Case Law Details

Case Name : Mahul Construction Corporation Vs. Income Tax Officer (ITAT Mumbai)
Appeal Number : ITA No. 2784/Mum/2017
Date of Judgement/Order : 24/11/2017
Related Assessment Year : 2009- 10
Courts : All ITAT (5324) ITAT Mumbai (1660)

Mahul Construction Corporation Vs. ITO (ITAT Mumbai)

In this case The AO wants to tax the amount credited in capital a/c of retiring as well as continuing partners within the realm of 45(4) of the Act. So far as amount credited to capital a/c of retiring partners is concerned, notwithstanding the fact that there is no distribution by firm to retiring partners, the transferor and transferee are like two sides of the same coin. The capital gain is chargeable only on the transferor and not on the transferee. In this case, the transferor is the partners who on their retirement assign their rights in the assets of the firm and in lieu the firm pays the retiring partners the money lying in their capital a/c, meaning thereby that the firm becomes the transferee in this transaction. Hence, it is the firm and its continuing partners who have acquired the rights of the retiring partners in the assets of the firm by paying them lump sum amount on their retirement. So it cannot be said that the firm is transferring any right in capital asset to the retiring partner, rather it is the retiring partner who is transferring the rights ill capital assets in favour of continuing partners. The ITAT Mumbai in case of Sudhakar Shetty (2011) 130 lTD 197 (Mum) has held that such transaction amounted to transfer within the meaning of section 2(47) of the Act, inasmuch as the partner i.e. Sudhakar Shetty could be said to have assigned, released and relinquished his interest and share in partnership and its assets in favour of the continuing partners to assignment and accordingly confirmed the capital gains assessed in hands of the retiring partner Shri Sudhakar Shetty in respect of the amount received by him from the firm over and above his capital contribution. The ITAT held that the transaction was taxable in hands of retiring partner for assignment of his rights in favour of firm and its continuing partners. Since the same event cannot result into transfer by retiring partners as well as by firm, the ITAT by holding the transaction to be transfer from retiring partner to firm impliedly held that the transactions not to be taxable in hands of firm. The purpose of 45(4) of the Act is to bring such transactions which have an effect of transfer of capital asset without the asset being actually transferred. The purpose is to tax the actual beneficiary of such transactions. In the present case, the firm or the continuing partners are not the beneficiaries as no new tangible income or asset has arisen to them, rather the firm and continuing partners have purchased the share of retiring partner by paying cash. It is the retiring partners who have been benefitted by receiving much more than actual capital contributed by them on account of revaluation. Thus there can be no case of tax avoidance by colorable device by the firm on the facts and circumstances of the assessee firm’s case. Accordingly, we are of the view that the assessee firm is not liable to capital gains on the above transaction. This issue of assessee’s appeal is allowed.

Full Text of the ITAT Order is as follows:-

This appeal by the Assessee is arising out of the order of Commissioner of Income Tax (Appeals)-42, Mumbai, [in short CIT(A)] in appeal No. CIT(A)-42/IT-339/1 3-13 dated 28-12-2016. The Assessment was framed by the Income Tax Officer, Ward-24(1)(1), Mumbai (in short ITO) for the assessment year 2009-10 vide order dated 28-03-2013 under section 143(3) of the Income Tax Act, 1961 (hereinafter ‘the Act’).

2. There are two inter-connected issues in this appeal of assessee and these are the following:-

“(1) Whether piece of land at Mahul, Mumbai purchased by assessee from Bharat Containers Private Limited is stock-in-trade or capital asset under section 2(14) of the Act. .”

For this assessee has raised following ground No. 1: –

“The commissioner of Income Tax (Appeals)- 42, Mumbai [CIT(A)] has erred in law and in facts by holding that the piece of land at Mahul, Mumbai purchased from Bharat Containers Private Limited is a capita asset under section 2(14) of the I. T. Act, 1961.”

3. The second inter-connected issues in regard to this land at Mahul is, whether the provision of section 45(4) of the Act is applicable to the firm on crediting revaluation surplus to partners account settling their accounts on their retirement or not? For this assessee has raised following ground No. 2: –

“2. The CIT(A) has further erred in law and in facts by holding that In case where an asset is revalued prior to reconstruction of a firm and retiring partners accounts are settled in cash, the provisions of sec. 45(4) of the I. T. Act 1961 shall be invoked to tax the entire amount of revaluation in the hands of the firm. In this connection, the Ld CIT(A) further erred by holding that payment of cash/ bank balance by the firm for settlement of retiring partner’s revalued capital balances amounts to distribution of capital asset as contemplated in sec. 45(4) of the Act.”

4. Briefly stated and admitted facts, by both sides, are that the assessee firm is engaged in the business of construction and is a builder and developer constituted vide partnership deed dated 09-11-2005, having following profit and loss share ratio: –

Sr. No. Name of Partners % holding
1 Waryam Singh 34
2. Sarang Wadhawan 33
3. Sunpreet Singh 33

5. This firm vide agreement dated 23-11-2005 acquired development rights over a piece of land ad measuring 9300 sq.yd at Mahul, Kurla, Mumbai from Bharat Containers Private Limited for a total consideration of ₹ 4.67 crores. Subsequently, this partnership deed was modified on 03-0 1 -2006 and the following new partners were inducted:-

(a) Manmaya Developers Pvt. Ltd.

(b) Vision Finstock Pvt. Ltd.

(c) Nisha Capital Services Pvt. Ltd.

Further, the partnership deed was modified and vide partnership deed dated 06-07-2007 and another partner namely Housing Development and Infrastructure Limited (HDIL) was introduced and the flowing was the profit and loss sharing ratio of the partners: –

Sl No. Name of the Partner Share (%)
1 Mr. Waryam Singh 5
2 Mr. Sarang Wadhawan 5
3 Mr Sunpreet Singh 5
4 M/s Housing Development &
Infrastructure Limited
45
5. M/s Man Maya Developers Private
Limited
10
6 M/s Vision Finstock Private Limited 20
7 M/s Nisha Capital Service Pvt. Ltd. 10

After introduction of HDIL as partner, the assessee firm to ascertain the market value of this plot at Mahul, appointed a valuer M/s Vinod Gandhi and associates, Registered Valuers & Chartered Engineers, from whom valuation report was obtained and who valued the fair market value of land as on 01 -03-2008 at ₹ 67,92,60,000/-. Subsequently, vide deed of retirement & reconstitution dated 27-05-2008, three partners namely Man Maya Developers Private Limited, Vision Finstock Pvt. Ltd., Nisha Capital Services Pvt. Ltd retired from the partnership firm and took the amount credited to their accounts including surplus on account of revaluation to this asset.

6. The AO, during the course of assessment proceeding, noticed that this whole transaction is a colourable devise to defraud revenue. He, by virtue of the above arrangement, noted that there has been a transfer of capital asset as per section 45(4) of the Act because retiring partners took their share of valuation gain and HDIL gain a larger share in the firm without paying any tax. According to AO, the entire scheme is colourable device meant to transfer the ownership of Mahul land to HDIL. The AO also noticed the work done by assessee in different years and work-in-progress and was of the view that the firm has not carried out any development work till 01-04-2008 and therefore land is a capital asset and not stock-in-trade. Accordingly, the AO by applying the provisions of section 45(4) of the act, assessed the entire revaluation surplus of ₹ 67,69,60,000/-, already distributed to the retiring partners, as taxable in the hands of the assessee firm. Aggrieved, assessee filed appeal before CIT(A).

7. The CIT(A) on both the issues confirm the action of the AO by holding that the Mahul land is a capital asset and not as Stock-in-trade and also taxable under section 45(4) of the Act by observing as under: -: –

“7. In these grounds of appeal the assessee has challenged the view taken by the AO that the Mahul land is capital asset. The assessee has claimed that the sole object of the firm was to deaf in the building construction activity and it had purchased the aforesaid land comprising of various factory buildings thereon. It was claimed that the seller company was required to discharge its various obligations such as outstanding compensation to workers, statutory and non-statutory dues and the assessee was required to discharge all these obligations to enjoy a clear title to the aforesaid property and thereafter to convert the land used from Industrial usage to Residential purpose. It was claimed that pending the fulfillment of all these obligations, the said land together with the incremental expenses were classified as Work-in-progress under the head Current Assets in all the Balance Sheets from the year ending 3 1.03.2006 to 31.03.2008. (not produced though).

7.1 The submissions of the assessee are considered and are not accepted. As per the. Agreement with the seller company dated 23/11/2005 it is clearly mentioned that the seller has a clear title to the property and the same is free from all encumbrances. In part 4, it is mentioned that the seller has settled all the dues of Its workers in respect of its earlier factory with used to operate at the premises. In pan S is also mentioned (hat the seller has got the high tension electric supply connection disconnected on 26/04/2000 and there is no pending demand. Therefore, the claim of the assessee that it was required to discharge certain obligations on behalf of the seller has no merit. It is also noted that from 23/11/2005 onwards the assessee has not spent any money on any activity which may indicate that the Mahul land was its stock in trade. The intention of the assessee as expressed by the sequence of events mentioned in the earlier portion of this order and the fact that m/s HDIL had claimed the Mahul land to be available with it in its own right for rehabilitation work makes it clear that it was not stock in trade for the assessee. It is trite that mere entry in the book s of account is not determinative of the transaction. Therefore, the grounds of appeal No.3 & 4 of the assessee are dismissed.

8. Ground of appeal no. 4,5 & 6

8.1 In these grounds of appeal along with their various sub-narrations the assessee has contested the addition of Short Term Capital Gains of Rs. 63,12,80,810/- in respect of revaluation of and distribution of gains on Mahul land. The assessee has claimed that there was no transfer of asset and there was no dissolution of the Firm. It was claimed that the retiring partners had been paid their capital including the capital credited due to revaluation. It was claimed that there was no transfer of capital assets and there was no distribution of assets. It was claimed that during the Previous Year there was only a revaluation of asset and there was no actual transfer of asset. It was also argued that the benefit, if any, went to the retiring partners and not to the assessee. The assessee also argued that the conclusion of the AO that the whole relevant is a colourable device to evade payment of tax is not correct. The assessee has also relied upon its various submissions noted in detail above.

8.2 In order to decide the ground of appeal, it is necessary to note that the concerned section 45(4) of the Act came on the statute book only w.e.f. 01.04.1988 and the decisions of the various authorities/Courts prior to the same are not proper precedents. This fact has been noted in the decision of the jurisdictional High Court in the case of Commissioner of Income-tax vs. A.N. Naik Associates (2014) 265 ITR 346 (Bombay). The facts of this case and the decision therein as briefly noted below:

The response A.N. Naik Associates were parties to a family settlement dated January 30, 1997. Pursuant to the said family settlement, there was a deed of reconstitution of various partnership business of family as set out under the family settlement. For the assessment year 1997-98, the partnerships were taxed for capital gains under section 45(4) of the Income-tax Act, 1961. The Income-tax Appellate Tribunal held that there was no dissolution but only reconstitution. The Income-tax Appellate Tribunal also held that the expression otherwise had to be read ejusdem generis and would contemplate situations like a deemed dissolution and consequently held that tax on capital gains was not chargeable

The High Court noted that in the memorandum of family settlement it was agreed between the parties thereto, that business of six firms as set out therein would be distributed in terms of the family settlement as the parties desired that various matters concerning the business and assets thereto be divided separately and partitioned. The deed also recited that resorting to civil suits would damage the family since the entire business is a family business, the nucleus having been inherited. Under the terms and conditions of the settlement, it was set out that the assets which are proposed to be divided in partition under the settlement are held by the aforesaid firms and individual partners. With reference to the firms, the manner in which the firms were to be reconstituted by retirement and admission of new partners was also set out. It also provided that such of those assets or liabilities belonging to or due from any of the firms allotted to parties thereto in the schedule annexed shall be transferred or assigned irrevocably and possession made over etc.

The High Court noted the history of sub-section (4) of section 45 of the Act and observed that in order to attract capital gains the following events are required to occur as under:

I. Transfer of capital asset by way of distribution of capital assets:

(a) On account of dissolution of a firm;

(b) Or other association of persons;

(c ) Or body of individuals;

(d) Or otherwise; shall be chargeable to tax as the income of the firm, association or body of persons.

The High Court noted that Section 45(4) seems to have been introduced with a view to overcome the judgments of the Courts which took a view that the Firm on its own has no right but it is the partners who own jointly or in common the asset. It was noted that the distribution of capital assets on dissolution is subject to capital gains tax unless it does not fall within the definition of transfer under section 2(47). The High Court held that Section 45 is a charging section and the purpose and object of the Act of 1987 was to charge tax arising on distribution of capital assets of firms which otherwise was not subject to taxation. The High Court noted that if the language of sub-section (4) is construed to mean that the expression “otherwise” has to partake of the nature of dissolution or deemed dissolution, then the very object of the amendment could be defeated by the partners, by distributing the assets to some partners who may retire. The firm then would not be liable to be taxed thus defeating the very purpose of the Amendment Act. It was also held that the expression “otherwise” has not to be read ejusdem generis with the expression, “dissolution of a firm or body or association of persons’ but the expression “otherwise” has to be read with the words “transfer of capital assets” by way of distribution of capital assets. If so read, it becomes clear that even when a firm Is in existence and there is a transfer of capital assets it comes within the expression “otherwise” as the object of the Amending Act was to remove the loophole which existed whereby capital gain tax was not chargeable.

The High Court accordingly held that when the asset of the partnership is transferred to a retiring partner the partnership which is asses sable to tax ceases to have a right or its right in the property stands extinguished in favour of the partner to whom it is transferred and if so read, it will further the object and the purpose and intent of the amendment of section 45.

8.3 In the present case the assessee had purchased the Mahul land but for some reason the assessee has not produced the Conveyance Deed of this land. The assessee has separately and with a hindsight entered into another agreement with the sellers dated 23 .11.2005 [which mentions at para-6 that it is a sort of stop-gap Development Agreements. When the assessee has already purchased the Mahul land and has made all the payments and the seller is also willing to abide by the terms of that agreement, there was no necessity of concocting a Development Agreement. In any case the assessee has never done any development on the land and for this reason also and it cannot be accepted that the land was stock in trade of the assessee. Further even though this Development Agreement mentions that the assessee has already made all the payment for the purchase of the land together with the structures standing there on and pending the execution of the conveyance the development Agreement is being entered into, the assessee has not produced any Conveyance Deed for inspection! verification at any stage of proceedings.

8.4 Further vide a Deed ostensibly dated 03!01 12006 three new partners were introduced to bring in the capital requirements and vide another Deed of Admission & Partnership dated 06!07!2007 Ms FIDIL was also made a partner. However as noted above, FIDIL got a lion share in the Firm without bringing capital. Since the assessee’s tax returns’ status is not clear, it can be seen from the Opening Capital Balance as at 01/04/2008 that the capital in the Firm was contributed by the following only:

8.5 In the next round of Retirement & Reconstitution of the Firm dated 27/05/2008 the three corporate partners besides IIDIL exited from the partnership and ILDIL ‘s share in the Firm rose to 85%. It is also relevant to note that HDIL’s had been claiming before various authorities ownership control over Mahul land much in advance as mentioned in the order of assessment. Thus in a roundabout manner HDIL gained primacy in the Firm at the expense of the other partners. However, the Deed of Retirement & Reconstitution dated 27/05 12008 not only seeks to note the terms of the new partnership but it also seeks to lay down the terms of retirement of the three corporate partners in extcnso. This is slightly unusual.

8.6 The deed dated 27/05/2008 makes it very clear that the retiring partners have retired w.e.f. closing hours of 27/05 12008 and not prior to it. In its para-2 & 4 it is mentioned that the continuing partners shalt he entitled to the share, right, title and interest of the Retiring Partners including in the Mahul land. In para-3 it is mentioned that for the purposes of settling the accounts of the assets of the Firm have been revalued and the Balance Sheet and Profit & Loss Account as at 0 1/04/2008 have been prepared. A further Balance Sheet and Profit & Loss Account as at 27/05/2008 was also prepared. is mentioned in the para-3 of the Deed but a copy of the same has not been made available by the assessee. It can however be deduced that the following amounts were credited to the Capital Accounts of the Partners as on 27/05/2008 (source: Schedule A to Balance Sheet as at 31.03.2009)

Name of the
Partner
Opening Capital
balance
Revaluation amount credited (₹) Amounts paid as on 27.05.2008 (₹)
Mr. Waryam
Singh
10,000 3,15,62,500  
Mr Sarang
Wadhwan
50,000 3,15,62,500  
M/s Sunpreet
Singh
10,000 3.15,62,500  
M/s HDIL 0 28,40,62,500  
M/s Man Maya Developers Pvt. Ltd. 5,000 6,31,25,000 6,31,30,000
M/s vision
Finstock Pvt. Ltd.
1,50,10,000 12,62,50,000 14,12,60,000
M/s Nisha Capital Sevices Pvt. Ltd. 75,05,000 6,31,25,000 7,06,30,000
Total   6,31,25,000  

8.7 It can be easily seen from the table above that as on 27/0512008 all the partners received their share of the revaluation amount. Further there is an admission that MIs Man Maya Developers Private Limited, MIs Vision Finstoek Private Limited and M/s Nisha Capital Services Private Limited withdrew the revaluation amount along with their opening capital balances. Further lice remaining partners of the erstwhile Firm also got their share of the revaluation amount credited to their capital accounts. This is nothing but a redistribution of the assets. This shall be referred to in subsequent pans also.

8.8 It is also necessary to reject one repeated argument or the assessee that the remaining four partners of the reconstituted Firm had reversed the revaluation amounts credited to their respective capital accounts. The contention of the assessee is factually incorrect in the sense that the amounts were credited by the revaluation difference for the Balance Sheet and Profit & Loss Account as at 2 7/05/2008 reflecting the Final Accounts of the Firm of seven partners. The amounts are reversed only after 2 7-05-2008 for the purpose of the Balance Sheet and Profit & Loss Account as at 3 1-03-2009 reflecting the final Accounts of the Firm of four partners. This reversal is a subsequent event to the distribution of the gains of revaluation.

8.9 In a nutshell the Mahul land which was purchased for a total consideration of Its. 4,67,00,000/- as per the so-called ‘development agreement’ dated 23/11/2005 and whose opening investment value as on 0 1/04/2008 was just Its. 4.78,79,190/- was revalued at ₹ 67,92,60,000 as on 0 1-04-2008. After apparently considering the cost of land at a round figure or something, the partners have appropriated a sum of Rs. 63,12,50,000/- to themselves as at 27/05/2008. In other words the Firm has placed the revaluation gain at the disposal of the partners as at 27/05/2008. This money was only the difference in the hook value and the market value of Mahul land. This, money has not been brought in by any of the partners as their capita! contribution. It as the embedded value in the asset which has increased over the period of the existence of the Firm. All the partners have benefited by taking their respective shares in this unearned profits (the subsequent reversal by the remaining partners in a new avatar notwithstanding). The claim of the assessee that no distribution took place is naïve because the revaluation gain was placed at the disposal of the partners in their capital accounts. The retiring Partners gave up their specific interests in the asset and even received the revaluation gain.

8.16 In the case of the present assessee the partners have virtually extinguished their pre- existing rights and interests in the Mahul land and have received a price which is equated with reference to the revalued/market value of the same. This benefited the partners in a way that the capital balances increased without the increase coming from either from a fresh infusion of capital or from any credit of share of actual profit of the Firm. The retiring partners withdrew the money also.

8.17 Another way of looking at the things is by holding that the Firm has permitted the partners to take the cash standing to their credit. The cash was not the property of the partners. The cash / bank balance of the firm was also an asset of the firm. These items are displayed on the Asset Side of the Balance Sheet also for this reason. Therefore, even a right in the asset or in cash or in bank balance etc all are capital asset u/s 2(14). When the Firm distributed the same by way of payment to the respective partners, it amounts to capital gain arising in the hands of the Firm u/s 45(4) r.w.s 2(14). This distribution of revaluation gain is squarely covered within the ambit of definition of transfer u/s 2(47) also. Therefore, on a conjoint reading of all these sections, it is held that crediting the partner’s capital account by a sum of money/cash belonging to the Firm clearly tantamount to a transfer of capital assets by the assessee to the partners. It is, therefore, a case there instead of quantifying the partner’s share on dissolution of the Finn by taking accounts on the footing of a notional / actual sale, the assessee agreed to pay proportionate amounts in consideration to the continuing /withdrawing partner on their mutual assigning/relinquishing of interest or right in the specific assets of the partnership. Therefore, on the plain reading of section 45(4), it is held that the assessee Finn has distributed a capital asset’ to the partners. The contention of the assessee that section 45(4) is applicable only to the dissolution is not the correct view in view of the decision of the jurisdictional High Court in the case of A.N. Naik Associates (supra).

8.18 In view of the above, the action of the AO in holding that the distribution of the revaluation amount to the partners’ capital accounts during the continuation of the firm partakes the character of capital gain under section 45(4) read with section. 2(14) is confirmed. There is no merit in the submission of the assessee that the same is outside the ambit of the provisions of section 45(4) of the Act. Therefore, on principle the grounds of appeal no. 4, 5 & 6. their related sub- grounds and all arguments connected with the revaluation gain in Principle are dismissed. Since the issue is decided against the assessee on the main ground itself there is no requirement to further adjudicate the same from the point of view of the colourable device route.

8.19 However it is seen that the actual distribution of capital asset was to tune of Its. 63,12,50,000/- and not Rs. 63,12,80,810/- as taken by the AO. The AO is directed to restrict the addition to Rs. 63,12,50,000/- and the assessee gets a relief of Rs. 30,810/-. As a result, the grounds of appeal no. 4, 5 & 6 are partly allow.

Aggrieved, now assessee is in appeal before Tribunal on both inter-connected issues.

8. Before us Ld. Counsel Sh K Shivram narrated arguments that Manamaya Developers Private Limited, Vision Finstock Private Limited and Nisha Capital Services Private Limited retired voluntarily from the firm. On retirement they were paid their capital including capital credited due to revaluation. There was no dissolution of the firm and revaluation of assets cannot result in profits and gains in the hands of the firm. The plot of land is work in progress and not capital asset. Accordingly, he contested that there was no transfer u/s. 2(47) of the Act as the retiring partners transferred their rights to the continuing partners and benefit due to retirement went to retiring partners. The retiring partners retired without distribution of assets of the firm. The reconstituted firm had three old partners and one new partner and it is not a case where the firm is taken over by totally new partners. On making payment to the retiring partners, there is no extinguishment of firm’s right in the assets. In view of the above arguments he drew our attention to the provisions of Section 45(4) of the Act which read as under:-

“The profits or rains arising from the transfer of a capital asset by way of distribution of capital assets on the dissolution of a firm or other association of persons or body of individuals (not being a company or a co-operative society) or otherwise, shall be chargeable to tax as the income of the fin;,, association or body, of the previous year in – which the said transfer lakes place and, for the purposes of section 48, the fair market valise of the asset on the date of such transfer shall be deemed to be the full value of the consideration received or accruing as a result of the transfer.”

According to Ld Counsel the enforce ability of Sec. 45(4) of the Act hinges on the following pre- requisite conditions –

I. There must be a “transfer” by the partnership firm via “distribution”;

II. The said transfer must be of “capital asset” and not of any other kind of asset; and

III. The transfer is at the time of “dissolution” or certain analogous events having similar implication.

In case, the aforesaid conditions are satisfied, the tax impact by invocation of Sec. 45(4) would be –

i. Profit or gains from such deemed transfer would be chargeable as the income of the firm;

ii. Income will be charged to capital gains tax in the previous year in which the said transfer takes place; and

iii. Irrespective of actual sale consideration, the “fair market value” of the asset on the date of such transfer will be taken as full value of consideration received for the purpose of computing capital gains.

9. In view of the above, the Ld Counsel stated that the revaluation of Mahul Land of the assessee as on 01-04-2008 and the credit of revalued amount to the capital account of 7 partners in their respective share ratio does not entail any transfer as defined u/s 2(47) of the Act. He argued that with the introduction of new partner HDIL on 06-07-2007 to firm, owning immovable assets and consequent reduction in the share ratio of present 6 partners does not entail any relinquishment of their rights in the partnership property. On introduction of new partner HDIL & retirement of 3 old partners, there is realignment of share ratio inter- se between the partners only to the extent of sharing the profits or losses, if any of the assessee firm’s business. Thus, there is no transfer by the firm as contemplated by Section 45(4) of the Act. Since, the assessee is in the business of construction activities, plot of land ad measuring area 7492.90 sq mtrs being Mahul land, is always being treated and reflected in the books of account of the assessee firm as a revenue asset being Work-In-Progress shown under the head Current Asset and shown as such in the annual accounts of the assessee firm from AYs 2006-07, 2007-08, 2008- 09 and 2009-10. Thus, the land is the stock in trade of the assessee firm and not a capital asset as posted by Sec. 45(4) of the Act. Further, only 3 out of original 6 partners retired on 27-05-2008 & the assessee firm continued with 3 original partners and 1 new partner admitted on 06-07- 2007. Thus, there is no dissolution of firm. In the premises, none of the ingredients and criteria necessary to hinge the case of the assessee firm on Section 45(4) of the Act is present and consequently, the whole exercise of bringing the said section into play is without any basis.

10. On the other hand, Ld. CIT-DR heavily relied on the finding of the AO as well that of the CIT(A).

11. We have heard rival contentions and gone through facts and circumstances of the case. We find that the above facts narrated are undisputed. In the instant case, the assessee firm or the continuing partners are not the beneficiaries as no new tangible income or asset has come to them rather the assessee firm and continuing partners have purchased the share of retiring partner by paying cash. According to us, it is the retiring partners who have been benefited by receiving much more than actual capital contributed by them on account of revaluation. It is the Retiring Partners who have transferred their rights in the property to the Continuing Partners. According to us, the mode of retirement reveals that it clearly envisages an extinguishment and assignment of the retiring partners’ rights over the partnership and its properties in favour of the continuing partners/firm and thereby the retiring partners are exigible to capital gains tax. Furthermore, we find from the terms and conditions of Retirement Deed dated 27.05.2008, whether there was an intent or otherwise for liquidation and distribution of assets of the firm. The relevant clauses are as under –

(2) …, and Retiring Partners doth hereby that the Continuing Partners shall forever, be entitled to and share, right, title and interest of the Retiring Partners in the said business of erstwhile partnership firm together with the benefits of all contracts, licenses, agreements, rights, sanctions, Permission, premises, stock-in-trade, monies, credits, and effects belonging thereto.

(3) The accounts of the Retiring Partners have been amicably settled. For settling the accounts of Retiring Partners, the assets of the partnership have been revalued at a value as mutually agreed between the Retiring Partners and the Continuing Partners. After giving effect of the revaluation of the assets, the Balance sheet and Profit & Loss account as at 1st April 2008 have been prepared

(4) The Retiring Partner doth, retire from the said partnership and shall cease to have any interest in any of the business and assets of the said Firm and the Continuing Partners shall forever, in the manner and in proportion to hereinafter provided to be entitled to the share, right, title and interest of tire Retiring Partner in the said business of the erstwhile partnership firm, together with the benefit of all premises and stock-in-trade, moneys, credits and effects belonging thereto including the property situate, lying and being in the Village Mahul, formerly in the district of Thana, but now included in Greater Mumbai and in the Registration Sub-District of Bandra Mumbai Suburban being plot No. 2 of Survey No.15, Hissa No.1, corresponding to CTS No.611 of village Mahul containing by ad measurements 9300 Sq.yds. i.e. 7775.73 sq. mtr or thereabouts acquired under Agreement dated 23- 11-2005, and more particularly described in the SCHEDULE here under written, and the Continuing Partners will be solely entitled with to the said business together with the assets, liabilities together with the benefit of all premises and stock-in-trade, moneys, credits and effects including the said property belonging to the partnership firm Mahul Construction Corporation.

(5) In consideration of the premises herein stated, the Retiring Partner doth hereby release the Continuing Partners and the Continuing partners do and each of them doth hereby release the Retiring Partner of and from all covenants, agreements, matters or things, entered into between them prior hereto and all actions, claims, and demands whatsoever in connection with or arising out of said Deed of Admission-cum-Partnership of Partners dated 6th,July, 2007 under which the Retiring Partner and the Continuing partners were carrying on business until the retirement of the Retiring Partner form the said partnership firm.

(6) in pursuance of the said Retirement in this behalf the Retiring Partners doth hereby retire from the said partnership firm of M/s. Mahul Construction Corporation w.e.f. the closing of business hours oil May, 2008 and the Retiring Partner do and each of them doth hereby covenant that the said Continuing Partners will remain partners in the said business and continue the said partnership business in the partnership between the Continuing partners or any other Person/s upon the terms and conditions agreed between them from time to time with effect front the closing of the business hours 27thMay, 2008, and they the Retiring Partners have seized to have any right, title and interest of any nature whatsoever in the said partnership business and the assets thereof.

(8) The Retiring partners doth hereby confirm that oil from the close of business hours on 27th May, 2008, they shall have no share, right, title and/or interest of any nature whatsoever in the said partnership firm M/s. Mahul Construction Corporation and/or in the assets, whether tangible or intangible and whether movable or immovable, belonging to partnership firm and/or against the Continuing Partners and same shall belong to the Continuing Partners subject to payment of all outgoings in respect of the said several premises.

(9) The Retiring Partners do and each of them doth and also the Continuing Partners do and each of them doth hereby declare that none of them have at any time borrowed money or incurred any debt or guaranteed any liabilities or on account of or on behalf of the partnership which is not disclosed in writing to the other partners and if any time hereafter any liability, not so disclosed or come to light or he revalued, the partner/s who may have incurred such liability shall on his/her own pay and discharge the same and they have to keep indemnified the other or others of them against all actions, suits, proceedings and costs, charges and expenses in respect of any liabilities, not so disclosed to the other.”

12. From the above clauses, of retirement deed, it is clear that the retiring partners merely retired from the partnership firm without any distribution of assets of the firm among st the original and new incoming partner. Since the reconstituted firm consists of 3 old partners and 1 new partner, it is not a case where firm with erstwhile partners was taken over by new partners only. That means the assessee firm has acquired its right in the assets of the firm by paying lump sum consideration which is nothing but the cost of improvement within the meaning of section 48(ii) of the Act. It is not a case of distributing capital assets amongst the partners at the time of retirement and therefore provisions of section 45(4) are not applicable. For the sole and limited purpose of settlement of accounts of the Retiring Partners, the surplus on revaluation was notionally credited to the Partner’s Capital A/c. of all the partners. After such mutual adjustment of rights amongst all the partners, the retiring partners were only paid the sum standing to the credit of their Capital A/c on 27.05.2008. It cannot be inferred that by crediting the surplus on revaluation to Capital A/c of 4 Continuing Partners and allowing the 3 Retiring Partners to take equivalent cash subsequently amounted to distribution of rights by the Continuing Partners to the Retiring Partners. A Partnership firm constituted of its partners is governed by the provisions of Partnership Act, 1932. The partnership firm is not a legal entity and property of the partnership vests in its partners in a much as all the partners have an interest in the partnership property. The partners of a partnership firm are entitled to a share in the profits of the business to the extent of their share ratio. During the subsistence of partnership, no partner has any assigned right or shares in the partnership property. During the continuance of the partnership the partners have only a right in the profits of the partnership and no partner can deal with any portion of the partnership property as his own during the continuance of the partnership firm. In a partnership among st partners, each and every partner of the firm has an interest in each and every property of the partnership firm. Till the accounts are settled and the residue/ surplus is not distributed among st the partners, no partner can claim any share in such assets of the partnership firm. Each partner is entitled to its share of profits in the partnership firm but the entitlement of right in the assets/ property of the partnership firm arises only on dissolution. While the firm is subsisting, there cannot be any transfer of rights in the assets of the firm by any or all partners among st themselves because during subsistence of partnership, the firm and partners do not exist separately. There can be no transfer to oneself. This could only happen when there is dissolution of the firm. Therefore, according to us, it is not a case of distributing capital assets among st the partners at the time of retirement and therefore provisions of section 45(4) are not applicable.

13. For this proposition, the learned counsel for the assessee relied on the decision of Hon’ble Karnataka High Court full Bench in the case of CIT vs. Dynamic Enterprises (2013) 359 ITR 83 (Kar), wherein Hon’ble High Court held that section 45(4) of the Act is not applicable as there is no transfer of asset by the firm to the partners and the facts were that the P. Firm had purchased land and 5 persons became new partners and after a year three old partners retired after revaluation by taking cash towards value of their share. Even Hon’ble High court has considered the argument of Colourable device and held the same against Revenue. For this Hon’ble High Court observed as under: –

25. In the instant case, the partnership firm had purchased the property under a registered sale deed in the name of the firm. The property did not stand in the name of any individual partners. No individual partners brought that capital asset as capital contribution into the firm. Five partners brought in cash by way of capital when the firm was reconstituted on 28.04.1993. Nearly a year thereafter on 01.04.1994 by way of retirement, the erstwhile three partners took their share in the partnership asset and went out of the partnership. After the retirement of three partners, the partnership continued to exist and the business was carried on by the remaining five partners. There was no dissolution of the firm or at any rate there was no distribution of capital asset on 01.04.1994 when three partners retired from the partnership firm. What was given to the retiring partners is cash representing the value of their share in the partnership. No capital asset was transferred on the date of retirement under the deed of retirement deed dated 01.04.1994. In the absence of distribution of capital asset and in the absence of transfer of capital asset in favour of the retiring partners, no profit or gain arose in the hands of the partnership firm. Therefore, the question of the firm being assessed under Section 45 (4) and charging them tax for the profits or gains which did not accrue to them would not arise.

26. It was contended on behalf of the revenue that five incoming partners brought money into the firm. Three erstwhile partners who retired from the partners on 01.04.1994 took money and left the property to the incoming partners. It is a device adopted by these partners in order to evade payment of profits or gains. As rightly held by this Court in Gurunaths Talkies’ case (supra) it is taxable. This argument proceeds on the premise that the immovable property belongs to the erstwhile partners and that after the retirement the erstwhile partners have taken cash and given the property to the incoming partners. The property belongs to the partnership firm. It did not belong to the partners. The partners only had a share in the partnership asset. When the five partners came into the partnership and brought cash by way of capital contribution to the extent of their contribution, they were entitled to the proportionate share in the interest in the partnership firm. When the retiring partners took cash and retired, they were not relinquishing their interest in the immovable property. What they relinquished is their share in the partnership. Therefore, there is no transfer of a capital asset, as such, no capital gains or profit arises in the facts of this case. In that view of the matter, Section 45(4) has no application to the facts of this case.

27. In Gurunath Talkies’ case (supra), the Division Bench of this Court followed the judgment of the Bombay High Court in the case CIT v. A.N. Naik Associates [2004] 265 ITR 346/136 Taxman 107 (Bom.). In A.N. Naik Associates’ case (supra), the asset of the partnership firm was transferred to a retiring partner by way of a deed of retirement. A memorandum of family settlement was entered into and the business of those firms as set out therein was distributed in terms of the family settlement as the party desired that various matters consisting the business and assets thereto be divided separately and partitioned. The term has also provided that such of those assets or liabilities belonging to or due from any of the firms allotted, the parties thereto in the schedule annexed shall be transferred or assigned irrevocably and possession made over and all such documents, deeds, declarations, affidavits, petitions, letters and alike as are reasonably required by the party entitled to such transfer would be effected. It is based on this document and subsequent deeds of retirement of partnership that the order of assessment was made holding that the assessees are liable for tax on capital gains. .

28. In that context, the Bombay High Court held that when the assets of the partnership is transferred to a retiring partner, the partnership which is asses sable to tax ceases to have a right or its right in the property stands extinguished in favour of the partner to whom it is transferred. If so read, it will further the object and the purpose and intent of the amendment of Section 45. Once that be the case, the transfer of assets of the partnership to the retiring partners would amount to the transfer of capital assets in the nature of capital gains and business profits which is chargeable to tax under Section 45(4) of the Income Tax Act. In that context, it was held the word “otherwise” takes into its sweep not only cases of dissolution but also cases of subsisting partners of a partnership, transferring assets in favour of a retiring partner. It is in this context the Bombay High Court held that Section 45(4) was attracted. Therefore, to attract Section 45(4) there should be a transfer of a capital asset from the firm to the retiring partners, by which the firms ceases to have any right in the property which is so transferred. In other words, its right to the property should stand extinguished and the retiring partners acquires absolute title to the property.

In the instant case, the partnership firm did not transfer any right in the capital asset in favour of the retiring partner. The partnership firm did not cease to hold the property and consequently, its right to the property is not extinguished. Conversely, the retiring partner did not acquire any right in the property as no property was transferred in their favour. The Division Bench in Gurunath Talkies’ case (supra) did not appreciate this distinguishing factor and by wrong application of the law laid down by the Bombay High Court held the assessee in that case is also liable to pay capital gains tax under Section 45(4). Therefore, the said judgment does not lay down the correct law.”

14. The learned Counsel for the assessee also distinguished on decision of the Hon’ble Bombay High Court –Panaji Bench in the case of CIT vs. AN Naik Associates and Anothers (2004) 265 ITR 346 (Bom), by stating that in this case, there was transfer by way of distribution of capital asset and not with the dissolution of firm. The learned Counsel for this proposition relied on co-ordinate Bench decision of ITAT in the case of ITO vs. Fine Developers in ITA No.4630/Mum/201 1 for AY 2008-09 vide order dated 12-10-2012, wherein it is held as under: –

“5.3.2. Hon’ble Bombay High Court in the case of A.N.Naik (265 ITR 346) has explained the expression ‘otherwise’ used in Section 45 of the Act. It was held by Hon’ble Court that the expression otherwise has to be read with word ‘transfer by way of distribution of capital asset’ and not with the word ‘dissolution’. Thus, from the above judgment also, it is clear that transfer of a capital asset is the pre- condition for invoking the provisions of Sec.45(4) of the Act. Secondly, such a transfer should take place at the time of dissolution or other similar events such as retirement of the partners. Until such time, the shared rights of the partners become the exclusive right of any retiring partner and no occasion arises for to tax the same under the head ‘capital gains’ as envisaged by sec.45(4) of the Act. As stated earlier, in the present case, there was no extinguishment of rights of any of the assets owned by the firm. In other words, continuing partners had not transferred any rights of the plot of the land in question in favour of the retiring partners and hence there was no transfer capital asset within the meaning of section 2(47) by the firm to the retiring/continuing partners. We would like to refer to the decision of the Hon’ble jurisdictional High Court, delivered in the case of A.N. Naik (supra):

“Section 45 of the Income-tax Act, 1961,is a charging section….. The Act of 1987 also brought on the statute book a new sub-section (4) in section 45 of the Act. The effect is that the profits or gains arising from the transfer of a capital asset by a firm to a partner on dissolution or otherwise would be chargeable as the firm’s income in the previous year in which the transfer took place. From a reading of sub-section (4) to attract capital gains tax what would be required would be as under : (1) transfer of capital asset by way of distribution of capital assets : (a) on account of dissolution of a firm ; (b) or other association of persons ; (c) or body of individuals ; (d) or other-wise ; the gains shall be chargeable to tax as the income of the firm, association or body of persons. The expression “otherwise” has to be read with the words “transfer of capital assets…. It is now clear that when the asset is transferred to a partner, that falls within the expression “otherwise” and the rights of the other partners in that asset of the partnership are extinguished.”

5.3.3. From the above, it can safely be held that allocation of assets of the firm to the retiring partners is the basis for invocation of provisions of Section 45(4).In the case under consideration, neither there was any dissolution nor other event took place that had an effect of allocation of exclusive interest in any capital asset to the retiring partners. In these circumstances, FAA was justified in holding that conditions of Section 45(4) were not fulfilled. In our opinion the firm or the continuing partners were not liable to be taxed under the head ‘capital gains as held by the FAA. Retiring partners had relinquished their rights in the assets of the firm and in lieu of that firm had paid the retiring partners money lying in their capital account. Obviously, assessee- firm had not transferred any right in capital asset to the retiring partners rather it is the retiring partners who have transferred the rights in capital assets in favour of the continuing partners. So, even if capital gain has to be taxed it has to be in the hands of the retiring partners not in the case of the assessee- firm.”

15. Further, the learned Counsel for the assessee also relied on Hon’ble Bombay High Court in the case of CIT vs. Ravishankar R. singh in Income Tax Appeal No. 207 of 2015 dated 31-07-2017, wherein Hon’ble High Court exactly on identical facts stated that mere revaluation of the satellite rights would not give rise to capital gains. Hon’ble High Court held as under: –

4 We have considered the submissions. It has been observed by the Tribunal that there is neither distribution of assets nor any realization of assets. There is no dissolution of the firm nor distribution of assets of the firm among st the partners. No transfer of assets has taken place. It is further observed that the partnership firm was converted into a private limited company and the satellite rights thereafter vests with the company. The revaluation of the assets by the partnership firm would not attract any capital gain. There was no transfer as defined under Section 47 of the Act. The Tribunal relied on the judgment of this court in the case of Commissioner of Income Tax vs. Texspin Engineering and Manufacturing Works reported in Volume 263 ITR 345 which has observed thus :

“In this case, the erstwhile firm has been treated as a Limited Company by virtue of Section 575 of the Companies Act. It is not in dispute that in this case, the erstwhile firm became a Limited Company under Part IX of the Companies Act. Now, Section 45(4) clearly stipulates that there should be transfer by way of distribution of capital assets. Under Part IX of the Companies Act, when a Partnership Firm is treated as a Limited Company, the properties of the erstwhile firm vests in the Limited Company. The question is whether such vesting stands covered by the expression “transfer by way of distribution” in Section 45(4) of the Act. There is a difference between vesting of the property, in this case, in the Limited Company and distribution of the property. On vesting in the Limited Company under Part IX of the Companies Act, the properties vest in the company as they exist. On the other hand, distribution on dissolution presupposes division, realization, encashment of assets and appropriation of the realized amount as per the priority like payment of taxes to the Government, BMC etc., payment to unsecured creditors etc. This difference is very important. This difference is amply brought out conceptually in the judgment of the Supreme Court in the case of Malabar Fisheries Co. v. CIT[1979] 120 ITR 49 2 Taxman 409. In the present case, therefore, we are of the view that Section 45(4) is not attracted as the very first condition of transfer by way of distribution of capital assets is not satisfied. In the circumstances, the latter part of Section 45(4), which refers to computation of capital gains under Section 48 by treating fair market value of the asset on the date of transfer, does not arise.”

16. From the above precedence and the facts of the case, we are of the view that during the continuation of the partnership, the partners have separate rights over the assets of the firm in addition to interest in share of profits because of the fact that the value of the interest of each partner qua an asset cannot be isolated or carved out front value of partner’s interest in the totality of the partnership assets. When an asset of the firm is allotted to a partner on dissolution or retirement of the firm, the shared interest of all the partners in the said asset, is replaced by the exclusive interest of the partner for a consideration. Thus, there is an extinguishment of the “common interest” of all the partners of the firm in that particular asset and a resultant creation of “absolute ownership” of partner to whom it is allotted. Such a transaction would qualify as a “transfer” of capital asset within the meaning of Sec. 2(47) of the Act. In fact, after revaluation of asset, there is no change of ownership as no interest of partners in the alleged capital asset is transferred to the Retiring Partners on the date of retirement, but remained in the books of the firm as oil which was subsequently transferred to a third party being SRA (Slum Rehabilitation Authority) vide Deed of Conveyance dated 27.06.2010. On the contrary, it is not the appellant firm which has transferred its rights, but the Retiring Partners, who vide extinguishment of their shared rights in favor of the Continuing Partners, are liable to capital gains tax.

17. Now let us take a hypothetical example that in a case where surplus due to revaluation is credited to partner’s capital a/c. but none of the partners retire during that year, then it cannot be said that there is distribution of capital assets u/s 45(4) of the Act by the firm because there is no transfer by distribution on a/c of notional or intangible profit on mere revaluation to Continuing Partners. In the same situation, where no partner retires but some partners withdraws the sum lying to credit in his capital account, then also it cannot be said that there is any distribution of any capital asset to partners because it is a case of mere withdrawal from capital a/c, thereby increasing the liability of partner to firm & other partners. Finally, in the same situation, if one of the partners retires and also withdraws the sum lying to credit in his capital a/ c, then also there is no distribution of capital asset by firm to partner because it is not the retirement alone which triggers the provisions of Sec. 45(4) of the Act, rather it is the transfer by way of distribution of capital asset by the firm coupled with retirement or dissolution which triggers the provision of Sec. 45(4) of the Act. Hence if there is no transfer by way of distribution of asset as already explained above then the mere fact that the retiring partners have withdrawn the sum lying to credit in their a/c. will not bring the case within the sweep of Sec. 45(4) of the Act. Further, one of the conditions for application of 45(4) of the Act is that there should be distribution of capital asset either on ‘dissolution’ of the firm or ‘otherwise’. The expression ‘otherwise’ used in section 45(4) of the Act has been explained on the principles of ‘esjudem generis’ in the case of A N Naik (supra), wherein Hon’ble court has observed that the expression otherwise has to be read with the words ‘transfer by way of distribution of capital assets and not with the words ‘dissolution’. The High court, in the case before A N Naik (supra) in para 23 has further observed as under:

“23. We may now consider the judgment in B. L Patil & Sons vs. CGT (224 1 TR 431) (Kar). We will advert to some facts. In that case, the issue before the Division Bench of the Karnataka High Court was, charging of gift-tax. fit case, there was a firm wit): five partners which owned several assets in the form of machinery, certain debits were made to the respective accounts in July, 1977, stated to be the value of certain machinery distributed by the firm to tire partners. Some machinery was given to the partners individually and one machine was given to all the five partners to beheld by them jointly as co-owners. As a result, the firm ceased to be the owner of the said machinery and the five partners became the owners of the machinery so distributed either individually or as co-owners. The five partners shortly thereafter formed another partnership and contributed the machinery which was distributed to them by the assessee firm to the new firm by doing valuation. The new firm thereafter sold the machinery for a price. The GTO treated the difference at the price at which tire machinery was distributed by the assessee- firm to its partners as deemed gift and subjected the same to gift-lax. The issue was whether distribution of machinery was a transfer in the nature of sale, for a consideration. The Division Bench qi the Karnataka High Court considered the expression of “transfer under s. 2(xiv) of the CT Act, which defines “transfer of property” as any disposition, conveyance, assignment, settlement, delivery or other alienation of property. The Division Bench noted that the Act was self-contained and the definition of “property” is to rope in artificial devices which may include mere agreements or arrangements, intended to confer gifts, which may not however, fall under the normal meaning of “transfer” as gifts and the definition of “gift” in s. 2(xii) to include many transactions which could not ordinarily be described as transfers of property and has a wider import than the meaning given to “gift” in S. 122 of the Transfer of Property Act. ‘lire Court after considering various judgments, held that the decisions which hold that there is no transfer of property when there is a distribution of assets oil or when air is allotted to a partner oil retirement front the firm, will be inapplicable where air is brought in by the partner into tire partnership. The court then observed that it follows there front that they will he inapplicable, even in a converse situation where a firm distributes or gives its assets to its partner by debiting the value thereof to tire respective partner’s account, without there being either dissolution or retirement, The Court noted that while dealing with the value of interest of each partner qua an asset cannot he isolated or carved out from the value of tire partner’s interest till the totality of tire partnership assets, once it is allotted, it becomes tire individual property of the partner, The Court then proceeded to hold that, tints, the shared interest becomes the exclusive interest of a partner. When an asset of the firm is allotted to a partner during the subsistence/ continuation of the partnership firm (as contrasted from an allotment on dissolution of the firm or retirement of the partner), the shared interest of all the partners in the said asset, is replaced by the exclusive interest of the allottee, for consideration. To that extent, there is an extinguishinent of the interests of the other partners of the firm, in the partnership asset in question and enlargement of the limited interest of the allottee into a full exclusive right in the asset. the asset is a partnership asset, a partner cannot claim or exercise any specific share or right over such asset to the extent of his share in the business of the partnership (as a co-owner can do in respect of a co-ownership property), as his right during the subsistence of the partnership is only to get his share of profits. But, on allotment of the asset by the fir.,: to the partner, such partner becomes entitled to exercise over the asset, all rights of an absolute owner. 17w Court then proceeded to observe what was a mere interest on allotment by the firm, enlarges into an absolute right, title and interest. The extinguishment of the common interest of the partners of the firm and creation of absolute ownership of the partner to whom it is allotted. Such a transaction is therefore a transfer of property as defined in the GT Act. We may note that the partnership was subsisting and an asset of the partnership was made the absolute ownership of one of the subsisting partners.”

18. We find that this judgment came up for consideration before the apex Court in B. T. Patil & Sons vs. CGT [2001] 247 ITR 588 (SC), upholding the judgment of the Karnataka High Court. The apex court observed as under:

“ In our view, when there is dissolution of a partnership or a partner retires and obtains in lieu of his interest in the “firm, an asset of the firm, no transfer is involved… But the position is different when, during I/ic subsistence of a partnership, an asset of the partnership becomes of only one of the partners thereof there is, in such case, a transfer of that asset by the partnership to the individual partners.”

19. Thus it is clear that even the jurisdictional high court in case of A N Naik relying upon the decision of apex court in the case of B. T. Patil & Sons (supra) has itself treated the allocation of assets of the firm to the retiring partner as the clinching factor for invocation of section 45(4) of the Act, inter alia means that transfer or allocation of exclusive interest of retiring partner in a capital asset is a must for invoking provisions of Sec. 45(4) of the Act. In the case of A. N. Naik (supra) the court held that a provision of Sec. 45(4) of the Act was applicable because in that case the said outgoing partner was also given the assets of the firm on his retirement. It was in this context it was held by the Hon’ble Bombay High Court that even though there was no dissolution but there was distribution of assets which would fall within the sweep of 45(4) of the Act. In case of the assessee firm also neither there is any dissolution nor is there any other event taking place, which has an effect of allocation of exclusive interest in any capital asset to the retiring partner and hence the conditions of 45(4) of the Act are not fulfilled as per the ratio of apex court in B T Patil & Son (supra) and Bombay High Court in A N Naik (supra).

20. The AO wants to tax the amount credited in capital a/c of retiring as well as continuing partners within the realm of 45(4) of the Act. So far as amount credited to capital a/c of retiring partners is concerned, notwithstanding the fact that there is no distribution by firm to retiring partners, the transferor and transferee are like two sides of the same coin. The capital gain is chargeable only on the transferor and not on the transferee. In this case, the transferor is the partners who on their retirement assign their rights in the assets of the firm and in lieu the firm pays the retiring partners the money lying in their capital a/c, meaning thereby that the firm becomes the transferee in this transaction. Hence, it is the firm and its continuing partners who have acquired the rights of the retiring partners in the assets of the firm by paying them lump sum amount on their retirement. So it cannot be said that the firm is transferring any right in capital asset to the retiring partner, rather it is the retiring partner who is transferring the rights ill capital assets in favour of continuing partners. The ITAT Mumbai in case of Sudhakar Shetty (2011) 130 lTD 197 (Mum) has held that such transaction amounted to transfer within the meaning of section 2(47) of the Act, inasmuch as the partner i.e. Sudhakar Shetty could be said to have assigned, released and relinquished his interest and share in partnership and its assets in favour of the continuing partners to assignment and accordingly confirmed the capital gains assessed in hands of the retiring partner Shri Sudhakar Shetty in respect of the amount received by him from the firm over and above his capital contribution. The ITAT held that the transaction was taxable in hands of retiring partner for assignment of his rights in favour of firm and its continuing partners. Since the same event cannot result into transfer by retiring partners as well as by firm, the ITAT by holding the transaction to be transfer from retiring partner to firm impliedly held that the transactions not to be taxable in hands of firm. The purpose of 45(4) of the Act is to bring such transactions which have an effect of transfer of capital asset without the asset being actually transferred. The purpose is to tax the actual beneficiary of such transactions. In the present case, the firm or the continuing partners are not the beneficiaries as no new tangible income or asset has arisen to them, rather the firm and continuing partners have purchased the share of retiring partner by paying cash. It is the retiring partners who have been benefitted by receiving much more than actual capital contributed by them on account of revaluation. Thus there can be no case of tax avoidance by colorable device by the firm on the facts and circumstances of the assessee firm’s case. Accordingly, we are of the view that the assessee firm is not liable to capital gains on the above transaction. This issue of assessee’s appeal is allowed.

21. In the result, the appeal of assessee is allowed.

Order pronounced in the open court on 24-11-2017.

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