1. The assessee, a registered firm, comprises of seven partners, namely, Amar Nath, Magan Nath, Ajit Pd. Jain, Tribhawan Pd., Sumati Pd., Dharam Parkash and Virender Kumar. All these partners share the profit and loss of the firm in the ratio of 1/7th for each partner. The head office of the firm is at Chawri Bazar and it has a branch at Pahar Ganj. The business of the assessee is to deal in paper and plywood products. The previous year for the assessment year 1971-72 ended on 31-3-1971.
2. Gokal Chand Jagan Nath Private Limited was incorporated on 20-11-1964. All the seven partners of the assessee-firm are the shareholders of this company. Even before the incorporation of the said limited company, the assessee had advanced certain moneys to the promoters of the aforesaid company. Up to 9-4-1965 the assessee-firm advanced to the aforesaid company a sum of Rs. 3,04,807. Out of this amount a sum of Rs. 1,75,000 was transferred to the share capital on account of the 7 partners. Thereafter, further advances made to the aforesaid company and the balances due on different dates from the above company were as under : 31-3-1966 4,54,447 31-3-1967 5,65,471 31-3-1968 2,44,290 31-3-1969 2,44,490 31-3-1970 2,44,490 31-3-1971 2,29,990 The aforesaid balance of Rs. 2,29,990 was not considered to be recoverable and was, therefore, written off as a bad debt during the previous year relevant to the assessment year 1971-72. It may be stated that the aforesaid company was incorporated to run a hard board paper mill. It went into production in November 1965 but due to losses the factory along with the land, plant and machinery, etc., were sold to Swarup Textile Ltd., Muzaffarnagar, UP, for a consideration of Rs. 3,30,000 vide sale deed 16-11-1967. Before the ITO it was claimed that the loss of Rs. 2,29,990 should be allowed either as a bad debt under Section 36(1)(vi) or as a trading loss under Section 28(i). The submission made before the ITO was that the advances made to the aforesaid company were for the purposes of the assessee's business.
According to the assessee, by advancing different amounts to the aforesaid company, the assessee would be in a position to earn profit by selling the goods manufactured by the said company and the assessee would be in a position to sell raw material to the said company. It was pointed out that during the assessment year 1966-67 the assessee had earned interest of Rs. 26,331 and similarly during the assessment year 1967-68 the assessee had earned interest of Rs. 22,447. This interest had been taxed as income under the head "Business". No interest was charged subsequently because the said company had already sold its plant and machinery and had refunded a major part of the loan. The ITO did not accept either of the two submissions. According to the ITO, the claim of the assessee for allowing the aforesaid amount as bad debt could not be accepted because (i) the assessee did not possess the money lending licence, (H) the partners of the assessee-firm and the shareholders of the said company were common, and (Hi) the claim for Rs. 2,29,990 had not become time-barred in this year. The ITO did not accept the assessee's claim for allowance of the aforesaid loss under Section 28(i) because the advances made represented capital investment and the advances were not for purpose of the assessee's business. The ITO, thus, disallowed the assessee's claim in respect of the loss of Rs. 2,29,990.
3. Aggrieved, the assessee filed an appeal to the AAC. Written submissions were made in a letter dated 17-5-1975. It was explained that the assessee-firm was started in the year 1954 with a view to carry on business of purchase and sale of paper board and plywood. In the beginning the assessee sold the products of Rohtas Industries Ltd., Dalmianagar. The assessee had given a deposit of Rs. 1,50,000 to Rohtas Industries Ltd. as a security for the payment of the price of the goods as the purchases were made on credit. On this security the assessee was receiving interest which was considered as business income forming part of the income of the paper board and plywood business. Along with the above agency the assessee had taken the agency of Hansore Plywood with whom a deposit of Rs. 1 lakh was made as a security as goods were purchased on cerdit. The interest income from this deposit was also considered as business income. The assessee took another agency of Straw Products Ltd. and gave a security of Rs. 20,000 as goods were purchased on credit. The arrangement with Rohtas Industries Ltd. was terminated and thereafter the arrangement with Straw Products Ltd. was also terminated. The breaking of these arrangements upset the business of the assessee.
4. Thereafter, the assessee changed its pattern of doing business and instead of giving security deposits the assessee started advancing moneys in a running account which was adjusted against the goods purchased. By making advances in a running account goods were purchased from Swatantra Bharat Paper Mills (P.) Ltd. Interest was charged from Swatantra Bharat Paper Mills (P.) Ltd. on the outstanding balances and such interest was shown as income from paper business. After the year 1967 the business of Swatantra Bharat Paper Mills Ltd. declined but the money advanced to them earned interest and such interest was shown as income of the paper business in the profit and loss account. It was claimed that the advances to Gokal Chand Jagan Nath (P.) Ltd. were on the same pattern as to Swatantra Bharat Mills (P.) Ltd. and the purpose of the advances was to earn interest, to sell the products of the aforesaid company and also sell raw material to the said company.
Interest of Rs. 26,331 and Rs. 22,447 was received during the assessment years 1966-67 and 1967-68, respectively. Thereafter no interest was received as Gokal Chand Jagan Nath (P.) Ltd. sold their factory and made a repayment of Rs. 3,27,650 out of the outstanding balance of Rs. 5,65,470 as on 1-4-1967. On these facts, the assessee claimed that the assessee was not only carrying on business of paper board but it was also carrying on business of money-lending for profit and gain which business was an integral part of the main business and was incidental to it.
5. The balance due from the aforesaid company as on 1-4-1968 was Rs. 2,44,290. The assessee was under the bona fide belief that the shareholders of the aforesaid company will make good the losses and would pay the entire amount to the assessee. Ultimately, a sum of Rs. 14,500 was received during the previous year relevant to this assessment and the balance sum of Rs. 2,29,990 should be allowed either as a bad debt or it should be allowed as a trading loss under Section 28(0- Reliance was placed on the following judgments-CIT v.Dhanalakshmi Corpn.  46 ITR 1031 (Mad.), Indore Malwa United Mills. Ltd. v. State of Madhya Pradesh  55 ITR 736 (SC), B.D.Kharucha v. CIT  65 ITR 403 (SC), T.J. Lalvani v. CIT  78 ITR 176 (Bom.), CIT v. P.M. Chinoy & Co. (P.) Ltd.  74 ITR 780 (Bom.) and CIT v. Jawala Prasad Radha Krishan  107 ITR 540 (All.). The AAC did not accept the assessee's submission that the sum of Rs. 2,29,990 could be allowed as a bad debt. He, however, allowed the sum of Rs. 2,29,990 as a trading loss incidental to the assessee's business. In allowing the loss as a trading loss the AAC relied on the judgments in the cases of B.D. Bharucha and T.J. Lalvani (supra). The revenue is aggrieved by this order of the AAC.6. The learned departmental representative submitted that Gokal Chand Jagan Math (P.) Ltd. which was incorporated on 20-11-1964 had 7 shareholders who were the same persons who were the partners of the assessee-firm. She submitted that the assessee-firm had made advances even to the promoters of the aforesaid company as would be evident from the fact that even on 13-4-1964 the assessee had advanced Rs. 36,892 to the promoters of the said company. Thereafter out of the advances made by the assessee-firm to the aforesaid company a sum of Rs. 1,75,000 was transferred to the share capital account on 16-3-1965. According to the learned departmental representative the advances made by the assessee to the aforesaid company were in the nature of capital and were made for setting up the factory of the aforesaid company. It was submitted that such advances a part of which could not be ultimately realised could neither be allowed as a bad debt or as a trading loss. It was pointed out that against the finding of the AAC that the aforesaid claim could not be allowed as a bad debt there was no appeal by the assessee and, therefore, the only question, for consideration was whether the claim of the assessee could be allowed as a trading loss.
She submitted that the two judgments in the cases of B.D. Bhanicha and T.J. Lalvani (supra) relied on by the AAC were distinguishable on facts. She referred to page 441 of the Commentary by Kanga & Palkhivala, 7th edn., vol. I, wherein the learned authors have observed as under: But if the real nature of the transaction is investment of capital rather than a loan, e.g., where the assessee buys shares in a company in order to provide the company with finances, the resulting loss would be a capital loss and cannot be allowed.
She also referred to page 503 of the aforesaid Commentary wherein it has been observed that "financial help rendered by a manufacturer to concerns supplying him with raw materials by way of investment of capital and not as advance payment of price of goods" is a capital expenditure. She referred to judgments in the case of CIT v. Coal Shipments (P.) Ltd.  82 ITR 902 (SC) and Blaze & Central (P.) Ltd. v. CIT  120 ITR 33 (Mad.) for the submission that payment made to ward off competition in business to a rival would constitute capital expenditure if the object of making that payment is to derive an advantage by eliminating the competition over some length of time.
She also referred to the decision of the Supreme Court in the case of M.K. Brothers (P.) Ltd. v. CIT  86 ITR 38 for the submission that if the subject of making the payment is to acquire a capital asset, the payment would partake of the character of a capital payment even though it is made not in lump sum but in instalments over a period of time. It was also submitted that the fact that interest from income from the aforesaid company had been treated as business income would not convert the loss into a trading loss as the loss was clearly of a capital nature. For all these reasons, it was submitted that the sum of Rs. 2,22,990 should not be allowed as a trading loss.
7. The learned counsel for the assessee supported the order of the AAC.In addition to the judgments relied on before the AAC (supra) he also relied on the Andhra Pradesh High Court judgment in the case of P.Satyanarayana v. CIT  116 ITR 803 and the Calcutta High Court judgment in the case of CIT v. Rohtas Industries Ltd.  120 ITR 110. He also relied on his detailed submissions made before the AAC vide letter dated 17-5-1975. From the copies of the accounts of Gokal Chand Jagan Nath Nahar (P.) Ltd., as maintained in the books of the assessee, it was pointed out that the assessee made a sale of goods worth Rs. 27,046 on 30-3-1966. Similarly, the assessee purchased goods from the aforesaid company for Rs. 34,388 on 20-5-1966, Rs. 46,084 on 29-6-1966 and Rs. 40,999 on 23-9-1966. These items of purchases and sales were pointed out to show the intention of the assessee in making advances to the aforesaid company. He submitted that the loss was not claimed earlier because after litigation with a party to whom money was advanced on behalf of the said company a sum of Rs. 14,500 was recovered in this year. He submitted that it was only in this year that the assessee lost all hopes of recovering any part of the sum of Rs. 2,29,990. When we put it to the learned counsel for the assessee that if the veil of incorporation was lifted, it would be apparent that the sum of Rs. 2,29,990 was due from the same persons who were the partners of the assessee-firm and as such the assessee could not claim any loss from its own partners, the learned counsel for the assessee submitted that such an argument should not be considered because such was not the case of the revenue. He also submitted that in law a partnership firm, the partners of the firm and a limited company were separate legal entities and, therefore, the loss incurred by the assessee-firm should be allowed.
8. In reply the learned departmental representative submitted that the ITO himself had stated that since the shareholders of the aforesaid company and the partners of the assessee-firm were the same the loss claimed by the assessee could not be allowed and as such the revenue was not making any new claim before us. She submitted that all the judgments relied on by the learned counsel for the assessee were distinguishable, on facts.
9. We have carefully considered the rival submissions. In our opinion, the AAC was in error in allowing the loss of Rs. 2,29,990 as a trading loss. It is not controverted before us that the 7 shareholders of Gokal Chand Jagan Nath Nahar (P.) Ltd. are the partners of the assessee-firm.
The firm is a compendious name for the partners and if the veil of corporate entity is lifted it would be apparent that a sum of Rs. 2,29,990 was due by the partners to themselves. Though the ITO in his assessment order has not used the expression "lifting the veil of corporate entity", he himself has noted that the partners of the assessee-firm and the directors and the shareholders of the aforesaid company are common. The partners of the assessee-firm cannot claim a loss of an amount which is due from themselves. It is true that for the purpose of income-tax the partnership firm, the partners of a firm and a limited company are treated as separate entities but the facts of each case have to be determined with a view to find out the true nature of the transaction. The true nature of the transaction in this case is that by forming a private limited company the partners have advanced money to themselves and it is the loss of a part of that money that they are claiming as a trading loss. In our opinion, such a loss cannot be allowed as a trading loss. No decided case on which the learned counsel for the assessee relied on, comes anywhere near the facts of this case. On this ground itself the order of the AAC is required to be reversed.
10. We will, however, consider the assessee's claim whether the amounts advanced on various occasions to the aforesaid company were during the course of the assessee's business. We may point out that even before the aforesaid company was incorporated on 20-11-1964 the assessee-firm had made advances to the promoters of the said company. Prior to 20-11-1964 the assessee had advanced a sum of more than Rs. 1,60,000 for the promotion of the aforesaid company. Out of the advances made up to 16-3-1965 a sum of Rs. 1,75,000 was transferred to the share capital account. When the assessee is found to have advanced a large amount even before the incorporation of the company, it cannot be said that the said advances were for the purpose of the assessee's business.
Thereafter, the assessee had made substantial advances and these advances are apparently for the purpose of establishing a factory for manufacture of fibre board by the aforesaid company. The said company had started production in November 1965 but because of losses it was sold on 16-11-1967. From the facts of this case, it is apparent that the advances were made by the assessee to the aforesaid company for the purpose of setting up a factory. The learned counsel for the assessee had argued that the advances were made to enable the assessee to sell the goods manufactured by the said company and thereby make profit. The assessee does appear to have purchased the goods worth Rs. 1,21,472 sold by the aforesaid company in the year ending 31-3-1977 but that by itself would not establish that such large advances were made only for making the aforesaid purchases. The advances were made by the assessee to the company for creating a source from where goods could be purchased. The creating a source for making purchases would be an enduring benefit and that the loss would be of a capital nature. Our finding, on the facts of this case, is that the advances to the aforesaid company were not made for facilitating the buying of goods manufactured by the said company but the advances were made for enabling the said company to establish a factory and create a source for making purchases, which was of an enduring nature. The advances made to the aforesaid company are entirely different from security deposits made to Rohtas Industries Ltd., Hansore Plywood or Straw Products Ltd. We would also not accept the assessee's submissions that the advances made to Gokal Chand Jagan Nath Nahar (P.) Ltd. were similar to the advance made to Swatantra Bharat Mills (P.) Ltd. because the latter company is in existence from September 1953 onwards and none of the partners of the assessee-firm is a shareholder of that company.
We have to consider the totality of the circumstances and on such a consideration we are convinced that the loans given to Gokal Chand Jagan Nath Nahar (P.) Ltd. were not for facilitating the purchase of goods manufactured by them but were in the nature of capital advances.
11. The learned counsel for the assessee had submitted that when interest of Rs. 26,331 for the assessment year 1966-67 and Rs. 22,447 for the assessment year 1967-68 received from Gokal Chand Jagan Nath Nahar (P.) Ltd. had been treated as income from business, the loss claimed should be allowed as business loss. We are afraid we cannot accept this submission because the taxability of the interest income as business income in the earier years is not determinative of the issue involved in this case.
12. We may also consider whether the loss claimed by the assessee partains to this year. We have already pointed out that the Gokal Chand Jagan Nath Nahar (P.) Ltd. had sold their factory in the year 1967. The income due on 1-4-1967 was Rs. 5,65,470 and during the year ending 31-3-1968 the assessee received Rs. 3,27,656. After adjusting the receipts, the balance as on 31-3-1968 was Rs. 2,44,290. It was at that stage that the assessee had to determine whether any loss had accrued.
According to the assessee, the amount was not written off in that year because it was expecting that the partners of the firm would make up the loss and that a recovery of Rs. 14,500 was made in this year. No recovery proceedings have been taken against the limited company and it cannot be said that the limitation period had expired in this year for making the recovery. The assessee does not appear to have filed a suit against the said company apparently for the reason that the shareholders and the directors of the company are the same persons as the partners. On the facts of this case, we cannot record a finding that the loss of Rs. 2,29,990 became a loss of the assessee only during this year.
13. We may now briefly refer to the judgments relied on by the learned counsel for the assessee. In the case of Dhanalakshmi Corpn. (supra) advances were made during the course of the business and it was for that reason that the loss was allowed. The facts of that case are distinguishable. In the case of Indore Malwa United Mills (supra), money was borrwed by the managing agents and the loss was held to be incidental to the company's business. There is no question of any loss by money borrowed by the managing agents in this case. In the case of B.D. Bharucha (supra) film distributor had advanced certain moneys and incurred a loss because the picture was not released for exhibition before the stipulated date. The loss in that case was allowed as a trading loss. The facts in that case are again distinguishable. In F.M.Chinoy & Co. (supra), the loss which was allowed occurred through the managing agents. No question of managing agents is involved in this case. In the case of T.J. Lalvani (supra), the financing transaction in which that assessee incurred the loss was connected with the carrying on of the business of paper and also incidental to such business but in the present case we have already held that the advances were made not in the course of the assessee's business but for enabling the aforesaid company to establish a mill and thereby creating a source for making purchases which source was of an enduring benefit. In the case of P.Satyanarayanan (supra) a film distributor had advanced certain amount to the producer of a film. The facts of that case are again distinguishable. In the case of Rohtas Industries Ltd. (supra) the advances were made for securing raw material and the loss was allowed because such advances were held to be wholly and exclusively for the purposes of the business. The facts of that case are also distinguishable. Thus, none of the above judgments relied on by the learned counsel for the assessee help the case of the assessee. It is not necessary for us to refer to judgments relied on by the learned departmental representative. For the aforesaid reasons, we reverse the order of the AAC and hold that the sum of Rs. 2,29,990 is not a trading loss pertaining to this year.