1. In this reference, the Tribunal has referred the following question for the opinion of this court :
' Whether, on the facts and in the circumstances of the case, having regard to the provisions of Section 67, the Tribunal was right in law in holding that the interest of Rs. 8,416 cannot be included in the hands of assessee under Section 64(1)(ii) of the Income-tax Act, 1961 ?'
2. The assessee is an individual. The assessment under consideration is for 1972-73. He was a partner in a firm called Messrs. Misrimul Bhawarilal,Kancheepuram. This partnership itself came into existence on a partial partition of the movables in the HUF of the assessee and his sons on 1st June, 1964. On the same day, a partnership deed was executed between the assessee and his three major sons to carry on the business of pawn broking. His three minor sons were admitted to the benefits of partnership. Each of the three minor sons was credited with a capital of Rs. 1,100. The capital amount was not to carry any interest. Under Clause 3 of the partnership deed, it was provided that:
' If at any time additional funds be considered by the parties hereto as necessary or expedient for efficiently carrying on or extending the business, the same shall be contributed by the parties hereto or raised from outsiders and in either case the monies so advanced to the business of partnership shall be treated as loan on which interest shall be paid at market rate or rates agreed upon by the parties and the same shall be treated as business expenses. Any amount other than the above-said capital standing to the credit of partners including share of profit that may be adjusted shall be treated as loan deposits which shall bear interest as may be mutually agreed having regard to the rate prevailing in the market.'
3. For the assessment year 1966-67, interest paid to the minors on the loan deposits was included by the income-tax authorities in the hands of the assessee as arising to the minors on account of their admission to the benefits of partnership by invoking Section 64 of the I.T. Act, hereinafter referred to as the Act. But, on appeal, the AAC by his order dated 2nd February, 1968, held that the interest having been paid on loan deposits, which the minors were not obliged to keep in the firm, could not be said to have arisen directly or indirectly on account of their admission to the benefits of the partnership. He, therefore, directed the exclusion of the interest from the hands of the assessee. There was no further appeal. For the later years, i.e., 1967-68 to 1971-72, the interest paid on the loan deposit in the name of the minor sons were not included by invoking Section 64 of the Act.
4. One of the minors attained majority on 15th June, 1969, and he elected to continue in the partnership. A fresh deed of partnership was written on 15th June, 1969, and the assessee and his four major sons thus became partners and continued the same business. The remaining two minor sons were admitted to the benefits of the partnership. Clause 3, already extracted, was the clause which governed the relationship of the parties in relation to loan deposits. In completing the assessment for the year 1972-73, the ITO found that a sum of Rs. 8,416 had been credited as interest to the accounts of the two minor sons on their deposits in the firm. He included the said sum in the assessment made on the assessee byapplying Section 64(1)(ii) of the Act. The assessee appealed to the AAC who allowed the appeal and directed the deletion of the interest paid on the deposits to the credit of the two minor sons. The revenue appealed to the Tribunal and the Tribunal came to the conclusion that there were separate accounts for the capital contributed by the minors and for their deposits and accumulations of profits, that Clause 3 of the partnership deed operated as a special agreement converting the accumulated profits into loans and deposits, and that the interest derived, by the minors was interest on loans and deposits, and not on accumulated profits as such. The Tribunal, therefore, confirmed the deletion as directed by the AAC. It is this order of the Tribunal which has given rise to the present reference.
5. Section 64 of the Act, as in force prior to the amendment in 1975, in so far as it is material, ran as follows :
'(1) In computing the total income of any individual, there shall be included all such income as arises directly or indirectly--...
(ii) to a minor child of such individual from the admission of the minor to the benefits of partnership in a firm in which such individual is a partner.'
6. Section 67 is the provision setting out the method of computation of a partner's share income in the firm. It provides that any interest, among other items, paid to any partner in respect of the previous year shall be deducted from the total income of the firm, and the balance ascertained and apportioned among the partners. The interest will be added to the share income of the partner in the firm. For this purpose, a minor admitted to the benefits of a partnership and a partner who is a major are treated identically.
7. The contention for the revenue was that whatever is computed in the hands of the minor as share income from the firm will have to be included in the assessment of the father, i.e., the assessee in the present case. Learned counsel for the assessee submitted that the addition in respect of the income accruing to a minor child from the admission of the minor to the benefits of the partnership would only include the share income and the interest on capital. According to the learned counsel, Clause 3 of the partnership deed in particular terms specified that apart from the capital contribution, which did not bear any interest, the amounts standing to the credit of the minor, including accumulated profits, would be treated as loan and would, therefore, qualify for payment of interest. In the submission of counsel this interest is paid, not because of the admission of the minor to the benefits of partnership, but because of the use of the minor's funds in the partnership.
8. Without reference to any decided case we may examine the position. This provision has been introduced for the purpose of preventing evasionof tax by constituting partnerships and admitting the minor children into the partnership, so that the respective shares of the minors would, in the absence of a provision like this, have to be assessed separately. But this being a provision enacting a legal fiction it would have to be strictly construed. The contention for the revenue that whatever has been contributed as the share income of the minor would have to be included in the assessment of the parent does not appear to be correct or consistent with the terms of the provision. Under the provision as it was in force in the relevant year, the minor had to be admitted to the benefits of the partnership, in a partnership in which the parent is a partner. This requirement of the minor being in the same partnership as that of the father has subsequently been given up by amendment to Section 64 of the Act in 1975. The artificial mode of computing a partner's share in the firm's profits as laid down under Section 67 for other purposes is not decisive of what is to be included under this provision. If the legislature had intended otherwise, it would have used a different phraseology as it has done in Section 86(iii). It is provided therein that income-tax shall not be payable by an assessee, if he is a partner of an unregistered firm, on any portion of his share in the profits and gains of the firm computed in the manner laid down in Section 67 on which income-tax is payable by the firm. In the absence of a similar phraseology, as explained above, in Section 64, it is not possible to transpose whatever has been computed as the share income of the minor and bring it to tax in the hands of the parent.
9. With reference to the taxation of interest payable on the amount to the credit of a minor as capital, it is not in dispute that such interest is liable to be included in the hands of the parent as income arising from the admission of the minor to the benefits of the partnership. The question arises only with reference to any other amount on which interest is paid. Looking at the provision bereft of authority it appears to us that the section contemplates the assessment, in the hands of the parent, of all income arising to the minor by way of interest, so long as the interest is traceable to the admission of the minor to the benefits of the partnership, either under the terms of the partnership deed or under a subsequent agreement. Even in the absence of any agreement, interest paid on capital would be traceable to the membership in the firm. So long as the amount of interest is traceable to the admission of the minor to the benefits of partnership, Section 64(1)(ii) of the Act would be attracted. The cases that have been decided have in our opinion brought out only this aspect.
10. The earliest decision of this court was rendered in S. Srinivasan v. CIT : 50ITR160(Mad) . In that case, the partnership deed provided thus (p. 167):
' If the firm requires any sum for meeting the expenses of its management and if any of the partners has and is willing to give such amount, he may advance (such amount) as loan. He may receive interest for such sum at the rate of twelve annas per cent. per mensem.'
11. In considering the assessability of the interest credited to the account of the wife and the minor sons in the hands of the parent on the accumulated profits, this court held that the interest so credited had to be included in the total income of the assessee under the corresponding provision of the 1922 Act. This decision was taken on appeal to the Supreme Court and the decision of the Supreme Court is in S. Srinivasan v. CIT : 63ITR273(SC) . In that case, while affirming the decision of this court, the Supreme Court held thus (p. 278):
'The cases when interest is earned on a deposit or a loan differ from a case of the type before us where interest was earned on amounts of which the minors permitted the use by the firm, because they were their accumulated profits arising from the firm itself and because of their interest in the firm as persons admitted to the benefits of the partnership (Underlined by us).'
12. Learned counsel for the assessee sought to distinguish this decision by contending that in the present case the contract of partnership had itself provided that the amount lying to the credit of any partner is to be treated as loan deposit and should bear interest as may be mutually agreed upon having regard to the rate prevailing in the market. The contract itself, according to the learned counsel, provided a conversion of what was accumulated profits into loan or deposits. We are unable to accept this submission. The contract between the parties is not effective to bring about a legal fiction, just as Parliament could do. Let us take the position as on the closing date of the accounting year of a firm like this. On that date, what is arrived at and credited to the account of the minor is only accumulated profit. Merely because the partnership deed declares that this amount should be treated as loan its character is not altered. The provisions in a partnership deed do not have such powers of alchemy. In the present case, the accumulated profits alone are the subject-matter under consideration. It is not stated that there was any other amount provided by the minors on which interest has been paid. As the amounts represented accumulated profits and as a mere provision in a partnership deed is not effective to conyert it into loan or deposit, we consider that the decision of the Supreme Court would directly apply to this case.
13. It was pointed out by the Supreme Court that the profits accumulated to the credit of the wife and minor child in that case because they did not draw their share of profits after distribution of profits took place. Theymerely allowed those profits to remain with the firm. It was further added that there was no suggestion in that case that either the wife or the minor sons or any one on their behalf purported to enter into an arrangement with the firm to keep these accumulated profits as deposits. The relevant passage is found at page 276 The principle of the Supreme Court decision is that in cases where there was a subsequent arrangement between the partners or the persons who are competent to enter into any arrangement on behalf of the minors and the firm, so as to pay interest by conversion of the amount into a deposit or loan, then the position would be different. This is because it is open to the partners to invest their further funds in the firm making it clear that they are doing so in the same manner as if they are strangers. If with reference to strangers interest paid would not be construed as interest payment arising out of the terms of the partnership, similarly in the case of the partners also, the interest would not be traceable to the membership in the firm. Learned counsel for the assessee sought to equate Clause 3 of the present case with such a position. As envisaged by the Supreme Court the agreement must be subsequent to the crediting of the share of the profits. In the present case, the treatment of the accumulated profit as a loan is almost simultaneous with its credit. Therefore, there is no scope or basis for any subsequent agreement in relation to it. The exception contemplated by the Supreme Court in the passage at page 276, in cases of subsequent agreement, would not, therefore, apply to this case.
14. Learned counsel for the assessee placed reliance on a decision in Kalandkar Prasad Chaturvedi v. CIT : 82ITR713(All) . In that case Clause 4 of the partnership deed provided :
' The capital necessary for the purpose of the business shall be supplied by the partners hereunto alone and the minors shall not be liable to invest any capital. Money credited in the names of the partners so far or hereafter shall be deemed to be capital of the business and any money credited in the names of the minors so far or hereafter shall be deemed to be their deposits in the firm......'
15. The Allahabad High Court held that the amount standing to the credit of the minor was not liable to be taxed in the hands of the assessee in that case. The contention in that case appears to have been directed to the point whether the amount represented capital or loan or deposit. The decision proceeded to dispose of only this contention and did not go into the principle whether there was any subsequent agreement.
16. There are three decisions of this court, P.A.P. Chidambara Nadar v. CIT : 77ITR84(Mad) , Smt. Nripendrakumari Bhandari v. CIT : 105ITR158(Mad) and S. Srinivasan v. CIT : 105ITR315(Mad) , dealing with this problem.
17. Except in Chidambara Nadar's case : 77ITR84(Mad) , in both the other cases the interest credited to the account of the minors was held to be assessable in the hands of the parent. They did not lay down any different principle. In P. A. P. Chidambara Nadar v. CIT : 77ITR84(Mad) interest was held to be not assessable only because the amount did not represent the accumulated profits. It is, therefore, unnecessary to deal with those decisions.
18. The question in the present case as already stated is governed by the decision of the Supreme Court in S. Srinivasan v. CIT : 63ITR273(SC) , and the question is accordingly answered in the negative and against the assessee. The revenue will be entitled to its costs. Counsel's fee Rs. 500.