Commissioner of Income Tax vs K.S. Narayanan

M.N. Chandurkar, C.J.—At the instance of the Revenue, the following two questions have been referred to this court u/s 256(1) of the

Income Tax Act, 1961 :

Whether, on the facts and in the circumstances of the case, the deduction u/s 80K should be allowed on the gross dividend income before

deduction of interest and brokerage or on the net dividend income ?

Whether, on the facts and in the circumstances of the case and having regard to the provision of section 64(1)(iii) of the Act, the Appellate

Tribunal was right in deleting the assessee''s wife''s share income from the firm of M/s Sunmar Estates and Investments clubbed with the income of

the assessee ?

In the assessment for the assessment year 1973-74, the question was whether relief u/s 80K of the Income Tax Act, 1961, should be granted on

the net dividend income or on the gross dividend income. The Income Tax Officer had held that the relief should be granted on the basis of the net

dividend income, while the Appellate Assistant Commissioner held that the relief should be granted on the gross dividend income. The Tribunal, in

the appeal filed by the Revenue, followed two decisions of this court, one in Madras Auto Service Vs. Income Tax Officer, and the other in

Commissioner of Income Tax Vs. Madras Motor and General Insurance Co. Ltd., and held that the reliefs under sections 80K and 80L should be

computed on the gross dividend income.

The assessee had gifted his house property at No. 3, Cathedral Road, Madras, and land appurtenant thereto to his wife on June 29, 1966. The

wife continued to be the owner of the property till July 5, 1971, on which date she and her two sons formed a partnership, each having equal share

in the profit and loss in the partnership business. The business of the partnership was that of acquiring, developing and holding and letting out

properties and also dealing in shares and securities and acting as financiers and such other business as may be agreed upon among the partners

from time to time. The capital of the partnership was to be Rs. 1,20,000 to be contributed equally by each of the three partners. The agreement of

partnership also provided that the house which was gifted by the assessee to his wife was to be treated as an asset of the partnership. The account

of the assessee was to be credited with a sum of Rs. 4,80,000 towards the value of the house besides the sum of Rs. 20,000 towards the value of

the furniture and fittings. Out of this sum of Rs. 5,00,000, a sum of Rs. 40,000 was to be adjusted towards capital and the balance of Rs.

4,60,000 was to be credited to the loan account of the wife which was to carry interest as may be agreed. The interest on the amount credited to

the loan account of the wife of the assessee amounting to Rs. 26,600 was clubbed with the assessee''s income u/s 64(1)(iii) of the Income Tax Act,

1961. The Income Tax Officer also clubbed the wife''s share of profits from the firm with the income of the assessee by invoking the same

provision. This clubbing of interest income with the income of the assessee was confirmed by the Appellate Assistant Commissioner. He, however,

held that the share income from the partnership firm could not be clubbed with the income of the assessee. In the appeal by the Revenue, the

Tribunal took the view that though the share of profits from the partnership firm had some connection with the gift made by the assessee to his wife,

it did not arise as a result of the gift and since the connection between the income earned and the asset transferred by the assessee to his wife is

remote and not proximate, the share of profit earned by the wife by investing the amount gifted to her by her husband in a firm as a partner cannot

be included in the income of the husband. The Tribunal further took the view that the income derived by the partnership firm was not entirely due to

the investment of the gifted money and several other factors operated for the earning of the income and the entire activities of the firm not only in

the year of account in which the partnership deed came into existence but with reference to the subsequent years should also be taken into

account. Accordingly the share of the wife in the profits of the partnership was excluded from clubbing the same with the income of the assessee.

Arising out of this order of the Tribunal, the above-mentioned two questions have been referred to this court u/s 256(1) of the Income Tax Act,

1961.

Learned counsel appearing on behalf of the Revenue has vehemently contended that undoubtedly the question as to whether for the purpose of

section 80K, the deduction has to be computed with reference to the net amount of dividend or the gross amount of dividend is concluded in so far

as this court is concerned by the decision of this court in Madras Auto Service Vs. Income Tax Officer, . But the learned counsel pointed out that

the Supreme Court has now taken a different view in regard to the provisions of section 80M of the Income Tax Act, 1961, and has reversed the

earlier decision of the Supreme Court in which the Supreme Court had, with reference to section 80M, also held that for the purpose of section

80M, the deduction must be made with reference to the gross dividend income and not the net dividend income. Therefore, according to the

learned counsel, the decision in Madras Auto Service Vs. Income Tax Officer, , must be held to be no longer good law. A similar argument

advanced on behalf of the Revenue has been considered at length by this court in an elaborate judgment in T.C. No. 1422 of 1977 decided on

December 16, 1985 COMMISSIONER OF Income Tax Vs. MADRAS MOTOR AND GENERAL INSURANCE CO. LTD., . This court

had referred to the decision of the Supreme Court in Distributors (Baroda) Pvt. Ltd. Vs. Union of India (UOI) and Others, in which the Supreme

Court has expressly held that Cloth Traders (P) Ltd. Vs. Additional Commissioner of Income Tax , Gujarat-I, has not been correctly decided.

Notwithstanding this later decision of the Supreme Court, this court has taken the view, and with respect we concur with that view, that the validity

of the decision of this court in Madras Auto Service Vs. Income Tax Officer, does not seem to be affected.

In Distributors (Baroda) Pvt. Ltd. Vs. Union of India (UOI) and Others, , the Supreme Court has referred to the two earlier decisions of this

court in Commissioner of Income Tax Vs. Madras Motor and General Insurance Co. Ltd., and Madras Auto Service Vs. Income Tax Officer,

and observed as follows with reference to those two decisions and two other decisions, namely, one the decision of the Calcutta High Court in

Commissioner of Income Tax Vs. Darbhanga Marketing Co. Ltd., and the other of the Bombay High Court in Commissioner of Income Tax Vs.

New Great Insurance Co. Ltd., :

We may point out that some doubt was raised on behalf of the Revenue in regard to the correctness of this view taken by the three High Courts,

but we do not think it necessary to consider whether this doubt is well founded or not because we are of the view that even if the construction

placed on clause (iv) of sub-section (1) of section 99 by the three High Courts were correct, it cannot necessarily lead to the conclusion that a

similar construction must also be placed on section 80M which is different in material respects from clause (iv) of sub-section (1) of section 99.

The judgment of the Supreme Court in Distributors (Baroda) Pvt. Ltd. Vs. Union of India (UOI) and Others, shows that that was restricted only

to the construction of section 80M of the Income Tax Act, 1961, as will be clear from the following observations at page 131 :

It is section 80M which has to be construed and this section, as we shall presently show, is materially different from section 85A. We cannot

construe section 80M in the light of the interpretation placed on its predecessor section by the Bombay High Court particularly when section 80M

is admittedly worded differently from its predecessor section. We must construe section 80M on its own language and arrive at its true

interpretation according to the plain natural meaning of the words used by the legislature.

The judgment of the Supreme Court must, therefore, be construed as dealing only with the construction of section 80M and does not create any

infirmity in the view taken by this court in Madras Auto Service Vs. Income Tax Officer, . Apart from that, it must also be pointed out that

Parliament has now introduced section 80AA and section 80AB by Finance Act 2 of 1980. Section 80AA is restricted only to ""computation of

deduction u/s 80M"" and section 80AB deals with deduction required to be made or allowed under any other section except section 80M included

in Chapter VI-A of the Income Tax Act. It has to be noted that while section 80AA was with retrospective effect from April 1, 1968, section

80AB was not given such retrospective operation but came into operation only from April 1, 1981. The deduction permissible u/s 80K will,

therefore, be governed not by section 80AA but by section 80AB. Parliament must be deemed to be aware of the construction put on section

80K by different courts in this country and yet Parliament did not think it fit to supersede this construction by an express statutory amendment

rendering those judgments ineffective retrospectively. Therefore, this court has taken the view that prior to the assessment year 1981-82,

Parliament accepted the construction with regard to section 80K placed upon it by different courts. There is, therefore, no justification for not

following the earlier decision of this court in Madras Auto Service Vs. Income Tax Officer, . Accordingly question No. 1 has to be answered in the

affirmative and against the Revenue.

In so far as question No. 2 is concerned also, the matter is concluded by a decision of this court in Commissioner of Income Tax Vs. S.

Chandappa Iyer (died) and Others, . That was a case in which the assessee had gifted a sum of Rs. 60,000 to his wife who entered into a

partnership with her son and the amount gifted was contributed as her capital to the firm, and the question was as to whether the share of the wife

in the firm should be assessed in the hands of the husband. The Tribunal had held that the wife was a partner in the firm not because of her capital

contribution and hence the inclusion of her share in the firm other than the interest on the sum contributed by her as capital was not justified. This

view was upheld by this court and it was held that the income earned by the wife was referable to her being a member of the firm in her own right

and hence was not includible in the hands of the husband. The present case is on all fours with the earlier decision of this court in Commissioner of

Income Tax Vs. S. Chandappa Iyer (died) and Others, . Accordingly the second question must also be answered in the affirmative and against the

Revenue.

The two questions referred in this case are accordingly answered as follows :

Question No. 1 in the affirmative and against the Revenue.

Question No. 2 in the affirmative and against the Revenue.

The assessee will be entitled to his costs. Counsel''s fee Rs. 500.