1986 Supreme(MP) 293
C.P.SEN, S.S.SHARMA, B.C.VARMA
COMMISSIONER OF INCOME TAX – Appellant
Versus
NARBHARAM POPATBHAI AND SONS – Respondent
Advocates Appeared:
B.K.Rawat, B.L.NEMA,
Judgement Key Points
- A Full Bench was constituted to resolve conflicting opinions on the application of Section 40(b) regarding the deductibility of interest paid to a partner of a firm. (!) (!)
- The reference question concerns whether interest paid by the firm on the credit balance in the individual account of a partner, who was a partner in a representative capacity as karta of a Hindu undivided family, is allowable as a deduction. (!) (!)
- Sections 30 to 39 provide for deductions in computing income from business or profession, but Section 40(b) disallows payments of interest, salary, bonus, commission, or remuneration made by a firm to any of its partners. (!) (!)
- The provision in Section 40(b) aims to prevent the siphoning off of profits through payments to partners in forms such as interest or remuneration, which would otherwise be allowable under Section 37. (!) (!)
- A partner may act in a dual capacity: personally qua the partnership and representatively qua third parties, such as a Hindu undivided family. (!)
- Explanations 2 and 3 to Section 40(b), added by amendment effective from 1-4-1985, clarify that interest paid to a partner in a representative capacity on monies lent individually, or vice versa, is not to be disallowed under Section 40(b). (!) (!)
- These explanations confirm that interest paid to a partner in a capacity different from that of partnership is deductible and not hit by Section 40(b). (!)
- Where a karta, representing a Hindu undivided family as partner, advances individual funds to the firm and receives interest thereon, such interest is allowable as it is paid not as partner but as a lender. (!) (!) (!)
- The 1984 amendment explanations are clarificatory and apply retrospectively, supporting the view that interest in different capacities is deductible. (!) (!) (!)
- Earlier views holding that any payment to a partner is disallowable regardless of capacity are incorrect in light of the explanations. (!) (!) (!)
- Interest paid by a firm to a partner in a representative capacity on individually lent monies is not disallowable under Section 40(b). (!)
JUDGMENT :
( 1. ) THIS Full Bench has been constituted for resolving the conflict in two sets of opinions by different High Courts regarding application of Section 40 (b) of the Income-tax Act in respect of payment of interest to the partner of a firm as a non-allowable or allowable deduction. In fact, there are two conflicting decisions of this court in Jalamchand Mangilal vs. CIT 138 ITR 343 and 347 and in Balchand Hashmatrai and Co. vs. CIT 161 ITR 121 which have been noticed by this Court in Sobhagmal phoolchand vs. CIT 53 CTR 387 and the matter has been referred to the larger Bench. One set of view is that irrespective of the capacity in which a person joins a partnership firm and is paid interest by the firm, Section 40 (b) is a bar to payment of interest to the partner of the firm as an allowable deduction, while the other set of view is that when the interest is paid to a partner in somewhat different capacity, the amount has to be deducted as an allowable deduction.
( 2. ) BRIEFLY fact of the present case is that reference has been made under Section 256 (1) of the Income-tax Act at the instance of Commissioner of Income-tax by the income-tax Appellate Tribunal, Nagpur Bench
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