M. C. DESAI C.J. - This is a statement of case submitted under section 66(1) of the Income-tax Act by the Income-tax Appellate Tribunal, Allahabad Bench, partly the instance of the assessee and partly at the instance of the Commissioner of Income-tax, U.P. It arises out of an order passed by the Tribunal on June 27, 1959, in respect of assessment of the assessee to income-tax for the assessment year 1948-49, the accounting been framed by the Tribunal and are to be answered by us are as follows :
'(1) Whether, on the facts and in the circumstances of the case, the receipt of Rs. 35,01,000 constituted income liable to tax under section 10 of the Income-tax ?
(2) Whether it was competent to the Appellate Assistant Commissioner to invoke the provisions of section 12B for the assessment of Rs. 35,01,000 when the Income-tax Officer has assessed the amount under section 10 of the Income-tax Act ?
(3) Whether, on the facts and in the circumstances of the case, the receipt of Rs. 35,01,000 was taxable under section 12B of the Income-tax Act ?'
The first question is the question that requires to be answered first and it was framed at the instanace of the Commissioner. The other two questions arise only if the first question is answered against the Commissioner. The second question is framed at the instance of the assessee and is to be answered before the third question framed at the instnace of the Commissioner. The third question is to be answered only if the second question is answered against the assessee; otherwise it does not arise.
The assessee is a firm consisting if three partnerships belonging to the Bagla firm of Kanpur and carrying on the business of financing, money-lending, working as selling agent, etc. On April 29, 1946, the assessee entered into an agreement with three members of the Jaipuria family for constituting a partnership known as Bagla Jaipuria and Co. with the object of acquiring controlling shares in Swadeshi Cotton Mills and another mill. The three Baglas constituting the assessee-firm owned half-share in the partnership and the three Jaipurias owned the other half. They were to invest equally in the business of the partnership. The assessee was the selling agent of the Swadeshi Cotton Mills Co. Ltd. and it was agreed in the deed of partnership that they would cease to hold the selling agency with effect from October 6, 1946, and that the partnership would acquire the selling agency rights from the mills with effect from October 6, 1946. The Jaipurias held quote rights from the Swadeshi Cotton Mills Ltd. and they also were to hold them till October 5, 1946; thereafter, the quota rights were to be held by the partnership. The partnership commenced its business and acquired controlling shares in the Swadeshi Cotton Mills. On July 16, 1946, the Swadeshi Cotton Mills Ltd. appointed the partnership as its managing agents for 20 years. By an agreement dated October 7, 1946, the assessee retired from the partnership with effect from October 6, 1946, after receiving from the surviving partners the compensation of Rs. 35,01,000 in addition to the capital of Rs. 97 lakhs and odd invested by it in the partnership business and the interest accured thereon. The amount of compunction was fixed in an auction held under an agreement between the assessee and the Jaipurias. The Jaipurias offered to pay Rs. 35,01,000 if the assessee retired and the assessee did not offer a higher sum to be paid to the Jaipurias if they retired. The assessee received the amount of compensation under a receipt dated October 17, 1946, which described it as 'solatium and compensation for surrendering to the Jaipuria group our right, title and interest in running concern of Bagla Jaipuria & Co., who, inter alia, were appointed the managing agents of the Swadeshi Cotton Mills Co. Ltd. for a period of twenty years... with expectation of further renewals of like period.' The assessee thus lost its half share in the partnership and also gave up its selling agency rights held from the Swadeshi Cotton Mills Ltd. During the assessment of the assessee for the assessment year 1948-49, the Income-tax Officer treated the sum of 35 lakhs and odd as income received by the assessee and included it in the taxable income. The assessees contention was that it was a casual income but the contention was rejected. The Appellate Assistant Commissioner confirmed the assessment order on the basis that the compensation was income and alternatively on the basis that it was a capital gain within the meaning of section 12B. The Commissioner had not contended before the Income-tax Officer, and the latter had not decided, that the compensation amounted to a capital gain. On further appeal the Tribunal held that the compensation was not income from the business but was a capital receipt, that the Appellate Assistant Commissioner had jurisdiction to decide that it was a capital gain within the meaning of section 12B even though this claim had not been made by the department before the Income-tax Officer and that it was not a capital gain because there was no sale, exchange or any other kind of transfer by the assessee by its act of retiring from the partnership. There were two applications under section 66(1) for reference of the questions of law arising out of its order, one by the assessee and the other by the Commissioner and it allowed both the applications and referred the three questions.
The first important fact to be is that the assessee is the firm, Gangadhar Baijnath, and not the partnership, Bagla Jaipuria and Co. We are not concerned with the question whether anything paid by the partnership (I shall refer to Bagla Jaipuria and Co. as the partnership and the assessee as the firm) or anything received by it is a capital receipt or a revenue expenditure or income. The question before us is whether the amount of Rs. 35 lakhs and odd received by the firm is a capital receipt or a revenue (or taxable) income. Since the nature of a receipt, whether it is a capital receipt or a revenue income, depends upon the recipients business, we are concerned with the nature of the business carried on by the firm and not at all with the nature of the business carried on by the partnership. It is the partnership that had acquired the managing agency (of Swadeshi Cotton Mills C0. Ltd.) and not the firm. If the managing agency had been terminated prematurely and the money had been paid for the premature termination it would have been received by the partnership and not by the firm and the question of its nature would be wholly irrelevant.
Another important fact to notice is that the managing agency acquired by the partnership has not been terminated and it has received no compensation from the Swadeshi Cotton Mills Co. Ltd. for its premature termination and there does not arise any question of the nature of the compensation received for termination of a managing agency agreement. The managing agency agreement continues (I am speaking with reference to the accounting year) and the only alteration that has taken place is in the constitution of the partnership, which holds the managing agency. No assistances is, therefore, to be obtained from the decisions laying down that compensation paid for terminating a managing agency agreement is a capital receipt or a revenue income. Similarly, the question whether managing agency is a capital asset or something acquired in the course of carrying on a business also is irrelevant; it could have arisen only if the partnership were the assessee. So also the question whether something recevied for sale of managing agency is a capital receipt or a revenue income is irrelevant. It is irrelevant for another reason also, it being that there is no sale or any other kind of transfer of the managing agency; it was acquired by the partnership and continues to be with it. The relinquishment by the firm of its half share in the partnership may be a sale or transfer of another kind to the Jaipurias, the surviving partners, but it would be a sale or transfer of another kind of its right, title and interest in the partnership and not in the managing agency. It never surrendered its whatever right, title and interest it had in the managing agency.
The next fact to be noticed is that the firm carries on business in diverse lines. According to the statement of case, the business consists of 'financing, money-lending, selling agencies and like pursuits.' The Appellate Assistant Commissioner had found that 'the acquisition of the controlling interest and the managing agency in various companies is also a part of its normal business operation' but the Tribunal did not agree with this finding because there was no evidence to prove that 'the acquisition and sale of interest in the managing agencies is one of the incidents of the financing and money-lending activities of the assessee.' The finding expressly recorded by the Tribunal is that the investment by the firm of nearly a crore of rupees in the partnership business was with the intention of selling the managing agency rights with a view to make a profit.
There is no dispute about the firm being a partner of the partnership. Under the law a partnership cannot be a partner of another partnership, but the parties have treated the Baglas, who are the partners of the firm, as partners of the partnership though on paper the partnership was between the firm and the Jaipurias. Therefore, when I say that the firm was a partner of the partnership I mean that the partners of the firm were the partners.
The firm received Rs. 35,01,000 from the surviving partners of the partnership as compensation for its reliquishing its half share in the partnership. The nature of the receipt is not at all affected by the fact that the cheque was drawn by the partnership. After the retirement of the firm the partnership became indentical with the surviving partners and anything done by the partnership was as good as done by the surviving partners.
The question whether the receipt was a capital receipt or revenue income is not easy to answer but after considering the various decisions that have been cited before us and the tests laid down in them I am in favour of holding that the receipt was a revenue income. The nature of the business carried on by the firm is very important as pointed out in Strick v. Regent Oil Co. Ltd. Anglo-Persian Oil Co. (India) Ltd. v. Commissioner of Income-tax, Kettewell Bullen and Co. Ltd. v. Commissioner of Income-tax Wiseburgh v. Domville and Commissioner of Income-tax v. Jairam Valji. It was laid down in the case of Strick that whether an asset is of a capital nature depends on its character and functions, rather than on its size, that where the volume of trade carried out with existing capital assets is shrinking and the assessee in order to keep the volume of its business acquires new capital assets the expenditure on the acquisition is not a revenue expenditure and that there is a distinction between buying circulating capital and acquiring rights which enable one to get circulating capital. The question whether an expenditure is incurred on income or capital account is the same as the question whether a receipt is capital or income and the two questions are to be determined alike as inferences drawn from the facts found by the Tribunal : see Rolls-Royce Ltd. v. Jeffrey, per Viscount Simonds. In the case of Anglo-Persian Oil Co. Ltd. Rankin C.J. stated that the nature of a receipt depends upon the character of the business of the recipient. In Kettlewell Bullen and Co. Ltd.s case the assessees business was found to be of acquiring and operating managing agencies, and not dealing in managing agencies, i.e., buying and selling them. A managing agency acquired by it in accordance with its object was a fixed asset and not a stock-in-trade. It was for this reason that the Supreme Court held that the compensation received for relinquishing the managing agency before the expiry of its term was a capital receipt. In the case of Jairam Valji the Supreme Court said at page 164 that 'the determining factor must be the nature of the trade in which the asset is employed.' The question posed in the cases of Kettlewell Bullen and Co. Ltd., Wiseburgh Gillanders Arbuthnot and Co. Ltd. v. Commissioner of Income-tax and Commissioner of Income-tax v. South India Pictures Ltd. was whether the transaction resulting in a receipt affected the trading structure of the assessee or merely affected his trading operations. In the first case the Supreme Court laid down that compensation for concellation of a contract affecting the profit-making structure and involving the loss of an enduring trading asset is capital and compensation for cancellation of a contract which does not affect the trading structure or deprive the assessee of any enduring trading asset but leaves him free to devote his energies and organisation released by the cancellation to replacing the lost contract is revenue.
Shah J. observed at page 282 :
'Where on a consideration of the circumstances, payment is made to compensate a person for cancellation of a contract which does not affect the trading structure of his business, nor deprive him of what in substance is his source of income, termination of the contract being a normal incident of the business, and such cancellation leaves him free to carry on his trade (freed from the contract terminated) the receipt is revenue : Where by the cancellation of an agency the trading structure of the assessee is impaired, or such cancellation results in loss of what may be regarded as the source of the assessees income, the payment made to compensate for cancellation of the agency agreement is normally a capital receipt.'
In the second case, Harman J. held that the assessees business structure was not affected by the loss of one agency because he was left with managing agencies of nineteen other companies and one of the incidents of a business as an agent is that one agency may end and another begin. In the third case the assessee carried on multifarious businesses and the termination of the sole agency of a manufacturer was held to be in the normal course of his business and not affecting or impairing his trading structure. It was observed that the acquisition of the agency was in the normal course of his business and its termination, a normal incident of the business not affecting or impairing its trading structure. In the last case also the termination of an agreement was found not to affect or alter the structure of the assessees business because it was not one on which the whole of his business was built. Lord Russell observed in Inland Revenue Commissioners v. Fleming and Co. (Machinery) Ltd. :
'When the rights and advantages surrendered on cancellation are such as to destroy or materially to cripple the whole the whole structure of the recipients profit-making apparatus, involving the serious dislocation of the normal commercial organisation and resulting perhaps in the cutting down of the staff previously required, the recipient of the compensation may properly affirm that the compensation represents the price paid for the loss or sterilisation of a capital asset and is, therefore, a capital and not a revenue receipt.'
Accepting this as a general principal G.S.A. Wheatcroft writes in his British Tax Encyclopaedia, volume I, at page 1250 :
Except where the compensation can be regarded as capital on this basis, the normal rule is that compensation for the non-performance of a business contract is taxed on the same footing as the profits for the loss of which the compensation is paid.... In order to establish that the compensation on termination is a capital receipt, it appears necessary to show that the rights and advantages surrendered are such as to destroy, or materially to cripple, the whole structure, of the recipients profit-making apparatus.'
One way of distinguishing capital from revenue receipts is to take the classical economists distinction between fixed capital and circulating capital; receipts in respects of the former are not brought into the profit and loss account while the latter are. This test has been judicially described by Viscount Haldance in John Smith and Son v. Moore. Fixed capital is what is retained by the owner and turned to profit while circulating capital is parted with in order to yield profit. According to this test the firms share in the partnership was circulating capital and not fixed capital; it made a profit by parting with it an letting it change masters and not by retaining it.
Another broad test referred to by G.S.A. Wheatcroft at pages 1241-42 is that assets which form part of the permanent structure of the business and are the means whereby profits are made are regarded as capital and, therefore, not taxable. There is nothing to indicate that the partnership or the share in the partnership owned by the firm formed a part of the permanent structure of its business.
A managing agency may be acquired by a businessmen in the course of his business in order to carry it on by exploiting the managing agency or his business may consist wholly of exploiting the managing agency. If a business consists wholly of exploiting the managing agency or is started by acquiring it, termination of it means termination of the whole business and compensation received for the termination may be said to be a capital receipt. When the business consists of exploiting the managing agency its termination affects the business structure completely and nothing is left of the business. The managing agency is then identifiable with the business itself, and just as the business is an asset, so also the managing agency becomes an asset and just as compensation received for termination of a business is a capital receipt so also is compensation received for termination of the agency. The position would be different if a business is carried on in diverse lines and exploiting a managing agency is only one of the lines, or when a business consists of exploiting a number of managing agencies so that the termination of one does not affect the business, or acquisition and termination of a managing agency is a normal incident of the business, or the business consists of dealing in managing agencies, i.e., buying and selling them; in such a case terminating one managing agency does not affect the business, for the dealer is left free to carry on the business, in respect of other agencies or the agencies constitute his stock-in-trade. In the case of Kettlewell Bullen and Co. Ltd. it was pointed out at page 275 that compensation for loss of one of several agencies is income and at page 280, that when an assessees business consists of acquiring agencies and dealing with them compensation for termination of one may be a revenue receipt and that the test is whether the agency was in the nature of a capital asset or only a part of the stock-in-trade. In the case of Wiseburgh Harman J. said at page 191 that if an assessee 'had carried on no business other than his agency... and they provided his sole work, it might well be that its loss would have been the loss of a capital asset... if it is his entire livelihood one might say that that is the mans capital asset.' He held that Wiseburghs business structure was not affected by the wrongful termination of one agency agreement because 'he had other agencies from time to time and carried on business as an agent, and one of the incidents of such business is that one agency may end and another begin.' In the case of Jairam Valji the Supreme Court said that where the terminated agency was the sole business the compensation paid was held to be capital and where it was one of several agencies it was held to be revenue. It was pointed out that an agency contract may be either a capital asset or a stock-in-trade, an instance of the latter being an agency acquired by a person who deal in managing agencies. Gillanders Arbuthnot and Co. Ltd. was a case of 'vast array of business' and the compensation was held to be income. In the case of South India Pictures Ltd. the terminated agreement did not constitute the whole of the business of the assessee. The business carried on by the firm in the subject case was in diverse lines or of 'vast array'. It entered into the partnership in the course of its business and received compensation for relinquishing its rights in the partnership. It was left free to do this business and the relinquishment of its share in the partnership did not affect the structure of its own business. Actually with the help of the compensation it acquired controlling shares in two other companies, namely, the India United Mills Ltd. and the Muir Mills Ltd. Thus it devoted its energies and organisation released by the relinquishment of its share in the partnership to replacing the lost contract of partnership and the compensation received was revenue. The Tribunal did not realise this significance of the evidence that the firm acquired controlling interest in two businesses subsequent to the relinquishment of its share in the partnership. It may be true that what the firm did after relinquishing its share in the partnership might not lead to the conclusion that its entering into the contract of partnership was with the object of making a profit by relinquishing the contract but it would certainly show that its business structure was not affected and that it was left free to continue its business. The firm could not be identified with the partnership; exploiting the partnership was not its sole business. Its business did not start with the entering into the partnership. The partnership was entered into for the purpose of carrying on its business, i.e., the entering into the partnership was a normal incident of its business and so was its retiring from the partnership. The retirement from the partnership affected its trading operation and not its trading structure in the language of Shah J. in the case of Kettlewell Bullen & Co. Ltd.
There is a distinction between the existence of a business and the carrying on of a business similar to the distinction between the existence of jurisdiction and the exercise of jurisdiction; it was pointed out by the Supreme Court in the case of Kettlewell Bullen & Co. Ltd. A contract entered into by a dealer in certain goods for buying or selling the goods from, or to another person is a contract entered into in the course of carrying on the business and is not the business itself. Any profit made out of such a contract or any compensation received for wrongful termination of it is a revenue income and not a capital receipt. A managing agency is said to be different in nature from a contract, but merely because it is different compensation received for termination of it is not always a capital receipt. Even the compensation for wrongful termination of a contract is not always a revenue income. It is a capital receipt if the entering into the contract is the sole business or if the contract is terminated by a third party having an overriding interest, or if the agreement to terminate the contract includes a stipulation on the part of the businessman not to be similar business after the termination or the contract is of such a fundamental nature as in the cases of Van den Berghs v. Clark and Commissioner of Income-tax v. Maheshwari Devi Jute Mills Ltd. The partnership contract in the subject case does not come within any of the above exceptions and compensation received for its termination would be revenue income. But as I pointed out at the outset there is no termination of any contract and the payment in question was not by way of compensation for termination of any contract of agency.
Profit earned by a businessman from an act done truly in carrying on, or for carrying on, his business is a revenue income : vide United Bank of India Ltd. v. Commissioner of Income-tax. The assessee before the High Court of Calcutta was a bank, which invested its surplus funds in Government securities and it was held that the profit earned by it in selling the securities obtained by it was a revenue income because realising securities is a normal activity of a banking business. In the case of South India Pictures Ltd. compensation received by a businessman for premature cancellation of a contract entered into with him was held to be payment in the ordinary course of business to adjust the relation between him and the other party and, consequently, a revenue income. A solatium paid by a contracting party to an assessee on account of the loss of profit which would have been earned if the contract had not been terminated is different from a solatium paid to an assessee for his undertaking not to carry on the business and is a revenue income, as observed in the case of Jairam Valji. Compensation paid for loss of profit is held to be taxable just as the profits would have been if the contract had not been terminated : see Kettlewell Bullen & Co., Wiseburgh, Gillanders Arbuthnot & Co. Ltd. and South India Pictures Ltd. The firm here would have earned a profit from he partnership if it had not retired from it and the compensation was in lieu of the anticipated profit. The partnership expected profits from exploiting the managing agency of the Swadeshi Cotton Mills Co. Ltd. Normally receipt for less of a capital asset is a capital receipt and that for loss of a revenue income is a revenue income : vide the cases of Kettlewell Bullen & Co. Ltd. and Van den Berghs. In Kelsall Parsons & Co. Ltd. v. Commissioners of Inland Revenue an agency contract of Kelsall Parsons & Co. doing business of acting as an agent of manufactures was held to be incidental to the normal course of its business and compensation received by it for termination of it one year before the date of its expiry, as 'a surrogatum for one years profit' and, therefore, taxable. In short Bros. Ltd. v. Commissioners of Inland Revenue compensation received for cancellation of a contract entered into by Short Bros. Ltd. for building two steamers was held to be a revenue income. Rowlatt J. said that it was in no material sense compensation for not being allowed to make its profit and was 'simply a receipt, in the course of a going business, from that going business - nothing else' (Page 968). Lord Hanworth M.R., on appeal approved of this view of the transaction and observed at page 973 :
'There is, in the ordinary course of carrying on their trade, an adjustment made between them and their clients or contractors.... it is an immediate payment under which freedom in the course of business is received from the responsibility of carrying out the two contracts..... it was not truly compensation for not carrying on their business : it was a sum paid in ordinary course..... to adjust the relation....'
'In the case of Rolls-Royce Ltd. Viscount Simonds and Lord Reid held that compensation for supply of the know-how was a revenue income because the assessee did not part with its asset but used or traded in it and its capital asset was in no way diminished by its supplying the know-how to its customers. In the instant case also no capital asset of the firm was diminished by its relinquishing its share in the partnership. The test propounded by Bankes L.J. in British Dyestuff Corporation (Blackely) Ltd. v. Commissioners of Inland Revenue is 'Is the transaction in substance a parting by the company with part of its property for a purchase price, or is it a method of trading by which it acquires this particular sum of money as part of the profits and gains of that trade ?' This test was approved by the House of Lords in Evans Medical Supplies v. Moriarty and in the case of Rolls-Rolyce Ltd. by Viscount Simonds at page 582. The firm acquired the sum of Rs. 35 lakhs and odd rather by adopting a method of trading than by parting with its property.
Even if it be said that the firm did not deal in managing agencies, that its acquiring a managing agency was acquiring an apparatus of business and that, consequently, a managing agency is a capital asset, the important facts here are that the assessee never acquired any managing agency and never received and compensation for termination of a managing agency agreement.
The case closet to the present case is Bharani Pictures v. Commissioner of Income-tax, in which the High Court of Madras held that when a person doing business in producing films enters into a partnership for sharing the cost of production of a film and subsequently retires from the partnership on receiving compensation the receipt is a revenue income. The contract of partnership was held to have been entered into in the ordinary course of the business and to have not formed the structure of the profit-making apparatus. In the instant case, the Appellate Assistant Commissioner has recorded the finding of fact that the contract of partnership between the assessee and the Jaipurias was 'a normal contract in the course of the carrying on of the money-lending and share investment business of the... firm.'
The case of Kettlewell Bullen & Co. Ltd. in which the compensation was held to be capital receipt is distinguishable because we are not concerned here with compensation for wrongful termination of any managing agency agreement or even any contract and the firm never acquired any managing agency and never received and compensation on account of its termination. The Supreme Court itself emphasised a special circumstance which existed in that case, namely, that the compensation was received by the assessee not from the company with which it had entered into the managing agency agreement but from a third person, who intended to take its place as a managing agent. The Supreme Court treated the transaction as one of sale of the managing agency rights by the assessee to the third person and such a sale could not be a trading transaction. It pointed out that a managing agency is not an asset capable of being transferred and that the assessee, though it had transferred it, did not do so in the course of its business. All these considerations are out of place in the instant case. Lastly, the Supreme Court said that it was concerned in the case solely with the question whether a compensation for surrendering managing agency rights is a capital receipt or revenue income and not with an extensive area of enquiry as to what receipts are capital receipts and what revenue income (see page 270). In Commissioner of Income-tax v. Shaw Wallace & Co. compensation paid for premature termination of a contract appointing the assessee as a distributing agent was held to be a capital receipt. The decision has been discussed by the Supreme Court in the case of Kettlewell Bullen & co. Ltd. and is said not to have met with unqualified approval in subsequent cases. The Supreme Court itself has not agreed with it in all respects. Moreover, on the facts, it is distinguishable from the instant case. Sir George Lowndes said at page 141 :
'..... the sums.... can.... only be taxable if they are the produce, or the result, of carrying on the agencies..... But when once it is admitted that they were sums received, not for carrying on this business but, as some sort of solution for its compulsory cessation, the answer seems fairly plain.'
The assessee there did business as agents of various companies and compensation for termination of its contract with two companies could hardly be said to be a solatium for compulsory cessation of its business. Taxable income includes not only periodical receipts but also a lump sum payment. The rule that capital is a fund while income is a flow (see the article 'Economic and legal Differentiation of Capital and Income' by W. Strachan in 26 Law Quarterly Review, 40) is not universally true. In Commissioners of Inland Revenue v. Ledgard compensation received by the executors of a deceased partner for sale of his share in the partnership was held to be a capital receipt, but the deceased partners or his executors never did any business. The partnership was identifiable with the business of the partner and, therefore, the price was price of a share in the business. In V. Rangaswami Naidu v. Commissioner of Income-tax and A. K. Sharfuddin v. Commissioner of Income-tax compensation received by a partner for relinquishing his share in the partnership from the surviving partners was held to be a capital receipt. In Sharfuddin v. Commissioner of Income-tax Rajagopalan and Ramachandra Iyer JJ. merely followed Rangaswani Naidu v. Commissioner of Income-tax to which Rajagopalan J. was a party. In the case of Rangaswami Naidu v. Commisssioner of Income-tax it was laid down that a share in a partnership is a capital asset within the meaning of section 2(4A) of the Income-tax Act. This decision is relevant only when we have to consider section 12B and not when we have to consider whether compensation paid for relinquishment of a share in a partnership is a capital receipt or a revenue income.
I would, therefore, hold that the amount of Rs. 35 lakhs and odd received by the firm was a revenue income and not a capital receipt and answer question No. 1 in the affirmative.
Questions Nos. 2 and 3 do not arise in view of the above answer. Still I would answer them.
The department pleaded for the first time before the Appellate Assistant Commissioner that the receipt in question was a capital gain within the meaning of section 12B of the Income-tax Act as it stood prior to its amendment in 1957. Section 31 states the power of the Appellate Assistant Commissioner. He can allow an appellant to go into any ground of appeal not specified in the grounds of appeal if he is satisfied that the omission of that ground from the memorandum of appeal was not wilful or unreasonable. In disposing of an appeal, he may confirm, reduce, enhance or annual the assessment or set it aside and direct the Income-tax Officer to make a fresh assessment. There are no limitations on his power to confirm or enhance the assessment and confirming it on a ground other than that given by the Income-tax Act is not outside his power. So long as he confirms it, the ground of confirmation is irrelevant; there are no words in section 31 laying down that he can confirm assessment only on the grounds given by the Income-tax Officer. The fact that he has the power to allow an appellant to go into any ground of appeal not specified in the memorandum of appeal indicates that he is not confined even to the grounds mentioned in the memorandum of appeal and can permit any ground to be raised before him. An appellant has an opportunity of stating his grounds of attack in the memorandum of appeal and can take a ground not taken earlier before the Income-tax Officer. A respondent gets an opportunity of supporting the Income-tax Officers order only when he is heard at the appeal. The only question that can arise in respect of him is that he takes a ground not taken before the Income-tax Officer. There is no reason whatsoever to distinguish between him and the appellant and if the latter can take a new ground in attacking the Income-tax Officers order there is no reason why the respondent cannot take a new ground for supporting it. In Narrondas Manordass v. Commissioner of Income-tax Chagla C.J., with whom Tendolkar J. concurred observed at page 919 :
'... there are no words of limitation or qualification upon the power of the Appellate Assistant Commissioner in enhanching the assessment or setting aside the assessment.... the Appellate Assistant Commissioner has been constituted a revising authority against the decisions of the Income-tax Officer; a revising authority not in the narrow sense of revising what is the subject-matter of the apeal.... but.... in the sense that once the appeal is before him he can revise not only the ultimate computation... but he can revise every process which led to the ultimate computation.... he is entitled to revise the various decisions given by the Income-tax Officer.... and also the various incomes or deductions which came in for consideration...'
In Commissioner of Income-tax v. McMillan & Co. the Supreme Court held that an Appellate Assistant Commissiner can apply the proviso to section 13 of the Act even though it has not been applied by the Income-tax Officer. The disputed amount was received on October 17, 1946, the assessment year was 1948-49, the Income-tax Officer passed the assessment order on October 23, 1951, and the Appellate Assistant Commissioner disposed of the appeal on March 9, 1956. It was contended that the Appellate Assistant Commissioner could not tax the disputed amount after the expiry of four years, but there is no such limit on his power. The period of four years is mentioned in section 34(3); no assessment order can be made after the expiry of four years from the end of the assessment year. But this rule does not apply to an assessment or reassessment made in consequence of, or to give effect to, any finding contained in an order under section 31. Therefore, if an Appellate Assistant Commissioner when hearing an appeal finds that a certain amount is taxable on a ground other than that given by the Income-tax Officer, his assessing it on that ground, even if it amounts to his passing an assessment order, is not subject to the limitation of four years. Question No. 2, therefore, should be answered in the affirmative.
Under section 12B, as it was in force during the assessment year in question, capital gains meant profits or gains arising from the sale, exchange or transfer of a capital asset, effected between certain two dates. The relinquishment by the firm of its share in the partnership was between the two dates but was neither a sale nor a transfer and was not even alleged to be an exchange. In Commissioner of Income-tax v. Provident Investment Company Ltd. the Superme Court held that relinquishment is neither a sale nor a transfer and that section 12B does not apply to it. In the case of a partnership consisting of A, B and C the effect of As selling his share to B and C in proportion to the shares already held by them is the same as that of his retirement from the partnership. If he merely retires B and C become partners in the whole partnership in the same shares as held by them when A was a partner. If they buy As share in proportion to the shares held by them previously they retain the proportions of their shares held by them previously they retain the proportions of their shares but merely because the result is the same it cannot be said that one act is the same as the other. The law distinguishes between retirement or relinquishment and sale and if a partner merely retires or relinquished his share he is not to be deemed to have sold it just because the result is the same. The principle to be followed is that if an act can be of only one nature it may not be done at all, but if it is done it is necessarily of that nature and it is not open to the parties to it so say that they have done an act of a different nature. Even if they ostensibly call it an act of a different nature, the law will regard it as of the real nature. This may be called the doctrine of substance. Where two different acts producing the same effect can be done lawfully, the parties have the right to decide which of them to do and if they purport to do one, they cannot be deemed to have done the other, and certainly not on the ground that by doing the former they escape a statutory obligation. If by doing the former they escape a statutory obligation to which they would have been subject if they had done the latter it is the fault of the legislature, inasmuch as it imposes an obligation on the doing of one act and not on the doing of the other (so that there is a temptation to do the latter) or does not prohibit the latter. This may be called the doctrine of legal form. Here the firm could either relinquish its share in favour of the surviving partners or sell it to them; both the acts could be done lawfully. If it had sold it there would be a sale within the meaning of section 12B but as it merely relingqished it there was no sale. According to the theory of legal form it could not be deemed to have sold its share so that the sale price could be taxed as a capital gain.
There is no question of applying the doctrine of substance because the act purporting to have been done could not only have been done physically but also could have been done lawfully. For the purposes of section 12B one must consider the form of the transaction, though for the purpose of deciding whether a receipt is a capital receipt or a revenue income, one might consider the substance. In Bankey Lal vaidya v. Commissioner of Income-tax, to which I was party, it was decided that when one partner on the dissolution of a partnership takes up the entire business and pays the retiring partner the price of his share, the price received by the latter is not a capital gain. My answer to question No. 3 is, therefore, in the negative and in the assessees favour. Thus my answers to the three questions are :
(1) - Yes.
(2) - Yes.
(3) - No.
A copy of this judgment should be sent to the Income-tax Appellate Tribunal as required by section 66(5) under the seal of the court and the signature of the Registrar. Since the ultimate result is in favour of the Commissioner, he should get his costs of the reference, which should be assessed at Rs. 1,000 from the assessee. Counsels fee should be assessed at Rs. 1,000.