1. The question of law which has been referred for decision is as follows :
'Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that the firm was not entitled to the claim of registration ?'
2. M/s. Punjab Fruits Co., the firm, was a partnership firm and was constituted by a deed of partnership dated June 12, 1968. The firm, however, commenced its business with effect from June 6, 1968. It had 6 partners. Their names and shares in the profit and loss of the business were as under :
1. Shri Brij Lal 10%2. Shri Chhajju Mal S/o Sh. Munshi Lal 20%3. Shri Om Prakash S/o Sh. Desh Raj 25%4. Shri Suresh Kumar S/o Sh. Chhajju Mal 10%5. Shri Prem Kumar 20%6. Shri Om Prakash S/o Sh. Hari Chand 15%
For the assessment year 1970-71 (the year under consideration) of which the previous year was June 6, 1968, to June 30, 1969, the firm earned profit and in its books divided the same as per the terms of the partnership deed among all the 6 partners. In the second year, the firm sustained heavy losses. This led, it appears, Chhajju Mal to file a suit on June 5, 1970, for dissolution of the partnership and rendition of accounts. The suit was, however, compromised in terms of a compromise deed dated July 30, 1970, by which Chhajju Mal and his son, Suresh Kumar, retired from the partnership as on that date. The application of the firm under s. 184 of the I.T. Act, 1961 (for short 'the Act'), for registration came up for consideration before the ITO concerned as required under s. 185 of the Act. The ITO by his order dated February 8, 1973, declined to grant registration to the firm and assessed the firm as unregistered for the assessment year in question, being 1970-71. He, however, made share allocation for rate purposes as under :
Rs.1. Shri Brij Lal 6,9282. Shri Chhajju Mal S/o Sh. Munshi Lal 13,8563. Shri Om Prakash S/o Sh. Desh Raj 17,3204. Shri Suresh Kumar 6,9285. Shri Prem Kumar 13,8566. Shri Om Prakash S/o Sh. Hari Chand 10,392
3. Referring to paragraph 5(a) of the compromise deed between the parties, the ITO was of the view that the retiring partners, Chhajju Mal and Suresh Kumar, had not been given any profit earned by the firm since the date of its formation, and thus, according to him, the profits for the assessment year 1970-71 had not been distributed among the partners as per the terms of the partnership deed.
4. On appeal, the ACC set aside the order of the ITO. He held that the firm was entitled to claim registration. He was of the view that the ITO only took into consideration the fact of dispute among the partners as existed on the date of compromise, i.e., July 30, 1970, rather than the fact as existed on June 30, 1969, when the profits of the firm were duly divided among all the partners whereby Chhajju Mal and Suresh Kumar got Rs. 6,277 and Rs. 3,139 respectively. The ACC found that the credit balances in the accounts of these two partners on June 30, 1969, were Rs. 43,778 and Rs. 49,540 respectively. On the date of the compromise, however, balances in these two accounts came down to Rs. 22,801 and Rs. 45,200, which showed that the earlier credit balances had been acted upon by the two partners either by withdrawing the amounts from their accounts in the later period or by the loss having been debited to their accounts after June 30, 1969. He held that the firm was genuinely constituted of 6 partners and other formalities had been duly completed by the partners of the firm which entitled it to the claim for registration under s. 185 of the Act.
5. On further appeal by the ITO, the Tribunal, however, set aside the order of the AAC and restored that of the ITO. The Tribunal appears to have accepted the contention of the Department that the compromise deed dated July 30, 1970, purported to amend the partnership deed with effect from June 6, 1968, so as to reduce the number of partners from 6 to 4. Reliance was also placed by the Tribunal on clause 5(a) of the compromise deed. Dealing with the contention of the AAC that the position as on June 30, 1969, was relevant for the purpose of granting registration, reference was made to the provisions of s. 186 of the Act which empower the ITO to cancel registration subsequently. According to the Tribunal, first the granting of registration under s. 185 on the basis of the facts as on June 30, 1969 and later cancelling the same under s. 186 of the Act 'in view of retrospective amendment of the terms of the instrument of partnership' was only a futile and unnecessary exercise.
6. At the instance of the firm, the question set out in the beginning of this judgment was referred to this court under s. 256(1) of the Act.
7. The above narration would show that but for clause 5(a) of the compromise deed, the firm would have been granted registration. Otherwise, thus, it is not disputed that the requirements of s. 184 were met. At this stage, it will, thereforee, be appropriate to refer to the deed of compromise dated July 30, 1970. Paragraph 2 of this deed recited that Chhajju Mal and Suresh Kumar retired from the partnership with effect from July 30, 1970, leaving the reconstituted firm comprising of the remaining 4 partners to continue the business of the partnership. Clause 3 stated that the amount invested by these two outgoing partners in the business of the partnership as on July 30, 1970, was : Chhajju Mal Rs. 22,801; and Suresh Kumar Rs. 45,200. As per clause 4 both of these outgoing partners received either cash or promissory notes covering the above two amounts and granted receipts for having received these payments. Clause 5 was as follows :
'5(a) That the plaintiff and defendant No. 5 will henceforth have no right of any kind to the goodwill, the outstanding assets of every description, and the business premises of the firm. Similarly, the plaintiff and defendant No. 5 will neither be entitled to any profit earned by the partnership so far nor willthey be liable for any loss incurred by the partnership .The profit and loss of business will belong to and be the liability of the re-constituted firm without the plaintiff and defendant No. 5 being in any manner entitled to profits or liable for losses.
(b) The re-constituted firm will be within its rights to continue the business with the remaining partners or to include more partners in their business if they so desire.
(c) Neither Shri Chhajju Mal nor Shri Suresh Kumar shall be responsible for any existing or further liability of the original firm or the reconstituted firm. Similarly, the income-tax levied on the firm up to the date of retirement of Shri Chhajju Mal and Shri Suresh Kumar shall be the responsibility of the firm and neither Shri Chhajju Mal nor shri Suresh Kumar shall be responsible for payment of the same. The ad-interim injunction order passed by this Hon'ble Court stopping the operation of the accounts in the banks of the partnership, shall be vacated.'
8. One is left in no doubt that the compromise deed recorded the terms of retirement of the two partners from the partnership. A reference in this connection may be made to s. 32 of the Partnership Act. Since, in the instant case, the partnership was at will, a partner had also the option to go in for dissolution of the firm. The partners decided however, to retire two partners and the deed of compromise recorded the terms of retirement of the two partners as from July 30, 1970. Though clause 5 loosely used the words that the outgoing partners 'will neither be entitled to any profit earned by the partnership so far nor will they be liable for any loss incurred by the partnership', as per clause 3 both the outgoing partners accepted the amounts standing to their credit as on July 30, 1970. The Tribunal found that the profits of the firm for the year under consideration had been divided as per the terms of instrument in the books of the firm among all the 6 partners. The firm did carry on the business during that year. If for any reason like the firm suffering heavy losses in a subsequent year the parties decided to retire two partners and settle the terms and conditions even though stating that the outgoing partners would be deemed never to have been the partners, it would not nevertheless, make the firm a non-genuine firm.
9. The order refusing registration was passed by the ITO on February 8, 1973. He would certainly have granted registration to the firm if he had passed the order before July 30, 1970. No Explanationn could be found as to how the registration could be cancelled under s. 186 of the Act if it had earlier been granted by the ITO inasmuch as a genuine firm was in existence during the year, it earned profits, it divided profits among the partners as per the terms of instrument, which credit balance were acted upon. Even reversal of an entry would not make the firm a non-genuine once if it is done under the terms of some settlement amicably reached without a winding up. The compromise deed could not affect or alter the past.
10. Counsel for the Department cited certain decisions wherein registration or renewal of registration of a firm was refused by the ITO where it was found that the profits had not been divided among the partners as per the partnership deed or profits had not been divided at all or the profits earned by the firm in the black market were not distributed among the partners and the like. We do not find these decisions to be relevant, and it is not necessary to refer to them.
11. The requirements of ss. 184 and 185 of the Act and rule 22 of the I.T. Rules, which deal with registration of a firm, are quite simple. The application for registration of a new firm is required to be made in Form No. 11 as prescribed by rule 22. It is to be accompanied by the partnership deed which must specify the individual shares of the partners. The application is to be made to the ITO concerned and is required to be signed by all the partners personally. An exception is provided in the case of a partner who is absent from India or is a lunatic or an idiot. The applications is required to be made before the end of the previous year unless sufficient cause is shown for not making the application in time. The ITO then goes into the genuineness of the firm and its constitution. He is to grant registration if he is satisfied that a genuine firm with the constitution so specified was in existence during the relevant period. The expression 'genuine firm' would mean that a firm is really in existence and the partners carry on the business of the firm in accordance with the terms of the deed of partnership. This is what is ordinarily understood by a genuine firm. It should not be sham or bogus.
12. It would thus be seen that the ITO was wrong in refusing registration to the firm on the basis of the compromise deed dated July 30, 1970, and particularly with reference to clause 5 of the compromise deed. We should, however, not be understood to lay down that the ITO could not look into the subsequent events, after the close of the relevant year, to decide the application for registration, if pending, whether a genuine firm as evidenced by an instrument of partnership existed during that period.
13. We accordingly answer the question in the negative and in favor of the assessed. The Commissioner will pay costs to the assessed.