Commissioner of Income-tax Vs. Bhaichand Textile Mills - Court Judgment

Bharucha, J.

1. The question posed at the instance of the Revenue in this reference under section 256(1) of the Income-tax Act, 1961, reads thus :

'Whether, on the facts and in the circumstances of the case, the assessee-firm is entitled to registration ?'

2. The question pertains to the assessment year 1969-70. The assessee is a firm. It came into existence by reason of articles of partnership dated August 28, 1968. Clauses 5, 6 and 7 are material. They are as follows :

'5. This is to record and confirm that the said minors, Dhankumar Suryakant Doshi, Bahubali Suryakant Doshi, Mahavir Suryakant Doshi and Ajitkumar Suryakant Doshi, have been admitted to the benefits of the said partnership.

6. The net profits of the partnership shall be divided in the following proportion :

1. Ratanchand Bhaichand Doshi 5 paise in a rupee of 100 paise2. Rajkumar Suryakant Doshi 15 do.3. Dhankumar Suryakant Doshi 20 do.4. Bahubali Suryakant Doshi 20 do.5. Mahavir Suryakant Doshi 20 do.6. Ajitkumar Suryakant Doshi 20 do.7. The parties hereto and the said four minors are entitled to all the properties in their respective shares in the said partnership. The parties hereto and the said minors shall be liable for the liabilities of the said firm in the proportion of their shares in the said partnership provided, however, it is hereby agreed between the parties hereto that the said minors shall be entitled to the benefits of the partnership only and shall not be liable for any obligations of the said firm but their shares in the said partnership only shall be liable for any obligations of the said firm and that pending the said minors attaining the age of majority, their shares in the profits shall be accumulated to the credit of the said minors respectively. Provided further that the partners may at their discretion pay out of the profits coming to the shares of the said minors such sum or sums to their father and natural guardian, Shri Suryakant Bhaichand Doshi, as may be required for their maintenance, education and advancement of the said minors.'

3. The assessee applied for registration under the provisions of the Income-tax Act, 1961. The Income-tax Officer rejected the application on the ground that the partnership deed did not provide for the division of losses among the partners. The Appellate Assistant Commissioner, on the assessee's appeal, upheld the Income-tax Officer's order.

4. The assessee appealed to the Income-tax Appellate Tribunal. The Tribunal, following the decision of this court in Imdadali Tayabai, v. CIT [1972] Tax LR 655, held that the non-specification in regard to the sharing of losses did not debar the assessee from being registered.

5. The judgment of the Supreme Court in Mandyala Govindu & Co. v. CIT : [1976]102ITR1(SC) , concludes, in our view, the answer to be given to the question posed. The Supreme Court was concerned with deciding a question similar in terms to that posed to us. The assessee there was a partnership of three persons, having shares of 31%, 23% and 23%, respectively. A minor had been admitted to the benefits of the partnership and had been allotted the balance 23% in profits. The Supreme Court noted that the question was whether in the absence of a specific statement in the partnership deed as to the proportion in which the partners were to share the losses, the requirement of section 26A of the Indian

6. Income-tax Act 1922, could be said to have been satisfied. (The provisions of section 26A of the 1922 Act are substantial]y similar to those of section 184 of the Income-tax Act, l961, in that an application for registration can be made on behalf of any firm constituted under a deed of partnership specifying the individual shares of the partners.) On behalf of the assessee, the provision of section 13(b) of the Indian Partnership Act, 1932, were brought to the notice of the Supreme Court. Section 13(b) provides that subject to contract between the partners, the partners are entitled to share equally in the profits earned and shall contribute equally to the losses sustained by the firm. The Supreme Court observed that the shares of the partners were not equal so that section 13(b) has no application. It noted the principle enunciated by Jessel M. R. in In re Albion Life Assurance Society [1880] 16 Ch D 83, 87, (CA); ([1976] 102 ITR 6) thus :

'In ordinary mercantile partnerships where there is a community of profits in a definite proportion, the fair inference is that the losses are to be shared in the same proportion.'

7. The Supreme Court went on to state thus : See : [1976]102ITR7(SC) .

'The other rule that where the shares in the profits are unequal, the losses must be shared in the same proportion as the profits if there is no agreement as to how the losses are to be apportioned, does not also apply to this case. In this case even if the adult partners bear the loses in proportion to their respective shares in the profits, the amount of loss in the minor's share would still remain undistributed. Will the partners between them bear this loss equally, or to the extent of their own individual shares To this the instrument of partnership does not even suggest an answer. There is, therefore, no means of ascertaining in this case how the losses are to be apportioned.'

8. The judgment of the Supreme Court in Mandyala Govindu & Company's case : [1976]102ITR1(SC) was considered by this court in Harkisondas Gokaldas v. CIT : [1982]136ITR288(Bom) . This court noted that though the provisions Of section 184 of the Income-tax Act, 1961, had made certain changes as compared to the provisions of section 26A of the Indian Income-tax Act, 1922, the substantial requirement that there must be a deed of partnership and the individual shares of the partners must be specified therein remained the same. It was contended on behalf of the assessee that it was not a requirement of section 184 that the partnership deed should specify the shares of losses; it was enough if the shares in the profits were specified. Reliance was placed by the assessee's counsel upon the decision of this court in Imdadali Tayabai's case [1972] Tax LR 655 to argue that registration should not be refused on the ground that the shares in the losses were not specified in the partnership deed. Relying upon the Supreme Court decision in the case of Mandyala Govindu and Company : [1976]102ITR1(SC) , this court held that there was an infirmity in the view which had earlier been taken in Imdadali Tayaba's case [1972] Tax LR 655, The Supreme Court had clearly pointed out that the absence of specification of the shares in which losses were to be apportioned by the partners was an important consideration for determining whether a partnership met the requirement of registration under section 184.

9. We may note that the Madras High Court in Addl. CIT v. Progressive Financiers : [1979]118ITR18(Mad) , took a similar stand based on Mandyala Govindu and Company's judgment.

10. A Full Bench of the Andhra Pradesh High Court in CIT. v. Krishna Mining Co. : [1980]122ITR362(AP) , considered the decision in Mandyala Govindu and Company's case : [1976]102ITR1(SC) . The assessee before the Full Bench was a partnership in which minors had been admitted to its benefits. It was contended on behalf of the Revenue that there being no specification of the partners' shares in respect of losses in the partnership deed, the defect was fatal to the claim for registration. Reliance was placed on behalf of the Revenue upon. Mandyala Govindu and Conpany's case : [1976]102ITR1(SC) . Counsel appearing amicus curiae on behalf of the assessee contended, on a reading of the partnership deed, that the intention of the partners was clearly to share the losses in the proportion in which the had agreed to share the profits and that, therefore, the Supreme Court decision was distinguishable on facts. The Full Bench noted that the statute only required specification of the individual shares of the partners. This requirement was to be considered on a reasonable and fair construction of the partnership deed as a whole. The specification of the individual shares of partners could be express or implied or worked out. The specification of the shares was required for the purpose of distributing the profits or losses, as the case may be, among the partners and for enabling the authorities to make proper assessments on the true income of each of the partners of the firm. Referring to the Supreme Court decision in Mandyala Govindu & Company's case : [1976]102ITR1(SC) , the Full Bench observed that it was pertinent to notice that in the partnership deed in that case there was no provision indicating the proportion in which the partners were to bear the losses. In the case before it, the profit-sharing ratio had been clearly indicated in the partnership deed. When the parties stated that the losses would be borne by all the major partners, what was meant was that the major partners would share losses in the proportion in which they had agreed to share the profits. The Full Bench held that the decision of the Supreme Court in Mandyala Govindu a Company's case : [1976]102ITR1(SC) was distinguishable on facts.

11. Mr. Vishwanath, learned counsel for the assessee, urged that even on the facts before us, the decision in Mandyala Govindu's case : [1976]102ITR1(SC) is distinguishable. What we must analyse is clause 7 of the partnership deed. The following emerges : The four minors are admitted only to the benefits of the partnership. The two partners and the four minors are liable for the liabilities of the assessee in the proportion of their shares therein. The four minors are not liable for any obligations of the assessee; only their shares in the assessee are liable for its obligations. Pending attainment of majority by the four minors, their shares in the profits would be accumulated to their credit.

12. Clause 7, therefore, provides that in so far as the liabilities of the assessee are concerned, the partners and the four minors admitted to the benefits are liable to the extent of the proportion of their shares in the profits but that, in so far as the liabilities cannot be met out of the shares in the profits, the four minors are not liable. The four minors' shares in the profits would be accumulated until they reached the age of majority. The liabilities of the assessee could be set off there against. In the event, however, that the assessee incurred losses, that is to say, the liabilities of the assessee could not be met by it, the four minors are not personally liable. Such losses are to be borne by the two partners.

13. The paragraph of the decision in Mandyala Govindu and Company's case : [1976]102ITR1(SC) already quoted must now be borne in mind. The Supreme Court said that even if the partners were to bear the losses in proportion to their respective shares in the profits, 'the amount of the loss in the minor's share' remained undistributed. Would, it asked, the partners between them bear the loss in the minor's share equally or to the extent of their own individual shares The partnership deed before the Supreme Court and that before us do not suggest the answer. There is, therefore, no means of ascertaining in this case how the losses are to be apportioned.

14. Following Mandyala Govindu and Company's case : [1976]102ITR1(SC) , the facts being indistinguishable, we must hold, as was held there, that the assessee is not entitled to registration.

15. The question posed before us is, accordingly, answered in the negative and in favour of the Revenue.

16. The assessee shall pay to the Revenue the costs of the reference.