• Kandivali West Mumbai 400067, India
  • 022 39167251
  • support@email.com
October 6, 2020

Remuneration to Partners as Representative of HUF Allowed u/s 40(b)

by shivam jaiswal in Income Tax

Remuneration to Partners as Representative of HUF Allowed u/s 40(b)

While computing the income of an assessee, there are certain expenditures which are disallowed. This means that the income tax department does not allow the benefit of such expenditures and the assesses are required to pay taxes on such expenditures by adding it back to the net profits. Expenses which are allowed as a deduction while computing Profits or Gains from Business or Profession are covered from Section 28 to 37 of the Income Tax Act.

There are two primary reasons for disallowance of any expenditure:

  • The tax amount required to be deducted on certain expenditures are not deducted while making the payment.
  • The expenditure does not implicitly relate to the conduct of such business or profession

Let us refer to the case of Shreeji Corporation Vs JCIT (ITAT Ahmedabad) where the AO had made several disallowances from the Income of the assessee which were confirmed by the CIT(A).

Facts of the Case:

  • The case of the assessee was subject to scrutiny and notice u/s. 143(2).
  • Assessing Officer (AO) passed Assessment order u/s 143(3) after making several additions under various heads mainly on account of disallowance of various expenses.
  • Aggrieved assessee filed appeal before the CIT(A) and the CIT(A) partly allowed the appeal of the assessee. Aggrieved with the order of the CIT(A), assessee filed an appeal before the Income Tax Appellate Tribunal (ITAT).

Observations of ITAT on the disallowance of 25% of labour expenses

  • During the assessment, the AO noticed that assessee had claimed Rs. 1,65,31,290 as labour expenses incurred during the year under consideration.
  • On verification, the AO observed various discrepancies in the supporting material furnished by the assessee i.e. bills were undated, unsigned, no address, no serial no etc.
  • Considering such discrepancies, the AO disallowed 50% of such labour expenses and added to the total income of the assessee.
  • Aggrieved assessee filed an appeal before the CIT(A) and the CIT(A) partly allowed the appeal of the assessee by restricting the disallowance to 25% of the labour expenses.
  • The assessee contended that disallowance of labour expenses was incorrect as all the labour expenses were genuine and related to the business activity of the assessee.
  • ITAT observed that during the course of assessment, the AO observed that assessee had not made proper quality of compliance during the course of assessment proceedings, therefore, the AO had pointed out various discrepancies in respect of supporting evidences furnished towards claim of labour expenses.
  • It was also stated that assessee had not produced proper supporting documents therefore after observing various discrepancies the AO had disallowed 50% of such labour expenses and added to the total income of the assessee.
  • The CIT(A) noticed that gross profit of the assessee firm had gone up from 4.89% to 14.01% during the year under consideration.
  • However, considering the fact that assessee had failed to furnish the proper relevant detail in respect of claim of the expenditure, the disallowance was restricted to 25% of labour expenses.
  • The CIT(A) stated that assessee had also produced bills in respect of most of the discrepancies and the gross profit of the assessee firm had tremendously gone up from 4.89% to 14.01% in the earlier years.
  • The CIT(A) held that many discrepancies noted by the AO were explained by the assessee during the course of appellate proceedings but many have not been explained. Therefore, the CIT(A) restricted the disallowance to the extent of Rs. 25%.
  • In the light of the findings of the CIT(A) and considering the there was tremendous jump in the gross profit from 4.89% to 14.01% in the year, ITAT considered it reasonable to restrict the disallowance to the extent of 12.5% to meet the end of justice for want of verification on account of not providing proper supporting bill/vouchers.
  • Therefore, addition to the extent of Rs. 18,64,135 is confirmed and the appeal was partly allowed.

Observations of ITAT on Disallowance of salary expenses of Rs. 4,25,000

  • During the course of assessment, the AO noticed that assessee had claimed salary expenses of Rs. 9,47,366.
  • On verification, the AO stated that assessee could not produce relevant evidences in support of claim of salary expenses to the amount of Rs. 4.25 lacs.
  • Consequently, the AO disallowed the salary expenses of Rs. 4.25 lacs as the assessee has failed to prove the genuineness of such salary expenses.
  • The assessee filed appeal before the CIT(A) and the CIT(A) dismissed the appeal of the assessee.
  • During the proceedings before the ITAT, the assessee reiterated the same submission which was furnished before the lower authorities.
  • The assessee had only furnished the copies of ledger account but failed to demonstrate with relevant evidences, the nature of work done by the employees, copies of bank statement reflecting the payment made and other relevant evidences that the aforesaid employees have employed with assessee.
  • Therefore, ITAT did not find any reason to interfere in the finding CIT(A) and therefore, this ground of appeal of the assessee was dismissed.

Enter your email address:

Subscribe to faceless complainces

Observations of ITAT on Disallowance of supervision charges of Rs. 2,22,200

  • During the course of assessment, the AO disallowed supervision charges of Rs. 2,22,200 (1,61,600 + 60,600) as the assessee failed to support the incurring of such expenses with relevant evidences.
  • The assessee filed appeal before the CIT(A) and the CIT(A) dismissed the appeal of the assessee.
  • It was noticed by the ITAT that the assessee had claimed that such supervision charges paid to Shri Gaurang Patel, however, the assessee failed to prove the genuineness of incurring of such expenditure with relevant supporting documentary evidences about the nature of work performed by him and details of payment etc.
  • Therefore, ITAT did not find any reason to interfere in the finding CIT(A) and therefore, this ground of appeal of the assessee was dismissed.

Observations of the ITAT on addition of Rs. 19,40,000 by treating advance booking as unexplained credit

  • During the course of assessment, the AO treated the receipt of Rs. 6,50,000 from Mehta Chhayaben Umeshbhai and Rs. 12,90,000 received from Patel Bharatkumar as unexplained credit stating that identity of the payer, genuineness of the transaction and creditworthiness were not proved.
  • The assessee filed appeal before the CIT(A) and the CIT(A) dismissed the appeal of the assessee.
  • ITAT observed that the AO treated Rs. 19,40,000 as unexplained stating the identity and creditworthiness of the parties and the genuineness of the transaction were not proved.
  • The assessee claimed that this amount was received from these persons on account of booking amount and produced copies of sale deed to establish genuineness of the transaction.
  • ITAT went through the paper book wherein the assessee had placed the copies of the documents demonstrating that there was sale deed made with the aforesaid parties along with the identity and address of the parties from whom booking amount received.
  • The AO had not made any inquiry/verification from the aforesaid parties to contradict the claim of the assessee that amount was received as booking amount.
  • In the light of the above facts ITAT considered that decision of CIT(A) was not justified. Therefore, this ground of appeal of the assessee was allowed by ITAT.

Observations of the ITAT on Disallowance of Rs. 4,12,500 on account of unexplained expenditure

  • During the course of assessment, the AO noticed that assessee has claimed payment of Rs. 4,12,500 to Chaudhary shivabhai Keshavbhai.
  • However, the assessee failed to substantiate the genuineness of such payment with any relevant supporting evidences.
  • The assessee filed appeal before the CIT(A) and the CIT(A) dismissed the appeal of the assessee.
  • ITAT observed that before the lower authorities, the assessee had not submitted any evidences, detail and nature of expenditure incurred, therefore, the claim of the assessee was disallowed.
  • Even during the proceedings before the ITAT, the assessee failed to furnish any relevant supporting evidences to demonstrate that the aforesaid expenditure was incurred for the purpose of business.
  • Therefore, ITAT did not find any merit in this ground of appeal of the assessee and the same was dismissed.

Observations of ITAT on Disallowance of Rs. 3,34,874 on account unexplained expenditure

  • During the course of assessment on perusal of the purchase register, the AO noticed that total purchases were shown at Rs. 2,24,51,267, however in the P & L A/C the assessee has debited total purchases at Rs. 2,27,86,141.
  • The assessee explained that the difference between the purchase register and the P & L A/c was due to grouping change in account.
  • The assessee had mentioned entries of audit fee Rs. 1,55,400, land development Rs. 28,100 and tube well account Rs. 1,29,857.
  • The assessee failed to furnish any relevant supporting evidences regarding grouping change in account.
  • Therefore, Rs. 3,34,874 was added to the total income of the assessee as unexplained expenditure.
  • The assessee filed appeal before the CIT(A) and the CIT(A) dismissed the appeal of the assessee.
  • According to the ITAT, it was clear that assessee had not furnished any relevant supporting evidences to substantiate that differences in the purchases was assessed on account of grouping change in account.
  • Further, the assessee failed to meet reconciliation in the aforesaid difference detected by the AO.
  • Therefore, ITAT did not find any reason to interfere in the finding CIT(A) and therefore, this ground of appeal of the assessee was dismissed.

Observations of the ITAT on Disallowance of Rs. 7,50,375 on remuneration paid to partner

Facts of the Issue:

  • At the time of assessment, the AO noticed that assessee had claimed a sum of Rs. 7,50,735 as remuneration paid to M/s. Dashrathbhai S. Chaudhary, HUF during financial year 2011-12.
  • The AO was of the view that as per explanation 4 to section 40(b) only working partner who was also an individual was entitled to remuneration and a partner acting in a representative capacity could not claim deduction.
  • Therefore, the claim of remuneration payment was disallowed.
  • The assessee filed appeal before the CIT(A) and the CIT(A) dismissed the appeal of the assessee.
  • During the proceedings before the ITAT, the assessee contended that CIT(A) was not justified in disallowing the remuneration paid to the partner who was working in the firm in the HUF capacity.

Provisions of Law

Section 40(b) of Income Tax Act places some restrictions and conditions on the deduction of expenses available to an assessee assessable as a partnership firm in relation to the remuneration and interest payable to the partners of such firm. The deductions regarding salary to partners and any payment of interest to partners cannot exceed the monetary limits specified u/s 40(b) and are available subject to the fulfilment of conditions mentioned therein.

The following conditions must be satisfied before claiming any deduction in respect of salary, bonus, commission or other remuneration payable to partner by a partnership firm.

  • Such remuneration should be paid only to the working partner
  • It should be authorized by the Partnership Deed
  • It should not pertain to a period prior to Partnership Deed
  • It should not exceed the permissible limit.

Therefore, the issue here was whether remuneration paid to the partner who was working in the firm in the HUF capacity is an allowable expenditure or not?

Reference to older cases by ITAT

  • ITAT referred to the case of Hemtej Imprint Vs. Dy. CIT (ITAT) where it was held that the authorities were not justified in not allowing remuneration to the HUF.
  • It was an undisputed fact that Asit H. Shah was a partner in HUF capacity. However, in law only an individual can be a partner in the partnership firm.
  • It was held by the courts that an individual can represent any other entity while he was acting as a partner.
  • In that case the profits given to the individual would be in fact the profits of the entity to whom such individual is representing.
  • Whether such remuneration or salary paid to the individual is assessable in the hands of individual or in the hands of the concern to which such individual is representing in the firm, is not a deciding factor about the allowability of deduction from the computation of income of the firm.
  • As per existing position of law, it is only the individual who can be a partner of the firm and, therefore, when remuneration is paid to such individual then there is no violation of section 40(b).
  • The issue of allowability or otherwise of remuneration stopped at that point
  • ITAT referred to decision of the Tribunal in the case of Krishna Ceramics vs. ITO where it was clear that the remuneration was paid to the partners for attending to the affairs of business- of the partnership firm as working partners.
  • Therefore, the CIT(A) was not justified in holding that there was no evidence that they were working partners.
  • In view of the Supreme Court decision in the case of Rashiklal and Co it was the individual who was partner in the firm and it was immaterial as to in what capacity he is the partner.
  • His obligation may be towards others, but in relation to the firm he is a partner in his individual capacity.
  • Even otherwise, as held in the case of Kshetra Mohan Sannyasi Charan Sadhukhan vs. CEPT, a HUF is included in the expression ‘person’ as defined in the Indian Income-tax Act as well as in the Excess Profits Tax Act, but it is not juristic person for all purposes.
  • When two kartas of two HUFs enter into a partnership agreement the partnership is described as one between the two HUFs, but in the eye of law it is partnership between the two kartas and the other members of the families do not ipso facto become partners.
  • There is, however, nothing to prevent the individual members or one HUF from entering into a partnership with the individual members of another HUF and in such a case it is a partnership between the individual members and it is wholly inappropriate to describe such a partnership as one between two HUF’s.
  • This decision was noted in the case of Van-son Kids Suff, wherein also the partner representing in HUF capacity was held to be a working partner in his individual capacity and the remuneration was allowed within the meaning of section 40(b) read with Explanation thereto.
  • There another decision of the Ahmedabad Bench in the case of Sujat Enterprises in ITA No. I083/Ahd/1996 wherein it was held that salary paid to the partner who was partner in his representative capacity as karta of HUF cannot be considered to be payment to HUF but to karta as an individual.
  • The karta of HUF was a working partner and, therefore, the remuneration paid to him was allowable.

Following the aforesaid decisions, ITAT was of the opinion that the revenue authorities were not justified in disallowing the claim of the assessee. Therefore, ITAT allowed the claim of the assessee.

Enter your email address:

Subscribe to faceless complainces