,746.19. The remuneration received by each of them was treated as his separate income and it was assessed to income-tax in their respective hands in individual capacity. The remuneration which they received from the family firm was earned by them on account of their personal skill, experience and labour and without the use or help of joint family funds. In these circumstances, it cannot be disputed and it was indeed not disputed that the saving which each one of them made from the salary income constituted separate and individual property in the hands of each of them. As regards the second aspect, we will have to look at the substance of the transaction in order to determine whether the partnership was formed with reference to or in respect of the separate property of each of the said two coparceners. The substance of the transaction can only be ascertained by taking an integral view of the terms and conditions of the partnership and the actual conduct of the parties at or about the time when the partnership came into existence. Now, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ct bring into the partnership their separate property for being utilised in the business of the partnership. It would thus appear that in substance this is a case where two coparceners in their individual capacity entered into partnership with the karta while still retaining their joint status by putting into the partnership what was undisputedly their separate property for the enjoyment of its benefit. The case, therefore, falls squarely within the principle enunciated in Lachhman Das's case by the Judicial Committee and the partnership cannot be said to be invalid on the ground that it violated any well-established rule or principle of Hindu law. On behalf of the revenue it was strenuously urged that the partnership was not genuine since various terms and conditions incorporated in the partnership deed revealed that the business still retained its ancestral character and that the transaction in substance was an attempt or a device to enable the coparceners in their individual capacity to participate in the profits of a joint family business. The argument, in other words was that in the guise of partnership, in substance and effect, the transaction was one entered into with a vi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tnership Act. In our opinion, therefore, there is no substance in this argument. It was next urged that this case falls within the mischief of the rule enunciated by the Supreme Court in Bhagat Ram's case. It was urged that, if the partnership in this case were to be held valid, it would cut at the root of the notion of a Hindu undivided family since it would amount to holding that, with reference to coparcenary properties, the members at the same time can be both coparceners and partners. Reliance was placed on the following observations in Bhagat Ram's case in support of this argument : " But even apart from this, it is difficult to visualise the situation which the appellant contends for, of a Hindu joint family entering into a partnership with strangers through its karta and the junior members of the family also becoming at the same time its partners in their personal capacity ...... If members of a coparcenary are to be regarded as having become partners in a firm with strangers, they would also become under the partnership law partners inter se, and it would cut at the very root of the notion of a joint undivided family to hold that with reference to coparcenery propertie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ation on the part of the two coparceners to contribute to the capital or working funds of the partnership and since there was no such obligation in the present case, it could not be said that the partnership was entered into with reference to or in respect of the separate or divided property of the coparceners. We do not think that this contention is well-founded. The decision of the Judicial Committee does not in terms lay down any such proposition nor does it follow by necessary implication from the observations made or facts found in that case. That apart, the question is one of substance rather than of form. Even in a case where it is obligatory on the coparcener under the partnership deed to contribute to the capital or working funds of the partnership, the partnership may still be not valid if in fact no contribution is made by him. On the other hand, in a case like the present, where enjoyment of the benefit of the separate property of each coparcener by its investment in the partnership firm is one of the objects in contemplation of the parties and the said object is in fact carried out by the coparceners by putting into the partnership their respective separate property, t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... record to show that the amount put into the partnership by the two coparceners was insignificant as compared to the contribution of the Hindu undivided family to the capital of the firm. In any event, there is no finding to that effect. That apart, the quantum of contribution by itself cannot determine the validity or otherwise of the partnership unless possibly it can be said ex facie that it is so insignificant as to amount to a colourable device to defeat the prohibition against such partnership enunciated in the Hindu law. In our opinion, therefore, on the facts and circumstances of the present case, the partnership between Chimanlal on the one hand and Anubhai and Rajnikant on the other was a valid and genuine partnership, since the latter two had put into the partnership their separate property acquired by them without detriment to the Hindu undivided family and the partnership was formed, inter alia, with the object in contemplation that the two coparceners might enjoy the benefit of their separate property by its investment in the firm. In this view of the matter, it is not necessary for us to enter upon a consideration of the alternative argument urged on behalf of the a ..... 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