TMI Blog1984 (4) TMI 40X X X X Extracts X X X X X X X X Extracts X X X X ..... UF was the sum of Rs. 36,482. These payments were disallowed by the ITO who relied on s. 40(b) of the I.T. Act, 1961, for adopting such a course. Similar interest paid during the assessment year 1971-72 was disallowed, that being a sum of Rs. 1,37,606 paid on Shri C. S. Virani's personal account and a sum of Rs. 1.3,929 paid on HUF account. The assessee took up the matter of assessments in appeal before the AAC but the claim in regard to disallowance of interest paid on account of the HUF was given up in appeal. The AAC rejected the claim of the assessee in regard to the disallowance of interest paid on the individual account held by Shri C. S. Virani and this was confirmed by the Incometax Appellate Tribunal on further appeal. The question that was referred to this court in the background of these facts is, whether the Tribunal was justified in law in confirming disallowance of Rs. 1,30,594 for the assessment year 1970-71 and Rs. 1,37,606 for the assessment year 1971-72, being interest paid to Shri C. S. Virani, individual, under s. 40(b) of the I .T. Act, 1961 ? When the reference came up before a Division Bench of this court, it was felt that the decision of this court in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... special provision was made in s. 40(b) to see that such payment of interest is taken out of the scope of " allowable expenditure ". Same is the approach towards salary, bonus, commission or remuneration. The case of the assessee, after he filed the appeal before the AAC, has all along been that though payment of interest on the advances made by the HUF could be disallowed, in view of the fact that Shri C. S. Virani was representing the HUF as partner in the firm, there is no justification for disallowance of interest payable to him, not in the capacity of the " karta " of the HUF which he represented, but on advances made from his own individual funds, properly shown as such in his individual account. Section 184 of the I.T. Act, 1961, deals with registration of a firm for the purpose of the I.T. Act. Assessment of a registered firm is dealt with in s. 182 of the said Act and the assessment of an unregistered firm is dealt with in s. 183. It may be profitable here to refer to certain definitions in the Act. A firm, a partner and partnership have been defined in s. 2(23) as having meanings respectively assigned to them in the Indian Partnership Act, 1932 (9 of 1932). But the ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... made to the partner concerned in the capacity in which he is such a partner. It is said that reading otherwise would defeat the very object of the section. It is further said that whatever disability there may be between partners to plead beyond the terms of the contract of partnership, there is no bar on the Revenue, while enforcing the law relating to income-tax, from recognising the reality and dealing with the assessee on the basis of that reality. In other words, while, as between partners, one partner will not be permitted to urge that though he is the partner appearing on the face of the agreement of partnership, it is not he who is really a partner, but the HUF which he represents, so far as the Revenue is concerned, there is no bar in treating the partner as representing a HUF and that being the, reality, in assessing in accordance therewith. As we noticed earlier, while all interest payments from the business should normally be treated as revenue expenditure or allowance in determining the net income of the assessee, the purpose for which s. 40(b) operates is evidently to prevent siphoning oft by a firm of any of its profits by payment of interest, sometimes inflated, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... divided family. In doing so, the income-tax law looks not to the provisions of the Partnership Act, but to the provisions of Hindu law. When once the family has disrupted, the position under the partnership continues as before, but the position under the Hindu law changes. There is then no Hindu undivided family as unit of assessment in point of fact, and the income which accrues cannot be said to be of a Hindu undivided family. " In the decision in CIT v. A. Abdul Rahim Co. [1965] 55 ITR 651, the Supreme Court had to consider whether a benamidar can, in law, be partner of a firm ; the benamidar has no beneficial interest in the property or business that stands in his name. He represents, in fact, the real owner. Referring to the Madras decision in Aruna Group of Estates, Bodinayakanur v. State of Madras [1965] 55 ITR 642, the Supreme Court expressed the view that the benami character did not affect the benamidar's capacity as partner or his final relationship with the other members of the partnership. In this case, the court said (p. 658): " If so, what is the principle of law which prohibits the benamidar of a partner from being also a partner along with the said partner wi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in respect of their shares of profit in the partnership. It only regulates the rights and liabilities of the partners. A partner may be the karta of a joint Hindu family; he may be a trustee he may enter into a sub-partnership with others; lie may, under an agreement, express or implied, be the representative of a group of persons ; he may be a benamidar for another. In all such cases he occupies a dual position. Qua the partnership, he functions in his personal capacity; qua the third parties, in his representative capacity. The third parties, whom one of the partners represents, cannot enforce their rights against the other partners nor can the other partners do so against the said third parties. Their right is only to a share in the profits of their partner-representative in accordance with law or in accordance with the terms of the agreement, as the case may be. If that be so, Guruswamy Naidu could have validly entered into a genuine partnership with others taking 10 annas share in the business, though in fact as between the members of the family he has only a 2 annas share therein. He would have been answerable for the profits pertaining to his share to the divided members of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s. In a case where one of the partners represents a HUF or is trustee of a trust, the members of the family or the beneficiaries in the trust, as the case may be, cannot exercise rights which their representative can exercise as against the other partners. They cannot sue on behalf of the firm for settlement of accounts and cannot exercise any rights as against the other partners as if they are themselves the partners in the partnership firm. This is not to say that they have no rights at all arising from the fact that the partner is their representative. They can make their representative accountable to them. They can seek to enforce his obligations and the representative will be bound to observe all obligations which law casts on him as such representative. Where one of the partners is really a representative of others, third parties are not barred from dealing with him in his representative capacity, for, they are not parties to the contract of partnership. The Revenue is in no way precluded from dealing with the partner as a representative if he is one such, as for instance, where he is a 'karta' of a HUF. The income derived by him as a partner would really be income of the HUF ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... --------------------------------------------------------------------------------------- Name of the assessee Share Profit Interest Total --------------------------------------------------------------------------------------------------------------------------------------------------- Rs. Rs. Rs. 1. Shri Chhotalal S. Virani (HUF) 1/4th 43,027 3,330 1,37,606 ----------------- 1,40,936 1,83,963 2. Shri Shubba Trust 1/4th 43,026 3,533 46,559 3. Shri Chhotalal Trust 1/4th 43,026 3,533 46,559 4. Shri Priyavanda Trust 1/4th 43,026 3,533 46,559 ---------------- ----------------- ---------------- Total 1,72,105 1,51,535 3,23,640 ---------------- ----------------- ---------------- We are only pointing out that rightly the ITO has noticed in the order under s. 158 that Shri C. S. Virani is representing the HUF. The Revenue is not precluded from looking into the real character of the partner and the capacity in which he represents himself in the partnership firm. If that be so, for the purpose of s. 40(b) the I.T. Act, 1961, is the Revenue to take note of the representative character of the assessee and make disallowance falling within the section i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the income-tax authorities are to act on the basis of real facts and not on any assumptions, then, for the purpose of s. 40(b), they will have to consider the HUF as represented by Shri C. S. Virani as the partner and if that is so, what is paid to Shri C. S. Virani as representing HUF by way of interest will alone fall within the section. We had the benefit of hearing in this case besides Mr. K. C. Patel, counsel for the assessee, and Mr. B. R. Shah, counsel for the Revenue, Mr. N. R. Divatia, who intervened apprehending that what may be observed in this case may be of consequence to his clients in other cases and, therefore, he must have a hearing. We are happy to have his assistance in the case. Evidently, the anxiety of the counsel is that the earlier decision in CIT v. Sajjanraj Divanchand [1980] 126 ITR 654 (Guj), should be sustained and what we may say here may not detract from the authority of that decision. It is necessary to advert to the facts of that case. The assessee was a registered firm doing business in cloth. It had three partners, one of whom, Sajjandas Jwaladas, had joined the partnership in his capacity as the " karta " of the joint Hindu family of Sajjandas ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rom going into that question and have to treat the partner whose name appears in the partnership as the only person who is to be treated as partner, then the result may perhaps be that the amounts paid into his accounts, whether it be into the HUF account standing in his name or his personal account, both, will have to be disallowed as falling under s. 40(b) of the Act, a situation which may perhaps be to the advantage of the Revenue. Once we accept the situation that contracting partners alone are bound by the terms of the contract and it is open to the Revenue to see the partner as he really is, it goes without saying that when he represents a HUF the interest paid to HUF has to be disallowed and not any interest paid into his individual account as interest in lieu of advance made by him personally. Even if he happens to be the " karta " of the HUF but he becomes a partner in his own account and amounts are advanced to the firm by him from his individual account and also by the HUF, the amount of interest paid to the HUF account cannot be disallowed, while the interest paid in his account has to be disallowed. That is not the situation here. We are not persuaded to agree with t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... inion which may support the view expressed in CIT v. Pannalal Hiralal Co. [1984] 146 ITR 549 (Bom). We are not proposing to go into the decisions concerning payment of salary to a partner, for such payment stands on a footing different from the payment of interest. Payment of interest on amounts lent to the firm can be traced either to the individual or to the representative body by tracing the nature of the funds advanced, but not so labour by a partner. Whether he works in the firm and receives salary as an individual or as a representative of the family cannot be known from the way he functions and, therefore, payment of salary must stand on a different footing. Before we close, we have to refer to a decision brought to our notice by Shri N. R. Divetia and on which considerable reliance has been placed by him in support of his stand that it is the interest paid to the HUF that must be disallowed even though the partner is in the firm in his representative capacity. We do not think that the decision of the Supreme Court in Rameshwarlal Sanwarmal v. CIT [1980] 122 ITR 1, relied on by the counsel, would be of any assistance in this case. That is a decision rendered in a differe ..... X X X X Extracts X X X X X X X X Extracts X X X X
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