Rajasthan H.C : Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the ITO’s order passed under s. 184(4) was in fact an order under s. 185(5) and was appealable ?

High Court Of Rajasthan : Jaipur Bench

Additional Commissioner Of Income Tax vs. Hassan Chand & Sons

Sections 10(2)(xv), 26A, 37(1), 184(4), 184(7), 185(5), 246(g), 297(2)

Asst. Year 1960-61, 1961-62

V.K. Singhal & M.A.A. Khan, JJ.

DB Civil IT Ref. No. 1 of 1975

22nd April, 1996

Counsel Appeared

G.S. Bapna, for the Revenue : J.K. Singhi, for the Assessee

M.A.A. KHAN, J.:

This joint reference under s. 256(1) of the IT Act, 1961 (for short “the Act of 1961”) has been made by the Income-tax Appellate Tribunal, Jaipur Bench, Jaipur (hereinafter referred to as “the Tribunal”) for asst. yrs. 1960- 61 and 1961-62. The Tribunal has referred to this Court for its opinion the following questions : Asst. yr. 1960-61:

“(i) Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the ITO’s order passed under s. 184(4) was in fact an order under s. 185(5) and was appealable ?

(ii) Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that the application for registration filed on 31st Dec., 1959 for the asst. yr. 1960-61 was filed within the time allowed?

(iii) Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that the partnership was valid ?” Asst. yr. 1961-62 “Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that the payment made to Shri Abdul Razaq was charge on the profits of the firm ?”

2. The facts relevant to the questions referred for the aforesaid two years and sufficient to dispose of this joint reference are these : During the accounting period relevant to the two assessment years, the assessee-firm was engaged in the business of exhibition of films in Ram Prakash Theatre, Jaipur. Originally the firm was constituted by three partners namely, Sarva Shri Noor Mohammed, Abdul Razaq and Hamid Hussain. The accounting year of the firm was 31st December ending of each year. In March, 1953 Shri Mohd., one of the three partners, died. The remaining two partners continued to carry on the same business under the same business name, but they did not enter into any new partnership nor did they file registration application with the IT Department. This position continued upto the asst. yr. 1959-60 and for all these years the assessee firm was assessed in the status of unregistered firm. Shri Noor Mohammed, the deceased partner, is stated to have left a will whereby he had, inter alia, bequeathed that : “(i) After my death out of the share of the movable and immovable properties belonging to me 1/3rd will be owned by Abdul Razaq, who will have full ownership right. (ii) After Abdul Razaq inherits 1/3rd share in my movable and immovable properties, the rest of 2/3rd share will be managed by Abdul Razaq. He will have the right to manage the properties according to the income. In case the income from the properties dwindles down and the sale or mortgage is needed then Abdul Razaq will have the right to sell the properties. (iii) Out of the remaining income of the 2/3rd share of the property Rs. 50 per month will be paid to my wife Musmat Gulab, Rs. 100 to my elder son Wali Mohd. for the maintenance of himself and his family, which will be managed by Abdul Razaq. My younger son Abdul Haq will also be entitled to get Rs. 100 per month but since he is a vagabond he will get Rs. 30 per month and Rs. 70 will be paid to his wife and children.” On 1st Jan., 1959 Shri Abdul Razaq and Shri Hamid Hussain, the remaining two partners of the assessee firm, executed a new

partnership deed. The salient features of this partnership are as follows :”This deed of partnership is made on 1st Jan., 1959 between Abdul Razaq son of Hussain aged 55 years, resident of Jaipur of the first part and Hamid Hussain son of Chand age 56 years, resident of Jaipur of the second part. Whereas Shri Abdul Razaq, Hamid Hussain and Noor Mohammed have for some time past been carrying on the business of film exhibition in partnership together at Jaipur under the name and style of M/s Hasan Chand & Sons, Jaipur duly registered with the Registrar of Firms. And whereas on the death of the partner Noor Mohammed, Abdul Razaq was appointed as guardian of his share under a will to hold the same on behalf of and for the heirs of said Noor Mohammed.

And whereas now it has been decided and agreed upon between the two continuing living partners to continue the business in the same name and style on terms hereinafter contained. And whereas the property of the old partnership has been decided to be transferred as the assets of the partnership hereby constituted. And whereas the share capital of the deceased partner has been decided to be kept in the business, it has been decided to pay to the guardian of his property equal share in the profits of the new firm in accordance with s. 37 of the Indian Partnership Act, 1932 to which the guardian has agreed by appending his signatures to this deed.” By cls. 4 and 5 of the partnership deed the division of profits and losses of the business was agreed to be made in the following manner : “The capital coming to the share of Shri Abdul Razaq as the guardian and representative of Noor Mohd. (deceased partner) shall continue to be in this firm and the guardian shall be entitled to 1/3rd share in profits in this account and shall not bear any losses.

The profits and losses of the new partnership shall be divided and borne as under : (a) Out of total profits 1/3rd shall be paid to the guardian of Shri Noor Mohd. (deceased). (b) The remainder thereafter shall be divided between Shri Abdul Razaq and Hamid Hussain equally.” On 31st Dec., 1959, the assessee-firm applied for registration for asst. yr. 1960-61 as per s. 26A of the IT Act, 1922 (for short “the Act of 1922”) r/w r. 2A(1) of the Rules made thereunder. This application was duly accompanied with the instruments of partnership and copy thereof as well as the copy of the account showing the division of profit and loss of the firm between partners. The return of income for this year was filed in September, 1962. The ITO, however, refused to grant registration to the firm on the ground of limitation and non-genuine character of the firm. According to the ITO as per provisions of s. 26A of the Act of 1922, the application for registration of the firm should have been made within a period of 6 months of the constitution of the firm whereas the same was made on the last day of the accounting period. Regarding the genuine character of the assessee firm, the ITO held that the firm was in fact constituted by three partners, the third partner being the legal heirs of Shri Noor Mohd. Since Shri Noor Mohd. was having a debit balance of Rs. 46,332 as on 31st Dec., 1958 no profits were attributable to the use of his share in the properties of the firm so as to attract the provisions of s. 37 of the Indian Partnership Act, 1932 to the facts of the present case. The ITO, therefore, held that neither the application was signed by all the partners nor were the profits and losses distributed amongst the partners according to the shares specified in the instruments of partnership. The ITO described the order passed by him as an order under the proviso to s. 184(4) of the IT Act, 1961 read with proviso to r. 2(c) of the old Act.

It appears that the ITO had made assessment for this year ex parte under s. 144 of the Act of 1961. On appeal, the said ex parte assessment was set aside by the learned AAC. The order purported to have been made by the ITO under s. 184(4), as aforesaid, was also set aside by the learned AAC with a direction to re do the same after allowing an opportunity to the assessee-firm to rectify the mistake if any, in the application submitted under the Old Act of 1922 and allowing him to submit such an application under the provisions of the new Act also. The ITO, however, held that in his opinion, the question of giving an opportunity to the assessee firm as per direction of the learned AAC would arise only if the order was to be made under s. 185 of the Act of 1961, but since he was making an order under s. 184(4) no question of giving such opportunity arises and the IT (Removal of Difficulties) Order, 1962 does not cover the issue. In the order made by the ITO in the second round, the same ground for refusal of registration, which had found favour with him in his earlier order, were reiterated. The assessee-firm again approached the first appellate authority who dismissed his appeal as being not maintainable vide his order dt. 1st Sept., 1970 in appeal No. 16/70-71.

The application for grant of registration/renewal of registration for asst. yr. 1961-62 was also rejected by the ITO for almost the same reasons. An appeal against the refusal of grant of registration/renewal of registration was also filed and the learned AAC agreed with the ITO that the firm was in fact constituted by three partners as against two shown in the registration application and the application for renewal of registration. In the opinion of the

learned AAC, the applications did neither depict the real constitution of the firm nor the same had been signed by all the three partners. He held the view that the guardian of the heirs of the deceased partner constituted the third partner in the firm and, therefore, the provisions of s. 37 of the Indian Partnership Act, 1932 did not apply to the case. Having lost its case before the ITO and the AAC for both the years, the assessee-firm approached the Tribunal in second appeals. The two Members of the Tribunal constituting the Bench, differed in their views on the issues involved in the appeals. The case was therefore, referred to the Third Member under s. 255(4) of the Act of 1961. The learned Third Member, held that the AAC was not justified in rejecting the appeals of the assessee- firm with regard to the registration. He was of the view that registration being essentially a part of assessment, the provisions of the new Act would apply to the assessment proceedings as also to the proceedings pertaining to the registration of the assessee-firm. He held that the application filed by the assessee-firm on 31st Dec., 1959 was required to be filed under the Act of 1961. He accordingly directed that the ITO should give the assessee an opportunity to file an application in accordance with the requirements of new rules under the Act of 1961.

For asst. yr. 1961-62, the learned Third Member opined that the continuation of the registration will have to be considered under s. 184(7) of the Act of 1961 after the registration for asst. yr. 1960-61 had been considered after giving assessee-firm an opportunity to furnish a fresh application.

With regard to the character of the assessee-firm as a genuine firm, the learned Third Member held that the partnership did not cease to be genuine merely because partnership deed stated that it was decided to pay to the guardian equal share in the profits of the new firm in accordance with s. 37 of the Partnership Act. The learned Third Member pointed out that in order to safeguard the interest of the deceased Shri Noor Mohd., there was nothing to stop the continuing partners from making a commitment which they considered to be reasonable and in conformity with requirements of s. 37. In the opinion of the learned Third Member, the arrangements made by two partners of the assessee-firm did not become unreal or artificial or invalid merely because the continuing partners and the guardian of the heirs of the deceased Noor Mohd. made efforts to give effect to the provisions of s. 37 of the Indian Partnership Act.

Regarding the question as to whether payments made to the guardian of the heirs of the deceased Shri Noor Mohd. was deductible as charge in arriving at the total income of the firm, the learned Third Member held that the guardian of the heirs did not become a partner in the firm and the payment made to him was in fact the payment made to a person who was not a partner in the firm. The learned Third Member further pointed out that the deceased had considerable share in the goodwill of the assessee-firm and that full accounts were never settled between the present two partners of the assessee firm and the heirs of deceased partner Shri Noor Mohd.However, he directed an enquiry into this aspect of the case and observed that if on enquiry it was found that accounts had been finally settled and the deceased had no positive interest in the assets of the firm the payment claimed to have been made by the firm to the guardian would not be justified on commercial grounds. The learned Third Member, therefore, proposed to set aside the assessment for asst. yr. 1961-62 with a direction to ITO to redo the same after considering the question of allowance of the payment after holding an enquiry.

On receipt of the opinion of the learned Third Member, the Tribunal finally passed it’s order to the following manner : “(i) The partnership could not be held to be not genuine merely because a charge of profit has been provided for the estate of the late Noor Mohd. The application for registration, filed for the asst. yr. 1960-61, is also within time. The assessee should, however, be given an opportunity of filing a fresh application as prescribed under the IT Act, 1961 and the rules framed thereunder. In order to dispose of the matter in accordance with law the order of the learned AAC dismissing the assessee’s appeal, in limine, is set aside and the matter is restored to his file. Appeal No. 3025 of 1970-71 is treated as allowed. (ii) The question of the continuation of registration for the asst. yr. 1961-62 should be considered after disposing of the question of grant of registration for the asst. yr.

1960-61, as directed in appeal No. ITA 3025 of 1970-71. The assessee should be given an opportunity of filing the appropriate application, for this purpose, under the provisions of the IT Act, 1961 and the Rules framed thereunder. In order to pass an order in accordance with law, on this point, we set aside the orders of the AAC and restore the matter to his file to be disposed of afresh. Thus, appeal No. 13033 of 1966-67 is also treated as allowed. (iii) Though the provisions of s. 37 of the Partnership Act are not strictly applicable to payments made by the assessee-firm to the estate of the deceased Noor Mohd., such payments, to the extent to which they are made for the purposes of the business have to be allowed in computing the total income of the firm. In order to find out

the extent of such payments which will be justified, it will be necessary to find out whether Noor Mohd. had any interest in the property of the firm at the time of his death and, if so, the extent of such interest. It has to be seen whether such share of property belonging to Noor Mohd. has been used by the continuing partners in the business of the assessee-firm. It is also necessary to determine the proportion which such property bears to the total property of the firm. Only that proportion of the profits of the firm will represent the reasonable payment to the estate of the late Noor Mohd. towards utilising its property, for the purpose of the business of the assessee-firm. Such share of profits will represent a charge against the profits of the assessee-firm and the assessee will be entitled to deduct the same in determining its total income for purposes of assessment. In order to determine the above figures and to arrive at the proper deduction, if any, on that account, it is necessary to set aside the assessment for 1961-62 and to restore it to the file of the ITO to be redone, in accordance with law and on the basis of the above directions. Accordingly that assessment is set aside. Appeal No. 13032 of 196667 is also treated as allowed.”

3. It is in the above background that this Court is required to answer the question referred to it for its opinion for the two years under consideration. We have heard learned counsel for the parties at length and carefully gone through the material brought on record. We propose to answer the referred questions in the following manner : Asst. yr. 1960-61:

4. For this year, the Tribunal has referred three questions as reproduced above. We find it convenient to consider question Nos. 1 and 2 together as the relevant facts are inter-connected. The first question that arises for consideration is whether the application filed by the assessee-firm on 31st Dec., 1959 for grant of registration for this year was in time. At the relevant time, the Act of 1922 was in force and the question of grant or refusal to grant registration to a firm could have been considered under s. 23(4) and/or s. 26A of that Act. Sec. 22 obliged the ITO to give a notice on or before 1st May in each year requiring every person whose total income during the previous year exceeded maximum amount which is not chargeable to income-tax to furnish, within such period not being less than 60 days as may be specified in the notice, a return of his income during that year. The assessment proceedings were to be conducted as per provisions of s. 23 and in the course of proceedings under sub-s. (4), the ITO was empowered to refuse to register a firm or cancel its registration if the firm was already registered. The procedure laid down in s. 23(4) indicates that the question of grant or refusal of registration of firm could have been considered by the ITO in regard to assessment proceedings. However, s. 26A of the Act of 1922 laid down the procedure for registration of firms. Such application was required to be filed in accordance with r. 2 of the Rules made under s. 59 of the Act of 1922. Rule 2 of such Rules provided as under : “2. Any firm constituted under an instrument of partnership specifying the individual shares of the partners may, under the provisions of s. 26A of the Indian IT Act, 1922 (hereinafter in these rules referred to as the Act) register with the ITO, the particulars contained in the said instrument on application made in this behalf. (Such application shall be signed by all the partners (not being minors) who were partners in the firm immediately before dissolution and by the legal representative of any such partner who is deceased, and shall, for any year of assessment upto and including the assessment for the year ending on the 31st March, 1953, be made before the 28th day of February,

1953 and for any year of assessment subsequent thereto, be made)— (a) Where the firm is not registered under the Indian Partnership Act, 1932 (IX of 1932) or where the deed of partnership is not registered under the Indian Registration Act, 1908 (XVI of 1908) and the application for registration is being made for the first time under the Act, (i) Within a period of six months of the constitution of the firm or before the end of the `previous year’ of the firm whichever is earlier, if the firm was constituted in that previous year, (ii) before the end of the previous year in any other case; (b) Where the firm is registered under the Indian Partnership Act, 1932 (IX of 1932) or where the deed of partnership is registered under the Indian Registration Act, 1908 (XVI of 1908) before the end of the previous year of the firm, and (c) Where the application is for renewal of registration under r. 6 for any year, before the 30th June of that year : Provided that the ITO may entertain an application made after the expiry of the time limit specified in this rule, if he is satisfied that the firm was prevented by sufficient cause from making the application within the specified, time.”

It may be appreciated that cl. (a) of r. 2 provided that where a firm is not registered under the Indian Partnership Act, 1932 or where the deed of partnership is not registered under the Indian Registration Act, 1908 and the application for registration is being made for the first time under the Act, the application was required to be filed (1) within a period of 6 months of the constitution of the firm or before the end of the previous year of the firm

whichever was earlier, if the firm was constituted in that previous year or (2) before the end of the previous year in any other case. It is an undisputed fact that the assessee-firm had been doing its business of exhibition of films since much prior to March, 1953 when Shri Noor Mohd., partner had died. As stated by the Tribunal, remaining two partners had continued to carry on the same business though they had not entered into a new partnership agreement nor had they filed any registration application with the IT Department. That position continued right upto asst. yr. 1959-60. It is thus clear that the assessee-firm had been in existence prior to the asst. yr. 1960-61 and, therefore, the provisions of sub-cl. (ii) of cl. (a) of r. 2 of the 1922 Rules were applicable to the case of the assessee. The accounting year of the assessee-firm ended on 31st Dec., 1959 and on that day the assessee-firm had filed an application for registration duly accompanied with the instruments of partnership and other relevant papers.

5. The difficulty that seems to have arisen appears to have ensued from the fact that the return for this year was filed by the assessee in September, 1962. By that time the Act of 1961 had already come into force w.e.f. 1st April, 1962 as per provision of s. 297(2)(b) of the Act of 1961, the assessment was to be completed in accordance with the provisions of the Act of 1961. Sec. 297, as is relevant for our purpose provided as under : “(1)……… (2) Notwithstanding the repeal of the Indian IT Act, 1922 (11 of 1922) is hereby repealed…… (b) Where a return of income is filed after the commencement of this Act otherwise than in pursuance of a notice under s. 34 of the repealed Act by any person for the assessment year ending on the 31st day of March, 1962, or any earlier year, the assessment of that person for that year shall be made in accordance with the procedure specified in this Act.” Clause (b) of sub-s. (2) of s. 297 clearly mandates that where a return of income is filed after commencement of the Act of 1961 otherwise than in pursuance of a notice under s. 34 of the repealed Act by any person for the assessment year ending 1st March, 1962, or earlier year, the assessment of that person for that year shall be made in accordance with the procedure specified in the Act of 1961. The difficulty which appears to have arisen before the ITO in the case of the assessee for this year seems to be that whereas an application for registration of the firm was filed as per provisions contained in s. 26A of the Act of 1922 and r. 2 of the Rules framed under that Act, the return was filed after coming into force of the Act of 1961 and such return was to be processed as per provisions of the Act of 1961. The ITO appears to have completed the assessment as per provisions of the Act of 1961 but dealt with the registration application as per provisions of the Act of 1922. That was not permissible in law. It seems to us that the Central Government with a view to remove difficulties being faced by the ITOs in the matter of registration and refund proceedings and completion of assessment during transitional period made the IT (Removal of Difficulties) Order, 1962. Art. 2 of such order provided that for the purposes of cls. (a) and (b) of sub-s. (2) of s. 297 of the IT Act, 1961, proceedings relating to registration of a firm or a claim for refund of tax shall be regarded as a part of the proceedings for the assessment of the person concerned, for the relevant assessment year. Art. 3 provided that in cases covered by cl. (b) of sub-s. (2) of s. 297 of the repealing Act the assessment shall be made, inter alia, in accordance with the procedure specified in the following sections of the repealing Act in so far as they may be relevant for the purpose of ss. 131 to 136, 140 to 146, 153 [except sub-s. (2) and cl. (iii) of sub-s. (3)], ss. 156 to 158, 185, 187 to 189, 282 to 284 and 288. It is thus quite evident that the matter of registration of a firm was to be considered as a part of the proceedings for the assessment of a person and such matter was to be dealt with as per provisions of ss. 185 to 187 to 189 of the Act of 1961. In this context it may be useful to refer to a Circular No. 43(xv)-(ii) of 1954 dt. 17th Dec., 1954 and No. 34(25)-(9) of 1955 dt.

20th Aug., 1955 which, in substance, enjoined upon the ITOs not to reject an application for renewal of registration without giving an opportunity to the assessee to file an application for renewal of registration within reasonable time. On a reading of Arts. 2 and 3 of the IT (Removal of Difficulties) Order, 1962 along with s.

297(2) of the Act of 1961, it becomes quite clear that the matter of registration of a firm was to be regarded as part of the process of assessment and in that sense of the matter was to be dealt with as per provisions of ss. 185 to 187 to 189 of the said Act. As has been discussed above, the application filed by the assessee-firm on 31st Dec., 1959 for grant of registration for asst. yr. 1961 was well within time as per provisions of Act of 1922 and the rules made thereunder. However, in view of s. 297(2) of the Act of 1961 the assessment was to be made as per provisions of the Act of 1961 and the matter of registration was also to be dealt with in accordance with the provisions of ss.

185 and 187 to 189 of the Act of 1961, the Tribunal was, therefore, well justified in directing the ITO to allow the assessee an opportunity to file an application for registration as per provisions of the Act of 1961. To sum up, we hold that the applications filed by the assessee-firm on 31st Dec., 1959 for grant of registration to it for asst. yr.

1960-61 was well within time. Referred question No. 2 is thus required to be answered in the affirmative, i.e., for the assessee and against Revenue.

In so far as referred question No. 1 for this year is concerned, it may be pointed out that the ITO had no doubt purported to pass his order under s. 184(4) of the Act of 1961, but in fact, the order passed by him refusing grant of registration to the assessee-firm was in fact and in reality an order passed under s. 185(5). A bare perusal of the relevant provisions contained in s. 184 makes the things quite clear. Sec. 184 simply deals with the subject of filing application for registration. Sub-s. (4) of s. 184, lays down that the application shall be made before the end of previous year for the assessment year in respect of which registration is sought. The proviso under sub-s. (4) empowers an AO to entertain the application made after end of the previous year. Sub-s. (4) of s. 184 does not empower the ITO either to grant or refuse to grant registration of the firm. It is s. 185 which deals with the procedure after receipt of application for registration. Enquiry into the genuineness of the firm and its constitution as specified in the instrument of partnership is to be made under sub-s. (2) of s. 185. The ITO, after conducting such enquiry may grant or may refuse to grant registration to a firm. Sub-ss. (2), (3) and (4) deal with the rectification of the defects, if any, in the application and empower the ITO to pass necessary orders in that behalf. Sub-s. (5) empowers the ITO to refuse to register a firm for an assessment year where there has been failure, as is mentioned in sub-s. 144, on the part of a firm. It is thus quite clear that s. 184 does not contemplate an order to be passed by the ITO in respect of granting or refusing to grant registration to a firm. It is s. 185 which empowers the ITO to pass an order in that respect. The order passed by an ITO under s. 185 of the Act of 1961, is unquestionably an appealable order as per provisions of s. 246(g) of the Act of 1961.

In view of the above discussion we hold that the Tribunal was justified in holding that the ITO’s order purported to have been passed under s. 184(4) was, in fact, an order under s. 185(5) and as such was an appealable order. We accordingly, answer question No. 1 in the affirmative, i.e., for the assessee and against the Revenue.

Now coming to question No. 3 in this year we find that the validity of the partnership has been challenged on the ground that the profits of the business were in reality distributed amongst three persons whereas the agreement of partnership was entered into between two persons. The scope of the question referred in asst. yr. 1961-62 requires us to examine the nature and character of the payment made to the alleged third person namely Shri Abdul Razaq in his capacity as guardian of the estate of the deceased partners Shri Noor Mohd. It would, therefore, be, we think, convenient and proper to deal with question No. 3 for asst. yr. 1960-61 along with, the question referred to us for asst. yr. 1961-62. Asst. yr. 1961-62

11. As pointed out above the deceased partner, Shri Noor Mohd. had 1/3rd share in the partnership business. Shri Noor Mohd. died in March, 1953 leaving behind him a will wherein he had appointed Shri Abdul Razaq as executor of the will and administrator of his estate. It is an admitted position that the remaining partners, Sarva Shri Abdul Razaq and Hamid Hussain continued to carry on the said business in the same business name. No new partnership was entered into nor any application for registration of the partnership with the IT Department was ever filed. As stated by the Tribunal, this position continued right upto asst. yr. 1959- 60. It was on 1st Jan., 1959 that the instrument of partnership which is in question, was executed between Shri Abdul Razaq and Hamid Hussain, i.e., the remaining two partners. In the preamble of this partnership deed it was mentioned that it had been decided and agreed upon between the two continuing living partners to continue the business in the same name and style. They had further decided and agreed to keep the share capital of the deceased partner in the business and to pay to the guardian of his estate equal share in the profits of the new firm in accordance with the provisions contained in s. 37 of the Indian Partnership Act, 1932. The guardian was not to bear the losses which were to be shared equally by the two remaining partners who were to carry on the business. Shri Abdul Razaq in his capacity of guardian of the estate of the deceased Shri Noor Mohd. had accepted the terms by appending his signatures to the partnership deed. This takes us to examine the scope, effect and applicability of the provisions of s. 37 of the Indian Partnership Act, 1932 to the present case. “37. Right of outgoing partner in certain cases to share subsequent profits—Where any member of a firm has died or otherwise ceased to be a partner, and the surviving or continuing partners carry on the business of the firm with the property of the firm without any final settlement of accounts as between them and the outgoing partner or his estate, then in the absence of a contract to the contrary, the outgoing partner or his estate is entitled at the option of himself or his representatives to such share of the profits made since he ceased to be a partner as may be attributable to the use of his share of the property of the firm or to interest at the rate of 6% per annum on the amount of his share in the property of the firm : Provided that where by contract between the partners an option is given to surviving or continuing partners to purchase the interest of a deceased or outgoing partner, and that option is duly exercised, the estate of the

deceased partner, or the outgoing partner or his estate, as the case may be, is not entitled to any further or other share of profits; but if any partner assuming to act in exercise of the option does not in all material respects comply with the terms thereof, he is liable to account under the foregoing provisions of this section.”

It may be mentioned that earlier there was no corresponding provision like s. 37 in the repealed ss. 239 to 266 of the Indian Contract Act, 1872 which were replaced by the present Indian Partnership Act, 1932. By giving a place to this section in the present Partnership Act a well recognised principle of partnership law embodied in analogous s. 42 of the (U.K.) Partnership Act, 1890 and which principle is that if, after the dissolution of a partnership firm, a partner has used assets or profits which are attributable to the share of a different partner, he must either pay interest or the profits which have resulted by the use of the moneys of the other partner, was given legal recognition in Indian Partnership laws. Even prior to the legal recognition having been so given, the Indian Courts applied the equitable principle underlying this section to suits of accounts of partnership [vide Udhanji Anandji Ladha vs. Bapu Dan Raw Dan Burbar AIR 1950 Bom 94 (DB)]. What s. 37 of the Indian Partnership Act, 1932 aims at is to avoid the taking of unfair advantage by the surviving partners of the share and interest of the deceased partner in the business and assets of the partnership. The object of this provision is to award compensation, for the excessive use of moneys or other assets belonging to a firm by one or some of the partners, to the partner or his heirs who did not continue to carry on the business. The principle underlying this section is in fact based on and invokes the equitable jurisdiction of Court to grant relief in a case where the surviving partner has carried on the business of the firm with the property of the firm without any final settlement between him and the outgoing partner. Till the final settlement of amount due to the retiring partner or the estate of a deceased partner out of firms asset’s not paid over to him or his legal representatives but utilised by surviving partners for continuing the business is treated as loan by the former to the latter and interest is awarded thereon though, in fact there was no contract for a loan and payment of interest. The character of the amount of interest due to the retiring partner in the unsettled accounts of the business which is being carried on by the remaining or surviving partners or the profits attributable to the use of his share in the partnership assets being basically of the nature of loan it would be illogical to make the estate of the deceased partner or his legal representatives share the losses of the business being so continued and carried on by the living partners. That being the nature of such a right the guardian of the estate of the deceased or legal representatives does not become partner in the firm.

12. A reading of s. 37 tells that this provision can apply provided the following three conditions are fulfilled : (1) Any member of the partnership firm has died or otherwise ceased to be a partner, (2) The surviving or continuing partners continue to carry on the business of the firm with the property of the firm, and (3) There has been no final settlement of accounts as between the outgoing partner or his estate and the surviving or continuing partners. If these three conditions are not satisfied s. 37 cannot be brought into play. It may be noted that s. 37 does not contemplate the dissolution of partnership firm by a notice as provided in s. 43 of the Indian Partnership Act, 1932. Nor does it apply to clandestine or sham arrangements smelling lack of good faith and honest exigencies of business. The arrangement made in the present case by the instrument of partnership dt. 1st Jan., 1959 read in the light of the will of the deceased Shri Noor Mohd. was not found to be of such a nature. Sec. 37 in fact lays down, inter alia, the substantive law relating to the liability of the surviving partners in utilising the assets of the firm without settling accounts with the representatives of a deceased partner continuing the business as their own. Since the principle underlying s. 37 is based on the equitable jurisdiction of the Court to grant relief in a case, the merits of the given case shall have to be examined for the applicability of this section. Once the provisions of s. 37 are found applicable to a case, the right of the estate of the deceased or outgoing partner or his legalrepresentatives to receive interest on the amount of deceased or outgoing partner in the property of the firm or to claim a share in the profits made by the partnership and which is attributable to the use of the share of the deceased or outgoing partner in the property of the firm would be a charge on the assets or profits of the firm and as such a deductible expenditure in the computation of the income of the firm for the reason that such an expenditure was incurred wholly and exclusively for the purposes of assessee’s business. Such a change does neither make the guardian of the estate of the deceased partner or his legal representative a partner in the firm nor does it affect the character of the partnership as a genuine entity.

13. In view of the above discussion we answer the questions, referred to us for the two years, in the following manner : Asst. yr. 1960-61.

Question No. 1 : The Tribunal was justified in holding that the ITO’s order passed under s. 184(4) was in fact an order under s. 185(5) and was appealable.

Question No. 2 : The Tribunal was right in holding that the application for registration filed on 31st Dec., 1959 for asst. yr. 1960-61 was filed within the time allowed.

Question No. 3 : The Tribunal was right in holding that the partnership was valid. Asst. yr. 1961-62.

The Tribunal was right in holding that the payment made to Shri Abdul Razaq in his capacity as guardian of the estate of deceased partner Shri Noor Mohd., was a charge on the profits of the firm. Let the above answers along with the record of the Tribunal, if requisitioned, be communicated to the Tribunal for further action according to law.

[Citation : 224 ITR 244]

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