VENKATADRI J. - These are references under section 66(1) of the Indian Income-tax Act. The facts out of which the references arise are the followin : The assessee in T. C. No. 7 of 1963 is a registered firm, Messrs. Roopchand Chabildass & Sons, who will hereinafter be referred to as the firm. It consist of two partners, Milapchand R. Shah and Punamchand R. Shah, who are the assessee in T. C. Nos. 9 of 1963 and 14 and 37 of 1963, respectively. The firm was carrying on business in the manufacture and sale of wheat and gram products and also in money-lending. In the month of October, 1954, the said two partners of the firm transferred their flour mills business together with the building, machinery and plant including the goodwill to a limited company floated by the partners themselves called the South India Flour Mills Ltd. for a consideration of Rs. 6,55,000. The consideration was satisfied by the allotment of shares in the company. The partners were each debited with Rs. 3,27,500. Each partner was credited with his share of the goodwill amounting to Rs. 1,87,500. The two partners were also partners in another firm of the same name at Sangali, which will hereafter be called the Sangali firm. The assessee-firm advanced moneys to the Sangali firm with the result the Sangali firm owed the assessee-firm to the extent of Rs. 1,28,378. The Sangali firm closed its business in the year 1948. Further, this firm paid Income-tax on behalf of the partners which was kept in a separate account. Thus, for the years 1958-59 and 1959-60, the firms liability on which it paid interest was Rs. 10,75,228 and Rs. 9,67,675 respectively. It was for these amounts the assessee-firm claimed interest payments amounting to Rs. 86,152 and Rs. 86,325. The Income-tax Officer disallowed a sum of Rs. 76,675 for the assessment year 1958-59 and similarly, another sum of Rs. 74,496 for the assessment year 1959-60. Similarly, the two partners claimed in their individual assessments a deduction of interest amounting to Rs. 38,338 each, in case the interest payment by the firm was disallowed for the said assessment years.
The main grounds of the authorities for disallowing the interest claim by the firm were due to the finding that the firm stopped its flour mill business from 1954, that the borrowings made by the firm were diverted for non-business purposes such as payment of income-tax on behalf of the partners of the firm, that the moneys advanced to the Sangali firm in which the partners were virtually the same was not in the course of the business of the firm, that a perusal of the accounts showed that the firm was taking steps to recover old advances with a view to close down the business, that the interest debited in the individual accounts of the partners was for moneys advanced to the partners themselves, that it was not the business of the firm to advance loans to it partners and that in no sense of the term could the moneys debited to the partners be taken as advances for interest. On further appeal, the Tribunal also found that the flour-mill business of the firm was sold with its goodwill in 1954 to a limited company for a consideration of Rs. 6,55,000 and the said consideration did not go into the firms account to reduce its liability. There was nothing on record to show that, after the transfer of the flour-mill business, the borrowed money was diverted to some other business activity of the firm; on the other hand, substantial amounts of loans had been diverted to the partner accounts to pay Income-tax and to meet the liabilities of the Sangali firm in which they were substantially interested. For these reasons, the Tribunal confirmed the finding Appellate Assistant Commissioner and rejected the claim of the firm. The assessee-firm requested the Tribunal to state a case, and inasmuch as in the opinion of the Tribunal a question of law did arise out of its order, the Tribunal has referred the following question of law in T. C. No. 7 of 1963 :
'Whether, on the facts and in the circumstances of the case, the disallowance of an interest payment of Rs. 76,675 or any part thereof in respect of the assessment year 1958-59 and the disallowance of an interest payment of Rs. 74,496 or any part thereof in respect of the assessment year 1959-60 was right in law ?'
Similarly in T. C. Nos. 9, 14 and 37 of 1963, the question referred to us for decision is :
'Whether the sum of Rs. 38,338 or any part thereof out of Rs. 76,675 paid by the firm of Roopchand Chabildass and Sons was allowable as a deduction under section 10(2)(iii) or 12(2) in the assessment of the assessee ?'
The firm as well as its partners made a similar claim of interest payment in their return for the assessment year 1957-58. The Income-tax Officer, for the same reasons mentioned above, disallowed a sum of Rs. 71,500. The Tribunal also held that the bulk of the borrowings was utilised for the purpose other than that of the business of the firm. When the matter was finally referred to this court under section 66(2) of the Act in Milapchand R. Shah v. Commissioner of Income-tax, a Bench of this court, to which one of us was a party, confirmed the decision of the Tribunal on the ground that, though the firm was doing some money-lending business at the beginning, during the relevant year it had ceased to do that business, that the major part of the amount was advanced to the partners of the firm themselves, that the advances made to the partners were not in the course of business activities of the firm, that the partners of the firm utilised the borrowed capital for their own purposes and that the partners of the firm were not charged interest for the moneys advanced to them by the firm. In the course of the arguments in that reference, learned counsel for the assessee cited the decision in A. L. A. R. Brothers v. Commissioner of Income-tax for the proposition of law that it could not be said that the capital which had been borrowed was employed for the purpose of business and was employed in the business for its purposes until it was lost and that never the less interest had to be paid on it and therefore the test was not whether it continued to be available for the purpose of the business during the year of assessment but whether it was in its origin money borrowed as capital for the assessees business and whether interest was in fact paid on that borrowed capital (existing or lost) during the year of assessment. There we sufficiently explained that it was obviously impossible to apply that decision to a case where money was borrowed but never utilised for the purpose of the business except to a small extent and never even intended to be used for the purpose of the business. We observed thus :
'.... even giving full weight to that decision, it has yet to be established that the money was in fact borrowed for the purpose of business and that could be shown only by the use of the money, whether in the particular account year or during an earlier period....
We are of the view that, though the test should relate to the position as at the time of the borrowing, if it is not shown that the money had been utilised for some time, at least some point of time, for the purpose of the business, the interest paid on that portion of the sum borrowed, which was never utilised, cannot possibly be allowed. It is precisely upon this point that the case of the assessee-firm breaks down.'
Now, when the matter came up before the Tribunal for the assessment years 1958-59 and 1959-60, the Tribunal, while confirming the order of the revenue authorities, made an observation :
'.... We have no doubt that substantial portion of the earlier borrowing was for the purpose of this business.'
Learned counsel for the assessee contended that the Tribunal having given the above finding should have allowed the interest payments claimed by the firm on the basis of the observations of this court in the previous reference. We have carefully gone through the Tribunals order. The Tribunal has observed that it was not shown to them that, after the transfer of the business, the borrowed money was diverted to some other business activity of the assessee and that, on the other hand, substantial amounts of the loans had been diverted to the partners accounts to pay Income-tax and to meet the liabilities of a firm in which they were substantially interested. Further, it is common case that the firm was carrying on wheat and gram products and also flour-mill business. In the year 1954, the partners of the firm sold away the flour-mill business. In effect, the firm as such was not carrying on business in flour-mill. The partners of the assessee-firm were also the partners of the Sangali firm. In 1948, the Sangali firm closed the business. The assessee firm attempted to treat the advances made to the Sangali firm as bad debts, which were rejected by the revenue authorities. The partners of the firm were taking steps to collect the outstanding debts due to the firm with a view to close down the money-lending business. The firm paid Income-tax due and payable by the partners of the firm from and out of the borrowed capital. The firm also made advances to its partners to enable them to pay the value of the shares allotted to them by the South India Flour Mills Ltd., a company floated by themselves. In effect, they advanced moneys to themselves from the borrowed capital of the firm. We consider that these facts provide material amply sufficient to justify the conclusion that the interest paid on the capital is illusory and colourable. It is clear from the materials on record that the assessee-firm was not carrying on any business after they converted the flour-mill business. In these circumstances, the assessee-firm is not entitled to claim deduction of interest for the period in question. Before the revenue authorities, it was also contended that the loss actually represents excess of business receipt of the firm and that such shares of losses debited to partners should not be considered as a non-business expenditure. They rightly considered these contention as fresh ones involving enquiry into new facts and refused to consider them.
Once the firm failed to claim a deduction of interest on their borrowed capital, the partners of the firm contended that in any event they were entitled to claim a deduction of interest in their individual assessments. When a similar contention was put forward in the prior reference, we observed :
'We can find no principle or authority which can possibly support this contention. The allowance under section 10(2)(iii) relates to the interest paid by the assessee on capital borrowed for the purpose of his business. That the partner made use of the moneys of the firm for their individual purposes and purchases properties or made investment of those moneys is not sufficient to bring the transaction within the scope of the expression capital borrowed for the purpose of business. It was never to contention, as far as we can see, that the partners in their individual capacity were in fact carrying on a business of the nature of investments or purchase of properties. Nor can it be said that it was at all a borrowing.'
For the same reasons, we reject the claim of the partners made in their individual capacity.
Learned counsel for the assessee, however, contended that they were entitled to deduct interest paid by them on the loans advanced to the partners accounts by the firm for the purpose of purchasing the shares allotted by the South India Flour Mills Ltd. under section 12(2) of the Act. The assessee are claiming his deduction in their individual capacity for the first time in the assessment years 1958-59 and 1959-60. The firm sold away the flour mill business to the South India Flour Mills Ltd. in the year 1954. One of the terms of the agreement of sale was that the company should allot shares to the extent of Rs. 3,27,500 to each of the partners. Accordingly, whatever amount was advanced by the firm to the partners for the purpose of purchase of shares in the company was debited in the individual accounts of the partners in the firm. They were never charged any interest nor debited interest in their accounts of the firm till the assessment years in question. It was only when the firm failed to get a deduction of interest paid on the borrowed capital for the assessment year 1957-58 and when the partners in their individual capacity failed to get a deduction claimed by the firm, the firm began to make debit entries for the amounts advanced to the partners for the purchase of shares. It is clear that when an assessee wants any deduction to be made under section 12(2), he has to satisfy four conditions, viz., (1) the expenditure must be incurred solely for the purpose of making or earning income, (2) it must not be in the nature of capital expenditure, (3) it must not be in the nature of personal expenses of the assessee, and (4) it must be incurred in the accounting year and not in any prior or subsequent year. On the materials placed before us, it is clear that the firm was not purchasing shares as such allotted to the partners of the firm. It is the partner of the firm who in their individual capacity purchased the shares. There was no contract between the partners and the firm to bring the dividends into the firms account. The money advanced by the firm to the partners was to enable the partners to purchase shares allotted to them by the company in their personal and individual capacity. It cannot be said that they borrowed money for the purpose of investing in the shares of the company so as to earn income or dividend for the firm. From the year 1954 till the assessment years in question, the partners as such were getting dividends in their individual capacity without paying interest to the firm for the moneys advanced to them by the firm. Even assuming that for the first time the firm debited interest on the moneys advanced to them for the purpose of purchasing shares, it could not be said that interest was debited for the purpose of earning dividends. Although the firms accounts may disclose items of interest debited in their partners accounts, it is impossible to say that it is the liability of the assessee. It is not a payment which the assessee has to make nor is it a sum which could be sued. It would be nothing more than a capital expenditure within the meaning of sub-section (2) of section 12; or the amounts withdrawn by the partners from the firm for purchasing the shares the shares of the company would at the most be their personal expenditure. It cannot, therefore, be said that the interest debited in the partners accounts of the firm could be regarded as expenditure solely for the purpose of earning any dividend on the shares allotted to them by the company. The sum of Rs. 38,338 cannot, therefore, be allowed as a deduction under section 12(2) in the assessment of the assessees.
In the result, all the references are answered in favour of the department with costs and against the assessee. Counsels fee, one set Rs. 250.