TMI Blog1985 (11) TMI 21X X X X Extracts X X X X X X X X Extracts X X X X ..... Ratanlal Rajgarhia and Maniklal Rajgarhia, alone was managing the business. The partnership firm set up in 1953 consisted of Ram Ratanlal Rajgarhia and Maniklal Rajgarhia, as partners. Five others who were their minor children were admitted to the benefits of the partnership. While assessing the firm during the relevant assessment years, the firm claimed deduction of salary and interest paid to Ram Ratanlal Rajgarhia and Maniklal Rajgarhia. These salary and interest payments were paid to them by the firm besides their share of profits of the firm. The Income-tax Officer rejected the claim of deduction of salary and interest payable to them. According to the Income-tax Officer, section 40(b) was a bar to deduction of salary and interest paid to the partners. The stand of the assessee-firm was that the Hindu undivided families of Ram Ratanlal Rajgarhia and Maniklal Rajgarhia were partners of the firm and representatives of the Hindu undivided family being their respective kartas. Their claim was that just as salary or interest could have been paid to any stranger and the firm would be entitled to deduct those sums as business expenditure, the payment of salary and interest to them ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rm, they were the partners. The payments were made to them qua partners. The payment was nothing but a special payment out of the profits. The matter is now beyond the pale of controversy. Payments of salary cannot be allowed to be deducted. In CIT v. R. M. Chidambaram Pillai [1977] 106 ITR 292, the Supreme Court held that payment of salary to a partner represents a special share of the profits and that salary paid to a partner retains the same character as income of the firm. Salary being. Part of the profit, there is no justification for deducting it from the taxable income. The object of section 40(b), which was section 10(4)(b) of the 1922 Act, was to pre-empt partners siphoning off substantial profits in the guise of salary and so arranging such distribution of income by salary that tax evasion becomes legally protected. The view that I have taken finds support in A. S. K. Rathnaswamy Nadar Firm v. CIT [1965] 58 ITR 312 (Mad), Giridharilal Ghasiram v. CIT [1968] 69 ITR 890 (Cal), CIT v. Jainarain Jagannath [1945] 13 ITR 410 (Pat) and V. D. Dhanwatey v. CIT [1968] 68 ITR 365 (SC). I have, therefore, not the least doubt that the salary paid to Ram Ratanlal Rajgarhia and Manikl ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Tribunal in this behalf. If such a finding had been recorded, some of our botheration would have been reduced. I shall, therefore, proceed on the assumption that they were partners as representatives of their Hindu undivided families. Let us see how matters stand. The Appellate Assistant Commissioner, in his order dated August 23, 1972 (annexure-B), has observed as follows : " 3. The Income-tax Officer has disallowed an interest of Rs. 95,384 as paid by the appellant firm to its partners. It is claimed that a portion of Rs. 95,384 has been paid to such persons as are, though partners in the firm, yet the interest has been paid on such amounts of those persons as do not constitute their capital investment in the firm but on amounts belonging to them in their individual capacity. I asked the learned advocate to prove it and to bifurcate, according to the appellant, such two types of interest. The appellant has evidently failed to prove his case. Therefore, this disallowance of interest of Rs. 95,384 is confirmed as justified. " The observation of the Appellate Assistant Commissioner that the assessee failed to bifurcate the two payments of interest is rather significant. On the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... undivided family. The payment made to the Hindu undivided family account, i.e., the capital account, therefore, may be treated as interest paid to partners, but interest paid to the separate interest account of the two brothers was interest paid to them on their individual investments entirely distinct from that of the Hindu undivided family just as any stranger could make advance to the firm and receive interest thereon, the two partners also received interest as strangers. On that basis, the interest paid into the separate individual accounts of the partners had to be deducted from the total income of the firm of which they were partners. There can be no doubt that a partner may have a dual personality one as an individual and another as a representative of a Hindu undivided family. But the duality of his personality does not solve the problem. Whatever may be his personality in relation to his Hindu undivided family, he remains a mere partner for the partnership and no more. The entire controversy, if it could be said to exist, veers round the question whether a Hindu undivided family can be a partner. In CIT v. Kalu Babu Lal Chand [1959] 37 ITR 123 (SC), S. R. Das C.J. laid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... question whether the amount received by the karta by way of managing director's remuneration in the one case or as his share profits in the partnership business in the other case is his personal income or is the income of his Hindu undivided family cannot arise as between the company and the karta as the managing director or between the outside partners and the karta as a partner. Neither the company nor the outside partners, as the case may be, is or are interested in such a question. Such question can arise only as between the karta and the members of his family and the answer to the question will depend on whether the remuneration or profit was earned with the help of joint family assets." The law was thus succinctly laid down that a Hindu undivided family cannot be a member of a partnership. Whatever may be the relationship between the Hindu undivided family and its karta, it was a matter of no concern for the partnership. If the status of the karta is immaterial for the partnership, it must be axiomatic that the income-tax law cannot take note of the personality of a partner being the karta of a Hindu undivided family. The karta is the partner and will be taken as such and ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 6] 29 ITR 521 (SC), the Supreme Court ruled that (at p. 525): " It is well settled that when the karta of a joint Hindu family enters into a partnership with strangers, the members of the family do not ipso facto become partners in that firm. They have no right to take part in its management or to sue for its dissolution. The creditors of the firm would no doubt be entitled to proceed against the joint family assets including the shares of the non-partner coparceners for realisation of their debts. But that is because under the Hindu law, the karta has the right when properly carrying on business to pledge the credit of the joint family to the extent of its assets, and not because the junior members become partners in the business. In short, the liability of the latter arises by reason of their status as coparceners and not by reason of any contract of partnership by them." It would be relevant to refer to the decision of the Supreme Court in CIT v. Bagyalakshmi and Co. [1965] 55 ITR 660 (SC). In that case, it was observed that (p. 664): " A contract of partnership has no concern with the obligation of the partner to others in respect of their shares of profit in the partners ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nce again before the Supreme Court in Agarwal and Co. v. CIT [1970] 77 ITR 10. This was a case of registration of a partnership firm. The registration had been refused on the ground that the partnership was unlawful. That was a case where registration of firm had been refused on the ground that some partners of the assessee-firm had entered into the partnership as representatives of their respective Hindu undivided families. The adult members of those families exceeded twenty. Since it had not been registered as a company under the Companies Act, the question was whether the partnership was unlawful. On a difference of opinion between Sahai and Beg JJ., Takru J. answered the question in favour of the Revenue. Before the Supreme Court it was urged on behalf of the assessee that no Hindu joint family as such can join a partnership and since it was " now well settled that when the karta of a Hindu undivided family joins a firm as a partner even if he contributes his share from out of the family funds, the other members of his family do not ipso facto become partners of that firm. So far as the partnership is concerned, he is the only partner though he may be accountable to the members ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... review of the case law it was laid down as follows (at p. 119): " The question as to whether payment made to a partner is assessable as his own income or as the income of the HUF, of which he is the karta, depends on different considerations. It has no reflection or effect on the applicability of section 40(b), which covers payments made by the firm to its partners. Section 40(b) is not concerned with, and hence cannot be affected by the consequential assessment of the payment made by the firm either in the hands of the karta individually or of his HUF. " The Allahabad High Court decision is on all fours with the case before us. I am in respectful agreement with the view of Satish Chandra C.J. when it was observed that : " The interest paid by the firm to the partners either on the amounts brought by them from their respective HUF funds, or brought from their own individual funds, is in either case payment of interest to the partners. Both these kinds of payments are within the purview of section 40(b), and are inadmissible as a deduction in the assessment of the firm. " The Delhi High Court also in Sanghi Motors v. CIT [1982] 135 ITR 359, held that (head note) : " bonus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Shri C. S. Virani does not call for consideration and he need be treated only as a partner and if so treated, whatever is paid as interest to Shri C. S. Virani irrespective of the character in which such payment is made is to be disallowed on account of section 40(b) of the Act. This approach would assume that, so far as the Revenue is concerned, the Revenue cannot take note of the capacity in which a person happens to be a partner of a firm. Such an approach is unsustainable in law, for whatever may be the obligations as between the partners, arising out of a contract, so far as the Revenue is concerned, it is the real character of the partner who is assessed that would be relevant for assessment Purpose. If Shri C. S. Virani is a partner as representing HUF, at all times the Revenue can only treat him as representing the HUF, whatever may be the rights of the other partners in the firm as against him. If so, when Shri C. S. Virani as representing the HUF has advanced funds of the HUF to the firm and interest thereon is paid to the HUF, it is interest paid to Shri C. S. Virani, the partner. If he advances amounts from his individual account when he is a partner as representative o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n by the Allahabad High Court and the Delhi High Court in CIT v. London Machinery Co. [1979] 117 ITR 111 and Sanghi Motors v. CIT [1982] 135 ITR 359), respectively, based as they are on a series of decisions of the Supreme Court. Lastly, learned counsel for the assessee placed reliance on a Division Bench decision of the Andhra Pradesh High Court in Terla Veeraiah v. CIT [1979] 120 ITR 502. For the reasons indicated by me, I regret I have to dissent from it. The case before us is more in accord with another decision of the Andhra Pradesh High Court in Addl. CIT v. K.G. Narayanaiah Chetty Co. [1977] 106 ITR 286, in which also payment of interest was disallowed. In this case also I am of the view that the bifurcation of one and creation of two accounts was a ruse to escape the provisions of section 40(b) of the Income-tax Act, 1961. From a resume of the decisions referred to above, I have not the least doubt that the interest paid to the partners in whatever capacity it was paid to them could not be allowable deductions. The Tribunal was absolutely correct in refusing the deductions claimed by the assessee. The first question referred to us is answered accordingly. The second ..... X X X X Extracts X X X X X X X X Extracts X X X X
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