For computing allowable partners remuneration u/s 40(b) AO can not allocate net profit into different heads to exclude interest income
ABCAUS Case Law Citation
ABCAUS 3413 (2020) (10) ITAT
Important case law relied upon by the parties:
CIT V/s J. J. Industries (2013) 358 ITR 531
Md. Serajuddin & Bros. vs. CIT (2012) 24 Taxman.com 46 (Calcutta)
In the instant case, the assessee had challenged the order passed by the CIT(A) in confirming in confirming disallowance of remuneration of partners u/s 40(b)(v) of the Income Tax Act, 1961 (the Act) by treating interest on Fixed Deposits and interest on income tax refund as income from other sources.
During the course of assessment proceedings it was noticed by the Assessing Officer (AO) that the total income of the assessee included dividend income, interest on fixed deposit, interest on income tax refund and interest on recurring deposit which were covered under the head “Income from other sources”.
The AO noted that these incomes were not directly related to business income of the assessee but derived from other sources, therefore were required to be deducted from the net profit to compute book profit.
Therefore, the AO reduced the book profit by the income from other sources for calculating limit of admissible remuneration / salary as per u/s 40(b)(v) of the Act.
The assessee submitted that interest income can be legally considered as income from business only and remuneration was correctly calculated on the same. He said that Interest earned on income tax refund is also business income only and the same has also correctly treated as so in the computation.
The Tribunal noted that the Hon’ble High Court had occasion to deal with the question as to whether whole income embedded in Profit & Loss account of assessee is to be taken into consideration for allowing deduction of remuneration paid to partners under section 40(b) without excluding interest income credited to P & L account even if it is not business income?
In the said case, the Tribunal had proceeded on the basis that for the purpose of ascertaining such ceiling on the basis of book profit, the profit shall be in the profit and loss account and was not to be classified in the different heads of income under Section 40 of the Act. The interest income, therefore, cannot be excluded for the purposes of determining the allowable deduction of remuneration paid to the partners under Section 40b of the Act.
The Hon’ble High Court observed that the where Assessing Officer himself in the assessment had taxed interest income as business income. The appeal of the Revenue was dismissed as not giving rise to any question of law. However, the Hon’ble High Court stated that the correctness of the Tribunal’s view on the specific issue may be gone into in an appropriate case.
In another case, the Hon’ble High Court held that even if the income from other sources is included in the profit and loss accounts to ascertain the net profit qua book-profit for computation of the remuneration of the partners the same cannot be discarded.
In view of the above decisions, the Tribunal opined that clearly, for the purpose of Section 40(b)(v) read with Explanation there cannot be separate method of accounting for ascertaining net profit and/or book profit. Therefore, the interest income earned by the assessee-firm from the fixed deposit receipts should. not be ignored for the purpose of working-out the book profit to ascertain the ceiling of the partners’ remuneration.
The Tribunal stated that Explanation 3 of section 40(b) of the Act, makes it evident that selection of the any head of income, more particularly of the head “Profit or gain of business or profession”, is nowhere required or envisaged by the Legislature. That is, there is no warrant to select the head of income so far as the computation of the permissible amount of deduction of the remuneration under section 40(b) is concerned.
The Tribunal said that as per Explanation 3 of section 40(b) of the Act, Assessing Officer does not get the jurisdiction to go behind the net profit shown in the Profit & Loss account except to the extent of the adjustments provided in the Explanation 3, nor he is empowered to decide under which head the income is to be taxed. The net profit as shown, is not to be allocated into different components.
Accordingly, the appeal was dismissed in favour of the assessee.
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Ceiling of allowable partners remuneration u/s 40b and exclusion of interest income
In another case, the Hon’ble High Court held that even if the income from other sources is included in the profit and loss accounts to ascertain the net profit qua book-profit for computation of the remuneration of the partners the same cannot be discarded.
In view of the above decisions, the Tribunal opined that clearly, for the purpose of Section 40(b)(v) read with Explanation there cannot be separate method of accounting for ascertaining net profit and/or book profit. Therefore, the interest income earned by the assessee-firm from the fixed deposit receipts should. not be ignored for the purpose of working-out the book profit to ascertain the ceiling of the partners’ remuneration.
The Tribunal stated that Explanation 3 of section 40(b) of the Act, makes it evident that selection of the any head of income, more particularly of the head “Profit or gain of business or profession”, is nowhere required or envisaged by the Legislature. That is, there is no warrant to select the head of income so far as the computation of the permissible amount of deduction of the remuneration under section 40(b) is concerned.
The Tribunal said that as per Explanation 3 of section 40(b) of the Act, Assessing Officer does not get the jurisdiction to go behind the net profit shown in the Profit & Loss account except to the extent of the adjustments provided in the Explanation 3, nor he is empowered to decide under which head the income is to be taxed. The net profit as shown, is not to be allocated into different components.
Accordingly, the appeal was dismissed in favour of the assessee.
