INCOME TAX LAW

CASE STATEMENT
There is a partnership firm ABC & Co comprising of 3partners A, B.C. A and B are active
partners and there share in firm is 25% each. C is a sleeping partner and he has 50% share in this
partnership firm. The firm is in the business of manufacturing certain goods & the total capital is
Rs 5 million. Doing its business since 2006 and there income for the year 2009 & 2010 was 2
million (gross income).

The office of the firm is on the rental basis which is owned by Mr. M. And his monthly rent is Rs
40,000/- per month. The said premises were mortgaged in favor of a bank against a liability of 3
million. Mr. M could not pay off the liability and the bank is about to attach the property.

Q1. Under the circumstances is there any remedy available to the partners of the firm jointly or
severally?

Q2. What is the Legal status of Mr. M?

Q3. Any concession regarding the income tax available to Mr.M?

Q4. If there is any tax concession available to the partnership firm and its partners?

Q5. What is the possible resolution to this problem?

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SUMMARY
As a group, we have analyzed the case is that there are two major parties in this case involved:

 Mr. M
 The Bank

Minor party:

 ABC Company

We are saying this because rather the property of Mr. M is mortgaged under bank and bank is
now attaching the property of Mr. M because Mr. M is not able to pay off the liability and this
property is under the possession of ABC Company under the rent agreement as tenant. So the
real case is between Mr. M and Bank and ABC Company is directly being hurt. So in case if
bank goes for the auction of property, company cannot do anything in this regard. But only can
try to save its business by availing possible remedy that is described below.

The possible solutions and answers are given as follows:

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Q1:- Under these circumstances is there any remedy available to the partners of the firm
jointly or separately?

Answer:

Under these circumstances one remedy will be available to the partners of the firm. Bank will
file a case against Mr. M because he has become defaulter. Mr. M will give notice to firm to
vacate the property (premises).Then the partners of the firm can take a stay order against Mr. M
from court (Remedy). According to the stay order, the firm may have the right to carry on their
manufacturing business until the final decision between the bank and Mr. M is finalized by the
court.

In case, the court decides to auction the property of Mr. M, then the tenant (firm) has the very
first right to take the ownership of that premises in the auction.

Q2:- Legal status of Mr. M?

Answer:

The legal status of Mr. M will be of the owner of the premises (Office of the firm) and also of a
defaulter till auction. When the final decision will be the auction means he is now bankrupt.

Q3. Any concession regarding the income tax available to Mr. M?

Answer:

 There will be no tax concession available to Mr. M.

Mr. M will pay tax on the income received from his tenant (ABC& Co.) in the form of rent of
property under the head of Income from property.

When firm takes stay order from the court for the smooth continuity of its business operations,
then by court’s order tenant will submit rent to court or court will collect the rent until the case
get resolved between Mr. M and bank. In such case, Mr. M will pay tax only on the amount
(rent) received by him before the stay (accumulated rent). If that accumulated rent falls under the
income slab of tax then that amount will be chargeable to tax under the head Income from
property.

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Another case is when there is already a mutual agreement between Mr. M and the partnership
firm that the ABC & Co will pay the income tax. But in such case also Mr. M will have no tax
concession.

Q4. Any tax concession available to Partnership firm or its Partners?

Answer:

 There will be no tax concession available or rewarded to Partnership firm or partners.

EXCEPTIONS:

The partnership firm will take stay order from the court in order to avoid disruptions in the
operations of the business, until the case get resolved between Mr. M and Bank against the
mortgage. The legal expenses incurred in order to obtain the stay order are considered as
business expenses and firm can claim deductions against these expenses. Because, it is a business
expense and included in general deductions. Also the rent which is paid by the firm is considered
as revenue expense and will be deducted from the gross income and on it the firm can claim tax
deduction also. As a result, of these deductions income decreases which results in decrease of
Income Tax. This income is taxable income (Net Income before Tax). Then the tax paid
according to the slabs and the remaining amount is Net Income/

The partners of the firm get their share from firm’s net income (income after tax)

A sketch of income statement for partnership firm

Gross income Rs. 2,000,000
Less: Rent expense(40,000*12) Rs. 480,000
Less: legal expenses(Suppose) Rs. x Rs. 480,000+x
Earning before interest &tax Rs. 1,520,000-x
Less: Interest expense -
Earning before tax(EBT) Rs. 1,520,000-x
Less: Tax(Suppose) Rs. y
Net income Rs. 1,520,000-x-y

Note: the net income will be finally distributed among the partners according to their perspective
ratios.

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Q5. Is there any possible resolution to this problem?

Answer:

POSSIBLE RESOLUTION FOR MR. M:

According to our opinion there could be two possible resolutions for Mr. M.

1. First is that he can take the stay order from court to give him some time to pay back his
due amount by saying that it was only an Ex-party decision .And then further he will
continue paying the remaining loan payments to fulfill the previous mortgage agreement.
2. Secondly he may try to do settlement with the bank separately .That he is not able to pay
the whole amount .So if the bank facilitates him by giving Interest Exemption then he
will pay the principal amount at that very moment. It is the practical case and it mostly
happens in our real life. As we know that the value of money does not always remain
same .The money in hand is considered to be more valuable. So most probably the
chance is that the bank will accept this settlement.

However if the Auction is made/bank attach the property then there is no possible resolution for
Mr. M. The amount that will be received from Auction;

a) At first will be settled out for the amount that Mr. M has to pay to bank
b) The bank will claim for the deduction of the expenses it made on Auction
event

POSSIBLE RESOLUTION FOR PARTNERSHIP FIRM:

The only remedy for the partnership firm was that it could take the stay order from court until the
final decision of the case .That the partnership firm has availed under the given condition. Once
the property has been auctioned, then the partnership firm has no other possible resolution except
that it buys the property (business office) in Auction. It is noticeable here that Auction will be
made by the bank at court’s final decision and the first right will be given to the tenant to buy the
property or if at the auction it is announced that Mr. M’s property is on rent to ABC company on
Rs. 40,000/- monthly and if the new owner wants to have this firm on rent as it goes on

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previously or with new understandings regarding rent and conditions, then new rent agreement
can be formed and firm can carry on its smooth operations.

CONCLUSION

This all we have analyzed within the group and with some personal example regarding mortgage.

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