IN THE HIGH COURT FOR THE STATES OF PUNJAB AND HARYANA AT CHANDIGARH I.T.R No. 325 of 1995 DATE OF ORDER: 9.7.2007 The Commissioner of Income-tax, Amritsar ...Applicant Versus M/s Unimax Laboratories, Amritsar ...Respondent CORAM: HON'BLE MR. JUSTICE M.M. KUMAR HON'BLE MR. JUSTICE AJAY KUMAR MITTAL Present: Mr. Sanjiv Bansal, Advocate, for the applicant-revenue. M.M. KUMAR, J The short question which permeates this reference is whether Section 40(b) of the Income-tax Act, 1961 (for brevity, ‘the Act’) is applicable to the amount of salary and bonus paid by the assessee firm to its partners for their individual service as against their HUF character. It is at the instance of the revenue that the Income Tax Appellate Tribunal Chandigarh Bench, Chandigarh (for brevity, ‘the Tribunal’) has referred the following question of law, which is stated to have emerged from its order dated 11.3.1992, passed in ITA No. 284/ASR/87, in respect of the assessment year 1983-84. The question of law referred reads as under: I.T.R. No. 325 of 1995 “Whether on the facts and in the circumstances of the case, the Tribunal was right in law in allowing the amount of salary and bonus paid by the firm to partners for services rendered by them on the ground of having technical qualification and expertise, though they represented their HUF and section 40(b) of the Income- tax Act was not attracted?” Brief facts of the case which are necessary for disposal of this case are that the Assessing Officer made an addition of Rs. 62,015/- under Section 40(b) of the Act on account of salary and bonus paid by the assessee firm to its four working partners. Those partners were partners in their representative capacity as Karta of the HUF. Since these partners represented their respective HUFs, they were treated to be partners for the purpose of disallowance of benefits under Section 40(b) of the Act by the Assessing Officer. However, on appeal the addition of Rs. 62,015/- was deleted on the ground that the salary and bonus were paid to these persons as individual and in these circumstances Section 40(b) of the Act has no application. The amount received by them was not assessed in the hands of the HUF. The assessee had pleaded that these persons rendered personal services to the firm because they had technical qualification and expertise. It was in lieu of rendering of personal services by them that the salary and bonus were claimed to have been paid. The revenue felt aggrieved by the order passed by the CIT (A) and preferred an appeal before the Tribunal. The appeal was dismissed vide order dated 11.3.1992 (Annexure-C). 2 I.T.R. No. 325 of 1995 The view of the Tribunal is discernible from para 3 of its order, which in turn has placed reliance on a judgment of Andhra Pradesh High Court in the case of N.T.R. Estate v. Commissioner of Income Tax, (1986) 157 ITR 285, wherein it has been held that the salary and interest paid by the firm to some of the partners is to individual even if they had become partner in their capacity as Karta in HUF. Therefore, the same could not be disallowed by applying the provisions of Section 40(b) of the Act. The Tribunal has approved the reasoning adopted by the CIT (A) while applying the ratio of the judgment in the case of N.T.R. Estate (supra). The order of the CIT (A) is as under:- “……I have, given a careful consideration to the submissions made by the learned Counsel of the appellant and have also gone through the various asstt. Orders of the partners for the assttt. year 1983-84. It is a fact that salary and bonus paid to the partners S/Shri Madan Lal Jain, Rakesh Kumar Jain, Kimti Lal Jain & S.K. Jain, have been assessed in their indl. Hands by the Income-tax Officer himself vide orders dated 11.7.85 & 27.12.83. It has thus been conceded that the partners are rendering personal services to the firm and they have necessary technical qualifications and expertise in the respective fields as explained by the learned Counsel for the appellant. It is also a fact that Shri Janak Raj Jain who has no technical knowledge of the working of the 3 I.T.R. No. 325 of 1995 business of the firm has not been paid any salary. In view of this position, there is no doubt that the facts of the present case are on all fours with the Andhra Pradesh High Court decision in the case of NTR Estates Vs. CIT reported in 157 ITR Page 285, and the ratio of that judgement shall therefore squarely apply therein. Considering the facts and circumstances of the case, therefore, the addition of Rs. 62,015/- made by the Income-tax Officer, u/s 40(b) of the Income-tax Act deserves to be deleted.” However, the Revenue approached the Tribunal with an application under Section 256(1) of the Act claiming that two questions of law would require determination by this Court and prayed for referring those questions. Accordingly, the Tribunal accepted the prayer of the revenue and has referred the above mentioned question of law for opinion of this Court. No one has put in appearance on behalf of the Assessee despite service. We have heard learned counsel at a considerable length and are of the view that the controversy has been set at rest by Hon’ble the Supreme Court in the case of Brij Mohan Das Laxman Das v. C.I.T., (1997) 1 SCC 352. The view taken by the Rajasthan High Court in Gajanand Poonam Chand and Bros. v. CIT, (1988) 174 ITR 346, has been approved by accepting that Explanation 2 added to Section 40(b) of the Act is declaratory in nature and the 4 I.T.R. No. 325 of 1995 same is to apply to the cases like the one in hand concerning assessment years prior to 1.4.1985. Section 40(b) as it stood at the relevant time and Explanation 2 inserted by Taxation Laws (Amendment) Act, 1984 with effect from assessment year 1985-86 may first be read, which is as under:- “40. Notwithstanding anything to the contrary in Sections 30 to 39, the following amounts shall not be deducted in computing the income chargeable under the head ‘Profits and gains of business or profession’, x x x (b) in the case of any firm, any payment of interest, salary, bonus, commission or remuneration made by the firm to any partner of the firm. Explanation 1.- x x x x Explanation 2.- Where an individual is a partner in a firm on behalf, or for the benefit, of any other person (such partner and the other person being hereinafter referred to as ‘partner in a representative capacity’ and ‘person so represented’ respectively), - (i) interest paid by the firm to such individual or by such individual to the firm otherwise than as partner in a representative capacity, shall not be taken into account for the purposes of this clause; (ii) interest paid by the firm to such individual or by such individual to the firm as 5 I.T.R. No. 325 of 1995 partner in a representative capacity and interest paid by the firm to the person so represented or by the person so represented to the firm, shall be taken into account for the purposes of this clause.” The view of their Lordships’ in Brij Mohan Das Laxman Das’s case (supra) is discernible from paras 6, 7 and 8, which reads as under:- “ …… Explanation is merely declaratory in nature and that, therefore, even for the assessment years prior to 1-4-1985, 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 Ex- planation is to clarify that which is already enacted and not to introduce something new. The High Court opined that the Explanation was inserted by Parliament with a view to settle the controversy as to the meaning and ef- fect of the said clause among the several High Courts and that the Explanation puts a seal of approval on the view taken by t he 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 HUF and a firm are distinct persons/entities for the purpose of the Income Tax Act. The High Court, therefore, concluded that since an indi- vidual and a HUF are two distinct entities for the purpose of the Act, clause (b) of Section 40 has no application 6 I.T.R. No. 325 of 1995 where the interest is paid to the partner on deposits made by him with the firm in his individual capacity where such person is a partner not in his individual capacity but as representing a HUF. ……” “ 7. Clause (b) of Section 40 is based upon and is a recognition of the basic nature of relationship be- tween a firm and its partner. In CIT v. R.M. Chidamba- ram Pillai [(1977) 1 SCC 431] ……” “……The provisions in Chapters III and IV of the Part- nership Act, 1932 amply define and delineate the duties, obligations and rights of the partners vis-vis the firm. The question yet remains where an individual is a partner in one capacity, e.g., as a representative of another per- son, can he have no other capacity vis-vis the firm. To be more precise, does the above position of law preclude an individual, who is a partner representing a HUF, from de- positing his personal funds with the partnership and re- ceiving interest thereon? Explanation 2 says in clear terms that there is no such bar. This is the legislative rec- ognition of the theory of different capacities an individ- ual may hold — no doubt confined to clause (b) of Sec- tion 40. Once this is so, we see no reason to hold that this theory of different capacities is not valid or available for the period anterior to 1-4-1985. Accordingly, we hold that even for the period anterior to 1-4-1985, any interest paid to a partner, who is a partner representing his HUF, 7 I.T.R. No. 325 of 1995 on the deposit of his personal/individual funds, does not fall within the mischief of clause (b) of Section 40. In this view of the matter, we agree with the view taken by the Rajasthan High Court in Gajanand Poonam Chand that Explanation 2, in the context of clause (b) of Section 40, is declaratory in nature. ……” Once the character of an individual has been treated dif- ferent then HUF for the purposes of interest then we see no reason as to why this would not extend to the salary and bonus paid to such partners on account of their personal services rendered to the firm in contra-distinction to their capacity as a representative of HUF. The aforementioned conclusion would necessarily flow from the concept of partner representing HUF in contra-distinction to his individual ca- pacity, as explained in the case of Brij Mohan Das Laxman Das (su- pra). Therefore, the same reasoning would apply to the cases where payment in the form of salary and bonus has been made to a partner in his individual capacity in contra-distinction to his representative char- acter of the HUF. In view of the above, the question referred is answered in favour of the assessee and against the revenue. (M.M. KUMAR) JUDGE (AJAY KUMAR MITTAL) 8 I.T.R. No. 325 of 1995 July 9, 2007 JUDGE Pkapoor FIT FOR INDEXING 9