Partners not liable to pay tax on remuneration on which tax already paid by firm

H. R. International Vs PCIT (ITAT Amritsar)

The section 263 has two limbs, the erroneous order and prejudicial to the interest of revenue. The assessee in its partnership deed mentioned the drawing power of the salary is 24 lakh per annum for each partner. In fact more than salary Rs. 24 lakh will be disallowed as per section 40(b)(v) of the Act. Here it cannot say that the specific salary is not quantified. The assessment order has not pointed out about anything related to partnership deed. But during calculation of total income the said deed was considered & documents was within the record of the proceeding. On basis of remuneration clause in deed two views are different in between the ld. AO & ld Pr CIT. On other hand the disallowance of partners remuneration means the tax was paid by the assessee on Rs. 36 lakhs in its return income. So, the full partnership remuneration is under tax bracket. The general prudence of the law is that the same income cannot be taxed twice. On other hand, the partners are not liable to pay tax on the remuneration which was already paid by the firm in its return of income.

The beauty of the section 40(b)(5) is that the remuneration to the partner is fully regulated by the book profit. More book profit more remuneration of partner will be allowed. So as per act the assessee can claim more remuneration but it will be allowed subject to provision 40(b)(5) of the Act depending of its book profit. On the other hand, the same remuneration is taxed in the hands of the assessee. The learned Pr. Commissioner of Income Tax, during issuance of notice under section 263 of the act and also during passing the order under section 263 of the act did not cognizance on the calculation of tax and the benefit of the revenue.

We consider the order under section 263 of the act. The two opinions were formed by two Authorities in the question of acceptance of clause of partnership deed related Partners’ Remuneration. Respectful consideration of the judgments of Hon’able Apex court is in the case of Malabar Industrial Company Ltd vs CIT 243 ITR 083 (SC) & in the case of Principal Commissioner of Income-tax, Surat-2 v. Shreeji Prints (P.) Ltd. [2021] 130 taxmann.com 294 (SC).

Here, the view of ld. Assessing Officer being a plausible view could not be considered erroneous or prejudicial to interest of revenue. Accordingly, the order of the ld AO cannot be considered erroneous or prejudicial to the interest of revenue.

FULL TEXT OF THE ORDER OF ITAT AMRITSAR

The instant appeal was filed by the assessee against the order passed by the Ld. Pr. Commissioner of Income Tax-1, Jalandhar [in brevity the PCIT], bearing order No. Pr.CIT-1/JAL/263/2019-20/2128 dated 16.09.2019 passed u/s 263 of the Income Tax Act, 1961[in brevity the Act], in respect of Assessment Year 2015-16. The impugned order was originated from order of the ld Assistant Commissioner of Income Tax- Circle-1, Jalandhar bearing order dated 06/07/2017, passed U/s 143(3) of the Act.

2. Brief fact of the case is that the assessee is a partnership firm & filed its income tax return in form no- 5 as per income tax rule 1962, during the year 2015– 16 & claimed partners’ remuneration U/s 40(b)(v) of the Act. The assessee claimed partners’ remuneration Rs. 36 lakhs related to 3 (three) partners of the firm, named Mr Naresh Kumar Sharma, Mr Sudershan Kumar Sharma and Mr Suresh Kumr Sharma amount of remuneration Rs. 12 lakh each for the financial year 14-15. The assessment was made under section 143(3) of the Act in summary matter. The learned Pr.CIT initiated the notice under section 263 of the Act on basis of that the partnership deed of the assessee. As per his observation the deed is not quantified the partners’ salary. As per section 40(b)(v) of the Act the remuneration of partners should be quantified. But the learned Pr.CIT observed that in partnership deed the amount is not quantified. Accordingly, the assessee is not eligible to get the benefit of section 40(b)(v) of the Act related remuneration of the partners. It is determined by the learned Pr CIT that the order of the Ld Assessing Officer is erroneous and prejudice to the interest of revenue. Considering this fact the order under section 263 was passed. The aggrieved assessee filed an appeal before us for further adjudication.

3. During the hearing the Council of the assessee Mr Tarun Bansal, Advocate filed the written submission on dated 24th March 2022 which is kept in the record. As per Mr Bansal the order passed by the learned Pr. CIT is perverse. In fact the Assessment order of the learned Assessing Officer is not erroneous because the issue related partnership deed is considered in assessment order during allowing the deduction U/s 40(b)(v) of the Act. During the assessment, the partnership deed was produced which is enclosed in Page number 5 of the paper book. In point number 7 of the deed, the remuneration is quantified. The point no. 7 of the deed is reproduced as under:-

“7. That all the partners shall be working partners and shall be entitled to draw salary from the firm to the extent allowable under the provisions of Income Tax Act, 1961 but shall be drawing salary to the maximum of:

The amount of salary shall be treated as expenses of the partnership business and shall be deducted as expenses before net profit is determined. In case there is loss in partnership business, working partners shall not be entitled to any salary and if the books profit computed in accordance with the provisions of the Income Tax Act is not sufficient to cover the amount of salary, the amount of salary shall be reduced proportionate to book profit computed in accordance with the provisions of Income Tax Act.”

4. On the other hand the ld. CIT-DR mentioned that in this para the drawing power of the partner of the salary is mentioned but there is no specifications related quantification of salary. The learned Assessing Officer had missed to discuss the part during assessment proceeding. So, the entire order related to this particular issue is erroneous. The invoking of section 263 of the Act is proper.

5. The observation of the Ld. Pr.CIT in the order U/s 263 of the Act is attached hereunder:-

On perusal of the assessment record in the above noted case, for the assessment year 2015-16, it was seen that that the assessment order had been framed on 06.07.2017 under section 143(3) (hereinafter refer to as The Act’). On examination of the assessment order and the facts on record, certain discrepancies were noted in the assessment order passed. Accordingly, a show-cause notice was issued to the assessee under section 263 of the Act, vide letter bearing No.3158 dated 15.01.2019 as follows:

“On perusal of the order u/s 143(3) of the Income Tax Act, 1961 dated 06.07.2017, in your case and on the examination of record for the Assessment Year 2015-16, the following discrepancies were noticed.

(i) Perusal of the partnership deed filed during the course of assessment proceedings shows that in para 7 of the deed, it has been mentioned that the working partners shall be entitled to draw salary to the extent allowable under the provisions of Income Tax Act, 1961 to the maximum of Rs.24,00,000/- per annum to each partner. Since, the salary to the partners has not been quantified in the deed as required u/s 40(b)(ii), the Assessing Officer, while framing assessment, was required to disallow the salary amounting to Rs.36,00,000/- debited by the assessee firm in its P & L Account but the Assessing Officer failed to do so.”

Accordingly, in view of above discrepancies, I propose to hold the said order to be erroneous, in so far as it is prejudicial to the interest of revenue and take suitable remedial action, as per section 263 of the Income Tax Act, 1961. Your reply/objections, if any, to the proposed action can be filed before the undersigned by 29.01.2019 on which date your case stands fixed for hearing at 11.30 A.M. in the office of the undersigned.”

2. In response to the show cause notice, the assessee’s counsel Sh. Rakesh Ghai, CA, attended and filed requisite reply which is reproduced as under:

“We acknowledge the receipt of above mentioned notice in which the discrepancy with regard to salary allowable to partners has been observed and have mentioned that as per Para 7 of the Partnership Deed working partners shall be entitled to draw salary to the extent allowable under the provisions of Income lax Act, 1961 to the maximum of Rs. 24,00,000 – per annum to each partner.

You have further mentioned that the salary to the partners has not been quantified in the deed as required u s 40(h) (ii). It is humbly submitted that while framing the assessment the assessing officer has allowed Rs. 36.00,000 – to all the partners, but not to each partner, during the assessment year 2015-16, meaning there by that Rs. 12,00,000- – has been allowed to each partner per annum which is well within the limit authorized by the partnership deed. So it is quite clear that maximum salary allowed to partners is quant fed as well as authorized by Partnership Deed.

Sec. 40(b) (ii) of the Income Tax Act 1961 states that any payment of remuneration to any partner who is a working partner, or of interest to any partner, which, in either case is not authorized by, and is not in accordance with, the terms of the partnership deed is not allowed. This section clearly says that the salary allowed should be authorized by the partnership deed and does not talk about the quantification of salary. It seems that the quantification of salary to partner has been derived from Circular No.739 dated 25-03-96 which is being produced for the sake of ready reference only.”

6. The learned counsel, Mr Bansal further pointed out that invoking section 263 is not prejudicial to the interest of the revenue. In fact invoking this section the revenue is losing the tax. In his argument, he clarified that the assessee claimed partners’ remuneration in its profit and loss account Rs. 36 lakhs. During the computation of income by invoking section 40(b)(v) of the Act, the assessee was only getting the benefit of the remuneration Rs.12 lakh. The assessee is paying tax at the rate of 30% on non-allowed partners’ remuneration amount of Rs. 24 lakh. On other hand, the partners had declaring this remuneration in their returns of income. All three partners paid the tax in their individual returns total amount to Rs. 36 lakhs that is Rs 12 lakhs each and the tax bracket of the partners are @30%. The revenue is getting tax on 24 lakhs in assessee’s hand & also the full remuneration is taxed in the hands of the partners. As per the Act Rs. 24 lakhs is taxed double in the hands of the assessee and in the partners. In the support of his explanation the documents are attached from Page number 16 to 30 of the paper book. Mr Bansal pointed out that the following documents are attached in the paper books which are as follows:-

I. Copies of ITR and computation of assessee for assessment year 2015 – 16.

II. Copies of ITR and computation of partner Mr Naresh Kumar Sharma

III. Copies of ITR and computation of partner Mr Sudershan Kumar Sharma

IV. Copies of ITR and computation of partner Mr Suresh Kumar Sharma.

7. Mr Bansal bring our attention in the assessment order passed under section 143(3) read with 263 passed on 28/09/2021. In effect of the order of learned Pr.CIT the assessing Officer only added back Rs. 12 lakh with the total income of  R. Internatinal v. Pr. CIT the assessee. He further mentioned that then on total remuneration amount to Rs 36 lakhs the tax was paid in assessee’s return. Accordingly the refund will be claimed in the hands of the partners related to tax on disallowed partners’ remuneration. The same amount cannot be taxed twice. He had taken the prudence of the law. The amount would be liable for refund by the revenue authority.

8. The learned CIT-DR vehemently argued and mentioned that the tax will be levied in the hand of specific person. The question of refund or loss of revenue is not the point. He relied on the order of the learned Pr. CIT.

9. We heard the rival submission & considered the documents available on record. The section 263 has two limbs, the erroneous order and prejudicial to the interest of revenue. The assessee in its partnership deed mentioned the drawing power of the salary is 24 lakh per annum for each partner. In fact more than salary Rs. 24 lakh will be disallowed as per section 40(b)(v) of the Act. Here it cannot say that the specific salary is not quantified. The assessment order has not pointed out about anything related to partnership deed. But during calculation of total income the said deed was considered & documents was within the record of the proceeding. On basis of remuneration clause in deed two views are different in between the ld. AO & ld Pr CIT. On other hand the disallowance of partners remuneration means the tax was paid by the assessee on Rs. 36 lakhs in its return income. So, the full partnership remuneration is under tax bracket. The general prudence of the law is that the same income cannot be taxed twice. On other hand, the partners are not liable to pay tax on the remuneration which was already paid by the firm in its return of income.

9.1. The beauty of the section 40(b)(5) is that the remuneration to the partner is fully regulated by the book profit. More book profit more remuneration of partner will be allowed. So as per act the assessee can claim more remuneration but it will be allowed subject to provision 40(b)(5) of the Act depending of its book profit. On the other hand, the same remuneration is taxed in the hands of the assessee. The learned Pr. Commissioner of Income Tax, during issuance of notice under section 263 of the act and also during passing the order under section 263 of the act did not cognizance on the calculation of tax and the benefit of the revenue.

9.2 We consider the order under section 263 of the act. The two opinions were formed by two Authorities in the question of acceptance of clause of partnership deed related Partners’ Remuneration. Respectful consideration of the judgments of Hon’able Apex court is in the case of Malabar Industrial Company Ltd vs CIT 243 ITR 083 (SC) & in the case of Principal Commissioner of Income-tax, Surat-2 v. Shreeji Prints (P.) Ltd. [2021] 130 taxmann.com 294 (SC).

Here, the view of ld. Assessing Officer being a plausible view could not be considered erroneous or prejudicial to interest of revenue. Accordingly, the order of the ld AO cannot be considered erroneous or prejudicial to the interest of revenue.

10. In the result, the appeal filed by the assessee is allowed. Order pronounced in the open court on 19.05.2022