JUDGMENT
[ENTITY], J. :
Revenue expects our answer to the following two questions :
"1. Whether, on the facts and in the circumstances of the case and also on a true intent and interpretation of [SECTION] of the [ACT], the Tribunal is right and justified in deleting the additions made by the ITO ?
2. Whether, on the facts and in the circumstances of the case, the Tribunal is right and had materials in holding -
(i) Except for the fact that the partners participated in the bid on 10th March, 1978, the business, in fact, was not commenced and the same was commenced only on 1st April, 1978;
(ii) Since no business has been done during the year in question there cannot be a firm in existence and are not the above findings incorrect, legally and factually ?"
The assessee is a firm in the name and style of Bhadra Enterprises. It came into existence on the strength of the partnership deed dt. 1st March, 1977. The assessment year in question is 1978-79. The partnership consisted of five partners and their shares specified in regard thereto. It appears that the ITO refused registration and proceeded to assess the assessee-firm as an unregistered firm. Although it is not necessary it appears that action under [SECTION] came to be initiated against the five persons treating them as an AOPs.
2. Thereafter from the journal-cum-ledger produced by the assessee-firm for the assessment year in question, two cash credit entries were noticed. The first was of Rs. 1,50,000 in the name of Shri [ENTITY], Chenganoor, dt. 10th March, 1978 and the second was of R[SECTION]0,000 in the name of Shri [ENTITY], Erumakuzhy, Mavelikkara, bearing the same date. The two persons were examined and cross-examined. They denied the situation emphatically.
3. It is on the basis of this situation, the ITO proceeded under [SECTION] of the Act r/w [SECTION] thereof.
4. The ITO held that the unexplained cash credits are liable to be assessed at the hands of the assessee-firm under [SECTION] of the [ACT]. [SECTION] of the Act comes into play when any sum is found credited in the books of an assessee maintained for any previous year, and the assessee offers no explanation about the nature and source thereof or when the explanation offered is not satisfactory, such entry relating to the same credited in the above manner, empowers the ITO to charge the said amount to income-tax as income of the assessee of that previous year.
5. There was an appeal to the CIT(A). The first appellate authority by the decision dt. 25th Feb., 1985, came to the conclusion that the appellant-firm is an entity in the hands of which the income can be legitimately assessed for the year under consideration. In the process of reasoning the appellate authority considered the question of treating the firm as unregistered association. The appellate authority in regard thereto held that there was a firm in existence that it was a genuine and a legal firm and the income could be legitimately assessed in the hands of the firm. Accordingly, the authority directed the ITO to accept the application for registration of the assessee-firm has been properly and timely filed, legally capable of the grant of registration for the assessment year in question (1978-79).
6. With regard to the two credit entries of Rs. 1,50,000 and R[SECTION]0,000 totalling to Rs. 1,90,000 appearing in the books of accounts of the firm the authority found that these are creditors who are ranked outsiders. In fact, the authority had observed that no attempt was made to show that the said credit entries were genuine. The inclusion of Rs. 1,90,000 in the total income of the firm came to be affirmed.
7. The assessee-firm took up the matter to the Tribunal. The assessee-firm contended that the partnership deed was executed on 1st March, 1977 and during the assessment year in question the partners did not do any business and when it is seen that there is no business, and the said business actually started on 1st April, 1978 - after the bid dt. 10th March, 1978. The partnership could not be understood in law to have come into existence under the circumstances as it could not be understood as separate and distinct from the business done in regard thereto.
8. On the other hand the Departmental Representative contended that since the cash credit of the amount totalling to Rs. 1,90,000 was found in the books of accounts of the assessee-firm for the accounting period in question relevant to the assessment year, the assessment in regard thereto as in the hands of the assessee would have to be justified in terms of [SECTION] of the Act as the amount from undisclosed sources. It was further contended that from the very fact that there was a bid on 10th March, 1978, the commencement of the business atleast can be traced to that date and in regard thereto it cannot be contended that there was no business at all during the assessment year in question.
9. The Tribunal has considered the position in the following manner :
"The only point for consideration in this appeal is whether in the absence of the assessee having done any business, during the accounting period relevant to the assessment year, the cash credit appearing in the accounts of the assessee could be added as its income as income from undisclosed sources. At this stage, it is very relevant to make a mention of few material facts of this case. In this case, a partnership firm came to be formed by a deed of partnership dt. 1st March, 1977. It consisted of five partners. Though the partnership was formed on 1st March, 1977 as mentioned supra, 30% of the bid amount was paid only on 10th March, 1978, and the business started only from 1st April, 1978. New point for consideration is whether in the absence of business can it be said that the partnership firm existed during the accounting period relevant to the assessment year in question. The essence of the definition of [SECTION] of the [ACT] is that a partnership is an agreement to share the profits of a business. If we analyse the requirements of [SECTION], it is very clear that one of the requirements should be that the subject of the organisation must be to carry on a business."
10. It would be seen that the discussion leading to the conclusion that when there is no business, is against the basic provisions of the [ACT]. Partnership is essentially a relation of persons who have agreed to share the profits of a business carried on by all or any of them acting for all. It is to be understood that it is a relation that emerges from a contract in regard to the activity in regard to which there is an agreement to share the profits of a business. Therefore, an agreement brings partners together. With regard to a business activity the partnership, therefore, is antecedent in point of time and it is only on the formation of the partnership postulating an agreement with regard to the share of profits of a business the acts of the partners could be understood. It is plain and crystal clear that the agreement was entered into on 1st March, 1977. From the circumstances appearing on the face of the record that thereafter on 10th March, 1978 the first step in regard to the activity is found to have been taken by a participation in the bid. The other circumstance of finding cash credit entries to the tune of Rs. 1,90,000 attributable to two persons named [ENTITY] and [ENTITY], both being dt. 31st March, 1978 is also an indication of the activity in regard thereto. Therefore, the reasoning that in the absence of a business activity partnership would have to be termed as legally erroneous. As far back as in 1954 this basic situation is traceable in the decision of the Supreme Court in [PRECEDENT] where there was an occasion to deal with the provisions of excess profits tax. The apex Court has observed that the activities which constitute carrying on business need not necessarily consist of activities by way of trade, commerce or manufacture or activities in the exercise of a profession or vocation. They may even consist of rendering services to others which services may be of a variegated character. In the process the apex Court proceeds that when a partnership firm comes into existence, it can be predicated of it that it carries on business, because partnership according to [SECTION] of the [ACT] is the relation between the persons who have agreed to share the profits of a business carried on by all or any of them acting for all. The Court made these observations as a distinguishing feature with regard to the activities of a company incorporated. The facts on record clearly show that the cash credits are entered into the books of accounts of the partnership firm in regard to which there cannot be any dispute. A situation of finality is also reached when the first appellate authority has directed registration of the firm.
11. We find that the reasoning of the Tribunal is an error of law and consequently the Tribunal is not justified in deleting the addition made by the ITO. The first appellate authority had already directed the process of registration. The position of law is also crystal clear that the firm comes into legal existence in pursuance of the agreement and it cannot be said to be in existence in the absence of any business activity, because the business activity is to commence in pursuance of the agreement and, therefore, the agreement would be first in point of time.
For the above reasons questions referred are answered in the following manner - question No. 1 is answered in the negative - in favour of the Revenue and against the assessee. Question No. 2 is also answered in the negative - in favour of the Revenue and against the assessee.