Disputes involving whether capital gains taxes are leviable on sums/assets paid to retiring partners has been a subject matter of litigation for several decades now. In order to bring clarity, the legislature introduced a new provision (i.e. section 45(4)) into the Income tax Act, 1961 (IT Act), which provided that capital gains tax should be levied in the hands of the partnership firm at the time of distribution of assets. This seems, however, to have further complicated the situation.
Bangalore Income Tax Appellate Tribunal (ITAT) in the case of Savitri Kudur and the Madras High Court (HC) in the case of National Company have delivered noteworthy decisions recently. The Bangalore ITAT held that the cash consideration paid to the retiring partner on the basis of the amount lying in his/her capital account would not be subject to capital gains tax under the IT Act by relying on the decision of the Supreme Court (SC) in the case of Mohanbhai Pamabhai. The Madras HC, on the other hand, held that even the allotment of immovable properties to the retiring partners would not be subject to capital gains tax by relying on the same SC decision in the case of the Mohanbhai Pamabhai (supra).