1. This is a reference under Section 256(1) of the I.T. Act, 1961, by the Income-tax Appellate Tribunal, Indore, stating the case and referring the following questions for our opinion :
'(1) Whether, on the facts and in the circumstances of the case, the Tribunal is correct in holding that there would be one assessment of the firm for the period, Diwali 1972 to 5-6-73 and 6-6-73 to Diwali 1973, in terms of Section 187 of the Income-tax Act, 1961 ?
(2) Whether, on the facts and in the circumstances of the case, the Tribunal is correct in disallowing the interest paid to the account of Gokulchand representing his HUF funds and Shantilal, Kantilal and Gajendrakumar, representing their individual funds, as creditors to the firm in terms of Section 40(b) of the Income-tax Act, 1961, when the partners of the firm are in a different capacity '
2. Assessee is a registered firm. Assessment year in question is 1974-75 for which the accounting year ended on Diwali 1973. The assessee filed two returns, one relating to the period from Diwali 1972 to June 5, 1973, and the other from June 6, 1973 to Diwali 1973. According to the assessee, the earlier partnership consisting of two partners, namely, Gokul-chand and Mansukhlal, was dissolved by agreement dated June 5, 1973. A new partnership came into existence with effect from June 6, 1973. In this new partnership the partners of the earlier firm, namely, Gokulchand and Mansukhlal, continued as partners and three more partners were taken in. A deed of dissolution of the former partnership was duly executed. The assessee, therefore, claimed that it was a case of succession of the partnership firm by another firm and, therefore, two separate assessments for the two different periods should have been framed. The ITO held that since the two partners of the former firm continued as partners of the latter firm, it was a case of only change in the constitution of the firm and under Section 187 of the I.T. Act only one assessment for both the periods had to be framed.
3. Further, the ITO noted that interest on capital and loans had been paid to Shantilal, Kantilal and Gajendrakumar who were partners of the firm. The ITO disallowed this interest under Section 40(b) of the Act. The AAC and the Income-tax Appellate Tribunal confirmed the decision of the ITO on both the points. The questions reproduced above have, therefore, been referred to us by the Appellate Tribunal for opinion.
4. Admittedly, the former firm consisting of two partners had been dissolved by a dissolution deed. Thereafter, a fresh partnership came into being consisting of 5 partners including the two partners of the earlier firm. The earlier partnership having been constituted consisting of five partners, it could not be a case of change in the constitution of the firm as contemplated by Section 187(1) of the I.T. Act. It was a case of succession of one firm by another firm as provided under Section 188 of the Act. There are several decisions expressing conflicting views on this issue but this High Court in Ganesh Dal Mills v. CIT (M.C.C. No. 40 of 1977, decided on 30-9-80 : 136ITR762(MP) ) has taken the view that in such cases where there is a dissolution of a firm and constitution of a new firm thereafter, it will be a case of succession and not of change in the constitution of a firm. Following the above decision we hold that the Tribunal was not correct in its finding that there should be one assessment of the firm for the period Diwali 1972 to June 5, 1973 and June 6, 1973 to Diwali 1973 in terms of Section 187 of the I.T. Act, 1961. We, therefore, answer question No. (1) in the negative and in favour of the assessee.
5. Coming to question No. (2), the facts stated by the Tribunal show that the assessee-firm claimed deduction of interest paid to the partners of the firm on the capital or loans advanced by them. The ITO had rejected this claim under Section 40(b) of the I.T. Act. Copy of the assessment order (annex. A) shows that deduction of interest paid by the firm to three of its partners, namely, Shantilal, Kantilal and Gajendrakumar, was claimed by the assessee and the same was rejected. Before the AAC also the contention was that interest paid to the partners in their representative capacity as kartas of their respective HUFs was deductible and the bar under Section 40(b) of the Act did not apply to such payments. Identical argument was advanced before the Appellate Tribunal also and the Tribunal rejected this. However, at the time of the finalisation of the statement of case for reference to this court, a contention was raised on behalf of the assessee that the case of one of the partners, namely, Gokulchand stood on a different footing because he was a partner in his individual capacity whereas the deposits on which interest was paid were made by him as karta of his HUF. Before us also, during arguments, learned counsel for the assessee tried to differentiate the facts pertaining to the case of the partner, Gokulchand. We are constrained to reject this argument because this was never the case at any stage of the proceedings till the final order was passed by the Tribunal in appeal. The matter was raised only at the time when the order of reference was being finalised. Therefore, the case of Gokulchand cannot be considered on a separate footing or on different facts because that does not arise out of the order of the Tribunal.
6. As regards the application of Section 40(b) of the Act, it is clear that the assessee-firm paid interest to its partners and the same was not deductible under Section 40(b) of the Act. It really did not matter whether these partners had joined the firm in their individual capacities or as kartas of their respective HUFs. It has been held in CIT v. Bagyalakshmi and Co. : 55ITR660(SC) that whatever be the relationship of the partner qua his undivided family, in respect of the partnership, he acts as an individual qua the partnership firm. In CIT v. London Machinery Co. : 117ITR111(All) , the Allahabad High Court, in an identical matter, held that a person who is a partner in a firm enters into the contract in his personal capacity only and even though he represents his HUF, the interest paid to him will not be deductible for computing the business income in view of the embargo contained in Section 40(b) of the I.T. Act. The Madras High Court in Dwarkadas Rameshwar Goenka v. CIT : 127ITR397(Mad) , has taken the same view and has followed the London Machinery Company's case : 117ITR111(All) .
7. Learned counsel for the assessee relied on a decision of the Gujarat High Court in CIT v. Sajjanraj Divanchand  126 ITR 654. In the cited case the facts were different. One of the partners had entered into partnership in his individual capacity but the loan was advanced from the HUF account and interest was also credited into a separate account. The facts as found by the authorities below in the reference before us are not the same and, therefore, the statement of law made by the Gujarat High Court in the above cited case will not apply to this case. Similarly the decision of the Andhra Pradesh High Court in CIT v. K. Krishnaiah Chetty & Sons : 131ITR410(AP) , is not in point because the facts were more or less similar to those obtaining in Sajjanraj Divanchand's case  126 ITR 654.
8. In view of the discussion above we hold that the assessee-firm was not entitled to claim deduction of interest paid to its partners in view of the bar contained in Section 40(b) of the I.T. Act, 1961. Question No. (2) is, therefore, answered in the affirmative and against the assessee.
9. The reference is answered accordingly. There will be no order as to costs.