Our firm dissolved and the assets went to the partners. Has the firm transferred those assets, so that allowances it claimed on them can be withdrawn?
No, on the law as it then stood. The Supreme Court held that a partnership firm under the Indian Partnership Act 1932 is not a distinct legal entity apart from its partners, and the firm as such has no separate rights of its own in the partnership assets. What follows dissolution - the distribution, division or allotment of assets after liabilities are discharged - is nothing but a mutual adjustment of rights between the partners, so there is no extinguishment of any right of the firm and no transfer within section 2(47). The Court added a second reason: dissolution precedes distribution, so the distribution is not made by the firm at all.
Decided by the Supreme Court (Supreme Court of India - P.N. Bhagwati, V.D. Tulzapurkar and R.S. Pathak JJ; judgment by Tulzapurkar J) on 1979-09-19, reported as (1979) 120 ITR 49; 1980 AIR 176; 1980 SCR (1) 696; 1979 (4) SCC 766; (1979) 2 Taxman 409; 1980 SCC (Tax) 49; (1980) Tax LR 109. It bears on section 34(3)(b), section 2(47), section 155(5), section 33 of the Income Tax Act 1961, in Capital Gains and Deductions & Disallowances matters.
The provision it construes has gone, but the reasoning is the foundation of the Indian law on what a firm owns. The Court held that firm's property means no more than property in which all the partners have a joint or common interest, that partnership property is spoken of as belonging to the firm only to distinguish it from partners' separate property, and that a partner's share is his proportion of the assets after realisation and after debts are paid. That analysis is the premise of Sunil Siddharthbhai on contribution, and of the argument in every case about what a firm can transfer and to whom. The second ground is equally useful and often overlooked: because dissolution is in point of time anterior to distribution, the firm has ceased to exist before the assets move, so a provision requiring a transfer by the assessee cannot be satisfied.
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The appellant was a dissolved firm represented by one of its erstwhile partners. As constituted on 1 April 1959 it had four partners and carried on six businesses under six names - Malabar Fisheries Co, Coastal Engineering Co, Cochin Tin Factory and Goodwill Industries, all at Falluruthy, Combine Steel Industries at the industrial estate at Alavakkot, and Lite Metal Industries at Visakhapatnam. It was dissolved on 31 March 1963. Under the deed of dissolution one partner took over the first business, two others took the remaining five, and the fourth received Rs 3,81,082 in lieu of his shares in the assets of all the businesses. In the four assessment years 1960-61 to 1963-64 the firm had installed machinery on which it had been allowed development rebate under section 33. On the dissolution the Income-tax Officer took the view that section 34(3)(b) applied, there having been a sale or transfer of the machinery by the firm within the period specified, and acting under section 155(5) withdrew the development rebate for those years, the amending orders being passed against the dissolved firm. The Appellate Assistant Commissioner dismissed the appeals on 24 July 1964. The Tribunal allowed them, holding that no sale or transfer within section 34(3)(b) was involved in a transaction adjusting the rights of partners of a dissolved firm, and referred two questions. The Kerala High Court, by its judgment of 14 July 1972, answered against the assessee, holding that dissolution extinguished the firm's rights in the partnership assets and so amounted to a transfer within section 2(47). The firm appealed by special leave.
The appeals were allowed and the Revenue ordered to pay costs; section 34(3)(b) did not apply and the Tribunal's view was upheld. Three conditions must be satisfied before section 34(3)(b) can be invoked: the ship, machinery or plant must have been sold or otherwise transferred; the sale or transfer must be by the assessee; and it must be before the expiry of eight years from the end of the previous year of acquisition or installation. Only then is an allowance under section 33 deemed to have been wrongly made and only then may the officer withdraw it under section 155(5). The first condition failed. A firm under the Indian Partnership Act 1932 is not a distinct legal entity apart from the partners constituting it, and in law the firm as such has no separate rights of its own in the partnership assets - the firm's property means only property in which all the partners have a joint or common interest. So the distribution, division or allotment of assets to the partners on dissolution, after discharge of liabilities, is a mutual adjustment of rights between the partners; there is no extinguishment of the firm's rights and hence no transfer within section 2(47). The second condition failed too. The Court declined to express any opinion on the Karnataka High Court's contrary decision in M.A.J. Vasanaik about assets brought into a firm, that being the converse case.
The Court began with the two decisions under the 1922 Act. Dewas Cine Corporation held that sale in section 10(2)(vii) and its second proviso bears its ordinary meaning of a transfer of property for a price, and that distribution of the surplus on dissolution, after discharging debts and obligations, is always an adjustment of the partners' rights in the assets and is not a transfer, still less for a price - so no balancing charge arose against the dissolved firm. Bankey Lal Vaidya held the same in the context of capital gains, where the assets were taken over by one partner and the other paid the money value of his share: neither a sale, nor an exchange, nor a transfer of the firm's assets. The Revenue's answer was that those cases were decided under an Act which did not define transfer, whereas section 2(47) gives the word an artificial extended meaning taking in relinquishment and extinguishment of rights - so that on dissolution the firm's rights in the machinery were extinguished and vested in the allottee partners. The Court met that by asking whether the firm has rights in the partnership assets capable of extinguishment at all. It set out Lindley's account of the divergence between the mercantile and the legal notion of a firm: commercial men and accountants treat a firm as a body distinct from its members, but English law does not recognise it as distinct, and what is called the property of the firm is the partners' property, so that a partner may be debtor or creditor of his co-partners but cannot be debtor or creditor of the firm itself. Partnership property is spoken of as belonging to the firm only to distinguish it from the partners' separate property; all the partners are interested in the whole of it, no partner may take any portion and call it exclusively his, and a partner's share means his proportion of the assets after realisation and after all debts and liabilities are paid. The Indian position is almost the same. The Privy Council in Bhagwanji Morarji Goculdas accepted that the Indian Act goes further than the English in recognising a distinct personality, but held that the Indian Act, like the English, avoids making a firm a corporate body with perpetual succession; the provisions of Order XXX and sections 14 and 15 of the Partnership Act are matters of procedure and of distinguishing joint from separate estate. Addanki Narayanappa had already held that partnership property vests in all the partners, that during subsistence no partner can deal with any portion as his own or assign his interest in a specific item, and that his right is to his share of profits and, on dissolution, to a share in what remains after satisfying the liabilities. The second and independent ground was one of sequence: dissolution must in point of time be anterior to the actual distribution, which follows the making up of accounts and the discharge of debts. On dissolution the firm ceases to exist; the allotment that follows is made inter se between the erstwhile partners, not by the dissolved firm, so there is no transfer by the assessee to any person. The Court rejected the High Court's view that distribution by a deed takes place at the same instant as dissolution or is effected by the dissolved firm.
The firm as such has no separate rights of its own in the partnership assets but it is the partners who own jointly in common the assets of the partnership.
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Handle my notice → Ask a CA on WhatsAppNo, on the law as it then stood. The Supreme Court held that a partnership firm under the Indian Partnership Act 1932 is not a distinct legal entity apart from its partners, and the firm as such has no separate rights of its own in the partnership assets. What follows dissolution - the distribution, division or allotment of assets after liabilities are discharged - is nothing but a mutual adjustment of rights between the partners, so there is no extinguishment of any right of the firm and no transfer within section 2(47). The Court added a second reason: dissolution precedes distribution, so the distribution is not made by the firm at all. This was decided by the Supreme Court (Supreme Court of India - P.N. Bhagwati, V.D. Tulzapurkar and R.S. Pathak JJ; judgment by Tulzapurkar J) and bears on section 34(3)(b), section 2(47), section 155(5), section 33 of the Income Tax Act 1961. It is reported as (1979) 120 ITR 49; 1980 AIR 176; 1980 SCR (1) 696; 1979 (4) SCC 766; (1979) 2 Taxman 409; 1980 SCC (Tax) 49; (1980) Tax LR 109. The provision it construes has gone, but the reasoning is the foundation of the Indian law on what a firm owns. The Court held that firm's property means no more than property in which all the partners have a joint or common interest, that partnership property is spoken of as belonging to the firm only to distinguish it from partners' separate property, and that a partner's share is his proportion of the assets after realisation and after debts are paid. That analysis is the premise of Sunil Siddharthbhai on contribution, and of the argument in every case about what a firm can transfer and to whom. The second ground is equally useful and often overlooked: because dissolution is in point of time anterior to distribution, the firm has ceased to exist before the assets move, so a provision requiring a transfer by the assessee cannot be satisfied. If it applies to you, the first step is this: Do not use the outcome without checking the current law. Distribution of capital assets by a firm to its partners on dissolution or reconstitution is now dealt with expressly by statute, and the position is the opposite of the one this case reached.
The appellant was a dissolved firm represented by one of its erstwhile partners. As constituted on 1 April 1959 it had four partners and carried on six businesses under six names - Malabar Fisheries Co, Coastal Engineering Co, Cochin Tin Factory and Goodwill Industries, all at Falluruthy, Combine Steel Industries at the industrial estate at Alavakkot, and Lite Metal Industries at Visakhapatnam. It was dissolved on 31 March 1963. Under the deed of dissolution one partner took over the first business, two others took the remaining five, and the fourth received Rs 3,81,082 in lieu of his shares in the assets of all the businesses. In the four assessment years 1960-61 to 1963-64 the firm had installed machinery on which it had been allowed development rebate under section 33. On the dissolution the Income-tax Officer took the view that section 34(3)(b) applied, there having been a sale or transfer of the machinery by the firm within the period specified, and acting under section 155(5) withdrew the development rebate for those years, the amending orders being passed against the dissolved firm. The Appellate Assistant Commissioner dismissed the appeals on 24 July 1964. The Tribunal allowed them, holding that no sale or transfer within section 34(3)(b) was involved in a transaction adjusting the rights of partners of a dissolved firm, and referred two questions. The Kerala High Court, by its judgment of 14 July 1972, answered against the assessee, holding that dissolution extinguished the firm's rights in the partnership assets and so amounted to a transfer within section 2(47). The firm appealed by special leave. The matter was decided on 1979-09-19 by the Supreme Court (Supreme Court of India - P.N. Bhagwati, V.D. Tulzapurkar and R.S. Pathak JJ; judgment by Tulzapurkar J). On those facts the Supreme Court held as follows. The appeals were allowed and the Revenue ordered to pay costs; section 34(3)(b) did not apply and the Tribunal's view was upheld. Three conditions must be satisfied before section 34(3)(b) can be invoked: the ship, machinery or plant must have been sold or otherwise transferred; the sale or transfer must be by the assessee; and it must be before the expiry of eight years from the end of the previous year of acquisition or installation. Only then is an allowance under section 33 deemed to have been wrongly made and only then may the officer withdraw it under section 155(5). The first condition failed. A firm under the Indian Partnership Act 1932 is not a distinct legal entity apart from the partners constituting it, and in law the firm as such has no separate rights of its own in the partnership assets - the firm's property means only property in which all the partners have a joint or common interest. So the distribution, division or allotment of assets to the partners on dissolution, after discharge of liabilities, is a mutual adjustment of rights between the partners; there is no extinguishment of the firm's rights and hence no transfer within section 2(47). The second condition failed too. The Court declined to express any opinion on the Karnataka High Court's contrary decision in M.A.J. Vasanaik about assets brought into a firm, that being the converse case.
The Court began with the two decisions under the 1922 Act. Dewas Cine Corporation held that sale in section 10(2)(vii) and its second proviso bears its ordinary meaning of a transfer of property for a price, and that distribution of the surplus on dissolution, after discharging debts and obligations, is always an adjustment of the partners' rights in the assets and is not a transfer, still less for a price - so no balancing charge arose against the dissolved firm. Bankey Lal Vaidya held the same in the context of capital gains, where the assets were taken over by one partner and the other paid the money value of his share: neither a sale, nor an exchange, nor a transfer of the firm's assets. The Revenue's answer was that those cases were decided under an Act which did not define transfer, whereas section 2(47) gives the word an artificial extended meaning taking in relinquishment and extinguishment of rights - so that on dissolution the firm's rights in the machinery were extinguished and vested in the allottee partners. The Court met that by asking whether the firm has rights in the partnership assets capable of extinguishment at all. It set out Lindley's account of the divergence between the mercantile and the legal notion of a firm: commercial men and accountants treat a firm as a body distinct from its members, but English law does not recognise it as distinct, and what is called the property of the firm is the partners' property, so that a partner may be debtor or creditor of his co-partners but cannot be debtor or creditor of the firm itself. Partnership property is spoken of as belonging to the firm only to distinguish it from the partners' separate property; all the partners are interested in the whole of it, no partner may take any portion and call it exclusively his, and a partner's share means his proportion of the assets after realisation and after all debts and liabilities are paid. The Indian position is almost the same. The Privy Council in Bhagwanji Morarji Goculdas accepted that the Indian Act goes further than the English in recognising a distinct personality, but held that the Indian Act, like the English, avoids making a firm a corporate body with perpetual succession; the provisions of Order XXX and sections 14 and 15 of the Partnership Act are matters of procedure and of distinguishing joint from separate estate. Addanki Narayanappa had already held that partnership property vests in all the partners, that during subsistence no partner can deal with any portion as his own or assign his interest in a specific item, and that his right is to his share of profits and, on dissolution, to a share in what remains after satisfying the liabilities. The second and independent ground was one of sequence: dissolution must in point of time be anterior to the actual distribution, which follows the making up of accounts and the discharge of debts. On dissolution the firm ceases to exist; the allotment that follows is made inter se between the erstwhile partners, not by the dissolved firm, so there is no transfer by the assessee to any person. The Court rejected the High Court's view that distribution by a deed takes place at the same instant as dissolution or is effected by the dissolved firm. In the words reproduced by the source cited on this page: "The firm as such has no separate rights of its own in the partnership assets but it is the partners who own jointly in common the assets of the partnership."
It was decided by the Supreme Court on 1979-09-19 and is reported as (1979) 120 ITR 49; 1980 AIR 176; 1980 SCR (1) 696; 1979 (4) SCC 766; (1979) 2 Taxman 409; 1980 SCC (Tax) 49; (1980) Tax LR 109. Binding on every court and authority in India. A Supreme Court decision binds every assessing officer, every Commissioner (Appeals), every bench of the Income Tax Appellate Tribunal and every High Court in India. An officer who declines to follow it is acting contrary to law, and that refusal is itself a ground of appeal. On section 34(3)(b), section 2(47), section 155(5), section 33, the practical question is whether the facts of your own notice match the facts of this case closely enough for the same rule to apply.
It helps the taxpayer. The appeals were allowed and the Revenue ordered to pay costs; section 34(3)(b) did not apply and the Tribunal's view was upheld. Three conditions must be satisfied before section 34(3)(b) can be invoked: the ship, machinery or plant must have been sold or otherwise transferred; the sale or transfer must be by the assessee; and it must be before the expiry of eight years from the end of the previous year of acquisition or installation. Only then is an allowance under section 33 deemed to have been wrongly made and only then may the officer withdraw it under section 155(5). The first condition failed. A firm under the Indian Partnership Act 1932 is not a distinct legal entity apart from the partners constituting it, and in law the firm as such has no separate rights of its own in the partnership assets - the firm's property means only property in which all the partners have a joint or common interest. So the distribution, division or allotment of assets to the partners on dissolution, after discharge of liabilities, is a mutual adjustment of rights between the partners; there is no extinguishment of the firm's rights and hence no transfer within section 2(47). The second condition failed too. The Court declined to express any opinion on the Karnataka High Court's contrary decision in M.A.J. Vasanaik about assets brought into a firm, that being the converse case. It arises in Capital Gains and Deductions & Disallowances matters, on section 34(3)(b), section 2(47), section 155(5), section 33 of the Income Tax Act 1961, and was decided by Supreme Court of India - P.N. Bhagwati, V.D. Tulzapurkar and R.S. Pathak JJ; judgment by Tulzapurkar J. Before relying on it, read the source linked on this page and check whether it has since been distinguished, overruled or overtaken by an amendment to the Income Tax Act. In practice the steps that follow from it are these. Use the reasoning where it still governs - on what the firm owns, on whether a firm can be said to hold rights capable of extinguishment, and on the sequence of dissolution, accounting, discharge of liabilities and distribution. Get the sequence into the record: the date of dissolution, the accounting, the discharge of liabilities and the date of the deed of distribution, because the Court's second ground turns on that order of events. Keep the converse case separate. The Court expressly declined to express an opinion on whether bringing an individual asset into a firm is a transfer, which is a different question decided elsewhere.
Superseded by amendment. I read the full judgment to its operative order allowing the appeals. I checked no later authority or statutory history in this session. The provision construed, section 34(3)(b) on withdrawal of development rebate, is itself obsolete. More importantly for a reader, the wider result - that distribution of assets on dissolution is not a transfer chargeable in the firm's hands - has been reversed by statute: I state from my own knowledge, unverified here, that a provision was inserted charging the firm with capital gains on the distribution of capital assets on dissolution or otherwise, the fair market value on the date of transfer being deemed the full value of the consideration, and that the scheme was recast again more recently for reconstitution as well as dissolution. The reasoning on the nature of a firm and its property is undisturbed, and the Court applied it again in Sunil Siddharthbhai. No source could be cited for that finding. Checking whether an authority still stands matters as much as knowing what it held: a decision may be overruled on one point and survive on another, or the provision it interprets may have been amended since. Read the source and the editor's note on this page before relying on it in a reply to an Assessing Officer or in an appeal.
Until build 87 this library carried a second entry on the same judgment, at /caselaw/case/malabar-fisheries-v-cit-distribution-on-dissolution-is-not-a-transfer/, which asked: Our firm dissolved and the machinery went to the partners. The officer says that is a transfer and wants to withdraw the development rebate. Is he right? It was the shorter of the two write-ups and has been merged into this one. That address now redirects here, and every citation, section and subject it carried that this entry did not has been folded in. The Court decided the case on section 34(3)(b) and expressly refused to express any opinion on the converse question - whether bringing an individual's asset into a firm is a transfer - on which the Karnataka High Court had held against the assessee in M.A.J. Vasanaik. It also did not decide the first question referred, about adjustment of mutual rights, separately from the second. The harvested page carries an editorial headnote whose account of the facts differs from the judgment's - the headnote says the firm carried on different businesses and that the remaining concerns went to two partners, while the judgment says there were six businesses of which five went to two partners; this record follows the judgment. The later statutory change described in the validity field is from my own knowledge and was not checked against the statute. This library shows the verification state of every entry openly. This entry has not yet been read in full by a chartered accountant. The summary reflects the sources listed on this page. Read the source before you rely on it in a reply to an Assessing Officer or in an appeal before the Commissioner (Appeals) or the Income Tax Appellate Tribunal.
The appeals were allowed and the Revenue ordered to pay costs; section 34(3)(b) did not apply and the Tribunal's view was upheld. Three conditions must be satisfied before section 34(3)(b) can be invoked: the ship, machinery or plant must have been sold or otherwise transferred; the sale or transfer must be by the assessee; and it must be before the expiry of eight years from the end of the previous year of acquisition or installation. Only then is an allowance under section 33 deemed to have been wrongly made and only then may the officer withdraw it under section 155(5). The first condition failed. A firm under the Indian Partnership Act 1932 is not a distinct legal entity apart from the partners constituting it, and in law the firm as such has no separate rights of its own in the partnership assets - the firm's property means only property in which all the partners have a joint or common interest. So the distribution, division or allotment of assets to the partners on dissolution, after discharge of liabilities, is a mutual adjustment of rights between the partners; there is no extinguishment of the firm's rights and hence no transfer within section 2(47). The second condition failed too. The Court declined to express any opinion on the Karnataka High Court's contrary decision in M.A.J. Vasanaik about assets brought into a firm, that being the converse case.
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