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Commissioner of Income-tax, Karnataka-i Vs. Shambulal Nathalal and Company - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtKarnataka High Court
Decided On
Case NumberIncome-tax Reference Case No. 133 of 1977 in R.A. No. 401 of 1976/77
Judge
Reported in(1984)39CTR(Kar)195; [1984]145ITR329(KAR); [1984]145ITR329(Karn); [1985]23TAXMAN93(Kar)
ActsIncome Tax Act, 1961 - Sections 143, 144, 170, 187, 187(2), 188, 189, 259 and 259(2)
AppellantCommissioner of Income-tax, Karnataka-i
RespondentShambulal Nathalal and Company
Appellant AdvocateK. Srinivasan, Adv.
Respondent AdvocateK.R. Prasad, Adv.
Excerpt:
- code of criminal procedure, 1973 [c.a. no. 2/1974]. section 458: [dr. k. bhakthavatsala, j] offences under sections 341 and 352 i.p.c., limitation for taking cognisance incident taking place on 2.8.2005 cognizance taken on 4.6.2007 punishment being imprisonment for a term not exceeding one year held, as per section 458 of cr.p.c., the court shall not take cognizance of an offence after expiry of the period of one year if the offence is punishable with imprisonment for a term not exceeding one year magistrate erred in taking cognizance of the offence beyond the period of limitation as prescribed under section 458 cr.p.c., - proceedings were quashed. - rama rao that section 187(1) would cover the case of a firm which is dissolved, but its business has been continued by a new.....venkatachalaiah, j. 1. in this reference under s. 256(1) of the i.t. act, 1961, the income-tax appellate tribunal, bangalore bench, bangalore, has referred the following question of law for the opinion of this court : 'whether, on the facts and in the circumstances of the case, the tribunal was justified in holding that the assessment for the year 1974-75 could be made only in accordance with section 188 and the single assessment for the whole year was not valid ?' 2. the assessee, m/s. shambulal nathalal & company, a firm of partners constituted under a deed of partnership dated july 17, 1950, consisted of 4 partners, viz., rashiklal nathalal, jayantilal, jawaharlal and krishna prabu. the instrument of partnership did not provide that the firm would continue after the death of any.....
Judgment:

Venkatachalaiah, J.

1. In this reference under s. 256(1) of the I.T. Act, 1961, the Income-tax Appellate Tribunal, Bangalore Bench, Bangalore, has referred the following question of law for the opinion of this court :

'Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the assessment for the year 1974-75 could be made only in accordance with section 188 and the single assessment for the whole year was not valid ?'

2. The assessee, M/s. Shambulal Nathalal & Company, a firm of partners constituted under a deed of partnership dated July 17, 1950, consisted of 4 partners, viz., Rashiklal Nathalal, Jayantilal, Jawaharlal and Krishna Prabu. The instrument of partnership did not provide that the firm would continue after the death of any partner. On January 9, 1973, Rashiklal Nathalal, one of the partners, died, whereupon the accounts of the firm were made up to January 9, 1973, profit and loss account drawn up and the profits distributed to the accounts of the partners. The bank accounts of the firm were also closed. The finding of fact recorded by the Appellate Tribunal is that there was, in fact, a dissolution of the old firm, M/s. Shambulal Nathalal & Company, upon the death of Rashiklal Nathalal.

3. On January 10, 1973, a new partnership came into existence consisting of the 3 surviving partners of old firm and two sons, namely, Kiran Kumar and Pradeep, of the deceased partner, Rashiklal Nathalal. The new partnership is evidenced by an instrument dated January 12, 1973. The assets and liabilities of the old firm were taken over by the new firm and new books of accounts and fresh bank accounts were opened. For the previous year ended 30th June 1973, corresponding to the assessment year 1974-75, two returns were filed, one by the dissolved firm for the period between July 1, 1972, and January 9, 1973 and the other by the newly constituted firm for the period between January 10, 1973, and June 30, 1973. It was claimed that two separate assessments should be made.

4. The ITO was apparently of the view that there was merely a change in the constitution of the firm within the meaning of s. 187(2) of the Act and, accordingly on December 17, 1974, made a single assessment clubbing the incomes for both the periods.

5. The AAC in appeal, however, accepted the contention that s. 187(2) of the Act was not attracted as the firm stood dissolved on the death of Rashiklal Nathalal and accordingly allowed the assessee's appeal on October 30, 1975, and directed the ITO to make two separate assessments of the two firms.

6. In the second appeal preferred by the Revenue before the Tribunal, it was contended that as there was no distribution of the assets of the old firm in specie had taken place and as the assets and liabilities of the old firm had been taken over by the new firm, s. 187(2) did apply. The Tribunal did not accept this contention and, accordingly, on December 7, 1976, dismissed the Department's appeal.

7. Section 187(1) of the Act provides that where, at the time of making an assessment it is found that a change has occurred in the constitution of the firm, the assessment shall be made on the firm, as constituted at the time of making the assessment. It deals with the identity of the persons of incidence. Sub-section (2) of s. 187 is explanatory of what for purposes of sub-s (1) is 'a change in the constitution of the firm'. If one or more of the partners cease to be partners or one or more new partners is or are admitted, and at least one of the partners before the change continues as a partner after the change, the events amount to a change in the constitution of the firm within the meaning of s. 187(1). Likewise, where all the partners continue but with a change in their respective shares or in the shares of some of them, it would also be a case of change in the constitution of the firm for purposes of s. 187(1). Section 188 says that where a firm carrying on business or profession is succeeded by another firm, and the case is not one covered by s. 187, separate assessment shall be made on the predecessor firm and the successor firm. Section 189(1) provides that where any business or profession carried on by a firm has been discontinued or where a firm is dissolved, the ITO shall make an assessment of the total income of the firm as if no such discontinuance or dissolution had taken place.

8. Section 187 contemplates a case of a partner ceasing to be a partner or a new partner being inducted in, so, however, that at least one of the partners of the firm, as previously constituted, continues in the firm as subsequently constituted. If all the partners go out, it would not be a case of change in the constitution of the firm. The effect of s. 188 is that where a firm carrying on a business or profession is succeeded by another firm, separate assessments should be made on the predecessor and successor entities. Section 188 also provides that if a case otherwise falling under s. 188 also attracts s. 187, then, such a case is taken out of the operation of s. 188. While s. 187 deals with changes in the constitution of the firm, s. 188 deals with succession of one firm by another and s. 189 with dissolution of the firm or the discontinuance of its business.

9. The question is whether though there was, factually, a dissolution of the partnership of the old firm on January 9, 1973, by the death of one of its partners and a new partnership came into being with effect from January 10, 1973, the mere circumstance that there was no distribution, in specie, of the assets of the old firm, and the assets and liabilities were taken over by the new firm which consisted of some of the partners of the old firm, makes it a case of a mere 'change in constitution of the firm' within the meaning of s. 187 justifying a single assessment clubbing both the incomes for the periods prior to and after the factual dissolution of the old firm.

10. Sri. S. R. Rajasekhara Murthy, learned senior standing counsel for the Revenue, contends that the scheme of ss. 187, 188 and 189 of the Act make special provisions, in the matter of assessment to income-tax, of a partnership firm, in departure from the general law of partners and that partnership being made as a distinct assessable legal entity, certain special rules as to what constitute 'a change in the constitution of firm' for purposes of s. 187 are enacted. Sri Rajasekhara Murthy says that the expression 'if one or more partners cease to be partners' admits of the position that a partner can 'cease to be a partner' by his death. He says that in such an event the special provision of s. 187 of the 'Act' excludes the operation of the principles of general law of partners which would have otherwise operated to bring about a dissolution of the firm and where special provisions are made in taxing statutes in derogation of the provisions in the Partnership Act, effect should be given to those special provisions and resort cannot be had to the law of partnership. Sri Rajasekhara Murthy further contends that by the special provisions in s. 187 all that is necessary is that the same business should have been continued and at least one of the old partners should continue after the change and that for attracting s. 187 it did not matter whether the out-going of one or more of the partners was brought about by retirement or death. Sri Rajasekhara Murthy says that the Tribunal fell into an error in its view that s. 187 was not attracted to the case.

11. Sri. K. R. Prasad, learned counsel for the assessee, however, contends that the idea of a 'change in the constitution of the firm' in s. 187(1) of the Act requires to be understood with reference to certain basic and fundamental principles of the partnership law and such an idea can operate only when the same firm continues and that when the firm ceases to exist by virtue of the ceases that are recognised as bringing about the cessation of the very existence of the firm, the relationship between partners, qua partners, snaps and the firm itself does not any longer admit of the idea of a change in its constitution. Sri Prasad says that the circumstance, the words 'cease to be partners' in s. 187(2)(a) of the Act might include a case of such cessation by death does not by itself affect the tenability of his argument. He says that for purposes of s. 187(2)(a) a partner can 'cease to be a partner' by death if, under the terms of the contract of partnership, death, ipso facto, does not entail the consequence of dissolution and the terms of the contract-or even, arguably, the course of subsequent conduct in that behalf-exclude such a consequence. But when for want of necessary provisions in the partnership contract, to save the partnership from dissolution by operation of law upon death of a partner, death entails dissolution, such a case would not be a case of 'ceasing to be a partner' within the meaning of s. 187(2)(a).

12. Sri Prasad contends that in the present case there is a finding of fact recorded by the Tribunal that was in fact a dissolution of the firm upon the death of Rashiklal-Nathalal and that, therefore, s. 187 is not attracted.

13. There is divergence of judicial opinion on this question. The view of the provisions of ss. 187, 188 and 189 of the Act taken by the High Courts of Allahabad, Andhra Pradesh, Calcutta, Delhi, Gujarat and Madras support the views canvassed for the assessee by Sri Prasad. Some of these cases are : Addl. CIT v. Harjivandas Hathibhai : [1977]108ITR517(Guj) , Addl. CIT v. Vinayaka Cinema : [1977]110ITR468(AP) [FB], Mathurdas Govardhandas v. CIT : [1980]125ITR470(Cal) , Dahi Laxmi Dal Factory v. ITO : [1976]103ITR517(All) [FB], Mavukkarai (N) Estate Tea Factory v. Addl. CIT : [1978]112ITR715(Mad) and Kaithari Lungi Stores v. CIT : [1976]104ITR160(Mad) .

14. However, the decision in Nandlal Sohanlal v. CIT [FB] supports the contention of Sri Rajasekhara Murthy.

15. In Sangam Silks v. CIT : [1980]122ITR479(KAR) , a Division Bench of this court had occasion to refer, with approval, the decision in Nandlal Sohanlal v. CIT but that was on a different aspect, namely, whether, even if a case fell within the scope of s. 187, two assessments had to be made.

16. As the argument in support of either view was based on, and closely followed, the reasoning of the earlier decisions of the High Courts, I may turn to some of the authorities cited by the representatives of either view.

17. In Addl. CIT v. Vinayaka Cinema, a Full Bench of the Andhra Pradesh High Court considered a case arising similarly. The assesses firm had initially 9 partners one of whom died and one other retired on August 17, 1968. The instrument of partnership did not provide for continuance of the firm even after the death of one of the partners-or, in other words, did not incorporate a term contracting against the consequences envisaged in s. 42(c) of the Partnership Act. By another instrument of partnership dated August 19, 1968, a new partnership with 9 partners was constituted in which 7 of the earlier partners continued. The business of the old firm was taken over and continued by the new partnership. For the assessment year 1969-70, corresponding to the previous year April 1, 1968, to March 31, 1969, two separate returns were filed, one for the period from April 1, 1968, to August 17, 1968, and the other from August 18, 1968, to March 31, 1969. The ITO, on the view that s. 187 applied, clubbed the two incomes for the two periods and made a single assessment. But the AAC allowed the assessee's appeal and held that there having been a dissolution of the firm on August 17, 1968, there was no scope for the application of s. 187 and directed two separate assessments to be made. The Income-tax Appellate Tribunal, in the Department's second appeal, upheld the view of the AAC. Upon reference, the High Court by a majority decision, overruling its earlier Full Bench decision in Addl CIT v. Visakha Flour Mills [1977] 108 ITR 466, upheld the Tribunal's order. The learned Chief Justice, who spoke for the majority, referring to the scheme of ss. 187, 188 and 189, observed (p. 490 of 110 ITR) :

'Sections 187, 188 and 189 deal with three different situations. Section 187 deals with a case where the firm continues to be the same as before in the eye of law, but there is a change in the constitution either because of a partner coming into or another partner going out and so long as one partner is common, there is said to be a mere change in the constitution of the firm. Section 188 deals with a situation where there is succession of one firm by another firm and in such a situation, the assessment had to be made in the light of section 170. Section 189 deals with a situation where partnership firm is dissolved or its business discontinued. Just because some of the partners of the dissolved firm constitute a new partnership firm by a new agreement arrived at among themselves, it cannot be said that the old firm continues with a mere change in the constitution. It is altogether a new firm...'

18. In regard to the question whether the words 'cease to be a partner' obtaining in s. 187(2)(a) of the Act includes a case of death, a distinction was made and cases of death which, by virtue of special provisions in partnership contract, did not bring about a dissolution, were alone held to come within the ambit of that clause. Reliance was placed on the observations of the Madras High Court in Kaithari Lungi Stores v. CIT : [1976]104ITR160(Mad) , where it was observed (p. 164) :

'In our opinion, therefore, the words 'ceasing to be partners' in section 187(2) would also include a case of death of a partner when such death, by reason of a contract to the contrary or by reason of any law, did not bring about the dissolution of partnership.'

19. One of the arguments of the Revenue in Vinayaka Cinema's case : [1977]110ITR468(AP) [FB] placed reliance on certain observations of the Supreme Court in Shivram Poddar's case : [1964]51ITR823(SC) and Kirkend Coal CO.'s case : [1969]74ITR67(SC) . The observations of the Supreme Court in Shivram Poddars' case relied upon were these (p. 828 of 51 ITR) :

'Where the firm is dissolved, but the business is not discontinued, there being a change in the constitution of the firm, assessment has to be made under section 26(1), and if there be succession to the business, assessment has to be made under section 26(2).'

20. Referring to the applicability of these observations to a case under sections 187 and 188, the learned Chief Justice said (pp. 481-482 of 110 ITR) :

'.....but it must not be forgotten that it was while dealing with the provisions of section 26(1) which dealt with both changes occurring in the constitutions of the firm and a newly constituted firm that those observation were made. Assessment undoubtedly had to be made under section 26(1) when there was a change in the constitution of the firm and when a firm was newly constituted. If a partnership firm was dissolved and the business of the firm was continued by another firm under the provisions of the 1922 Act, since there would be a newly constituted firm as distinguished from a change in the constitution of the firm, the provisions of section 26(1) of the 1922 Act had to be invoked. But the question is whether, with the change in the provisions of section 26(1) by the dropping of the reference to 'a newly constituted firm, occurring in section 26(1), the above observations of the Supreme Court have any force to the provisions of section 187(1) of the 1961 Act. We are unable to accept the contention of Mr. Rama Rao that section 187(1) would cover the case of a firm which is dissolved, but its business has been continued by a new firm, though some of the partners of the new firm may be common to the old firm as well.'

21. Referring to the concept of a 'change in the constitution of a firm', the learned Chief Justice observed (pp.484-485) :

'The very basic concept underlying section 187(1) is that one and the same firm must be continued throughout the assessment year under consideration. But there is a change in the constitution of the firm, though the firm, as an entity, continues as one and single entity, throughout the period. If the firm ceases to exist, the relationship of partners inter se comes to an end and, therefore, the firm can no longer be said to continue as before. Since the continuance of the existence of the firm is the basic concept underlying section 187(1), which speaks of a change in the constitution of the firm, it is obvious that the provisions of section 187(2) which defines 'for the purpose of this section section' what is meant by change in the constitution of the firm, cannot go contrary to the basic concept underlying section 187(1) .......It is obvious that, if the words 'if one or more of the partners cease to be partners' are understood in the sense of the sections in Chapter V of the Partnership Act without doing violence to the underlying concept of section 187(1), the notions of the Partnership Act and the Income-tax Act can be reconciled. There is nothing in the Income-tax Act which compels us to take a different view and which compels us to hold that the scheme of these sections and the basic concept under the Partnership Act are departed from when the Legislature enacted section 187(1)..... If there is a dissolution, the firm comes to an end and if a firm comes to an end, there cannot be a continuity of the firm as it stood prior to its dissolution and, therefore, after the dissolution, there cannot be said to be a mere change in the constitution of a firm.'

22. I may observe here that the concept of succession contemplated in s. 188 includes a case where a partnership is dissolved and a new firm takes over and continues the business of the quondam partnership. The point is whether a case which is otherwise one of succession falling under s. 188 ceases to be so and becomes a mere 'change in the constitution of the firm' for the purpose and within the meaning of s. 187(2)(a) and is, accordingly, taken out of the purview of s. 188 by some special rule said to be contained in 187 which departs from the general law of partnership and averts the consequences of the interfering dissolution. The two opposite views canvassed in the case essentially turn on an answer to this question.

23. On this aspect the Calcutta High Court in Mathurdas Govardhandas' case : [1980]125ITR470(Cal) has held :

'Section 189 deals specifically with the case of the dissolution of a firm. This is an independent section and is not subject to either s. 187 or s. 188. Therefore, where there is a dissolution of a firm, s. 189 will come into operation and the ITO is bound to assess the dissolved firm and, if the business of the dissolved firm has been taken over by another firm, in our view,the successor-firm will have to be assessed under s. 188. The operation of s. 188 in such a case cannot be stayed on the ground that the case might be covered under s. 187.

Section 187 of the I.T. Act no doubt gives a special meaning of definition to the expression 'change in the constitution of a firm', but the said section ex facie does not seek to define of interpret dissolution of a firm. The concept of dissolution, therefore, has to be understood in the context of general law as also of the Indian Partnership Act.'

24. The majority decision in Nandlal Sohanlal's case [FB] is representative of the opposite view. Referring to the consequences of the death of a partner, an event which the general law of partnership, in the absence of a provision to the contrary in the contract of partnership, entails dissolution, the majority view held (p.196) :

'It has already been noticed that if one of the partners dies or an additional partner is introduced in a partnership, a new partnership comes into existence, if the case is viewed strictly in accordance with the provisions of the Indian Partnership Act, but the Act makes a through departure from these concepts and expressly provides that such changes would ensure continuity of the firm as a unit of assessment.'

25. On the scope of section 187, it said (p.196) :

'The purport of section 187(1) is that assessment on the firm which undergoes changes in its constitution has to be made as it stands reconstituted at the time of the making of assessment, provided of course one of its old partners continues to be its member at the time of framing the assessment. In a way it gives a special definition of the expression 'reconstituted firm. It implies that if the same business continue and at least one of the old partners continues as a partner, the change in the remaining personnel of the firm, whether one or more partners cease to remain partners or some new ones are added, the firm continues to have a legal entity as a unit of assessment.'

26. On a consideration of the matter, I am inclined to accept the reasoning and the conclusions in Vinayaka Cinema's case : [1977]110ITR468(AP) [FB], in preference to the view taken by the Punjab High Court in Nandlal Sohanlal's case [FB]. It is no doubt true that, as pointed out by the Supreme Court in CIT v. A.W. Figgies & Co. : [1953]24ITR405(SC) , that the firm is a distinct assessable unit and a technical view of the nurture of a partnership under the Indian or English law cannot be taken under the Indian or English law in applying the law of income-tax. But departure from the general principles of the laws of partners can only be to the extent expressly provided in the tax-law or necessarily implied by it. Section 187 does not compel a departure from the consequences of death of a partner on the continued existence of the firm which is basic to the concept of a change in its constitution-where there is no provision in the contract for its continuity despite death. The operation of s. 187 is dependent on the continued existence of the firm. A 'change in the constitution of the firm' as statutorily defined in s. 187(2)(a) might involve a succession in a limited sense but not all cases of 'succession' are changes in the constitution of the firm on account merely of there being no distribution of assets in specie and the business is continued and one or more of the earlier partners continue in the succeeding entity . The basic idea is one of continued existence of the firm as such and s. 187 while it provides, by necessary implication, for the continuance in cases of outgoing of old partners, and incoming of new partners, it does not either expressly or by necessary implication provide that the firm be deemed to continue where, in fact, it stands dissolved by the death of a partner. Take for instance a case, where out of say, 9 partners of the earlier firm which stands dissolved by death of one of them, the business is bifurcated and taken over and continued by two new firms each of which consists of couple of the old partners. Since there is no succession to the whole of the business the applicability of s. 188 may be open to question. But does s. 187 apply For the attraction of s. 187 something more than the mere continuance of some of the partners of the old firm in the succeeding entity and the mere non-distribution of assets in specie is required. The illustration emphasises the need for the continuity of the firm so as to make s. 187 applicable. That is the basic inarticulate premise underlying the concept of 'change in the constitution of the firm'. Section 187, in my opinion, which makes for continuance in a limited way, cannot be read to have provided for that continuity even if there is a dissolution caused by the death of a partner.

27. There is one other circumstance that persuades me to the view I take. The present 1961 Act, which replaced the 1922 Act, is based on the Law Commission's 12th Report (1958) and the Direct Taxes Administration Enquiry Report (1959). One of the external aids to construction is the history of the legislation. Regard must be had not only to the words used in the statute but to the history of the legislation and reasons which led to its framing and promulgation; and to the mischief which had to be cured as well as the cure provided. In Eastman Photographic Materials Co. v. Comptroller-General of patents, Designs and Trade-marks [1898] AC 571 , this rule was stated thus (p. 576) :

'My Lords, it appears to me that to construe the statute now in question, it is not only legitimate but highly convenient to refer both to the former Act and to the ascertained evils to which the former Act had given rise, and to the later Act provided the remedy. These three things being compared, I cannot doubt the conclusion.'

28. This passage was referred to with approval by the Supreme Court in CIT v. Sodra Devi : [1957]32ITR615(SC)

29. The Law Commission, referring to the amendments resulting in the present scheme of ss. 187, 188 and 189, said :

'65(3) There was some difficulty in determining when there is a change in the constitution of a firm and when there is a succession. The specific circumstances which result in a change in the constitution of a firm have now been defined. Notes to clause 194

30. The words in existing section 26(1) 'or a firm has been newly constituted' do not exactly indicate what is intended. The preceding words 'change in the constitution of a firm' would cover cases where the old firm continues, in the sense that some but not all the members of the firm are changed. In other words, where the firm consists of partners A, B and C, the dropping out of A and B and the coming in of new partners, D and E, would merely be a case of change in the constitution of the firm. The words 'a firm has been newly constituted' would, therefore, appear to be redundant. They have, therefore, been omitted in the draft at the same time, giving a definition of 'change in constitution' so as to indicate its exact scope.

31. It may be added that where a firm is dissolved and a new firm is formed, the case be left to be governed by existing section 26(2).' (vide Twelfth Report, p. 448).

32. The view I take of the matter accords with what the Law Commission had in view.

33. Accordingly, for the forgoing reasons, I answer the question referred in the affirmative and against the Revenue. No costs.

Rama Jois, J.

34. The question referred for our opinion and all the relevant facts have been set out in the order of my learned brother, Sri Venkatachalaiah J., Therefore, repetition is unnecessary.

35. Material facts which are not in dispute are -

(i) On January 9, 1973, one of the partners of the firm, M/s. Shambulal Nathalal and Company died.

(ii) There was no clause in the partnership agreement that the death of a partner would not bring about dissolution. Therefore, by virtue of section 42(c) of the Partnership Act the firm stood dissolved consequent on the death of a partner.

(iii) On January 10, 1973, a new partnership was brought into existence under the same name consisting of the three surviving partners and the two sons of the deceased partner. As a result, three of the partners were common to the two firms, namely, the one as it stood prior to January 9, 1973, and the other constituted on January 10, 1973.

(iv) The business was not wound up.

36. There was no distribution in specie of the assets and liabilities of the old firm. They were taken over by the new firm and the same business was continued under the same name and style uninterruptedly.

37. The question for consideration is whether the case falls under s. 187 or s. 188 of the I.T. Act (hereinafter referred to as 'the Act'). The answer depends upon the correct construction of ss. 187 and 188.

38. The thrust of the argument of Sri K. R. Prasad, the learned counsel for the assessee, was that when a firm is dissolved, and it is succeeded by another firm, it would be governed by s. 188 and the concept inherent in the phase 'change in the constitution of the firm' used under the Partnership Act does not include a case of dissolution, and the same phrase used in s. 187 cannot be held to include dissolution of a firm.

39. It may be that under the law of partnership the phrase 'change in the constitution of the firm' has a meaning different from the one conveyed by the word 'dissolution'. But for the purpose of the I.T. Act, sub-s. (2) of s. 187 makes a departure. Section 187(1) states that if at the time of making an assessment on a firm under the Act, it is found that a change has occurred in the constitution of the firm, a single assessment shall be made on the firm as constituted at the time of making the assessment. Section 187(2) creates a legal fiction. According to it, if between the erstwhile firm and the firm existing on the date of making assessment even one of the partners is common, whatever be the reason for such a change - i.e., death, or retirement, with or without dissolution-such a change, for the purpose of s. 187, must be regarded as only amounting to 'a change in the constitution of the firm', which means even though under the Partnership Act a situation to with the death of a partner, without there being a clause in the partnership agreement that the firm will continue, brings about dissolution by force of s. 42(c) thereof, the same is regarded only as a change in the constitution of the firm, by s. 187(2) of the Act for the purpose of making assessment under the Act. It is a settled rule of construction that a legal fiction created for a specific purpose must be given effect to. The following observations of the Supreme Court, while interpreting similar provisions in the 1922 Act, in CIT v. A. W. Figgies & Co. : [1953]24ITR405(SC) , are apposite :

'The partners of the firm are distinct assessable entities, while the firm as such is a separate and distinct unit for purposes of assessment. Sections 26, 48 and 55 of the Act fully bear out this position. These provisions of the Act go the show that the technical view of the nature of a partnership, under English law of Indian law, cannot be taken in applying the law of income-tax.'

40. The Full Bench of the Punjab and Haryana High Court, repelling a contention similar to the one raised for the assessee, in the case of Nandlal Sohanlal v. CIT [FB], after referring to the judgments of the Supreme Court in C. A. Abraham v. ITO : [1961]41ITR425(SC) and in CIT v. Angidi Chettiar : [1962]44ITR739(SC) , said thus [P. 194 of 110 ITR) :

'A perusal of the aforementioned authorities shows that where a special provision was made in a taxing statute in derogation of the provisions of the Indian Partnership Act, the effect was given to it and where no such provision had been made,decision regarding liability for payment of tax was made while taking into consideration the general provisions of the Indian Partnership Act. It is, therefore, obvious that where the provisions of the Indian Income-tax Act are clear, resort cannot be had to the provisions of another statute like the Indian Partnership Act. This view taken by the Division Bench of this court in Dharam Pal Sat Dev's case , even though based on a concession, represents the correct statement of law on the subject.'

41. Therefore, when the Legislature has deliberately made a specific provision to cover a particular situation, for the purpose of making an assessment on a firm under the Act, there is no scope for importing the concept and the provisions of the Partnership Act.

42. It is contended by the learned counsel for the assessee that the phrase 'change in the constitution of the firm' does not include 'dissolution' at all and, therefore, the case of a dissolved firm does not come within the purview of s. 187. This submission is also not correct. In the case of Shivram Poddar v. ITO : [1964]51ITR823(SC) , the Supreme Court considered the scope of ss. 26(1) of the Indian I.T. Act, 1922, which were the provisions corresponding to ss. 187 and 188 of the Act. The relevant portion of the judgment reads (p. 827) :

'Under the ordinary law governing partnerships, modification in the constitution of the firm in the absence of a special agreement to the contrary amounts to dissolution of the firm and reconstitution thereof, a firm at common law being a group of individuals who have agreed to share the profits of a business carried on by all or any of them acting for all, and supersession of the agreement brings about an end of the relation. But the Income-tax Act recognises a firm for purposes of assessment as a unit independent of the partners constituting it; it invests the firm with a personality which survives reconstitution. A firm discontinuing its business may be assessed in the manner provided by section 25(1) in the year of account in which it discontinues its business; it may also be assessed in the year of assessment. In either case it is the assessment of the income of the firm. Where the firm is dissolved, but the business is not discontinued, there being change in the constitution of the firm, assessment has to be made under section 26(1), and if there be succession to the business, assessment has to be made under section 26(2). The provisions relating to assessment on reconstituted or newly constituted firms, and on succession to the business are obligatory.' (Underlined by me)

43. The underlined portion of the judgment indicates that for the purpose of Indian I.T. Act, 1922, a change among the partners of a firm, brought about consequent on its dissolution, was also regarded as a 'change in the constitution of the firm' and in such a case single assessment alone was required to be made under s. 26(1) of the 1922 Act, if it was found that the business was not discontinued, i.e., the business of the dissolved firm was continued by the reconstituted or new firm, even in the absence of a provision like s. 187(2). Now, under that provision, the matter is placed beyond doubt by creating the specific legal fiction.

44. Learned counsel for the assessee nevertheless maintained that any other construction, than the on suggested by him, would lead to incongruous and anomalous results. He gave the following illustration :

'Take a case of firm in which A, B, C, D are partners. The firm gets dissolved in the middle of an year owing to death or retirement of C and D. A and B, by themselves or in partnership with E & F, start entirely a new firm. If the interpretation suggested for the Revenue is accepted a single assessment would have to be made for the whole year on the new firm including the income of the old firm, because two partners are common between the old and the new firms and the Legislature had not intended to go so far.'

45. In my view that would be the correct position, if only the new firm succeeds to the business of the erstwhile firm and in fact s. 187(2) is designed to bring about that consequence. But if in a case of the type given above the old business is not continued, s. 187 would not be attracted and the case of the old firm would fall under s. 189.

46. What the Legislature intended to achieve under ss. 187, 188 and 189 is evident from the wording of the three sections. They read :

'187. Change in constitution of a firm. - (1) Where at the time of making an assessment under section 143 or section 144 it is found that a change has occurred in the constitution of a firm, the assessment shall be made on the firm as constituted at the time of making the assessment :

Provided that -

(i) the income of the previous year shall, for the purposes of inclusion in the total incomes of the partners, be apportioned between the partners who, in such previous year, were entitled to receive the same; and

(ii) when the tax assessed upon a partner cannot be recovered from him, it shall be recovered from the firm as constituted at the time of making the assessment.

(2) For the purposes of this section, there is a change in the constitution of the firm -

(a) if one or more of the partners cease to be partners or one or more new partners are admitted, in such circumstances that one or more of the persons who were partners of the firm before the change continue as partner or partners after the change; or

(b) Where all the partners continue with a change in their respective shares or in the shares of some of them.

188. Succession of one firm by another firm. - Where a firm carrying on a business or profession is succeeded by another firm, and the case is not one covered by section 187, separate assessment shall be made on the predecessor firm and the successor firm in accordance with the provisions of section 170.

189. Firm dissolved or business discontinued. - (1) Where any business or profession carried on by a firm has been discontinued or where a firm is dissolved, the Income-tax Officer shall make an assessment of the total income of the firm as if no such discontinuance or dissolution had taken place, and all the provisions of this Act, including the provisions relating to the levy of a penalty or any other sum chargeable under any provision of this Act, shall apply, so far as may be, to such assessment....' (Underlined by me)

47. In my view the key for the clear understanding of the three sections is in the words is succeeded by another firm used in s. 188. Thus, s. 188 applied only to a case in which a firm is succeeded by another firm, which means the latter firm has taken over and continued the business of the former, there being no winding up of its business by the partners and settlement of accounts in exercise of such right available to them, after the dissolution under s. 46 of the Partnership Act.

48. Though s. 187 does not use the expression 'is succeeded by another firm' that section also applied to a case where a firm is succeeded by another is evident from the wording of s. 188, namely, 'where a firm carrying on a business or profession is succeeded by another firm and the case is not one covered by section 187'. The wording means, the case of a firm, which succeeds to another firm by taking over and continuing the business or profession would fall :

(A) under s. 187 if one or more of the partners are common to the succeeding firm and the succeeded firm; and

(B) under s. 188 if none of the partners are common to the succeeding firm and the succeeded firm.

49. Once the scope of ss. 187 and 188 are determined, the scope of s. 189 also stands determined. It would apply only to a case of dissolution without succession or to a case of discontinuance of business without dissolution.

50. I shall now give an illustration to bring home the point;

'I. Suppose ABC are partners of a firm X. It gets dissolved owing to the death or retirement of one of the partners and after such dissolution the remaining partners start a new firm with or without new partners calling it X (new) or Y.

(A) If the business of the firm X is discontinued and a new business is commenced by the firm X (new) or Y, s. 187 would not be attracted, even though some of the partners are common to firm X and firm Y or X (new), as the case may be, because the firm Y or the firm X (new) has not succeeded to the business of the firm X. For this very reason s. 189 also would not be attracted in relating to the making of an assessment on the firm Y (new) or Y.

(B) But if the business of the firm X is taken over and continued by the firm X (new) or Y, section 187 would be attracted.

II. When a firm X is dissolved for similar reasons and a new firm X (new) or Y is brought into existence, all the partners also being new, but the business of the firm is continued by the firm X (new) or Y, s. 188 would be attracted.

III. When a firm X is dissolved for similar reasons and the business is discontinued, or the business is discontinued without dissolution, assessment could be made on the firm X only under s. 189, as it stood dissolved and in the case of the firm X (new) or Y, as the case may be, if brought into existence for doing any new business, assessment would have to be made as required to be made normally on a new firm.

51. I am also not inclined to agree that because in the present case a dissolution was brought about by death, the case stands on a different footing. Whether the dissolution is brought about by death, or on the retirement of a partner as might have been agreed upon in the partnership deed, it makes no difference. If the argument of the assessee is conceded, by adding a clause in a partnership deed that any change in the constitution of the firm (sic), the provisions of s. 187 could be set at naught which, as pointed out by this court in Sangam Silks v. CIT : [1980]122ITR479(KAR) , was intended to prevent such manipulations.

52. To put it briefly, the interpretation yields the following results :

(i) A firm succeeding to the business (i.e., taking over and continuing the business without interruption) of another firm, dissolved or not, none of the partners being common, would be governed by s. 187.

(ii) A firm succeeding to the business (i.e., taking over and continuing the business without interruption) of another firm, dissolved or not, none of the partners being common, would be governed by s. 188.

(iii) A firm. whose business comes to an end, owing to discontinuance or dissolution (i.e., no firm succeeds to its business), it would be governed by s. 189.

(iv) If a new firm is constituted by some or all the partners of a pre-existing firm, after closing down the business, with or without new partners (there being no continuance of the old business) the case of the firm would not be governed by either ss. 187, 188 or 189, but the firm whose business was closed down be governed by s. 189.

53. For these reasons, I am inclined to agree with the view taken by the Full Bench of the Punjab and Haryana High Court in Nandlal's case , relied on by this court in another context in the case of Sangam Silks : [1980]122ITR479(KAR) .

54. Therefore, it appears to me that the crucial question to be determined, in order to find out as to whether a case falls under s. 187 or 188, is a question of fact, namely, has the firm as constituted on the date of making the assessment succeeded to the business carried on by another firm (dissolved or not) earlier

(a) If the answer is 'no', the case of the firm falls under neither s. 187 or s. 188;

(b) if the answer is 'yes' it would fall under s. 187, if one or more partners are common to the two firms and it would fall under s. 188 if none of the partners are common.

55. Applying the above test to the facts of this case, in my view, the case falls squarely under s. 187, because there is a clear finding of fact to the effect, that the business of the firm, Shambulal Nathalal, prior to its dissolution by reason of the death of one of its partners on January 9, 1973, was continued by the firm which came into existence on the next day, i.e., January 10, 1973, without interruption. There was no winding up of the business of the former, but it was continued by the latter. There was no distribution of assets and liabilities and no settlement of accounts. The new firm succeeded to the old firm and continued the business without interruption and even the name of the firm remained unchanged. Admittedly, three partners were common to both the firms, i.e., to the succeeded firm and the succeeding firm. Therefore, the case is governed by s. 187.

56. In the result my answer to the question referred is as follows :

'On the facts and circumstances of this case, the Tribunal was not justified in holding that the assessment for the year 1974-75 could be made only in accordance with s. 188 and that the (single assessment for the) whole year was not valid even if as between the two firms one or more of the partners are common.'

57. ORDER UNDER SECTION 259(2)

Venkatachalaiah, J.

58. Today we have pronounced separate opinions on the question of law referred. There is a divergence of opinion. The reasons in support of either view are set out in the respective opinions. The records may be placed before the Hon'ble Chief Justice for orders as to posting the matter before a third judge or a larger Bench, as the case may be.


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