MADRAS D BENCH K. S. KUDCHI & BROS. v. INCOME TAX OFFICER July 2, 1985 JUDGMENT Order T.V. RAJAGOPALA RAO, J. M.: This is appeal filed by assessee relation to asst. yr. 1980-81. assessee is registered firm of 6 partners. We are concerned with asst. yr. 1980- 81 for which previous year ended by 21st Oct. 1979. In 1975, assessee-firm purchased building for Rs. 43,770. assessee constructed supper-structure over building by spending amount of Rs. 81,146 from 18th Jan., 1979 to 19th July 1979. Two out of six partners retired under retirement deed dt. 22nd Oct. 1979 and retirement had to take effect from 21st Oct., 1979. On last date of accounting year building was revealed in books of accounts of firm at Rs. 1,76,800. retiring partners are Shri Arjun Shankar Kudchi and Shri Kiran Vasudeo Kudchi. It was agreed under deed of retirement that building bearing No. 736/1,2 should be taken out from firm s assets and it should be given in settlement of dues of retiring partners Shri Vasudeo Kudchi and Arjun Shankar Kudchi. They should take over building in equal joint share, Accordingly value of building was debited one half each in capital accounts of firm in names of Shri Vasudeo Shankar Kudchi and Shri Arjun Shankar Kudchi. Both retiring partners were paid off their entire capital. However, out of two Shri Vasudeo Shankar Kudchi should continue as working partner. question whether allotting one of assets of partnership firm viz., building in question in payment of dues of assessee firm to retiring partners amounted to transfer within meaning of s. 2 (47) of IT Act and whether any capital gains resulted from out of transaction was referred for directions of IAC under s. 144A. IAC, Belgaum, by his directions dt. 9th Nov. 1982 purporting to follow decisions in Abdul Rahim Travancore Confectionery Works vs. CIT (1977) 110 ITR 595 (Ker) (FB) and CiT vs. Kartikey vs. Sarabhai (1981) 24 CTR (Guj) 184: (1981) 131 ITR 42 (Guj) and held that in case where partner invested any asset towards his capital ceased to have right over it, it amounts to transfer. Similarly in converse case also whenever firm had transferred one of its assets to partners this transfer results in profits and gains to firm and therefore, profits shall be chargeable to tax under head capital gains . As super-structure of building was constructed from 18th Jan., 1979 to 19th July, 1979 which fell in accounting year relevant to asst. yr. 1980-81 IAC felt that new asset had come into existence only during previous year relevant to asst. yr. 1980-81 and inasmuch as assessee firm had transferred this asset to its retiring partners during this year itself, entire excess consideration has to be considered as short-term capital gains. ITO followed directions of IAC and held that difference between value for which property was made over to retiring two partners viz., Rs. 1,76,800 and original value of property to assessed-firm viz., Rs. 1,24,916 (Rs. 43,770 + 81,146 = 1,24,916) is short-term capital gains derived by assessee-firm. Thus ITO computed short-term capital, at Rs. 51,884 and levied capital gains tax thereon. assessee-firm came up in appeal before CIT (Appeals) and argued on basis of Gujarat High Court decision reported in CIT vs. Mohanbhai Parmabhai (1973) 91 ITR 393 (Guj) where it is held that when partner retires from partnership what receives is this share in partnership which is worked out and realised and does not represent consideration received by him as result of extinguishment of his interest in partnership assets and consideration paid to retiring partner does not attract capital gains tax. It was also argued that assuming that there was transfer profit should be considered as long term capital gains since asset was first acquired in year 1975. However, CIT (Appeals) distinguished Gujarat High Court decision by holding that building in this case was not transferred to two ex-partners as compensation for their share in partnership firm as was case in Gujarat High Court decision. It was sold for consideration keeping in view prevailing market value at time of transfer. He also held that transaction should be taken to have yielded only long term capital gains is without force because capital asset that was transferred came into being in that asst. yr. 1980-81. So he held against assessee on both arguments advanced before him. Now in second appeal before this Tribunal it is contended that CIT (Appeals) ought to have held that building was sold for consideration but was not merely transferred on retirement. According to assessee firm, CIT (Appeals) ought to have held that building in question was transferred to two retiring partners on eve of their retirement and there was no question of any capital gains. Without prejudice to above contention alternative contention was also raised stating that original date of purchase of property was in 1975 and hence that capital gains resulted, if any, should have been treated as long-term capital gains and necessary deduction under s. 80T should have been given. We have considered arguments of ld. counsel for assessee and ld. Departmental Representative. In support of his contention that when asset of firm is given to retiring partner in lieu of amount due from firm to retiring partner it does not amount to transfer of asset of firm to retiring partner but it amounts to retiring partner receiving his share in partnership firm and there was no transfer involved in such transaction ld. counsel relied upon Gujarat High Court decision reported in CIT vs. Mohanbhal Pamabhai (1973) 91 ITR 393 (Guj). In that case first contention before Gujarat High Court was that retirement of assessee from partnership amounted to dissolution of firm within meaning of s. 41 (2) and therefore no transfer to capital asset chargeable to tax under s. 45 was involved in process. Gujarat High Court while appreciating contention that retirement from partnership is equivalent to dissolution of firm and consequence in both cases are one and same followed decision of Hon ble Supreme Court in Narayanappa vs. Bhaskara Kirishnappa AIR 1966 SC 1300. Hoin ble Supreme Court in their judgement followed statement of law from Lindley on Parnership, 12th Edn. 375: "What is meant by share of partner is his proportion of partnership assets after they have been all realised and converted into money, and all partnership debts and liabilities have been paid and discharged. This it is, and this only, which on death of partner passes to his representatives, or to legatee of his share... and which on his bankruptcy passes to his trustee." In later portion of Supreme Court judgment while summarising position they held as follows: ".....his right during subsistence of partnership is to get his share of profits from time to time as may be agreed upon among partners and after dissolution of partnership or with his retirement from partnership of value of his share in next partnership assets as on date of dissolution or retirement after deduction of liabilities and prior charges." ld. counsel argued that as is stated in decision of Hon ble Supreme Court quoted above retiring partner is entitled to receive his share in net partnership assets as on date of retirement after deduction of liabilities and prior charges. Now what happened in this case is that after deducting debts and liabilities of partnership firm amount that is liable to be paid towards share of each of retiring partners is determined in his capital account, Instead of retiring amount in cash part of amount was repaid in shape of giving one of firms asset at stated value and full value of one of assets viz., Rs. 1,76,800 was shared by two retiring partners and amount of Rs. 88,400 each was debited in their respective capital accounts. Therefore, accept value of their share in partnership asset does not amount to transfer within meaning of s. 2(47) of IT Act, as per decision of Hon ble supreme Court quoted above. ld. counsel for assessee also relied upon decision of Andra Pradesh High Court in CIT vs. L. Raghu Kumar (1982) 31 CTR (AP) 192: (1983) 141 ITR 674 (AP) which had followed (1973) 141 ITR 674 (AP) which had followed (1973) 91 ITR 393 (Guj) as well as AIR 1966 SC 1300 (supra). That was also case of retirement of partner. There it was held that amount paid to retiring partner is his share in partnership and there is no element of transfer of interest in partnership assets by retiring partner to continuing partner. In tat case, excess over and above his capital does not constitute capital gain. In that case assessee was partner in two firms. It had retired from 1st Jan 1971 and on date of retirement it was credited with sum of Rs. 46,500 mere than amount due to it towards its capital and profit from both firms. revenue wanted to treat Rs. 46,500 as capital gains. Andhra Pradesh High Court held that for purposes of s. 45 of IT Act no distinction can be drawn between amount received by partner on dissolution of firm and that received on his retirement since both of them stand on same footing. Therefore, amount received by partner in partnership in excess of capital and profits standing to his credit in partner in partnership in excess of capital and profits standing to his credit in partnership at time of retirement cannot be construed as capital gain under s. 45 of IT Act inasmuch as there is no transfer within meaning of s. 2(47) of Act and such excess is not exigible to capital gains tax. Alternatively it was contended that if Tribunal comes to conclusion that there was 'capital gain involved in this transaction then inasmuch as asset was purchased long back in 1975 ITO should be directed to compute long-term capital gains by giving statutory deductions due to assessee under s. 80T. As against this, ld. Departmental Representative relied upon orders of lower authorities and contended that orders are quite valid and legal and cannot be interfered with. After considering arguments on both sides we are inclined to accept argument advanced on behalf of assessee. Andhra Pradesh High Court in decision cited above held specifically that merely because s. 47 (ii) excluded application of s. 45 in cases of dissolution of firms on ground that no transfer is involved, it cannot be implied that transfer is involved, it cannot be implied that transfer is involved in case of retirement. it further held that for purposes of s. 45 of IT Act no distinction can be made between dissolution and retirement since both of them stand on same footing. On said principle they held that amount received by partner from partnership on retirement cannot be construed as capital gain under s. 45 as there was no transfer within meaning of s. 2(47) of IT Act. In this case on excess was paid to each of retiring partners. Only value of one of assets of firm viz., building bearing D. No. 736/1,2 was adjusted to some extent towards amount due to each of retiring partners from partnership firm. Therefore, there is no question of any excess having been paid to retiring partners. In fact, in our opinion, facts before Andhra Pradesh High Court represent extreme case where amount due to retiring partners as per their capital account but also some excess viz., Rs. 46,500 was paid to retiring partners. viz., Rs. 46,500 was paid to retiring partners. Even in that case excess that was paid to retiring partner was not considered as capital gain in hands of retiring partner. When that was case there is no question of considering any capital gains in present case as no transfer is involved when price of capital asset was adjusted in capita accounts of two retiring partners. When there was no transfer there was no question of computing capital gains. No distinction can be drawn between retirement of partner and dissolution of firm as both of them are treated on same footing as per decision of Andhra Pradesh High Court (supra). Therefore, there was no scope of computing capital gains under law. When there was no scope to compute capital gains question whether it should be long term capital gains or short-term capital gains does not arise. In result, appeal is allowed and orders of lower authorities on point of capital gains are set aside. *** K. S. KUDCHI & BROS. v. INCOME TAX OFFICER