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Income-tax Reference No. 55 of 1960, decided on 18th March 1961.

Income tax Act (XI of 1922)-----

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Ss. 10(2)(xv), 23(5), & (6)-- Business expenditure Amount paid to secure share of outgoing Partner after dissolution Whether business expenditure.

On, the dissolution of a partnership firm in which A held th share and B th share, B retired receiving Rs. 15,000 as his share of the estimated future profits of the current year. A new partnership was formed within a month with A and his sons, and the assessee, the assessee having th share. The assessee paid Rs. 1 5,000 as his share of the capital but in his books the amount was debited as amount expended to secure the interest of the outgoing partner, The assessee's share of profits for the year amounted to Rs. 4,044 and he claimed a deduction of Rs. 15,000 as amount laid out or expended for the purpose of the business :

Held, that the amount of Rs. 15,000 expended by the assessee was not a payment made to the outgoing partner, but a payment made to A in order to secure a th share in the business of the firm and should not be treated as business expenditure.

Mohanlal Hargovind v. Commissioner of Income tax (1949) 17 1 T R 473 (P C) and Devarajulu Chetti & Co. v. Commissioner of Income tax (1950) 18 1 T R 357 distinguished.

STATEMENT OF CASE

By this application, Shri Chhotubhai Gopalbhai Patel, the assessee, requires the Appellate Tribunal to refer to the High Court some questions said to be of law and which are said to arise out of its order under section 33(4) made on 21st January 1960, in I. T. A. No. 21 of 1959-60. Inasmuch as, in our opinion, a question of law does arise out of the aforesaid order, we hereby draw up a statement of case and refer it to the High Court of Maharashtra at Bombay under section 66(1) of the Indian Income tax Act, 1922. Both the side6 agree that all the material facts have been correctly set out in the statement.

2. This matter arises out of an assessment made upon the assessee for the assessment year 1957 58. The assessee personally carries on business as a forest contractor for plucking and collecting tendu leaves. In addition to that, he derives income as partner in two firms, one of which is a firm known as "Firm Balaji Laxman & Sons, Chanda". In computing the total income assessable for the assessment year 1957 58, the Income tax Officer included a sum of Rs. 4,044 as assessee's 1/4th share in the said Chanda firm of Balaji Laxman & Sons. It is against this share income of Rs. 4,044 that the asssesee claimed to deduct a sum of Rs. 15,000 the nature of which will be presently indicated. In other words, it was urged on behalf of the assessee that in computing under section 10 the assessee's income from this source, viz., 1/4th share in the Chanda firm, the Income tax Officer ought to have allowed deduction of a sum of Rs. 15,000 under section 10(2)(xv) of the Act. The material facts having bearing on the said issue are as follows

3. Balaji Laxman and Vishweshwar Rao Dharmarao entered into partnership some time in August 1952 to exploit tendu leaves forest in Ahiri and Repanpalli ranges. In the said firm, Balaji Laxman had th share and Vishweshwar Rao, th share. The said partnership of two carried on business during 1953 1954 and 1955, the tendu leaves season (the season usually begins in April and ends with June each year). In open auction, certain forests were taken up by this firm for exploitation for the 1956 season but before time came to exploit them, differences arose between the two. Hence the two agreed to separate and dissolve the firm. An agreement was made on February 11, 1956. It is in Marathi and the assessee will furnish an official translation thereof. It is marked Annexure "A" and forms part of the case. The said dissolution agreement mentions that the parties to it estimated that if the tendu leaves forests in the said Ahiri and Repanpalli ranges were to be exploited in partnership for the 1956 season, the firm would earn a profit of Rs. 60,000 and hence they agreed that Balaji Laxman shall pay Rs. 15,000 to Vishweshwar Rao and after making this payment, he was to be the sole person who was entitled to exploit the said forest for 1956 season. As already stated, the dissolution deed was made on February 11, 1956.

4. After the dissolution of the said partnership of the two, Balaji Laxman formed another partnership wherein the partners were he himself, his four sons and the present assessee viz., Chottubhai Gopalbhai Patel. A partnership deed amongst the six parties was executed on March 11, 1956. It is in Marathi and the assessee is directed to furnish an official translation thereof. It is marked Annexure "B" and forms part of the case. According to the said agreement, the name of the six partner firm was "Firm Balaji Laxman & Sons, Chanda" (hereinafter referred to as the Chanda firm'). Clause (9) of the said partnership deed mentions the fact that Balaji Laxman had taken certain tendu forests in the Ahiri and Repanpalli ranges for exploitation during 1956 season and that they shall be made over by him for the benefit of the partnership business and appropriate sum shall be credited to his account. The business of the Chanda firm was to exploit the said tendu leaves forests for 1956 season and the period of the partnership was agreed to be March 11, 1956 to March 31, 1957. The partners also agreed to extend the said period if they so desired (vide clause 4). Clause 5 of the partnership agreement set out the individual shares of the several partners, Balaji Laxman having five annas in the rupee of 16 annas and Chhotubhai 4 annas, the balance being distributed amongst the remaining four.

5. On March 15, 1956, the assessee, Chhotubhai Gopalbhai, made the following entry in his own cash book (his, personal account book and not that of the Chanda firm)

"Rs. 15,000 Debited to P. & L. Account on account of 4 as. share in Ahiri and Repanpalli forests that belong to Shrimanta Vishweshwar Rao, Aheriwala who was with Balaji Sahukar (i.e., who was a partner with Balaji Sahukar), paid cash to Balaji Sahukar "

In the account year ended March 31, 1957, the Chanda firm made certain profit and the assessee's th share in the profits of the said partnership business was taken by the Income tax Officer at Rs. 4,044. It was the assessee's contention all along that in determining under section 10 of the Act the quantum of his income from the source, viz., ".11th share in the Chanda firm", the Income tax Officer should make a deduction of the said sum of Rs. 15,000. This claim was rejected by the Income tax Authorities and ultimately, the matter came before the Tribunal.

6. Shri Thakkar, Advocate, appearing on behalf of the assessee, claimed the said deduction on two grounds, viz.

(1) the said sum of Rs. 15.000 represents th share in the profit of Rs. 60,000 that was expected to be made in exploiting the tendu leaves forests for a period of one year, i e., 1956 season, and as such the payment was made in getting a share in the profit for one year of the partnership ; and

(2) the said sum represents price of tendu leaves forest which the assessee agreed to pay when Balaji Laxman agreed to bring the tendu leaves forest, held by him solely after the dissolution of the partnership with Vishweshwar Rao as an asset of the firm of six partners.

Dealing with the second of these two contentions first, the Tribunal observed as follows :

"In our opinion, on the facts of the present case, this is an imaginary case that is being sought to be made before us. The nature of the sum of Rs. 15,000 paid is to be gathered from the contemporaneous document, namely, the deed of dissolution (upon which Shri Thakkar himself relied) made on February 11, 1956 and the entry made in the cash book on March 15, 1956. It was the case of Shri Thakkar himself that Balaji Laxman demanded from the assessee the same amount which he had to pay to Vishweshwar Rao and referred to in the dissolution deed of March 11, 1956. If that is so then there is no basis for founding the case on the assumption that the sum of Rs. 15,000 represents price paid for acquiring an interest in the tendu leaves forest which forms the stock in trade of the partnership business and hence this part of the case is rejected" ; vide paragraph 6 of the Tribunal's order, marked Annexure "C" and which forms part of the case. The first of the contentions has been dealt with by the Tribunal in paragraph 7 of its order (Annexure "C") and it came to the conclusion that the payment of Rs. 15,000 was made by the ass:ssee for the purpose of acquiring a source of income, viz., a share in the Chanda firm, and that any amount laid out for the purpose of bringing into existence a source from which profit was to be earned in future by exploiting it, has necessarily to be held to be an expenditure in the nature of preliminary expenses and as such of capital nature. It, therefore, rejected the first contention as well. The result was that the assessee's appeal before the Tribunal failed on both the grounds and the appeal was dismissed.

7. On these facts, the assessee now requires the Tribunal to refer to the High Court the following , two questions said to be of law :

"(i) Does the amount of Rs. 15,000 represent an expenditure of a revenue nature laid out or expended wholly and exclusively for the purpose of earning business profits by the assessee from the firm of Balaji Laxman & Sons

(ii) Does the amount of Rs. 15,000 represent the value of 4 annas share in the tendu leaves growing in Aheri and Repanpalli ranges and Kastakari lands during the season of 1956 "

The second of these two questions is founded upon the second contention that was raised before the Tribunal and referred to in paragraph 6. In our opinion, the finding of the Tribunal on the said contention is purely one of fact and does not give rise to any question of law. Hence, we refuse to refer question No. (ii) as a question of law. In our opinion, on the facts of the case, the following question of law arises :

"Whether in computing the assessee's income under section 10 from the source represented by th share in the Chanda firm, the assessee is entitled to claim deduction under section 10 (2) (xv) of the sum of Rs. 15,000 as an item of revenue expenditure

We would refer the question accordingly.

J. M. Thakkar and B. H. Chati for the Assessee.

G. N. Joshi and R. J. Joshi for the Commissioner.

JUDGEMENT

TAMBE, J.

This is a reference under section 66 (1) of the Income tax Act hereinafter referred to as the Act. We are here concerned with the assessment year 1957 58. The facts giving rise to this reference, as stated in the agreed statement of case, are that one Balaji Laxman and Vishweshwar Rao Dharmarao entered into a partnership some time in August 1952, to exploit tendu leaves forest in Ahiri and Repanpalli ranges. In the said firm Balaji Laxman had th share and Vishweshwar Rao th share. The said partnership of the two carried on business during the years 1953, 1954 and 1955 tendu leaves season (the season usually begins in April and ends with June each year). In open auction, certain forests were taken up by this firm for exploitation during the year 1956 season. Before time came to exploit them, differences arose between the two. Hence the two, that is, Balaji Laxman and Vishweshwar Rao, agreed to separate and dissolve the firm and accordingly an agreement to dissolve the firm was got executed on 11th February 1956. The said dissolution agreement mentions that the parties to it estimated that if the tendu leave forests in the said Ahiri and Repanpalli ranges were to be exploited in partnership for the 1956 season, the firm would earn a profit of Rs. 60,000. Hence it was agreed that Balaji should pay Rs. 15,000 to Vishweshwar Rao and on making the payment, he (Balaji Laxman) was to be the sole person entitled to exploit the forests for the 1956 season. In the same deed, Vishweshwar Rao also acknowledged that he had received Rs. 15,000 from Balaji Laxman.

Nearly a month thereafter, a new partnership was formed between Balaji Laxman, his sons and the assessee in the present case, namely, Chhotubhai Gopalbhai Patel. The terms on which this partnership was formed for exploiting the two forests ranges for the 1956 season were reduced to writing in a deed executed on March 11, 1956. Clause (1) of the deed recites that the name of the firm shall be "Firm Balaji Laxman & Sons, Chanda" (referred to as the Chanda firm by the Income tax Authorities). Clause (2) provides that the principal place of business shall be at Chanda. Clause (3) provides that the partnership is constituted to work forest, pluck tendu leaves and sell them off from the forest of tendu leaves taken on lease in the name of "Old Aheri Zamindari". Clause (4) recites that the partnership was to commence on the date of the execution of the deed and will terminate on the 31st March 1957. It further provides that if all the partners decide to continue this partnership thereafter it shall continue for the period decided and determined by the partners. Clause. (5) enumerates the shares of all the different partners. Suffice it to say that the share of the assessee was four annas in the business of the partnership. Clause (6) provides that each partner shall contribute his share of capital in proportion to his share in profit or loss of the business of the firm. It further provides that Balaji Laxman was the manager partner of the firm. Clause (9) provides:

"Partner No. 1 Balaji Laxman Sahukar has taken on lease the tendu leaves forests of Aheri lease range, Repanpalli lease range and Malampalli lease range for the season of the year 1956. These forest leases have been made available by him for the use and business of this partnership and the same is made the subject matter of this partnership. The amount invested by Shri Balaji Laxman Sahukar for getting these forest leases will be adjusted and credited to this account."

It is not necessary to refer to the other terms of this deed. It appears that four days after the execution of this deed, that is, on 15th March 1956, the assessee Chhotubhai Gopalbhai paid Rs. 15,000 to Balaji Laxman and the entry made by him in his own private account book in respect of the said payment is in the following terms :

"Rs. 15,000---Debited to P. & L. Account on account of 4 As, share in Aheri and Repanpalli forests that belonged to Srimanta Vishveshwar Rao, Aheriwala, who was with Balaji Sahukar (i.e., who was a partner with Balaji Sahukar) paid cash to Balaji Sahukar."

In the assessment of the Chanda firm for the assessment year 1957 58, that is, account year ending with March 31, 1957, the profits of the firm were determined at a certain figure, and the assessee's share of the profits in the said firm was determined by the Income tax Officer at Rs. 4,044 and in his assessment the said figure was taken by the Income tax Officer as the assessee's income from this source, namely, the business of the Chanda firm. It has been the assessee's contention all along that in determining under section 10 of the Act the quantum of his income from this source, that is, th share in the Chanda firm, the Income tax Officer should make a deduction of the said sum of Rs. 15,000 paid by him to Balaji Sahukar. This claim of the assessee has been rejected by the Income tax Officer, the Appellate Assistant Commissioner and the Tribunal. The view taken by the Income tax Authorities and the Tribunal was that the payment of Rs. 15,000 to Balaji Sahukar was not an amount laid out or expended for the purpose of the business but was a payment made by the assessee to Balaji Sahukar for the purpose of acquiring a source of income, that is a share in the Chanda firm and, therefore, was not a permissible allowance under section 10 (2) of the Act. The assessee thereafter moved the Tribunal under section 66 (1) of the Income-tax Act and the Tribunal has referred the following question to us :

"Whether in computing the assessee's income under section 10 from the source represented by th share in the Chanda firm, the assessee is entitled to claim deduction under section 10 (2) (xv) of the sum of Rs. 15,000 as an item of revenue expenditure "

Mr. Thakkar, learned counsel for the assessee, contends that the assessee is entitled to claim deduction under section 10 (2) (xv) of the sum of Rs. 15,000 as an item of revenue expenditure. Because the assessee has expended that amount for getting th share in the forest produce, it is an expenditure, according to Mr. Thakkar, for acquiring stock in trade or raw material. Reliance is placed on a decision of the Privy Council in Mohanlal Hargovind v. Commissioner of Income tax ((1949) 17 I T R 473 (P C)). In the alternative, it is the contention of Mr. Thakkar that even if it is assumed that the amount of Rs. 15,000 is expended for acquiring th share in the business of the Chanda firm, the partnership being restricted to that single adventure of one year's duration, no enduring benefit has been secured by the assessee, and, therefore, the expenditure was not of a capital nature but on the other band it was an expenditure laid out or expended wholly and exclusively for the purpose of such business.

Mr. Joshi, learned counsel for the Department on the other hand, contends that on the findings of the Income tax Authorities the assessee is not entitled to claim Rs. 15,600 as a permissible allowance under section 10 (2) (xv) because that amount has been expended for acquiring a source of income namely, th share in the partnership. Rs. 15,000 had never been entered in the books of account of the partnership and cannot be taken as an expenditure incurred by the firm or laid out by the firm wholly and exclusively for the purpose of such business. In our opinion, the contention raised by the Department is well founded. It is to be kept in view that the contention raised by the assessee before the Income tax Authorities had been a narrow one, and that was that in determining under section 10 of the Act the quantum of his income from the source, that is th share of the Chanda firm, the Income tax Officer should make a deduction of the said sum of Rs. 15,000. In other words, the deduction of Rs. 15,000 claimed by the assessee was only in the matter of ascertaining his income from the Chanda firm and not in respect of any other business. Keeping this basic fact in view, we will proceed to examine the relevant provisions of section 10. Subsection (1) of section 10 provides:

"The tax shall be payable by an assessee under the head profits and gains of business, profession, or vocation' in respect of the profits and gains of any business, profession or vocation carried on by him."

Subsection (2) provides :

"Such profits or gains shall be computed after making the following allowances, viz.: . . . . . . .

(xv) any expenditure (not being an allowance of the nature described in any of the clauses (i) to (xiv) inclusive, and not being in the nature of capital expenditure or personal expenses of the assessee) laid out or expended wholly and exclusively for the purpose of such business, profession or vocation."

On reading the relevant provisions it becomes clear that what is to be seen is whether the expenditure claimed as a permissible allowance by the assessee is an expenditure laid out or expended for the business the profits of which the Income tax Authorities have to ascertain. If it is an expenditure laid out or expended for such business then it is a permissible allowance but if it is not wholly of that nature, then the assessee is not entitled to claim it as a permissible allowance under section 10 (2) (xv) of the Act. As already stated, the assessee claims the expenditure of Rs. 15,000 made by him as a permissible allowance for determining the assessee's share of profits in the Chanda firm. It is not an expenditure incurred by the Chanda firm. It necessarily follows that the said expenditure of Rs. 15,000 cannot be claimed as a permissible allowance in ascertaining the profits of the Chanda firm. The provisions of section 23 (5) and (6) make it clear that the procedure that has to be followed by the income tax Officer is to first ascertain the profits of the firm and then apportion it between the several partners in accordance with their shares. The sum of Rs. 4,044 has been apportioned to the assessee as his share of profits in the Chanda firm. Now, if the amount of Rs. 15,000 cannot be claimed a permissible allowance under section 1 0 (2) (xv) in respect of the business of the Chanda firm it necessarily follows that it cannot also be claimed as a permissible allowance as against the share of profits of the assessee, namely, as against the amount of Rs. 4,044.

The deed of partnership recites that the partnership is constituted to work forest, pluck tendu leaves from the forest of Aheri lease range, Repanpalli lease range and Malampalli lease range and sell these plucked tendu leaves. The expenditure of Rs. 15,000 incurred by the assessee cannot be said to have been incurred for any of the aforesaid purposes nor can it be said to have been expanded for the purpose of acquiring these forests. Clause (9) of the partnership deed makes it clear that these ranges were already acquired by Balaji and under the deed he had thrown them in the partnership. The said amount of Rs. 15,000 also is not shown to have been credited in the books of account of the firm nor taken into account of the business of the firm.

On the facts found by the Income tax Authorities and on the material on record. it is difficult to uphold the contention of Mr. Thakkar that Rs. 15.000 had been expended by him for acquiring stock in trade or raw material, the fact found being that the expenditure incurred by the assessee was for the purpose of acquiring a share in the Chanda firm. The decision on which reliance is placed by Mr. Thakkar is distinguishable on facts and is hardly of any assistance to him. The facts of that case were that the assessees in that case carried on a business at several places as manufacturers and vendors of country made cigarettes known as "bidis". These cigarettes were composed of tobacco rolled in leaves of a tree known as tendu leaves, which were obtained by the assessees by entering into a number of short term contracts with the Government and other owners of the forests. Under the contracts, in consideration of certain sum payable by instalments, the assessees were granted the exclusive right to pick and carry away the tendu leaves from the forest area described The assessees were allowed to coppice small tendu plants a few months in advance to obtain good leaves and to pollard tendu trees a few months in advance to obtain better and bigger leaves. The question that had to be determined was whether the payment made by the assessees to the Government or the owners of the forest was a capital expenditure or a revenue expenditure. It was held that the contracts were entered into by the assesssees wholly and exclusively for the purpose of supplying themselves with one of the raw materials of their business f that they granted no interest in the land or in trees or plants themselves, and that under the contracts it was the tendu leaves and nothing but the tendu leaves that were acquired and the right to pick the leaves or to go on the land for the purpose were merely ancillary to the real purpose of the contracts and if not expressed would be implied by law in the sale of a growing crop, and that, therefore, the expenditure incurred in acquiring raw material was in a business sense expenditure on revenue account and not on capital account, just as if the tendu leaves had been bought in a shop Mohanlal Hargovind v. Commissioner of Income tax.

As already stated, the payment of Rs. 15,000 made by the assessee was not for the purpose of getting the tendu leaves for the business. That concession had already been obtained by Balaji Laxman and under the 9th clause of the deed of partnership, he had thrown that concession in the partnership. Another decision has also been referred to by Mr. Thakkar in the course of his arguments, Devarajulu Chetty & Co. v. Commissioner of Income tax ((1950) 18 I T R 357). This decision also is distinguishable on facts and has no application to the facts of the present case. The facts of that case were that a firm of five partners had started a wholsale business in piece-goods. The partnership was started in September 1940. In October 1942, two of the five partners retired from the firm. The three surviving partners thereafter carried on the business under the same name and style but as a new firm. Each of the two outgoing partners was paid a certain sum for his share of the assets and profits of the old firm up to the date of dissolution as a result of an arbitration award. This settlement was subject, however, to a reservation of the rights of the two retiring partners in respect of certain forward contracts for the purchase of piece goods from abroad that had already been entered into by the old firm but the deliveries under which had not been effected. In September 1943, the new firm which was the assessee before the Court, took delivery of the goods and sold them at a considerable profit. In accordance with the direction of the arbitrators the new firm paid the two old partners a sum of Rs. 18,911 in respect of their interest in the goods and their share of profits realised by the sale of the goods. The old partners then executed a deed of release in favour of the new firm. The new firm was assessed to income tax for the year ending 31st March 1944, in the sum of Rs. 45,088 which included the sum of Rs. 18,9 11 paid to the old partners in respect of the goods arrived under the forward contracts. A question arose as to whether the payment of Rs. 18,911 made by the new firm to the two outgoing partners was revenue expenditure as contended by the assessee. The assessee's contention was upheld by the Court and it was held that the payment of Rs. 18,911 was revenue expenditure laid out solely and exclusively for the business of the new firm because it was really the price paid by the new firm for the acquisition of the goods, which formed the stock in trade of the business. From this decision it may follow that the payment made to the outgoing partners as their share in the assets of the firm is an expenditure of revenue nature but such is not the case here. The payment of Rs. 15,000 made by the assessee is entirely different in nature. It has not been paid to Vishweshwar Rao as his share in the assets of the firm on his retirement. On the other hand, that payment was made by Balaji Laxman to Vishweshwar Rao for acquiring th share in the partnership. The payment in the present case is not a payment made to the outgoing partner but is a payment made by him to Balaji Laxman to order to get th share in the business of the firm, This case, therefore, is of no assistance to the petitioner.

We also find it difficult to accept the contention of Mr. Thakkar that even assuming that the payment of Rs. 15,000 made by him was for the acquisition of th share in the business of the firm it still is an expenditure laid out wholly and exclusively for the purpose of the business because the business consists of a single adventure of a short duration. In our opinion nothing turns as to whether the partnership is of a short or a long duration. What is to be ascertained is what is the nature of the expenditure and whether in the ordinary commercial sense it can be said that the expenditure is of the nature of working expenses of the business, the profit of which has to be ascertained. We have already stated that in the instant case the business, the profits of which are to be ascertained was the business of the Chanda firm. The amount of Rs. 15,000 cannot be said to be a business expenditure nor has it been shown to have been expended as a business expense of that firm. It may be true that the assessee has paid Rs. 15,000 to Balaji Laxman in expectation that his th share in the profits of the firm may exceed Rs. 15,000 and thereby he may gain but that idea in the mind of the assessee has no relevance in deciding the question, which falls for consideration in this case.

For reasons stated above, our answer to the question referred to us is in the negative. The assessee shall pay the costs of the Department.

No order on the notice of motion and no order as to costs on the notice of motion.

Reference answered in the negative.

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