Lal & Co. Vs. Commissioner of Income Tax, Orissa  INSC 907 (9 December 1997)
C. SEN, S. SAGHIR AHMAD
following question of law was referred by the Tribunal to the Orissa High Court
under Section 256(1) of the Income Tax Act, 1961;
on the facts and in the circumstances of the case, the commission paid by the assessee-
firm to Sri Rashiklal P. Rathor (individual) is allowable under section 40(b)
of the Income Tax Act, 1961 as a deduction while computing the business income
of the assesses." The assesses is a partnership firm carrying on a number
of businesses including sale and purchase of various commodities as well as
mining. The partners of the firm were:
Devram (2) Jayantilal Jagmal (3) Pragji Devram (4) Ratilal Odhavji (5) Rashiklal
P Rathor Popatlal is Rashiklal's father. On 1.4.1976, there was on oral
partition of the share of Popatlal in the firm amongst Popatlal, his wife and
his two sons including Rashiklal. The assets of Rashiklal continued to be
invested in the partnership firm. Rashkilal was Karta of a smaller HUF. On
17.10.1978, there was an agreement between Rashiklal and the firm Rashiklal and
Company that Rashiklal will receive 37 paise per tone of mineral sold by the
firm. In the assessment year 1980-81 Rashiklal received a sum of Rs.
as commission. The firm claimed deduction of this amount from its income. The
claim was negatived by the Income Tax Officer. The Appellate Assistant
Commissioner allowed the appeal holding that the commission was paid to Rashiklal
in his individual capacity and not as Karta of the smaller HUF which is the
partner of the firm. Since the payment was not made to the partner, Section (b)
of the Income Tax Act was not attracted. The amount of commission paid to Rashiklal
could not be included in the income of the firm. On further appeal by the
Revenue, the Tribunal held that Section 40(b) of the Income Tax Act clearly
applied in this case. Payment to Rashiklal will be payment to a partner. The
partnership firm could not claim any deduction for this payment from its
income. The High Court on reference held that there was clear material that Rashiklal
had invested his joint family funds to enter into the partnership. Payment was
made to Rashiklal who was a partner. Accordingly, the tribunal was correct in
coming to the conclusion that Section 40(b) will be applicable in this case.
The firm was not entitled to claim any deduction on account of payment of
commission to one of its partners.
has come up in appeal against the judgment of the High Court. Section 40(b) of
the Income Tax Act, at the material time, stood as under:
Notwithstanding anything to the contrary in sections 30 to 39, the following
amounts shall not be deducted in computing the income chargeable under the head
"profits and gains of business or profession".
(a) X X
X X (b) In the case of any firm, any payment of interest, salary, bonus,
commission or remuneration made by the firm to any partner of the firm.
view, the answer to the question raised in this case is self-evident. There is
no dispute the Rashiklal was a partner of the assessee-firm. For assessment of
the firm under the head profits and gains of business and profession any
payment of commission by the firm to any partner of the firm will not be
allowed as deduction. The firm has paid a commission of Rs. 28579/- to Rashiklal
and has claimed that amount as deduction. Such deduction is not permissible in
clear terms of Section 40(b).
language of the Section is simple and clear. But to complicate the matter an
argument was sought to be made that Rashiklal had not joined the firm as an
individual but was really representing an HUF. The payment to Rashiklal did not
amount to payment of commission to the HUF which was the real partner.
Therefore, the amount of commission paid by the firm to a non-partner or a
partner who had joined the firm in a representative capacity, will not fall
within the mischief of Section 40(b).
unable to uphold this contention for a number of reasons. A firm is a
compendious way of describing the individuals constituting the firm. An HUF
directly or indirectly cannot become a partner of a firm because the firm is an
association of individuals.
case of Dalichand Laxminarayan v. Commissioner of Income Tax ITR 535, it was
held by a Branch of three Judges f this Court that a firm is not a
"person" and as such was not entitled to enter into a partnership
with another firm or an HUF or an individual. In that case, an individual, a
joint family and three firms purported to enter into a partnership. The
agreement of partnership was signed by the individual partner, the Karta of the
joint family and one partner each of the three firms. The firm applied for
registration under Section 26A of the Income Tax Act. The application was
signed by the aforesaid five individuals. This Court held that there could no
question of granting registration to a partnership purporting to be one between
three firms, an HUF and an individual. In coming to this conclusion, this Court
relied on the provisions of Indian Partnership Act wherein, 'Partnership',
'partner', 'firm' and 'firm name' were defined in the following manner:
Definition of "partnership", " partner", "firm"
and "firm name":
is the relation between persons who have agreed to share the profits of a
business carried on by all or any of them acting for all.
who have entered into partnership with one another are called individually
"partners" and collectively "a firm", and the name under
which their business is carried on is called the "firm name"."
S. R. Das, C.J. Speaking for the Court observed:
Section clearly requires the presence of three elements, namely, (1) that there
must be an agreement entered into by two or more persons; (2) that the
agreement must be to share the profits of business; and (3) that the business
must be carried on by all or any of those persons acting for all.
to this definition "persons" who have entered into partnership with
one another are collectively called a "firm" and the name under which
their business is carried on is called the "firm name". The first
question that arises is as to whether a firm as such can enter into an
agreement with another firm or individual.
answer to the question would depend on whether a firm can be called a
C.J., thereafter, went on to examen the meaning of the word "person"
in the Partnership Act. It noted that "persons" had not been defined
in the Partnership Act.
the General Clauses Act, 1897, had defined 'Person' in Section 3(42) as under:
shall include any company or association or body of individuals whether
incorporated or not." After referring to the definition of 'person' in the
General Clauses Act, Das, C. J. observed that the firm was not a company but
was certainly an association or body of individuals.
Court, however, after examining the scheme of the Partnership Act and the
corresponding provisions of the English Law on the subject, held that the
definition given to "person" by the General Clauses Act could not be
extended to the Partnership Act having regard to the various provisions of that
Act. The Court concluded:
It is clear from the foregoing discussion that the law, English as well a
Indian, has, for some specific purposes, some of which are referred to above,
relaxed its rigid notions and extended a limited personality to a firm.
the general concept of partnership, firmly established in booth 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." The view of this Court was
that when Section 4 of the Partnership Act spoke of "persons" who had
entered into partnership with one another it could only be individual and not a
body of person. A body of persons like a firm could not enter into partnership
with other individuals.
cannot be in a better position than a firm in the scheme of the partnership
Act. The reasons that led this Court to hold that a firm cannot join a
partnership with another "individual" will apply with equal force to
law, an HUF can never be a partner of a partnership firm.
if a person nominated by the HUF joins a partnership, the partnership will be
between the nominated person and the other partners of the firm. Having regard
to the definition of "partnership" and "Partners" and in
view of the principle laid down in Dulichand's Case (supra), it is not possible
to hold that an HUF being a fluctuating body of individuals, can enter into a
partnership with other individual partners.
cannot do indirectly what it cannot do directly. If a Karta or any other member
of the HUF joins a partnership, he can do so only as an individual. His rights
and obligations vis-a-vis other partners are determined by the partnership Act
and not by Hindu Law. Whatever may be the relationship between an HUF and its
nominee partner, in a partnership, neither the HUF nor any member of the HUF
can claim to be a partner or connected with the partnership through a nominee.
the Karta of an HUF enters into a partnership agreement with a stranger, the Karta
alone in the eye of law is the partner. If any payment by the firm to a partner
is prohibited by law, the Karta cannot be heard to say that the payment was
received by him not as a partner but in some other capacity. Within the
partnership, the Karta is a partner like any other partner with whom he has
entered into a partnership agreement individually. It is essential to have an
agreement between the partners to form a partnership. An HUF not being a
"person" cannot enter into an agreement of partnership. If the Karta
of an HUF enters into partnership with a stranger, upon the death of the Karta,
the partnership will stand dissolved. In the absence of a contract to the
contrary, another member of the family cannot step into the shoes of the Karta
claiming that the Karta was merely representing the HUF and the real partner
was the HUF.
who enters into a contract of partnership with a stranger may be accountable to
the other members of the HUF for the profits received from the partnership
that is something between the Karta and the HUF. But that is something between
the Karta and the HUF. But so far as the partnership firm is concerned, the Karta
is a partner like any other partner. if a commission is paid to a partner who
happens to be a nominee of an Huf, the commission is not paid to the HUF. It is
paid by the firm to one of its individual partners. The partner may have to
account for the monies received from the firm to another person or another firm
or an association of persons or an HUF. But that will not alter the fact that
commission was paid by the firm to one of its partners.
partnership Act contains various provisions regulating the relationship between
partners. The partners are bound to carry on the business of the firm to the
greatest common advantage, to be just and faithful to each other and to render
true account and true information of all things affecting the firm to any
partner or his legal representative. Every partner has a right to take part in
the conduct of the business. Every partner is bound to attend diligently to his
duties in the conduct of the business. Any differences arising as to ordinary
matters connected with the business may be decided by majority of the partners
and every partner shall have the right to express his opinion before the matter
is decided. No change can be made in the nature of the business without the
consent of all the partners. Every partner has a right to have access to and to
inspect and copy and y of the books of the firm. All these provisions will
apply to a partner who represents another body the HUF who has a nominee
partner in a firm has neither any right nor any obligation under the provisions
of the Partnership Act. Section 13 provides that a partner is not entitled to
receive remuneration for taking part in the conduct of the business. The
partners are entitled to share equally in the profits earned and shall
contribute equally to the losses sustained by the firm.
a partner is entitled to interest on the capital subscribed by him, such
interest shall be payable only out of profits. A firm has to indemnify a
partner in respect of payments made and liabilities incurred by him in the
ordinary and proper conduct of business and in doing such act, in an emergency
for the purpose of protecting the firm from any loss as would be done by a
person of ordinary prudence under similar circumstances. The partner has also a
duty to indemnify for any loss caused to the firm by his willful neglect in the
conduct of the business of the firm.
these provisions relating to mutual rights and liabilities are only applicable
to the individual partners who are members of the firm. There is no way that an
HUF can intrude into the relationship created by a contract between certain
individuals. The only right of the HUF is possibly to call upon its nominee
partner to render accounts for the profits that he has made from the
partnership business. But that is something between the nominee and the HUF
with which the partnership is not concerned.
specific provision in Section 13 of the Partnership Act that a partner is not
entitled to receive any remuneration for taking part in the conduct of the
business has been interpreted to mean that every partner is bound to attend
diligently to the business of the firm. For doing his duties he cannot charge
his copartners any sum or remuneration whether in the shape of salary,
commission or otherwise on account of the trouble taken by him in conducting
the partnership business. There, however, can be a special contract to the
contrary in which case, the provisions of that contract will prevail.
40(b) of the Income Tax Act will apply even when there is such a special
contract. Any commission paid by a firm to its partner will not be permitted as
deduction from the business income of the firm. If a claim is made by a partner
that he is representing an HUF or any other body of persons then the position
in law will not be any different. The HUF is not and cannot be a partner in a
partnership firm. The remuneration or the commission that is paid to the
partner cannot be claimed to be a remuneration or commission paid to the HUF.
The Partner may be accountable to the family for the monies received by him
from the partnership. But in the assessment of the firm, the partner cannot be
heard to say that he has not received the commission as a partner of the firm
but in a different capacity.
were referred to two decisions of this Court on this point, Brij Mohan Das Laxman
Das V. CIT, 223 ITR 825 and Suwalal Anandilal Jain v. Commissioner of Income
Tax, 224 ITR 753. Both the cases dealt with payment of interest to a partner
who had joined the firm in a representative capacity. Section 40(b) prohibits
deduction on account of payment of interest, salary, bonus or remuneration by a
firm to any partner of the specifically providing that where an individual was
a partner in a firm in a representative capacity for and on behalf of any other
person, the interest paid by the firm to such individual shall not be taken
into account for the purpose of clause (b) of Section 40.
Court held that in view of this Explanation, when a Karta of an HUF had joined
a firm representing his HUF and had made deposits in the firm in his individual
capacity, the interest paid to him could not be disallowed by reason of the
Explanation II added to Section 40(b) of Income Tax Act, 1961. It was further
held that the explanation was only clarificatory. It is difficult to agree with
that proposition because the Explanation was added by the Taxation laws
(Amendment Act, 1984 with effect from 1.4.1985, i.e., from the assessment year
1985-86. By adding the Explanation, the legislature altered the law
prospectively on and from 1.4.1985. If what was contained in the Explanation
was already the law in force, then giving effect to the Explanation from
1.4.1985 does not make any sense.
in the case before us, no question of payment of any interest is involved. A
commission was paid by the firm for the services rendered by the partner. Such
commission cannot be paid because of the provisions of Section 13 of the
Partnership Act in the absence of a special contract. Even if a special
contract exists, Section 40(b) of the Income Tax Act prohibits allowance of
such commission as deduction from the business income of the firm.
argument that Rashiklal had joined the firm Rashiklal & Company not as an
individual but in a representative capacity overlooks the fact that the
Partnership Rashiklal & Company is a compendious way to describe the
individuals who are partners of the firm. The other partners of the firm have a
contractual relationship with Rashiklal only. Section 40(b) categorically
disallows any deduction of payment of commission to a partner .
position of a person belonging to an HUF who has joined a firm on behalf of the
family has been explained in Mulla's Hindu Law, Sixteenth Edition, page 265:-
"Not all members of the joint family, but only such of its members as
have, in fact, entered into partnership with the stranger, become partners. The
manager, no doubt, is accountable to the family, but the partnership is
exclusively one between the contracting members including the manager and the
stranger. Such a partnership would be governed by the provisions of the Indian
Partnership Act, 1932, with the result that if the manager died, the partnership
would be dissolved on his death." Under the Income Tax Act, 1961, 'firm',
'partner' and 'partnership' have been given the same meaning as assigned to
them in the partnership Act. But the expression 'Partner' has been extended to
include any person who, being a minor, has been admitted to the benefits of a
there is no scope for any argument that even though under the Indian
Partnership Act, an HUF not being a 'person' cannot ba partner, but the payment
of commission to the nominee partner will tantamount to payment to the HUF and
therefore, such payment will not come within the mischief of Section 13 of the
Partnership Act or Section 40(b) of the income Tax Act. To repeat what has been
stated in Mulla's Hindu Law, only the members who have entered into partnership
are to be regarded as partners.
position of the other members is no higher than sub-partnership.
application for registration of a firm has to be a made under Section 184 of
the Income Tax Act. It is specifically provided that:
partnership must be evidenced by an instrument in writing;
individual shares of partners must be specified in that instrument;
application for registration shall be signed by all the partners.
very fact that individual shares of the partners have to be specified and that
such partners must personally sign the partnership deed and also the
application for registration go to show that even if a person joins a firm as a
representative of an HUF or any other body or association, within the firm his
position is that of an individual. He may have an agreement with a third party
to divide the profits received from the firm, but that agreement does not bind
the firm nor does it alter the position or the Income Tax Act. This aspect of
the matter was explained by Subba Rao, J. (as his Lordship, then was) in the
case of Commissioner of Income Tax v. Bagyalakshmi & Co. 55 ITR 660 in the
A partnership is a creature of contract. Under Hindu Law a joint family is one
of status and right to partition is one of its incidents. The income-tax law
gives the Income of a person in the manner provided by the Act. Except where
there is a specific provision of the Income-tax Act which derogates from any
other statutory law or personal law, the provision will have to be considered
in the light of the relevant branches of law. A contract of partnership has no
concern with the obligation of the partners to others in respect of their
shares of profit in the partnership. It only regulates the rights and
liabilities of the partners. A partner may be the Karta of a joint Hindu
family; he may be a trustee; he may enter into a sub-partnership with others;
he may be a benamidar for another. In all such cases he occupies a dual
position. Qua the partnership, he functions in his personal capacity;
the third parties, in his representative capacity. The third parties, whom one
of the partners represents, cannot enforce their rights against the other
partners nor the other partners can do so against the said third parties."
This judgment given by a bench of three Judge of this Court is a complete
answer to the argument advanced on behalf of the assesses. A partner does not
act in a representative capacity in the partnership. He functions in his
personal capacity like any other partner. The provisions of the Partnership Act
and the Income Tax Act relating to partners and partnership firms will apply in
fully force in respect of such a partner. If any remuneration is paid or a
commission is given to a partner by a partnership firm, Section 40(b) will
apply even if the partner has joined the firm as a nominee of an HUF . The
Hindu Undivided family or its representative does not have any special status
in the partnership Act. Although the partnership firm is not a legal entity, it
has been treated as an independent unit of assessment under the Income Tax Act.
The assessment of a firm will have to be made strictly in accordance with the
provisions of the income Tax Act. The assessment of a firm will have to be made
strictly in accordance with the provisions of the Income Tax Act. The law has
to be taken as it is. Section 40(b) applies to certain payments made by a firm
to its partners. Neither the firm nor its partners can evade the tax law on the
pretext that although in law he is a partner but in reality he is not so. He
may have to hand over the money to somebody else. That may be his position qua
a third party. But the firm has nothing to do with it.
paid the commission to one of its partners. it cannot get any deduction in its
assessment for that payment because of Section 40(b) of the Act expressly
prohibits such deduction.
basic principle that a firm is a compendious mode of describing the persons
constituting the firm who are its partners. The partner may be under an
obligation hand over the monies received by him to somebody else by virtue of a
sub-contract or any other arrangement. That will not change the character of
the payment by the firm to its partner or the status of the partner in the firm
. The firm is not entitled to get any deduction on account of payment of
Commission to a partner merely because the partner has an obligation to share
the money with somebody else. So far as the firm was concerned, the commission
was paid to one of the partners in his personal capacity.
provisions relating to assessment of the firm should not be construed in a way
to defeat its object.
40(b) forbids deduction of any amount paid by way of commission to a partner.
In the instant case, Rashiklal is a partner of the firm Rashiklal and Company.
The commission received by him from the partnership firm cannot be allowed as a
deduction from the business income of the partnership .
appeals, therefore, fails and are dismissed with no order as to costs.