1. This is an appeal of the revenue for the assesssment year 1980-81 against the order of the AAC directing the ITO to frame two assessments separately, one on the dissolved firm till the date of dissolution, i.e., the predecessor firm and second on the successor firm. The ITO had made one single assessment by relying on the provisions of Section 187(2) of the Income-tax Act, 1961 ('the Act') covering accounting period of 18 months, i.e., 1-10-1978 to 31-3-1980.
2. The relevant facts may be briefly stated. There was a firm of seven partners constituted under a partnership deed dated 3-11-1973. As per the information given by the assessee's counsel, Shri Benarsi Dass, the firm followed the accounting year commencing on 1st October and ending on 30th September. In the course of accounting year commencing on 1-10-1978 one of the seven partners Shri Romesh Kumar Sekhri on account of certain disputes and differences retired from the firm on 31-3-1979 and a deed of dissolution dated 24-4-1979 was drawn up. A new firm was constituted under a deed dated 15-5-1979 consisting of six partners of the predecessor firm and taking in a new partner Mrs. Janak Rani Sekhri. This firm was constituted from 1-4-1979 and there was reshuffling in the profit sharing ratio of two of the continuing partners and the new partner taken in was given a share of 30 per cent instead of 20 per cent of the retiring partner. It is not in dispute that the business carried on by the predecessor firm was carried on by the successor firm, which took over the assets and liabilities of the previous firm and carried on the business in the same name. However a change was effected in the accounting year to be followed by the successor firm. It adopted financial year to be accounting year and its first accounting year ran from 1-4-1979 to 31-3-1980. Two returns of income were filed in the name of Punjab Rice Mills, one covering the period 1-10-1978 to 31-3-1979 and the other from 1-4-1979 to 31-3-1980.
The 1TO taking it to be a case of change in the constitution of the firm as per Section 187(2) clubbed the income of both the periods and made a single assessment for the assessment year 1980-81. He brushed aside the argument of the assessee that since the account period consisted of more than 12 months one assessment should be made only for a period of 12 months and another assessment should be made in respect of the period in excess of 12 months. His opinion was that this will involve a change in the previous year and as per Section 3 of the Act the assessee was required to seek the permission of the ITO and that it had not sought such permission. The ITO found the change to be prejudicial to the interests of revenue. He also stated that change can be permitted only upon such conditions as the ITO may think fit to impose and one of the conditions generally imposed is that interest of the revenue is fully safeguarded and this could happen only if the income of both the returns was clubbed and only one assessment for both the accounting periods is made under one single assessment order, since both the account periods fall for assessment in the assessment year 1980-81. The assessee went in appeal to the AAC. The assessee's counsel contested the view of the ITO about the change in the previous year by pointing out that when there was a dissolution of the old firm the new partners can at their own convenience change the accounting period and there was no necessity of getting the prior permission of the ITO and that the accounts of the predecesssor firm were closed on 31-3-1979 covering the account period 1-10-1978 to 31-3-1979 and the new firm, which came into existence on 1-4-1979 adopted financial year as its accounting period and made up its accounts for the period 1-4-1979 to 31-3-1980. The counsel also contended that provisions of Section 188 of the Act were attracted as the old firm ceased to exist on 31-3-1979 and reliance was placed on two decisions of the Madras High Court. The AAC decided the matter in the assessee's favour by observing generally that he agreed with the submissions made on behalf of the assessee-firm and that taking into account the case law quoted before him the ITO had misdirected himself in correct application of law. He further observed that in his view there should have been two separate assessments as visualised under Section 188 as it was not a case of mere change in the constitution and first the dissolution had taken place.
3. We have heard the rival submissions. The departmental representative contended that when one partner retired out of seven partners and the six old partners continued in the newly constituted firm taking in seventh new partner, this was a case of change in the constitution of the firm irrespective of the dissolution deed and the AAC was wrong in striking down the single assessment made by the ITO on the basis of the Madras High Court authorities. He also relied on the reasoning about the change in the accounting year taken by the ITO in the assessment order. Shri Benarsi Dass appeared for the assessee reiterated the two contentions raised before the AAC.4. On a careful consideration of the facts and in the circumstances involved and the submissions made by the two sides, it becomes apparent that there is a confusion about the issue arising for consideration. In cases of change in the constitution of firm what is important is to frame an assessment as provided in Section 187(1) and for that purpose Sub-section (2) gives a definition of change in the constitution. In the instant case, in our opinion, the real controversy is not about the change in the constitution but completion of assessment in the manner laid down in Section 187(1). Sub-section (1) of Section 187 provides for making an assessment on a firm as constituted at the time of assessment, i.e., it seeks to ignore the concept of change in the entity of a partnership firm in circumstances considered to be a change in the constitution. The rationale for providing for such an assessment is continuation of the old business carried on by the predecessor firm.
The purpose to be achieved is to raise an assessment against an entity, which is available at the time of assessment and make it liable for recovery of tax. The manner of assessment is also given in Sub-clause (i) in the proviso to Sub-section (1) of Section 187. As per that clause itself the income of the previous year is to be brought to charge in the assessment of the firm and for the purposes of inclusion in the total incomes of the partners it has to be apportioned between the partners, who, in such previous year, were entitled to receive the same. The clause gives out the scope of assessment, which is confined to the income of the previous year of the business, which continued to be in existence despite the changes in ownership of such business.
5. Bearing in mind the above scheme of Section 187 and the issue to be decided, it becomes clear that more than the concept of change in constitution is involved in this case. In view of the rulings of the Punjab and Haryana High Court particularly in Nandlal Sohanlal v.CIT 110 ITR 170 (FB) it can no longer be disputed that a change in constitu-tion is involved. But the question that still remains to be answered is whether an assessment under Section 187(1) can be made on the assessee on the facts and in the circumstances of the case and are all the conditions to be satisfied there for making a single assessment It will be pertinent to note that Section 187(1) is based on the concept of continuing of same business of the predecessor firm but along with it is coupled the condition that income of the previous year shall be computed. The previous year obviously will be the previous year followed by the predecessor firm. If the single assessment is to be made the previous year to be followed by the successor firm should be the same as of the predecessor firm and income of such previous year is contemplated to be allocated amongst the partners as per different constitutions. If the successor firm changes the accounting period, as in this case, the condition stipulated in Section 187 (1) will not be fulfilled. The ITO is clearly in error when he considers that this is a case of change in accounting year or previous year. That concept is limited to the same assessee changing his accounting year. In the instant case, it cannot be disputed that predecessor firm and the successor firm are different entities in the eye of law. A different entity like the successor partnership has the liberty to adopt its own accounting year or previous year and there is nothing in Section 3 to prevent the adoption of that course. The fiction in Section 187(1) for the purpose of completion of assessment on the successor entity cannot be stretched to make it a case of change in previous year. Sub-section (1) of Section 187 in Clause (i) of the proviso refers to the previous year twice and the previous year contemplated is only the previous year followed by the predecessor firm. When this circumstance of change in an accounting year is taken note of it has to be held that change in the constitution notwithstanding still the assessment cannot be made under Section 187(1) and the procedure to make assessment on two different firms alone is open to the revenue. The case will fall under Section 188, which provides for making assessment on the successor firm in cases, which are not covered by Section 187 and separate assessments will have to be made. It is on this reasoning that the conclusion of the AAC in directing for two assessments is upheld. Further the completion of two assessments will also be sanctioned by the definition of previous year in Section 3, which normally contemplates accounting years of a period covering 12 months and not 18 months, as has been done by the ITO here.
6. In view of the above discussion, the appeal of the revenue fails and is dismissed.