Per Shri M. R. Sikka, Judicial Member - This appeal has been filed by the department against the order dated 12-2-1981 of the commissioner (Appeals), whereby he has allowed the expenditure of Rs. 45,776 to the assessee-firm section 37(1) of the income-tax Act, 1961 (the Act).
2. The assessee is a firm of chartered accountants. It came into existence under a deed of partnership dated 23-11-1970. This partnership deed was subsequently amended and clause 13(b) of the supplementary partnership deed dated 1-10-1975 provided as follows :
'That life insurance policies for Rs. 1 lakh each commencing from October 1975, shall be taken by the firm for R. K. Thakur, V. Rajaraman, R. K. Thakur, A. P. Jha, N. Awatar, D. Chaudhary and K. N. Gupta partners, for such term of years that the sum assured would be payable to the said partners after their competing the age of 59 but before the age of 61 years in each case and the premiums payable on the said policies will be payable out of the profits of the firm and shall be a first charge thereon provided that in the event of any of the said partners resigning or retiring from the firm for any reason whatsoever or is removed therefrom on or before 30-9-1980 the partners concerned shall be liable to refund 50 percent of retirement or removed taking place on or before 30-9-1985 the amount refundable by the concerned partner to the firm shall be 25 per cent of the total premium paid by the firm before such resignation, retirement or removed takes effect.'
3. During the accounting period relevant to the assessment year 1977-78, the assessee-firm paid the sum of Rs. 45,776 as premium in respect of the life insurance policies of Rs. 1 lakh each taken by it on th e life of the aforesaid seven partners. The contention of the assessee before the ITO was that the expenditure of Rs. 45,776 had been incurred by the firm with a view to provide incentive to his partners to stay on with the firm for a longer period, that their uninterrupted continuity enhanced the confidence of the existing and the prospective clients of the firm and so the expenditure had resulted in better services and larger profits to the firm. According to the assessee, therefore, the expenditure had been wholly and exclusively laid out for the purpose of its business and, hence, the same was allowable under section 37(1). The ITO rejected his claim of the assessee. He observed that the partners were the real owners of the firm and so the expenditure incurred by the firm on their behalf was, in fact, their personal expenditure. He was also of the view that the payment of the premium amounted to appropriation of profits and the same was disallowable under section 40(b) of the Act, like salary, interest and commission, etc., payable by a firm to its partners.
4. However, on appeal, the commissioner (Appeals) did not agree with the ITO. He of the view that the expenditure had been incurred by the assessee-firm in the interest of and for the promotion of its business and as such, the same allowable under section 37(1). He further held that the expenditure was not in the nature of expenses specified in section 40(b) and so the provisions of this section were not applicable to the present case. He, therefore, allowed the claim of the assessee.
5. Aggrieved by the order of the commissioner (Appeals), the department has filed the present appeal.
6. Before us, Mr. Joshi, the learned representative of the department, raised various arguments. In the first instance, he contended that the firm had no legal existence apart from its partners and it was merely a compendious name to describe its partners. According to him, therefore, the expenditure in question was, in fact, the expenditure of the partners and not of the firm and so the same, being of personal nature, was not allowable. In support of his arguments, he referred to the decisions of the Supreme Court of India in CIT v. A. W. Figgies & Co. : 24ITR405(SC) and Bist & Sons v. CIT : 116ITR131(SC) . Secondly, Mr. Joshi contended that the expenditure in question was of capital nature inasmuch as it conferred enduring benefit on the assessee-firm and hence, the same was not allowable under section 37. Thirdly, he referred to clause 13(b) of the supplementary partnership deed dated 1-10-1975 and submitted that since the premium was payable on the policies out of the profits of the firm, this was a case of application of the profits after the same had accrued to the firm. He further pointed out that section 40(b) was not exhaustive and its scope was wide enough to cover payment of premiums, etc., made by a firm behalf of its partners. Lastly, Mr. Joshi urged that there was no immediate between the expenditure and the business of the assessee-firm simply because there was a remote chance of the partners staying with the firm on account of the LIC policies, it could not be said that the expenditure on payment of premium had been incurred by the assessee-firm for the purpose of its business. According to him, therefore, the commissioner (Appeals) was not justified in allowing the same. In support of his arguments, he also relied upon - Meattles Ltd. v. CIT : 68ITR79(Delhi) and CIT v. Crawford Bayley & Co. : 106ITR884(Bom) .
7. Shri N. A. Palkhivala, the learned counsel for the assessee, on the other hand contended that the expenditure under consideration was not of personal nature. He urged that under the income-tax law, a firm was a separate assessable entity distinct from its partners and so it could not be argued that the expenditure incurred by a firm for the benefit of its partners was the personal expenditure of the partners and not the expenditure of the firm. He further pointed out that even the authorities cited by the learned representative of the department, i.e., A. W. Figgies & Co.s case (supra) and Bist & Sons case (supra) lay down the aforesaid proposition of law and did not advance the case of the department in any way. Shri N. A. Palkhiwala also urged that the expenditure was not an expenditure of capital nature because the assessee had not derived any advantage therefrom in the capital field. He referred to clause 13(b) of the supplementary partnership deed dated 1-10-1975 and pointed out that the premium payable on the policies of the partners constituted first charge on the profits of the firm. Another argument of Shri N. A. Palkhivala was that the scope of section 40(b) was limited and confined to the disallowance of some specific items, i.e., interest salary bonus, commission or remuneration paid by a firm to any of its partners. According to him, if the premium paid by a firm on the policies of its partners were also to be included in the items of disallowances under section 40(b) on the basis of analogy, there would be no end to the list of such items. According to him, section 40(b) on the contrary, impliedly supported his case and indicated that the expenditure under consideration was not disallowable. The last argument of Shri N. A. Palkhivala was that the expenditure had been incurred by the assessee-firm to ensure smooth and efficient running of its business by providing incentive to competent partners to stay on with the firm. He also urged that if the firm instead of secretly and stealthily paying extra remuneration to its partners adopted an honest and legal way to win over their loyalty, its conduct was worthy of appreciation and not condemnation. According to him, therefore, the expenditure in question was allowable under section 37(1).
8. In our opinion, the assessee deserve to succeed. The reasons are not far to find.
9. The assessee is a reputed firm of chartered accountants and its partners are well qualified, efficient and competent. If, therefore, the assessee-firm in order to encourage its partners to stay on with it legally takes life insurance policies for them and pays the premium on these policies, there is no good reason to reject the claim of the assessee. Clause 13(b) of the supplementary partnership deed dated 1-10-1975 clearly stipulates that the life insurance policies taken by the assessee-firm would mature at the partners attaining the ages of 59 to 61 and that in case the partners resign or retire earlier, they would have to refund 25 per cent to 50 per cent of the total premium paid by the firm before such resignation or retirement. Since the paid-up value of the policies would be insignificant this clause would obviously serve as a deterrent for the partners to leave the firm. Rather, it would tempt them to stick on to the firm. Thus, the assessee would be in an enviable position to retain the services of its efficient partners which would in turn inspire confidence in its present and prospect clients. Evidently, therefore, the expenditure in question would enable the firm to conduct and carry on its business more efficiently and more profitably. That being so, we hold that the expenditure is wholly and exclusively laid out for the purpose of the business of the assessee. It is, therefore, allowable under section 37(1).
10. The contention of the learned representative of the department, that the expenditure in question is an expenditure of personal nature of the partners because the firm is a compendious name to describe its partners, is not acceptable. Even the authorities cited by him, i.e., A. W. Figgies & Co.s case (supra) and Bist & Sons case (supra) lay down that under the income-tax law, a firm is a separate entity distinct from its partners. This is evident even from section 2(31) of the Act. Section 40(b) also shows by implication that the firm and its partners are separate and distinct entities for the purpose of the Act. We, therefore, reject the first objection of the department.
11. The second objection of the department that the expenditure of Rs. 45,776 is of capital nature is equally devoid of substance. It is difficult to see how this expenditure brings into existence an asset or advantage of ending nature. According to the Supreme Court in Empire Jute Co Ltd. v. CIT : 124ITR1(SC) what is material to consider is the nature of the advantage is in the capital field that the expenditure will be disallowed as capital expenditure. If the advantage consists merely in facilitating the assessees trading operation or enabling the management and conduct of the assessees business to be carried on more efficiently or more profitably while leaving the fixed capital untouched, the expenditure would be on revenue account even though the advantage may endure for an indefinite future. Again it has been held by the Supreme Court in the case of Gotan Lime Syndicate v. CIT : 59ITR718(SC) that it is not the law that in every case, if an enduring advantage is obtained, the expenditure for securing it must be treated as capital expenditure. The cardinal rule is that the question whether a certain expenditure is on capital or revenue account should be decided from the practical and business viewpoint. Looking from this angle, we are of the opinion that the expenditure in question which enables the assessee-firm to run to run its business more efficiently ensuring the continuity of its partners, is of revenue and not of capital nature.
12. The third objection of the learned representative of the department that the expenditure should be disallowed under section 40(b) is also without any merit. In the first instance, the expenditure on the payment of premium does not relate to the category of the items of expenditure which are enumerated in section 40(b). The scope of section 40(b) is not so wide as to embrace the type of expenditure involved in the present case. The items of expenditure which have to be disallowed are specifically mentioned in section 40(b) and the enlargement of the scope of section 40(b) so as to include the expenditure in question would be opposed to the intention of the Legislature. That apart, the payment for begin disallowed under section 40(b) must be made by the firm to the partners. In the present case, the amount on account of premium has been paid by the assessee-firm to the LIC and not to the partners. That being so, the expenditure in question is not disallowable under section 40(b).
13. The authorities cited by the learned representative of the department do not advance his case. The decision of the Delhi High court in the case of Meattles Ltd. (supra) is distinguishable. In that case, the assessee company carried on speculation business. The managing director of the company of the company revolved that the managing director should be insured as provided in article 44 of the articles of association of the company, both for life and for accident to the extent of Rs. 10 lakhs each and the premiums be paid out of the funds of the company. The company took out a policy for a sum of Rs. 8 lakhs under the terms of which the policy amount was payable to the executors, administrators and assignees of the managing director. No nomination or assignment was made in favour of the company. The question was whether the amount of Rs. 33,150, which was paid by the company in the relevant year by way of premium under that policy, was deductible in computing its profits under section 10(2) (xv) of the Indian Income-tax Act, 1922 (the 1922 Act) as expenditure wholly and exclusively incurred for the purpose of its business. The Delhi High Court held that, in the absence of any material to show that the managing director had may exceptional qualification or that the continuance of his life was of great importance for the business of the company or that the practice in the permitted such an investment, the sum of Rs. 33,150 paid by way of premium under the policy was not expenditure wholly and exclusively laid out for the purpose of the companys business and was not, therefore, deductible in computing its profits. The facts of the present case are obviously different. In the case of Meattles Ltd. (supra), the qualification of the managing director were not known. It was not shown that his services were indispensable. He was holder of practically all the shares of the company. The High Court specifically held that 'it would not be an exaggeration to say that he and the company could be considered as one entity'. In the present case, the assessee-firm and the partners are separate and distinct entities. The partners are well qualified and competent. Their services are definitely useful to the firm. So the assessee-firm is interested in retaining them and taking advantage of their services for a longer period by giving them incentive in the shape of policies taken for them till the age of 59 to 60. Thus, on the facts of the present case the authority of the Delhi High Court in Meattles Ltd.s case (supra) is of no avail to the department.
14. The other authority cited by the learned representative of the department i.e., Crawford Bayley & Co.s case (supra), is besides point at issue. This authority lays done that the true test of the application of the rule of division of income by an overriding charge is whether the amount sought to be deducted, in truth, never reached the assessee as his income. According to this authority, where, by the obligation income is diverted before it reaches the assessee, it is deductible; but where the income is required to be applied to discharge an obligation income is required to be applied to discharge an obligation after such income reaches the assessee, the same consequence does not, in law, follow. It is the first kind of payment which can truly be exempted and not the second. The second payment is merely an obligation to pay another, a portion of ones own income which has been received and is since applied. It is not clear why this authority has been quoted by the learned representative of the department. In our opinion, this decision has no bearing on the present case. In the case of Crawford Bayley & Co. (supra), the question for consideration was whether the deduction claimed by the assessee under section 10(1) of the 1922 Act was allowable. The high court held that the payment had to be made by reason of an ccccccccccovering title and so the claim of the assessee was allowable under section 10(1). The question whether the expenditure was admissible under section 10(2) (xv) did not arise for consideration. That being so, this decision of the Bombay high court which is not relevant for resolving the controversy before us does not adversely affect the claim of the assessee in any way.
15. Thus, after appraising the entire material on record and in view of the above discussion, we conclude that the expenditure in question was incurred by the assessee-firm in the interests of and for the promotion of its business. The commissioner (Appeals) has, therefore, rightly allowed the same under section 37(1). We, accordingly, confirm his order.
16. In the result, the appeal is dismissed. Per Shri Ch. G. Krishnamurthy, Vice President - I have gone through the order proposed by my learned brother, the Judicial Member, and I concur with him on every aspect. But, I wish to add a few lines which passed through my mind while I was hearing the case and while I was going through the order.
2. The expenditure of the nature we are concerned with in this appeal can be disallowed under the Act, as I perceive, only when it is a personal nature or when it is not required for the purposes of the business or when it is of capital expenditure or when there is a certain prohibition for the allowance of the expenditure. In my view, none exists in this case. The assessee is a firm and stipulation among then partners is that this expenditure shall be borne by the firm, as the expenditure of the firm, by making it a charge on the profits of the firm. Thus, this expenditure be treated as the personal expenditure of the firm, much less of the partners. It cannot be the personal expenditure of the partners because the obligation to take the insurance policy on their lives of such a magnitude is not on their volition but it is an imposition on them by the firm though with a view to secure a benefit to it. It cannot be the personal expenditure the firm because then film cannot have any personal expenditure other than the expenditure of the partners, especially when the film is an independent assessable unit. If it is not then personal expenditure of the partners, it cannot be the expenditure of the firm either.
3. But for this stipulation of taking an insurance policy on the lives of the important partners, there is no particular incentive provided to those partners, particularly in a firm of charted accountants, where contacts and personal skill and intellect play an important role in the assessee-firm. The firm having allowed it partners to acquire a stature and experience, at its cost, would like them to continue with it. The continuance of those partners in the service of the firm was ensured by taking an insurance policy maturing at the age of 60 and by providing for penalties for any premature retirement or resignation. When the firm has, thus, secured for its business activities, for that matter for its continued existence, the services of skilled partners, it cannot be but an expenditure incurred by the firm for the purpose of its business.
4. This may give rise to an argument that this is one way of apportionment of profit have accrued to the firm. It would have been in the nature of apportionment of profit had there not been a stipulation that the premium payable on the policies is a charge on the profits. An expenditure secured on the profits for its payment is an expenditure incurred and not an apportionment of the profits. The stage of apportionment of profits arrives after the profits are ascertained and not before. But, here, the stage of apportionment does not arise till the charge on the profits is secured and provided for Thus, the argument of the learned departmental representative, Shri Joshi, that it is an apportionment of profits cannot hold water.
5. My learned brother in his order has already dealt with the question as to how this expenditure cannot be termed as capital expenditure and I do not have to dwell on that aspect. There is no enduring advantage secured by the payment of this expenditure so as to call it an expenditure in the nature of a capital expenditure. If payment of salary and commission to a selling agent, though the agreement provided for the payment of the salary and commission stipulated for a period of say 10 years, is capital expenditure then this payment of insurance premium also can be regarded as capital expenditure. This is, thus, no more a capital expenditure than the payment of salaries or commissions.
6. Section 40(b) prohibits payment of only certain sums from being deducted in computing the profits of the firm. If we read the history behind the enactment of section 40(b), it is only to prohibit distribution of profits among the partners in the shape or guise of expenditure like interest, salary and commission that section 40(b) and its predecessor section in the 1922 Act were enacted. payment of interest, salary and commissions to partners of firm is a payment by self to self and that way it amounts to appropriation of profits. That was why those payment are not considered as contained necessary for the purpose of business. Thus the prohibition contained in section 40(b) to allow such expenditure cannot apply here. A payment of insurance premium, in the circumstances it came to be paid, cannot be regarded as a payment to self. It is a payment made by the firm on behalf of its partners to ensure the continued services of the partners so that will the benefit thus, made available to the firm, the could maintain its profit but also improve upon it. Thus the prohibition contained in section 40(b) does not, even on analogy, extend to this. This is akin to payment made by a firm for the user of, let us say, a machinery belonging to a partner or a building belonging to a partner. These are some of the thoughts that have occurred to my mind which I thought I will give expression to, not with a view that the order of the learned Judicial Member did not deal these matters, but more with a view to give expression to my thoughts.