Order of the Court was made Hegde, J.:—
Statement of Case.
The assessee was constituted as a partnership firm under a deed of partnership dated 25th September 1950. The following were the partners:
1. U. Srinivasa Rao.
2. Rosario Mathew Andrade.
3. P. Sripati Acharya.
4. N.V Shanbogue.
In the assessment year 1956-1957 a loss of Rs. 59,623 was determined and in the assessment year 1957-1958, a loss of Rs. 95,500 was determined.
Registration was granted to the firm under Section 26A for the assessment year 1956-1957 and the loss of Rs. 59,623 was allocated among the partners.
For the assessment year 1957-1958, the status determined was that of an unregistered firm.
The assessment for 1958-1959 was also completed in the status of an unregistered firm. A loss of Rs. 1,41,168 was determined, as under:
Rs.
Total income of the previous year relevant for the assessment year 1958-1959.
13,943
Less loss brought forward (1956-1957)
..
..
58,623
Balance unabsorbed of 1956-1957
..
..
45,680
Unabsorbed loss of 1957-1958
..
..
95,500
(Correct figure is Rs. 1,41,180)
..
..
1,41,168
In the previous year ending on 30th June 1958, relevant for the assessment year 1959-1960, U. Srinivasa Rao and Rosario Mathew Andrade retired from the partnership on 3rd and 4th April 1958. The remaining partners continued the business under a deed dated 29th June 1959.
The assessment for the previous year ending on 30th June 1958 was completed on an income of Rs. 25,103. The Income-tax Officer dealt with the sum of Rs. 1,41,169 representing the loss of 1956-1957 and 1957-1958 as under: (the correct figure is Rs. 1,41,680):
“Since he unabsorbed loss of Rs. 1,41,168 has to be carried forward and set off there will be no taxable income for 1959-1960. During the year of account, there was a change in the constitution of the firm in that two of the partners, Sri V. Srinivasa Rao and Rosario Mathew Andrade were released on 3rd April 1958 and 4th April 1958. Therefore the share of profits of each partner will be computed proportionately in accordance with proviso to Section 26(1) for the purpose of setting off the unabsorbed loss of previous years under Section 24(2). In accordance with Clause (e) to proviso to Section 24(2), so much of the loss proportionate to the share of the retired partners cannot be carried forward and set off against the profits of the subsequent years.”
Out of a loss of Rs. 1,41,168 the Income-tax Officer held that a sum of Rs. 72,192 represented the unabsorbed loss to be carried forward after adjusting for the share income of the year. This represented Rs. 7.0 of the total loss of Rs. 1,41,168 less the share income of the year, i.e, the share of the loss of the two surviving partners N.V Shanbogue and P.S Acharya. The assessment was completed in the status of an unregistered firm A copy of the assessment order for 1959-1960 is Annexure “A” and forms part of the case.
The assessee went on appeal to the Appellate Assistant Commissioner in respect of the disallowance of interest paid to one of the parties in the assessment year 1958-1959. The assessee also appealed against the assessment order for 1959-1960. Objection was taken to the estimate of profit. It was also submitted that the loss attributable to the share of the two retiring partners should have been set off against the profit of the firm and that the balance should have been carried forward.
The Appellate Assistant Commissioner found that the determination of the total loss at Rs. 1,41,168 in the assessment year 1958-1959 was wrong as the loss of Rs. 59,623 for the assessment year 1956-1957 had been apportioned in the hands of the partners of the assessee. He went on to say:
“In his order for the year 1958-1959, having determined the total income at Rs. 13,943 the Income-tax Officer has allowed set off of the losses brought forward from two earlier years, firstly the loss of 1956-1957 determined at Rs. 59,623 and secondly the loss of 1957-1958 of Rs. 95,500. As regards the former figure of Rs. 59,623 on reference to the relevant order of 1956-1957 dated 22nd December 1956, I find that the status had been determined as ‘registered firm’, that the order under Section 26A of that year allowed the appellant's application for renewal of registration and that the order under Section 23(5) has duly apportioned the losses in the hands of the partners. The losses of Rs. 59,623 of 1956-1957 had thus been clearly carried forward in the hands of the partners. The Income-tax Officer therefore clearly erred in again allowing set off of it in 1958-1959. This is conceded by the Income-tax Officer present. The only loss which ought to have been set off is Rs. 95,500. In view of this finding the carry forward of loss for 1958-1959 will be revised as under:
Rs.
Total income as determined in the order of 31st August 1961..
13,943
Less losses of 1957-1958 set off .. .. ..
95,500
Resultant loss to be carried forward of 1957-1958 only as against Rs. 1,41,180 determined by the Income-tax Officer.
81,557
(It is to be noted that in this connection while intending to carry forward the loss of Rs. 1,41,180 the Income-Tax Officer by an apparent arthemetical error determined it at Rs. 1,41,168. The correct figure is Rs. 1,41,180). This will thus lead to an enhancement to the extent of losses wrongly allowed, i.e, Rs. 59,623. The assessment of this year is hereby enhanced by an amount of Rs. 59,623 re-determining the losses to be carried forward at Rs. 81,557.”
In dealing with the set off of the loss in 1959-1960, he observed that the Income-tax Officer had overlooked the main provisions of the Act relating to the carry forward of losses. He said that:
“the provisions of carry forward of losses are contained in Section 24(1) second proviso and in Clause (e) of the proviso to Section 24(2). The former refers to the set off in the same year and the latter to the scheme of carry forward. Both are clear and categorical in that carry forward of losses is to be only by the firms in cases where the status is ‘unregistered firm’ and similarly only by the partners where it is registered firm Clause (e) of the proviso to Section 24(2) is thus governed by the substantive provision contained in Section 24(2) Clause (e). As regards the Section 26(1) on which the Income-tax Officer relied this is also governed by the scheme of assessment of registered and unregistered firms laid down in Section 23(5)(a) and 26A read with the rules framed thereunder. The apportionment envisaged by the Income-tax Officer arises in case the assessment is to be made as a registered firm. If any element of doubt is still left in the Income-tax Officer's mind the same can be easily dispelled by a reference to the provisions of Section 16(1)(b) referred to in the aforesaid Clause (e) to the proviso to Section 24(2). Section 16(1)(b) for the present purpose is applicable only to the determination of the income of a partner in a registered firm. This is clear from the proviso to Section 16(1)(b) which refers to the scheme of carry forward of loss in a registered firm. The Income-tax Officers action is thus clearly contrary to the dictation of law governing the carry forward of losses in the hands of an unregistered firm. The appeal in this respect will be allowed and the Income-tax Officer is directed to allow the benefit of the entire losses carried forward from the earlier years.”
The Appellate Assistant Commissioner set off the income of Rs. 25,103 determined by the Income-tax Officer against the loss of Rs. 81,557. The carry forward loss was reduced to Rs. 56,454 (Rs. 61,557, Rs. 25,103). A copy of the Appellate Assistant Commissioner's order is annexure “B” and forms part of the case.
The department came on appeal against the decision of the Appellate Assistant Commissioner on the following grounds:
(i) that the Appellate Assistant Commissioner erred in holding that the provision of Clause (e) of proviso to Section 24(2) was not at all applicable to unregistered firm:
(ii) that the set off of the unabsorbed loss of the unregistered firm where a change had occurred in the constitution of the firm, was to be restricted to the extent of the proportionate share of the continuing partners.
The Tribunal, by its Order dated 10th October 1963, upheld the order of the Appellate Assistant Commissioner. A copy of the Tribunal's order is Annexure “C” and forms part of the case.
The question of law is:
“Whether having regard to Clause (e) of the proviso to Section 24(2), the assessee, an unregistered firm, was entitled to carry forward the whole of the loss including the share of the loss of the two retiring partners?”
This is a reference under Section 66(i) of the Indian Income-tax Act, 1922, to be hereinafter referred to as the “Act”, at the instance of the Commissioner of Income-tax. The question of law referred for the opinion of this Court is:
“Whether having regard to Clause (e) of the proviso to Section 24(2), the assessee, an unregistered firm, was entitled to carry forward the whole of the loss including the share of the loss of the two retiring partners?”
The question of law arising for decision in this case we were told is not covered by any decision either of the Supreme Court or of any of the High Courts.
The assessee is an unregistered firm by name ‘The Bharat Engineering and Construction Company, Udipi’. It carried on business as engineering contractors. The firm in question was constituted as per the partnership deed dated 25th October 1950. During the assessment years 1956-1957, 1957-1958 and 1958-1959 it incurred losses. The losses so incurred amounted to Rs. 1,41,180. But, during the assessment year 1959-1960, it earned Rs. 25,103 as profits. It claimed that it should be permitted to set off its earlier losses towards the profits earned during the assessment year 1959-1960. But, even, before the commencement of the assessment year 1959-1960, there had been a change in the constitution of the firm, two of its partners having left the firm earlier. Originally, the firm had four partners, namely, (i) U. Srinivasa Rao, (ii) Rosario Mathew Andrade, (iii) P. Sripati Acharya, and (iv) N.V Shanbogue. U. Srinivasa Rao and Rosario Mathew Andrade retired from the partnership on 3rd April 1958 and 4th April 1958 respectively.
One further fact needs to be noted that during the assessment year 1956-1957, the assessee firm was registered under Section 26-A of the “act” and assessed as such but during all the other assessment years it was assessed in the status of an “unregistered firm”.
The question before the Income-tax Officer was whether in determining the loss to be carried over by the firm he should exclude the share of loss of the partners that had retired or whether the firm was entitled to carry forward the entire loss incurred by it during the previous years. The I.T.O held that in view of Section 24(2)(e) read with Section 26(1) of the “Act”, the firm is not entitled to set off so much of the loss proportionate to the share of the retired partners computed in accordance with law. Dealing with that aspect this is what the I.T.O observed:
“Since the unabsorbed loss of Rs. 1,41,168 (correct figure is Rs. 1,41,180) has to be carried forward and set off there will be no taxable income for 1959-1960. During the year of account, there was a change in the constitution of the firm in that two of the partners, Sri U. Srinivasa Rao and Rosario Mathew Andrade were released on 3rd April 1958 and 4th April 1958. Therefore, the share of profits of each partner will be computed proportionately in accordance with proviso to Section 26(1) for the purpose of setting off the unabsorbed loss of previous years under Section 24(2). In accordance with Clause (e) to proviso to Section 24(2), so much of the loss proportionate to the share of the retired partners cannot be carried forward and set off against the profits of the subsequent years.”
Aggrieved by the Order of the Income-tax Officer, the assessee went up in appeal to the Appellate Assistant Commissioner. That Officer differing from the I.T.O came to the conclusion that the firm was entitled to carry forward the entire loss despite the fact that there was change on its constitution. He took the view that in the case of an un-registered firm, the assessee is the firm and not its partners and therefore, the change in its constitution is immaterial for the purpose of assessment. He was of the opinion that Clause (c) of this provision to Section 24(2) governs the provisions contained in Clause (e) of the said proviso. He further thought that from the scheme of the “Act”, the assessee, who is an unregistered firm, is entitled to claim set off in respect of the entire loss incurred by it during the previous years. The view taken by the Appellate Assistant Commissioner was affirmed by the Income-tax Appellate Tribunal. We have now to see whether that is the correct view of the law.
Section 24 deals set off of loss in computing aggregate income of an assessee. Sub-section (1) of that section is not relevant for our present purpose as that deals with set off of loss or profits or gains in any years under any of the heads mentioned in Section 6 against the assessee's income, profits or gains under any other head in that year. The case before us is covered by Section 24(2), which provides that where any assessee sustains a loss of profits or gains in any year, being a previous year not earlier than the previous year for the assessment for the year ending on the 31st day of March, 1940, in any business, profession or vocation, and the loss cannot be wholly set off under sub-section (1), so much of the loss as is not so set off or the whole loss where the assessee had no other head of income shall be carried forward to the following year. But, that right is subject to the provisions contained in the proviso. We are not now concerned with Clauses (i) to (iii) of Section 24(2). Nor are we concerned with any of the clauses in the proviso, excepting clauses (c) and (e). Clause (c) to the extent material for our present purpose says:
“Nothing herein contained shall entitle any assessee, * * * being a partner in an unregistered firm which has not been assessed under the provisions of clause (b) of sub-section (5) of Section 23…. to have carried forward and set off against his own income any loss sustained by the firm.”
From this clause, it follows that an assessee who is a partner in an unregistered firm, excepting in a case where the firm has been assessed under Section 23(5)(b) is not entitled to carry forward and set off against his own income any loss sustained by the firm. Quite clearly that clause does not deal with cases where the carry forward and set off of loss is claimed by the firm itself. It is plain from the language of that clause that it has nothing to do with the question of law that is before us.
This taken us to clause (e) to the proviso to sub-section (2) of Section 24, which in our opinion is the only relevant provision for our present purpose. That clause excluding portions which are not relevant for our present purpose reads:
“Where a change has occurred in the constitution of a firm, nothing in this section shall be deemed to entitle the firm to have set off so much of the loss proportionate to the share of a retired or deceased partner computed in accordance with the provisions of clause (b) of sub-section (1) of Section 16 as exceeds his share of profits, if any, of the previous year in the firm……..”.
Clause (b) of sub-section (1) of Section 16 is referred to in the above clause only for the purpose of computation of the share of the partners who have retired and for no other purpose.
Clause (b) of sub-section (1) of Section 16 says:
“In computing the total income of an assessee, when the assessee is a partner of a firm, then, whether the firm has made a profit or loss, his share (whether a net profit or a net loss) shall be taken to be any salary, interest, commission or other remuneration payable to him by the firm in respect of the previous year increased or decreased respectively by his share in the balance of the profit or loss of the firm after the deduction of any interest, salary, commission or other remuneration payable to any partner in respect of the previous year.
Provided that if his share so computed is a loss, such loss may be set off or carried forward and set off in accordance with the provisions of Section 24;”
The provisions quoted above does not deal with the question of carry forward or set off of the loss of firm. It deals with the case of an assessee who is a partner in a firm and not that of the firm as such.
The only other section to which reference may be made is Section 26(1), which says:
“Where, at the time of making an assessment under Section 23, it is found that a change has occurred in the constitution of a firm or that a firm has been newly constituted, the assessment shall be made on the firm as constituted at the time of making the assessment:
Provided that the income, profits and gains of the previous year shall, for the purpose of inclusion in the total income of the partners, be apportioned between the partners who in such previous year were entitled to receive the same:
Provided further that when the tax assessed upon a partner cannot be recovered from him it shall be recovered from the firm as constituted at the time of making the assessment.”
For the reasons mentioned above, we see no basis for the conclusion of the Tribunal that clause (c) of the proviso controls clause (e) thereof. We are of the opinion that the two clauses operate on different fields. While clause (e) deals with carry forward and set off of loss by a firm registered or unregistered, in the constitution of which there has been a change, clause (c) deals with the questions of set off of loss by a registered firm when its loss had been apportioned between its partners under the proviso to Section 24(1) as well as the set off by the partners of an unregistered firm which has not been assessed under the provisions of clause (b) of sub-section (5) of Section 23 against their own income any loss sustained by the firm. The two clause are independent of one another. One has nothing to do with the other. Hence, the view taken by the Tribunal appears to us to be wrong. In our opinion, as mentioned earlier, the case before us is entirely governed by clause (e).
The fact, that in the case of an unregistered firm, the firm is the assessee and not its partners, does not bear on the point under consideration. If any provision in the “Act” regulates the assessment of any particular class of assessees, there is no point in going to the scheme of the “Act”. The scheme of the “Act” may become relevant where the concerned provision is ambiguous. But, in this case, despite the fact that clause (e) is not well drafted, we find no difficulty in ascertaining its scope. Even though under the “Act” an unregistered firm is assessable as such but as could be seen from Section 26(1), in the matter of assessment, it is the firm as constituted at the time of making the assessment that has to be assessed. In other words, if it is found that a change has occurred in the constitution of the firm, assessment will have to be made on the firm as constituted at the time of making the assessment and not on the firm that was in existence earlier. From this it follows, for the purpose of assessment, every change in the constitution of a firm brings into existence a new firm.
We are unable to accept the contention of Mr. S.P Bhat, the learned Counsel for the assessee, that the expression “firm” found in clause (e) of the proviso to Section 24(2) means a registered firm. Throughout the “Act”, distinction is made between registered firms and unregistered firms. The “Act” uses three distinct expressions, namely, “firm”, “registered firm”, “registered firm” and “unregistered firm”. Whenever the word “firm” is used, it is intended to include both registered as well as unregistered firms. In Section 24(2) itself we find the words “firm”, “registered firm” and “unregistered firm”. To accept the contention of Mr. Bhat is to ignore one of he well accepted canons of construction. Even otherwise, from the language of the provision, it is clear that the expression “firm” found in clause (e) includes both registered and unregistered firms.
We think, the following passage in “The Law and Practice of Income-tax” by Kanga and Palkhivala (Fourth Edition, at page 607) correctly sets out the legal position:
“The broad principle underlying sub-section (2) is that the right of carry forward and set off of losses is available only to the person who has suffered the loss and to no one else. Clause (e) of the proviso is the necessary corollary to this principle.
Section 26(1) provides that where a change has occurred in the constitution of a firm, the assessment should be made on the firm as constituted at the time of making the assessment, but for the purpose of inclusion in the total income of the partners the firm's profits should be apportioned between the partners who in the previous year entitled to receive the same. The effect of Clause (e) of the Proviso to Section 24(2), as far as can be gathered from its clumsy language, is that a firm is not entitled to carry forward and set off against its own profits of a subsequent year so much of its loss as is proportionate to the share of a retired or deceased partner, nor is any partner entitled to carry forward and set off against his own profits any other partner's share of the loss.”
For the reasons mentioned above, our answer to the question referred to us is that having regard to Clause (e) of the Proviso to Section 24(2), the assessee, an unregistered firm, was not entitled to carry forward the whole of the loss including the share of the loss of the two partners who had retired.
The assessee to pay costs of this reference. Advocate's fee Rs. 150.