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Petitioner: BANYAN AND BERRY VS Respondent: COMMISSIONER OF INCOME-TAX
Court Name: Gujarat High Court Judge(s): C. K. Thakkar, Rajesh Balia Title: BANYAN AND BERRY vs COMMISSIONER OF INCOME-TAX Case No.: Income-tax Reference No,175 of 1993 Date of Judgment:1995-12-21 Reported As: 1998 PTD 3123 Result: Reference answered
JUDGMENT
JUDGMENT ' RAJESH BALIA, J.---The Income-tax Appellate Tribunal, Ahmedabad Bench B, by its order, dated April 6, 1993, has referred the following questions of law to this Court for its decision which are said to have arisen out of the Income-tax Appeal No,5230/Ahd of 1991 relating to the assessment year 1988-89. . ' The questions which have been referred at the instance of the assessee in R.A. No,709/Ahd of 1992 are: "(i) Whether, the facts and in the circumstances of the case, the Tribunal was right in law in holding that the sum of Rs,1,48,24,876 became taxable in the hands of the firm which according to the assessee stood dissolved through dissolution-deed, dated August 16, 1984? (ii) Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the case would be governed by the Supreme Court decision in the case of McDowell & Co. Ltd. v. CTO (1985) 154 ITR 148 and not by the Supreme. Court decision in CWT v. Arvind Narottam (1988) 175 ITR 479 and by the Madras High Court decision in the case of M.V. Valliappan v. ITO (1988) 170 ITR 238? (iii) Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that even after the income is taxed protectively or with remarks to that effect in the hands of the members of association of persons, the same income can be validly taxed again in the hands of the firm constituted by the same members as partners?" ' The following two questions have been referred at the instance of the Commissioner of Income- tax in R.A. No,872/Ahd. Of 1992:
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"(i) Whether, on the Appellate Tribunal is right in law and on facts, in holding that the award amount of Rs,1,48,24,876 is not taxable in the hands of the assessee-firm under the provisions of section 176(3-A) read with section 189(1) of the Act? (ii) Whether, the Appellate Tribunal is right in law and on facts in holding that the provisions of sections 28(iv), 60 and 63 of the Act were not applicable in the instant case?" ' The facts as appear from the statement of case and found by the Tribunal may be noticed at the outset. ' Banyan & Berry was a partnership firm under a deed of partnership executed on November 16, 1982, with sixteen partners. The business of the firm was of contractors, engineers and builders. A private limited company under the name 'and style of Banyan & Berry Construction (Private) Limited was incorporated on April 16, 1983. A transfer-deed was executed between the firm, Banyan & Berry (hereinafter called, "the firm") and Banyan & Berry Construction (Private) Limited (hereinafter called "the company"), by virtue of which it was agreed that subject to the provisions contained in the agreement, the firm would transfer to the company with effect from July 1, 1984, all the assets and liabilities of the firm together with the goodwill thereof with an intention that the firm's business may be taken over as a running concern by the company with effect from July 1, 1984. There was specific provision in the agreement to the effect that the benefit of additional claims relating to construction of dam at Mazam Irrigation Scheme would not stand transferred to the company. The relevant clause of the agreement reads as under: "5(d). The firm was awarded a contract for construction of earthen dam for Mazam Irrigation Scheme in the Sabarkantha District. The said work has been completed and handed over to the State Government and the firm has submitted its final bill to the Irrigation Department, Government of Gujarat. In addition to the final bill so submitted, the firm has also submitted further claims to the Government of Gujarat in connection with the said work. Notwithstanding anything herein contained benefits of the said claim shall not stand transferred to the company and the vendors shall be entitled to pursue the said claims and retain any amount that may be allowed by the Government or otherwise recovered in respect of the said claim or any part thereof and for the purpose of such recovery the vendors shall be entitled to use the firm's name and style and to be in the said name and style." ' Thereafter, the firm was dissolved by a dissolution-deed, dated August 16, 1984. Clause (7) of the dissolution-deed reads as under: "(7) The parties hereto are not undertaking any further business activity in the said firm and have no outstanding business save and except to the extent of pursuing aforementioned claims against the Government of Gujarat in respect of the contract of construction of earthen dam for Mazam Irrigation Scheme in the Sabarkantha District." ' Terms Nos.1 and 2 of the said dissolution-deed read as under: "(1) The partnership firm of Banyan & Berry shall stand dissolved with effect on and from the date of execution of these presents and each of the parties hereby released the rest of them from all proceedings, accounts, cost, claims and demand in respect of the partnership and the terms, conditions and covenants contained in the said deed of partnership, dated November 16, 1982, made between the parties hereto, but without prejudice to any right of remedies arising under these presents. (2) The aforementioned claims against the State of Gujarat in respect of the contract for construction of an earthen dam for Mazam Irrigation Scheme in the Sabarkantha District have on this dissolution of partnership been allotted to and shall be treated as an actionable claim jointly enforceable as tenant in common by the parties hereto and each of the parties hereto shall be entitled to a share in the net amount realised or recovered by any proceedings in respect of the
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said claims in the same proportion as his share in the profits and losses of the said partnership specified in paragraph 7 of the said-deed of partnership, dated November 16, 1982." ' For pursuing the said claim under the said dissolution-deed, three of the partners were authorised to do all acts, deeds, matters and thing about the recovery and relation of the said claims, on behalf of all. ' The facts regarding the claim are that the firm was awarded a contract for construction of a dam for Narmada Irrigation Scheme in Sabarkantha District. The work of this contract was completed on May 15, 1984. The firm submitted its final bill to the Irrigation Department of the Government of Gujarat. The firm also submitted a further claim in connection with the said work which primarily consisted of price escalation and extra items, as per conditions of the contract. Thereafter, the Government of Gujarat accepted part of the claims and paid two sums respectively on June 29, 1984, and November 23, 1984, totaling Rs,2,48,944 on May 31, 1985. Since the firm was dissolved, it was claimed that the amounts belong to the partners of the firm in their individual capacity in proportion to their share in the profit of the firm as per the provisions of the dissolution-deed, dated August 16, 1984, and the said amount was assessed in the hands of the partners in the assessment year 1986-87 directly in proportion of their profit ratio. The claims which were not accepted by the Government were referred to an arbitrator. The arbitrator made an interim award on August 27, 1986, awarding Rs,95,80,700 in favour of the contractors. A final .Award was made on January 27, 1987, for an additional sum of Rs,49,44,570. The two amounts were received on November 26, 1986, and on May 5, 1987, respectively, by the partners of the firm directly. This was in view of the letter, dated October 9, 1986, written to the officer on Special Duty, Irrigation Department, wherein it was requested that in view of the dissolution of the firm, it was necessary to amend the name of the original claimants by including that the claimant firm was dissolved and the names of the 16 partners be added. The Government, vide its letter, dated November 26, 1986, written to the Superintending Engineer, Irrigation Department, made it clear that there was no objection to the proposal regarding making the payment of interim award to the partners directly in accordance with their share in the partnership-deed. Likewise the partners were directly paid the amount of final award as well. ' It may be noticed that the construction work at Mazam was completed before the transfer of business. The final bill was also submitted and payment thereof was received prior to the transfer of business. So also the claim for additional sums on account of escalation clause and price of the extra claim was lodged with the Government prior to said transfer. ' The firm did not file any return of income. A notice in respect of the aforesaid sums received by the partners under the award was issued under section 139(2) by the Assessing Officer in response to which the return was filed showing nil income. It was claimed by the assessee that the sum of Rs,1,48,24,876 was a capital receipt and not taxable. The Assessing Officer brought to tax the abovementioned sum for the following reasons: "(1) The partners received benefit from the business carried on by the partnership firm. The claim arises from the business and there was a direct nexus between the business carried on by the firm and claim which resulted in receiving the sum by the partners. The amount was, therefore, taxable under section 28(iv) of the Act being the value of any benefit or perquisite, whether convertible into any money or not, arising from the business; (2) The amount was taxable under the provisions of sections 60 and 63 of the Income-tax Act, however, neither the provisions of sections 60 and 63 were set out in full nor was it explained how these sections can be invoked. (3) The provisions of section 176(3-A) provided for taxation of all those receipts which were related to the business activity before its discontinuance. The award amount received after dissolution of the firm was an integral part of the business receipts of the firm, Banyan
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& Berry. It was, therefore, taxable under section 176(3-A)." ' The assessing authority also held that the claim had arisen from the business and it is a benefit the value of which in terms of money is chargeable as income under section 28(iv) of the Act. The Assessing Officer was also of the view that the provision of sections 60 and 63 of the Act were also attracted for holding the said sums as taxable. The Assessing Officer was also of the view that formation of the company, handing over the running business of the firm and dissolution of the firm was made with an ulterior motive to. Escape the tax liability either in the hands of the firm or in the case of partners under section 176(3-A). In these circumstances of the case, the assessee's contention that receipts are not taxable under section 176(3-A) was not accepted. Accepting that the assessee has confirmed that the firm is dissolved, it held that it amounted to discontinuance of the business by the firm and attracts the provisions of section 176(3-A) of the Act. The receipts were held to be related to business of the firm, receipt of which were deferred due to litigation or dispute. ' On these provisions it was held that the amount received was income under section 2(24) read with section 28(iv) and taxable in the hands of the assessee under sections 60. 63 and 176(3-A) of the Income Tax Act, 1961, because according to him, section 176(3-A) in very unambiguous language provides for taxation of receipts which were directly related to business activities before its discontinuance. ' Thus, in his ultimate conclusion, the Assessing Officer accepted the dissolution of the firm as an existing fact and invoked section 17.6(3-A) to bring the receipts to tax in the hands of the firm. ' On appeal, the Commissioner of Income-tax (Appeals) found that discontinuation of business under section 176(3-A) should not only be treated from the point of view of continuation or cessation of business but also from the point of view of the person carrying on the business. According to him, subsection (3-A) of section 176 is the logical extension of section 189(1) and reading the two provisions together, the firm was liable to be taxed. The Commissioner of Income- tax (Appeals) did not rest his conclusion on the edifice of treating the dissolution of firm as a device to avoid tax. The Commissioner of Income-tax (Appeals) affirmed the assessment though on a different ground. ' On further appeal, the Tribunal found that section 189 does not come to aid in bringing the amount of the award to tax in the hands of the firm. The Tribunal also found that as far as section 176(3-A) is concerned, it cannot be invoked because it is not a case of discontinuance but continuation of business by the successor-company. However, the Tribunal further found that in the present case the entire business was not taken over. It was of the opinion that the benefit of additional claims did not stand transferred to the company. The additional claims were nothing but claims primarily of escalation in costs due to delay in completion of the contract and also some additional items, etc. These claims were raised as part of the contract. The quantum of these claims was huge. After noticing the business results of the company, the Tribunal also found that in the circumstances, it is found that a substantial part of the business consisting of claims was not transferred to the limited company. In its opinion, realization of outstanding claims was an integral part of the "business" which was not transferred to the company and for that reason the business in question was not discontinued., The Tribunal agreed with the assessee that section 28(iv) cannot be invoked in the present case. The contention of the assessee that it was not open to the Department to tax the firm once income was taxed in the hands of the partners as members of an association of persons was rejected on the ground that the assessment orders of Shri K.D. Kunjadia for the assessm ent year 1988-89 shows that what was taxed at that time was only a protective measure. The Tribunal also held that sections 60 and 63 are not applicable to the facts of the present case. ' The Tribunal then, addressed itself to the question whether the dissolution of the firm can be treated as a device for avoidance of tax and, therefore, covered by the decision of the Supreme
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Court in the case of McDowell & Co. Ltd. v. CTO (1985) 154 ITR 148. ' The Tribunal recorded is conclusions as under: (i) It appears unusual that after the business of the firm was taken over by the company as a going concern on July 1, 1984, except for the outstanding claims which are under consideration, the firm should have been dissolved. (ii) The dissolution was not immediate and the firm continued till August 16, 1984, on which date it was dissolved. (iii) It has to be remembered that the outstanding claims were not some fringe matters which could be attended to without much effort. We have already noted that the claims were of huge amounts, the amount in the letter, dated May 25, 1984, from the firm to the Executive Engineer, Irrigation Project, alone being Rs,1,58,91,625. The follow up of the claim required representation before the arbitrator. Even then, it was decided to dissolve the firm, which is far more extreme step than, mere retirement of some partner. (iv) Another unusual feature is that even after dissolution certain important elements of the partnership were continued. The claims were treated as an actionable claim, jointly enforceable as tenants-in-common by the parties thereto. ' Each of the erstwhile partners was entitled to share in the award in the same proportion as his share in the profits and losses of the firm. Three of the partners were appointed to do certain acts on behalf of all the erstwhile partners which included the opening of bank accounts. (v) The claim was treated as an outstanding business and we have also come to the same conclusion earlier that the business of the firm was not discontinued on July 1, 1984. (vi) The normal expectation would be that the firm should continue but exactly the opposite took place by its dissolution. ' On these precincts, the Tribunal concluded that the dissolution of the firm was nothing but a device to avoid tax. The firm was dissolved by a deed but in essence it was a device to avoid tax because there was no purpose in dissolving the firm. ' Consequentially, the Tribunal held that dissolution of the firm will be ignored for the purpose of assessm ent of income and it will be treated that the firm continued even after August 16, 1984, and received awards of the arbitrator. In this view of the matter, the sum of Rs,1,48,24,876 becomes taxable in the hands of the firm, except to avoid tax. ' Having concluded thus, the Tribunal found that income should be assessed on the basis of accrual and not on the basis of receipts and as sufficient facts were not available before the Tribunal to show when the income accrued, the matter was restored to the file of the Commissioner of Income-tax (Appeals) for the purpose of ascertaining the year in which the income in question accrued and restrict assessment only to that part of the income which accrued in the previous year relating to the assessment year 1988-89. ' It is in the aforesaid circumstances, that the Tribunal has referred the questions stated hereinabove for decision of this Court. ' Questions Nos.1 and 2 referred to above are interlinked and call for the determination of the basic issue whether the dissolution of the firm, vide dissolution-deed, dated August 16, 1984, can be treated as a device within the meaning of McDowell & Co. Ltd. v. CTO (1985) 154 ITR 148 (SC) and is to be ignored and to treat the firm to be continuing to exist. ' Great emphasis has been laid by the Tribunal on the so-called "unusual" features, viz., retention of the claim in question with the firm in spite of transferring of the business as a going concern, to treat it as the "remainder" of the business and the terms of the dissolution-deed, providing for treating the claim as an actionable claim of the joint ownership of the erstwhile partners, its sharing in the "profit sharing ratio" on realisation and authorising some of the partners to do all the acts for pursuing the claim.
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' As will be seen presently the so called unusual features are the usual state of affairs to come in existence as a result of dissolution. Regarding retaining the claim from the facts it is obvious that the firm was engaged in construction business as contractors. Construction of the dam at Mazam was a completed work as on the date of transfer of business to the extent of receipt of regular payment of the final bill under the contract. Only the claim for escalation and extra claim was pending. No part of the business activity relating to the Mazam project was that which was regarded to be transferred to the company. The claim was disputed. It is also not the case that any other pending claim of any other such completed work was transferred to the company and the claim in respect of the Mazam dam was treated differently. ' In these circumstances, there could not be anything unusual for the partners, who intended to dissolve the firm on the transfer of business, not to transfer any pending/disputed claim of a completed work. ' Likewise the terms of dissolution were in consonance with section 47 of the Partnership Act. Even in the absence of the said terms, the same state would have existed under section 47 of the Partnership Act. ' The Tribunal's approach to treat the dissolution as a device to avoid tax because there was no purpose to dissolve it is apparently fallacious and is a result of misdirecting oneself in law. The question is whether in the undisputed facts of the case, it was essential to continue with the firm solely for the purpose of realisation of a disputed claim when all other business has been transferred to the company. No prudent man of common sense would in fact in such circumstances have continued to keep the firm alive, on any commercial principle. ' The Tribunal while referring to clause (7) of the dissolution-deed which read that parties hereto are "not undertaking any further business activity" in the said firm and "have no outstanding business" save and except to the extent of pursuing the aforementioned claim against the Government in respect of the contract of construction of the earthen dam for the Mazam Irrigation Scheme in Sabarkantha District opined that the business of the firm was not transferred in its entirety because "pursuing the claim" was treated as an outstanding business and looking to the large magnitude of the claims, the normal expectation in the opinion of the Tribunal would be that the firm should continue but exactly the opposite took place by its dissolution. According to the Tribunal, there was no purpose in dissolving the firm. The Tribunal has also referred to the deed of dissolution under which the claim in question was treated as an actionable claim jointly enforceable by the parties thereto and each of the erstwhile partners was entitled to share the amount received under award in the same proportion as his share in the profits or losses of the firm. Three of the partners were appointed to do certain acts on behalf of the partners which included the opening of bank accounts. On these premises, it was held that there was no purpose in dissolving the firm except to avoid tax and, therefore, the dissolution of the firm was ignored. ' It would also be relevant here to notice that the factum transfer of business as a going concern except the outstanding claim against the Government in respect of construction of earthen dam for Mazam Irrigation Scheme has been held to be genuine and not a device. It is also not in dispute that the only activity of the erstwhile business of the firm which had not reached its end was determination of the aforesaid claim. There is no indication either of the fact that after dissolution the firm carried on any other business activity than the one transferred to the company. The Tribunal has rested its conclusion to hold the dissolution of the firm as a device to avoid tax on the ground of there being no purpose except to avoid the liability of tax which should arise as a result of an award being made in favour of the firm regarding its pending claims about the construction of the earthen dam of the Mazam Irrigation Scheme which may be received some time in the future, and the terms of the dissolution-deed which according to the Tribunal spelt out that certain
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important elements of the partnership were continued as unusual and those factors were stated to be--- (i) The claims were treated as actionable claims. (ii) The claims were treated as jointly enforceable as tenants-in-common by the parties; (iii) The partners were entitled to share in the award in the same proportion as each one has a share in the profits and losses of the firm and; (iv) Three of the partners were appointed to do certain acts on behalf of the erstwhile partners which included opening of bank accounts; for holding that the said existing partnership after the transfer of business to the company still retained the continuing business and the Tribunal was also influenced by the magnitude of the claims when it repeatedly referred to the fact that the outstanding claims were not some fringe matters which could be attended to without much effort but the claims were of huge amounts, and the follow up of the claim required representation before the arbitrator. The pursuing of the claim was treated by the Tribunal as a business of the firm which was to be carried on by it. ' The two questions that call for probing at this juncture are whether the premises aforesaid can reasonably lead to the conclusion in law that the dissolution of the firm was not real but was a device to avoid tax, and, secondly, what is the true scope of the applicability of the principle enunciated in McDowell's case (1985) 154 ITR 148 (SC). ' In McDowell's case (1985) 154 ITR 148 (SC), the assessee was a manufacturer of Indian liquor under the Andhra Pradesh Excise Act. Excise duty was levied on the manufacture of liquor and the manufacturer was not entitled to remove the same from the distillery unless the duly imposed under the Excise Act had been paid. According to the assessee, the buyers of Indian liquor from the distillery obtained distillery passes for release of liquor after making payment of excise duty directly to the State exchequer and presented the same at the distillery whereupon the bill of sale or invoice…
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