This is a reference by the Income-tax Appellate Tribunal, Madras Bench, at the instance of the Commissioner of Gift-tax, Ernakulam, under section 26(1) of the Gift-tax Act, 1958. The assessment year concerned is 1964-65, and the questions referred are :
'(1) Whether, on the facts and in the circumstances of the case, the goodwill of the assessees business is in existing property within the meaning of section 2(xii) of the Gift-tax Act ?
(2) Whether on the facts and in the circumstances of the case, the assessee gifted only a 1/8th share in the goodwill of the business to his two daughters or whether he gifted a 2/3rd share
(3) Whether, on the facts and in the circumstances of the case, the gift was exempt from assessment under section 5(1)(xiv) of the Gift-tax Act ?'
The assessee was the sole proprietor of a business conducted by him under the name and style of Travancore Timbers and Products, Kottayam. On August 1, 1963, he converted that proprietary business into partnership concerned by inducing his two daughters as his partners. The two daughters inducted were the only major children of the assessee at that time.
The capital of the partnership was fixed at Rs. 4 lakhs. The assessee contributed Rs. 3,50,000 and his two daughters, Rs. 25,000 each. In order to enable the two daughters to contribute their share to the capital of the firm, the assessee transferred from his account Rs. 25,000 to each of them.
All the assets of the proprietary business were transferred to the partnership, and as from the date of the partnership the assessee and his daughters were entitled to shares in those assets in proportion to their share capital, that it to say, the assessee was entitled to a 7/8th share and each of his daughters to a 1/16th share in those assets. The profits and losses of the partnership business, however, were to be divided in equal shares between all the three partners.
The assessee was to be the managing partner of the firm. The partnership deed also provided for the continuance of the partnership business in spite of the death or retirement of any of the partners, and for the admission of the assessees minor children into the partnership after they attained the age of majority.
The assessee filed a return showing a gift of Rs. 50,000 in favour of the two daughters. The Gift-tax Officer came to the conclusion that the two daughters together obtained a 2/3rd share in the goodwill of the business as well and that the value of the gift made by the assessee should be computed at Rs. 50,000 plus the value of a 2/3rd share in the goodwill of the business.
The goodwill was valued at Rs. 1,61,865 and there is no dispute as regards the valuation. The Gift-tax Officer, as already stated, calculated the share of each of the two daughters in the goodwill as 1/3rd each of them was entitled to receive a 3rd of the profits of the business.
This is obviously incorrect as their share in the assets of the partnership-whatever be their share in the profits and losses of the firm-was only 1/8. Goodwill is a capital asset, and the Gift-tax Officer should, therefore, have valued their share in the goodwill of the business which was the subject-matter of the gift to the two daughters at only 1/8 of Rs. 1,61,865 as held by the Appellate Tribunal and not at 2/3rd as he did in his order of assessment. It follows that the first and the second questions referred have to be answered in favour of the assessee and against the department. We do so.
The more difficult question for determination is question No. (3), whether any tax is attracted at all in view of section 5(1)(xiv) of the Gift-tax Act, 1958, which provides that gift-tax shall not be charged under the Act in respect of gifts made by any person 'in the course of carrying on a business, profession or vocation, to the extent to which the gift is proved to the satisfaction of the Gift-tax Officer to have been made bona fide for the purpose of such business, profession or vocation'. The contention based on section 5(1)(xiv) was not raised before the Gift-tax Officer. It was, however, raised before the Appellate Assistant Commissioner and the Appellate Tribunal. The Appellate Assistant Commissioner rejected the assessees contention, and the Appellate Tribunal accepted the same.
The department did not contest before the Appellate Assistant Commissioner or the Appellate Tribunal the assessees right to raise the contention mentioned above either on the ground that the assessee had not raised it before the Gift-tax Officer or on the ground that he himself had filed a return as far as sum of Rs. 50,000 was concerned. Such an objection, therefore, has to be considered as not open to the department in these proceedings before us.
Section 5(1)(xiv) makes it quite clear that in order to earn the exemption the assessee should prove that the transformation of his proprietary business into a partnership concern and the induction of is two daughters as the owners of a 1/8th share in the assets of that partnership was made bona fide for the purpose of that business. The expression 'for the purpose' has come up for consideration in connection with section 10(2) (xv) of the Indian Income-tax Act, 1922, and the corresponding provision in England and in the Income-tax Act, 1961. As pointed out by the Supreme Court in Commissioner of Income-tax v. Malayalam Plantations Ltd., the expression 'for the purpose of the business' is wider in scope than the expression 'for the purpose of earning profits' and may include measures for the preservation of the business and for the protection of its assets and property.
The Appellate Tribunal having discussed the relevant aspects of the case in detail, stated its conclusions as follows :
'It is therefore quite clear that the main intention of the assessee in forming the partnership was to ensure the continuity of the business and to prevent its extinction on his death,'
and held that 'the gift of the goodwill, in whatever proportion, made to the daughters is exempt from taxation under section 5(1)(xiv) of the Gift-tax Act, 1958.'
In the light of the finding of the Tribunal that the creation of the partnership was to ensure the continuity of the business and to prevent its extinction on the death of the assessee, the only conclusion possible is the conclusion reached by the Appellate Tribunal. We, therefore, answer the third question also in favour of the assessee and against the department.
The reference is answered as above. No costs. A copy of the judgment under the seal of the High Court and the signature of the Registrar will be sent to the Appellate Tribunal as required by sub-section (8) of section 26 of the Gift-tax Act, 1958
Questions answered in favour of the assessee.