Out of these four appeals, two appeals preferred by the assessee being ITA Nos. 985 & 986/Nag/1996, are directed against the orders of the learned Commissioner (Appeals) dated 24-9-1996, and 9-9-1996, passed against the assessing officer's orders under sections 143(3) and 154/143(1)(a) respectively for assessment year 1994-95 whereas the other two appeals preferred by the revenue being ITA Nos. 38 & 39/Nag/2001 are directed against the learned Commissioner (Appeals)' common order, dated 20-11-2000, for assessment years 1997-98 and 1998-99 against which the assessee has also filed its cross-objections being C.O. Nos. 15 & 16/Nag/2001. As all these appeals and cross-objections are inter-linked and involve a common issue, we find it convenient to dispose of the same by this common order.
At the time of hearing before us the learned counsel for the assessee has not pressed the cross-objections filed by the assessee being C.O.Nos. 15 & 16/Nag/2001. Accordingly, the same are dismissed as not pressed.
At the outset we may mention that the assessee despatched its appeals being ITA Nos. 985 & 986/Nag/1996 by registered post on 17-12-1996, which were received by this office on 23-12-1996, and the impugned orders of the learned Commissioner (Appeals) having been served on the assessee on 21-10-1996, there was a delay of 3 days in filing the said appeals. Before us the assessee has filed a petition dated 10-4-2000, requesting for the condonation of this delay and after considering the reasons given therein as well as the facts apparent from record, we have condoned the delay of meagre 3 days in filing the said appeals by the assessee.
We first take up the assessee's appeal being ITA No. 986/Nag/1996, which is preferred against the order passed by the learned Commissioner (Appeals)-I, Nagpur, dated 9-9-1996, while disposing of the assessee's appeal preferred against the order under section 154 passed by the assessing officer for assessment year 1994-95. In this appeal the assessee has taken various grounds challenging the orders of the authorities below in law as well as on the factual merits of the case.
As far as validity of order passed by the assessing officer under section 154 is concerned, it is observed that the return filed by the assessee in this case was initially processed by the assessing officer under section 143(1)(a) on 16-3-1995, allowing deduction claimed by the assessee under sections 80HH and 80-I on the gross total income before deducting payments made to partners on account of remuneration and interest on capital. Subsequently a notice under section 154(1)(b) was issued by the assessing officer on 24-11-1995, and rectification order under section 154 was passed on 29-12-1995, rectifying the mistake committed by him while processing the return under section 143(1)(a) in allowing deductions under sections 80HH and 80-I on the gross total income before deducting payments made to the partners of the assessee-firm on account of interest and remuneration instead of gross total income after deducting the said payments. Meanwhile regular assessment proceedings were also initiated by the assessing officer by issuing notice under section 143(2) on 27-10-1995, and it is thus evident that the order under section 154 was passed by the assessing officer rectifying intimation issued under section 143(1)(a) in pursuance of a notice under section 154(1)(b) issued (on 24-11-1995, in this case) after the date of issue of notice under section 143(2) (27-10-1995, in this case). In the case of Lakhanpal National Limited and Hytaisun Magentics Ltd. v. Dy. CIT (1996) 222 ITR 151 (Guj), the Hon'ble Gujarat High Court has held that notice under section 154(1)(b) seeking rectification of intimation under section 143(1)(a) cannot validly be issued after the issuance of notice under section 143(2).
Explaining further, their lordships of Hon'ble Gujarat High Court have observed that once the notice under section 143(2) is issued, the assessing officer has to complete the procedure of assessment as laid down under section 143(3) and there is no question of issuing notice under section 154(1)(b). The Hon'ble High Court therefore, proceeded to quash such notice issued under section 154(1)(b) as well as the order passed under section 154 in pursuance of such notice. As such considering that the facts involved in the present case are identical, we respectfully following the aforesaid decision of the Hon'ble Gujarat High Court, quash the notice issued under section 154(1)(b) in the present case as well as the order passed under section 154 in pursuance of the same. As the assessee has succeeded on this preliminary legal ground resulting into quashing of the order passed by the assessing officer under section 154 by us, we do not deem it necessary to consider and decide the other grounds raised by the assessee in this appeal on the factual merits of the case as the same have become only of academic nature. We may also make it clear that although the order passed under section 154 in this case for assessment year 1994-95 has been quashed by us allowing the appeal of the assessee being ITA No.986/Nag/1996, the order passed by the assessing officer under section 143(3) for the same year i.e., assessment year 1994-95 very much survives and so also the appeal of the assessee in ITA No. 985/Nag/1996 which is now being taken up for consideration and disposal.
The appeal of the assessee in ITA No. 985/Nag/ 1996 is directed against the order of the learned Commissioner (Appeals)-I, Nagpur, dated 24-9-1996.
In this case the assessee claimed deductions under sections 80HH and 80-I on the gross total income before deducting interest and remuneration paid to partners. The assessing officer, however, was of the opinion that the said deductions are to be allowed on the gross total income as defined in section 80B(5) i.e., after taking into consideration all the deductions admissible under sections 28 to 43D which includes section 40(b) providing for deduction of interest and salary paid to the partners. He, therefore, restricted the deductions under sections 80HH and 80-I on the gross total income computed after deducting remuneration and interest paid to the partners. This issue was carried before the learned Commissioner (Appeals) who upheld the order of the assessing officer on this issue. Aggrieved by the same, the assessee is in appeal before us.
A similar issue also arose in assessee's case for assessment years 1997-98 and 1998-99 wherein while considering the assessee' appeals preferred against the assessing officer's orders, the learned Commissioner (Appeals) took a different view and allowed the appeals of the assessee holding that the interest and remuneration paid to the partners being merely a distribution of profit of the partnership firm, deduction under section 80HH is to be computed on the gross total income of the partnership firm before deducting such payments vide his common order, dated 20-11-2000. Aggrieved by the same, the revenue has preferred its appeals being ITA Nos. 38 & 39/Nag/2001.
Thus, the only question arising out of in these three appeals which requires our consideration is whether the deductions under sections 80HH and 80-I are to be allowed in the case of a partnership firm on gross total income after deducting interest and remuneration paid to the partners or on the gross total income before making such deductions. The learned counsel for the assessee submitted before us that according to the terms of partnership deed entered into by and between the partners of the assessee-firm, the partners were to be paid interest on their capital and remuneration to the three working partners only after taking into account the deductions admissible under sections 80HH and 80-I. According to him, it was agreed by and between the partners of the assessee-firm that the share income would be paid in the form of interest and remuneration. His contention in this regard was that the terms of the partnership deed as amended were not appreciated properly by the assessing officer and while allowing deductions under sections 80HH and 80-I on gross total income of the firm after deducting the interest and remuneration paid to the partners the assessing officer took a different stand in contradiction to the specific terms and conditions of the partnership deed. Relying on the decisions of Hon'ble Supreme Court in the case of CIT v. J.P. Kanodia & Co. (1970) 77 ITR 515 (SC) as well as that in the case of Khanjan Lal Sewak Ram v. CIT (1972) 83 ITR 175 (SC) he contended that the department ought to have adhered to the terms of partnership deed and accordingly relief should have been granted to the assessee-firm. He further contended that as per the provisions of Indian Partnership Act, 1932, the partnership firm is not a distinct legal entity apart from the partners constituting it and as such the authorities below were not justified in treating the income of the firm -and that of partners separately for the purpose of allowing deductions under sections 80HH and 80-I. In support of this contention he relied on the decision of Hon'ble Supreme Court in the case of Malabar Fisheries Co. v. CIT (1979) 120 ITR 49 (SC) as well as in other cases CIT v. A. W. Figgies & Co. & Ors. (1953) 24 ITR 405 (SC) and Duhchand Laxminarayan v. CIT (1956) 29 ITR 535 (SC). He also contended that the payment of salary to a partner represents a special share of the profits and, therefore, such salary paid to the partners retains the same character as that of the income of the firm.
The learned counsel for the assessee submitted that the interest and salary paid to the partners used to be disallowed in computing the profits of the firm under section 40(b) upto assessment year 1992-93 and the provisions of the said section were amended with effect from 1993-94 allowing interest and remuneration paid to the partners while working out the income of the firm from assessment year 1993-94 just for the purpose of avoiding double taxation of the income. According to him, the effect of the said amendment is that the profits of the firm have now been sought to be bifurcated partly by way of interest and remuneration to the partners with effect from assessment year 1993-94.
He, therefore, contended that the payment of interest and remuneration paid to the partners represents the part of the business profit of the firm and the same does not represent an expenditure in computing the profit of the firm as per the provisions of sections 30 to 43D. He further submitted that deductions under sections 80HH and 80-I are to be allowed on gross profits of the industrial undertaking irrespective of the status of the assessee and contended that the said deductions in the case of the firm have to be allowed on the gross profit of the firm including the share of income payable to the partners in the firm by way of interest and remuneration. Referring to the provisions of section 40, he contended that the same are prohibitory in nature inasmuch as the same deals with the disallowance of expenses which otherwise could be claimed by the assessee under sections 30 to 43D.He, therefore, contended that section 40 does not contain the provisions for allowing the business expenditure in computing the income of the assessee-firm and the provisions of section 40(b) provide only for the distribution of profits of the firm partly among the partners.
The learned counsel for the assessee further contended that the partnership firm is not a legal person and it merely represents compendium of the persons who constitute the same. He also contended that the character of the income of the firm remains the same even in the hands of the partners as held by the Hon'ble Supreme Court in the case of CIT v. R.M. Chidambaram Pillai (1977) 106 ITR 292 (SC). As regards the reliance placed by the assessing officer on the provisions of section 80AB and section 80B(5) he contended that the same have no bearing whatsoever on the issue under consideration because the deduction on account of interest and remuneration paid to the partners as per the provisions of section 40(b) are nothing but the bifurcation/distribution of the profit of the firm among the partners.
He also contended that the learned Commissioner (Appeals) has also upheld the view canvassed by the assessee for assessment years 1997-98 and 1998-99 while allowing deductions under sections 80HH and 80-I on the gross total income of the firm before deducting interest and remuneration paid to the partners and, therefore, there is no case for the revenue to dispute the deductions rightly claimed by the assessee under sections 80HH and 80-I. In support of this contention, he placed reliance on the Hon'ble Supreme Court's decision in the case of CIT v.Vegetable Products Ltd, (1973) 88 ITR 192 (SC) wherein the Hon'ble Apex Court has held that if the language of a taxing provision is ambigious or capable of more than one meaning, the meaning/view favourable to the assessee has to be adopted. He further contended that the character of income on which deductions under sections 80HH and 80-I are admissible would be one and the same in the hands of the firm as well as in the hands of the partners and, therefore, if the deductions under sections 80HH and 80-I are allowed on the income of the firm after deducting the interest and remunerations paid to the partners, a such treatment would result in taxation of income in the hands of the partners which otherwise would have been exempt in the hands of the firm. In this regard, he contended, that the assessee-firm in order to remove this anomaly, amended its partnership deed providing specifically that the interest and remuneration to the partners would be allowed from the income after allowing deduction under sections 80HH and 80-I and the authorities below were not justified in ignoring the said provisions of the partnership deed. He also submitted that the deduction under sections 80HH and 80-I have been allowed by the assessing officer himself in assessee's own case for assessment year 1993-94 as claimed by the assessee contended that the assessee's claim thus having been allowed in the preceding as well as succeeding years, the decision of the authorities below based on different view taken in assessment year 1994-95 deserves to be reversed.
The learned Departmental Representative, on the other hand, contended that although the, learned counsel for the assessee has raised various contentions, a very limited issue of whether the deductions under sections 80HH and 80-I are to be allowed on the gross total income after allowing interest and remuneration paid to the partners or not is involved in the present case. She also contended that as per the provisions of section 80A(1) the deductions under sections 80C to 8OU are admissible from the gross total income of the assessee and as per the definition of "gross total income" given in section 80B(5) the same means the total income computed in accordance with the provisions of the Act before making any deduction under Chapter VI-A. She, therefore, contended that the relevant provisions governing the deductions under sections 80C to 80U which include sections 80HH and 80-I are very clear and unambiguous as regard the manner and method of working out such deductions. Regarding the various contentions raised by the learned counsel for the assessee in the light of number of decisions cited by him in support, she contended that all those decisions relate to the assessment years earlier to assessment year 1993-94 and considering the amendment made in the provisions of section 40(b), the same cannot be applied to the case involving assessment years 1993-94 onwards including the present cases involving assessment years 1994-95, 1997-98 and 1998-99. According to her, as per the amended provisions of section 40(b), deductions in respect of interest and remuneration paid to the partners have been made admissible and the assessee-firm, having claimed the same, its gross total income for the purpose of allowing deductions under section under sections 80HH and 80-I ought to be taken after deducting the said amounts. She contended that as per the said amendment made effective from assessment year 1993-94, section 40(b) provides for disallowance of interest and remuneration paid to the partners only to the extent to which the same exceed the limit specified therein and as far as payment of such expenses within the said specified limits is concerned, the same is very much allowed under the said section. Relying on the decisions of Hon'ble Supreme Court in the case of CIT v. Kotagiri Industrial Co-operative Tea Factory Ltd. (1997) 224 ITR 604 (SC) as well as in the case of Cambay Electric Supply Industrial Company Ltd. v. CIT (1978) 113 ITR 84 (SC) she contended that the issue relating to the allowability of deductions under sections 80HH and 80-I on the gross total income as defined in section 80B(5) has been fully settled and there is no scope for construing the said expression differently in the case of partnership firm.
In the rejoinder, the learned counsel for the assessee submitted that the decisions of Hon'ble Supreme Court cited by the learned Departmental Representative are on different points and the issue involved in the present case relating to the determination of gross total income in the case of the partnership firm in the light of provisions of section 40(b) being different the ratio of the said decisions cited by the learned Departmental Representative cannot be applied to the facts of the present case.
We have heard the rival submissions in the light of material placed before us and the precedents relied upon. It is observed that although the issue involved in the present case lies in a small compass, the learned counsel for the assessee has raised various contentions and has also advanced elaborate arguments to support the assessee's case. First of all he has contended that the payment of interest and remuneration to the partners represents distribution of profit and, therefore, the same cannot be considered as deductions from profit of the assessee-firm. In support of this contention he has also relied on various decisions wherein such payments have been regarded as a firm of distribution of profits of the firm among the partners. In this regard it is pertinent to note that all these decisions cited by the learned counsel for the assessee relate to the assessment years prior to 1993-94 and after the amendment made in section 40(b) with effect from assessment year 1993-94 the position has undergone sea change inasmuch as the payment of interest and remuneration to the partners which was the exclusive domain of the partners constituting the firm to be determined as per the terms and conditions of the partnership deed prior to assessment year 1993-94, have been made admissible deductions in the case of the partnership firm. Obvious as it is, such payments which were earlier considered as one form of distribution of profits among the partners are now treated as admissible expenditure in the determination of income of the assessee-firm. The learned counsel for the assessee has also contended before us that the partnership firm is not a distinct legal entity independent of its partners and, therefore, there is no distinction between the income of the firm and the income of its partners. Here we may observe that although the partnership firm is not considered as a separate legal entity in the eyes of law, the same is very much considered as a separate assessable unit as per the provisions of Income Tax Act and accordingly the income of the firm is determined/computed separately and independently for the purpose of determining its tax liability. Moreover, the income of the firm is computed as per the provisions of the Income Tax Act including the provisions of section 40(b) which specifically allow deductions on account of interest and remuneration paid to the partners subject to certain limits specified therein and the tax is levied on the income of the firm computed as such net of interest and salary paid to the partners.
The learned counsel for the assessee has also contended before us that the provisions of section 40 are overriding for the disallowance of the expenses which could otherwise be allowed under sections 30 to 43D and, therefore, section 40(b) is not a provision for allowing the business expenditure in computing the income of the partnership firm. In our opinion, the provisions of section 40(b) cannot be read in isolation and the same have to be considered together with the provisions of sections 30 to 43D in order to appreciate the scheme of assessment of business income in the case of the partnership firms in its entirety.
The payment of interest and remuneration to the partners is of compensatory nature as the same relates to the use of partners' capital for the purpose of firm's business as well as the services rendered by the partners. Considering the nature of the said expenses, the same would have been covered within the ambit of the provisions of section 37 or section 36(1)(iii) to constitute admissible expenses in the hands of the assessee-firm. However, because of the specific provisions contained in section 40 specifying the amounts not deductible, the same were not allowable as such prior to the amendment in section 40(b). As per the said amendment, such expenses are now being allowed from assessment year 1993-94 onwards against the business income in the hands of the partnership firm subject to certain terms and conditions specified therein and if the entire scheme of assessment of business income of the partnership firm is taken into consideration, it is very much evident that the said expenditure has been specifically allowed in the case of partnership firms to arrive at the gross total income. In the circumstances there is no basis to draw the conclusion that the said expenditure being covered by section 40(b) is to be considered as not deductible by literally construing the language used in section 40.
The provisions of section 40(b) are required to be interpreted taking into consideration the entire scheme of assessment of firm's income and the appropriate meaning needs be assigned thereto which is in consonance with the object and purpose of enacting the same. If this is done, it cannot be said that section 40(b), after the amendment made by the Finance Act, 1992, entirely debars the admissibility of the interest and remuneration paid to the partners.
The learned counsel for the assessee has also contended that the deed of partnership of the assessee-firm was duly amended to provide specifically that the interest and remuneration to partners would be allowed from the income of the firm after allowing deductions under sections 80HH and 80-I and, therefore, the authorities below were not justified in ignoring the said terms and conditions of partnership deed. In this regard, it is observed that the relevant terms and conditions of the partnership deed of the assessee-firm, as amended, are not in conformity with the provisions of law. It is a settled position of law that the terms of the partnership cannot override the provisions of Income Tax Act and in the event of any conflict between the term of partnership deed and provisions of the taxing statute, the latter shall prevail over the former.
From the discussion made in the preceding paras it becomes abundantly clear that the various contentions raised by the learned counsel for the assessee as also the several decisions cited by him in support of his contentions have become irrelevant in view of the amendment made in the provision of section 40(b) from assessment year 1993-94 and the present case being covered by the said amended provisions, the ratio of the decisions cited by the learned counsel for the assessee cannot be applied in the present case.
Reverting back to the main issue involved in these appeals, we find merits in the contention of learned Departmental Representative that the relevant provisions of the Act governing the allowance of deductions under sections 80HH and 80-I are quite clear and unambiguous inasmuch as the said deductions are to be allowed from gross total income of the assessee as per the provisions of section 80A(1) and the expression "gross total income," used in section 80A(1) has been defined in section 80B(5) as the total income computed in accordance with the provisions of this Act before making any deduction under Chapter VI-A. Obvious as it is, the gross total income of the assessee-firm in the present case for the purpose of allowing deductions under sections 80HH and 80-I is required to be computed, before making any deduction under Chapter VI-A, in accordance with the provisions of the Act which also include the provisions of section 40(b). As far as the computation of profits and gains of business or profession under section 28 is concerned, section 29 clearly provides that such income has to be computed in accordance with the provisions contained in sections 30 to 43D which also include provisions of section 40(b). As such, considering at the facts and circumstances of the case and in view of the reasons given herein above, we are of the considered opinion that the assessing officer was fully justified in allowing deductions under sections 80HH and 80-I in the present case on the gross total income of the assessee-firm computed after deducting the interest and remuneration paid to the partners for all the three years under consideration i.e., assessment years 1994-95, 1997-98 and 1998-99. The impugned order of the learned Commissioner (Appeals) for assessment year 1994-95 upholding the assessing officer's order on this issue is, therefore upheld whereas his impugned orders for assessment years 1997-98 and 1998-99 rejecting the similar stand taken by the assessing officer on this issue are set aside and that of the assessing officer are restored back.
In the result, the assessee's appeal being ITA No. 986/Nag/1996 as well as revenue's appeals being ITA Nos. 38 & 39/Nag/2001 are allowed whereas assessee's appeal being ITA No. 985/Nag/1996 and cross- objections being C.O. Nos. 15 & 16/Nag/2001 are dismissed as indicated above.