Interest on partners' capital is not part of acquisition cost for capital gains deduction under income-tax law.

Interest paid by a firm to partners on capital contributed by them is not deductible while computing capital gains under section 48(ii) of the Income-tax Act, 1961. The statutory deduction under capital gains computation is confined to cost of acquisition, cost of improvement, and expenditure incurred wholly and exclusively in connection with the transfer. Interest payable to partners under the Partnership Act, 1932, even if linked to capital used to acquire the asset and paid out of profits, does not form part of the cost of acquiring the capital asset. The deduction was therefore disallowed.

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Issues: Whether interest paid by a firm to its partners on capital contributed by them could be deducted while computing capital gains as part of the cost of acquisition under section 48(ii) of the Income-tax Act, 1961.

Analysis: The deduction under capital gains computation is confined to the statutory components of cost of acquisition, cost of improvement, and expenditure incurred wholly and exclusively in connection with the transfer. Interest paid to partners on capital, even if the capital was used to acquire the asset, is not the same as the cost of acquiring the capital asset. The right of partners to receive interest on capital under the Partnership Act, 1932, and the fact that such interest is payable out of profits, does not make it an allowable deduction in computing capital gains.

Conclusion: The interest paid to partners on capital is not deductible in computing capital gains under section 48(ii) of the Income-tax Act, 1961. The question was answered in the affirmative and against the assessee.

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