Conclusion: Amount received by a retired partner from its erstwhile partnership firm could not be claimed as exempt under section 10(2A) as the reading of section makes it clear that it makes profit of a firm assessed as such exempt in the hands of its partners and assessee was not at all partner in the said firm.
Held: AO denied exemption u/s.10 (2A) to assessee-company on the amount credited in its profit and loss account being share of surplus on the revaluation of assets of a partnership firm from which it had retired earlier. Tribunal held that a reading of section 10(2A) makes it clear that said section makes profit of a firm assessed as such exempt in the hands of its partners. In the instant case, assessee was not at all partner in the said firm and had retired from the firm with effect from 1-4-2009. Hence, amount received by a retired partner from its erstwhile partnership firm could not be exempt under section 10(2A).
FULL TEXT OF THE ITAT JUDGMENT
These are cross appeals by the Revenue and assessee emanating out of the order of ld. Commissioner of Income Tax (Appeals)-21, Mumbai dated 28.02.2014 and pertain to assessment year 2010-11.
2. The grounds of appeal raised in Revenues appeal read as under:
1.1 “On the facts and in the circumstances of the case and in law , the Ld.CIT(A) erred in deleting of Rs.6,72,30,150/-assessed as capital gain.
1.2 “On the facts and in the circumstances of the case and in Law, the CIT(A) erred in holding that the decision of the Hon’ble ITAT in the case of Sudhakar Shetty (130 ITD 197(Mum) and thereby treating the amount of Rs.10,48,51,708/-as capital receipt not chargeable to tax u/s.45.
2.1 “On the facts and in the circumstances of the case and in law, the Ld.CIT(A) erred in allowing the deduction of Rs.10,45,51,708/- while computation of book profit u/s.115JB.
3. The grounds of appeal raised in assessee’s appeal reads as under:
Exemption under section 10(2A)
(1) The learned Commissioner (Appeals) erred in confirming the disallowance of the exemption under section 10(2A) of the Income-tax Act in respect of an amount of Rs. 10,48,51.708 as claimed by the appellant.
(2) The learned Commissioner (Appeals) erred in holding that capital gains has to be levied on the amount of Rs. 10,48,51,708 received from the partnership firm Pranik Landmark Associates.
Computation of book profits under section H5JB
(3) In computing the book profit under section 115JB, the learned Commissioner (Appeals) erred in not specifically directing the Assessing Officer to allow deduction under clause (ii) of Explanation 1 to section 115JB in respect of the amount of Rs.10,48,51,708 claimed exempt by the appellant under section 10(2A).
4. Brief facts of the case are as under:
The assessee is a Private Limited Company engaged in investment and financing activities. During the course of assessment the assessing officer learned from the notes to the account that during the year under consideration the assessee company has credited the amount of Rs.10,48,51,708/- being share of surplus on the revaluation of assets of a firm from which it had retired earlier, as profit from partnership firm in its profit and loss account and the same was claimed as exempt u/s.10(2A) of the Income Tax Act.
5. In explanation of the aforesaid claim, the assessee explained that it was earlier a partner in partnership firm M/s. Pranik Landmark Associates (PLA). It had retired from the said firm with effect from 01.04.2009. The assessee company had received from the partnership firm the sums outstanding upon retirement with the firm as reflected by the assessee company’s account. The assessee company also received an amount of Rs. 10,48,51,708/- over and above the amount outstanding to the credit of its capital and current account in the firm as on the date of retirement as per assesses company’s book. In explanation of the source of this receipt, the assessee gave explanation that in the said firm there was a revaluation as well as the devaluation of property in the past. That assessee company had not accounted for the increase in the value of property in its capital account in the said firm as resulting from the revaluation. Hence, when the assessee received the sum of Rs.10,48,51,708/-, it claimed to be in relation to the aforesaid revaluation in the past (in 2007-08) which the assessee company had not accounted for. Hence, the assessee passed an entry in its books of account during the year on 06.11.2009. By way of this entry, the assessee company debited the said firm by Rs. 10,48,51,708/- and credited revaluation reserve by Rs.10,48,51,708/-. Now the explanation of the assessee is that since the said amount was received pursuant to revaluation from the partnership firm, the said amount has its origin in the revaluation reserve created by the said firm in earlier years but not accounted for by the assessee company. Hence the assessee’s claim in this regard was that since it had received the amount from partnership firm, the receipt was exempt u/s.10(2A) of the Act. The assessing officer has rejected this explanation of the assessee by concluding as under:
19. In the instant case, the assessee retired from the partnership firm and was paid the sum standing to the credit of its capital and current account. The excess amount paid to the assessee on account of revaluation reserve was of Rs.10,48,51,708 /-. Thus, it was a case where instead of quantifying the assessee’s share by taking accounts on the footing of notional sale, parties had agreed to pay a lump sum in consideration of the retiring partner assigning or relinquishing its share or right in the partnership and its assets in favour of the continuing partners. Thus, the retiring partner was paid something over and above the sum standing to the credit of its capital account and, therefore, this is the case where the capital gain tax liability is attracted in the hands of assessee.
20. In the case of the assessee the clauses in the retirement deed more particularly clause 1 & 2, did convey interest in immovable property and further referred to the fact that the assessee would not have any interest over the assets of the firm. Thus, it was a case of lump sum payment in consideration of the retiring partner assigning or relinquishing his share or right in the partnership and its assets in favour of the continuing partners. The manner of retirement in the case of the assessee was such that it could be regarded as assigning or relinquishing by the retiring partner of his share or right in the/partnership and its assets in favour of the continuing partners.
6. Upon the assessee’s appeal in this regard, the ld. Commissioner of Income Tax (Appeals) affirmed the action of the assessing officer in denying the claim of exemption u/s.10(2A) by holding as under:
4.3 I have considered the facts and circumstances of the case. The appellant had claimed net value of revaluation of Rs. 10,48,51,708/- as exempt income u/s. 10(2A) and also there was some other income from other firms. Total amount claimed for exemption was Rs. 10,489,57,598/-. Sec.10(2A) reads as under:
“S. 10(2A) In the case of a person being a partner of a firm which is separately assessed as such, his share in the total income of the firm;
Explanation -For the purposes of this clause, the share of a partner in the total income of a firm separately assessed as such shall, notwithstanding anything contained in any other law, be an amount which bears to the total income of the firm the same proportion as the amount of his share in the profits of the firm in accordance with the partnership deed bears to such profits;”
On careful reading of Sec. 10(2A) it is clear that the firm is exempt from tax if firm receives any share in the total income of the firm. The appellant M/s.Rahas Investment P. Ltd. had not received any income from the total income of the firm and the amount which appellant had claimed was only revaluation reserve. The revaluation reserve does not come under the purview of sec.10(2A). Hence, A.O. was fully justified in disallowing this amount from exemption u/s. 10(2A) as it is not a part of total income. Now we have to examine whether revaluation amount can be considered as income taxable under I. T. Act.
7. Thereafter, the ld. Commissioner of Income Tax (Appeals) granted relief to the assessee by holding that the amount was received by the assessee company from the partnership firm on account of its dues upon retirement of the firm. He held that the accounting entry done by the assessee in this regard did not amount to profit in the hands of the assessee. He also held that the revaluation is not taxable under Income Tax Act. In this regard, the ld. Commissioner of Income Tax (Appeals) placed reliance upon several case laws that entries in books of accounts are not determinative of the tax liability and that revaluation of property cannot give rise to profits. He concluded that just an accounting entry will not be considered as profit and loss, but what is taxable in the income tax law is important. He further held that it is clear that revaluation is in the nature of capital receipt, hence, income tax cannot be levied on that revaluation amount. Hence, it is not taxable under the I. T. Act.
8. Against the above order, the assessee and the Revenue are in cross appeal before us.
9. We have heard both the counsel and perused the records. We find that in this case the assessee is a company. Earlier it was partner in the firm Pranik Landmark Associates. It had retired from the firm with effect from 01.04.2009 by way of a retirement deed. During the year under consideration the assessee company received a sum of Rs.10,48,51,708/- over and above what was due to it from the partnership firm upon retirement as reflected by the assessee company’s accounts. The assessee during this year on 06.11.2009 has passed an entry claiming that it was due to the earstwhile partnership firm upon the firm’s revaluation of assets in the past which the assessee company had not taken credit in its capital account with the firm. The assessee company had credited this to revaluation reserve during the year. We find that the revaluation reserve is created when the asset of the company/firm are valued during the year. It is clear that there was no revaluation of any asset of the company. Hence by no stretch of imagination, assessee can make any credit entry to the revaluation reserve, during the year, and that also for other assessee’s assets.
10. As regards the claim of the assessee that the sum received was exempt u/s.10(2A), a reading of the said section makes it clear that the said section makes the profit of a firm assessed as such exempt in the hands of its partners. In the present case, the assessee company was not at all partner in the said firm. It had retired from the firm with effect from 01.04.2009. Hence, the amount received by a retired partner from its earstwhile partnership firm cannot at all be claimed to be exempt u/s.10(2A). Hence, we are of the considered opinion that the action of the assessing officer is quite correct in holding that assessee is not eligible for exemption u/s.10(2A).
11. Now we come to the claim that the sum received was exempt as capital receipt. The ld. Commissioner of Income Tax (Appeals) has held the sum to be capital receipt by holding that it was received on account of erstwhile partnership firm from which the assessee had retired. The facts of the case clearly indicate that the assessee had retired from the partnership firm and the retirement deed was duly executed. There was no mention of any remaining claim of the assessee in the assets of the firm or revaluation reserve. Hence, the assessee had relinquished its right into the properties of the partnership firm in lieu of outstanding as on that date of retirement. As it is evident, the said revaluation is claimed to have taken place in the year prior to the year under consideration in 2007-08. The assessee company had not taken credit of that revaluation reserve in its accounts of that period. On query from the bench in this regard, the learned counsel of the assessee submitted that assessee company had taken a conscious decision not to account for the revaluation reserve credit. Considered in this perspective when the assessee company had not accounted for the revaluation reserve in the past when it had accrued and consciously left it in the hands of the firm, it cannot claim that the receipt in the present year relates to the above said revaluation despite the fact that assessee had retired duly relinquishing its rights and properties in the said firm. Hence, in our considered opinion, the ld. Commissioner of Income Tax (Appeals) has clearly erred in holding that this sum has been received upon retirement from the firm and it is a capital receipt.
12. Accordingly, we uphold the order of the Assessing Officer and the ld. Commissioner of Income Tax (Appeals) denying the assessee’s claim of deduction u/s. 10(2A). We also set aside the order of the ld. Commissioner of Income Tax (Appeals) that the amount received is a capital gain. Hence, this issue is decided in favour of the Revenue. The other grounds raised are consequential. Hence, we also set aside the order of the ld. Commissioner of Income Tax (Appeals) which granted deduction of the amount in computation of book profit. As we have already held it is neither a capital receipt nor it has anything to do with revaluation of assets of the assessee company.
13. In the result, the appeal filed by the assessee stands dismissed the Revenue’s appeal is allowed.
Order pronounced in the open court on 01.06.2018