1986 (10) TMI 51 - AT - Income Tax

Tribunal rules firm-partner transaction as sale under Income-tax Act

The Tribunal upheld the decision of the authorities, ruling that the transaction between the firm and the partner constituted a sale under section 41(2) ... A Partner, Actual Cost, Written Down Value Issues Involved:1. Whether the authorities were justified in bringing to tax a sum of Rs. 1,03,708 as profit under section 41(2) of the Income-tax Act, 1961, on the transfer of machinery by the assessee-firm to a partner.2. Whether the transaction between the firm and the partner constitutes a 'sale' under section 41(2) of the Act.Detailed Analysis:Issue 1: Justification of Taxing Rs. 1,03,708 under Section 41(2)The primary issue in this appeal is whether the authorities were justified in taxing Rs. 1,03,708 as profit under section 41(2) of the Income-tax Act, 1961, on the transfer of machinery by the assessee-firm to a partner. The assessee-firm contended that the machinery was taken over by the partner at book value and that the transaction did not result in any sale or exchange. The difference between the written down value and the book value was not exigible to tax under section 41(2). However, the Income Tax Officer (ITO) rejected this contention, stating that there was a transfer of machinery by the firm to the partner for consideration, which was debited in the books. The Commissioner (Appeals) upheld the ITO's decision, relying on the case of CIT v. Bharani Pictures [1981] 129 ITR 244 (Mad.).Issue 2: Nature of the Transaction as 'Sale'The crux of the matter is whether the transaction between the firm and the partner constitutes a 'sale' under section 41(2). The assessee argued that the transaction did not amount to a transfer or sale, citing the case of Sunil Siddharthbhai v. CIT [1985] 156 ITR 509 (SC). The assessee further argued that section 41(2) created an artificial or notional liability and should be construed strictly. The term 'sold' in section 41(2) includes a transfer by way of exchange or compulsory acquisition but does not include a transfer in a scheme of amalgamation. The assessee contended that the transaction could not be treated as a sale because what belongs to the firm belongs to the partner, and there can be no sale between a firm and a partner.The departmental representative argued that the authorities correctly concluded that the amount was exigible to tax under section 41(2). The transaction had the necessary ingredients of a sale: transfer of property and payment of price. The firm continued its business, and the partner continued as a partner. The partner undertook to purchase the machinery for a price, which was paid through adjustment in the partner's account.Tribunal's Findings:The Tribunal carefully considered the rival submissions and the legal precedents. It noted that section 41(2) applies where any building, machinery, or plant is sold, discarded, demolished, or destroyed. The case law, including CIT v. Dewas Cine Corpn. [1968] 68 ITR 240 (SC) and Malabar Fisheries Co. v. CIT [1979] 120 ITR 49 (SC), consistently held that distribution of assets upon dissolution of a firm does not constitute a sale or transfer. However, in the present case, the firm was not dissolved, and the partner continued as a partner. The Tribunal emphasized that during the continuation of the firm, when a partner takes over an asset, the transaction must be examined to determine if it constitutes a sale.The Tribunal referred to the case of Addanki Narayanappa v. Bhaskara Krishnappa AIR 1966 SC 1300, which clarified that partnership property is owned collectively by the partners, and no partner can claim exclusive rights over any specific property during the partnership's subsistence. The Tribunal also examined the decision in Bharani Pictures' case, which held that a firm could sell property to a partner, and all ingredients of a sale were present in such a transaction.The Tribunal concluded that the transaction in question satisfied the twin ingredients of a sale: transfer of property and payment of price. The firm continued its business, and the partner continued as a partner. The partner paid the price through adjustment in the account. Therefore, the transaction was a sale, attracting the provisions of section 41(2).Conclusion:The Tribunal upheld the decision of the authorities below, concluding that the transaction constituted a sale under section 41(2) and dismissed the appeal. The difference between the written down value and the book value was rightly brought to tax as profit under section 41(2).