Case: Commissioner of Income Tax Vs. Udayan Chinubhai and Others

3. The facts of the case as recorded by the tribunal in its appellate order dated 22-11-1972 were as follows. Sir Chinubhai Madhavlal had filed a suit in the High Court of Bombay in 1948 against his three sons, Udayan Chinubhai, Kirtidev Chinubhai, Achyut Chinubhai and his wife Lady Tanumati Chinubhai and also his mother Lady Sulochana Chinubhai claiming severance of the joint status of the undivided Joint Hindu Family of the plaintiff and the defendants. The family had considerable movable and immovable properties. There were also various debts and liabilities of Sir Chinubhai who was the Karta of the joint family. Some debts were also incurred by Udayan Chinubhai and Lady Tanumati for maintenance and support and/or education of some of the defendants. With a view to settle these disputes and differences between the parties, Shri K. M. Munshi, Advocate was appointed sole arbitrator. A direction was given by the Court that the defendants will not be permitted to challenge the debts and liabilities as Avyavaharic or illegal or incurred for illegal or immoral purposes. In other words, the defendants will not be entitled to say that these debts were not payable by and binding on the joint family. The Court also directed that Shri Munshi should ascertain and determine the debts, liabilities, claims and demands which were binding on the joint family and also determine whether any of these debts and liabilities etc. were to be taken over by the defendants. The Court further directed that as far as practicable, Shri Munshi would allot to the plaintiffs and also to the defendants such debts, liabilities, claims and demands as related to the properties and businesses coming to the respective shares of theShri Munshi gave an interim award on 23-8-1950 which was followed by a final award of 15-6-1951. Under these awards, certain properties were given to Sir Chinubhai and certain other properties were given to Lady Tanumati and her three sons. The debts were similarly determined and certain liabilities were to be taken over by Sir Chinubhai Madhavlal and others by Lady Tanumati and her three sons. There was no separate allocation either of the assets or the liabilities amongst Lady Tanumati and her threeIn the case of Jt. Family of Udayan Chinubhai v. CIT a question arose as to whether Lady Tanumati and her three sons constituted a Hindu Undivided Family. The dispute came up to this Court and it was held that after a decree in terms of the award of Shri Munshi was passed, Lady Tanumati and her three sons could not be treated as a Hindu Undivided Family. The original Hindu Undivided Family had no existence. Tanumati and her three sons did not succeed to the properties of the HUF but were allotted their respective shares of properties which were held by them as tenants inIn view of the decision of this Court, assessments were made in the case of Lady Tanumati and her three sons in the status of individuals and not as a HUF. The claim of the assessees in the individual assessments was that the assessees had to pay interest on various liabilities taken over by them and these interest payments should be considered as diversion of their income from properties by an overriding title. It may be mentioned that the income of the assessees consisted of income from immovable property, business income and income from other sources. Some of the debts were secured against immovable properties. The Income Tax Officer in working out the property income, allowed these interest payments as admissible deductions. However, he was of the view that the other interests could not be allowed asThe assessee also made a claim that interest payments should be allowed as deduction under Section 12(2) of the Indian Income Tax Act, 1922 because these interests had to be paid solely for the purpose of making or earning income. The Income Tax Officer held that there was no nexus between payment of interest and earning of the income. Merely because the liabilities and the assets were inherited together from an ancestor or received as a result of partition, it did not follow that the interest was payable for earning the income. It was further pointed out by the Income Tax Officer that the assessee had not even proved that the liabilities were incurred by the previous owner or by the family before its partition to purchase the income-yieldingThe case of the assessee was placed before the Income Tax Officer in another way. It was argued that the coparceners were entitled to their shares in the assets of the joint family at the time of partition. But what they received were assets attached with the liabilities and the real income was only that income which remained after payment of interest for such liabilities. This argument was also rejected by the Income TaxThe assessee went up in appeal to the Appellate Assistant Commissioner who was of the view that the interest payable on debts due to secured creditors were to be allowed as deduction under Section 9(1)(iv) of the Indian Income Tax Act, 1922, but interest payable to unsecured creditors did not qualify forThe Appellate Assistant Commissioner also rejected the contention of the assessee that some of the assets had been purchased by raising loans because there was no evidence to prove this contention. The assessee also claimed allowance of interest against income from dividends. The Appellate Assistant Commissioner held that in the absence of clear evidence, this claim could also not be allowed. Similarly, the claim for allowance of interest against income from deposits were disallowed on the ground that the deposits were not made by raising any loan. Dealing with the other arguments advanced on behalf of the assessee, the Appellate Assistant Commissioner found that the liabilities taken over by Lady Tanumati and her sons were not necessarily incurred in acquiring the assets from which the assessee derived income. Unless there was a connection between the expenditure incurred and the income earned, the claim of interest could not be allowed. The Appellate Assistant Commissioner further noted that the partition had not brought about any change in the nature of ownership of the properties. Tanumati and her sons had interest in the properties even before the petition as members of the joint family. The Karta as well as the coparceners of the Hindu Undivided Family were liable for the debts of the HUF. He also rejected the contention that there had been diversion of income by overriding title. Merely because liabilities and assets were inherited from an ancestor or received on partition, the interest paid on liabilities could not qualify for deduction against income from assets under the head "other sources"11. The tribunal on further appeal rejected the contention of the assessee that there had been diversion of income by overriding title and also that the real income of the assessee must be determined after deduction of all the interest payments. The tribunal held that the facts of the case did not show that the debts were automatically dovetailed with the HUF properties which the sons or the wife had received on partition. It was not as if the sons acquired the properties subject to overriding claim in respect of the family debts which had been allotted to them. Tanumati and her sons could not have been prevented from using the income in any way they liked. No creditor had specific overriding claim in respect of any particular income. The tribunal came to the conclusion that there was no overriding title or diversion of income as a whole in this case. The tribunal, however, held that the argument based on the concept of real income had no basis on the facts of this case. There could be no doubt that had the debts been discharged before partition, the assets coming to the share of the assessee would have been much smaller and income from such assets would also have been much less. The tribunal pointed out that the debts had been incurred before partition. Interests paid on these debts were not considered allowable in the case of the assessment of the HUF before partition. The fact that there was a partition did not give the creditors any better or more elective title. On the contrary, the sons were in a general way responsible for the payment of the debts of their father. This fact would not create any nexus between the claim of the allowance of the interest and the income derived by the sons from properties received on partition. The members had used the income as they liked as the creditors could not have raised any objection to such expenditure. The claims of the creditors were of a general nature. The creditors could not prevent the sons from getting the HUF properties on partition without satisfying theAggrieved by the decision of the tribunal, the assessee prayed for reference of the questions of law set out hereinabove to the High Court. After an elaborate discussion of facts and law, the High Court answered questions in favour of the assessee and against the Revenue. The High Court was of the view that when a partition took place, provisions had to be made for the discharge of pre-partition debts of the father. If, for some reasons, provision for discharge of liabilities had not been made or could not be made, the persons who get the properties on partition held the properties in their hands subject to the liability to satisfy the demands of the creditors. In this sense, the assessee held the property for the benefit of the creditors to the extent necessary to satisfy the just demands of the creditors in terms of Section 94 of the Indian Trusts Act,The High Court was also of the view that certain properties which formed part of a Baronetcy Trust, were partitioned between the father on the one hand and the mother and the sons on the other. The properties were trust properties. A consent decree was passed and an arbitrator was appointed. Under the terms of the consent decree and arbitrators award, some of the debts of the family were allotted to the mother and the sons. According to the High Court under the doctrine of pious obligation, the assessees were liable to pay the debts of the father. Apart from this liability under the award of the arbitrator, the assessee undertook the liability to discharge the debts. The provision under the Hindu law, Indian Trusts Act, the terms of the consent decree and the arbitrators award created an overriding title in favour of the creditors to have their liabilities paid from the assets which came into the hands of the assessee. Therefore, the interest paid to unsecured creditors out of the assets received by the assessee on partial partition were diverted by overriding title and did not form part of the real income of the assessee

Court's reasoning:
14. In our view, the High Court overlooked the fact that the position of the creditors was not strengthened in any way by virtue of the partition that had taken place. It is true that the award given by the arbitrator was followed up by a decree in terms of the award. That, however, did not alter the position of the creditors in any way. There was considerable doubt whether the sons were liable to pay the Avyavaharic debts of the father. After the award of the arbitrator, these questions could not be raised by the sons. The arbitrator had given a finding that these debts will have to be paid. Therefore, the wife and the sons were liable to pay a portion of these debts which were allotted to them. But the High Court overlooked the fact that these debts were not a charge upon the HUF properties before the partition took place. The position continued to be the same after the partition. If a man incurs a debt, he will have to pay the debt and till the debt is paid in full, he may have to pay interest on that debt. But whether the interest is allowable as a deduction or not will depend upon the provisions of the Income Tax Act. No question of diversion of income by overriding title can arise in a case like this. A man has to pay his debts out of his income. Merely because of the liability to pay the debts, it cannot be said that the income from the assets that he received on partition stood diverted by overriding title to the creditors. The tribunal has rightly pointed out that the assessees were at liberty to spend the income from the assets allotted to them as they liked. The creditors could not insist that the debts had to be cleared before spending any money out of the income received by the assessee from theThis decision does not come to the aid of the respondents contention in any way. If a valid charitable trust is created, the income of the trust cannot be treated as the income of the settlor. The properties held by the Karta as trustee cannot be treated as properties of the HUF. This is not a case of diversion of income by overriding title, but transfer of the income-yielding property itself to the trustee. The Karta became a trustee of the charitable trust set up by theThe basic principle to be borne in mind in this type of cases is that when a person pays his debts or maintains his wife or children or anybody else whom he is obliged to maintain, the expenditure incurred in such cases will be application of the assessees income and not diversion of the income at source. If he does not pay what he should have paid and is compelled by a court order to pay, it will still not be a case of diversion of income at source. Even if a charge is created on the properties of the assessee for enforcing payment, the position in law will not change. This was made clear in the case of IRCv. Paterson [ 1924 (9) Tax(Cas)It must also be borne in mind that in Raja Bejoy Singh Dudhuria case the charge on the properties inherited by the Raja was created to secure payment of maintenance of his stepmother. Lord Macmillan quoted with approval the observation of Rankin,learned Chief Justice in his judgment, which was concurred in by his colleagues, Ghose and Buckland, JJ., deals with the case on the footing that, by the decree of the court, the appellants stepmother had a charge not only on his zemindary property from which his agricultural income was derived, but also on all his other sources of income included in the assessment. He rejects the suggestion that the appellants liability to his stepmother was of the same kind as his liability to provide for his wives and daughter, and states that the position is the same as if the appellant had received his various properties, securities and businesses under a bequest from his father upon the terms that these assets were charged with an annuity for the maintenance of the widow. The case was not one of a charge created by the Raja for the payment of debts which he has voluntarily incurred. Their Lordships agree that this is the correct approach to the question."This decision clearly indicates that payment made for maintenance of wife and daughter out of the income of an assessee will not be diversion of income at source nor will a charge created by an assessee for payment of voluntarily incurred debts have the effect of diverting the assessees income at source