Partners can get depreciation benefits against income

Expenses like conveyance and books will need to be adjusted with other income

In a partnership firm, there are two sources of income for the partners - remuneration and share of profits. While the profit share is exempt under the provisions of the Income Tax Act (I-T Act), the remuneration is taxable for the partner.

In many cases, it is observed that partners have cars registered in their personal names but are used for business or official purposes. In such cases, many a times taxpayers claim the depreciation benefit for the car (that is largely used for official purposes) against the taxable remuneration income earned from the firm.

In one of the recent cases that came up before the Special Bench of the Ahmedabad Tribunal, a taxpayer had income by way of profits from a firm in which he was a partner, capital gains, interest, dividends and from house property.

The taxpayer had claimed the depreciation benefit on his car against the remuneration income, after deducting one-tenth of the depreciation towards usage of the car for personal purposes. However, the tax officer disallowed the claim for depreciation on the grounds that the expenditure so incurred is not necessarily for earning the business income from the partnership firm.

At the first level of appeal, the appellate authority observed that 76 per cent of taxpayer’s professional income is by way of share of profit and the balance by way of remuneration and interest income from the firm. In pursuance to the relevant provisions of the I-T Act, the authority ruled that as expenses incurred in relation to income, not chargeable to tax are not allowed to be claimed (under Section 14A), only 24 per cent of the depreciation benefit is allowable against the remuneration and interest income earned from the firm. Thus, the balance 76 per cent of the expense was disallowed.

Not happy with the said order, the taxpayer appealed before the Special Bench. The taxpayer argued that under the Indian Partnership Act, the partnership firm and partners are not distinct and therefore, the business carried on by firm can be construed as business carried on by partners, too.

By virtue of this, any expenditure incurred by the partners for the business should be allowed to be deducted from their business income. The taxpayer also argued that the profit share from the firm does not qualify as ‘income not chargeable to tax’ since the same has already suffered tax in the hands of the firm. As said under Section 10(2A) of the I-T Act, the tax on profits have already been paid and so the same is exempt from tax in the hands of the partners. In view of the same, the provisions of Section 14A of the I-T Act are not applicable in this case. The taxpayer relied on a number of judgements in support of the above claim.

The tax department’s counsel argued that the car has not been used by the taxpayer for the purpose of business (official purpose), but for the purpose of business of the firm. Thus, the expenditure could not be allowed to be claimed by the taxpayer. The counsel further argued that while under the Indian Partnership Act, the firm and its partners are synonymous, under the I-T Act, the law is quite clear that a firm and its partners are two separate entities liable to taxation. Both the firm and the partners are taxed on their separate incomes without any double taxation.

The Tribunal, while relying on the arguments of both sides, held that although a firm is nothing but the collective name of the partners under the Partnership Act, as far as the I-T Act is concerned, it is an entity distinct and separate from its partners. So, while the remuneration and interest earned by partners from the firm is taxable in the hands of the partners, the same is allowed as an expense for the firm from its profits. Once the firm pays taxes on its profits, any share distributed thereon, to partner(s) is exempt in their hands. Thus, it is clear that the amount taxed in the hands of the firm is not taxed again in the hands of the partners. Therefore, in view of specific provisions available under the Act, the Tribunal did not accept the taxpayers claim that the profit share is not excluded from his total income because the firm has already paid tax on it.

The Tribunal also held that Section 10(2A) of the I-T Act talks about exclusion from total income, that is, income of the person under consideration. In the said case, as profits from a firm is exempt from tax, the same is obviously excluded from the taxpayers income. Consequently, provisions of Section 14A would be applicable for disallowance of the depreciation benefit to the extent of 76 per cent.

However, the Tribunal held that Section 14A only deals with expenditure incurred in relation to income and not statutory allowances admissible to taxpayers under the I-T Act. Depreciation charged under the Act is an allowance granted and does not qualify as expenditure for the said purpose.

The above ruling thus, interprets the provisions of the I-T Act to provide that partners of firms can consider claiming depreciation on assets (in their personal name, used for the firm’s needs) against the remuneration and interest income from their firms. Any other expenditure to be claimed, namely traveling, conveyance, books, printing and stationery and so on, will need to be proportionately apportioned between the exempt profit share and taxable remuneration.

The writer is a certified financial planner