JUDGMENT

K. Venkataswami, J.-The question that has been referred to this Court under Section 257 of the Income Tax Act, 1961 (hereinafter called "the Act") reads as follows:

"Whether on the facts and circumstances of the case, the assessee s claim to the benefit of clause (b) of Section 40 of the Income Tax Act, 1961 has been rightly disallowed?.

2. The assessment year in question is 1976-77. The case of the assessee firm was that M/s. Shanti Kumar Jain, Asok Kumar Jain, Raj Kumar Jain and Niranjan were partners in the firm in their capacity as Karta of respective HUF. They have advanced monies to the assessee firm in their individual capacity. The assessee firm paid interest to them on the investments made in their respective individual capacity. It is the further case of the assessee firm that it has maintained two separate ledger accounts of the partners; one of individual as loan creditor and another of Karta of HUF as partners in the firm. The sources of the money, according to the assessee, are quite separate. The assessee firm claimed that the interest paid to them shall not be included while computing the income chargeable under the head "profits and gains of business or profession". Notwithstanding such claim, the Income Tax Officer applied Section 40(b) of the Act and completed the assessment by Order dated 29.1.1978. The result was that the interest paid to the partners in the circumstances stated above was included under the head "profits and gains of business of profession.

3. On appeal to the Appellate Assistant Commissioner, the assessment was confirmed by an Appellate Order dated 27.8.1980. Still aggrieved, the assessee firm preferred further appeal to the Income Tax Appellate Tribunal. The Tribunal relying upon an unreported decision of the Patna High Court in, M/s. Makhan Lal Harnarayan v. Commissioner of Income Tax, Bihar1, confirmed the view taken by the Income Tax Officer and upheld by the Appellate Assistant Commissioner. In view of the divergence of view among the High Courts on the application of Section 40(b) of the Act, the issue has been referred to this Court.

4. We have heard counsel on both sides.

5. Under identical circumstances, this Court in M/s. Brij Mohan Das Laxman Das v. Commissioner of Income Tax. Amritsar2, had occasion to consider an identical issue. Jeevan Reddy, J. speaking for the Bench after noticing the subsequent amendment to Section 40 by Taxation Laws (Amendment) Act, 1984, under which Explanation (2) inter alia has been added, has observed as follows:-

In Gajanand Poonam Chand v. Commissioner of Income tax (1984) 174 I.T.R. 346, the Rajasthan High Court has taken a view that the said Explanation is merely declaratory in nature and that, therefore, even for the assessment years prior to April 1, 1985, the position of law should be understood to be the same. In support of this proposition, the High Court relied upon the fact that ordinarily the purpose of an explanation is to clarify that which is already enacted and not to introduce something new. The High Court opined that the Explanation was inserted by the Parliament with a view to settle the controversy as to the meaning and effect of the said clause among the several High Courts and that the Explanation puts a seal of approval on the view taken by the majority of the High Courts. The High Court also referred to the definition of "person" in clause (31) of Section 2. It pointed out that the definition shows clearly that an individual, a H.U.F. and a firm are distinct persons/entitles for the purpose of the Income Tax Act. The High Court, therefore, concluded that since an individual and a H.U.F. are two distinct entitles for the purpose of the Act, clause (b) of Section 40 has no application where the interest is paid to the partner on deposits made

2. JT 1997(1) SC 155 : 1997(1) Supreme 661.

by him with the firm in his individual capacity where such person is a partner not in his individual capacity but as