# KHA~iAN LAI. SEWAKRAM v. COM~issioNER O'F' INC0ME '.fAX'.; u.:P August 3'L 1971

- **Citation:** [1972] 1 S.C.R. 502
- **Court:** Supreme Court of India
- **Decided:** 1972
- **Source:** https://unisonlegal.in/judgment/supreme-court-of-india/kha-ian-lai-sewakram-v-com-issioner-o-f-inc0me-fax-u-p-august-3-l-1971-5385
- **Pages:** 8

## Headnote

502
KHA~iAN LAI. SEWAKRAM
V.
COM~issioNER O'F' INC0ME '.fAX'.; u.:P ..
August 3'L 1971
(K. s.· iitoa'E AND N.. :N. GRovER, 11.]'
'
Income .Tax Ac! (IL of !92i)". ~- 26A iznd rl'. 6(3) and 6A of the
Rules-Application for renewal of regi::;trarion-Book Profit/ distributed
'but black 1narket. profits not dislribu(ed-lf finn entitled to renevJal of registration.
·
...
The assessec was a registered firn1.
The
partners
applied
to
the
Income-tax Officer for renewal of regi~_tratiori.
To that application they
C
ap)?enL1ed a certificate· that the profits of the prcviotu1 year were divided' or
ciedilcO as shbwn.· W.hile the application' \vas pending', the partners fell
oUf and the Irlcome"-tax Officer founc. that the firm had ea"tned 'considerable_ --
Ql'ick n1a·rket profits which had nqt been credited in the account books and
h'at1.• not been distributed among the partners· in accordati.ce with the instrun\eht of partnership.
The Depaitmerit, Tri6unal and the Hig.h Court, on
reference, held" that th-e firm Was not entitled to renewal.
Di$missing the appeal· to this Courf,
HELD" : Under s. 26A of the Income-tax Act, 1922, one of the condifions fof registration and• renewal is that the applica~rl should contain
rucb pa:iticulars aS are prescribed in the Rules under the AcL Rule 6(3)
pf6vioes that the partners should append a ceriificate to the application for
renewal that the profits (or loss if any) of the previous year or period up
D
(o the date of dissolution were divided or credited as shown. So long as
E
the divisible 'j)rofits had· in fact been clivided o~ had been credited to the
abc6tiht's pf the Partners, the' requirements of t~e. provision must be held
to
1 h~ve bcell' c.Q.tn].!li~d...-With. But the certificate is nOf a mere forn1ality
because: a registered firm is nor t'axable. but only the partner and, i,f a
Pbffl.on of the profits earned by the firm was.not actually divided amongst
the partners or credited' to theiti accounts. to that extent the assessee firm
}lad evade(} tax. · ln such a case the only course open to the Income-tax
0ffiber is- not (o register t1:ie firrh. but to tax the paftners of the firm as an
F
asrobiaifoW of persons. [506 s: G; 507 C-G]
• Since,, it\ th~ pr'escrit case, the appliCation _for renewal .of registration
did not cotnply witlf·the prescribed conditio'hs. under r. 6A. the 1ncon1e-tax
Officer wa~ iustifieC in iefusing renewal of registration. [.5.07 F-G]
Agarwal & Co. v. C.I.T., U.P., 77 I.T.~. LO (S.C.), followed.
C1v1L APPEL.LATE JuRISD!CTION : Civil Appeal No. 1947 of
G"
1968.
"'p]'J~~I from thejudgment and decree dated J&nuary 21, 1964
of the A'Ilaha!lad H1gh Court in Misc. Income-tax Reference No.
383 of 1:958.
t. A. R:'am'aChanlfrali' and A.G. Ratnapatkhi, for the appellant.
H
tj. Sen, f. R'amamurtJ::v, R". N. Sachthey ancf B. D. Sharma,
for fue· r.espondent.
_
•
..
A
KHAJAN LAL v. C.I.T., U.P. (Hegde, J.)
503

## Text

502
KHA~iAN LAI. SEWAKRAM
V.
COM~issioNER O'F' INC0ME '.fAX'.; u.:P ..
August 3'L 1971
(K. s.· iitoa'E AND N.. :N. GRovER, 11.]'
'
Income .Tax Ac! (IL of !92i)". ~- 26A iznd rl'. 6(3) and 6A of the
Rules-Application for renewal of regi::;trarion-Book Profit/ distributed
'but black 1narket. profits not dislribu(ed-lf finn entitled to renevJal of registration.
·
...
The assessec was a registered firn1.
The
partners
applied
to
the
Income-tax Officer for renewal of regi~_tratiori.
To that application they
C
ap)?enL1ed a certificate· that the profits of the prcviotu1 year were divided' or
ciedilcO as shbwn.· W.hile the application' \vas pending', the partners fell
oUf and the Irlcome"-tax Officer founc. that the firm had ea"tned 'considerable_ --
Ql'ick n1a·rket profits which had nqt been credited in the account books and
h'at1.• not been distributed among the partners· in accordati.ce with the instrun\eht of partnership.
The Depaitmerit, Tri6unal and the Hig.h Court, on
reference, held" that th-e firm Was not entitled to renewal.
Di$missing the appeal· to this Courf,
HELD" : Under s. 26A of the Income-tax Act, 1922, one of the condifions fof registration and• renewal is that the applica~rl should contain
rucb pa:iticulars aS are prescribed in the Rules under the AcL Rule 6(3)
pf6vioes that the partners should append a ceriificate to the application for
renewal that the profits (or loss if any) of the previous year or period up
D
(o the date of dissolution were divided or credited as shown. So long as
E
the divisible 'j)rofits had· in fact been clivided o~ had been credited to the
abc6tiht's pf the Partners, the' requirements of t~e. provision must be held
to
1 h~ve bcell' c.Q.tn].!li~d...-With. But the certificate is nOf a mere forn1ality
because: a registered firm is nor t'axable. but only the partner and, i,f a
Pbffl.on of the profits earned by the firm was.not actually divided amongst
the partners or credited' to theiti accounts. to that extent the assessee firm
}lad evade(} tax. · ln such a case the only course open to the Income-tax
0ffiber is- not (o register t1:ie firrh. but to tax the paftners of the firm as an
F
asrobiaifoW of persons. [506 s: G; 507 C-G]
• Since,, it\ th~ pr'escrit case, the appliCation _for renewal .of registration
did not cotnply witlf·the prescribed conditio'hs. under r. 6A. the 1ncon1e-tax
Officer wa~ iustifieC in iefusing renewal of registration. [.5.07 F-G]
Agarwal & Co. v. C.I.T., U.P., 77 I.T.~. LO (S.C.), followed.
C1v1L APPEL.LATE JuRISD!CTION : Civil Appeal No. 1947 of
G"
1968.
"'p]'J~~I from thejudgment and decree dated J&nuary 21, 1964
of the A'Ilaha!lad H1gh Court in Misc. Income-tax Reference No.
383 of 1:958.
t. A. R:'am'aChanlfrali' and A.G. Ratnapatkhi, for the appellant.
H
tj. Sen, f. R'amamurtJ::v, R". N. Sachthey ancf B. D. Sharma,
for fue· r.espondent.
_
•
..
A
KHAJAN LAL v. C.I.T., U.P. (Hegde, J.)
503
The Judgment of the Court was delivered by
Hegde, J This is an appeal by certificate.
It arises
from•
a decision of the Allahabad High Court.
The appellant is
the
assessee and the concerned assessment year is 1948-49.
The assessee is a firm constituted under an
Instrument of
B partnership dated April 30, 194 7.
The shares of the partners in
the profit and loss of the firm as mentioned in that deed are as.
follows :
1. L. Khan jan Lal--/ 4 I -
2. L. Lalloo Ram- -/2/
C
3. L. Dwarka Prasad- -/2/-
D
E
F
4. L. Ram Lal- -/2/-
5. L. Sewak Ram- -/4/-
6. Smt. Jagrani Devi- -/2/-
Lallu Ram, Dwarka Prasad and Ram Lal are the children of
Khanjan Lad.
Sewak Ram is the son of Jagrani Devi.
The first
uoup has -/ 10 /- share in the profit and loss of the firm and the'
second group has -/ 6/- share.
The assesesee firm was registered for the assessment year
1947-48.
On July 12, 1949, the partners of the firm applied to
the Income-tax Officer for renewal of the registration for the
assessment year 1948-49.
That applicat.ion was signed by all thepartners.
To that application they appended a certificate to the
effect that "profi\s of the previous year were divided or credited
as shown below ... " On -November 5, 1949, the partnershipwas disssolved under a deed of distribution dated November 9, .
. 1949
One of the clauses in that deed provides :
"But if an amount which was not entered in the
books at the time of settlement is found then only that
person will be accountable for it through whom the
money was received or paid.
None of the parties will
have any objection to it."
G
On October 5, 1950, the first four partners made a disclosure'
statement to the Income-tax Officer to the effect that the firm had
earned Rs. 15,000/- by way of profits outside the books.
In that
disclosure statement, they further stated that those profits had been
divided between the partners.
On December 9,
1950, Sewak
Ram, one of the partners stated on oath before the Income-tax
H
Officer that he and his mother Jagrani Devi were not given fuU
share of the profits of the business earned by the firm in Samv.
year 2005.
He further stated that the entire profits earned in
that business carried on in the previous year were not recorded in'
504
SUPREME COURT REPORTS
[19 72] 1 S.C.R.
the book5 and the first four partners had given to him and his
mother only their shares of those profits which we.re recorded in
the books.
Therein he sought to withdraw the application for
registration because all the profits earned had not been divided
according to the shares.
According to Sewak Ram, the profits
earned
and
not entered
in
the
accounts
amounted
to
Rs. l, 13,5711 -. From the aforementioned statements, it is clear
that the firm was trying to evade tax on a portion of the profits
earned by it by not bringing the same into their books.
On March 31, 1951, Sewak Ram sued the first four partners
for rendition of accounts.
In that suit he estimated his share of
profits in the amount that had not been entered in
the account
books at Rs. 50,000/.
Ultimately the suit was compromised and
Sewak Ram withdrew his suit.
In his applicafi'on to withdraw the
suit, he litated that he wanted to withdraw the suit "in view of the
circumstances of the above case", an expression of utmost ambiguity.
Therein he stated that he is not entitled to get any more
amount from the defendants.
On March 15, 1952, Sewak Ram and his mother Jagrani Devi
gave an application to the Income-tax Officer stating that they
are withdrawing their signatures on the application for renewal
of registration as the profits of the previous year were not distributed according to the deed of partnership and the certificate of
registration required under rule 4 (1) of the Income-tax Rules,
1922 (to be hereinafter referred to as "the Rules") framed under
the Indian Income-tax Act, 1922 (in brief 'the Act') had never
been granted as required by law on the back of the partnership
deed. Therein they further stated that as the certificate under rule
6 had not been granted by the assessee in accordance with law, the
firm was not entitled for registration under rule 6 of the Rules.
A
B
c
D
E
On the basis of the material before him, the Income-tax Officer
F
·came to the conclusion that the firm had earned considerable black
market profits, and the same had not been distributed amongst the
partners according to the partnership deed and therefore the firm
was not entitled for renewal of the registration.
He further opined
that the application for registration had stood withdrawn.
On the
basis of those conclusions, he refused to ren·~w the registration of. G
the firm and taxed the firm in the status of association of persons.
In appeal the Appellate Assistant Commissioner, upheld the decision of the Income-tax Officer.
The assessee took the matter in appeal to the Income-tax
.Appellate. Tribunal.
The two members who heard the appeal
concurred with the Income-tax Officer and the Appellate Assistant
H
·Commissioner that a substantial portion of the profits earned by
the fim1 had not been entered In the books.
They also held that
lhose profits were not distributed amongst the partners according
KHAJAN LAL v. C.I.T., u.I'. (Hegde, J.)
505
A to the Instrument of partnership.
On the basis of those findings
the Judicial member held that the firm was not entitled to the
renewal of registration asked for but the Accountant member
opined that inasmuch as the profits that had been entered in tbe
books had been distributed, there was compliance with the provisions of the "Act" as well as the ··Rules".
In view of this diffeB rence of opinion between the two members, the matter was referred to the President of the Tribunal under s. 5A ( 7) of the Act.
The President agreed with the Judicial Member that firm was not
entitled to have the renewal of the registration asked for. Thereafter at the instance of the assessee, the Tribual submitted the
following question to the High Court under s. 66 ( 1) of the Act.
C
"Whether the assessee firm which had distributed its
book profits amongst the partners according to the
Instrument of Partnership but which had not distributed
the profit~ earned by it in the black market amongst the
six partners in accordance with the Instrument of
Partnership was entitled for renewal of registration for
D
the assessment year 1948-49 ?"
E
F
G
H
The High Court answered that question in favour of the
Department.
Hence this appeal by the assessee firm.
Before examining the scope of the question submitted to . the
High Court under s. 66 (1) of the Act, we may mention that the
question whether the application for renewal of registration stood
withdrawn or not is not before us.
On that question, the Judicial
member of the Tribunal took the view that the said application
stood withdrawn but the Accountant member did not agree with
that view.
The President of the Tribunal did not express any
opinion on that point.
Now turning to the question referred to the High Court, that
question is based on two findings of fact which are no more open
to question.
Those findings are : ( 1) that the firm had distributed its book profits amongst the partners according to the Instrument of partnership, (2) but it had not distributed the profits
earned by it in the black market amongst 'the six-partners in accordance with the Instrument of partnership.
Mr. Ramachandran, the learned Counsel for
the
a~sessee
sought to assail the correctness of those findings on the ground
that those findings are not supported by evidence, but we did not
permit him to go into the same as that question is not before us.
We are bound by those findings.
Having said that much, we shall
now turn to the relevant provisions in the Act and the Rules.
Section 26(A) of the Act reads:
"1. Application may be made to the Income-tax
Officer on behalf of any firm, constituted under an ins-
•
506
SUPREME COURT REPORTS
[1972) 1 s.c.R.
trument of partnership specifying the individual share~
of the partners, for registration for the purposes of this
Act and of any other enactment for 1he time being in
force relating to income-tax or super-tax.
2. The application shall be made by such person or
persons and at such times and shall. contain such particulars and shall be in such form, and be verified in such
manner, as may be prescribed; and it shall be dealt
with by the Income-tax Officer iii such manner as may
be prescribed."
A
B
This Court has ruled in Agarwal & Co. v. Commissioner of
Income-tax, U.P.(') that the conditions of registration prescribed
C
by s. 26-A and the relevant Rules are :
1. On behalf of the firm, an application should be
made to the Income-tax Officer by such person and at
such times and containing such particulars, being in
such form and verified in such manner as are prescribed
by the rules;
2. The firm should be constituted under an instrument of partnership;
3. The instrument must specify the individual shares
of the partners and
4. The partnership must be valid and must actually
exist in the terms specified in the instrument.
Therein it was further laid down that if those conditions are
fulfilled, the Income-tax Officer is bound to register the firm. The
same rule will apply in the case of renewal of registration.
In
this case we are primarily concerned with the question whether
the application made by the firm is in accordance with the rules
prescribed.
The rules with which we are concerned in this appeal
is paragraph 3 of rule 6 and rule 6-A.
Paragraph 3 of rule 6
provides that the partners should append the following certificate
to their application for renewal of registration.
"We do hereby further certify that the profits (or
loss, if any) of the previous year or period upto the date
of dissolution were divided
or credited
as
shown
below ...... "
D
E
F
G
Rule 6-A provides that " on receipt of an application under
rule 6, the Income-tax Officer may if he is satisfied that the appJi..
H
·cation is in order and that there is or was a firm in existence
(I) 77 1.T. R,10.
J
'
..
'
I
..
A
B
KHAJAN LAL v. C.I.T., U.P. (Hegde, I.)
507
coostitute<l as shown in the instrument of partnership, grant to
the assessee a certificate signed and dated by him in the following
form .... ".
It further provides :
"If the Income-tax Officer is not satisfied he shall
pass an order in writing refusing to renew the registration of the firm."
.Now the sole question for decision is whether the application
made in this case complied with the requirements of paragraph
3 of rule 6. If it did not comply with the requirements of rule 6,
the Income-tax Officer was within his powers in rejecting it.
As
seen earlier, the finding of the Tribunal is that though the profits
C of the firm entered in its account books had been distributed, the
profits earned but not entered into the account books have not
been divided or credit in the account books.
From that it follows
that the certificate given in the application for renewal of registration is not a true certificate and further that a substantiar portion of the profits earned had not been divided.
D
E
The reason behind rule, 6 was that at the relevant time,
the
registered firm as such was not taxable.
Only the partners of a
firm could be taxed.
That being so, if a portion of the profits
earned by the firm was not divided amongst the partners or credited to their accounts, to that extent, the profits earned by the firm
escaped assessment.
Therefore the certificate contemplated by
rule 6 is not a mere formality.
It has a definite purpose. If a
portion of the profits earned by the firm \Vas not actually divided
amongst the partners or credited to th·~ir accounts, then the only
course open to the Income-tax Officer was not to register that firm
and to tax the partners of the firm as an assodation of persons;
By giving a false certificate that the profits earned by the firm had
F
been divided or credited in the manner shown in the application,
the assessee firm was trying to evade tax.
Hence we must hold
that the application for renewal of. registration made by the
assessee did not comply with conditions prescribed in paragraph
3 of rule 6.
Hence the Income-tax Officer was justified to refuse
to renew the registration.
G
In resisting the above conclusion, Mr. Ramachandran Counsel
for the assessee relied on certain decisions of the High Courts.
The first decision relied on by him is that of the Bombay High
Court in Commissioner of Income-Tax,
M.
P.
Nagpur anti
Bhandaru v. D'Costa ·Brothers(1). Therein the Court h.elli that
the Income-tax Officer was not entitled to reject the application for
H
registration of the deed of partnership of the assessee firm on 'the
ground that the house-hold expenses of the partners were debited
to the profit and loss account of the firm.
Therein there was no
(I) 49, l.T.R. 181.
508
SUPREME COURT REPORTS
[1972] 1 s.c.R.
contention that all the profits earned were not distributed.
The
A
only question was whether the household expenses could have been
deducted before dividing the profits.
In other words the question
was whether the household expenses was a proper deduction to be
made in the circumstances of that case before dividing the profits.
Hence that decision has no bearing on the question under considm~oo.
··
B
He next placed reliance on the decision of the Punjab High
Court in Commissioner of Income-tax, Simla v. Sat Ram Gian
Chand( 1). Therein the partners firnt estimated the divisible profit and divided the same,
The Court held that the devision of
profit was a matter relating to the internal affairs of the partnership and had no bearing on the genuineness of the firm and that
C
no question of law arose from the order Of the Appellate Tribunal.
fhe ratio of that decision has no relevance for our present purpose. "
Counsel for the assessee next relied on the decision of the
Madras High Court in N. S. S. Chokka/ingam Chettiar and Co.
v. C.I.T. Madras( 2 ). In that case though there was no provision D
in the deed of partnership for payment of salary to any of the
partners, some of the partners were paid a salary in addition to the
shares to which they were entitled under the terms of the pal'tnership and the Income-tax Officer refused to register the firm on the
ground that the profits were not divided in accordance with the
partr1ership deed as some of the partners took an additional amount
out of the profits in the shape of salary.
The court held that, as
E
the partnership was found to be a genuine one and the application
for registration was also in due form, the mere fact that some partners took some portion of the profits as salary was not a ground
for refusing registration.
The question whether a partner should
be paid salary for the services rendered by him is a matter to be
decided by the partners of the firm : so long as their payment is
F
bona fide one, the same has to be deducted before the divisible
profits are computed.
Hence the ratio of that decision also does
not bear on the facts of the present case.
Reliance was next placed on the decision of the Madhya
Pradesh High Court in C.l.T., M.P. v. Mandan/al Chhagan Lal(').
Jn that case the partnership deed provided that each partner will
G
be entitled to interest at 6 per cent per annum on his capital
investment and that the profit and loss will be divided equally
among the partners after deducting the interest payable on the
capital advances made by the partners.
When the partners made
an application for registration under s. 26A of the Act, 1he In·
come-tax Officer refused to register it but the Court held that the
H
application was a valid one and 1he provision for payment of inte-
(1) 42, !TR, 543.
(2) 60, JTR, 671.
()) 50, J.T.R. 477.
A
B
c
D
E
F
G
KHAJAN LAL v. C.I.T., U.P. (Hegde, I.)
509
rest did not in any manner conflict with the relevant proVJSJon.
Here again there is no que5tion of not dividing any portion of
profits earned. That being so, that decision is irrelevant for our
present purpose.
Lastly reliance was placed on the decision of the Kerala High
Court in St. Joseph's Provisions Store v. C.l.T., Kera/a( 1). Therein
the partners of the assessee firm resolved that the profits of the
firm as disclosed in the profit and loss account need not be divided
and credited in the profit and loss accounts of the partners, but
should be credited to a reserve account but each of the partners
to have an equal ~hare in that amount.
An application for regis,
!ration of the firm was rejected on the ground that the firm had
not complied ..yith the requirements of rule 6 of the Rules.
The
court held that the absence of entries in the separate accounts of
each partner was not fatal; the requirement of rule 6 was met
when the profit was taken into a reserve fund showing the partners'
shares therein and indicating what was the contribution of each
partner to the reserve fund.
Therefore the application for registration was not liable to be rejected on the ground that rule 6 had
not been complied with.
Here again the profits earned had been
divided and they were credited to the accounis of the partners
though the same were credited to a reserve fund.
Hence the rule
laid down in that case is inapplicable to the facts of the present
case.
As the above referred decisions do not bear on the point
in issue we have not gone into the question whether all or any of
them were correctly decided or not.
The apprehension of Mr. Rafnachandra that our decision might
be taken advantage· of by the Department for refusing registration
of firms whose return of income or claim for some allowance has
not been accepted by the Income-tax Officer for one reason or the
other, appears to us to have no basis.
Herein we are merely
considering the scope of paragraph 3 of rule 6.
So long as the
divisible profits had been divided or had been credited to the
accounts of the partners, the requirement of that provision was
complied with.
In the result this appeal fails and the same is dismissed with
costs.
V.P.S.
Appeal dismissed.
(l)\.45. 1.T.R. 380.
14--l340Sup.CI/71