Case Law Details

Case Name : Rajesh Madanmohan Chaudhary Vs ITO (ITAT Pune)
Appeal Number : ITA No.1119/PUN/2019
Date of Judgement/Order : 04/12/2020
Related Assessment Year : 2016-17
Courts : All ITAT (7807) ITAT Pune (272)

Rajesh Madanmohan Chaudhary Vs ITO (ITAT Pune)

The assessee in the present case is an individual who is a partner in eight partnership firms. The return of income for the year under consideration was filed by him on 17.10.2016 declaring a loss of Rs.20,74,862/-. During the course of assessment proceedings it was noticed by the Assessing Officer that the assessee has claimed deduction on account of interest paid on the debit balance of his capital account with some partnership firms amounting to Rs.26,16,913/-. He also noted that the said debit balances were on account of withdrawals made on capital accounts which were utilized for making investment in the capital account of another partnership firm M/s. Sai Prestige Development amounting to Rs.2,00,04,000/-. On the said capital account, no interest however, was received by the assessee in spite of specific provision contained in the partnership deed of M/s. Sai Prestige Development to pay interest @ 12% on the partners capital.

 In the present case, no such interest was due to the assessee or received by him from the partnership firm of M/s. Sai Prestige Development on the capital account as a partner and the same therefore, could not be brought to tax as the business income of the assessee.

It is however, noticed that such interest on notional basis was not added by the Assessing Officer to the total income of the assessee but the deduction claimed by the assessee on account of interest paid on the debit balances of capital account with other firms was disallowed by him to the extent of interest attributable to the credit balance of capital accounts / with M/s. Sai Prestige Development on the basis that there was diversion of interest bearing capital for making investment in the capital of M/s. Sai Prestige Development. Having regard to all the facts of the case, I am of the view that even this basis adopted by the authorities below to make the impugned addition on account of disallowance of interest is not sustainable. Even if it is assumed for the sake of arguments that the entire capital in the partnership firm of M/s. Sai Prestige Development was invested by the assessee from the capital withdrawn from other partnership firms, the said investment in the capital of M/s. Sai Prestige Development was made by the assessee for the purpose of business in as much as income received from the partnership firm of M/s. Sai Prestige Development in the form of profit, remuneration or interest was chargeable in his hands under the head Profits and gains of business or profession”. The withdrawals made by the assessee from the other partnership firms on which interest was paid by him, thus, were not utilized for non-business purpose and interest paid thereon in my opinion, cannot be disallowed on the ground that there was utilization of corresponding funds for non-business purpose as alleged by the authorities below. I therefore, find no merit in the impugned order of ld. CIT(A) confirming the disallowance made by the Assessing Officer on account of interest and deleting the said disallowance, I allow this appeal of assessee.

FULL TEXT OF THE ITAT JUDGEMENT

This appeal filed by the assessee is directed against the order of Ld.CIT(A)-3, Pune, dated 12.06.2019 and the solitary issue involved therein relates to the disallowance of Rs.24,00,480/- made by the Assessing Officer and confirmed by the ld. CIT(A) on account of interest.

2. The assessee in the present case is an individual who is a partner in eight partnership firms. The return of income for the year under consideration was filed by him on 17.10.2016 declaring a loss of Rs.20,74,862/-. During the course of assessment proceedings it was noticed by the Assessing Officer that the assessee has claimed deduction on account of interest paid on the debit balance of his capital account with some partnership firms amounting to Rs.26,16,913/-. He also noted that the said debit balances were on account of withdrawals made on capital accounts which were utilized for making investment in the capital account of another partnership firm M/s. Sai Prestige Development amounting to Rs.2,00,04,000/-. On the said capital account, no interest however, was received by the assessee in spite of specific provision contained in the partnership deed of M/s. Sai Prestige Development to pay interest @ 12% on the partners capital. In this regard, the following explanation was offered by the assessee:

“06. Interest on capital is deductible as provided in section 40(b)(iv). Though the partners get interest on capital if firm pays so and although it is called interest actually is appropriation of profit only and it will partake the character of business income. In case of partner who pays interest on excess withdrawals, for him it would be nothing but an expenditure to be claimed or loss to be allowed. Further section 40 starts with the heading Amounts not deductible‟ meaning thereby certain amounts are not deducted fully or beyond a certain figure. Anything below that certain figure does not fall into disallowable category. As regards interest, it is provided that it would be deductible only if it is provided in the partnership firm. The section does not provide for mandatorily chargeable interest when the firm and its partners have consciously decided not to charge the same. Further the said deduction is to be allowed from the book profit of the firm. This presupposes that there should be book profits. If book profits are not there then such interest will not be allowed to the firm. The partners of the partnership firm can decide amongst themselves whether interest can be charged in a particular year or not. It cannot be thrust upon the firm. He placed his reliance in the case of Tulsa Ram Kanhaiyalal Vs ITO 25 SOT 402(Jodhpur) wherein it was held that it is prerogative of firm whether to charge interest or not. He also enclosed an addendum signed by all partners about charging of interest in the firm M/s. Sai Prestige Developments for AY 2016-17.”

3. The submissions made by the assessee as above were not found acceptable by the Assessing Officer. According to him, the amount withdrawn from his capital account with some partnership firms was given by the assessee to another partnership firm namely M/s. Sai Prestige Development and by not charging interest on the said amount from M/s. Sai Prestige Development and claiming deduction on account of interest paid on debit balances of capital account with other firms, the assessee had made an attempt to shift the loss of the partnership firm M/s. Sai Prestige Development to himself. He also noted that an Addendum signed by all the partners of M/s. Sai Prestige Development agreeing for not charging any interest on the partners capital account was prepared on a plain paper and not on a stamp paper. The Assessing Officer held that the same therefore, was not authentic and it was an afterthought to give legitimacy to the transaction already carried out. He also held that it was not necessary for the partnership firm of M/s. Sai Prestige Development to have positive book profit for paying interest to partners on their capital. He accordingly, worked out the interest of Rs.24,00,480/- on the capital balance of the assessee with M/s. Sai Prestige Development by applying the rate of 12% per annum and disallowed interest claimed by the assessee to that extent.

4. The disallowance made by the Assessing Officer on account of interest was challenged by the assessee in the appeal filed before the ld. CIT(A) and the submissions made before the Assessing Officer were mainly reiterated on behalf of the assessee before the ld. CIT(A) in support of his case on this issue. The ld. CIT(A) did not find merit in the same and proceeded to confirm the disallowance made by the Assessing Officer on account of interest for the following reasons given in paragraph No.5.3 of his impugned order.

“5.3. DECISION:- The observations of the AO, submissions of the appellant and the material on record have been considered.

5.3.1 On this issue, the Assessing Officer observed that the assessee has claimed interest expenses on payment to partnership firms of Rs.26,16,913/- (Profile Developers of Rs.24,10,333/-, Kamdhenu Developers of Rs.79,934/- Profile Projects of Rs.1,26,646/-) on capital withdrawn from the firm whereas interest on capital invested was not charged in firm Sai Prestige Development amounting to Rs.2,00,04,000/-. Therefore the Assessing Officer added an amount of Rs.24,00,480/- , being interest calculated @12 on sum invested in Sai Prestige Development.

5.3.2 In this case, it is seen that the assessee is paying interest to partnership firms from which he has withdrawn capital. However, it is seen that the appellant was not receiving interest from the firm Sai Prestige Development where he had invested an amount of Rs.2,00,04,000/-. The appellant did not have enough capital in his books to give interest free amount to the partnership firm. It is also seen that amounts taken from other firms is given interest free to M/s Sai Prestige Development. When asked specifically, the appellant replied that the partnership deed of the firm M/s Sai Prestige Development contains provision of interest to partners on capital @ 12%. The AR stated that the firm did not pay interest for the reason that there was no income.

5.3.3 However, a firm cannot absolve itself of its responsibility of paying interest to the partner. If the firm does not have money or the project is stuck up, the firm could still have made a provision for interest payment. There is no clause that the firm should have a positive book profit for paying interest to partners on their capital. By making the provision, the actual profit or loss of the firm would get determined as and when the project gets completed. The appellant relied upon an addendum to subsequent assessment year that clause of interest payment was waived off for the year under consideration. The addendum submitted before the AO was on a plain paper and not on a stamp paper which was not authentic and was considered as an afterthought to give legitimacy to the transactions already carried out.

5.3.4. It is seen that the AR of the appellant has stated that there is no income in firm so no interest has been charged. The partnership deed says that 12% interest is to be paid. The appellant depends on the addendum signed by all the partners about charging of interest in the firm M/s Sai Prestige Development for A.Y. 2016-17 which was not accepted by the Assessing Officer as it was on a plain paper and instead of a stamp paper which was not authentic. Thus, it is held that the AO was justified in making addition on account of interest expenditure @ 12% i.e. Rs.24,00,480/- on capital invested by partners in Sai Prestige Development of Rs.2,00,04,000/-. Accordingly, Grounds No.1 to 9 of the appellant are DISMISSED and addition of Rs.24,00,480/- is confirmed.”

Aggrieved by the order of ld. CIT(A), the assessee has preferred this appeal before the Tribunal.

5. The ld. counsel for the assessee mainly reiterated before the Tribunal the submissions made on behalf of the assessee before the authorities below in support of the assessee’s case that the disallowance of interest made by the Assessing Officer and confirmed by the ld. CIT(A) on notional basis is not sustainable.

6. The ld. DR on the other hand has strongly relied on the orders of authorities below in support of the Revenue’s case that the disallowance made by the Assessing Officer on account of interest is correctly sustained by the ld. CIT(A).

7. I have considered the rival submissions and perused the material available on record. Although the ld. counsel for the assessee has contended that the addition on account of interest on the capital account of the assessee with the partnership firm M/s. Sai Prestige Development is not sustainable as the same is clearly made on notional basis in the absence of any such interest paid or payable to the assessee by partnership firm of M/s. Sai Prestige Development, it is observed that this is not the basis on which the impugned addition was made by the Assessing Officer and sustained by the ld. CIT(A). It is no doubt true that as per clause (v) of section 28 of the Income-tax Act, 1961 (hereinafter referred to as the Act‟) any income inter-alia, on account of interest on the capital account of a partnership firm is chargeable to tax under the head “Profits and gains of business or profession” in the hands of partner only when it is due or received by him from such partnership firm. In the present case, no such interest was due to the assessee or received by him from the partnership firm of M/s. Sai Prestige Development on the capital account as a partner and the same therefore, could not be brought to tax as the business income of the assessee.

8. It is however, noticed that such interest on notional basis was not added by the Assessing Officer to the total income of the assessee but the deduction claimed by the assessee on account of interest paid on the debit balances of capital account with other firms was disallowed by him to the extent of interest attributable to the credit balance of capital accounts / with M/s. Sai Prestige Development on the basis that there was diversion of interest bearing capital for making investment in the capital of M/s. Sai Prestige Development. Having regard to all the facts of the case, I am of the view that even this basis adopted by the authorities below to make the impugned addition on account of disallowance of interest is not sustainable. Even if it is assumed for the sake of arguments that the entire capital in the partnership firm of M/s. Sai Prestige Development was invested by the assessee from the capital withdrawn from other partnership firms, the said investment in the capital of M/s. Sai Prestige Development was made by the assessee for the purpose of business in as much as income received from the partnership firm of M/s. Sai Prestige Development in the form of profit, remuneration or interest was chargeable in his hands under the head Profits and gains of business or profession”. The withdrawals made by the assessee from the other partnership firms on which interest was paid by him, thus, were not utilized for non-business purpose and interest paid thereon in my opinion, cannot be disallowed on the ground that there was utilization of corresponding funds for non-business purpose as alleged by the authorities below. I therefore, find no merit in the impugned order of ld. CIT(A) confirming the disallowance made by the Assessing Officer on account of interest and deleting the said disallowance, I allow this appeal of assessee.

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

Order pronounced in the open Court on 4th December, 2020

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