In a recent case, the Bombay High Court, while quashing the reassessment proceedings, held that the retirement amount received by the partner through arbitration proceedings from the partnership firm is not chargeable to tax. Petitioner Ramona Pinto and her brother were partners in their father’s partnership firm, established around 1954.

After the petitioner’s father’s demise, she inherited a 25% share in the firm’s profits and losses. Subsequently, due to the reconstitution of the partnership by the petitioner’s brothers, William D’Souza and Denzil D’Souza, the petitioner retired from the firm on November 24, 1997. In the assessment year 1998-1999, the petitioner filed a return of income and financials, designating herself as an erstwhile partner. She claimed to continue as a partner in the firm.

Later, in the financial year 2009-2010, an arbitral tribunal awarded her 28 crores. During the assessment proceedings in the year 2010-2011, the income tax department alleged income escapement and issued a notice under Section 148. The department referred to the petitioner’s receipt of Rs.7 Crores in the financial year 2009-2010, asserting it had not been declared for tax. Subsequently, an assessment order was passed.

The appellant appealed the assessment order before the Commissioner of Income Tax (Appeals) [CIT(A)], who upheld that the amount was not received in connection with retirement from the firm. A further appeal was made to the tribunal, which deemed the reassessment proceedings valid. The petitioner, displeased with the tribunal’s decision, filed an appeal challenging it in court.

P.J. Pardiwalla, counsel for the petitioner, argued that the arbitration award amount was for retirement or relinquishment of rights under the will, not taxable income. Chandrashekhar, the respondent’s counsel, contended that the amount was chargeable to tax under Section 28(iv) or as “Income from other sources” under Section 56(1) of the Act. After scrutinizing the arbitration award’s terms and claim statement, the court concluded that the petitioner was entitled to Rs.28 crores as per the award, relinquishing all claims against the partnership firm and partners.

The court noted Section 45(4) of the Act, applicable in the concerned assessment year, taxed distribution of capital assets upon retirement of a partner but imposed the tax liability on the firm, not the retiring partner. Following a detailed analysis, a division bench of Justice K. R. Shriram and Justice Dr. Neela Gokhale held that the Rs.28 Crores received by the petitioner, as per the arbitration award, was not chargeable to tax. To Read the full text of the Order CLICK HERE