Shree Shakuntala Industries Vs ITO (ITAT Jaipur)
FDR Interest Forms Part of Book Profit for Partners’ Remuneration: ITAT Deletes Disallowance
The Income Tax Appellate Tribunal, Jaipur, held that interest income included in a partnership firm’s profit and loss account cannot be excluded from book profit merely because it is assessed as income from other sources, while calculating allowable partners’ remuneration under section 40(b).
Allowing the assessee’s appeal, the Tribunal directed deletion of the ₹1,93,183 disallowance arising from exclusion of interest income. It accepted that the relevant starting point was the firm’s commercial profit reflected in its profit and loss account, rather than only income assessed under the head “Profits and gains of business or profession”.
Facts of the Case
The assessee, Shree Shakuntala Industries, was a partnership firm. During the relevant year, it earned interest of ₹8,10,553 from fixed deposit receipts and Kisan Vikas Patras.
The firm claimed deduction for remuneration paid to its partners under section 40(b). In determining the book profit used to calculate the permissible remuneration, it included interest income forming part of its accounts.
The Assessing Officer treated the interest as income from other sources and excluded it from the book-profit base. This reduced the permissible remuneration and initially resulted in a proposed reduction of ₹3,24,221.
However, the Assessing Officer noted that the assessee had already excluded the KVP interest and offered it under the head “Income from other sources”. Consequently, the disallowance was restricted to ₹1,93,183.
The assessee challenged the adjustment before the CIT(A), National Faceless Appeal Centre, Delhi, which confirmed the Assessing Officer’s action through an order dated 10 September 2025.
Assessee’s Arguments
Before the Tribunal, the assessee argued that book profit for section 40(b) purposes is not confined to business income computed under the Act.
Its representative relied on Explanation 3 to section 40(b), which adopts the net profit shown in the profit and loss account, computed in the prescribed manner, with an adjustment for partners’ remuneration already deducted.
According to the assessee, income assessable under different heads could be embedded in that net profit. Merely classifying a receipt as income from other sources did not justify removing it when determining the ceiling on partners’ remuneration.
The representative submitted that the disputed interest was included in the firm’s profit and loss account and therefore formed part of the relevant book profit.
Judicial Decisions Relied Upon
The assessee cited several Tribunal decisions supporting its interpretation.
In ACIT v. Seth Brothers, 99 TTJ 189, the discussion relied upon distinguished book profit from income classified under individual heads. It supported inclusion of interest recorded in the profit and loss account when calculating remuneration under section 40(b).
The assessee also referred to Feelings v. PCIT [2023] 157 taxmann.com 247, which held that interest could not notionally be excluded from profit appearing in the accounts for this purpose.
Other authorities included MAC Industries v. ITO [2022] 201 DTR 264 and Suresh A. Shroff & Co. v. JCIT [2013] 85 DTR 446. These decisions supported the contention that the computation should begin with net profit in the profit and loss account, including income assessed under other sources.
CIT(A)’s Approach
The CIT(A) had upheld the exclusion on the reasoning that interest not attributable to the firm’s eligible business income should not enter the computation of remuneration.
The appellate authority also rejected the assessee’s reliance on judicial decisions, considering them distinguishable.
Before the Tribunal, the assessee argued that the CIT(A) had not adequately explained how the cited decisions differed on the material issue. It maintained that the disallowance conflicted with the judicial position concerning book profit.
The Departmental Representative supported the CIT(A)’s order.
Tribunal’s Findings
The Bench, comprising Accountant Member Annapurna Gupta and Judicial Member T. R. Senthil Kumar, identified the issue as the proper computation of book profit for determining deductible partners’ remuneration.
It accepted that the assessee had demonstrated a settled judicial position: the relevant profits were those reflected in the firm’s profit and loss account—its commercial profits—rather than merely business profits computed under the Income-tax Act.
The Departmental Representative could not draw the Bench’s attention to a contrary decision.
Taking that judicial position together with the submission that the interest was included in the accounts, the Tribunal held that interest earned on FDRs/KVPs was not to be excluded from the book-profit computation for section 40(b).
Decision and Conclusion
The Tribunal held that the lower authorities’ exclusion of the interest was not in accordance with law and directed deletion of the resulting ₹1,93,183 disallowance. The assessee’s appeal was allowed.
The ruling concerns the book-profit base used to calculate partners’ remuneration. It does not independently reclassify the interest as business income for every tax purpose or dispense with the other conditions governing deduction under section 40(b). Its central finding is that classification under “Income from other sources” did not justify the disputed exclusion from commercial profits.
Cases Discussed
- ACIT Vs Seth Brothers — 99 TTJ 189 (ITAT Rajkot). Cited in the assessee’s submissions for including interest embedded in book profits.
- Deepa Agro Agencies Vs ITO — 154 Taxman 80 (ITAT Bangalore). Cited regarding inclusion of survey-disclosed income in book profits.
- Feelings Vs PCIT — [2023] 157 taxmann.com 247 (ITAT Panaji). Cited on interest included in the profit and loss account.
- MAC Industries Vs ITO — (2022) 201 DTR 264 (ITAT Surat). Cited on Explanation 3 and book profits.
- Suresh A. Shroff & Co. Vs JCIT — (2013) 85 DTR 446 (ITAT Mumbai). Cited on inclusion of other-source income in book profits.
FULL TEXT OF THE JUDGMENT/ORDER OF ITAT JAIPUR
Per Annapurna Gupta, AM:- The present appeal has been filed by the assessee against the order passed by the National Faceless Appeal Centre (NFAC), Delhi (hereinafter referred to as “Ld. CIT(A)”), dated 10.09.2025 under Section 250 of the Income Tax Act, 1961 (hereinafter referred to as “the Act”).
2. The grounds raised by the assessee read as under:-
1. The Ld. CIT(A), NFAC has erred on facts and in law in upholding the validity of notice issued u/s 148 of the Act and the consequent order passed u/s 147 of the Act.
2. The Ld. CIT(A), NFAC has erred on facts and in law in upholding the finding of AO in treating the interest/accrued interest on FDR amounting to Rs.4,82,953/- as income from other sources for the purpose of calculation of allowable remuneration u/s 40(b) of the Act instead of considering the same as part of business income and thereby confirming the disallowance of Rs. 1,93,183/- u/s 40(b) of IT Act, 1961.
3. The appellant craves to alter, amend & modify any ground of appeal.
4. Necessary cost be awarded to the assessee
3. The solitary issue before us is in the relation to the treatment of income earned by the assessee, being interest on FDRs and KVP, as income from other sources as opposed to business income treated by the assessee and thereafter excluding the same for purposes of computing book profits for determining remuneration allowable to partners, computed as percentage of book profits in terms of Section 40(b) of the Act.
4. The assessee is a partnership firm and had earned interest on FDRs and KVPs amounting to Rs.8,10,553/-. The remuneration paid to partners was claimed as per section40(b) of the Act ,which prescribed the remuneration allowable to partners as a percentage of the book profits of the partnership, including the interest income earned by the assessee in the book profits. The AO treated the interest income earned by the assessee as chargeable to tax under the head income from other sources reducing it for the purposes of determining the book profits on which the remuneration allowable to the assessee was to be computed in terms of Section 40(b) of the Act and accordingly reduced the assessee’s claim of allowable remuneration by Rs.3,24,221/-.Further, noting that, the assessee had already excluded interest on KVP, returning the same to tax under the head income from other sources, the addition made to the income of the assessee as interest not allowable u/s 40(b) of the Act therefore was restricted to the balance amount of Rs.1,93,183/-.
5. The same was challenged before the Ld. CIT(A), who confirmed the order of the AO.
6. The contention of the ld. Counsel for the assessee before us, was that it is a judicially settled proposition that for the purposes of computing book profit for calculating the remuneration available to partners in terms of Section 40(b) of the Act, profits as reflected in the profit and loss account of the partnership firm had to be considered and not the business profits computed as per the Act. He referred to various decisions in this regard, which are reproduced in his submissions as under:-
1. It is submitted that remuneration to the partner is allowable on the book profit. The book profit is defined in explanation 3 to section 40 as under:- Explanation 3. For the purposes of this clause, “book-profit” means the net profit, as shown in the profit and loss account for the relevant previous year, computed in the manner laid down in Chapter IV-D as increased by the aggregate amount of the remuneration paid or payable to all the partners of the firm if such amount has been deducted while computing the net profit From the above it can be noted that section 40(b) adopts the net profit as shown in profit & loss account of the firm as the basis for allowing deduction on account of remuneration to the partners. Income from sources other than business, which are assessable under other heads are also embedded in such net profit. Whole income of the firm under the different heads is liable to be assessed in the hands of the firm and the remuneration to the partners debited to the profit & loss account can’t be broken down in different components. Hence irrespective of the heads in which income of the firm is assessable, all such income has to be considered for working out the remuneration payable to the partners as per the partnership deed.
2. In the present case, the interest income is a part of net profit as shown in profit & loss account. This is a part of the book profit. Hence on this amount which is included in the net profit of the firm, remuneration u/s 40(b) has to be allowed. For this purpose reliance is placed on the following cases:-
ACIT Vs. Seth Brothers 99 TTJ 189 (Rajkot)
The facts of this case were that assessee received income from bank interest and interest on FDR. This income is declared under the heard income from business and remuneration to the partners was claimed accordingly. The AO also assessed the same u/s 143(3). Thereafter action u/s 148 was taken on account that excess remuneration to partners was allowed in the original assessment by including the interest on FDR in book profit. The CIT(A) held that the assessee had been doing the business for last so many years and therefore surplus funds invested in earning interest will amount to utilization of commercial assets. Accordingly allowed the claim of the assessee. Against the order of the CIT(A), the department filed appeal to the ITAT. The ITAT held as under:-
Section 40(b) adopts the net profit as shown in profit & loss account of the firm as the basis for allowing deduction on account of remuneration to the partners. Income from sources other than business, which are assessable under other heads are assessable under the other head are also embedded in such net profit. Qualifying words” computed in the manner laid down in chapter IV D “in explanation 3 below section 40 (b)(v) have been advisebly used only in order to ensure that inadmissible or excessive claims relating to the income to be computed under the head “business” which are embedded in the book profit are excluded from the base for limiting remuneration to partners. Prima facie, legislature has not authorized exclusion of non business receipt recorded in the profit & loss account. Whole income of the firm under the different heads is liable to be assessed in the hands of the firm and the remuneration to the partners debited to the profit & loss account can’t be broken down in different components, to be allocated to the income computed under different heads All income embedded in the net profit as appearing in the profit & loss account of the assessee firm is to be taken into consideration for allowing deduction of remuneration paidto the partners u/s 40(b) without excluding the interest income which form part of the book profit.
Deepa Agro Agencies Vs. ITO 154 Taxman 80 (Bang.) (Trib)
In this case certain cash credit found in survey were surrendered. The AO held that for the purpose of the book profit income declared during the course of survey could not be considered and accordingly restricted claim of remuneration paid to partners after excluding additional income from book profit. The tribunal held that assessee was not carrying any other business and had no other source of income. Thus whatever income arising to the assessee was business income. It could be said that such cash credit form pat of the book profit for the purpose of the computation of the remuneration. Hence such cash credit is to be included in the book profit for the purpose of allowing remuneration to the partner. In the present case, the assessee is having only one business activity. It has no other source of income. Interest income is part and partial of the business activity carried on by the assessee. The ratio of the cases stated above are fully applicable to the assessee’s case. The interest income has to be therefore considered in the book profit for allowing remuneration to the partner u/s 40(b)(v).
3. Reliance is further placed on the following cases:-
Feelings Vs. PCIT (2023) 157 Taxmann.com 247 (Panji) (Trib.) Para 7 of this decision read as under:-
7. It is a settled principle of law now that, income for the purpose of ascertaining ceiling on the basis of book profit, the profit shall be as appearing in the profit and loss account. The interest income, thus, cannot notionally be excluded while determining allowable of deduction of remuneration to partners u/s 40(b)(v) of the Act. In the extent case, the interest income shall form part of business income for the purpose of computing admissible deduction u/s 40(b)(v) of the Act.
MAC Industries Vs. ITO (2022) 201 DTR 264 (Surat) (Trib.) For the purpose of s. 40(b)(v) read with Explanation there cannot be separate method of accounting for ascertaining net profit and/or book profit. For the purpose of ascertaining ceiling on the partners’ remuneration on the basis of book profit the profit in the P&L a/c is not to be classified into different heads of income. Explanation 3 to s. 40(b)(v) provides for taking the net profit as shown in the P&L a/c and not the profits computed under the head ‘Profits and gains of business or profession’. Selection of any head of income, particularly “Profits and gains of business or profession”, is nowhere required or envisaged by the legislature. AO has no jurisdiction to go behind the net profit shown in the P&L a/c except to the extent of the adjustments provided in Expln. 3, nor he is empowered to decide under which head the income is to be taxed. Net profit as shown is not to be allocated into different components. Therefore, interest income earned by the assessee-firm from the fixed deposits and interest on income-tax refund cannot be ignored for the purpose of working out the book profit to ascertain the ceiling on partners, remuneration.
Suresh A. Shroff & Co. Vs. JCIT (2013) 85 DTR 446 (Mum.) (Trib.) Book profit for purposes of s. 40(b)(v) Expln. 3, means the net profit as shown in the P&L. a/c including income from other sources and not only the profit computed under the head profit and gains of business or profession. While computing book profit for purposes of computing allowable remuneration to working partners u/s 40(b)(v), AO was not justified in excluding from net profit, the income which he considered to be income from other sources.
7. Ld. Counsel for the assessee contended that these submissions were made before the Ld. CIT(A) also who summarily rejected the same without pointing out howthe said decisions were not applicable to the facts of thepresent case. He drew our attention to the findings of the Ld. CIT(A) as under;-
….
Further, with reference to the issue of disallowance as attributable to re-computation of excess claim of remuneration as reasoned by AO in assessment order, appellant is contending the other income as admitted as earned during the year as well as part of total income of the appellant for necessary computation of allowable claim u/s 40(b) of IT Act and thereby contended the disallowance as made by AO as not maintainable. However, appellant contention as advanced on this analogy is not maintainable as reasoned by AO in the assessment order as appellant business income has to be correctly computed and arrived with exclusion of other interest income etc., as not attributable to eligible business income for computation of allowable remuneration u/s 40(b) of IT Act as per the strict provisions of IT Act as observed and computed by AO in the assessment order. Appellant mere claims to hold all receipts and incomes whether falling under business income or other sources is to be treated as inclusive for necessary computation of eligible claim u/s 40(b) of IT Act is neither substantiated by relevant provisions of IT Act nor established the intrinsic nature of these receipts/incomes under other sources as attributable to appellant intrinsic/core business activities to hold such contentions as advanced by appellant with certain citations in the submissions. Further, appellant has placed reliance on various citations as per the submissions to hold the same as allowable and on perusal of facts of case/ ratios of adjudication of the citations as applicable to appellant facts of case, the same are neither comparable nor equitable in its facts of case and ratios of adjudication as involving such interest incomes and other incomes as equitable to business profits for computation of allowable claim u/s 40(b) of IT Act contrary to the observations of AO as per law. Further, appellant did not bring out such comparative analysis as applicable to appellant facts of case and ratios of adjudication as attributable to the citations as needed to adduce and thereby appellant mere contentions on this analogy is to be treated as not maintainable as per the facts of case and circumstances as explained above0. …….
8. Ld. Counsel for the assessee therefore contended that the assessee’s claim of remuneration u/s 40(b) of the Act was in accordance with law as settled by various judicial decisions stated above and the disallowance made of Rs.1,93,183/- u/s 40(b) of the Act therefore needed to be deleted.
9. Ld. DR however supported the order of the Ld. CIT(A).
10. We have heard the rival contentions. The issue for adjudication is the disallowance of claim of remuneration paid to partners calculated in terms of Section 40(b) of the Act. The disallowance resulted on account of the fact that the book profits computed by the Revenue for the purposes of calculating the remuneration allowable u/s 40(b) of the Act excluded the interest income earned by the assessee on FDRs and KVP ,since as per the Revenue the said incomes qualified as Income from Other sources and book profits for the purposes of section 40(b) were profits chargeable to tax under the head Business and Profession.
11. The assessee has fairly demonstrated before us, that it is judicially settled that book proftsto be considered for Section 40(b) of the Act arethe profits as reflected in the profit and loss account of the partnership firm ,i.e. commercial profits and not business profits as per Income Tax Act.
12. The Ld. DR was unable to draw our attention to any contrary decision to that stated by the assessee before us.
13. Further, the ld. Counsel for the assessee has stated that the impugned interest were included in the profit and loss account of the partnership firm.
14. Noting the judicial position in this regard and the facts of the case therefore, we have no hesitation in holding that the interest earned on FDRs/KVP was not to be excluded for the purposes of determining the book profits on which the allowable remuneration in terms of Section 40(b) of the Act was to be computed. The orders of the Authorities Below excluding the said interest is held to be not in accordance with law, and the disallowance of Rs.1,93,183/- made by the authorities below as a consequence is therefore directed to be deleted.
15. In effect, the appeal of the assessee is allowed.
Order pronounced in the Open Court on 16.10.2026
