Income escaping assessment

IN THE INCOME TAX APPELLATE TRIBUNAL BENCH AMRITSAR D.D. Sehgal v. Dy. Commissioner of Income-tax JOGINDER PALL AND A.D. JAIN, JJ. ITA NO. 225 (ASR) OF 2006 ASSESSMENT YEAR 1988-89 OCTOBER 12, 2007 Section 147 of the Income-tax Act, 1961 - Income escaping assessment - Illustrations - Assessment years 1988-89 to 1990-91, 1993-94 and 1994-95 - One D along with his five sons constituted a partnership firm ‘S’ - Said firm ‘S’ was a partner in another firm ‘L’ through ‘D’ - Subsequently, firm ‘L’ was converted into a Private Limited company ‘V’ and thereupon, share of firm ‘S’ in firm ‘L’ was converted into equity share capital and equity shares allotted by company ‘V’ were held in name of ‘D’ in his representative capacity - Subsequently dividend on said equity shares of company ‘V’ belonging to firm ‘S’ was received by ‘D’ and was regularly reflected by firm ‘S’ in its returns of income - ‘D’ expired on 10-4-1982 and thereupon, firm ‘S’ stood dissolved by operation of law - After ‘D’s death remaining partners of erstwhile firm ‘S’ and legal heirs of ‘D’ failed to obtain succession certificate due to certain differences amongst them - However, interest and dividend income accrued in books of Company ‘V’ and same was not being declared in returns either by erstwhile firm ‘S’, AOP or legal heirs of ‘D’ - Accordingly, Assessing Officer brought such income to tax in hands of AOP constituted by remaining partners of erstwhile firm ‘S’ - However, such action of Assessing Officer was not approved by Tribunal and High Court - Thereupon, with a view to assess income in question in hands of legal heirs of ‘D’, Assessing Officer initiated reassessment proceedings against them - Legal heirs objected to proposed assessment on ground that they had no right to receive any income on behalf of late ‘D’ - However, Assessing Officer was of view that some of partners of firm ‘S’ were also legal heirs of ‘D’ who should have taken steps for distribution of assets of firm ‘S’ and accounted for interest and dividend income arising therefrom - Accordingly, Assessing Officer assessed entire dividend income in hands of legal heirs of ‘D’ - Whether since legal heirs of ‘D’ had not filed any returns disclosing therein share of income of late ‘D’ received from company ‘V’, Assessing Officer was justified in entertaining a ‘reason to believe’ that income chargeable to tax had escaped assessment within meaning of section 147 - Held, yes - Whether therefore, initiation of proceedings under section 147 in hands of legal heirs of ‘D’ was justified - Held, yes - Whether as regards merits of impugned addition, income arising from asset owned by erstwhile firm ‘S’ which had not been distributed could be assessed in hands of legal heirs of ‘D’ to extent such income belonged to said ‘D’ as partner - Held, yes - Whether accordingly, since there were six partners in firm ‘S’ in which ‘D’ had only 1/6th share, and further, since ‘D’ was holding shares of company ‘V’ only in his representative capacity, only said 1/6th share of ‘D’ was assessable in hands of his legal representatives - Held, yes FACTS One ‘D’ was a partner in a firm ‘S’. The said firm S was a partner in another firm ‘L’ through ‘D’ and was regularly assessed to income-tax, wherein it duly reflected its income from the business and from share of profits from firm ‘L’. Later on, the firm ‘L’ was converted into a Private Limited company ‘V’ and thereupon, the share of firm ‘S’ in the firm ‘L’ was converted into equity share capital. Subsequently, dividend on the said equity shares of the company V belonging to the firm ‘S’ was received by ‘D’ and was regularly reflected by the firm ‘S’ in its returns of income. On 10-4-1982, ‘D’ expired and in the absence of any specific clause in the partnership deed, the firm ‘S’ stood dissolved by operation of law. After D’s death, remaining partners and legal heirs of ‘D’ failed to obtain succession certificate due to differences amongst them. But interest and dividend income accrued in the books of Company ‘V’ and the same was not being declared in the returns either by the erstwhile firm ‘S’ AOP or legal heirs of ‘D’. Subsequently, the Assessing Officer initiated proceedings under section 147 against the firm ‘S’ for the assessment years 1983-84, 1984-85 & 1987-88, and completed the assessments in the hands of AOP on substantive basis. However, the Tribunal quashed the assessment orders passed by the Assessing Officer on the ground that the notices under section 148 had not been served on the AOP. The High Court upheld the action of the Tribunal holding that the assessment in the status of AOP were not valid. Subsequent to the assessment framed in the hands of AOP on substantive basis, the Assessing Officer initiated action under section 147 in the hands of the legal heirs of ‘D’ and issued notices under section 148 for the assessment years 1988-89 to 1990-91, 1993-94 and 1994-95. The legal heirs of ‘D’ objected to the proposed assessments in their hands on the ground that they had no right to receive any income on behalf of late ‘D’. However, Assessing Officer observed that the remaining partners of the firm ‘S’ failed to perform their statutory obligation to settle the accounts of the dissolved sub-partnership, that some of the partners were also the legal heirs of ‘D’, and, thus, they should have taken the steps for distribution of the assets and accounted for interest and dividend income arising from the assets of the firm ‘S’. Thus, the Assessing Officer assessed the entire dividend income arising from the shares of company still held in the name of late ‘D’ and the interest income which was earlier assessed in the hands of firm ‘S’ in the hands of the legal heirs of ‘D’ on protective basis. On appeal, the Commissioner (Appeals) upheld the action of the Assessing Officer. On second appeal : HELD The existence of the partnership firm S till the death of D on 11-4-1982 was not in dispute. The said firm S was partner in the firm ‘L’ till it was converted into a Private Ltd. Company. On conversion into a Private Ltd. Company, equity shares were allotted which were held in the name of D in his representative capacity of firm S. Further, the said shares assets had not been distributed amongst the partners due to dispute among them. The Assessing Officer brought such income to tax in the hands of an AOP. This action of the Assessing Officer was not approved by the Tribunal. The High Court also confirmed the action of the Tribunal holding that the assessments in the hands of AOP were not valid. [Para 9] Now the question that arose for consideration was whether if the said income could not be brought to tax in the hands of an AOP and such income was taxable, in whose hands such income had to be brought to tax. The Assessing Officer had initiated proceedings in the hands of legal heirs of ‘D’ to bring to tax dividend income from shares held by ‘D’ in his own name and interest income which was earlier being assessed in the hands of partnership firm ‘S’. Since the firm S stood dissolved by operation of law, the income arising from the asset owned by erstwhile firm which had not been distributed could be assessed in the hands of legal heirs to the extent such income belonged to late ‘D’ as partner. [Para 9.1] Section 147 confers powers on the Assessing Officer to initiate reassessment proceedings, if he has ‘reason to believe’ that any income chargeable to tax has escaped assessment for that assessment year. Such power is subject to the provisions of sections 148 to 153. The expression ‘reason to believe’ used in section 147 is of special importance. It does not mean ‘reason to suspect’. It is reasonable belief of a honest and reasonable person based upon reasonable grounds. [Para 9.2] In the instant case, the legal heirs of ‘D’ had not filed any returns disclosing therein share of income of late ‘D’ received from the company ‘V’. As per information on record, the income on the share assets held by ‘D’ in the company ‘V’ in his representative capacity was being credited by the said company ‘V’. Since the legal representatives had not filed the returns, the Assessing Officer was only required to entertain a belief that income chargeable to tax had escaped assessment. The other condition that such income had escaped assessment by reasons of the failure of the assessee disclosing fully and truly all material facts necessary for the assessment was not required to be fulfilled. Thus, the Assessing Officer was justified in entertaining a ‘reason to believe’ that income chargeable to tax had escaped assessment within the meaning of section 147. Therefore, the Assessing Officer was justified in initiating proceedings under section 147 in the hands of the legal heirs of ‘D’. [Para 9.4] As regards the merits of the addition made by the Assessing Officer in the hands of legal heirs of late ‘D’, there were six partners in the firm ‘S’, in which late ‘D’ had only 1/6th share. The remaining 5/6 shares belonged to his 5 sons each having 1/6th share. Further, ‘D’ was holding shares of the company only in his representative capacity. [Para 9.5] Therefore, the income arising on these assets to the extent of share of late ‘D’ in the said income would alone be liable to tax in the hands of the legal heirs. The remaining share in the said income would be chargeable in the hands of remaining partners of the erstwhile firm. [Para 9.6] Therefore, the Assessing Officer was to be directed to consider only 1/6th share of ‘D’ in the income of the erstwhile firm S in the hands of the legal heirs of ‘D’. The share of ‘D’ in the said firm would include the entire income on the assets held by firm ‘S’ and not necessarily be confined to shares of company ‘V’. [Para 10] In the result, the appeals were partly allowed. CASE REVIEW: CIT v. M.S. Menon, 168 ITR 125; (Mad.) Of Asstt. ACIT v. Rajesh Javeri Stock Brokers (P.) Ltd; 291 ITR 500 (SC.) - followed. CIT v. Mangalore Ganesh Beedi Works (2004) 264 ITR 658 (Kar.); B. Raghurame Prabhu Estate v. Jt. CIT (2003) 264 ITR 124 (Kar.); and CIT v. Vijay Laksham Metal Industries (2002) 256 ITR 540 (Mad.) - Distinguished.