Remuneration to Partner out of Profit is not ‘Salary’, cannot be treated as ‘Expenditure’

The Income Tax Appellate Tribunal (ITAT), Mumbai bench has held that the remuneration paid to Partner out of the share of profit cannot be treated as ‘salary’ to consider the same as “expenditure” for the purpose of section 40A(3) of the Income Tax Act, 1961 and therefore, such remuneration even if paid in cash exceeding the threshold limit prescribed under the provision shall not be applicable.

The assessee is a partnership firm and is engaged in the business of wholesale of Canvas Tarpoulins. For the year under consideration, the assessee e-filed its return of income on 26.09.2015 declaring total income of Rs. 9,40,320. During the course of assessment proceedings, upon verification of Ledger account filed by the assessee, the Assessing Officer found that assessee has paid remuneration of Rs. 30,000 to Mr. Prakash Desai (i.e. one of its Working Partners) in cash. Accordingly, the assessee was asked to show cause as to why said payment be not disallowed under section 40A(3) of the Act.

The assessee contended that the amount in question is the remuneration paid to the Working Partners and same is not covered under the provisions of section 40A(3) of the Act.

The Tribunal bench comprising Shri Sandeep Singh Karhail, Judicial Member and Shri Gagan Goyal, Accountant Member held that the partnership firm is not a juristic person and there is no separate identity for the firm and its partners. The partnership is only a collective of separate persons and not a legal person in itself.

The bench held that the Apex Court in the case of CIT v. R.M. Chidambaram Pillai held that the payment of salary to a partner represents a special share of the profits and the salary paid to the partner retains the same character of the income.

“Thus, remuneration paid to the partner is share of profits of the partnership firm and same cannot be treated to be in the nature of salary paid to the employee,” the Tribunal said.

Concluding the order, the Tribunal held that “Thus, we are of the view that being a share of profit, remuneration paid to partner will not fall within the category of ‘expenditure’ as normally considered and accordingly even if paid in cash above the threshold under section 40A(3) of the Act, provided the conditions of section 40(b) of the Act are not applicable, shall be allowed as deduction while computing the income under the head ‘Profits and gains of business or profession’.”