| SooperKanoon Citation | sooperkanoon.com/61193 |
| Court | Income Tax Appellate Tribunal ITAT Madras |
| Decided On | Feb-28-1985 |
| Judge | M Sikka, Vice, A Krishnamurthy, T N Chandran |
| Reported in | (1985)12ITD652(Mad.) |
| Appellant | Third Income-tax Officer |
| Respondent | C.D. Chidambaram |
Shri C.D. Chidambaram was a partner in the firm mentioned above on behalf of the HUF. In terms of the partnership deed, Clause 10, he was given a monthly salary of Rs. 126 or Rs. 1,512 for services rendered.
The department's contention is that this salary is another mode of division of the profit which belongs to the HUF and the assessee-HUF is not entitled to deduction of the amount in computing its income. The assessee relies on the order of the AAC and also submits that the salary is paid for services rendered by Shri Chidambaram individually to the firm and is not a share of profit earned by any detriment or loss to the family property. The department has filed, in support of its contention, a copy of the order of the Tribunal in the case of 5".
Janagarajan [IT Appeal Nos. 957 and 958 (Mad.) of 1977-78, dated 31-1-1978].
2. We have considered the facts and the contentions of the parties. We have also considered similar dispute in certain other cases. The order of the Tribunal, relied on by the departmental representative, is totally distinguishable as it. was concerned with the claim of the HUF for deduction of salary payment by it to its karta out of its income and was not concerned with the question as to whether salary received by the karta for personal services rendered to the firm was income of the HUF, on behalf of which he is a partner, or it is his personal income. It is seen from the copy of the relevant partnership deed filed before us that the firm of C. Duraisamy Nadar and A. Somasundara Nadar consisted of six partners, of whom two are remunerated, namely, (7) Shri A. Somasundara Nadar and (2) Shri C.D. Chidambaram, evidently because they are required to put in some extra efforts in the business of the firm. The salary payment, therefore, refers to their personal services rendered to the firm and does not represent the share of profit. The fact that in the assessment of the firm the salary payments to partners are disallowed and added back in computing the income, and later, in the apportionment, salary is allocated to the particular partner in addition to his share of profit, does not determine the question as to whether the salary is the income of the partner concerned or the income of the HUF which he represents in the firm.
According to the partnership agreement, it is the net profit after all expenses including payment of salary to any partner that is divisible and can be claimed by any partner as a share of profit though for the purpose of income-tax, under the specific provisions, the salary is to be disallowed. As the salary earned by the concerned partner is for personal services rendered and is his due and cannot be said to be earned by any detriment to the family property or its interest, we have no hesitation in holding that the salary is separately chargeable in the hands of the partner as his individual income and not the income of the HUF. The appeals are dismissed.
1. I have gone through the order of my learned brother but I am unable to agree with his reasons and conclusion. The assessee is a HUF and the karta, Shri C.D. Chidambaram, is a partner in the firm C. Duraisamy Nadar and A. Somasundara Nadar in a representative capacity only.
Therefore, the share of profit determined in the hands of the firm is assessable in the hands of the HUF in terms of Section 40(b), read with Section 67(1)(b), of the Income-tax Act, 1961 ('the Act'), which prescribe the mode of computation of a partner's share in the income of the firm. When once the share of profit is determined in the hands of the firm, the question of deduction of salary paid to karta by the firm would not arise unless the exclusion arises out of overriding title of the karta by virtue of an agreement between him and other members of the family to allow remuneration for the services rendered by the karta to the HUF. This is not the case before us. Further, the salary paid to the karta also cannot be said to be for any specific or extraordinary services rendered by him to the firm in a capacity other than that of a partner. Clause 10 of the deed of partnership, dated 12-12-1977, reads as under : 10. A monthly salary of Rs. 176 (Rupees one hundred and seventy-six only) to Shri A. Somasundara Nadar and Rs. 126 (one hundred and twenty-six) to Shri C.D. Chidambaram shall be paid and accounted for as salary expenditure.
A perusal of the aforesaid clause shows that the reason for payment of salary has not been specified. Further, a perusal of Clause 6 of the deed of partnership shows that any one of the partners shall sign and receive the money orders, registered post, etc., on behalf of the firm.
Clause 7 of the deed of partnership shows that all the partners shall have the right individually to operate the accounts in the banks on behalf of the firm. Similarly, Clause 9 of the deed of partnership shows that any one of the partners can sign on behalf of the firm and prosecute civil court proceedings for the recovery of debts of the firm. In other words, the deed of partnership empowers all the partners to exercise all the powers relating to the partnership business and no extraordinary powers or duties were assigned to the partner, Shri C.D.Chidambaram, so as to warrant payment of salary of Rs. 126 per month.
The deed also provides for payment of monthly salary of Rs. 176 to another partner, Shri A. Somasundara Nadar. The difference in the monthly salary between the two partners, who are entitled to salary, is not made clear to us. In law, it cannot be said that the monthly salary has been paid for services rendered, if any, in the capacity of an employee inasmuch as the Supreme Court has held in the case of CIT v.R.M. Chidambaram Pillai [1977] 106 ITR 292 that in strict law between a firm and one of its partners, there cannot be a contract of service as a contract of employment requires two distinct persons, viz., the employer and the employee. The firm being not a legal person, just as a company which is a juristic person, and the principles of mutuality and agency do not admit any relationship of employer and employee between the firm and the partners. Therefore, in law it cannot be said that the salary paid to a partner is a remuneration paid to him in a different capacity, viz., an employee of the firm for services rendered to the firm. Therefore, the remuneration should be regarded as a portion of the profits being made over to the partner and should be regarded as a special share of profits and being part of the share of profits should be taxed as much. The Supreme Court analysed Section 10(4)(b) of the Indian Income-tax Act, 1922 ('the 1922 Act'), which corresponds to Section 40(b) of the 1961 Act, and stated that salaries paid to partners are regarded by the Act as retaining the character of profit and not excludible from the tax net, whatever the reason behind it be, similarly, after analysing Section 16(1)(b) of the 1922 Act, which corresponds to Section 67(1) of the 1961 Act, it has been observed by the Supreme Court that the share of income of partner takes in his salary and this is obvious when the firm suffers loss ; the salary paid to partner goes to depress his income and, therefore, salary is a different label for profits in the context of partners' remuneration.
Therefore, the Supreme Court concluded that the salaries are profits known by a different name and must be treated as such for taxation purposes. The Supreme Court has extracted the following commentary of Shri A.C. Sampath Iyengar, the learned author of Law of Income-tax, Sixth edn., 1973, Volume 2, namely : Any interest, salary, bonus, commission or remuneration paid by a firm to any of its partners cannot be deducted by the firm as an expenditure in its profit-computation. The reason is this : The partners in a firm are ultimately entitled to the entire profits of the firm, according to their shares in the business. Therefore, the entirety of such profits should be brought to charge and no portion be exempted by giving the same away to a partner as his salary, bonus, commission, remuneration or interest. A partner is bound to find the necessary finances for the partnership and hence any interest on capital supplied by the partner is not deductible. A partner rendering services to the firm stands on the same footing as his providing capital ; only instead of in money, in kind. Further, no remuneration is permissible to a partner for his rendering services to the firm, since the carrying on of the business of the partnership is a primary duty which all the partners, or some of the partners acting for all, are required to do by the law relating to partnership.
The matter may be looked at another way too. In law, a partner cannot be employed by his firm, for a man cannot be his own employer. A contract can only be bilateral and the same person cannot be a party on both sides, particularly in a contract of personal employment. A supposition that a partner is employed by the firm would involve that the employee must be looked upon as occupying the position of one of his own employers, which is legally impossible. Consequently, when an arrangement is made by which a partner works and receives sums as wages for services rendered, the agreement should in truth be regarded as a mode of adjusting the amount that must be taken to have been contributed to the partnership assets by a partner who has made what is really a contribution in kind, instead of contribution in money. Hence, all the aforesaid payments are non-deductible.
The above extract shows that a partner is bound to not only find necessary finance for the partnership for which compensation is given by way of interest, he is also bound to render services to the firm as he is the co-owner of the partnership assets and business and no remuneration is permissible to a partner for rendering services to the firm as his primary duty is to carry on the business of the partnership.
3. In this connection, it is to be seen whether the karta possesses any special qualifications, knowledge or experience so as to attribute the remuneration as payable to such qualifications, etc. At the outset, it is to be stated that the remuneration fixed is too low to be of any significance. Therefore, it can be inferred that the partner has not done any extraordinary or special services to the firm. Therefore, it cannot be said that the remuneration was a reward for the human capital or the services rendered by the partner in the capacity of an employee.
In fact, the deed of partnership does not show that the partner has been assigned with any special duties or extraordinary powers in the matter of running the partnership business. Therefore, the tests laid down by their Lordships of the Supreme Court in the case of Raj Kumar Singh Hukam Chandji v. CIT [1970] 78 ITR 33 could not be applied in this case as the facts of that case were different from the facts of the present case and are distinguishable. In that case, the relationship between the employer and the employee existed, while in the case of the assessee there was no such relationship in law and on fact. It is also not possible to hold that the remuneration paid to the partner was in consideration of special services rendered to the firm.
The decision of the Supreme Court in the case of CIT v. Gurunath V.Dhakappa [1969] 72 ITR 192, which has been relied upon by the AAC, is not applicable to the facts of the present case inasmuch as in that case the partner, Shri G.V. Dhakappa, was appointed manager of the partnership on a remuneration of Rs. 500 per month and, therefore, the facts could be distinguished. The Tribunal, Madras Bench 'C', in the case of Seventh ITO v. N.K.R.K. Sundararaj Nadar [IT Appeal No. 1848 (Mad.) of 1982, dated 3-8-1983] has held likewise in its order, to which one of us (the Accountant Member) was a party. Further, in this case the salary paid to the partner also cannot be treated as an expenditure or outgoing of the business, so that it does not enter into the divisible pool of net profits. Clause 13 of the deed of partnership reads as under : 13. The accounts of the firm shall be closed as on 31st March of respective English calendar year and after all the trading expenses, the net profit or loss shall be debited or credited, as the case may be, in the respective accounts of the partners in the following manner :1st Partner C.D. Chidambaram Nadar 252nd Partner C.D. Soundararajan 93rd Partner C.D. Subaschandra Bose 164th Partner A. Somasundara Nadar 205th Partner T. Mallika 156th Partner S. Sanjeevi Rajan 15 As per Clause 13 extracted above, only after all trading expenses, the net profit or loss should be divided among the partners according to their specified ratio. The salary paid to partner cannot be said to be a trading expense at all. In other words, only the commercial expenses pertaining to trade are to be deducted for arriving at divisible net profit: This intention among the partners is patently clear from Clause 13 of the deed of partnership. Therefore, the salary paid to partners, being not a trading expense, it also enters into the divisible pool of net profits and goes to swell the share of profit of the partners, to whom salary has been paid. Thus, the salary paid by the firm to a partner is only a part and parcel of share of profit of the firm and requires to be assessed as such. In view of the aforesaid reasons, I am of the opinion that the salary paid by the firm to Shri C.D.Chidambaram, the karta of the HUF, is properly assessable in the hands of the HUF and not in the hands of the individual. Consequently, the order of the AAC is set aside and that of the ITO is restored.
Order under Section 225(4) of the income-tax act, 1961 - As we have differed on the following point in this case, it is referred to the President for necessary further action : Whether the salary of Rs. 1,512 received by Shri C.D. Chidambaram for services rendered, from the firm of C Duraisamy Nadar and A. Somasundara Nadar, where he was a partner representing his HUF, is or is not includible in the assessment of his HUF, the assessee, in this case 1. There being difference of opinion between the learned Judicial Member and the learned Accountant Member, the following question has been referred to me for decision : Whether the salary of Rs. 1,512 received by Shri C.D. Chidambaram for services rendered, from the firm of C. Duraisamy Nadar and A. Somasundara Nadar, where he was a partner representing his HUF, is or is not includible in the assessment of his HUF, the assessee, in this case 2. Shri C.D. Chidambaram is the karta of the assessee-HUF consisting of himself, his wife, two sons and one daughter. During the accounting periods relevant to the assessment years 1979-80 and 1980-81, he was a partner in the firm of C Duraisamy Nadar and A. Somasundara Nadar, Kadayam, representing his HUF. Clause 10 of the partnership deed dated 12-12-1977 provided that a monthly salary of Rs. 126 would be paid to Shri C.D. Chidambaram. Accordingly, Shri C.D. Chidambaram received the salary of Rs. 1,512 from the firm of C. Duraisamy Nadar for each of the assessment years under consideration. In the original assessments for these years, the ITO accepted the claim of the assessee-HUF that the salary received by Shri C.D. Chidambaram from the firm for the services rendered by him to it, was not includible in its income. Later on, however, the ITO reopened the assessments under Section 147(b) of the Act. In the reassessment proceedings, the ITO observed that there was no material to prove that Shri C.D. Chidambaram had rendered any special services apart from the ordinary services rendered by him as a partner, and so the amount of salary received by him was, in fact, the share of profit due to the assessee-HUF from the firm. He, therefore, assessed the amount of Rs. 1,512 m the hands of the assessee-HUF for each of the assessment years under consideration.
3. On appeal, the AAC observed that the objection of the assessee that the assessments could not be reopened under Section 147(b), was not tenable. However, on merits, he held that the assessee had looked after and managed the affairs of the firm and that his experience in the line of business carried on by the firm contributed to the promotion of the business of the firm. He further observed that Shri C.D. Chidambaram received the salary for the personal services rendered by him to the firm without detriment to the funds of the HUF and, as such, the same could not be taxed as income of the assessee-HUF. He, therefore, deleted the addition of Rs. 1,512 from the income of the assessee for each of the assessment years under consideration.
4. Aggrieved by the order of the AAC, the department went in appeal before the Tribunal.
5. After hearing the learned representatives of the parties, the learned Judicial Member agreed with the AAC. He, inter alia, observed that the firm of C. Duraisamy Nadar consisted of six partners, out of whom only two partners, viz., Shri A. Somasundaram and Shri C.D.Chidambaram, got salary evidently because they were required to put in extra efforts in the business of the firm. He was, thus, of the view that the salary payments were attributable to their personal services and did not represent the share of profit. According to him, the mere fact that the salary payments were disallowed and added back in computing the income of the firm, was immaterial for determining whether the salary was the personal income of the partner concerned or the share income of the HUF which he represented in the firm. Thus, the learned Judicial Member concluded that since the salary had not been earned by Shri C.D. Chidambaram by any detriment to the HUF properties, the same was not chargeable as income of the assessee-HUF.6. The learned Accountant Member did not agree with the learned Judicial Member. He observed that the share of profit determined in the hands of the firm was assessable in the hands of the assessee-HUF in terms of Section 40(b), read with Section 67(1)(b) of the Act, and that once the share of profit was determined in the hands of the firm, the question of deduction of salary paid to the karta by the firm would not arise unless the exclusion arose out of the overriding title of the karta by virtue of an agreement between him and the other members of the family to allow remuneration for the services rendered by the karta to the HUF. According to him, this was not the case here. The learned Accountant Member also observed that a contract of employment required two distinct persons, i.e., the employer and the employee, that there could not be a contract of service, under strict law, between a firm and one of its partners and, as such, the salary paid to a partner represented a special share in the profits of the firm. In this behalf, he relied upon the decision of the Supreme Court in the case of R.M.Chidambaram Pillai (supra). Further, the learned Accountant Member observed that there was no material on the record to prove that Shri C.D. Chidambaram rendered any special or extraordinary services, so as to justify the payment of salary to him by the firm. According to him, therefore, the salary of Rs. 1,512 was earned by Shri C.D. Chidambaram by detriment to the HUF's funds and was, therefore, includible in the income of the assessee-HUF for each of the assessment years under consideration.
7. It is against this background that the aforesaid question has been referred to me for decision.
8. Before me, the representative of the assessee reiterated the arguments advanced by the learned Judicial Member, while the representative of the department relied upon the order of the learned Accountant Member.
9. The crucial question for consideration is whether the salary received by a partner for the services rendered by him to the firm in which he is a partner representing his HUF, is includible in the income of the HUF.On this point, the Supreme Court has held as follows in Raj Kumar Singh Hukam Chandji's case (supra) : In determining whether the remuneration received by an individual is the income of the individual to whom it is purported to have been given or that of the Hindu undivided family of which he is coparcener, the test is whether the remuneration received by the coparcener in substance though not in form was but one of the modes of return made to the family because of the investment of the family funds in the business or whether it was a compensation made for the services rendered by the individual coparcener. If it is the former, it is an income of the Hindu undivided family but if it is the latter then it is the income of the individual coparcener. If the income was essentially earned as a result of the funds invested the fact that a coparcener has rendered some service would not change the character of the receipt. But if, on the other hand, it is essentially a remuneration for the services rendered by a coparcener, the circumstances that his services were availed of because of the reason that he was a member of the family which had invested funds in that business or that he had obtained the qualification shares from out of the family funds would not make the receipt, the income of the Hindu undivided family.
10. Similar view has been taken by the Madras High Court in the case of CIT v. Surendra Manilal Mehta [1984] 16 Taxman 427. According to this authority, the remuneration paid to the karta or a coparcener of the family by a firm in which the family is a partner, cannot be assessed as income of the family, unless there is a direct nexus between the investment of the funds of the family in the firm and the payment of the salary. In other words, unless such payment is to the detriment of the family funds invested in the firm, it cannot be treated as the income of the family. The payment of remuneration for making available to the business of the firm special skill would really be in the nature of compensation for services rendered by the exercise of such special skill, and so the receipt of salary by a partner for the services rendered by him to the firm would not partake the character of income of the HUF for the purpose of tax treatment.
11. Again, the Full Bench of the Patna High Court has held in CIT v.Atma Ram Budia [1984] 146 ITR 240 that if it is established that the remuneration received by the karta of an HUF from a firm in which he is a partner is for services rendered by him and there is no real and sufficient connection between the investment of the joint family funds in the firm and the remuneration paid to him, the remuneration received by the karta could not be treated as income of the family.
12. Now, in the present case, it is stated by the counsel for the assessee that Shri C.D. Chidambaram has 20 years' experience in timber and tiles trade, that he is in charge of the tiles manufacturing section of the firm in which he is a partner and that the salary paid to him by the firm has always been allowed in the past. There is no good reason to disbelieve the statement of the counsel for the assessee. Evidently, therefore, Shri C.D. Chidambaram contributed his personal skill, knowledge and experience to the promotion of the business of the firm, and so, he got the salary from the firm for the services rendered by him to it. There is no material on the record to establish a direct nexus between the salary received by Shri C.D.Chidambaram and the investment of the funds of his HUF or to show that the payment of salary was to the detriment of the family fund invested in the firm. In such a situation, I am of the opinion that the amounts in question are not includible in the income of the assessee-HUF.13. The learned representative of the department urges that a contract of employment requires two distinct persons, i.e., the employer and the employee, that there could not be a contract of service, under strict law, between a firm and one of its partners and, as such, the payment of salary to a partner represents a special share in the profits. In support of his arguments, he relies on the decision of the Supreme Court in the case of R.M. Chidambaram Pillai (supra). This authority of the Supreme Court is distinguishable. The question involved in that case was whether any portion of the salary drawn for services rendered by a partner of the firm was agricultural income liable to tax. The point whether the income received by a partner was includible in the income of his HUF was not in dispute in that case. The Patna High Court has held in Atma Ram Budia's case (supra) that the decision of the Supreme Court in Raj Kumar Singh Hukam Chandji's case (supra) would apply to a case when we have to determine whether salary received by a partner from a firm for the services rendered by him is includible in his personal assessment or in the income of his HUF. Similarly, the Madras High Court has observed in the case of Surendra Manilal Mehta (supra) that the question relating to the applicability of Section 61(1)(b) was not the subject-matter of controversy in the case of R.M.Chidambaram Filial (supra) and so, the decision of the Supreme Court in that case has no direct bearing on the point at issue before us.
14. In view of the above discussion, I am in agreement with the view taken by the learned Judicial Member that the salary of Rs. 1,512 received by Shri C.D. Chidambaram from the firm concerned is not includible in the income of the assessee-HUF for each of the assessment years under consideration.
15. The case will not go back to the regular Bench for disposal according to the opinion of the majority.