Commissioner of Income Tax vs Grace Pharma Distributors

B.P. Jeevan Reddy, J.—The Tribunal has referred the following question for our opinion u/s 256(2) of the income tax Act, 1961 (''the Act''): Whether, on the facts and in the circumstances of the case, the asses-see-firm is not entitled to registration u/s 184/185 of the income tax Act, 1961 ?

The assessee-firm was originally constituted by a deed of partnership dated 8-5-1969, comprising four partners, namely, Smt. Kamala Bai, Smt. Geeta Bai, Smt. Indravati Bai and Ramsharan Agarwal. The first two partners were having 30 per cent share each, and the latter two 20 per cent each. The accounting year was the financial year. On 1-4-1975 there was a change in the constitution of the firm. Two major partners, Smt. Kamalesh Gupta and Smt. Parameswari were taken in as partners, and two minors, Sanjay and Sandeep, sons of one Sundarlal, were admitted to the benefits of the partnership. This arrangement was re corded in the partnership deed dated 24-7-1975. According to this, each of the six major partners were entitled to a one-seventh share each. The two minors were entitled to a one-fourteenth share each. Of course, the minors were not liable for losses. On the basis of the partnership deed dated 24-7-1975 the partners applied, in Form No. 11A, on 16-8-1975 for registration of the firm. 2. On 1-10-1975, there was a further reconstitution of the firm. The minors ceased to be admitted to the benefits of the partnership, and their mother, Smt. Kamalesh S. Gupta, was admitted as a full-fledged partner. A partnership deed was also executed on the same day, according to which all the seven partners were entitled to a one-seventh share each. It was further provided in the partnership deed that the profits for the period 1-4-1975 to 30-9-1975 shall be distributed among the six partners, i.e., six major partners only, and the profits for the period 1-10-1975 to 31-3-1976 shall be divided between the seven partners. The division was to be made by apportioning the profits on time-basis. On the basis of the partnership deed dated 1-10-1975 the partners filed another Form No. 11A on 15-12-1975 for registration. The accounts were settled only at the end of the year, i.e., on 31-3-1976, and the profits distributed in accordance with the terms of the partnership deed dated 1-10-1975.

In the course of proceedings for assessment, the ITO refused registration on the ground that no registration can be granted on the basis of the partnership deed dated 1-10-1975. An appeal to the AAC failed. The matter was carried in further appeal to the Tribunal. The Tribunal dismissed the appeal mainly on two grounds. We may set out the basis of dismissal in the words of the Tribunal itself:

In other words, for the most part of the first half of the year of account in question, if not for the entire half year, the deed of 24-7-1975 was operative but that deed was not acted upon since the profits for the first half of the year, were shared among the six partners to the exclusion of the minors as provided in the deed of 1-10-1975. Thus, there are two factors which militate against the assessee''s claim for registration. First, the deed of 24-7-1975 was not acted upon in the matter of sharing of profits and the certificate given in the Form No. 11A filed on 16-8-1975 based on that deed showing the sharing of profits among the partners including the minors was not correct, second, the deed of 1-10-1975 cannot have retrospective effect from 1-4-1975 and oust the operation of the earlier deed up to 30-9-1975. The later deed evidences the contract of partnership among seven partners while the contract for the earlier period was among 6 partners with two minors admitted to benefits of partnership. The seventh partner in the later deed cannot be a party to any contract which governs the period before she became a partner....

Thereupon, this reference was obtained by the assessee, applying u/s 256(2).

The facts stated above clearly disclose that for the first six months of the accounting year, there were six major partners, with two minors admitted to the benefits of the partnership, and for the second-half there were seven major partners. It should be noted that the seventh partner admitted on 1-10-1975, Smt. Kamalesh S. Gupta, is the mother of the two minors who were previously admitted to the benefits of the partnership. Though it is not specifically stated in the partnership deed dated 1-10-1975 that the minors are removed from the benefits of the partnership with retrospective effect, that is the necessary inference that follows from the recitals in the partnership deed dated 1-10-1975. As already stated, the partnership deed recites that the profits for the period 1-4-1975 to 30-9-1975 shall be divided only among the six major partners. It is the assessee''s case that the capital, if any, contributed by the minors was to be treated as deposit with the firm, bearing interest. Be that as it may, the limited question now before us is, whether there were legitimate grounds for refusing registration u/s 185 of the Act to the partnership evidenced by the deed of partnership dated 1-10-1975.

We are unable to say that the partnership deed dated 1-10-1975 violates any of the provisions of either the Indian Contract Act, 1872, or the Indian Partnership Act, 1932. It was open to the partners to arrive at any arrangement between them, so long as it is not prohibited by law. The six major partners admitted the two minors to the benefits of partnership on 1-4-1975, and on 30-9-1975 they severed their connection with them, and then entered into a partnership with the seventh partner, Smt. Kamalesh S. Gupta and executed a fresh partnership deed. In doing so, they did not violate any provisions of the Indian Partnership Act, or for that matter, any other law. May be, the minors had certain rights; but, if they had any rights, they could always enforce them in accordance with law. On this aspect, it is equally well to remember that the seventh partner taken in on 1-10-1975 was no other than the mother of the minors. Just because some unspecified and unascertained rights of the minors were ignored while entering into partnership under the deed dated 1-10-1975, the registration cannot be refused.

Another important circumstance to be noticed in this behalf is that the profits or losses of a partnership firm can be ascertained only when the accounts are made up. As pointed out by the Supreme Court in Commissioner of Income Tax, Gujarat Vs. Ashokbhai Chimanbhai, the profits of a firm do not accrue from day-do-day or even from month-to-month, and have to be ascertained by comparison of assets at two stated points. In the case of a partnership, it was stated, where the accounts are made up at stated intervals, the right of a partner to demand his share of the profits does not arise until the contingency which by operation of law or under a covenant of the partnership deed, gives rise to that right, has arisen. This principle has been affirmed by this Court in Modern Stores Vs. Commissioner of Income Tax, Now, in this case, it must be remembered that according to the deed of partnership dated 1-10-1975, the accounts have to be made up only at the end of the year. If so, it is not possible to say whether the firm would have made profits or would have incurred losses as on 30-9-1975. Be that as it may, the alleged ignoring of the rights, if any, of the minors to ask either for accounts or for their share in the profits, if any, cannot be a ground for refusing registration to the partnership evidenced by the deed dated 1-10-1975.

The first objection of the Tribunal was that the deed dated 24-7-1975 was not acted upon in the matter of sharing of profits and that, therefore, the certificate given in Form No. 11A, filed on 16-8-1975 based on that deed, is not correct. This is begging the question for the simple reason that the profits and losses can be ascertained only when the accounts are made up at the end of the accounting year, and not at an intermediate point of time. The second objection of the Tribunal is that the deed of 1-10-1975 cannot have retrospective effect from 1-4-1975 and oust the operation of the earlier deed up to 30-9-1975. We are unable to see any legal basis for this statement. As stated above, it is always open to the partners to enter into such arrangement or agreement between them as they choose, so long as it is not prohibited by law, or is hit by section 23 of the Indian Contract Act. It is not suggested that the partnership deed dated 1-10-1975 is hit by section 23 nor could the learned standing counsel for the department cite any provision of the Indian Partnership Act or any other Act which was violated by this deed.

It was strongly contended by Mr. M. Suryanarayana Murthy, the learned standing counsel for the revenue, that under sub-section (4) of section 30 of the Indian Partnership Act, the minors, as and when their connection with the partnership is severed, have a right to sue for accounts, or payment of their share of the property, or profits of the firm. Firstly they have not chosen to enforce it; evidently, they were satisfied with the arrangement, because in their place their mother became the partner. Even otherwise, it may be that it was open to them to establish their rights by a proper proceeding at law. But that possibility cannot be a ground for refusing registration, nor can it be said that the partnership deed violates sub-section (4) of section 30. Sub-section (4) of section 30 merely declares the rights of minors whose connection with the partnership is severed. It has no relevance or bearing upon the validity of the partnership deed concerned herein. We are, therefore, of the opinion that both the grounds upon which the Tribunal refused registration, are unsustainable in law. The ITO ought to have granted registration on the basis of Form No. 11A filed on 15-12-1975. For the above reasons, we answer the question referred to us in the negative, i.e., by saying that the assessee-firm is entitled to registration u/s 185. Reference answered accordingly. No costs.