Capital receipt treatment applies to compensation for reduction of a partner's share in a firm's income-producing structure.

Compensation paid to a partner for reducing his share in a reconstituted firm was treated as a capital receipt because it related to impairment of an income-yielding asset, namely the partner's share in the firm. The partner's interest was reduced from 36% to 5%, and there was no material showing that he carried on entering into partnerships as a trading activity. The payment was distinguished from compensation received in the ordinary course of business on termination of a trading arrangement. The receipt was therefore characterised as compensation for loss of a capital asset and held not taxable as revenue income.

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Issues: Whether compensation received by a partner for reduction of his share in a reconstituted firm constituted a capital receipt or a revenue receipt.

Analysis: The assessee's share in the partnership was reduced from 36 per cent. to 5 per cent., and the amount received was paid for that reduction. On the facts, there was no material to show that the assessee was carrying on the business of entering into partnerships as a trading activity. The receipt was therefore linked to impairment of an income-yielding asset, namely, the assessee's share in the firm. The facts were distinguishable from the case where compensation was received in the ordinary course of business on termination of a trading arrangement. The payment answered the character of compensation for loss of a capital asset rather than profit in the course of business.

Conclusion: The receipt of Rs. 2,05,000 was a capital receipt and not taxable as revenue income.

Ratio Decidendi: Compensation received for reduction or impairment of a partner's share in a firm, where the trading structure or income-producing apparatus is affected, is a capital receipt unless special business features show that the payment is merely a trading profit.

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