Taxpublishers.in - Monday Corner Answer to the Quiz for the week (15 Apr 2024)

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Quiz for the week (15 Apr 2024): Queen Products LLP., is engaged in manufacturing activity. It incurred following expenses: (i) Monthly lease rent for premises Rs.30,000 per month to a registered charitable trust throughout the financial year 2023-24. One partner of Queen Products LLP is a trustee of the trust. Similar space is let out by the trust to another tenant for monthly rent of Rs.20,000; (ii) Salary paid to working partner in charge of bank operations alone (as per deed) Rs.50,000 per month as authorised by the partnership agreement. Decide how to treat the expenses as regards their allowability for AY 2024-25. Best Answer : The query has two components viz. (i) payment of rent (which seems to be excessive) to a registered charitable trust in which one of the partners of the LLP is a trustee; and (ii) payment of remuneration to a partner as per deed. The query seems to be derive a possible solution by making reference to section 40A(2). With regard to payment of rent of Rs.30,000 per month by the LLP to a registered charitable trust when similar space is let out to another third party by the trust for Rs.20,000 per month, one has to refer to section 40A(2)(a). Section 40A(2)(a) says “Where the assessee incurs any expenditure in respect of which payment has been or is to be made to any person referred to in clause (b) of this section, and the Assessing Officer is of opinion that such expenditure is excessive or unreasonable having regard to the fair market value of the goods, services or facilities for which the payment is made or the legitimate needs of the business or profession of the assessee or the benefit derived by or accruing to him therefrom, so much of the expenditure as is so considered by him to be excessive or unreasonable shall not be allowed as a deduction”. Clause (b) of section 40A(2) deals with the relationship between the payer and payee. In the case of individual being the payer, payment to any relative of the assessee if it is excessive or unreasonable, it is liable for disallowance. The term ‘relative’ is defined in section 2(41) which means the husband, wife, brother or sister or any lineal ascendant or descendant of that individual. In case the payer is a company, firm, AOP or HUF the payment made to any director of the company, partner of the firm or member of the AOP or family or any relative of such director, partner or member. In this context, it is useful to make a reference to decided court decisions such as Shankar Trading (P) Ltd v. CIT (2012) 76 DTR (Del) 40. In this case, it was held that the term ‘AOP’ has not been defined in the Act though it is mentioned in section 2(31) of the Act which defines the expression ‘person’ to include ‘an AOP’. A reference was made to Supreme Court decision in the case of CIT v. Indira Balakrishna (1960) 39 ITR 546 (SC) where the Supreme Court while considering what constitutes an “AOP”, observed that by “association” means “to join any common purpose or to join an action”. Therefore, AOP means two or more persons join with a common purpose or for a common action. Though in view of the Explanation inserted by Finance Act, 2002 w.e.f. 1st April, 2002 to section 2(31) such association need not be formed with the object of deriving income, profits or gains, it is difficult to say that either the trustees or the beneficiaries of the trust come together and form an association for a common purpose or to take a common action. It was observed in CIT v. Venu Suresh Sanjay Trust (1996) 221 ITR 649 (Mad) that the beneficiaries have not set up the trust and the trustees derive their authority under the terms of the trust deed. Even in the case of a discretionary trust neither the trustees nor the beneficiaries can be considered to have come together with a common purpose of earning income. The mere fact that the beneficiaries or the trustees being representative assessees, are more than one cannot lead to a conclusion that they constitute an AOP. Thus, it was held since the ‘trust’ is not an AOP the provisions of section 40A(2) are not attracted to the transaction between the trust and the payer being assessee-company. Thus, the payment of rent though apparently excessive by Rs.10,000 per month by the LLP to the trust, is not liable for disallowance under section 40A(2)(a). As regards payment of remuneration to the partner when it is authorised by the deed or partnership agreement it cannot be subjected to disallowance since allowance of such deduction is subject to the limits laid down in section 40(b). One may gainfully refer to the decision in the case of CIT v. Great City Mfg. Co (2013) 351 ITR 156 (All) where it was held that an expenditure governed by section 40(b) cannot be disallowed by invoking section 40A(2)(b). On the other hand, if the rent is paid excessively to a partner such rent could be subjected to disallowance under section 40A(2)(b) as held in CIT v. Yoganand Textiles (1993) 202 ITR 869 (Guj). In conclusion, for the LLP the payment of rent is eligible for deduction without making reference to section 40A(2)(b) and payment of salary to a partner with reference to the partnership agreement when governed by section 40(b) it is not liable for disallowance under section 40A(2)(b). However, such remuneration to the working partner is subject to the overall limits laid down in section 40(b).

Quiz for the week (15 Apr 2024):

Queen Products LLP., is engaged in manufacturing activity. It incurred following expenses: (i) Monthly lease rent for premises Rs.30,000 per month to a registered charitable trust throughout the financial year 2023-24. One partner of Queen Products LLP is a trustee of the trust. Similar space is let out by the trust to another tenant for monthly rent of Rs.20,000; (ii) Salary paid to working partner in charge of bank operations alone (as per deed) Rs.50,000 per month as authorised by the partnership agreement.

Decide how to treat the expenses as regards their allowability for AY 2024-25.

Best Answer :

The query has two components viz. (i) payment of rent (which seems to be excessive) to a registered charitable trust in which one of the partners of the LLP is a trustee; and (ii) payment of remuneration to a partner as per deed. The query seems to be derive a possible solution by making reference to section 40A(2).

With regard to payment of rent of Rs.30,000 per month by the LLP to a registered charitable trust when similar space is let out to another third party by the trust for Rs.20,000 per month, one has to refer to section 40A(2)(a).

Section 40A(2)(a) says “Where the assessee incurs any expenditure in respect of which payment has been or is to be made to any person referred to in clause (b) of this section, and the Assessing Officer is of opinion that such expenditure is excessive or unreasonable having regard to the fair market value of the goods, services or facilities for which the payment is made or the legitimate needs of the business or profession of the assessee or the benefit derived by or accruing to him therefrom, so much of the expenditure as is so considered by him to be excessive or unreasonable shall not be allowed as a deduction”.

Clause (b) of section 40A(2) deals with the relationship between the payer and payee. In the case of individual being the payer, payment to any relative of the assessee if it is excessive or unreasonable, it is liable for disallowance. The term ‘relative’ is defined in section 2(41) which means the husband, wife, brother or sister or any lineal ascendant or descendant of that individual. In case the payer is a company, firm, AOP or HUF the payment made to any director of the company, partner of the firm or member of the AOP or family or any relative of such director, partner or member.

In this context, it is useful to make a reference to decided court decisions such as Shankar Trading (P) Ltd v. CIT (2012) 76 DTR (Del) 40. In this case, it was held that the term ‘AOP’ has not been defined in the Act though it is mentioned in section 2(31) of the Act which defines the expression ‘person’ to include ‘an AOP’. A reference was made to Supreme Court decision in the case of CIT v. Indira Balakrishna (1960) 39 ITR 546 (SC) where the Supreme Court while considering what constitutes an “AOP”, observed that by “association” means “to join any common purpose or to join an action”. Therefore, AOP means two or more persons join with a common purpose or for a common action. Though in view of the Explanation inserted by Finance Act, 2002 w.e.f. 1st April, 2002 to section 2(31) such association need not be formed with the object of deriving income, profits or gains, it is difficult to say that either the trustees or the beneficiaries of the trust come together and form an association for a common purpose or to take a common action.

It was observed in CIT v. Venu Suresh Sanjay Trust (1996) 221 ITR 649 (Mad) that the beneficiaries have not set up the trust and the trustees derive their authority under the terms of the trust deed. Even in the case of a discretionary trust neither the trustees nor the beneficiaries can be considered to have come together with a common purpose of earning income. The mere fact that the beneficiaries or the trustees being representative assessees, are more than one cannot lead to a conclusion that they constitute an AOP. Thus, it was held since the ‘trust’ is not an AOP the provisions of section 40A(2) are not attracted to the transaction between the trust and the payer being assessee-company.

Thus, the payment of rent though apparently excessive by Rs.10,000 per month by the LLP to the trust, is not liable for disallowance under section 40A(2)(a).

As regards payment of remuneration to the partner when it is authorised by the deed or partnership agreement it cannot be subjected to disallowance since allowance of such deduction is subject to the limits laid down in section 40(b). One may gainfully refer to the decision in the case of CIT v. Great City Mfg. Co (2013) 351 ITR 156 (All) where it was held that an expenditure governed by section 40(b) cannot be disallowed by invoking section 40A(2)(b). On the other hand, if the rent is paid excessively to a partner such rent could be subjected to disallowance under section 40A(2)(b) as held in CIT v. Yoganand Textiles (1993) 202 ITR 869 (Guj).

In conclusion, for the LLP the payment of rent is eligible for deduction without making reference to section 40A(2)(b) and payment of salary to a partner with reference to the partnership agreement when governed by section 40(b) it is not liable for disallowance under section 40A(2)(b). However, such remuneration to the working partner is subject to the overall limits laid down in section 40(b).