Case Law Details
Principal Commissioner, Central Tax and Service Tax Vs Cadila Healthcare Limited (Gujarat High Court)
Facts- The respondent formed a Partnership Firm named and styled as M/s. Zydus Healthcare. The three partners were the respondents Cadila Healthcare Ltd., Cadila Healthcare Staff Welfare Trust and M/s. German Remedies Ltd. respectively.
The respondents’ share in the profit of the partnership firm is 96% and the balance with respect to the two other partners have 2% of share.
The Respondent, in its capacity as a partner of the firm was to carry out certain activities such as distribution of goods manufactured by the partnership firm, marketing of the goods manufactured by the partnership firm, functioning as a consignment and sales agent of the partnership firm etc.
The case put up is that the Respondent undertook these activities in its capacity as a partner of the firm in accordance with the deed of partnership. These activities were not undertaken pursuant to a separate contract between the Respondent and the partnership firm for the purpose of providing any service.
During the period between 01.10.2010 and 31.12.2010 the Respondent received remuneration of Rs.38,50,00,000/-from the partnership firm as the partner’s remuneration. The said remuneration received was recorded in the books of account of the respondent as the “remuneration received from the partnership firm”. The respondent also paid service tax of Rs.3,96,55,000/-under the taxable category of business (auxiliary services) as defined under Section-65(19) of the Finance Act, 1994 on such remuneration received from the partnership firm namely the M/s. Zydus Healthcare.
Subsequently, on 15.04.2011, the Respondent filed a refund claim of Rs.3,96,55,000/- under the provisions of Section-11B of the Central Excise Act, 1944 for the period between 01.10.2010 and 31.12.2010 as made applicable to service tax vide Section-83 of the Finance Act, 1994. The claim was within the period of limitation provided in the statute.
The Assistant Commissioner and Commissioner (A) rejected the refund claim. However, Tribunal allowed the same. Accordingly, the revenue has preferred the present tax appeal.
Conclusion- The partnership firm, M/s Zydus Healthcare cannot be considered as a ‘person’ distinct from the Respondent – partner. Therefore, there cannot be a service provider – service recipient relationship between a partner and the partnership firm when a partner discharges his duties as a partner pursuant to deed of partnership. Hence no service tax is payable on the activities performed by the respondent in the capacity of partner to the firm.
The issue that arose for consideration was the nature of salary drawn by the partner. It was held by the High Court that when a partnership agreement recites that one of the partners will receive a salary for the services rendered by him to the partnership business, the contract is regarded as a contract of partnership and is not designated as a contract of service.
The High Court observed that a partnership is an agreement between two or more persons to place their capital, labour and skill, or some or all of them for the purpose of carrying on a joint business for their common benefit and dividing its profits in certain proportions. The privilege of profit sharing imposes on each partner the obligation to advance the interests of the partnership business, to apply his time and attention to the management of its affairs, and to devote his knowledge, skill and ability to the success of the enterprise.
FULL TEXT OF THE JUDGMENT/ORDER OF GUJARAT HIGH COURT
1. Since the substantial questions of law formulated by this Court while admitting all the captioned tax appeals are the same, those were taken up for hearing analogously and are being disposed of by this common judgment and order.
2. For the sake of convenience, the Tax Appeal No.102 of 2022 is treated as the lead matter.
3. This tax appeal under Section-83 of the Finance Act, 1994 read with Section-35G of the Central Excise Act, 1944 is at the instance of the revenue and is directed against the final order No.A/ 11661-11675/2021 dated 27.04.2021 passed by the Customs, Excise & Service Tax Appellate Tribunal, West Zonal Bench, Ahmedabad in the Service Tax Appeal No.ST/360/2012.
4. We are called upon to answer the following substantial questions of law.
[A] Whether in the facts and circumstances of the case and law, the Hon’ble Tribunal was correct and justified in concluding that the Partner and Partnership Firm are not separate persons particularly when one of the Partners of the Firm is a Public Limited Company, which is treated as a separate artificial person under law?
[B] Whether in the facts and circumstances of the case and law, the Hon’ble Tribunal was correct and justified in holding that M/s. Cadila Healthcare Ltd. being a partner and M/s. Zydus Healthcare being a partnership firm cannot be considered as service provider and service recipient with regard to providing taxable service and receipt of remuneration thereof and whether Hon’ble CESTAT is right in holding partner and partnership firm cannot be distinguishable as distinct legal entity other than their relationship of partner & partnership firm in terms of providing taxable service and receipt of remuneration thereof?
[C] Whether in the facts and circumstances of the case and law, the Hon’ble Tribunal was correct and justified in holding that M/s. Cadila Healthcare Ltd. being a public limited company is not liable for payment of Service Tax on receipt of remuneration towards services provided to its partnership firm M/ s. Zydus Healthcare?
[D] Whether in the facts and circumstances of the case and law, the Hon’ble Tribunal was correct and justified in holding that the services provided by a partner to its partnership firm do not fall under the ambit of services as per Finance Act, 1994 and that the remuneration received from the partnership firm cannot be treated as consideration against the service provided by partner to its partnership firm since remuneration was other than sharing of profit between partners?
5. A bare perusal of the aforesaid questions of law would indicate that they are overlapping. The principal substantial question of law, involved in all the appeals is whether a Partner in the Firm can be said to be rendering services to the Partnership Firm so as to fall within the ambit of services as per the Finance Act, 1994?
6. The facts giving rise to this appeal may be summarized as under:-
6.1 The respondent formed a Partnership Firm named and styled as M/s. Zydus Healthcare.
6.2 The three partners were the respondents Cadila Healthcare Ltd., Cadila Healthcare Staff Welfare Trust and M/s. German Remedies Ltd. respectively.
6.3 The respondents’ share in the profit of the partnership firm is 96% and the balance with respect to the two other partners have 2% of share.
6.4 The said partnership deed dated 01.03.2007 was amended vide the addendum dated 01.04.2007 to the Partnership Deed.
6.5 Since the above clause is important, it is extracted as below:-
(4) With the object of enabling the firm to market and distribute its products more efficiently, to enable the firm to expand its market share and improve over all sales and earnings (so as to earn higher profits for the firm and thereby enjoy a higher share in the profits of the firm as its partner) the party of the First Part as partner of the firm, has agreed to discharge the following functions as an active partner for and on behalf of the Firm:
A. providing services relating to Promotion and Marketing of the Firm’s products including providing of Marketing Infrastructure, product development and promotion, Information Data Base, IT and other system support and Inventory and supply chain management for the same.
B. Functioning as “consignment and sales agent” of the firm for storage, sales and distribution of the Firm’s productions throughout India and for the purposes of Sales Tax/VAT; either directly or through the clearing, forwarding and handling agents of the party of the First Part through out India;
C. Collection of the moneys due to the Firm for the sales of products made by and on behalf of the Firm;
D. After sales services to the customers of the Firm;
E. Selecting and appointing Stockiest for Distribution of the Firm’s products;
F. Guiding and helping in Procurement of inputs such as raw materials, packing materials, consumables, plant and machinery, equipments for the Firm;
G. Providing legal, technical and managerial assistance for the smooth and efficient conduct of the business of the Firm.
6.6 Thus, the Respondent, in its capacity as a partner of the firm was to carry out certain activities such as distribution of goods manufactured by the partnership firm, marketing of the goods manufactured by the partnership firm, functioning as a consignment and sales agent of the partnership firm etc.
6.7 The case put up is that the Respondent undertook these activities in its capacity as a partner of the firm in accordance with the deed of partnership. These activities were not undertaken pursuant to a separate contract between the Respondent and the partnership firm for the purpose of providing any service.
Factual Background:
6.8 During the period between 01.10.2010 and 31.12.2010 the Respondent received remuneration of Rs.38,50,00,000/-from the partnership firm as the partner’s remuneration for performing the aforementioned activities on behalf of the firm.
6.9 The said remuneration received was recorded in the books of account of the respondent as the “remuneration received from the partnership firm”.
6.10 The respondent also paid service tax of Rs.3,96,55,000/-under the taxable category of business (auxiliary services) as defined under Section-65(19) of the Finance Act, 1994 on such remuneration received from the partnership firm namely the M/s. Zydus Healthcare.
6.11 Subsequently, on 15.04.2011, the Respondent filed a refund claim of Rs.3,96,55,000/- under the provisions of Section-11B of the Central Excise Act, 1944 for the period between 01.10.2010 and 31.12.2010 as made applicable to service tax vide Section-83 of the Finance Act, 1994. The claim was within the period of limitation provided in the statute.
6.12 The Assistant Commissioner of Service Tax, Ahmedabad vide his Order in Original No.STC/Ref/101/Nimba Ram-AC/Div-III/ 1112, dated 01.12.2011 rejected the refund claim. The Assistant Commissioner relied on the definition of the term “person” as defined under Section-3(42) of the General Clauses Act, 1897 to hold that as per the definition of “person” the partner and the partnership firm are different and distinct persons and therefore, considering the nature of services performed by the respondents, the service tax was correctly paid by the respondent at relevant time. The Assistant Commissioner also held that the respondent has earned the remuneration for performance of the services as mentioned in the partnership deed, which is nothing but consideration for the services and therefore, the service tax was rightly paid by the respondents. By observing this, Ld. Assistant Commissioner rejected the refund claims filed by the Respondents.
6.13 The Commissioner (Appeals) at Ahmedabad dismissed the appeal filed by the respondents, vide Order bearing Nos.122 to 128/2012 (STC)/K.Anpazhakan/Commr.(A)/Ahd, dated 19.04.2012.
6.14 The Tribunal vide order No.A/11661-11675/2021 dated 27.04.2021 allowed the appeal filed by the Respondents. Against the order of the Tribunal dated 27.04.2021 the revenue has filed the present tax appeals.
Submissions on behalf of the revenue:-
7. Mr. Lodha, the learned standing counsel submitted that for the purposes of taxation, a ‘Partner’ and a ‘Partnership Firm’ will be two distinct accessible unit. It cannot be said that both are one and the same and therefore, one of the Partners can provide services to the Partnership Firm wherein, he, himself is one of the Partners.
8. So far as the definition of the term ‘Person’ is concerned, as considered by the Tribunal prior to 2012 when the definition of ‘Person’ was not included in the service tax regime, the tribunal had taken note of the definition of ‘Person’ even under the General Clauses Act, which specifically provides that a ‘Person’ shall include any company or association or body of individuals whether incorporated or not. The CESTATE itself has recorded that the Partnership Firm is an association of individuals and a Firm name is only collective of those individuals, who consitute the Firm. Therefore, in the present case, one person is the Partner, who is the supplier of service and the recipient of service is the Partnership Firm.
9. Mr. Lodha submitted that the remuneration received by the Partner in lieu of the services rendered to the Partnership Firm is recorded as partners remuneration from the Partnership Firm in the account of the Partner and not as a share of profit received from the Partnership Firm. Even in the accounts of the Partnership Firm, the consideration paid to the Partner for all the services rendered have been taken as expenses, had it been share in the profit, such consideration would not have been taken towards expenses. This consideration could not have been taken in as expenses and would have to be calculated at the end when the share of profit is to be transferred to the Partners.
10. The respondent has paid service tax on the consideration received for the services rendered it to the Partnership Firm, which evidences that there has to be an invoice raised in respect of the same. If this consideration was to be considered as share in profit, then there is no requirement of raising an invoice for the same and the payment of service tax consequent thereto. Further, the consideration received by the Partner i.e. the respondent herein from the Partnership Firm is treated under the head of ‘Partner’s remuneration from a Partnership Firm’ and not under the ‘share of profit from a Partnership Firm’ in the Profit and loss account of the Respondent Partner for the Financial Year 2009-10. From such treatment of consideration in the accounts of the Respondent, it is clear that such consideration shall be considered as income in the hands of the respondent and thus the respondent shall be liable to pay income tax on the same, however, had this been share in the profit of the Partnership Firm, then the said amount would have been subject to income tax on the hands of the Partnership Firm and not the Partner. The said fact is recorded by the Authority while passing the order in original. Thus, it is submitted that the consideration received by the Respondent Partner from the Partnership Firm is as a service provider for the services rendered to the Partnership Firm as a service recipient.
Submissions on behalf of the respondent:-
11. Mr. Shridharan, the learned senior counsel assisted by Mr. Nainawati, the learned counsel appearing for the respondent would submit that no error not to speak of any error of law could be said to have been committed by the Tribunal in passing the impugned order. He would submit that the issue is no longer res-integra in view of the decision of the Supreme Court in the case of Dulichand Lakshmibarayan Vs. The Commissioner of Income-tax, Nagpur, reported in 1956 (29) ITR 53, wherein, the Supreme Court has taken the view that a firm is not a “person” in law, but is merely an association of individuals, who constitute the firm. In such circumstances, the respondent – firm cannot be considered as a “person” distinct from the respondent – partner. In other words, according to the learned senior counsel, there cannot be a service provider/service recipient relation between the partner and a partnership firm, more particularly, when the person is discharging his duties as a partner pursuant to the deed of partnership. The argument of the learned senior counsel is that no service tax is payable on the activities performed by the respondent in its capacity as a partner of the firm. In such circumstances referred to above, the learned senior counsel prays that there being no merit in the appeals, those be dismissed.
ANALYSIS:–
12. For the period prior to 01.07.2012, there is no definition of a ‘person’ in the Finance Act, 1994.
12.1 The term ‘person’ was defined for the first time with effect from 1.7.2012 vide Section 65B (37) of the Finance Act. The period of dispute in all these appeals is prior to 01.07.2012.
12.2 Prior to 01.07.2012, there was no definition of the term “person” in the Finance Act, 1994. Only with effect from 01.07.2012, vide Section 65B (37) of the Finance Act, 1994, a ‘person’ was defined for the first time. This definition, inter alia, included a firm.
13. Section 4 of the Partnership Act, 1932. – Partnership is not a person distinct from partners
13. Section-4 of the Partnership Act, 1932, reads thus: ‘partnership’ is the relationship between the persons who have agreed to share the profits of a business carried on by all or any of them acting for all. Further, the persons who have entered into the partnership are individually called ‘partners’ and collectively a ‘firm’.
13.2 Therefore, the partners and the firm are one and the same.
14. Definition of ‘person’ in section 3(42) of the General Clause Act. – The same is inapplicable to partner/partnership firm
14.1 Section-3(42) of General Clause Act, 1897 reads as under:
(42) “person” shall include any company or association or body of individuals, whether incorporated or not;
14.2 It is now well settled that the above definition is inapplicable in the context of Partnership Act, 1932. The decisions of the Supreme Court as below will make the position of law very clear.
15. The Law laid down by the Supreme Court in the case of Dulichand Laxminarayan v Commissioner of Income Tax [1956] 29 ITR 53 is that a Firm is not a person. Definition in the General Clauses Act of Person inapplicable to the Partnership Act.
15.1 In that case, the partnership firm was constituted by three small partnership firms, one Hindu Undivided Family (HUF) and one individual i.e. total of 5 firm partners.
15.2 The partnership firm claimed that the same is entitled to registration under Section 26A of the Indian Income Tax Act, 1922 as a valid partnership firm. Since three of the partners were themselves partnership firm, and since partners of the firm can only be a person, a question arose whether the assessee firm is a valid partnership firm which alone is eligible for registration under the Income Tax Act. The Supreme Court was called upon to decide whether three small “partnership firms” were a person and hence valid partner of the assessee firm.
15.3 The Supreme Court accepted the contention of the Revenue that the assessee was not a valid partnership firm eligible for registration, since three ‘partners’ were not “persons”.
15.4 The Supreme court held that as per the general concept of partnership, established in English law as well as Indian law, a firm is not an entity or a ‘person’ in law, but merely an association of individuals who constitute the firm. The Supreme court further held that the definition of ‘person’ as occurring in Section 3(42) of the General Clauses Act, 1897 cannot be imported as it would be repugnant to the partnership law.
15.5 The relevant portion of the judgment is extracted below:
As pointed out in Lindley on Partnership, 11th Edition at page 153, merchants and lawyers have different notions respecting the nature of a firm. Commercial men and accountants are apt to look upon a firm in the light in which lawyers look upon a corporation, i. e., as a body distinct from the members composing it. In other words merchants are used to regard a firm, for purposes of business, as having a separate and independent existence apart from its partners. In some systems of law this separate personality of a firm apart from its members has received full and formal recognition, as, for instance, in Scotland. That is, however, not the English common law conception of a firm. English lawyers do not recognize a firm as an entity distinct from the members composing it. Our partnership law is based on English law and we have also adopted the notions of English lawyers as regards a partnership firm.
………………………………
Nevertheless, the general concept of partnership, firmly established in both systems of law, still is that a firm is not an entity or “person” in law but is merely an association of individuals and a firm name is only a collective name of those individuals who constitute the firm. In other words, a firm name is merely an expression, only a compendious mode of designating the persons who have agreed to carry on business in partnership. According to the principles of English jurisprudence, which we have adopted, for the purposes of determining legal rights “there is no such thing as a firm known to the law” as was said by James, L. J., in Exparte Corbett: In re Shand. In these circumstances to import the definition of the word “person” occurring in section 3(42) of the General Clauses Act, 1897, into section 4 of the Indian Partnership Act will, according to lawyers, English or Indian, be totally repugnant to the subject of partnership law as they know and understand it to be. It is in this view of the matter that it has been consistently held in this country that a firm as such is not entitled to enter into partnership with another firm or individuals.
(Emphasis supplied)
15.6 The Supreme Court in case of Dulichand Laxminarayan (supra) specifically noted the decision of the Privy Council in case of Bhagwanji Morarji Goculdas Vs. Alembic Chemical Works Co. Ltd. and reiterated that the Indian law has not given legal personality to a firm apart from its partners.
15.7 A useful reference can be made to the leading commentary on the Partnership Act by Pollock & Mulla – 7th Edition – Page 172 (Section 32 of the Partnership Act – retirement of a partner) wherein it is stated as under:
The law, as now settled with regard to retiring partners, may be viewed as a compromise between the strict doctrine of English Common Law, which refuses to see anything in the firm, but a collective name for individuals carrying on business in partnership, and the mercantile usage which recognises the firm as a distinct person or quasi-corporation. This point of view may help to explain why the rules have to be laid down separately and in detail.
16 That a firm is not a person was again reiterated in the Commissioner of Income Tax Vs R.M. Chidambaram Pillai – 1977 (106) ITR 292 (SC).
16.1 The Supreme Court, once again analysed the legal status of a partnership firm and its partners. It was again reiterated by the Supreme court that a partnership firm has no legal existence separate from the partners, under the Partnership Act.
16.2 The relevant portion of judgment is reproduced below:
First principles plus the bare text of the statute furnish the best guidelight to understanding the message and meaning of the provisions of law. Thereafter, the sophisticated exercises in precedents and booklore. Here the first thing that we must grasp is that a firm is not a legal person even though it has some attributes of personality. Partnership is a certain relation between persons, the product of agreement to share the profits of a business. “Firm” is a collective noun, a compendious expression to designate an entity, not a person. In income-tax law a firm is a unit of assessment, by special provisions, but is not a full person which leads to the next step that since a contract of employment requires two distinct persons, viz., the employer and the employee, there cannot be a contract of service, in strict law, between a firm and one of its partners. So that any agreement for remuneration of a partner for taking part in the conduct of the business must be regarded as portion of the profits being made over as a reward for the human capital brought in. Section 13 of the Partnership Act brings into focus this basis of partnership business.
We may now embellish this brief judgment with some text-book references and citation of rulings.
Is the firm a person or a mere shorthand name for a collection of persons, commercially convenient but not legally recognised? Under section 3 of the Partnership Act it is not a person, but a relationship among persons. Lindley on Partnership, 12th edition, page 28, has this:
“The firm is not recognised by English lawyers as distinct from the members composing it. In taking partnership accounts and in administering partnership assets, courts have to some extent adopted the mercantile view, and actions may now, speaking generally, be brought by or against partners in the name of their firm; but, speaking generally, the firm as such has no legal recognition. The law, ignoring the firm, looks to the partners composing it; any change amongst them destroys the identity of the firm; what is called the property of the firm is their property, and what are called the debts and liabilities of the firm are their debts and their liabilities. In point of law, a partner may be the debtor or the creditor of his co-partners, but he cannot be either debtor or creditor of the firm of which he is himself a member, nor can he be employed by his firm, for a man cannot be his own employer”.
The Indian law of partnership is substantially the same and the reference in counsel’s submissions to the Scottish view of a firm being a legal entity is neither here nor there. Primarily, our study must zero on the Indian Partnership Act and not borrow courage from foreign systems. In Bhagwanji Morarji Goculdas v. Alembic Chemical Works Co. Ltd. [1948] 18 Comp Cas 205, 209; AIR 1948 PC 100, the Privy Council ruled that the Indian Partnership Act went beyond the English Partnership Act, 1890, the law in India attributing personality to a partnership being more in accordance with the law of Scotland. Even so, Sir John Beaumont, in that case, pointed out that the Indian Act did not make a firm a corporate body. Moreover, we are not persuaded by that ruling of the Privy Council, particularly since a pronouncement of this court in Dulichand Laxminarayan v. Commissioner of Income-tax [1956] 29 ITR 535 , 540, 541; [1956] SCR 154 (SC) strikes a contrary note. We quote:
“In some systems of law this separate personality of a firm apart from its members has received full and formal recognition as, for instance, in Scotland. That is, however, not the English common law conception of a firm. English lawyers do not recognise a firm as an entity distinct from the members composing it. Our partnership law is based on English law and we have also adopted the notions of English lawyers as regards a partnership firm”.
16.3 In view of the above, it can be said that a partnership firm is not a separate entity than its partners.
17. The revenue seeks to rely upon the decision of the Supreme Court in the case of State of Punjab vs. Jullunder Vegetables Syndicate reported in 1966 AIR 1295, but the same is distinguishable. In the said case the Sales Tax Act specifically defined a dealer to be a firm. The question was whether a partnership firm could be assessed to sales tax after it was dissolved. The Supreme court held that after dissolution, the firm ceases to be a legal entity and cannot be assessed to sales tax.
17.2 The Jullunder Vegetable case arose under East Punjab Sales Tax Act, 1948. Section 2(d) of that Act defined dealer, as including a firm. In the light of this definition the Supreme Court held that for the East Punjab Sales Tax Act, firm is a person.
17.3 It is on this basis that the Larger Bench of CESTAT in Gopal Industries case accepted the directly opposite contention of Revenue that the decision in Jullunder Vegetable is inapplicable to Central Excise Act, 1944.
18. The Larger Bench of the Tribunal in Gopal Industries Ltd. (Supra) distinguished Jullunder Vegetable Syndicate (Supra) as inapplicable to Central Excise Act, 1944.
18.1 It was noted by the Larger Bench that there is no provision in the Central Excise Act, 1944 and the Rules made thereunder, treating a partnership firm as a separate legal entity as opposed to the Income Tax and the Sales Tax law. Thus, the Revenue’s contention to the effect that a partnership firm is not a person under the Central Excise Act, 1944 was accepted by the Larger Bench of the CESTAT. It was therefore, held by the Larger bench, distinguishing Jullunder Vegetable (supra) that the assessment of a partnership firm under the excise law is an assessment of persons constituting the firm and hence valid even after dissolution.
18.2 The relevant portion of the judgment is extracted as under:
11. There is no dispute about the fact that there is no reference express or implied in the Central Excise Act or the Rules made thereunder for assessment of a partnership firm, unlike in the provisions of the Income Tax Act in which Section 2(31) provides an inclusive definition of “person”, which includes a “firm”. The assessment of partnership firm under the Income Tax Act is separate from the assessment of individual partners as regards their own income. Section 189(1) of the Income Tax Act provides that when a firm is dissolved, the assessing officer shall make an assessment of total income of the firm as if no dissolution had taken place. Section 189(3) of that Act makes every person who was at the time of dissolution a partner of the firm, and the legal representative of any such person who is deceased, jointly and severally liable for the amount of tax, penalty or other sum payable by the firm. Even in the East Punjab General Sales Act, 1948 section 2(d) defining “dealer” considered a “firm” or “Hindu undivided family” engaged in the business of selling or supplying goods within the meaning of “dealer”, besides, “any person”. Obviously, therefore, where a firm could be a dealer under the Sales Tax law and was required to file returns, the liability of such separate assessable entity would stand on its own. There is no such provision under the Excise Act and the Rules treating a partnership firm as a separate assessable entity
15. An individual person has a legal personality and status recognized by virtue of natural persons’ rights and liabilities. A body of natural persons will retain their individual legal status and personality. They can collectively embark upon tasks they choose to undertake. By mere joining hands they do not bring about a different and distinct legal entity or legal personality. For their individual and collective actions they would themselves be liable jointly and severally in their partnership pursuits. When they constitute a partnership firm and adopt a firm name for their business, such firm name is not a name of any different and distinct juristic personality but only a convenient collective description of such body of individuals. It is the law alone that can create or recognize a juristic personality distinct from the constituent individuals as in the case of companies. Therefore, merely because definition of ‘person’ would include more than one person as a body of individuals, there is no automatic birth of a juristic person unless specifically so recognized by law.
(Emphasis supplied)
18.3 In the Finance Act, 1994 prior to 01.07.2012, there was no provision treating a firm as a ‘person’. Hence, the reliance placed by the Revenue on the case of Jullunder Vegetables Syndicate (supra) is misplaced.
19. Section 65(105)(zzb) i.e. business auxiliary service applies for a service provided to a client by any person.- Hence, two distinct persons are required to attract Section 65(105)(zzb) of Finance Act, 1994.
19.1 The partnership firm, M/s Zydus Healthcare cannot be considered as a ‘person’ distinct from the Respondent – partner. Therefore, there cannot be a service provider – service recipient relationship between a partner and the partnership firm when a partner discharges his duties as a partner pursuant to deed of partnership. Hence no service tax is payable on the activities performed by the respondent in the capacity of partner to the firm.
19.2 Section-65(105)(zzb) applies to service provided to a client by a person in relation to business auxiliary service. Hence, two distinct persons are required to attract this levy.
20. Any income, salary, bonus, etc. received by a partner for discharge of obligations as per the partnership deed is nothing but a special share in profits of the firm.
20.1 The relevant Para from the Law of Income-Tax by A. C. Sampath Iyengar, 6th edn., 1973, pages 1063-1064, vol. II reads as under:
” Any interest, salary, bonus, commission or remuneration paid by a firm to any of its partners cannot be deducted by the firm as an expenditure in its profit-computation. The reason is this: The partners in a firm are ultimately entitled to the entire profits of the firm, according to their shares in the business. Therefore, the entirety of such profits should be brought to charge and no portion be exempted by giving the same away to a partner as his salary, bonus, commission, remuneration or interest. A partner is bound to find the necessary finances for the partnership and hence any interest on capital supplied by the partner is not deductible. A partner’s rendering services to the firm stands on the same footing as his providing capital; only instead of in money, in kind. Further, no remuneration is permissible to a partner for his rendering services to the firm, since the carrying on of the business of the partnership is a primary duty which all the partners, or some of the partners acting for all, are required to do by the law relating to partnership.
The matter may be looked at another way too. In law, a partner cannot be employed by his firm, for a man cannot be his own employer. A contract can only be bilateral and the same person cannot be a party on both sides, particularly in a contract of personal employment. A supposition that a partner is employed by the firm would involve that the employee must be looked upon as occupying the position of one of his own employers, which is legally impossible. Consequently, when an arrangement is made by which a partner works and receives sums as wages for services rendered, the agreement should in truth be regarded as a mode of adjusting the amount that must be taken to have been contributed to the partnership’s assets by a partner who has made what is really a contribution in kind, instead of contribution in money. Hence, all the aforesaid payments are non-deductible. “
20.2 The above Para was expressly quoted with approval by the Supreme Court in the case of Commissioner of Income Tax v R. M. Chidambaram Pillai [1977] 106 ITR 292 (SC).
20.3 The above paragraph can be explained by way of two examples as under.
Example 1
Let us say in a partnership firm, there are two partners Mr. A & Mr. B respectively. The profit sharing ratio between them is 3:1. If the partnership firm makes a profit of Rs.400/- then in that case Mr. A would receive Rs.300/- and Mr. B would receive Rs.100/-. In this case irrespective of the ratio of capital contribution by both the partners, the profit sharing ratio is 3:1.
Example 2
Taking the same example as above, with the addition that Mr. B is entitled to salary of Rs.100/- for his skill and labour put for the partnership firm. If the partnership firm makes the profit of Rs.400/- then Mr. B would receive the salary of Rs.100/- first. Thereafter, Rs.300/- would be distributed in profit sharing ratio of 3:1. In that case Mr. A would receive Rs.225/- as his share in general profit and Mr. B would receive Rs.75/- as his share in the general profit. Further, Rs.100/- to Mr. B as salary also would be considered as a special/additional share in the profit of the firm. Share in profit by human capital is also share in profit only. Thus, the total profit of A would be Rs. 225, out of A would be Rs. 175. They are not in ratio of 3:1, as it is the ratio of general profits.
21. Partner’s capital to a firm can be in the form of cash/asset. It can also be in the form of contribution of skill and labour alone without contribution in cash – “sweet equity”
21.1 In Chandrakant Manilal Shah v CIT 1992 AIR SC 66 the issue for consideration before the Supreme court was the validity of a partnership between the Karta of a Hindu Undivided Family and one of his sons. The son had not brought in any cash/asset as his capital contribution to the partnership but was contributing only his skill and labour. It was observed by Supreme Court as follows:
The nature of consideration will depend on the nature of the contract between the two individuals. As is well known, the aim of business is earning of profit. When an individual contributes cash asset to become partner of a partnership firm in consideration of a share in the profits of the firm, such contribution helps and at any rate is calculated to help the achievement of the purpose of the firm namely to earn prof- it. The same purpose is, undoubtedly, achieved also when an individual in place of cash asset contributes his skill and labour in consideration of a share in the profits of the firm. Just like a cash asset, the mental and physical capacity generated by the skill and labour of an individual is possessed by or is a possession of such individual. Indeed, skill and labour are by themselves possessions. “Any possession” is one of the dictionary meanings of the word ‘property’. In its wider connotation, therefore, the mental and physical capacity generated by skill and labour of an individual and indeed the skill and labour by themselves would be the property of the individual possessing them. They are certainly assets of that individual and there seems to be no reason why they cannot be contributed as a consideration for earning profit in the business of a partnership firm.
(Emphasis supplied)
21.2 It follows from the above that the remuneration received by a partner by employing his skill and labour as per the partnership deed is also a profit. The profit in such circumstances can be a special share in the profit.
22. The Supreme Court in the case of Commissioner of Income- tax Vs. R.M. Chindambaram Pillai [1977] 106 ITR 292 (SC) reiterated the very same principle as above.
22.1 In that case, the issue under consideration was the nature of salaries paid to the partners of a partnership firm. The Firm earned agricultural income which was exempted from income tax. Partners were paid salaries. A Question arose whether said amount received by the partner is also an agricultural income. It was held by the Supreme court that the salary paid to a partner is a mode of division of the firm’s profits. The relevant portion of the judgment is extracted below:
The necessary inference from the premise that a partnership is only a collective of separate persons and not a legal person in itself lends to the further conclusion that the salary stipulated to be paid to a partner from the firm is in reality a mode of division of the firm’s profits, no person being his own servant in law since a contract of service postulates two different persons.
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Contrary views are not wanting in some rulings, but a catalogue of cases on the other side may be productive of confusion and not resolution of conflict. We abstain from that enterprise and confine ourselves to the statement of the law that although, for purposes of the Income-tax Act, a firm has certain attributes simulative of personality, we have to take it that a partnership is not a person but a plurality of persons.
22.2 The Supreme Court in Commissioner of Income Tax v R. M. Chidambaram Pillai (supra) has further considered as below:
What is the real nature of the salary paid to a partner vis-a-vis the income of the firm? On principle, payment of salary to a partner represents a special share of the profits and is, therefore, part of the profits and taxable as such.
It is plain that salaries paid to partners are regarded by the Income-tax Act, as retaining the character of profits and not excludible from the tax net, whatever the reason behind it be.
22.3 A contrary view of the Madras High Court in the case of Mathew Abraham v. Commissioner of Income-tax [1964] 51 ITR 467, 471 (Mad) was overruled by the Supreme court in this case by observing as follows:
We regard this conclusion as unsound, the source of the error being a failure to appreciate that the salary of a partner is but an alias for the return, by way of profits, for the human capital— sweat, skill and toil are, in our socialist republic, productive investment—he has brought in for common benefit. The immediate reason for payment of salary was service contract but the causa causans is partnership.
23. The Punjab & Haryana High Court in the case of Bhagwant Singh v Commissioner of Income Tax AIR 1959 P H 594 laid down the very same principles of law.
23.1 The issue that arose for consideration was the nature of salary drawn by the partner. It was held by the High Court that when a partnership agreement recites that one of the partners will receive a salary for the services rendered by him to the partnership business, the contract is regarded as a contract of partnership and is not designated as a contract of service.
23.2 The High Court observed that a partnership is an agreement between two or more persons to place their capital, labour and skill, or some or all of them for the purpose of carrying on a joint business for their common benefit and dividing its profits in certain proportions. The privilege of profit sharing imposes on each partner the obligation to advance the interests of the partnership business, to apply his time and attention to the management of its affairs, and to devote his knowledge, skill and ability to the success of the enterprise.
23.3 In the above context, the High Court has observed as under:
The principle propounded above has received statutory recognition in India for Section 13 of the Partnership Act makes it quite clear that if the contract so provides, a partner may receive compensation for taking part in the conduct of the partnership business. Indeed a stipulation that an active partner shall receive a fixed salary is by no means uncommon in partnership agreements. When a partnership agreement recites that one of the partners will receive a salary for the services rendered by him to the partnership business the contract is regarded as a contract of partnership and is not designated as a contract of service. An agreement to share both profits and losses in addition to a salary points to the existence of a partnership and an agreement to share profits only in addition to a salary indicates the relationship of master and servant or principal and agent.
24. In view of the aforesaid discussion, all the appeals of the revenue fail. The substantial questions of law are answered in favour of the respondents and against the revenue.
ORDER IN CIVIL APPLICATIONS:
In view of the order passed in the appeals, the Civil Applications for stay would not survive and the same are disposed of accordingly.
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