Book profit for partner remuneration includes interest income credited to the profit and loss account under section 40(b)

Interest income credited to a firm's profit and loss account and assessed as business income is to be included in book profit for computing the ceiling on partner remuneration under section 40(b). The Tribunal followed co-ordinate bench decisions and held that, for Explanation 3 to section 40(b), the net profit shown in the profit and loss account cannot be split into separate heads of income or reclassified under section 14 to exclude such interest. The entire net profit reflected in the account remains relevant, so the Assessing Officer's disallowance was not sustainable.

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Issues: Whether interest income credited to the profit and loss account of a firm and accepted as business income could be excluded from book profit while computing the ceiling for remuneration payable to partners under section 40(b).

Analysis: The firm had earned interest on fixed deposits, net of interest paid on borrowings, and the amount stood credited to the profit and loss account and assessed as business income. The dispute turned on whether, for the purpose of Explanation 3 to section 40(b), the net profit as shown in the profit and loss account could be dissected by excluding such interest income. Following the co-ordinate bench decisions relied upon, the Tribunal held that the net profit of a firm is not to be split into different heads of income under section 14 for computing book profit under section 40(b), and that interest income forming part of the profit and loss account cannot be excluded merely because it is separately characterised.

Conclusion: The interest income remained part of the book profit for computing permissible partner remuneration, and the disallowance made by the Assessing Officer was not sustainable.

Ratio Decidendi: For computing book profit under section 40(b), the entire net profit as reflected in the firm's profit and loss account, including interest income forming part of that account, is to be taken into consideration without reclassifying or excluding it under other heads of income.

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