1960 PLP 881 (PTD)

DIXIT, C. J.-This reference under section 66 (1) of the Indian Income-tax Act relates to the assessment to income-tax of one Sorabji-Frarnji Kerawala as an individual. The question referred for the decision of this Court by the Income-tax Appellate Tribunal is as follows: "Whether interest paid by the assessee on money borrowed from outsiders for making advances to the firms in which he was a partner is allowable as a deduction while computing his individual income for the purpose of assessment ?" The assessee is a partner in two unregistered firms known as the Nimar Cotton Press Factory and the Nimar Gin Factory, Khandwa. During the material assessment year he borrowed money from three persons and paid interest to them on his borrowings for the purposes of the firm amounting to Rs. 5,086-11-0. In his individual assessment the asses-lee claimed to deduct this amount of interest from his assessable income. The Income-tax Officer negatived the claim holding that these payments of interest were made by the assessee not for the purpose of his business but that they were made in connection with the loan amount taken for the two unregistered firms as partner and that these payments were attributable properly to the business of the firm and not of the assessee. The Appellate Assistant Commissioner disallowed the claim on the ground that ordinary partners were allowed interest on share capitals and other borrowings advanced to the firms, but that in the instant case the assessee had not shown the exact amount of interest received by him from the two unregistered firms on his advances. The Appellate Tribunal relying on Shantikumar v. Commissioner of Income-tax ((1955) 27 I T R 69) held that where a partner borrowed money from an outsider and advanced it to the firm in which he was a partner, the interest paid by him was allowable as a deduction from his share in the profits of the firm and that, therefore, the interest paid by the assessee (Shri Kerawala) to outsiders for the money advanced to the two unregistered firms of which he was a partner had to be allowed as a deduction. This matter had come to this Court once before in Miscel laneous Civil Case No. 323 of 1955. At the time of the hearing of that reference this Court found that the statement of the case was not proper and that it did not disclose whether as a matter of fact the borrowing by the assessee was for the purposes of the firms or for the purpose of advancing loan to the firms on which the firms were liable to pay interest to him and did not disclose the exact state of facts. The reference was, therefore, returned for a proper statement of the case so that the question referred could be answered not on hypothetical grounds but on a finding of fact which could be deduced from the assessment record. The present reference has been made after investigation of facts. The Appellate Tribunal has now observed that there are no partnership deeds of the two unregistered firms, that "the only relevant account books are those of the assessee through which all the receipts and expenses of both the firms pass ; and that even the daily cash receipts of the firms were brought in the assessee's own account books ; and that in this state of affairs it was not possible to say whether the advances were by way of capital or loans." The Tribunal has, however, reached the firm conclusion. "That the firms were being financed only by the assessee and his borrowings have been utilised in the business of both these firms although any particular borrowing cannot be pointed out in this direction." In these circumstances we have no other alternative but to assume-as did the Appellate Tribunal-that the amount of Rs. 5,086-11-0 which the assessee claimed to deduct was paid by him as interest to outsiders on moneys borrowed by him for the use of the two unregistered firms and advanced to them. We accordingly proceed to dispose of the reference. The assessee bases his claim for deduction on clause (iii) of subsection (2) of section 10 of the Act. The provision is as follows: "10. (1) The tax shall be payable by an assessee under the head `Profits and gains of business, profession or vocation' in respect of the profits and gains of any business, profession or vocation carried on by him. (2) Such profits or gains shall be computed after making the following allowances, namely :-. . . (iii) in respect of capital borrowed for the purposes of the business, profession or vocation, the amount of the interest paid . . . ." Now it is clear from the wording of subsection (1) of section 10 that when it say that the tax is to be payable by an assessee, it necessarily implies that tax is payable in respect of the taxable profits and gains of business carried on by him. If the profits of the business are not assessable to tax, then no question of any deduction under subsection (2) can arise. Deduction under clause (iii) is allowable only in respect of capital borrowed for the purpose of the business, profession or vocation. If, therefore, money is borrowed for the purposes of a business the profits of which are not assessable under the Act, then no deduction can be claimed under clause (iii) in respect of interest on such borrowings. (See In re : Provident Investment Co. ((1932) 2 Comp. Cas. 312) and Commissioner of Income-tax v. Somasundaram Chettiar (A I R 1928 Mad. 487). Here the assessee was a partner of two unregistered firms and the money which he borrowed was for the purposes of these two unregistered firms. Now, where a firm is unregistered the tax is assessed on and payable by the firm itself. It is not payable by a partner of an unregistered firm in respect of any portion of his share in the profits of the firm provided the tax has already been paid by the firm. The share in the firm's profits is not taxable in the partner's hands, though it has to be included in his total income for the purpose of determining the rate of tax applicable to his taxable income. No doubt, under clause (b) of subsection (5) of section 23 it is open to the Income-tax Officer to assess a partner of an unregistered firm in respect of his share of the firm's profits instead of assessing the unregistered firm as the unit of assessment, if such a course would be more advantageous to the revenue. But that was not the course adopted here and the two unregistered firms were assessed as units of assessment. That being so, the share of profits received by the assessee Kerawala from the two unregistered firms was not taxable in his hands, and, therefore, no deduction can be claimed by him under clause (iii) of section 10 (2) in respect of the amount of interest paid by him on money borrowed for the use of the two firms. The decision in Shantikumar v. Commissioner of Income-tax on which the Appellate Tribunal relied is not relevant here. That was a case where the assessee who was a partner in a registered firm claimed that he was entitled to deduct a certain amount paid by him as interest on moneys borrowed against the profits shown by him in respect of his share in the registered firm and the question that was considered by the Bombay High Court was whether it was open to a partner in a registered firm to claim any deduction whatsoever against the amount of profit determined by the income-tax authorities as the profits of the firm. While dealing with the case, the learned Chief Justice emphasized the distinction between a registered and an unregistered firm under the Income-tax Act and pointed out that when a firm is unregistered, the unregistered firm is the assessee and the firm itself is liable to pay tax and is assessed like an individual ; and that in the case of a registered firm when the profits are assessed, the assessee for the purpose of paying the tax is not the registered firm but each partner of the registered firm. Further, the share of the profits coming to a partner on the basis of the assessment made against the firm is to be included by the partner in his total income, and then the assessment of the partner proceeds because he is the assessee and liable to pay the tax. In the Bombay case the question as to whether a partner in a registered firm who is being assessed under section 10 (1) in respect of a share of profits is entitled to claim any deduction under section 10 (2) was left open. The question of deduction claimed by the assessee in that case was decided from the point of view of commercial accounting and it was held that it would be open to the assessee to claim a deduction, provided he satisfied the taxing authorities that such deduction represented a necessary expenditure, the expenditure being incurred in order to enable him to earn the profits which were being subjected to tax. Shri Dabir, learned counsel for the assessee, suggested that the amount of interest paid by the assessee was on borrowed capital for his own money-lending business and that it was in the course of this money-lending business that the money borrowed by him was advanced to the two unregistered firms and that, therefore, the assessee was entitled to a deduction of the amount of interest under clause (iii) of section 10 (2). The short answer to this suggestion is that there is nothing to show that the assessee carried on money-lending as a business which was earning or was capable of earning taxable profits and that it was in the course of this money-lending business that he had made certain advances to the two unregistered firm. This was not the way in which the claim for deduction was sought to be put forward and proved before the Income-tax Officer. In this case it is obvious that for claiming deduction on account of the interest amount paid by him, the assessee should have got the firms themselves to pay the interest amount directly and claimed deduction in respect of that amount at the time of the assessment of the firms themselves. For these reasons our answer to the question stated by the Tribunal for decision is that the assessee in the present case is not entitled to any deduction for interest paid by him on money borrowed from outsiders for making advances to the two unregistered firms. The assessee shall pay the costs of the Commissioner of Income-tax. Counsel's fee is fixed at Rs.

100. Reference answered accordingly.