1968 PLP 195 (PTD)

Income‑tax‑Computation of Income‑Diversion of part of revenue before it becomes income of assessee and application of por tion of assessee's income distinguished‑Managing agency owned by joint Hindu family‑Partition between male members with direction to pay a portion of the agency commission to female member‑Share payable to female member whether deductible from male members taxable income‑Rule in Bejoy Singh Dudhuria's Case‑-Formation of registered firm by male members, effect of. A managing agency belonged to a Hindu joint family composed of A, his son B and A's wife. In a partition between the members of the family the managing agency was also divided and the partition deed provided that A and B would be entitled to the managing agency remuneration in equal shares and that each of them should pay to A's wife 2 as 8 pies out of their respective 8 as share in the managing agency. A and B constituted them selves into a registered firm and carried on the managing agency. In the assessment of the firm and each of the individual partners it was claimed that the 2 as. 8 pies share paid to A's wife by each of them should be deducted before ascertaining their taxable income: Held, (i) that even though the amount to be paid to A's wife could not be considered in the assessment of the firm, that would not prevent A and B from claiming that their real income as partners was not an 8 as share in the 'managing agency commission but only 8 as. less the amount which A's wife was entitled to receive from them ; (ii) under the deed of partition what the parties really intend ed was that only a portion of the managing agency commission should be the income of A and B and that the remaining portion should be the income of A's wife ; this was accordingly a case in which the portion of the managing agency commission payable to A's wife was diverted before it became the income of A and B and not a case of application of a part of the income of A and B, and the amount payable to A's wife should therefore be deducted before ascertaining the taxable income of A and B. Raja Bejoy Singh Dudhuria v. Commissioner of Income‑tax (1933) 1 I T R 135 applied. [Cases‑law referred.] Both these reference applications involve a common point. At the request of the assessee they are consolidated for the sake of convenience. The assessees require the Tribunal to state a case to the High Court of Bombay on a question of law which is said to arise out of the order of the Tribunal in I. T. As. Nos. 6972 and 6974 and I. T. As. Nos. 6975 and 6977 of 1953‑

54. Inasmuch as, in our opinion, a question of law does arise out of the aforesaid order of the Tribunal we draw up a statement of the case and refer it to the High Court of Judicature at Bombay under section 66(1) of the Indian Income‑tax Act.

2. Motilal Manekchand, his wife Bhagirathibai, and his son Maganlal formed a Hindu undivided family. The Hindu undivided family was being assessed in the past in respect of the managing agency commission of Pratap Mills Ltd., Amalner, and New Pratap Mills Ltd., Dhulia. The managing agency of the Amalner Mills stood in the name of a firm of three partners (husband, wife and son) and that of the Dhulia Mills in the name of two partners (father and son). As from 29th June 1949, a partition took place in the Hindu undivided family and some of the assets of the family were divided among the various co- partners. An order under section 25(4) was also passed by the Income‑tax Officer. The Department accepted that the managing agency business ceased to belong to the Hindu undivided family. The managing agency of the two textile mills was taken over by a partnership consisting of Motilal Manekehand and his son Maganlal styled as Motilal Manekchand & Sons. Clause (i) of the deed of dissolution reads as under: "(i) That the said Motilal Manekchand and Maganlal Motilal should take up the managing agency of the Pratap Mills Ltd., Amalner, carried on in the name of Motilal Manekchand & Co., and the managing agency of New Pratap Mills Ltd., Dhulia, carried on in the name of Motilal Manekchand & Sons and be entitled to the managing agents remuneration in equal shares and that they should pay to the said Bhagirathibai Motilal annas two and pies eight out of their respective eight annas share in the said two managing agencies so long as they or either of them continue or continues to hold the said managing agencies of either of them."

3. Relying upon the above clause of the deed of dissolution the firm of Motilal Manekchand & Sons claimed the deduction of the payment made to Bhagirathibai against the firm's income from managing agency business. The Tribunal held that the firm of two partners had rendered services to the textile mills and have earned the commission. The assessee firm as such had at no stage undertaken the liability to make any payment out of its commission. Even according to the deed of dissolution the liability to pay to Bhagirathibai was of the individual partners and not of the firm. The claim for the deduction of the amount as a revenue deduction was, therefore, rejected by the Tribunal. A copy of the partnership deed dated 19th January 1951, and a copy of the deed of dissolution dated 29th June 1949 are annexures "A" and "B" respectively, and form part of the case.

4. Alternatively, the two partners Motilal and Maganlal claimed the deduction of the payment made to Bhagirathibai against their respective shares from the partnership. In the opinion of the Tribunal it was a case of appropriation of profits to which section 12‑A applied.

5. It may be noted here that the assessee firm claimed the deduction of the payment made to Bhagirathibai in the following assessment year under section 12‑A of the Income‑tax Act. In the year of account the claim under section 12‑A was not made by the assessee as the formalities required by law under section 12‑A had not been complied with. This claim was, therefore, made in the year of account under section 10 (2) (xv) of the Act. The order of the Tribunal gives detailed reasons for rejecting the claim of the assessee. The two orders of the Tribunal dated 1st September 1955, are Annexures "C" and "D" and form part of the case.

6. The question of law which arises is: "Whether on the facts and in the circumstances of the case, the payment made to Bhagirathibai by virtue of the deed of dissolution dated the 29th June 1949, could be allowed as a deduction against the profits of the firm styled as Motilal Manekchand & Sons or against the share income from the firm in the hands of the partners ?"

7. The parties agree that all the facts necessary to draw up a statement of the case have been correctly stated. No suggestions are offered. Two orders of the Income‑tax Officer and two orders of the Appellate Assistant Commis sioner and the order passed by the Income‑tax Officer under section 25(4) are made part of the case at the special request of the Department. They are Annexures "E","F","G","H" and "L". The assessee is a partner in the firm of Messrs Motilal Manekchand & Sons. We have dealt with the firm's appeal wherein the firm claimed a deduction out of the managing agency commission earned by the firm. Half of that deduction is claimed in the appellant's assessment. The facts have been set out in the order referred to above and need not be reproduced. There is no provision in the Income tax Act under which any deduction can be allowed against the share income from a firm. This is a clear case of appropriation of profits. We may again state here that the managing agency commission is a remuneration for services rendered. In the present case the firm rendered the services and earned the remuneration. If the partners had undertaken to part with a part of that remuneration after it had been earned, it is an appropriation of profits. No charge can be created in this manner on the future earnings. If we were to accept the assessee's contention it would mean that it is open to a salaried employee to create a charge on his salary for the benefit of his wife or relatives. Income attracts liability to taxation at the time when it is earned.

2. It may be noted here that in the later two years the assessee has claimed the deduction not under section 10(2) (xv) but under section 12(A) which can only be done if it is a case of appropriation of profits. In the year of account, as necessary formalities required under section 12(A) have not been complied with, the claim is made under section 10(2) (xv).

3. We think there is no substance in this appeal which is dismissed. R. J. Kolah and Dwarakadas for the Assessee. Advocate‑General and Sunkersett for the Commissioner. CHAGLA, C. J.‑There was a joint family consisting of Motilal Manekchand and his son Maganlal. Motilal, Maganlal and Motilal's wife Bhagirathibai were appointed managing agents of the Pratap Mills at Amalner and the father and son were, appointed managing agents of the New Pratap Mills at Dhulia. It is common ground that the managing agency belonged to the joint and undivided Hindu family. This Hindu family was partitioned on the 1st July 1948, and a document was drawn up on the 29th June 1949, to give effect to that partition. There are three schedules to this deed of dissolution allocating joint family properties to the three parties who were entitled to equal shares on the partition of the joint Hindu family, viz., the father Motilal the son Maganlal and the wife or the mother Bhagirathibai. There was a provision with regard to the managing agency commission and the provision was that Motilal and Maganlal were entitled to equal shares in this managing agency commission of the two mills, but they both undertook to pay to Bhagt rathibai 2 annas and 8 pies share each out of their respec tive 8 annas share, and when we turn to the three schedules we find that in the schedules dealing with the father's and the son's property, what is credited to them is 8 annas share of the managing agency commission of both the mills less 2 annas and 8 pies, and when we turn to the schedule dealing with Bhagirathibai's properties we find that the 2 annas and 8 pies share in each of the managing agency commission is credited to her, and it is significant to 'note that in each schedule the total properties allocated comes to Rs. 13,03,646 and this amount is arrived at after taking into consideration the managing agency commission. After the dissolution of the family the father and son constituted a partnership and acted as the managing agents of these two mills, and the contention was put forward both by the firm and by each individual partner that the managing agency commission received by them and in respect of which they were liable to pay tax was not the full 16 annas received by them but 16 annas less the amount which went to Bhagirathibai. This contention was rejected by the Department and the Tribunal accepted the view of the Department. The assessee has now come before us. Now, the real question that we have to consider is this. What is the real income of each of the two partners, viz., the father Motilal and the son Maganlal ? Is his income 8 annas in the managing agency commission of the two mills, or is part of that income diverted so that the real income of the partner is not 8 annas but 8 annas less the amount which is diverted in favour of Bhagirathibai ? Now, it is necessary to remove one or two misunderstandings that might have been caused by certain contentions put forward by the assessee before the Tribunal. In the first place, this is not a case where a claim is made in respect of any deduction under the provisions of the Income‑tax Act. If such a claim had been put forward, then we would have to consider the various sections of the Act in order to determine whether the deduction is justified. But it is clear position in law, as we shall presently point out, that even though an assessee may not be allowed to claim a particular amount as a deduction falling within the provisions of the Act, he would be entitled to urge that his real income should be considered and if a certain amount is to be deducted in order to ascertain his real income, such a deduction would have to be made notwithstanding that the Income‑tax Act made no provision for such a deduction. In all cases of tax, what has got to be considered is what is the income of the assessee, and when that question arises what has got to be considered is the real income and not any artificial income, and for the purpose of ascertaining that real income every part of that income which may seem to be his income, if in fact it is not his income, if that part has been diverted and never constituted his real income, has got to be excluded. The other misunderstanding that was caused was by the claim made by the partnership that in the assessment of the partnership which is a registered firm this deduction should be allowed. Now, the partnership which constitutes the managing agency did not enter into any agreement with Bhagirathibai. The deed of dissolution to which attention has been drawn was between the three members of the joint family and it was as individuals that they were partitioning the joint family; property, and there fore the Tribunal was right when it took the view that as far as the partnership was concerned it could not contend that its income as managing agents was in any way diverted by a 'certain amount having to be paid to Bhagirathibai. But we have held that even though a registered firm may not be entitled to claim a deduction, when we come to the assessment of the partners constituting that firm, it would be open to a partner to contend that in order to determine his real income qua the share which he has received from the firm, any legitimate deduction should be taken into consideration. Therefore even though the amount to be paid to Bhagirathibai may not be considered in the assessment of the firm, that would not prevent the two partners from claiming that their real income as partners is not 8 annas share in the managing agency commission but 8 annas less the amount which Bhagirathibai was entitled to receive. See our' observations in Shanti Kumar's case ((1955) 27 I T R 69 at 79). Turning, therefore, to the question as to whether a partner who is before us on this assessment, viz., Motilal Manekchand, is entitled to relief in respect of the amount which he is liable to pay to Bhagirathibai, the first question that we have to consider is as to the nature of Bhagira thibai's claim against Motilal. It is obvious that Bhagira thibai has an overriding title to 2 annas and 8 pies share in the commission against Motilal. There was some controversy as to whether the provision in the deed of dissolution that Bhagirathibai was entitled to this share out of the 8 annas share of the managing agency constituted a charge do this commission in favour of Bhagirathibai. We are inclined to accept the submission of Mr. Kolah that it does constitute a charge, but in our opinion it is unnecessary to decide this question because this question can only have relevance and significance if we were considering a claim made for deduction under section 9 (1) (iv) of the Income‑tax Act where a claim is made in respect of immovable, property where the immovable property is charged or mortgaged to pay a certain amount. It is sufficient for' the purpose of this reference if we come to the conclusion that Bhagirathibai had a legal enforceable right against the partner in respect of her 2 annas and 8 pies share and that the partner was under a legal obligation to pay that amount. Now, it is necessary to consider what was the real nature of the transaction that took place when the parties divided and distributed the joint family property and drew up the document of the 29th June 1949. What they were dividing and distributing were the assets of the joint family and all the income received by the joint family, and there cannot be the slightest doubt that under this deed of dissolu tion what the parties agreed to was that only a portion of the managing agency commission should be the income of the two male parties, Motilal and Maganlal, and that a portion of the commission should also be the income of Bhagirathibai. If that is the true nature of the transaction, then it is clear that the income of the joint family property, to the extent that it was represented by the managing agency commission, was divided between the three members of the joint family, the father, the son and the wife. Therefore, when we ask ourselves the question as to what is the real income of the two partners, the clear answer to that question must be in view of this deed of dissolution that the real income is not 8 annas each in the managing agency commission but 8 annas less 2 annas and 8 pies and that the balance of the managing agency commission is the income of Bhagirathibai and not the income of the father and the son. The Advocate‑General has emphasised the fact that what was sought to be done was the application or allocation of the income of the partners after they' had received the income and after the managing agency commission had become their income. It is true that if this managing agency commission constitutes the income of the partners, then the Taxing Department is not concerned with how the partners apply or allocate this income. But the whole question before us is, looking to the true nature of the transaction, can it be said that the whole of the managing agency commission ever became the real income of the two partners, and in our opinion the answer must be against the contention of the Advocate‑General. Turning to the cases that were cited at the Bar, the first and the leading case is the decision of the Privy Council in Raja Bejoy Singh Dudhuria v. Commissioner of Income‑tax, Bengal ((1933) 1 I T R 135). In that case the assessee succeeded to the family ancestral eastate on the death of his father. After that his step‑mother brought a suit for maintenance against him and in that suit a consent decree was made directing the assessee to make a monthly payment of a fixed sum to his step mother and declaring that the maintenance was a charge on the ancestral estate in the hands of the assessee, and the assessee claimed that in computing his income the amount paid by him to the step‑mother under the decree should be excluded. The privy Council agreed with the view of the Chief Justice from whose judgment this appeal had been preferred that the assessee's liability to his step‑mother did not fall within any of the exemptions or allowances set out in the Income‑tax Act. But what the Privy Council points out is that the sums paid by the appellant to his step mother were not income of the appellant at all and they say: "In the present case the decree of the Court by charg ing the appellant's whole resources with a specific pay ment to his step‑mother had to that extent diverted his income from him and had directed it to his step mother ; to that extent what he received for her was not his income. It is not a case of the application by the appellant of part of his income in a particular way, it is rather the allocation of a sum out of his revenue before it becomes income in his hands." This passage can be applied to the facts of this case, if we were to substitute in place of the consent decree the deed of dissolution. As in the case before the Privy Council it was the consent decree which had diverted the income from the son to his step‑mother, in this case it is the deed of dissolution that has diverted the income frond the assessee to his wife Bhagirathibai, and to the extent that this income has been diverted the assessee has merely received the amount for her and it has never become his income. This case came to be considered by a Division Bench of this Court consisting of Sir John Beaumont and Mr. Justice Wadia in Commissioner of Income‑tax, Bombay v. D. R. Naick ((1939) 7 I T R 362). In that case the income of the assessee from an immovable property was subject to certain payments which he had to make under a decree of the Court to widows, of a joint family and these payments were claimed by the assessee not to constitute his income, and the Com missioner rejected the claim on 'the ground that they were not deductions which fell within section 9 of the Act, and Sir John Beaumont states at page 368: "But, in my opinion, the answer to the learned Com missioner's view is to be found in the decision of the Privy Council in Bejoy Singh Dudhuria v. Commissioner of Income‑tax, Calcutta. Their Lordships there were dealing with a very similar case, in which the assessee's income, derivable in part from immovable property, was subject to charge in favour of a widow, and their Lordships held that although those charges could not be deducted under section 9, the question really was whether the, income of the assessee was the whole income of the immovable property, or the income of the immovable property less the deduction, and they held that the real income, which was liable to tax, was the income subject to the deductions in respect of the charges." And Sir' John Beaumont applied that test to the case before him. In a more recent case, Prince Khanderao Gaekwar v. Commissioner of Income‑tax ((1948) 16 I T R 294), we applied this principle to a voluntary settlement made by two sons in favour of their mother, and the test we laid down was whether the property was subject to a valid and legal charge which could be enforced in a Court of law under which the assessee was bound to pay a certain amount recurring annually. In our opinion, the test would be the same even though there may not be a specific charge so long as there was an obligation upon the assessee to pay which could be enforced in a Court of law. The Advocate‑General has relied on another Privy Council Case, P. C. Mullick v. Commissioner of Income‑tax, Bengal ((1938) 6 I T R 206). The case is rather interesting because it correctly brings out the principle underlying the earlier Privy Council case. In this case a testator had directed his executors to pay Its. 10,000 out of the income of his property on the occasion of his addya sradh for expenses in connection therewith to the person who was entitled to perform the sradh; and the executor claimed this sum of Rs. 10,000 as an amount which he was bound to pay under the direction of the testator and contended that this sum of Rs. 10,000 never constituted the real income and therefore was riot liable to tax, and the Privy Council dismissed this claim in one sentence saying: "It is simply a case in which the executors having received the whole income of the estate apply a portion in a particular way pursuant to the directions of their testator, in whose shoes they stand." They also point out that the position might have been different if the residuary legatee was making this claim, but inasmuch as the executors who represented the estate of the testator made the claim, it was obvious that the claim was untenable inasmuch as what had been paid, had been paid out of the estate under the directions of the testator himself. In our opinion, therefore, the sum paid by the assessee partner to Bhagirathibai did not form part of his income and therefore, his income should be reduced to that extent. The question that has been referred to us does not clearly bring out the contention which has been put forward by Mr. Kolah before us. We will, therefore, reframe the question to read : "Whether on the facts and in the circum stances of the case, the amount paid by the assessee partner to Bhagirathibai is to be deducted before ascertaining his taxable income?" and the answer to that question as framed will be in the affirmative. The Commissioner to pay the costs. Question answered in the affirmative.