1. This is an appeal filed by the Revenue. It is directed against the order of the CIT(A)-II, Hyderabad, dated 17.2.1994 for the assessment year 1990-91, wherein he gave a finding that the two firms, M/s. Arun Chemical and Pharmaceutical Works and M/s. Hymavathi Enterprises constitute a single firm, and so, the loss of M/s. Hymavathi Enterprise is eligible for being set off against the profit of M/s. Arun Chemical and Pharmaceutical Works.
2. The assessee-firm, M/s. Arun Chemical and Pharmaceutical Works was commenced in 1960 and its business consisted of manufacture and sale of Ethyl chloride (Anaesthesia). It had different constitutions at different times, but for the purposes of this appeal, it is sufficient to note that it was constituted as a firm of four partners, by a deed of partnership executed on 19.1.1988, a copy of which may be seen at pages 1 to 4 of the assessee's paper-book, and this partnership was deemed to have been commenced with effect from 1.4.1987. The said partnership consisted of the following partners- The partners at Sl. Nos. 2 to 4 above are the sons of Smt. T.Hymavathi, the partner at Sl. No. 1 above. The relevant portion of the partnership deed dated 19.1.1988 reads as under:- "... WHEREAS the parties of the first three parts have been carrying on business under the name and style of M/s. ARUN CHEMICALS AND PHARMACEUTICALS WORKS as and from 1.4.1978 under the terms and conditions agreed upon by them as per the partnership Deed executed on 10.6.1978 and WHEREAS to have a more efficient administration and better management and strengthen the financial resources of the firm they have decided to take SRI T. RAJ KUMAR as partner and accordingly they all have constituted themselves into a partner- ship and have agreed upon the following terms and conditions- 1. The name and style of the firm is and shall be "M/s. ARUN CHEMICALS & PHARMACEUTICAL WORKS".
2. The place of business shall be carried at B-3, IDA, Uppal, Hyderabad. The parties may change the place or places as they may decide from time to time.
3. That the partnership business shall be that of - FACTURE AND SALE OF CHEMICAL & PHARMACEUTICAL PRODUCTS. They are at liberty to change the line of business with mutual consent as the partners may decide from time to time.
4. The parties may contribute the capital necessary for the business from time to time as they may be considered expedient. No interest shall be charged on the capital contributions of the partners.
5. That the partnership shall be deemed to have commenced from 1-4-1987 and shall be one AT WILL.
6. All the partners shall have Equal rights over the assets and liabilities either existing or future of the firm.
7. The party of the second part i.e. SHRI T. SHIV KUMAR shall be the MANAGING PARTNER of the Firm.
8. That the books of account shall be kept at the place of business and shall not be removed from that place. However the books of account shall be open for inspection and accessable to all the partners at all reasonable hours of business and the partners shall be entitled to take extracts or copies thereof.
9. The books of account shall be closed to profit and loss account on the 31st day of MARCH every year.
10. The Bank account or accounts in the name of the firm shall be operated either by the party of the Second or Fourth part.
11. The Net Profit/Loss of the firm after charging the expenses of the firm shall be shared amongst all the partners EQUALLY. 12. All borrowals of money for the business of the firm shall be under the joint signatures of all the partners named above.
13. Any partner who desires to retire from the partner- ship business shall give a clear three months notice in writing of his intention to retire from the firm.
14. This partnership shall not be made liable for the private and individual liabilities of any of the partners named above.
15. All disputes between the partners that may arise in relation to the matters of the business of the firm shall be referred to a mutually agreed arbitrator and the decision of the arbitrator shall be final and binding on all the partners.
16. Every partner shall be entitled to be indemnified by the firm in respect of payments made and liabilities incur- ed on behalf of the business.
17. All the partners shall be faithful to each other and shall not do any such act which shall be detrimental to the interest of the business.
18. That in all other matters which are not specifically mentioned in this DEED the Provisions of the INDIAN PARTNERSHIP ACT 1932 shall apply.
19. That the partners named hereinabove the right to add, alter, delete and/or amend any of the clauses of this Deed as they may deem it necessary from to time.
20. All other matters not specifically mentioned herein shall be Governed by the LAW OF PARTNERSHIP for the time being in force in the STATE OF ANDHRA PRADESH. ....." 3. It may be observed that the mother and the three sons had equal shares in the profits and losses of the firm. It may also be observed that the eldest son, Shri Shivkumar was the Managing Partner of the firm and the bank account of the firm was to be operated by Shri Shivkumar and Shri Rajkumar. The borrowals of the money for the business of the firm was to be undertaken under the joint signatures of all the partners.
4. When the matters stood thus, the abovementioned four partners, viz.
Smt. Hymavathi and her three sons, executed another constituting a firm, named M/s. Hymavathi Enterprises, and a partnership deed dated 24.2.1989, copy of said deed is at pages 7 to 12 of the assessee's paper-book. The relevant portion of this deed reads as under- "........ WHEREAS all the above parties have constituted themselves into a partnership today i.e. 24th day of February, 1989, under the name and style of "M/s. HYMAVATHY ENTERPRISES" for the purpose of running Hotels and Restaurants.
AND WHEREAS it is thought fit and advisable to reduce to writing in order to avoid misunderstandings amongst them- selves have decided to reduce the terms and conditions of partnership into writing as follows: 1. Name: The name and style of this partnership shall be M/s.
HYMAVATHY ENTERPRISES. 2. Address: The place of business of partnership shall be at First Floor of Building bearing Municipal No. 1-1-169/1, RTC 'X' Roads, Hyderabad-20.
3. Nature of Business: The nature of the business shall be to run, maintain Hotels, Lodging and Restaurant.
4. Commencement of Business:- The business of partnership shall be deemed to have commenced from 24th day of Feb. 1989.
6. Capital : That the capital required for the business may be contributed by any of the partners according to the needs of the business.
7. Loans and Advances: The loans and advances from Bankers, Government Corporations, Finance Companies, firms and individuals shall be brought by all the Partners in the name of the partnership firm at reasonable rate of interest from time to time by mortgage or hypothecation of the properties, if necessary.
8. Share of Profits or Losses: The profit and losses shall be appropriated between the partners as follows- 9. Day to day business: The party of the first part of T. Shiv Kumar herein shall be the managing partner and the party of the second part of T. Raj kumar shall be the working partner and they shall be responsible for day to day transactions, maintenance of accounts and they are authorised to negotiate in all matters and the remuneration may be fixed from time to time with mutual consent of all partners.
10. Books of Account: a) The books of account shall be maintained in usual manner in English language and the same shall be closed to profit and loss account every year ending by 31st March, or any such other convenient date to be decided by the partners from time to time. The profit and loss account and balance sheet shall be signed by the Managing Partner and working partner and is binding on all the partners.
b) All the account books shall be kept at the Registered Address of the partnership and shall not be removed without prior permission of all the partners. Every partner shall have a right to inspect the books of account and to take extracts from the same.
11. Operation of Bank Account: The Bank Account shall be opened in any nationalized Bank or in any scheduled bank in the name of the firm and the same shall be operated by Sri T. Shiv Kumar, Managing Partner, party of the First Part or T. Raj Kumar, Working Partner, party of the second part individually.
12. Loans from Partners: The partners can lend or advance to the firm apart from the capital, such loans or advances as may be required from time to time and such loan or advance made by any partner shall carry interest at the rate agreed from time to time.
13. Interest on Capital : The partners are entitled to received interest on their capital contributions at the rate of 12% per annum or any other rate agreed from time to time by the partners.
14. Admission of a Partner : The partners hereunto may admit any partner or partners upon such terms and conditions as may be agreed upon.
15. Retirement and/or Death : a) Any partner by giving 3 months notice, can retire from the partnership and it is mutually agreed that the retiring partner shall not claim any revaluation of any of the assets or claim any share in the name or goodwill or any of the licences of the business.
b) In case of death of any partner, the legal heir of such partner shall succeed him in partnership if agreed by the other partners.
c) The retirement, death or insolvency of any partner shall not act as the dissolution of the firm.
16. Drawings : Partners have the right to withdraw some amount as "Drawings" which shall be decided by the partners from time to time.
17. The Partners shall take on lease any building or buildings on lease for purchase of running Restaurants or Hotels by a lease deed and such lease deed can be executed by any one of the partners on behalf of the firm. And such lease hold building be suitably altered by expending, altering or modernizing to run the Hotels or Restaurants.
18. Neither of the partners shall without the consent of the other partners:- a) Employ any money, goods of effects of the partnership or pledge the credit therein except in due and regular course of business upon the account or for the benefits of the partner- ship.
b) Enter into any bond or become bail, security or surety with or for any parsons, do or knowingly suffer to be done anything whereby the partnership property or any part thereof may be attached, seized or taken into execution.
c) Assign, Mortgage or charge his share in the partnership or any part of such share or make any other person a partner with his share therein.
d) Compromise, compound or accept upon payment thereof in full release or discharge of any debt due to the partner- ship.
e) Lend any money of the partnership or give credit on behalf of the partnership or have any dealings with any persons, company or firm when the other partners shall previously in writing has forbidden him to trust or deal with.
Any partner committing any breach of the foregoing stipulations shall indemnify the other against all losses and/or damages that may be suffered by reason of such breach.
19. Any of the above clauses may be altered, varied, modified, cancelled or added on mutual consent of the partners.
20. With regard to any change in the terms mentioned above, the same shall be brought by executing a deed of amendment to the partnership on a valid stamp paper of Rs. 5/-...
21. With regard to any other terms not touched by this agreement, the partnership act in force shall be applicable." It may be observed that the Deed dated 24.2.1989 does not refer at all to the fact that Smt. Hymavathi and her three sons have been carrying on business under the name and style of M/s. Arun Chemicals and Pharmaceuticals Works. Further, many of the terms of the Deed dated 24.2.1989 are different from those of the earlier Deed dated 19.1.1988 governing the firm, M/s. Arun Chemicals and Pharmaceuticals Works. M/s.
Hymavathi Enterprises has a new place of business and while Shri Shiv Kumar is the Managing Partner of both the firms, Shri Rajkumar is declared working partner of M/s. Hymavathi Enterprises and there is no such working partner for M/s. Arun Chemical & Pharmaceutical Works. It may be observed that the business of M/s. Hymavathi Enterprises is to run and maintain a hotel, lodging house, etc., which is totally different from the business of M/s. Arun Chemical and Pharmaceutical works. The important common feature between the two firms is that the partners and the profit sharing ratios of both the firms are the same.
5. Subsequently, there was an amendment to the Deed governing the firm, M/s. Arun Chemical and Pharmaceutical Works and the amended deed dated 26th September, 1989, a copy of which is filed at pages 5 and 6 of the assessee's paper-book, replaces Clause 3 of the earlier deed dated 19.1.1988, with the following:- "That the partnership business shall be that of AND SALE OF CHEMICAL & PHARMACEUTICAL PRODUCTS and that of running maintaining Hotels restaurants, Boarding Lodging houses, Caterers and such activity connected to the said business of hotels. They are at liberty to change the line of business with mutual consent as the partners may decide from the time to time." It may be observed that the original Clause-3 of the deed dated 19.1.1988 empowered the firm to change its line of business by mutual consent of the partners, whereas by the above amendment dated 26th September, 1989, it is specified that the business of the firm shall be that of manufacture and sale of chemical and pharmaceutical products and the running and maintenance of hotels, restaurant, boarding and loding etc.
6. Tehre are two more developments and they are in respect of M/s.
Hymavathi Enterprises. Vide deed dated 22.1.1990, which may be seen at pages 13 to 17 of the assessee's paper-book, two more partners have been inducted and the profit sharing ratio lia ddown in Clause 8 of this deed reads as under:- "8. The profits/losses after charging the expenses of the firm shall be shared amongst the partners as under It may be observed that out of the two newly admitted partners, Smt.
Puspa is the wife of Shri T. Shivkumar and Smt. Geetha is the wife of Shri T. Rajkumar.
7. On 19.3.1990, a deed of retirement was executed and as per this deed, Smt. Puspa and Smt. Geetha retired from M/s. Hymavathi Enterprises with immediate effect and the original profit sharing ratio between te four old original partners, viz. mother and three sons, was restored.
8. For the assessment year 1990-91, M/s. Arun Chemical and Pharmaceutical Works filed a return, declaring a loss of Rs. 46,420, which has been arrived at as under:-"Income from property at Rs. 6,04,4801) Less: Loss from business in the It may be observed that the assessee claimed set off for the loss of Rs. 5,79,852 relating to the firm M/s. Hymavathi Enterprises, which ran Crystal Coffee Club against the income from property of Rs. 6,04,480 of M/s. Arun Chemical & Pharmaceutical Works. The set off was claimed on the ground that both the firms, even thogh created under two separate deeds, constituted only one firm.
9. The assessing officer noticed that the assessee did not file the original deed dated 24.2.1989 relating to M/s. Hymavathi Enterprises or the subsequent deed dated 22.1.1990 inducting two more partners or even the deed of retiremnet dated 19.3.90 by which the said two partners who had subsequently joined have retired. On enquiries with the Sales Tax Department, it was ascertained by the Assessing Officer that M/s.
Hymavathi Enterprises got registration with that Department on the basis of the deed dated 22.1.1990, which constituted a firm of six partners. he observed that the firm, M/s. Hymavathi Enterprises did not inform the Sales Tax Deprtment about the retirement of two partners.
Smt. Puspa and Smt. Geetha from M/s. Hymavathi Enterprises. He took a deposition from Shri T. Shivakumar, Managing Partner of both the firms, in which he admitted that Sales Tax Department was not informed about the retirement of Smt. Puspa and Smt. Geetha. The assessing officer thereupon rejected the claim that the two firms, M/s. Arun Chemical and Pharmaceutical Works and M/s. Hymavathi Enterprises constituted one firm, with the following remarks- "18. When the clear cut difference between the constitutions of assessee firm viz. M/s. Arun Chemical and Pharmaceutical Works and that of MpM/s. Hymavathy Enterprises - (Crystal Coffee Club) was put to the assessee and when it was required as to why both the entities shall not be treated as separate and totally distinct to each other and the set off of loss claimed relating to M/s. Hymavathy Enterprises shall not be disallowed, the Managing Partner answered in the swron deposition dated 23.3.1993, that, if the constitutions of the both the firms are different, they should be treated as different entites and assessedseparately. However, subsequently, the Managing Partner viz. Sri T. Shiv Kumar filed a copy of deed of retirement dated 19.3.90 purporting to have retired the lady partners, viz. Smt. T. Pushpa and Smt.- T. Veeta; and that their shares to go to theri respective husbands. The Managing Partner has categorically admitted that the so-called deed of retirement had not been filed before the Sales Tax authorities and in support thereof he filed a letter stating that the copy of retirement deed was not filed before the Sales Tax authorities.
19. In view of the above documentary evidnece and also in view of the omissions and commissions and overt acts committed, the contention of the assessee that the constitutions of both the firms viz. M/s. Arun Chemical and Pharmaceutical Works, Uppal and M/s.
Hymavathy Enterprises (Crystal Coffee Club), RTC 'X' Roads, Hyderabad is the same is not maintainable as true adn correct. Also, the contention that the carrying on of business as hoteliers is supported by the ancillary clause in Clause 3 of partnership deed dated 19.1.88 is not maintainable as true and correct. This is amply proved by Clause No. 4 of the partnership deed dated 24.2.89, which states that the partnership shall be deemed to have commenced from that date (though the said deed was not filed either before the income-tax Department or before the Sales Tax Department). It is also proved beyond any iota of doubt, that the firm of M/s.
Hymavathy Enterprises constituted with six parners under deed of partnership executed on 22.1.90 wa scommenced w.e.f. 1.1.90 only.
When it is specifically mentioned in the partnership deed of M/s.
Hymavathy Enterprises that the said partnership commenced only w.e.f. 1.1.90, it is not correct on the part of the assessee that the carring on of business as hotelliers is pursuant to the ancillary clause in Clause 3 of partnership deed dated 19.1.88 of M/s. ARun Chemical and Pharmaceutical Works, Uppal. Further, M/s.
Hymavathy Enterprises (Crystal Coffee Club) has been filing the returns under Sales Tax Act with the constitution of six partners only and the Sales Tax authorities have completed the assessments, on the same firm.
20. It is therefore clear that both the firms are two distinct entities for; (1) the names of the firms are different; (2) the nature of business of both the entitis is different, (3) the places of business of both the entities are different, (4) the constitutions of both the entities i.e. of the assessee firm with the four partners and that of M/s. Hymavathy Enterprises (Crystal Coffee Club) with six partners are different.
21. The provisions of Sections 70 to 79 of the Income-tax Act speak of allowability of losses under the same head, set off of losses of one head under the another head of income, and carry forward of such losses of the same entity only. None of the provisions of Income-tax Act, 1961 envisage allowance of set off of losses of one entity from the income of another entity which is totally different.
From the above, it is clear that the assessee firm has adopted a device in claiming the set off of alleged losses from M/s. Hymavathy Enterprises (Crystal Coffee Club) from the Income of the assessee firm with the manifest intention of difrauding the revenue and to evade tax on the legitimate income." 10. The CIT(A) however allowed the claim of the assessee on appeal. It was pointedout before the CIT(A) that the assessee had actually addressed a letter dated 22.3.1990 to the Sales Tax Department informing about the retirement of the two ladies, Smt. Puspa and Smt.
Geetha from M/s. Hymavathy Enterprises. A copy of the siad letter is also filed before us at page-21 of the assessee's paper-book. It was also pointed out before the CIT(A) that the assessee had filed Form No.45D dated 45.7.90 before the ITO. Survey stating that M/s. Hymavathy Enterprises was a unit of M/s. Arun Chemical and Pharmaceutical Works.
It was also claimed that the business of M/s. Hymavathy Enterprises commenced only on 23.3.1990 and by that time, the two ladies Smt. Puspa and Smt. Geetha retired from the firm. M/s. Hymavathi Enterprises, and so, on the date of commencement of the business of M/s. Hymavathi Enterprises, both the firms, viz. Arun Chemical and Pharmaceutical Works and M/s. Hymavathi Enterprises had common partners with common profit sharing ratios. It was also claimed that the business of M/s.
Arun Chemical and Pharmaceutical Works almost came to a close in the year of account relevant for the assessement year 1990-91, and so, it opened a new line of business of running a coffee club. It was also pointed out that it was only by way of abundant caution that the concerned/ (SIC) executed a now partnership deed, but all along the intention was that M/s. Hymavathy Enterprises was a unit of M/s. Arun Chemical and Pharmaceutical Works only. The CIT(A) allowed the claim of the assessee with the following remarks-- "3.4 In view of the contention of the appellant's representative, I have perused the records. In this case the appellant firm filed a return of income on 31.8.1990 showing a loss of Rs. 46,420/-. The income returned included income from property, loss from M/s.
Hymavathi Enterprises at and loss from M/s. Arun Chemicals and Pharmaceutical works. It is seen that the return of income was accompanied by two separate profit & loss accounts and balance sheet, one in the case of M/s. Arun Chemicals and Pharmaceutical Works and the other in the case of M/s. Hymavathi Enterprises-- (Crystal Coffee Club). The appellant also filed capital accounts of the partners, depreciation statement etc. alongwith the return of income. On going through the order of the Assessing Officer it is seen that the Assessing Officer has not found any defect in maintening separate books of account. However, be observed that the appellant had a separate registration with the Sales-tax authorities in respect of Cyrstal Coffee Club. However, it is an admitted fact that the firm M/s. Hymavathy Enterprises did not file application for registration alongwith the partnership deed nor filed return of income separately. The only other observation of the Assessing Officer is that there is a clear cut difference between the constitution of M/s. Arun Chemicals and Pharmaceutical Works and that of M/s. Hymavathi Enterprises. The Assessing Officer examined the Managing Partner of M/s. Hymavathi Enterprises Sri T. Sivakumar in this connection. In coming to the conclusion that the firms are two different entities, the Assessing Officer relied on the registration of M/s. Crystal Coffee Club for Salestax purposes and also admission by the partner Sri T. Sivakumar to this effect. In this connection, it may be emntioned here that the appellan's representative filed before me a copy of Form No. 45-(SIC) filed with the ITO Survey stating that M/s. Hymavathi Enterprises is only a unit of M/s. Arun Chemicals and Pharmaceutical Works. Therefore, the guestion before me is whether the Assessing Officer was justified in not clubbing the incomes of those two businesses.
3.5 It was held by the A.P. High Court in the case of Additional CIT( v. M. Venkata Narasimha Rao & Co.--(104 ITR 29) in which it was held as under: "Under the Partnership Act, 1932, a partnership firm has no separated legal existence a part from its partners. It is merely an association of persons who constitute the 'firm'. The firm's name is only a compedious disignation of the persons, who have agreed to carry on business in partnership. The same concept of 'firm' in imported into the Income-tax Act, 1961, by Section 2(23). Though the firm is treated aw a distinct unit apart from the partners, for the p urpose of Income-tax Act, 1961, as in the case of Hindu Unidivided Family, Association of Persons and Body of Individuals, this does not invest the partnership with a juristic personality. As such, if there are two firms consisting of exactly the same partners but carrying on separate business, the real position in law is that there is only one firm and the incomes in the hands of both the firms should be aggregated in one assessment." But, in the appellant's case, the Assessing Officer treated these two firms as separate entity as it was beneficial to the revenue to treat these separately. So that the loss from M/s. Hymavathi Enterprises need not be adjusted from income from property owned by the appellant firm. Therefore, the assessment was made by the assessing Officer only with a view of collecting taxes from the income in respect of property owned by the appellant firm and ignoring the losses incurred by the Crystal Coffee Club.
3.6 As stated earlier, the firm M/s. Hymavathi Enterprises did not file a separate return of income and also did not apply for registration under Section 185 of the I.T.Act as a separate entity.
Though the firm came into existence by a separate deed originally executed on 24.2.1989 and it was reconstituted by another partnership deed dated 22.1.1990, two partners Smt. T. Pushpa and Smt. T. Geetha were released from the partnership by a codicil drawn on 19.3.1990. the effect is that only four partners, namely, T. Sivakumar, T. Manmohan, T. Rajkumar and Smt. T. Hymavathi continued as partners with equal shares. The actual business of the Crystal Coffee Club commenced only from 23.3.1990 and the accounts were closed on 31.3.1990 and it is evidence from the trading & Profit and loss a/c. of Cyrstal Coffee Club The perusal of the profit & loss a/c. of M/s. Arun Chemicals and Pharmaceutical Works shows that there was practically no business during the accounting year relevant to the assessment year. It may be pointed out here that the trading & profit and loss account for the year ended 31.3.1990 of M/s. Arun Chemicals and Pharmaceutical Works shows only the opening stock of Rs. 3,950 and the same as closing stock. The income credited to the trading and profit & loss account is only interest received of Rs. 2,925 and chit dividend of Rs. 30,833. Hence, it is evident that no business was done. If there is no business carried only by /s. Arun Chemicals and Pharmaceutical Works (by ignoring that Crystal Coffee Club as part of the business of the appellant), the firm will not be entitled for every registration as there was no business activity. On the contrary, the Assessing Officer has allowed continuation of registration and allocated the share income to the partners as per the partnership deed of M/s. Arun Chemicals & Pharmaceutical Works at equal share.
3.7 As stated earlier, in the partnership deed of M/s. Arun Chemicals and Pharmaceutical Works, there was a clause for diversification of business without mentioning the nature of the business. Since the business of M/s. Arun Chemicals & Pharmaceutical Works has come to an end before the closing of the accounting year and there was no business activity of M/s. Arun Chemical and Pharmaceutical Works, the only other business which has come as part of the business is Crystal Coffee Cub which was run by M/s.
Hymavathi Enterprises. It may be pointed out here that the funds of M/s. Hymavathi Enterprises were also provided by M/s. Arun Chemicals & Pharmaceutical Works by obtaining loan. Therefore, there is inter-lacing and inter-locking of funds between the two firms. Since M/s. Hymavathi Enterprises has not filed a separate application for registration and also separate return of income, the intention of the partners has to show the income of M/s. Hymavathi Enterprises (Crystal Coffee Club) as the income of the appellant firm. Taking all these factors into consideration, I will hold that Crystal Coffee Club run by M/s. Hymavathi Enterprises should be considered as part of the business of M/s. Arun Chemicals & Pharmaceutical Works. Therefore, the Assessing Officer should have included the loss/income of this business on the basis of the profit & loss account of M/s. Hymavathi Enterprises as the income of the appellant firm.
3.8. On on going through the profit & loss a/c. of the firm M/s.
Hymavathi Enterprises, it is seen that the appellant has claimed certain indirect expenses which should have been enquired into by the Assessing Officer. This include expenses for repairs and maintenance of building, interest paid to banks, advertisement charges, chit loss and depreciation. The depreciation claimed is to the extent of Rs. 2,85,256/-. It is supported by a deprecation statement and the details regarding the cost of the fittings are available on record. Since the expenditure cannot be fully verified, I will direct the Assessing Officer to make a lumpsum disallowance of Rs. 50,000/- from the various expenses claimed. With this direction the Assessing Officer is directed to take net loss from M/s. Hymavathi Enterprises at Rs. 5,29,552 (Rs. 5,79,852 minus Rs. 50,000). This will be adjusted against the property income of the appellant firm. The Assessing Officer is directed to recompute the income accordingly. Hence this ground of appeal is partly allowed." 11. Before us, the learned Departmental Representative stressed that there were two separate deeds governing M/s. Arun Chemical and Pharmaceutical Works and M/s. Hymavathi Enterprises, that the clauses of the two deeds were totally different, and so the intention had all along been to float two separate firms. He pointed out that it was only at the end of the year when the result of M/s. Hymavathi Enterprises turned out to be a substantial loss, the assessee came up with the idea of claiming that both the firms constituted one assessable unit, and thus claiming for set off of loss of Smt. Hymavathi Enterprises against the profit of M/s. Arun Chemical and Pharmaceutical Works, and thus projecting a tax saving device. He butressed his argument by referring to the assessment order and pointed out that the assessee obtained the Sales Tax Registration only on the basis of the deed dated 22.1.1990 in respect of M/s. Hymavathi Enterprises, according to which there were six partners. He pointed out that even Shri Shivakumar Managing Partner of both the firms admitted that the retirement of Smt. Puspa and Smt.
Geetha from M/s. Hymavathi Enterprises was not intimated to the Sales Tax Department. According to him, the subsequent letter of the assessee dated 22.3.1990 allegedly addressed to the Sales Tax Department about the retirement of the two ladies had little evidentiary value, as it was not filed before the assessing officer and the assessing officer did not have opportunity of going into the question of the genuineness of the same. Similar argument is advanced in respect of Form No. 45D dated 25.7.1990 allegedly filed before the ITO. Survey, as this evidence cropped up for the first time before the CIT(A), and the assessing officer did not have opportunity of going into the genuineness of the same. He also pointed out that the CIT(A) gave a finding that both the firms constituted a single firm, on the basis of the decision of the A.P. High Court in the case of CIT v. M. Venkata Narasimha Rao (104 ITR 28), which has been over-ruled by the subsequent Full Bench decision of the A.P. High Court in the case of CIT v. G.Parthasarathy Naidu & Sons (121 ITR 97). So, it is urged that the order of the CIT(A) deserves to be cancelled and that of the assessing officer required to be restored.
12. The learned counsel for the assessee, on the other hand, reiterated the contentions made out before the CIT(A). He invited our attention to Clause-3 of the partnership deed dated 19.1.1988 in the case of Arun Chemical and Pharmaceutical Works, according to which the said firm was at liberty to change its line of business. It is pointed out that it was only to remove all ambiguity in the matter that the partners thought of executing a new deed, when they contemplated starting a new line of business, Crystal Coffee Club. He further pointed out that the letter dated 22.3.90 addressed to the Sales Tax Department intimating the retirement of the two lady partners cannot be doubted, as it bears the receipt stamp of Sales Tax Department. Similar plea is advanced about Form No. 45D allegedly filed before ITO Survey. It is claimed that the said Form bears the initials of an official of the Income-tax Department, though the identity of the particular official is not clear therefrom. The learned counsel for the assessee has stressed, as pointed before the CIT(A), that the business of M/s. Hymavathi Enterprises commenced only on 23.2.1990 and by that date, both the firms had common partners and common profit sharing ratios. He explained that there were separate books for M/s. Arun Chemical and Pharmaceutical Works and M/s. Hymavathi Enterprises, but the loan taken by M/s. Hymavathi Enterprises from a Book was paid off subsequently by M/s. Arun Chemical and Pharmaceutical Works, and so, there was inter-locking of funds. He also pointed out that there was no regular business for M/s. Arun Chemical and Pharmaceutical Works and if the business of M/s. Hymavathi Enterprises is not treated as that of M/s.
Arun Chemical and Pharmaceutical Works on the ground that the two firms constituted different entities, then M/s. Arun Chemical and Pharmaceutical Works would not have been entitled even for registration, as it was not carrying on any business. As the assessing officer granted registration, it implied that he two firms constituted a single entity and the business of M/s. Hymavathi Enterprises constituted the business of the assessee as well. He also pointed out that M/s. Hymavathi Enterprises did not claim separate registration before the Income-tax Department, and so, it is clear that the intention of the concerned parties all along had been that M/s.
Hymavathi Enterprises constituted a unit of M/s. Arun Chemical and Pharmaceutical Works.
13. The learned Counsel for the assessee further pleaded that there is no prohibition for the two firms to be treated as one in law, and in this context, he relied upon he following decisions- (b) Dy. Commissioner of Sales Tax (Law), Board of Revenue (Taxes), Ernakulam v. K. Keulkutty (155 ITR 158)-SC He pointed out that in order to find out whether the two businesses constituted the same business, the test is to find out if there is any inter-connection, any inter-lacing, any inter-dependence, any unity of control embracing these two businesses. In this context, he relied upon the decision of the Kerala High Court in CIT v. Apollo Tyres (237 ITR 706) and also the decision of the Bombay Bench of the Tribunal in Tata Chemicals Ltd. v. Dy. CIT-- 14. Finally, it is pointed out that the assessing officer questioned the claim for set off of loss of M/s. Hymavathi Enterprises against the profits of M/s. Arun Chemical and Pharmaceutical Works only in this year, and in all subsequent years, the results of both the units had been clubbed. So, it is made out that when the Department itself has accepted that both the firms constituted one single taxable entity in the subsequent years, there is no reason for making a departure from that position for the assessment year under appeal.
15. We are of the view that the Revenue deserves to succeed. The law is clear on the question as to whether two separate firms created by separate deeds can under specified circumstances be considered as a single firm. The law in this regard has been laid down by the Apex Court in the case of Dy. Commissioner of Sales-tax (Law), Board of Revenue (Taxes), Ernakulam v. K. Kelukutty (supra) wherein it has been held as under- "...The foundation of a partnership and, therefore, of a firm is a partnership agreement. A partnership agreement is the source of a partnership; it also gives expression to the other ingredients defining the partnership, specifying the business agreed to be carried on, the person who will actually carry on the business, the shares in which the profits will be divided, and several other considerations which constitute such an organic relationship. It is permissible to say that a partnership agreement creates and defines the relation of partnership and, therefore, identifies the firm. If that conclusion be right, it is only a further step to hold that such partnership agreement may constitute a distinct and separate partnership and, therefore, distinct and separate firms. That is not to say that a firm is a corporate entity or enjoys a juristic personality in that sense. The firm name is only a collective name for the individual partners. But each partnership is a distinct relationship. The partners may be different and yet the nature of the business may be the same, the businesses may be different and yet the partners may be the same. An agreement between the partners to carry on a business and share the profits may be followed by a separate agreement between the same partners to carry on another business and share the profits therein. The intention may be to constitute two separate partnerships and, therefore, two distinct firms. Or to extend merely a partnership originally constituted to carry on one business, to the carrying on of another business. It will all depend on the intention of the partners. The intention of the partners will have to be decided with reference to the terms of the agreement and all the surrounding circumstances, including evidence as to the interlacing or interlocking of management, finance and other incidents of the respective businesses." In the light of the above remarks of the Apex Court, it is evident that whether two concerns created by two separate partnership deeds can be regarded as a single firm, depends on the intention of the parties concerned, and the intention has to be gleaned or ascertained from the surrounding circumstances. Further, it may be noticed that in all the decided cases mentioned hereinabove, it was the Department which sought to club the income of two firms created by separate deeds, and in the present case, it is other way round. In the present case. It is the assessee, who having created separate firms by separate deeds, claimed that the two firms actually constituted single entity, and so, the profit of one concern is available for setting off the loss of another concern. It appears to as that when the Department seeks to club the incomes of two separate firms on the ground that they actually constitute a single firm, the onus lies on the Department to prove that intention of the parties was to constitute a single firm. In the reverse case, like the present one, where the assessee seeks to plead that the apparent is not real, the onus is on the assessee to prove the same.
16. Now, we have to see whether the surrounding circumstances adduced by the assessee lead to the conclusion that the onus lying on the assessee was discharged. It is made out that the firm, M/s. Hymavathi Enterprises was created by a deed dated 24.2.1989 only because a new line of business was contemplated by the existing firm, M/s. Arun Chemical and Pharmaceutical Works. It may be observed that even according to the assessee, Clause-3 of the Partnership Deed dated 19.1.1988 of M/s. Arun Chemical Pharmaceutical Works seeks to empower the firm to change the line of business by mutual consent of the partners. Then, were as the need for a new deed and creation of the firm M/s. Hymavathi Enterprises, vide deed dated 24.2.1989? Assuming that there was doubt in the minds of the parties about Clause-3 of the deed dated 19.1.1988, and so they executed another deed dated 24.2.1989 to create the firm, M/s. Hymavathi Enterprises, then where was the necessity for amending Clause-3 of the deed dated 19.1.1988 of M/s.
Arun Chemical and Pharmaceutical Works, by amendment deed dated 26.9.1989. We have already reproduced the relevant clauses of the amendment deed dated 26.9.1989 hereinabove, and the amendment deed enables M/s. Arun Chemical and Pharmaceutical Works to run the business of a hotel, restaurant, etc. it appears that the concerned parties proceeded on the assumption that M/s. Hymavathi Enterprises, which came into existence to run the business of hotel, restaurant, etc. did not have anything to do with M/s. Arun Chemical and Pharmaceutical Works, and so, they executed the amendment deed dated 26th September, 1989 to enable the assessee-firm, M/s. Arun Chemical and Pharmaceutical Works, to launch upon a new line of business.
17. The matters may be examined from another angle. The crucial argument of the assessee before us is that on the date of commencement of the business by M/s. Hymavathi Enterprises, i.e. 23.3.1990, there were only four partners as in M/s. Arun Chemical and Pharmaceutical Works, and their profit sharing ratios are also same. The question is not whether the two firms had the same partners and the same profit sharing ratios on the date of commencement of business of M/s.
Hymavathi Enterprises. The question is as to what was the intention of the partners on the date M/s. Hymavathi Enterprises was created, i.e.
on 24.2.1989, i.e. whether on this date, the partners conceived of M/s.
Hymavathi Enterprises as a separate unit, independent of M/s. Arun Chemical and Pharmaceutical Works, or created it as part of M/s. Arun Chemical and Pharmaceutical Works. If they had conceived M/s. Hymavathi Enterprises as a unit of M/s. Arun Chemical and Pharmaceutical Works, they could not have by their subsequent deed dated 22.1.1990 inducted two more partners. It is argued that the said two newly inducted partners had retired on 19.3.1990 as per the deed of retirement of the same date. The fact that they retired subsequently, before the date of commencement of business by M/s. Hymavathi Enterprises, is to our mind, not material. The partners were inducted into M/s. Hymavathi Enterprises or retired from it subsequently, without any corresponding effect on M/s. Arun Chemical and Pharmaceutical Works. This could not have been done unless M/s. Hymavathi Enterprises has been conceived from the inception as a separate entity. That is why there is no reference at all in the partnership deed dated 24.2.1989 constituting M/s. Hymavathi Enterprises, to the fact of the very same partners carrying on business in the name and style of M/s. Arun Chemical and Pharmaceutical Works. There are also further aspects like, the terms of the two deeds are different and while Shri Rajkumar is the working partner of M/s. Hymavathi Enterprises, there is no working partner for M/s. Arun Chemical and Pharmaceutical Works. Some of the other clauses of the partnership deed are also different. So it appears to us that it is only towards 31st of March, 1990, i.e. the lest day of the accounting year relevant for assessment year under appeal, that the assessee thought of claiming that the two firms constituted a single entity, as such a stand would reduce its tax liability.
18. It has been argued before us that the partners withdrew their capitals from M/s. Arun Chemical and Pharmaceutical Works to invest in M/s. Hymavathi Enterprises. That, to our mind, does not by itself constitute inter-lacing of funds. Whenever the same partner think of floating a different firm, they may have to draw the funds from their capitals invested in earlier firms. That is like withdrawing from their respective bank accounts. There is inter-locking of funds only when the funds of one firm are advanced to the other firm or vice versa. That is the position in the case considered by the Hon'ble Madras High Court in the case of Balu Readymade Stores (supra), wherein a theatre constituted by the assessee-firm dealing in cloth, was claimed as belonging to another firm constituted under a separate partnership deed by the same partners. Hon'ble Madras High Court come to the conclusion that there was inter-locking of funds of both the firms, and so, the incomes of both the firms had to be clubbed, and so, the Revenue was justified in clubbing the incomes of both the firms.
19. Similar is the position in the case considered by the Hon'ble A.P.High Court in the case of M. Venkata Narasimha Rao & Co. (supra), wherein, as per the relevant portion of the head-note of the decision, it was observed by the Hon'ble A.P.High Court as under- "...There was interlacing of finances in the accounts of the two firms. While the ledger account of 'A' in the books of 'B' showed credits and debits to the tune of Rs. 2.35 and 2.15 lakhs, the ledger account of 'B' in the account books of 'A' showed cash credits and debits to the tune of Rs. 2.15 and 2.84-lakhs." The decision of the A.P.High Court in that case has been of course, over-ruled by the Full Bench decision of the Hon'ble A.P.High Court in CIT v. Parthasarathy Naidu & Sons (121 ITR 97), as mentioned earlier.
But, we are pointing out the above observations of the Hon'ble High Court only to indicates that in the present case there is no such inter-lacing of funds as on 31st March, 1990, i.e. the last day of the accounting year relevant for the assessment year under appeal.
20. The learned counsel for the assessment relied on certain other evidences like the letter allegedly written by M/s. Hymavathi Enterprises to the Sales Tax authorities about the retirement of the two lady partners, before the commencement of business. Firstly, this (SIC) was not filed before the assessing officer. Secondly, even the Managing Partner, Shri Shiva Kumar in his deposition dated 23.3.1993, during the assessment proceedings, confirmed having not sent any intimation subsequent to the Deed of Retirement dated 19.3.1990. The relevant portion of the said deposition, taken from the assessment order reads as under:- "Q.No. 15:-I put it to you that you have filed application for registration as a dealer under Section 12 of the Andhra Pradesh General Sales Tax Act, 1957, Form D, filed on 22.2.90 by you as managing partner of M/z. Crystal Coffee Club, partnership firm. The constitution of the said firm was mentioned as that of 6 partners namely as under:- I am showing you that attested true copy of the said application given by the Commercial Tax Officer, Chikkadapally, Hyderabad.
Please verify and tell whether the constitution mentioned therein was mentioned by you and signed by various partners.
Ans.:-I have verified the application. The constitution of firm mentioned therein is that of six partners. By way of clarification I wish to state that we wanted to change the constitution of six partners which we did not do so far.
Q.No. 16.:-I am showing a certified copy of the partnership deed dated 22.1.1990 of M/s. Hymavathi Enterprises issued by the Commercial Tax Officer, Chikkadapally, Hyderabad, which you have filed along with the application Form D for obtaining sales-tax license. As per the said deed of partnership, the constitution of the firm is of six partners as mentioned in the application in Form-D. Please verify and answer the correct position.
Ans;:-I have verified the document. The constitution mentioned therein as of six partners is correct.
Q.No.17: I put if to you that inspite of the partnership deed of M/s. Hymavathi Enterprises dated 24.2.89 and the deed of amendment dated 26.9.89 of M/s. Arun Chemical and Pharmaceutical Works, you have still filed application and Partnership deed wherein the constitution of M/s. Hymavathi Enterprises - M/s. Crystal Coffee Club, mentioned as that of six partners. You have filed both the documents namely the partnership deed dated 24.2.89 of M/s.
Hymavathi Enterprises of our partners--(copy) and the deed of amendment dated 26.9.89 in originally to-day only before me. In the face of the application and the partnership deed filed before the Sales-tax Department with the different constitution with that of M/s. Arun Chemical and Pharmaceutical Works, the claim made by you in the Income Tax Return claiming set off of less of Hotel business and allegedly stating that constitution of M/s. Hymavathi Enterprises is one and the same is a device planned by you to reduce the incidence of tax payable by M/s. Arun Chemical and Pharmaceutical Works on its real income. What do you say? Ans.:-The facts mentioned in the application and filing of partnership deed dated 22.1.90 before the Sales-tax Authorities alongwith the application in Form-D were the mistake committed by us. I am aware of the fact of the mentioned made in the application Form-D and also filing of partnership deed dated 22.1.90. But I forget to change the position with the sales-tax authorities.
Q.No.18: In view of the fact that the constitution of M/s. Hymavathi Enterprises, as declared before the Sales-tax authorities in the application and also in the partnership deed dated 22.1.1990 is that of six partners as against the constitution of four partners claimed before the I.T.Department. Please state as to why M/s. Arun Chemical and Pharmaceutical Works, and M/s. Hymavathi Enterprises are two different entities with the different constitutions and the assessments shall not be made separately? Ans:-If the constitutions of both the firms, as mentioned by you, are different, they should be treated as different entities and assessed separately.
Q.No.19:Did you file any fresh deed of partnership mentioning the change in the constitution before the Sales-tax authorities so far? From the above deposition, it may be observed that the Managing Partner was not even aware that the retirement of the two lady partners admitted on 22.1.1990, by the deed of retirement dated 19.3.1990 was informed to the Sales Tax authorities, even upto the date of deposition. So, it throws considerable doubt on the evidentiary value of the so-called letter addressed to the Sales Tax Department. It has been made out that the said letter was addressed by Shri Raj Kumar, working partner, and possibly, the Managing Partner, Shri Shivakumar was not aware at that time. Normally, the Managing Partner, being a more responsible functionary, should be aware of the induction and retirement of partners and intimations sent in that regard to Government Departments, as he is expected to be well-versed with the affairs of the firm.
21. Reliance has been placed on the Form No. 45D allegedly given to ITO Survey. this was also not filed before the assessing officer. Apart from that, this is an event after 31st March, 1990, i.e. after the assessee seems to have hit upon the idea of claiming set off of the loss of one unit against the income of the other unit. Same is the position with the claim that the bank loan obtained by M/s. Hymavathi Enterprises, which has been cleared off, by M/s. Arun Chemical and Pharmaceutical Works. We have perused the Balance Sheet of M/s.
Hymavathi Enterprises, which may be seen at page-5 of the assessee's second paper-book. The said balance-sheet as on 31.3.1990 reads as under--Sri T. Shivkumar 8,589.97 Fixed Assets 8,39,952.00 (Partner)Sri T. Rajkumar 5,489.97 Deep Freezer 2,500.00 (Partner)Sundry Creditors 62,041.58 Loans & Advances 14,000.00I.O.B. Term Loan 5,20,421.25 I.O.B. Recurring Deposit 7,000.00M/s. Sripada Chits Cash on hand 1,119.08 Chit No.24 72,000.00 Closing Stock 30,500.00 Chit No.25 72,000.00 Smt. T. Hymavathy Chit No. 8 42,000.00 (Partner) 13,500.00 Chit No.11 42,000.00 Sri Manmohan T. 40,509.97I.O.B., B. Bagh 56,757.71 Gas Cylinder DepSmt. T. Pusparani 31,860.00 osit 9,000.00Smt. Geeta 27,250.00 It may be noticed that the above Balance Sheet does not indicate any transaction between Arun Chemical and Pharmaceutical Works and M/s.
Hymavathi Enterprises, and the Balance Sheet of M/s. Hymavathi Enterprises stands on a independent footing, and there is no inter-linking of funds of the two units, as already mentioned above.
22. Lastly, it is made out that the Department has proceeded in subsequent years on the assumption that both the concerns constituted a single unit. The learned Departmental Representative pointed out that in the assessment year 1991-92, the assessing officer completed the assessment without taking cognizance of the order of the earlier year and did not give any reason for deviating from the same, and pleaded that what is legally correct should not be reversed should not be reversed simply on the basis of sins of commission or omission of a different assessing officer in a subsequent assessment year. We are in agreement with this view canvassed by the learned Departmental Representative, and while considering the legality and correctness of the view taken by the assessing officer for the year under appeal, we are not bound by the stand taken for the subsequent years.
23. Further, the Apex Court has observed in the case of CIT v. B.M.Kharwar (72 ITR 603) that the legal character of a transaction cannot be ignored. As per the relevant portion of the head-note, the Apex Court observed as under- "It is now well-settled that the taxing authorities are not entitled, in determining whether a receipt is liable to be taxed, to ignore the legal character of the transaction which is the source of the receipt and to proceed on what they regard as "the substance of the matter". The taxing authority is entitled, and is indeed bound, to determine the true legal relation resulting from a transaction.
If the parties have chosen to conceal by a device the legal relation, it is open to the taxing authorities to unravel the device and to determine the true character of the relationship. But the legal effect of a transaction cannot be displaced by probing into the "substance of the transaction". This principle applies alike to cases in which the legal relation is recorded in a formal document, and cases where it has to be gathered from evidence -oral and documentary- and conduct of the parties to the transaction." In the present case, we are of the view that legal effect of separate partnership deed dated 24.2.1989 for M/s. Hymavathi Enterprises, coupled with subsequent deed dated 20.1.1990 inducting two more partners and the still subsequent deed of retirement dated 19.3.1990 retiring the two partners, cannot be ignored. This is a case where the assessee has created all these documents and assessee cannot be heard to say that he has created all these documents without any purpose, or that the purpose is not what the documents ostensibly seek to achieve.
If such a plea is entertained it can open flood-gates of evasion through the device of creation of multiple firms, with the same constitution, with the convenience of pleading independence of the firms or identity of the firms at the end of the year, as the results of the firms may warrant, to reduce the tax burden.
24. For the above reasons, we hold that M/s. Arun Chemical and Pharmaceutical Works is a unit different from M/s. Hymavathi Enterprises and these two firms cannot be regarded as a single unit, and as such the assessee is not entitled for the set off of the loss of M/s. Hymavathi Enterprises against the income of the assessee, M/s.
Arun Chemical and Pharmaceutical Works. In this view of the matter, we set aside the impugned order of the CIT(A) and restore that of the assessing officer, accepting the grounds of the Revenue in this appeal.