COMMISSIONER OF INCOME TAX Vs. BANWARILAL R S

JUDGEMENT

(1.) THIS is a reference made under s. 256 (1) of the IT Act, 1961, by the Tribunal to answer the following questions of law, namely :

(2.) THIS common question of law arises out of the orders passed by the Tribunal in two appeals relating to two different assessees. The question of law arising in each case being the case, a common reference has been made. The matter has come up before a Full Bench because it was suggested at the hearing of this reference before a Division Bench that the two Division Bench decisions of this Court in CIT vs. Narpat Singh Malkhan Singh (1980) 19 CTR (MP) 302 : (1981) 128 ITR 77 (MP) and Alok Paper Industries vs. CIT (1983) 139 ITR 1064 (MP) (M. C. C No. 142 of 1978, decided on 14-1-1981) appear to have taken contrary views on the question for decision in this reference. The material facts are these :

(3.) BOTH the assessees applied to the Tribunal for making a reference under s. 256(1) of the IT Act to this Court for deciding the common question of law arising in these cases relating to the jurisdiction of the CIT under s. 263 of the Act after the assessee's appeal against the assessment order of the ITO had been decided by the AAC. The Tribunal has accordingly referred to the above- quoted common question of law, which arises out of the Tribunal's orders passed in the aforesaid two cases, for decision of this Court. The meaning and scope of the doctrine of, merger and its applicability to the facts of the above two cases has to be determined. Reference may first be made to the decision of this Court in Alok Paper Industries vs. CIT (supra) and the view taken therein. In that case, the ITO allowed deduction of a sum of Rs. 1,24,217 paid by the assessee as interest, while the other deductions claimed by the assessee were disallowed. An appeal was preferred to the AAC, and thereafter, to the Tribunal, resulting in partial relief being granted to the assessee. The CIT thereafter noticed that one of the partners of the assessee- firm had overdrawn sums from out of the borrowed funds on which interest had been paid and that a part of the borrowed funds had thus been utilised for purposes other than that of business. The CIT, therefore, took the view that in allowing deduction of the entire amount of Rs. 1,24,217 claimed by the assessee as payment by way of interest, the assessment order passed by the ITO was prejudicial to the interests of the Revenue. Accordingly, a notice under s. 263(1) of the Act was issued to the assessee. It was contended that the power under s. 263 of the Act could not be invoked by the CIT as the ITO's order had merged in the appellate orders of the AAC and the Tribunal. The CIT rejected the assessee's contention on the ground that the question of deduction allowable to the assessee by way of interest was not the subject-matter of appeal before the AAC or the Tribunal. The CIT accordingly set aside the assessment order passed by the ITO to the extent indicated. The assessee then preferred an appeal to the Tribunal which upheld the CIT's order, taking the view that the ITO's order in respect of allowance of interest on the overdrawn amount by a partner of the assessee-firm did not merge in the appellate orders of the AAC and the Tribunal, since that was never the subject-matter Of the appeals before the AAC and the Tribunal. This gave rise to a reference at the instance of the assessee for deciding the question whether on these facts the Tribunal was justified in holding that the order of the ITO in respect of allowance of interest to the assessee did not merge in the orders of the AAC and the Tribunal, passed in appeals preferred by the assessee. The Division Bench answered the question in the affirmative and against the assessee holding that the ITO's assessment order in respect of this item allowing the entire interest claimed by the assessee did not merge in the appellate orders made by the AAC and the Tribunal since that item was not the subject-matter of the appeals before the AAC and the Tribunal, preferred by the assessee. In taking the above view, the Division Bench followed the Supreme Court decision, in State of Madras vs. Madurai Mills Co. Ltd., AIR 1967 SC 681 ; (1967) 19 STC 144, and concurred with the view taken by the Gujarat High Court in Karsandas Bhagwandas Patel vs. G. V. Shalt, ITO (1975) 98 ITR 255 (Guj). The Division Bench indicated the test for determining the applicability of the doctrine of merger as follows :