Generally, when a Partner retires, he is able to withdraw his capital balances existing in the Firm Account on his retirement date, and generally this may also include his share of goodwill which he has contributed to build through his years of hardship and sweat, and which will continue to remain & benefit both the Firm as well as its continuing partners even post retirement of the retiring partner.
When one or more partners leave the firm and the remaining partners continue to do the business of the firm, it is known as retirement of a partner. A partner who cut his connection with the firm is called a retiring partner or outgoing partner. Retirement of a partner leads to reconstitution of a partnership firm as the original agreement between the partners comes to an end. The business may continue with a new agreement with the remaining partners. A partner may retire from the partnership with the consent of all other partners. He may also retire in accordance with an express agreement by the partners or by giving notice to other partners of his intention to retire. The retired partner is however liable to all the acts of the firm dealing with third parties before his retirement.
Every partner of a partnership firm has the right to withdraw from the business with the consent of all the other partners. In the case of a partnership formed at will, this may be done by giving a notice to that effect to all the other partners.
A
partner retires when he ceases to be a member of the firm without ending the
subsisting relations between the other members of the firm or between the firm
and other parties. If a partner withdraws from a firm by dissolving it, then it
is a dissolution and not retirement of a partner. The retirement of a partner
from a firm does not dissolve it.
Meaning
of Retirement of a Partner
Withdrawal
of a partner from the partnership with the consent of other partners or as per
the provisions of the partnership deed or by giving notice of retirement is
termed as retirement of a partner. A partner who cut his connection with the
firm is called a retiring partner or outgoing partner. Retirement of a partner
leads to reconstitution of a partnership firm as the original agreement between
the partners comes to an end. The business may continue with a new agreement
with the remaining partners. When a partner retires, his share in the firm is
to be correctly ascertained and settled.
Retirement of an Existing Partner
A partner may decide to retire or
withdraw from the firm due to reasons such as his age, his bad health, change
in firm’s nature of a business, etc. In case of Partnership at Will, a partner
may retire at any time. Retirement amounts to a reconstitution of a firm where
the number of partners, their capital contribution ratio and also the profit
sharing ratio changes. The retiring partner is paid his share of capital,
goodwill and revaluation profit or loss.
For example, X, Y, and Z are partners in the firm sharing profits in the ratio of 3:2:1. X chooses to retire and Y and Z decide to share the future profits equally. This is a reconstitution of the firm where the number of partners and their profit sharing ratio both have changed.
Q : A, B and C are partners sharing profits in the ratio of 2:2:1. They are having a capital of 2,00,000, 2,00,000 and 1,00,000 respectively. It is decided that C should bring additional capital of 100000. And then the profit sharing ratio should be calculated on the basis of their capitals. Is this a case of reconstitution of a firm and how?
Answer: Now, the new capitals are Rs. 2,00,000 each and thus the new profit sharing ratio is 1:1:1. As there is a change in the profit sharing ratio, this is definitely a case of reconstitution of a partnership.
Sections 32 to 38 of the Indian Partnership Act, 1932 deal with different ways in which a partner may cease to be a partner and his rights and liabilities thereafter. These provisions pertain to situations when the outgoing partner ceases to be a partner, but the firm is not dissolved and it continues with the remaining partners. A partner may cease to be a partner in the following ways:
(a) By retirement;
(b) By expulsion;
(c) By insolvency;
(d) By death.
Section 32 of the Act deals with the retirement of a partner as under:
(i)
with the consent of all partners, or
(ii)
as per terms of the agreement; or
(iii)
at his or her own will.
Text of Section 32 of the Indian Partnership Act, 1932
32. RETIREMENT OF A PARTNER.
(1) A partner may retire –
(a) with the consent of all the otter partners,
(b) in accordance with an express agreement by the partners, or
(c) where the partnership is at will, by giving notice in writing
to all the other partners of his
intention to retire.
(2) A retiring partner may be discharged from any liability to any third party for acts of the firm done before his retirement by an agreement made by him with such third party and the partners of the reconstituted firm, and such agreement may be implied by a course of dealing between such third party and the reconstituted firm after he had knowledge of the retirement.
(3) Notwithstanding the retirement of a partner from a firm, he and the partners continue to be liable as partners to third parties for any act done by any of them which would have been an act of the firm if done before the retirement, until public notice is given of the retirement
PROVIDED that a retired partner is not liable to any third party who deals with the firm without knowing that he was a party.
(4) Notices under sub-section (3) may be given by the retired partner or by any partner of the reconstituted firm.
The word ‘retire’ in the said section is confined to cases where a partner withdraws from the firm and the remaining partners continue to carry on the business without dissolution as between them. It does not cover a case where a partner withdraws from the firm by dissolution and not by retirement.
Sub-section (2) of the said section states that a partner may be discharged from any liability to any third party for acts of the firm, before his retirement, by an agreement made by him with such third party and partners of reconstituted firm, and such agreement may be implied by course of dealing between such third party and reconstituted firm after he had knowledge of retirement.
Further, sub-section (3) lays down that
notwithstanding retirement of a partner, he and the other partners continue to
be liable to third parties for any acts done by any of them which would have
been act of the firm if done before retirement until public notice of the
retirement is given. However, the retired partner shall not be liable to third
party who deals with the firm without knowledge that he was a partner.
Liability of a Retiring Partner
A
retiring partner may be discharged from any liability to any third party for
acts of the firm done before his retirement by an agreement made by him with
such third party and the partners of the reconstituted firm, and such agreement
may be implied by a course of dealing between such third party and the
reconstituted firm after he had knowledge of the retirement.
If the public notice is not issued, the
partners continue to be liable
According to Section
32(3) of the Indian Partnership Act, 1932; until any public
notification is made in the promulgation of such retirement, the retired
partner along with the other partners of the firm continue to be liable towards
the third parties for any act done by them which would have been considered an
act of the done if had been done prior to the retirement.
According to Section
32(4) of the Indian Partnership Act, 1932, the aforementioned public
notification can be made by the retired partner or any partner of the
reconstituted firm.
ILLUSTRATION
Mr ‘X’ is a partner at a
firm. He resigns from his partnership one day. Thereby, he is discharged from
any third party liability or any act of the firm which was incurred in the
course of his partnership. However, such liability shall exist until the time
of the promulgation of his retirement, through a public notification, made
either by him or the continuing partners in the firm.
Terms and conditions of retirement of a partner
The
terms and conditions of retirement of a partner are normally provided in the
partnership deed. If not, they are agreed upon by the partners at the time of
retirement. The old partnership comes to an end and a new partnership is formed
among the remaining partners
ILLUSTRATION
‘X’,
‘Y’ and ‘Z’ are partners in a firm. Due to some family problems, ‘X’ wants to
leave the firm. The other partners decide to allow him to withdraw from the
partnership. Thus, due to some reasons like old age, poor health, strained
relations etc., an existing partner may decide to retire from the partnership.
Due to retirement, the existing partnership comes to an end and the remaining
partners form a new agreement and the partnership firm is reconstituted with
new terms and conditions. At the time of retirement the retiring partner’s
claim is settled.
If the public notice is not issued, the partners continue to be liable
According to Section 32(3) of the Indian Partnership Act, 1932; until any public notification is made in the promulgation of such
retirement, the retired partner along with the other partners of the firm
continue to be liable towards the third parties for any act done by them which
would have been considered an act of the done if had been done prior to the
retirement.
According to Section 32(4) of the Indian Partnership Act, 1932, the aforementioned public notification can be made by the retired
partner or any partner of the reconstituted firm.
ILLUSTRATION
Mr ‘X’ is a partner at a firm. He resigns from his partnership one day.
Thereby, he is discharged from any third party liability or any act of the firm
which was incurred in the course of his partnership. However, such liability
shall exist until the time of the promulgation of his retirement, through a
public notification, made either by him or the continuing partners in the firm.
Terms and conditions of retirement of a
partner
The terms and conditions of retirement of a partner are normally
provided in the partnership deed. If not, they are agreed upon by the partners
at the time of retirement. The old partnership comes to an end and a new
partnership is formed among the remaining partners
ILLUSTRATION
‘X’, ‘Y’ and ‘Z’ are partners in a firm. Due to some family
problems, ‘X’ wants to leave the firm. The other partners decide to allow him
to withdraw from the partnership. Thus, due to some reasons like old age, poor
health, strained relations etc., an existing partner may decide to retire from
the partnership. Due to retirement, the existing partnership comes to an end
and the remaining partners form a new agreement and the partnership firm is
reconstituted with new terms and conditions. At the time of retirement the
retiring partner’s claim is settled.
Accounting issues dealt with at the time of retirement
At
the time of retirement the following accounting issues are dealt with :
(a) New profit
sharing ratio and gaining ratio.
(b) Goodwill.
(c) Adjustment
of changes in the value of Assets and liabilities.
(d) Treatment
of reserve and accumulated profits.
(e) Settlement of retiring partners dues.
(f) New capital of the continuing partners.
New Profit Sharing Ratio and Gaining Ratio
As soon as a partner retires the profit sharing ratio
of the continuing partners get changed. The share of the retiring partner is
distributed amongst the continuing partners. In the absence of information, the
continuing partners take the retiring partner’s share in their profit sharing
ratio or in an agreed ratio. The ratio in which retiring partner’s share is
distributed amongst continuing partners is known as gaining ratio. Gain of a
partner is New Ratio – Existing Ratio.
Various cases of new ratio and gaining ratio are illustrated as follows :
(i) Retiring Partner’s Share Distributed in Existing Ratio
In this case, retiring partner’s share is distributed
in existing ratio amongst the remaining partners. The remaining partners
continue to share profits and losses in the existing ratio.
EXAMPLE
X, Y and Z are partners sharing profits and losses in
the ratio of 4 : 3 : 2. ‘A’ retires and remaining partners decide to take ‘A’s
share in the existing ratio i.e. 3 : 2. Calculate the new ratio of ‘Y’ and ‘Z’.
Existing Ratio between ‘Y’ and ‘Z’ = 3/9 and 2/9
‘X’s Share (retiring partner) = 4/9
‘X’s share taken by the ‘Y’ and ‘Z’ in the ratio of 3
: 2
‘Y’s Gain = 4/9 × 3/5 = 12/45
‘Y’s New Share = 3/9 + 12/45 = 27/45
‘Z’s Gain = 4/9 × 2/5 = 8/45
‘Z’s New Share = 2/9 + 8/45 = 18/45
New ratio of ‘Y’ and ‘Z’ is 27/45 : 18/45 = 27 : 18 =
3 : 2.
Gain of a Partner = New Share – Existing Share
(ii) Retiring partner’s share distributed in Specified proportion
Sometimes the remaining partners purchase the share
of the retiring partner in specified ratio. The share purchased by them is
added to their old share and the new ratio is arrived at.
EXAMPLE
A, B and C are partners in the firm sharing profits
in the ratio of 3 : 2 : 1. B retired and his share was divided equally between
A and C. Calculate the new profit sharing ratio of A and C.
B’s Share = 2/6
B’s share is divided between A and C in the ratio of
1 : 1.
A’s Gain 1/2 of 2/6 = 2/6 × 1/2 = 1/6
A’s New Share = 3/6 + 1/6 = 4/6
C’s Gain 1/2 of 2/6 = 2/6 × 1/2 = 1/6
C’s New share = 1/6+1/6 = 2/6
Thus new, ratio of A and C will be 2 : 1
(iii) Retiring Partner’s share is taken by one of the partners
The retiring partner’s share is taken up by one of
the remaining partners. In this case, the retiring partner’s share is added to
that of existing partner’s share. Only his/her share changes. The other
partners continue to share profit in the existing ratio. An example
illustrating this point is given below:
EXAMPLE
A, Babu and Rani share profit in the ratio of 5 : 4 :
2. ‘B’ retires and his share is taken by ‘C’, So ‘C’s share is 2/11 + 4/11 =
6/11, ‘A’ share will remain unchanged i.e, 5/11. Thus, the new profit sharing
ratio of ‘A’ and ‘C’ is 5 : 6.
Treatment of Goodwill
The retiring partner is entitled to his/her share of
goodwill at the time of retirement because the goodwill is the result of the
efforts of all partners including the retiring one in the past. The retiring
partner is compensated for his/her share of goodwill. As per Accounting
Standard 10 (AS-10), goodwill is recorded in the books only when some
consideration in money is paid for it. Therefore, goodwill is recorded in the
books only when it is purchased and the goodwill account cannot be raised on
its own.
Therefore, in case of retirement of a partner, the goodwill is adjusted through partner’s capital accounts. The retiring partner’s capital account is credited with. his/her share of goodwill and remaining partner’s capital account is debited in their gaining ratio.
When the Goodwill Account already appears in the Books
Normally the goodwill is not shown in the books of
the firm. If at the time of retirement/ death of a partner, goodwill appears in
the Balance Sheet of the firm, it will be written off by debiting all the
partners’ capital accounts in their existing profit sharing ratio and crediting
the goodwill account.
Revaluation of assets and reassessment of liabilities
At the time of retirement of a partner the assets of
the firm are revalued and liabilities are reassessed. Revaluation Account is
prepared in the same way as in case of admission of a partner. This is done to
adjust the changes in value of assets and liabilities at the time of
retirement/death of a partner. Any gain or loss due to revaluation is divided
amongst all the partners including retiring/deceased in their existing profit
sharing ratio.
Treatment of accumulated reserves and undistributed profit
All the balances of Accumulated Reserves, funds and
undistributed amount of Profit or Loss appearing in the balance sheet of the
firm on the date of retirement/death is distributed amongst all partners
including retiring/deceased partner in their old profit sharing ratio.
Settlement of retiring partner’s claim
The amount due to the retiring partner is paid
according to the terms of partnership agreement. The retiring partners’ claim
consists of
(a) The credit balance of Capital Account;
(b) His/her share in the Goodwill of the firm;
(c) His/her share in the Gain/Profit on Revaluation;
(d) His/her share in General Reserve and Accumulated
Profit and
(f) Interest on Capital
But, the following deductions are made from the balance in his/her Capital Account on account :
(a) His/her share in the Loss on Revaluation;
(b) His/her Drawings and Interest on Drawings up to
the date of retirement;
(c) His/her share of any accumulated losses and
(d) Loan taken from the firm.
The total amount so calculated is the claim of the retiring partner. He/she is interested in receiving the amount at the earliest. Total payment may be made immediately after his/her retirement. However, the resources of the firm may not be adequate to make the payment to the retiring partner in lumpsum. The firm makes payment to retiring partner in instalments
(i) Payment in Lump Sum
Retiring partners’ claim is paid either out of the
funds available with the firm or out of funds brought in by the remaining
partners.
(ii) Payment in Instalments
In this case the amount due to retiring partner is
paid in instalments. Usually, some amount is paid immediately on retirement and
the balance is transferred to his loan account. This loan is paid in one or
more instalments The loan amount carries some interest. In the absence of any
agreement the rule under Section 37 of the Indian Partnership Act 1932 applies.
According to this rule, if the amount due to the retiring partner is not paid immediately on his retirement, he can claim interest @ 6% p.a. on the amount due.
An instalment consists of two parts :
(i)
Principal Amount of instalment due to
retiring partner.
(ii)
Interest at an agreed rate,
Interest due on loan amount is credited to retiring partners’ loan
account. Instalment inclusive of interest then is paid to the retiring partner
as per schedule agreed upon.
Rights of a Retiring
Retiring
partner is entitled to get his share of capital, interest on capital,
revaluation profit, share of profit etc. up to the date of his retirement.
Similarly he is liable for his share in all the losses like accumulated loss,
revaluation loss, Drawings, interest on drawings, share of current year’s loss
up to the date of retirement, drawings, interest on drawings etc. till the date
of his retirement. He is not liable for any loss incurred by the firm after his
retirement.
Right of outgoing partner [Section 36 of the Indian Partnership Act, 1932]
Text of Section 36 of the Indian Partnership Act, 1932
36. Right of outgoing partner to carry on competing business.
—
(1) An outgoing partner may carry on a business competing
with that of the firm and he may advertise such business, but subject, to
contract to the contrary, he may not
(a) use the firm-name,
(b) represent himself as carrying on the
business of the firm, or
(c) solicit the custom of persons who were
dealing with the firm before he ceased to be a partner.
(2) AGREEMENT IN RESTRAINT OF TRADE.
A partner may make an agreement with his
partners that on ceasing to be a partner he will not carry on any business
similar to that of the firm within a specified period or within specified local
limits; and, notwithstanding anything contained in section 27 of the Indian
Contract Act, 1872, such agreement shall be valid if the restrictions imposed
are reasonable.
Text of Section 37 of the Indian Partnership Act, 1932
37.
RIGHT OF OUTGOING PARTNER IN CERTAIN CASES TO SHARE SUBSEQUENT PROFITS.
Where
any member of a firm has died or otherwise ceased to be a partner, and the
surviving or continuing partners carry on the business of the firm with the
property of the firm without any final settlement of accounts as between them
and the outgoing partner or his estate, then, in the absence of a contract to
the contrary, the outgoing partner or his estate is entitled at the option of
himself or his representatives to such share of the profits made since he
ceased to be a partner as may be attributable to the use of his share of the
property of the firm or to interest at the rate of six per cent. per annum on
the amount of his share in the property of the firm :
PROVIDED that where by contract between the partners an option is given to surviving or continuing partners to purchase the interest of a deceased or outgoing partner, and that option is duly exercised, the estate of the deceased partner, or the outgoing partner of his estate, as the case may be, is not entitled to any further or other share of profits, but if any partner assuming to act in exercise of the option does not in all material respects comply with the terms thereof, he is liable to account under the foregoing provisions of this section.
Adjustment of remaining partner’s capital account after retirement
After retirement of a partner the remaining partners
may decide to adjust their capital. Often the remaining partners determine the
total amount of capital of the reconstituted firm and decide to keep their
respective capital accounts in proportion to the new profit sharing ratio. The
total capital of the firm may be more or less than the total of their capital
at the time of retirement. The new capitals of the partners are compared with
the balance standing to the credit of respective partner’s capital account. If
there is a surplus in the capital account, the amount is withdrawn by the
concerned partner. The partner brings cash in case the balance in the capital
account is less than the calculated amount.
Adjustment of remaining partner’s capital in their profit sharing ratio, when the total capital of the new firm is not pre-determined
In this case the total amount of adjusted capital of
the remaining partners is rearranged as per agreed proportion in which they
share profit of the reconstituted firm. The following steps may be adopted:
(i) Add the
balance standing to the credit of the remaining partners’ capital accounts.
(ii) The
total so obtained is the total capital of the firm.
(iii) This
capital is divided according to the new profit sharing ratio
Section 45(4) was substituted by the Finance Act, 2021, with effect from 01.04.2021, This amendments has overturned the well-established tax principles of Apex Court in Addl. CIT v. Mohanbhai Pamabhai (1987) 165 ITR 166 (SC) and CIT v. R. Lingmallu Raghukumar (2001) 247 ITR 801 : 166 CTR 398 : (2002) 124 Taxman 127 (SC) that a distribution of capital balance, including share in the value of a self-generated goodwill to the retiring partner was not a taxable ‘transfer’
Text of Section 45(4)
45(4). Notwithstanding
anything contained in sub-section (1), where a specified person receives during
the previous year any money or capital asset or both from a specified entity in
connection with the reconstitution of such specified entity, then any profits or
gains arising from such receipt by the specified person shall be chargeable to
income-tax as income of such specified entity under the head "Capital
gains" and shall be deemed to be the income of such specified entity of
the previous year in which such money or capital asset or both were received by
the specified person, and notwithstanding anything to the contrary contained in
this Act, such profits or gains shall be determined in accordance with the
following formula,…….
Assessee, karta of an HUF, was partner in two firms and on
retirement his capital account was credited with a sum more than amounts due to
him towards his capital and profits. ITO assessed amount received as capital
gains. The High Court has
held that there was no transfer of any assets as contemplated by the expression
'transfer' as defined in section 2(47) of the Income-tax Act, 1961. The High
Court had placed reliance on the judgment of the Gujarat High Court in CIT
v. Mohanbhai Pamabhai (1973) 91 ITR 393 (Guj.), wherein it has been held
that where a partner retires from a partnership and the amount of his share in
the net partnership assets after deduction of liabilities and prior charges is
determined on taking accounts in the manner prescribed by the relevant
provisions of the partnership law, there is no element of transfer of interest
in the partnership assets by the retired partner to the continuing partners.
The said judgment of the Gujarat High Court has been affirmed by this Court in Addl.
CIT v. Mohanbhai Pamabhai (1987) 165 ITR 166 (Guj.). Excess amount received
by assessee on retirement from two partnership firms was not assessable to
capital gains as there was no transfer of any assets as contemplated by
expression 'transfer' as defined in section 2(47). In view of the said judgment, we find no merit in
this appeal and the same is, therefore, dismissed. – [CIT
v. R. Lingmallu Raghukumar (2001) 247 ITR 801 : 166 CTR 398 : (2002) 124 Taxman
127 (SC)]
Amount received by a partner from the partnership on retirement in respect of his share in the partnership including goodwill – Amount not taxable as capital gains
In Addl. CIT v. Mohanbhai Pamabhai, the Supreme Court
had approved the decision of Gujarat High Court in CIT v. Mohanbhai Pamabhai, (1973) 91 ITR 393 (Guj.) wherein it was held that when a partner retires from
partnership firm and receives consideration in terms of money which includes
proportionate share of goodwill therein, the same is not taxable as there is no
‘transfer’. Relying on Mohanbhai Pamabhai, the Apex Court had in the case of CIT v. R.Lingamallu Raghukumar (2001) 247 ITR 801 (SC) held that even if consideration paid to retiring
partner, exceeds the balance in its capital account, the same shall not be
chargeable to tax. (Related Assessment year : 1963-64) – [Addl. CIT v. Mohanbhai Pamabhai (1987) 165 ITR 166
(SC)]
Retirement of one partner from a partnership firm will lead to its dissolution if the firm contains only two partners
Most
recently, the Supreme Court in Guru Nanak Industries,
Faridabad Amar Singh, also explained the distinction between ‘retirement of
partner’ and ‘dissolution of partnership firm’, observing as under:
“13.
There is a clear distinction between ‘retirement of a partner’ and ‘dissolution
of a partnership firm’. On retirement of the partner, the reconstituted firm
continues and the retiring partner is to be paid his dues in terms of Section
37 of the Partnership Act. In case of dissolution, accounts have to be settled
and distributed as per the mode prescribed in Section 48 of the Partnership
Act. When the partners agree to dissolve a partnership, it is a case of
dissolution and not retirement…. In the present case, there being only two
partners, the partnership firm could not have continued to carry on business as
the firm. A partnership firm must have at least two partners. When there are
only two partners and one has agreed to retire, then the retirement amounts to
dissolution of the firm.” – [Guru Nanak Industries, Faridabad v. Amar Singh
(Dead) Through Lrs. 2020 SCC OnLine SC 469 : AIR 2020 SC 2484 (SC)]
Share of capital along
with accrued profit, goodwill, brokerage/commission and payment made to
assessee in realisation of his share in net value of assets of firm on his
retirement are not liable to be taxed as capital as did not involve an element
of transfer within meaning of section 2(47) gains and also under section 28(v)
The assessee, an
individual engaged in business of real estate and film production, was partner
in the partnership firm BCI. As the disputes arouse among the partners the
assessee was forced to retire from the firm. Accordingly, the deed for release
was signed and the assessee retired from the partnership. The assessee was not
paid his share of capital and profits of the firm as promised in the release
deed. The assessee approached the Court for appointment of Court receiver to
protect his interest in the firm. Finally, the assessee and the partners
settled the dispute by entering into consent terms. Based on the consent terms
the civil miscellaneous application filed by the assessee in the Court of
District Judge was disposed off on 4-4-2012 in terms of the consent terms filed
before the District Judge. The assessee received Rs. 5.43 crores on account of
share capital and accrued profit. Rs. 1 crore on account of goodwill of the
firm and Rs. 12.73 crores on account of brokerage/commission.
The Assessing Officer
while completing the assessment held that the assessee retired as partner from
the firm during the year under consideration and as part of settlement an
amount of Rs.1 crore was quantified as goodwill to be received by the assessee
and the partners shares and rights in the firm is a capital asset within the
section 2(14) and extinguishment of such right would amount to transfer as per
clauses (i) and (ii) of section 2(47). He further observed that any distribution
of capital assets on the dissolution of a firm would come within the definition
of transfer. The Assessing Officer concluded that there was a transfer of
interest of the retiring partner over the assets of the partnership firm on her
retirement and, therefore, there was a liability to tax on account of capital
gains. Hence, goodwill was assessed as capital gains in the hands of the
assessee. On appeal, the Commissioner (Appeals) also sustained the
additions made by the Assessing Officer. On second appeal:
Held : An amount of Rs.
6.66 crores is received and/or debited in the account of the applicant for
share capital and accrued profit and goodwill of the firm, thereby leaving an
additional payment of Rs. 32.66 lakhs which has been received by the applicant
the same amount shall be reduced in the brokerage/commission receivable by the
applicant. Rs. 12.73 crores towards brokerage/commission shall be payable by
the opponents jointly and severally to the applicant unconditionally and
without any deductions in five equal monthly instalments of Rs.2.54 crores
each, provided however an amount of Rs.32.66 lakhs shall be reduced from the
first instalment payable to the applicant, for which the opponents have already
issued 5 post dated cheques, as per the details mentioned here under and the
same shall be honoured on its presentation on the date mentioned in the
cheques.
The issue of whether the
goodwill received by the assessee on retirement is liable for capital gains tax
or not has been concluded by the Jurisdictional High Court in the case of Prashant
S. Joshi v. ITO (2010) 324 ITR 154 : 189 Taxman 1(Bom.) wherein it was held
that when an amount paid to a partner upon retirement after taking accounts and
upon deduction of liabilities there is no involvement of an element of transfer
within section 2(47).
Payment made to partner
in realization of his share in the net value of the assets upon his retirement
from the firm, does not fall under clause (v) of section 28. It is not in
dispute that the assessee retired from BCI by virtue of consent terms entered
into among the partners including the assessee which was settled in the Court
of law as the assessee approached the District Court for appointment of a
receiver and to protect the properties as there was a dispute among the
partners, and finally the case was disposed off on 04.04.2012 by the District
Judge in civil Miscellaneous Application and closed the proceedings in terms of
the consent application filed by the assessee and the existing partners. It is
not in dispute that by virtue of the consent terms the assessee finally agreed
for settlement and quantified the amount payable to him on his retirement from
the firm at Rs. 19.07 crores comprising of Rs. 5.34 crores towards share
capital and accrued profit, Rs. 1 crore towards goodwill and Rs. 12.73 crores
towards brokerage/commission. Though it was settled in the consent deed that
Rs. 12.73 crores was paid towards brokerage and commission in effect these
amounts was paid to the assessee in realisation of his share in the net value
of assets upon his retirement from the firm BCI. The firm continued with the
existing partners and the assessee on his retirement from the firm was entitled
to the sums as specified in the consent terms. However, the Assessing Officer
brought to tax the amounts settled through settlement deed i.e. share of
capital and share in profits, commission/brokerage and goodwill on assessee
retirement from BCI.
The share of capital
along with accrued profit, goodwill and brokerage/commission which were
received/receivable in terms of consent deed entered among the partners on
account of retirement of the assessee from the partnership firm and the payment
made to the assessee in realisation of his share in the net value of the assets
of the firm on his retirement are not liable to be taxed as capital gains and
also under section 28(v). Thus, the Assessing Officer is directed to delete the
additions made towards, goodwill Rs.1 crore, share capital and share of profit
of Rs. 9.41 crores and the brokerage/commission of Rs. 12.73 crores and
recompute the income for the year under consideration. (Related Assessment Year
: 2012-13) - [James P. D’Silva
v. DCIT (2019) 175 ITD 533 :103
taxmann.com 167 (ITAT Mumbai)]
Sum received by partner on retirement from firm on account of
goodwill will not be subjected to tax as capital gains in his hands
Amount
received by retiring partner on retirement from firm on account of goodwill
will not be subjected to tax as capital gains in his hands. [In favour of
assessee] (Related Assessment year : 2009-10) – [PCIT v. R. F. Nangrani HUF
(2018) 93 taxmann.com 302 (Bom.)]
Amount received by assessee on retirement as partner from firm, on account of credit balance standing in capital account and current account, and not for relinquishing or extinguishing his rights over any assets of firm, would not be chargeable under section 45(4) as capital gains
Assessee company was
partner in a firm. It held 99 percent interest in the firm. During the year, it
relinquished its right of 99 per cent vide retirement deed and received
consideration, which it claimed as capital receipt. Assessing Officer held that
assessee had relinquished its right in partnership firm and, therefore,
consideration received was taxable as capital gains in terms of section 45(4).
Assessee contended that there was no transfer of any property by the assessee
at the time of retirement and so, no capital gain tax could be levied. Held: On
retirement, share was determined after taking into account of notional sale of
partnership assets. What assessee received was his share in the partnership and
not any consideration for transfer of its interest in the partnership to the
continuing partners. There was no element of transfer of interest in
partnership assets by the retiring partners to the continuing partner as also
no extinguishment of its interest in partnership assets. Further, there was no
transfer of its interest in the goodwill of the firm. Thus, no capital gains
was chargeable under section 45. (Related Assessment year : 2009-10) – [Sharadha
Terry Products Ltd. v. ACIT, Coimbatore (2016) 180 TTJ 284 : 141 DTR 220 (ITAT Chennai)]
Assessee claimed
depreciation contending that retiring partners were paid their share of
goodwill at time of retirement, in view of fact that no tangible or intangible
asset was acquired on retirement of partners as nothing was paid in excess of
amount due to partners in their capital account, assessee’s claim was to be
rejected
Assessee was a partnership firm in
business of supply of equipments for shooting and editing telefilms, etc. During
relevant year, two partners holding 20 per cent share each retired from firm. Assessee
claimed depreciation contending that retiring partners were paid their share of
goodwill at time of retirement.
The assessee’s claim of depreciation on goodwill, as an intangible asset of the firm, to which account the said sum was capitalized in its books of account, was negated by the revenue authorities on ground that goodwill was not a qualifying asset under Explanation 3(b) to section 32(1)(ii). Since no tangible or intangible asset was acquired on retirement of partners as nothing was paid in excess of amount due to partners in their capital account, assessee’s claim for depreciation was to be rejected. [In favour of revenue] (Related Assessment year : 2003-04) – [Video Effects v. ITO (2015) 153 ITD 134 : 55 taxmann.com 381 (ITAT Mumbai)]
Excess amount received by assessee on retirement from two partnership firms was not assessable to capital gains as there was no transfer of any assets as contemplated by expression ‘transfer’ as defined in section 2(47)
Assessee, karta of an HUF, was
partner in two firms and on retirement his capital account was credited with a
sum more than amounts due to him towards his capital and profits. ITO assessed
amount received as capital gains. The High Court has held that there was no transfer
of any assets as contemplated by the expression 'transfer' as defined in
section 2(47) of the Income-tax Act, 1961. The High Court had placed reliance
on the judgment of the Gujarat High Court in CIT v. Mohanbhai Pamabhai (1973)
91 ITR 393 (Guj.), wherein it has been held that where a partner retires
from a partnership and the amount of his share in the net partnership assets
after deduction of liabilities and prior charges is determined on taking
accounts in the manner prescribed by the relevant provisions of the partnership
law, there is no element of transfer of interest in the partnership assets by
the retired partner to the continuing partners. The said judgment of the
Gujarat High Court has been affirmed by this Court in Addl. CIT v. Mohanbhai
Pamabhai (1987) 165 ITR 166 (Guj.). Excess amount received by assessee on retirement from two
partnership firms was not assessable to capital gains as there was no transfer
of any assets as contemplated by expression 'transfer' as defined in section
2(47). In
view of the said judgment, we find no merit in this appeal and the same is,
therefore, dismissed. – [CIT v. R. Lingmallu Raghukumar (2001) 247 ITR 801 :
166 CTR 398 : (2002) 124 Taxman 127 (SC)]
Amount received by a partner from the partnership on retirement in respect of his share in the partnership including goodwill – Amount not taxable as capital gains
In Addl. CIT v. Mohanbhai Pamabhai, the Supreme Court
had approved the decision of Gujarat High Court in CIT v. Mohanbhai Pamabhai, (1973) 91 ITR 393 (Guj.) wherein it was held that when a partner retires from
partnership firm and receives consideration in terms of money which includes
proportionate share of goodwill therein, the same is not taxable as there is no
‘transfer’. Relying on Mohanbhai Pamabhai, the Apex Court had in the case of CIT v. R.Lingamallu Raghukumar (2001) 247 ITR 801 (SC) held that even if consideration paid to retiring
partner, exceeds the balance in its capital account, the same shall not be
chargeable to tax. (Related Assessment year : 1963-64) – [Addl. CIT v.
Mohanbhai Pamabhai (1987) 165 ITR 166 (SC)]
A partner is capable of retiring from the ongoing partnership without dissolving the firm. Also, a partner’s right to retirement has to be determined from the agreement terms
In
Vishnu Chandra v. Chandrika Prasad Agarwal, the question before Supreme Court
was whether a partner was entitled to retire on the basis of partnership deed.
The deed provided that a partner may retire by giving one month notice and that
a partner cannot retire within one year of commencement of business and if he
does so, his capital will not be returned. Supreme Court held that it is
consistent with the provisions of section 31(1)(b) and the partner can retire
according to the deed.
The
two-judge bench of the Supreme Court decided that the plaintiff had retired
from the partnership and that such retirement is effective from the day of the
institution of the suit. They held that the partnership is not dissolved
and that the accounts shall be taken up to and inclusive of the day which
precedes the institution of the suit. - [Vishnu Chandra vs Chandrika Prasad Agarwal
AIR 1983 SC 523, 1982 (2) SCALE
1078, (1983) 1 SCC 22, 1982 (14) UJ 882 SC]
Retirement
of a partner from a firm does not dissolve the firm, but merely severs the
partnership between retiring partners and continuing partners, leaving the
partnership among continuing partners unaffected
The
Supreme Court in CIT, West Bengal v. A.W. Figgies & Co. has explained the
provisions of retirement of a partner as:
“9.
It is true that under the law of partnership a firm has no legal existence
apart from its partners and it is merely a compendious name to describe its
partners but it is also equally true that under that law there is no
dissolution of the firm by the mere incoming or outgoing of partners. A partner
can retire with the consent of the other partners and a person can be
introduced in the partnership by the consent of the other partners. The
reconstituted firm can carry on its business in the same firm’s name till
dissolution. The law with respect to retiring partners as enacted in the
Partnership Act is to a certain extent a compromise between the strict doctrine
of English common law which refuses to see anything in the firm but a
collective name for individuals carrying on business in partnership and the
mercantile usage which recognises the firm as a distinct person or quasi
corporation.” - [CIT, West Bengal v. A.W. Figgies & Co. (1953) 24 ITR 405 : 1954 SCR 171 (SC)]
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