Commissioner of Income Tax vs Kanhaiyalal Ramgopal Kawai

V.K. Singhal, J.—This reference arises out of the order of the Tribunal, Jaipur Bench, in respect of the assessment year 1977-78 and the following question of law has been referred by the Tribunal for decision by this Court: Whether, on the facts and in the circumstances of the case, the Tribunal was justified in cancelling the order of the Commissioner made u/s 263 of the income tax Act, 1961?

The brief facts of the case are that the ITO allowed registration to the firm u/s 185 of the income tax Act, 1961 (''the Act'') observing that the firm was genuine and the profits had been divided in the account book in accordance with the terms of the partnership deed. The Commissioner initiated proceedings u/s 263 of the Act and he took the view that the profits had not been divided by the assessee in accordance with the share ratio as stated in the partnership deed dated 4-11-1975. The shares of three partners, Shri Brij Mohan, Shri Satyanarain and Shri Bhagwan Swaroop were 35 percent, 35 percent and 30 percent, respectively, whereas the assessee has divided the profits to the extent of 1/3rd each. Since profits have not been divided according to the share ratio as laid down in the partnership deed, the Commissioner took the view that the ITO was in error in granting registration to the firm and that the order was erroneous and prejudicial to the interests of the revenue. The registration, therefore, was cancelled and the ITO was directed to make the consequential benefits. The Commissioner rejected the pleas of the assessee that there was no alteration in the share ratio and that it was only a bona fide mistake and the said mistake was rectified by the assessee soon after receiving the notice issued u/s 186 of the Act from the ITO.

In appeal the Tribunal held that the assessee wrongly distributed the profits by virtue of bona fide mistake and that there was no alteration in the share ratio and the firm was genuine. The Tribunal has taken into consideration the rectification entries and relying on its earlier decision and the decision of the Allahabad High Court in the case of Commissioner of Income Tax Vs. Hari Ram Khanna, the order of the Commissioner passed u/s 263 of the Act was cancelled and the order of the ITO granting registration to the assessee-firm originally was restored.

In Hari Ram Khanna''s case (supra) the facts were that there were three partners, i.e., father and his two sons. According to the partnership deed, father was entitled to 6 annas share in the profits of the firm and his sons were entitled to five annas share each. There was a minor deviation in the division of shares because of the inadvertent fault of the accountant. The deviation was that father was credited with 5 1/3 instead of 6 annas and the two sons were credited with 5 1/3 instead of 5 annas each. The judgment of the Apex Court in Khanjan Lal Sewak Ram Vs. Commissioner of Income Tax, U.P., was distinguished on the ground that in that case, a portion of the profits was not divided amongst the partners at all. The division of shares took place before the application for registration was made and the declaration given that the shares had been divided in accordance with the partnership deed was found to be false. In the case of Hari Ram Khanna (supra) the distribution of profits had not taken place at all when the application for registration was made and the explanation for the irregularity, if any, was, on facts, found believable by the Tribunal.

In the present case, though there was a distribution of profits which was slightly different then as specified in the deed of partnership but that defect was rectified, finding of fact recorded by the Tribunal was that it was on account of inadvertent mistake. If an honest mistake is committed in the division of profits, then on broad principles it cannot affect the genuineness of the firm. The question as to whether the firm is genuine or not is a question of fact. Expression ''genuine firm'' means that the firm is really in existence and the partners are carrying on the business of the firm in accordance with the deed of the partnership. The finding of fact, as stated above, had already been recorded by the Tribunal that it was only a technical mistake which has since been corrected.

In view of the above position, we are of the opinion that the Tribunal was justified in cancelling the order of the Commissioner made u/s 263. The reference is, accordingly, answered against the revenue and in favour of the assessee. No order as to costs.