CONTROLLER OF ESTATE DUTY v. G. N. KHANNA — 1986 DIGILAW 945 (ALL)

R. K. GULATI, J. ( 1 ) BY this reference under Section 64 of the Estate Duty Act, 1953 (hereinafter referred to as "the act"), the Income-tax Appellate Tribunal, Allahabad Bench, Allahabad, has referred the following questions of law for the opinion of this court at the instance of the Controller of Estate duty : "1. Whether, on the facts and in the circumstances of the case, the transaction of retirement of the assessee constituted extinguishment of his rights in the partnership firm within the meaning of Explanation 2 to Section 2 (15) of the Estate Duty Act, 1953 ? ( 2 ) WHETHER, on the facts and in the circumstances of the case, the Tribunal was justified in allowing deduction of Rs. 1,45,000?" 2. One Sri S. N. Khanna died on December 2, 1967. He was a partner having six annas share in a firm which carried on the business under the name and style of Annapurna Biscuit manufacturing Company. Besides the deceased, the other three partners were his sons. ( 3 ) THREE days prior to his death, the deceased retired from the aforesaid partnership business. It was followed by a dissolution deed executed on the same day and the firm was reconstituted by the remaining partners thereafter. ( 4 ) IN terms of the dissolution deed, the deceased received a sum of Rs. 50,000 from the continuing partners as the value of his share in the goodwill of the firm. The accountable person included the aforesaid Rs. 50,000 in the estate of the deceased. In computing the principal value of the property left by the deceased, the Assistant Controller of Estate Duty, however, valued the deceaseds share in goodwill at much more than what the deceased would be deemed to have disposed of. He computed the value of goodwill of the firm at Rs. 5,20,000 and the deceaseds six annas share therein was determined at Rs. 1,95,000. Taking resort to the provision of Section 9 (1) of the Act, the Assistant Controller held that the difference between Rs. 1,95,000 and Rs. 50,000 (i. e. , the amounl which had already been included in the estate of the deceased by the accountable person) represented gift in favour of his sons and a sum of Rs. 1,45,000 was liable to be included in the estate of the deceased as property passing on his death. 1,95,000 and Rs. 50,000 (i. e. , the amounl which had already been included in the estate of the deceased by the accountable person) represented gift in favour of his sons and a sum of Rs. 1,45,000 was liable to be included in the estate of the deceased as property passing on his death. ( 5 ) ON appeal, the Appellate Controller upheld the action though on a different ground. He held that Section 9 of the Act was not applicable inasmuch as the case clearly fell within the scope of explanation 2 to Section 2 (15) of the Act. He, therefore, sustained the assessment. The Appellate controller recorded some pertinent findings which are relevant for the disposal of this reference and, therefore, are being reproduced below : ". . . . . Facts of this case show that there is no dispute by the account- able person as to the valuation of the goodwill as on the date of dissolution. Thus, it is accepted by the accountable person that the value of the goodwill was rightly calculated and was Rs. 1,95,000 as on the date of dissolution which was three days prior to the death of the deceased. Thus, it is apparent that property worth Rs. 1,95,000 was agreed to be valued at Rs. 50,000 by the deceased and his sons obviously in order to transfer this valuable property to his sons without full consideration. In my opinion, the Assistant Controller was right in assessing this amount as goodwill which was deemed to have passed on the death of the deceased. " ( 6 ) THE aforesaid findings have not been disturbed in second appeal. However, the Income-tax appellate Tribunal reversed the decision taking the view that the provisions of Section 9 or explanation 2 to Section 2 (15) of the Act were not attracted. According to it, in the partnership deed, there was no clause which entitled a retiring or outgoing partner to claim his share in the goodwill of the firm. In such a situation, the question of goodwill between the partners was to be decided by mutual agreement or under the general provisions of the Partnership Act. It held that in the instant case, the continuing partners agreed to pay Rs. In such a situation, the question of goodwill between the partners was to be decided by mutual agreement or under the general provisions of the Partnership Act. It held that in the instant case, the continuing partners agreed to pay Rs. 50,000 only to the outgoing partner, namely, the deceased, in lieu of his share in the goodwill of the firm, and, therefore, in view of section 32 of the Partnership Act, the deceased was not entitled to any further right in the assets of the firm including the goodwill on the date when he died. In this view of the matter, according to the Tribunal, question of any extinguishment without consideration within the meaning of explanation 2 to Section 2 (15) of the Act did not arise. On these reasonings, the addition of Rs. 1,45,000 was deleted by the Tribunal. ( 7 ) THE short question that we have to answer is whether any amount over and above the amount of Rs. 50,000 representing the share of goodwill of the deceased is liable to be included in the estate of the deceased for the purpose of levy of estate duty ? ( 8 ) THE question, though apparently simple, involves some important and complicated questions, which we might have to answer before we render our answer to the questions referred to us. But, fortunately, all these difficult questions are no longer res integra as they stand concluded by certain decisions of the Supreme Court to which we will refer shortly. ( 9 ) THE first question one has to face is whether the goodwill of the firm is property over which the deceased had power of disposition at the time of his death and, if so, to what extent. ( 10 ) THE second question that would arise is what is the provision in the Estate Duty Act under which the property representing the goodwill can be said to have passed on which estate duty can be levied. Both these questions stand concluded by the decision of the Supreme Court which we have in mind. ( 10 ) THE second question that would arise is what is the provision in the Estate Duty Act under which the property representing the goodwill can be said to have passed on which estate duty can be levied. Both these questions stand concluded by the decision of the Supreme Court which we have in mind. ( 11 ) IN CED v. Mrudula Nareshchandra [1986] 160 ITR 342, the Supreme Court held that the goodwill of a partnership firm is property which can be disposed of by the partner concerned as would be apparent from the following passage extracted from the aforesaid judgment (at pages 348 and 349): "section 14 of the Indian Partnership Act, 1932, recognises that, subject to contract between the partners, the property of the firm would include all the property and rights and interests in property originally brought into the stock of the firm or acquired by purchase or otherwise, by the firm or for the purpose of, or in the course of business of, the firm and includes the goodwill of the business. It further provides that unless a contrary intention appears, property and rights in property acquired with money belonging to the firm are deemed to have been acquired for the firm. Section 15 of the said Act provides that the property of the firm shall be held and used exclusively for the purpose of the firm. In a partnership, there is a community of interest in which all the partners take in the property of the firm. But that does not mean that during the subsistence of the partnership, a particular partner has any proprietary interest in the assets of the firm. Every partner of the firm has a right to get his share of profits till the firm subsists and he has also a right to see that all the assets of the partnership are applied to and used for the purpose of partnership business. Section 29 of the said Act also shows that he can transfer his interest in the firm either absolutely or partially. He has also the right to get the value of his share in the net assets of the firm after the accounts are settled on dissolution. Section 29 of the said Act also shows that he can transfer his interest in the firm either absolutely or partially. He has also the right to get the value of his share in the net assets of the firm after the accounts are settled on dissolution. All these rights of a partner show that he has got a marketable interest in all the capital assets of the firm including the goodwill asset even during the subsistence of the partnership. This interest is property within the meaning of Section 2 (15) of the Act as mentioned hereinbefore. " ( 12 ) THERE is, however, one aspect which one cannot help noticing. That aspect is what would be the position in a case where there is a provision in the partnership deed that an outgoing partner or a deceased partner will have no interest in the goodwill which shall continue to vest in the continuing partners. This type of condition is generally incorporated in the partnership deeds, the idea being that the business of the firm should not be disturbed and its continuity be preserved when a partner retires or dies not resulting in the dissolution of the firm but leaving the identity of the firm intact. Can it be said in such a case, that the right or interest of such an outgoing or deceased partner in the goodwill of the firm passes on his death and the accountable person shall be liable to pay tax thereon. It is possible in such a case to argue that the outgoing or deceased partner had no subsisting right in the goodwill of the firm from the very inception because this right to goodwill was confined only to the continuing partners. In such a situation, it cannot be said that any right in goodwill was property of the deceased which passed on his death. Such a partner had been deprived of a share in the goodwill right from its very inception, even before the goodwill came into existence. Therefore, no question would arise as to any property representing his share in the goodwill passing on his death or retirement. Such a partner had been deprived of a share in the goodwill right from its very inception, even before the goodwill came into existence. Therefore, no question would arise as to any property representing his share in the goodwill passing on his death or retirement. But, fortunately for us, the Supreme Court has laid down in CED v. Mrudula Nareshchandra [1986] 160 ITR 342, that notwithstanding any restrictive condition as to goodwill in the partnership deed, the right of a partner in goodwill continues to exist and is not destroyed by any such restrictive clause. Reference may be invited to the following passage extracted from CED v. Mrudula nareshchandra [1986] 160 ITR 342, at page 352 of the report: "the High Court at page 309 of the report has observed that interest of a dying partner automatically comes to an end on his death. The High Court further stated that if an interest in any property came to an end at a particular point of time, nothing survived which could be inherited by the heirs. We are unable to accept this position. The moment the life conies to an end, the razors edge of time and existence which divides the past from the future, and is, and yet, instantaneously is not, at that time property passes or is deemed to pass. The goodwill of the firm after the death of the dying partner does not get diminished or extinguished. Whoever has the benefit of that firm has the benefit of the value of that goodwill. Therefore, if by any arrangement, for instance Clause (10) of the partnership agreement in the instant case, the heirs do not get any share in the goodwill, the surviving partners who will have the benefit of the partnership will certainly have that benefit. The High Court was right in observing at page 312 of the report that Section 7 of the Act might apply to the facts of a given case if it could be shown that there was a cesser of any interest resulting in some form of benefit. Indeed, in this case, whoever gets the partnership firm is the gainer. Therefore, as a result of the death of the dying partner, there is cesser of interest as well as accrual or arising of benefit of the said cesser. Indeed, in this case, whoever gets the partnership firm is the gainer. Therefore, as a result of the death of the dying partner, there is cesser of interest as well as accrual or arising of benefit of the said cesser. " ( 13 ) IT is true that the restrictive clause in the partnership in the case before the Supreme Court was worded slightly differently. Instead of saying that the legal heirs of the deceased partner shall have no interest in the goodwill of the firm, the clause provided that the firm shall not be dissolved on the death of a partner and the partner dying shall have no right in the goodwill. However, it is not possible to distinguish the case on this reasoning because the Supreme Court has interpreted the clause to mean the same thing as the expressed restrictive clause saying that the legal heirs of the deceased shall have no interest in the goodwill. ( 14 ) HOWEVER, this discussion is also not strictly called for. In the partnership deed, in the case before us, there is no restrictive clause relating to the right of the outgoing or deceased partner in the goodwill of the firm. The partnership deed is completely silent on this aspect and as such the case would be covered by Section 55 of the Indian Partnership Act which provides that every partner, including the deceased partner, shall have a right in the goodwill of the firm and can claim his share in the goodwill. Consequently, the legal heirs of the deceased partner shall also have a right to claim a share in the goodwill and such right is property passing on the death of the deceased. We have, however, made reference to this aspect of the matter for the reason that even though there is no restrictive clause in the deed of partnership relating to goodwill, there is a clause of a limited restrictive nature in the dissolution deed drawn up on the date of retirement of the deceased partner on December 2, 1967. According to that clause, the deceased partner had agreed to take Rs. 50,000 in lieu of his share in the goodwill relinquishing thereby his claim to any further sum as his share in the goodwill. Admittedly, the sum of Rs. 50,000 was a much smaller amount than his actual share which came to Rs. 1,95,000. According to that clause, the deceased partner had agreed to take Rs. 50,000 in lieu of his share in the goodwill relinquishing thereby his claim to any further sum as his share in the goodwill. Admittedly, the sum of Rs. 50,000 was a much smaller amount than his actual share which came to Rs. 1,95,000. Thus, in this way, the partner concerned had relinquished his right in part. The clause in the dissolution deed, however, cannot be equated with a similar clause in the partnership deed had it been there. As stated earlier, a restrictive clause in the partnership deed drawn up on or before the commencement of partnership will have the effect of extinguishing the right to goodwill before it was born. It would be like the birth of a still-born child which can never grow or die later on. But the restrictive clause in the dissolution deed, in the instant case, which restricts the right of the outgoing partner to a smaller amount than he is entitled to, cannot be said to have that effect, namely, of giving birth to a still-born child. The right had already accrued and grown to its full length before it was abandoned in part. Therefore, a clause of this nature which is drawn up at the end of the deed rather than at the beginning has different consequences. The clause in question seeks to abandon in part a right which had already matured and, therefore, any voluntary diminution of that right would result in passing the benefit to the continuing partner if not to his legal heirs and the difference between the amounts due and received by the outgoing partner would be property passing on his death. ( 15 ) THE next question relates to the relevant provisions which entitled the Revenue to levy estate duty on the portion of the goodwill relinquished. Section 5 is the charging section which provides for the levy of estate duty on property of any kind of the deceased passing on his death. Section 6 provides that property which the deceased was at the time of his death, competent to dispose of shall be deemed to pass on his death. Next set of provision is Section 2 (15) which defines property. Explanation 2 to the said section gives an expanded meaning to the words "property passing". Section 6 provides that property which the deceased was at the time of his death, competent to dispose of shall be deemed to pass on his death. Next set of provision is Section 2 (15) which defines property. Explanation 2 to the said section gives an expanded meaning to the words "property passing". For the sake of convenience, Section 2 (15) of the Act with its Explanation 2 is reproduced below : "2 (15) property includes any interest in property, movable or immovable, the proceeds of sale thereof and any money or investment for the time being representing the proceeds of sale and also includes any property converted from one species into another by any method. . . Explanation 2.--The extinguishment at the expense of the deceased of a debt or other right shall be deemed to have been a disposition made by the deceased in favour of the person for whose benefit the debt or right was extinguished, and in relation to such a disposition the expression property shall include the benefit conferred by the extinguishment of the debt or right. " ( 16 ) THE next provision is Section 9 which provides that any gift of property made by the deceased two years or more prior to his death and not made for any bona fide reason, shall be property passing on his death. In other words, this provision seems to avoid or ignore any gift made by the deceased two years or more prior to his death if not made for bona fide purpose. ( 17 ) ANOTHER provision in that order is Section 27 which places a clear ban on gifts made by the deceased in favour of his near relatives within two years of death irrespective of whether the gift is for bona fide or non-bona fide purpose. It will be easier to appreciate if we reproduce the relevant part of the provisions of Section 9 and Section 27 (1) of the Act: "9. It will be easier to appreciate if we reproduce the relevant part of the provisions of Section 9 and Section 27 (1) of the Act: "9. Gifts within a certain period before death.-- (1) Property taken under a disposition made by the deceased purporting to operate as an immediate gift inter vivos whether by way of transfer, delivery, declaration of trust, settlement upon persons in succession, or otherwise, which shall not have been bona fide made two years or more before the death of the deceased shall be deemed to pass on the death : Provided that in the case of gifts made for public charitable purposes the period shall be six months. 27. Dispositions in favour of relatives.-- (1) Any disposition made by the deceased in favour of a relative of his shall be treated for the purposes of this Act as a gift unless (a) the disposition was made on the part of the deceased for full consideration in money or moneys worth paid to him for his own use or benefit; or (b) the deceased was concerned in a fiduciary capacity imposed on him otherwise than by a disposition made by him and in such a capacity only ; and references to a gift in this Act shall be construed accordingly : provided that where the disposition was made on the part of the deceased for partial consideration in money or moneys worth paid to him for his own use or benefit, the value of the consideration shall be allowed as a deduction from the value of the property for the purpose of estate duty. " ( 18 ) THE distinction between Section 9 and Section 27 becomes immediately clear. If the gift is made by the deceased two years prior to his death and if the transaction is bona fide made, not with a view to avoid the payment of tax, it shall not be included in the estate of the deceased ; but if the gift is made within two years of his death, the question of bona fide and non-bona fide will become irrelevant as the Section places a complete ban on gifts of all kinds made in favour of the relatives under any circumstances. Section 27 saves disposition in favour of certain near relations only if disposition of property is made for adequate consideration like sale, exchange, etc. Section 27 saves disposition in favour of certain near relations only if disposition of property is made for adequate consideration like sale, exchange, etc. , but not disposition without consideration amounting to gift is exempted. ( 19 ) THE position taken by the Revenue, in the instant case, is that when at the time of retirement, the deceased took a smaller amount than what is due to him on account of the goodwill, he is deemed to have made disposition of the remaining share of the goodwill in favour of the continuing partners, who are his sons, without consideration amounting to gift and thus would be caught in the net of the Estate Duty Act. In this contention, the Revenue is plainly right. The deceased had voluntarily, three days prior to his death, relinquished a part of his share in the goodwill giving corresponding benefit to the continuing partners who, incidentally, are his near relatives being his sons. Since the transaction amounted to a gift to his near relations like sons, the transaction was caught by Section 27 read with Section 9 and Section 5. In the result, the revenue was right in levying tax on the difference of the actual share of Rs. 1,95,000 and Rs. 50,000 which he received in lieu thereof. ( 20 ) BEFORE we conclude, it is necessary to refer to certain arguments advanced on behalf of the accountable person and to certain decisions which were cited at the bar. First contention is that the deceased having accepted Rs. 50,000 with the concurrence of other partners at the time of his retirement, no further amount is liable to be added to the estate of the deceased on account of goodwill particularly when there was no clause in the partnership deed which entitled the retiring partner to a share in the goodwill of the firm. This contention has been dealt with by us earlier in this judgment. This contention has been dealt with by us earlier in this judgment. However, we may repeat here that in the absence of a clause in the partnership deed regulating partners in the share of goodwill, the allocation of goodwill will be determined by Section 55 of the Indian Partnership Act which provides that in the absence of a contract to the contrary, every partner shall be entitled to a share in the goodwill like other property of the firm, and it is, therefore, not correct to say that in the absence of a clause in the partnership deed relating to goodwill, the outgoing partners or the legal heirs of the deceased partner are not entitled to any specific portion of the goodwill. ( 21 ) ANOTHER contention raised is that merely because the deceased accepted a lesser amount than that due to him in lieu of the goodwill of the firm, there is no gift involved in it on which any estate duty could be imposed on account of property passing on death. In support of this contention, reliance has been placed on a decision of the Supreme Court in Getti Chettiars case [1971] 82 ITR 599. This was a case arising out of proceedings relating to the Gift-tax Act where a member of a Hindu undivided family had taken a lesser share in the partition than what was due to him in law. The question which fell for consideration before the Supreme Court was whether such a transaction involved transfer of property or disposition within the meaning of section 2 (xxiv) of the Gift-tax Act. The Supreme Court held that such a transaction did not involve any gift so as to attract levy of gift tax on it. The provisions of the Gift-tax Act with which the Supreme Court was concerned in that case are materially different from those of the corresponding provisions under the Estate Duty Act with which we are concerned. The Supreme Court held that such a transaction did not involve any gift so as to attract levy of gift tax on it. The provisions of the Gift-tax Act with which the Supreme Court was concerned in that case are materially different from those of the corresponding provisions under the Estate Duty Act with which we are concerned. In CED v. Kantilal Trikamlal [1976] 105 ITR 92, the Supreme Court considered an identical question which had arisen in Getti Chettiars case [1971] 82 ITR 599 (SC) in a matter arising under the estate Duty Act and distinguished that case in the following manner (at pages 104 and 105): "the word transfer in Section 2 (xxiv) of the Gift-tax Act takes its colour from the main clause, that is, it must be a transfer of property in some way. Since a partition is not a transfer in the ordinary sense of law, the court reached the conclusion that a mere partition with unequal allotments not being a transfer, cannot be covered by Section 2 (xxiv ). A close reading of that provision and the judgment will dissolve the mist of misunderstanding and discloses the danger of reading observations from that case for application in the instant case. The language of section 2 (15), Explanation 2, is different and wider and the reasoning of Getti Chettiars case [1971] 82 ITR 599 (SC) cannot, therefore, control its amplitude. It is perfectly true that in ordinary Hindu law, a partition involves no conveyance and no question of transfer arises when all that happens is a severance in status and the common holding of property by the coparcener is converted into separate title of each coparcener as tenant-in-common. Nor does subsequent partition by metes and bounds amount to a transfer. The controlling distinction consists in the difference in definition between the Gift-tax Act (section 2 (xxiv)) and the Estate Duty Act (section 2 (15) ). " ( 22 ) IN view of the aforesaid decision of the Supreme Court, the second contention raised by learned counsel appearing on behalf of the accountable person is liable to be rejected. We were referred to two more decisions, one of the Gujarat High Court in Smt. Mrudula Nareshchandra v. CED [1975] 100 ITR 297 and the other of this court in CED v. Ram Sumarni Devi [1984] 147 itr 233. We were referred to two more decisions, one of the Gujarat High Court in Smt. Mrudula Nareshchandra v. CED [1975] 100 ITR 297 and the other of this court in CED v. Ram Sumarni Devi [1984] 147 itr 233. Both these decisions have since been overruled by the Supreme Court in CED v. Smt. Mrudula Nareshchandra [1986] 160 ITR 342 and, therefore, it is not necessary for us to deal with these two decisions. ( 23 ) IN view of the aforesaid discussion, the first question referred to us is answered in the affirmative while the second question is answered in the negative. Thus both the questions are answered in favour of the Department and against the assessee. The Department is entitled to its costs which we assess at Rs. 250. .