M. Ct. Muthiah vs Commissioner of Income Tax

Ramanujam, J.—The assessee derived income from property as also from other sources. Besides, he was one of the two partners in a firm

called ""S.Rm. M.Ct.M. Firm "". That firm carried on money-lending business and also derived income from its house properties. In respect of the

years ending on April 12, 1958, April 12, 1960, and April 12, 1961, relevant for the assessment years 1958-59, 1960-61 and 1961-62, its

income from various sources was determined thus by the Income Tax Officer :

1958-59 1960-61 1961-62

Income from property Rs. 29,736 Rs. 31,308 Rs. 31,706

Business Rs. 5,455 Rs. 42,315 Rs. 53,163

(loss) (profit) (profit)

Foreign income Rs. 701 Rs. 18,507 Rs. 21,324

Dividend ... ... Rs. 4,640

Thereafter, the Income Tax Officer allocated the income of the firm under each head as determined above among the two partners as follows:

1958-59 1960-61 1961-62

Income from property Rs. 14,868 Rs. 15,519 Rs. 15,853

Business Rs. 2,723 Rs. 21,407 Rs. 26,581

(loss)

Foreign income Rs. 350 Rs. 9,254 Rs. 10,662

Dividend ... ... Rs. 2,320

The Income Tax Officer treated the said sums of Rs. 14,868, Rs. 15,519 and Rs. 15,853, being the assessee''s share of the firm''s property

income as the property income of the assessee in the respective years. This the assessee objected to on the ground that the whole of his share

income from the firm should be assessed as business income and not as property income, and that his unabsorbed business losses in the earlier

years should be set off against his share income from the firm. This objection was, however, rejected by the Income Tax Officer.

The assessee appealed to the Appellate Assistant Commissioner. The Appellate Commissioner also rejected the contention of the assessee that

his share income from the firm is income from business. The view taken by the Appellate Assistant Commissioner was that income from property

can never be classified as business income even in relation to a partner, as he was directly assessable in respect of his share in the firm''s income.

He also referred to Section 67(2) of the Income Tax Act, 1961, and stated that the said section being clarificatory, the principle thereof can

applied to the assessments in question.

The assessee appealed to the Tribunal contending that in law partnership could be formed only for carrying on a business and as such whatever

be the source of income for the firm, the share of a partner could only be business income. Reference was made by the assessee before the

Tribunal to various decisions in which the ""share income"" of a partner has generally been treated as ""business income"".

The Tribunal expressed the view that the decisions referred to by the assessee dealt with share income from partnerships whose--income was

exclusively from business, and that in none of them the character of the share income received by a partner from a partnership which had

composite income, as in this case, came up for consideration. After having held that those decisions are not quite helpful in deciding the question as

to whether the entire share income received by the assessee should be treated as business income, the Tribunal proceeded to say :

Implicit in the concept of a partnership or a firm is the idea of carrying on a business. There cannot be a partnership merely in respect of owning

house properties and realising rents therefrom. Therefore, when the firm itself could not be said to be carrying on business in respect of the income

from property, the partner does not stand in any better position. His share of income therefrom cannot be said to be from a business carried on by

him.

The Tribunal also referred to Section 67(2) of the 1961 Act as being clarificatory and stated that, in view of that provision, the share income of

the assessee in this case should be taken to have the same characteristics or nature as it had in the hands of the firm. In that view, the Tribunal

dismissed the assessee''s appeal.

At the instance of the assessee, the following question has been referred to this court:

Whether, on the facts and in the circumstances of the case, the assessee''s share income from property in the registered firm of S.Rm.M. Ct.M.''

was income from property or profits and gains of business ?

So far as the assessee is concerned, he has all along contended that the entire share income from the firm is only a business income. The

revenue, up to the stage of the Tribunal, contended that the income realized from its property by the firm retains the same character even in the

hands of the assessee and that it has to be assessed in his hands only as "" income from property"" u/s 9 of the Indian Income Tax Act, 1922. In this

court, the revenue raises a further contention that, strictly speaking the share income will not fall under any of the heads of income referred to in

Section 6 of that Act.

We can straightaway reject the view taken by the Tribunal that Section 67(2) is clarificatory in nature and as such it will have to operate in

respect of the assessment year, in question. Even if the said Section 67(2) is clarificatory in nature, still it cannot have a retrospective operation.

It is only where a statute is found to be declaratory, it could be said that it is intended to have a retrospective operation. Even otherwise, a

reading of Section 67(2) would show that the said section is neither clarificatory nor declaratory. It is a new provision inserted in the 1961 Act

directing the apportionment of the partner''s income under various heads of income in the same manner in which the firm''s income has been

determined under each head of income for purposes of assessment on the partner. Such a provision cannot have any retrospective operation. If it

is construed to have such operation, then, all earlier assessments made without such apportionment of partner''s share income would become

invalid. It is also not necessary for us to consider the correctness of the proposition stated by the Tribunal that there cannot be a partnership merely

in respect of owning house properties and realizing rents therefrom, for, admittedly in this case, the firm has been carrying on business in addition to

owning house properties and realizing income herefrom. Therefore, we have to proceed to decide the question referred in this case without

reference to Section 67(2) of the 1961 Act.

The learned counsel for the assessee contends that the decision of the Tribunal is not legally sustainable, that for bringing an income within

Section 9, the assessee must be shown to own the property from which the income was derived and that as the assessee does not own that

property from which the firm derived income, his share income cannot be treated as income from property under that section. According to the

learned counsel, the property from which the income has been derived by the firm is actually owned by the firm and, therefore, the income from

that property has to be assessed u/s 9 in the hands of the firm, and the aliquot share of that income coming into the hands of the assessee cannot

again be treated as ""income from property"". In support of this proposition, the learned counsel referred to the decision in Addanki Narayanappa

and Another Vs. Bhaskara Krishtappa and Others, . In that case the Supreme Court considered the nature of the interest of a partner in

partnership property both during the subsistence of the partnership and after its dissolution with reference to the various provisions of the

Partnership Act, 1932. After analysing the various provisions of that Act, their Lordships of the Supreme Court observed :

The whole concept of partnership is to embark upon a joint venture and for that purpose to bring in as capital money or even property including

immovable property. Once that is done whatever is brought in would cease to be the exclusive property of the person who brought it in. It would

be the trading asset of the partnership in which all the partners would have interest in proportion to their share in the joint venture of the business of

partnership. The person who brought it in would, therefore, not be able to claim or exercise any exclusive right over any property which he has

brought in, much less over any other partnership property. He would riot be able to exercise his right even to the extent of his share in the business

of the partnership. As already stated his right during the subsistence of the partnership is to get his share of profits from time to time as may be

agreed upon among the partners and after the dissolution of the partnership or with his retirement from partnership of the value of his share in the

net partnership assets as on the date of dissolution or retirement after a deduction of liabilities and prior charges.

The decision is clearly an authority for the proposition that a partner has no individual property in specific assets of the firm and has no

exclusive right to possess or use partnership assets and that the right of a partner is, during the subsistence of the partnership, to get his share of the

profits, and after dissolution of the partnership, to get his share in the net partnership assets on the date of the dissolution after deduction of all the

liabilities and prior charges. Therefore, a partner cannot be taken to be a joint owner along with other partners of properties owned by the

partnership. In law, there is a clear distinction between the property of the firm as such and the property of its individual partners. If a partner does

not own the properties from which income is derived by the firm, there is no question of invoking Sections 9(1) and 9(3) and bringing to

assessment his share in the property income of the partnership.

Reference has also been made to the decisions in NEW COTTON AND WOOL PRESSING FACTORY Vs. COMMISSIONER OF

Income Tax, RAJASTHAN AND DELHI., , Ram Narain and Brothers Vs. Commissioner of Income Tax, and Bhai Sundar Dass and Sons Vs.

The Commissioner of Income Tax, New Delhi, in support of the assessee''s plea that a partner cannot be said to own the property of the firm and

if any income is received from the property owned by the firm, the assessment has to be made u/s 9 only on the firm in respect of such income and

not u/s 9(1) or 9(3) in the hands of the partners. In Bhai Sunder Dass & Sons v. Commissioner of Income Tax it has been held that the technical

view of the nature of partnership cannot be taken in applying the law of Income Tax so far as exigibility to tax of the income from property owned

by a firm is concerned, and that it has to be treated as the property of the firm and not of its partners. The above authorities make it clear that the

aliquot share of the partner in the property income of the firm cannot be classified as ""income from property"", u/s 9, in his assessment.

The contention of the revenue that even in the hands of the partner who receives the share income, the identity and character of the income

earned by the firm are kept intact, which found acceptance before the Tribunal, cannot also be accepted. Even though the firm derived income

from various sources, it cannot be said that the partner''s share of income is also from those sources. In the assessment of the firm there is a pooling

of income from all the sources and the total income is arrived at and the firm is assessed on such total income u/s 23(5)(a)(i). Thereafter, the total

income is allocated among the partners and brought in for assessment in the hands of the partner. At that stage, his share income from the firm

cannot be traced to the corresponding sources from which the firm had derived the income, so that it could be said that the partner has derived his

income from those sources. It is to obviate this difficulty Section 67(2) had been enacted in the 1961 Act.

Before us, the learned counsel for the revenue puts forward a new and attractive argument. He states, that though the partner''s share income,

which is referable to the firm''s income from property, may not fall u/s 9, the assessee cannot succeed unless he shows that the share income falls

u/s 10, as his object is to get a set-off for his earlier years'' losses in his business and that such share income will not fall under any of the other

heads of income set out in Section 6 but would constitute a head sui generis. He refers to the definition of ""total income ""in Section 2(15) and

Section 4 as well as Section 23(5), and contends that the legislature has not purported to give any nomenclature for the share income, and even

without bringing it within any of the heads of income referred to in Sections 7 to 12 it has brought to charge the share income of a partner u/s

23(5). Section 23(5) prescribes the manner of assessing the income of a firm and the share income of partners. Clause (ii) of Sub-section (5)(a) of

Section 23 provides that the total income of each partner of the firm including therein his share of its income shall be assessed and the sum payable

by him on the basis of such assessment shall be determined. It is stated that by virtue of the said statutory provision the partner''s share of the firm''s

income automatically gets included in his total income and that as such it is unnecessary for the revenue to bring the partner''s share income under

any one of the enumerated heads of income referred to in Sections 7 to 12.

We are not, however, in a position to accept the contention that the share income of a partner which gets included in the total income u/s 23(5)

(a)(ii) constitutes an independent head of income not falling under any of the heads of ""income"" referred to in Section 6. It is true Income Tax is

only one tax and not a collection of distinct taxes under each head of income. But, for computing the total income of the partner, his income has to

be classified under the heads referred to in Sections 7 to 12 as the rules for computing income and the permissible deductions vary under the

different heads of income. Section 23(5)(a)(ii) merely enables the inclusion of a partner''s share income in his total income. It does not say how the

total income of the partner has to be classified and computed. Nor does it say that the share income will be the net income liable to tax without any

deductions or allowances. The Supreme Court in Commissioner of Income Tax, Bihar Vs. Ramniklal Kothari, held that the share income of a

partner is just like any other income of that partner from any other source and that he is entitled to deduction therefrom the expenditure necessarily

incurred by him for the purpose of earning that share income. In that decision Shah J., speaking for the court, expressed :

Where a person carried on business by himself or in partnership with others, profits and gains earned by him are income liable to be taxed u/s 10

of the Indian Income Tax Act, 1922. Share in the profits of a partnership received by a partner is ''profits and gains of business'' carried on by him

and is on that account liable to be computed u/s 10, and it is a matter of no moment that the total profits of the partnership were computed in the

manner provided by Section 10 of the Income Tax Act and allowances admissible to the partnership in the computation of the profits and gains

were taken into account. Income of the partnership carrying on business is computed as business income. The share of the partner in the taxable

profits of the registered firms liable to be included u/s 23(5)(a)(ii) in his total income is still received as income from business carried on by him.

As pointed out by Chagla C. J. in Shantikumar Narottam Morarji Vs. Commissioner of Income Tax, Bombay City, :

It is not the share as ascertained on the assessment of the firm that is liable to tax, but the share as representing the true profit of the partner. It is

true that if there is a specific prohibition in the Act, the court will not permit an allowance in face of that prohibition. It is equally true that if there is

an allowance permissible under the Act and the allowance deals with the whole subject-matter, the court will not permit that subject-matter to be

expanded. But, where there is no prohibition and where no allowance deals with a particular subject-matter, it is open to the court to permit an

allowance in order to arrive at the true profits or gains of an assessee, and therefore, if an assessee claims a deduction against the share which is

included in his total income contending that without that deduction the share will not represent his true profits and gains, in our opinion the assessee

will be entitled to such a deduction.

The revenue is not, therefore, correct in saying that Section 23(5)(a)(ii) creates as independent head of income apart from those set out in

Section 6 and that it does not contemplate any deduction against the share of the profits included in his income, the share having been arrived at on

the assessment of the firm with regard to its profits.

Therefore, for purposes of computation, the share income of a partner has to be brought under any one of the heads of income referred to in

Section 6. Realising this position, the revenue contends that the share income of a partner will fall under the head ""other sources"" within the ambit of

Section 12 and not under the head ""business"". In Commissioner of Income Tax v. Ramniklal Kothari, the share income of the partner was treated

as income from business coming u/s 10. Mr. Balasubrahmanyan would, however, state that the said decision cannot be taken to lay down a

general proposition that any share income received by a partner is a business income without reference to the source from which the firm had

received its income. But we are not in a position to restrict the scope of that decision in the manner suggested by the learned counsel. It does not

appear from the facts set out in that decision that the firm derived income exclusively by carrying on business operations as such and that the

decision is confined to the facts of that case.

The same view has been taken in P.M. Muthuraman Chettiar and Another Vs. The Commissioner of Income Tax, Madras, . In that case, the

revenue contended that the share income of a partner of a firm was not ""income from business"" within the ambit of Section 10, but was ""profit from

other sources"" falling within Section 12. The court, however, rejected that contention and held that the share income of a partner is income from

business within Section 10. Even here, the general principle laid down is not with reference to the source from which the firm derived the income.

The decision seems to proceed on the basis that whatever be the source of income of the firm, so far as the partner is concerned, his source of

income is only from business coming u/s 10. This decision has been approved by the Supreme Court in Commissioner of Income Tax Vs. P.M.

Muthuraman Chettiar and Another, . Chagla C.J. in Shantikumar Narottam Morarji v. Commissioner of Income Tax expressed his opinion thus :

......the first question that we have to consider is whether Section 10 has any application to the case of an assessee who is a partner of a registered

firm. Mr. Joshi''s contention is that Section 10 has no application at all because Section 10 deals with the profits of a business carried on by the

assessee and according to Mr. Joshi the business in this case is not carried on by the assessee but is carried on by the assessee along with a

partner or partners. Mr. Joshi says that a firm under the Indian Income Tax Act is an assessable entity and, therefore, a distinction must be made

between a business carried on by a firm and a business carried on by an individual.....

The learned Chief Justice also gave another reason for treating the partner''s income as having been derived from business. The first proviso to

Section 23(5) permits the carrying forward of losses sustained by a partner in accordance with Section 24. Sub-section (2) of Section 24 which

alone deals with a carry forward permits the carry forward and set off only for losses sustained in a business. These provisions show that the

legislature itself looked upon the income earned by the assessee by reason of his partnership income as derived from business. With respect, we

entirely agree with the view expressed in that case.

The learned counsel for the revenue would, however, contend that owning of immovable property and deriving income therefrom cannot be a

business activity of the firm and that therefore the share income referable to house properties cannot be taken to be income from business. But,

admittedly in this case, the firm carried on business and also derived rental income from some of the properties it owned. Having regard to the

definition of ""partnership"" in the Partnership Act, as a relation between persons who have agreed to share the profits of a business carried on by all

or any of them acting for all, whatever be the source of income of the firm, the share income received by the partner as a result of his association

with the partnership, has to be treated as business income. If a partner gets his share income from the firm, he receives that income only in his

capacity as partner and not as owner or joint owner of the property from which the firm derived the income. It is only by reason of the fact that he

carried on business along with his partners the profits are earned and he gets his share of those profits. Therefore, the share income cannot be

anything else than ""income from business"",

In any view of the matter, we are not inclined to hold that the share income derived by the assessee in this case is not a business income.

The result is that the assessee''s share income has to be assessed under the head ""profits and gains of business"" and the question is answered

accordingly. The assessee is entitled to his costs. Counsel''s fee Rs. 250.