If retiring partner were not paid in excess of balance in capital account then, no goodwill arises. Thus, depreciation shall not be claimed.  

Case: Video Effects vs. Income Tax Officer

Facts:

The assessee was a partnership firm. It was engaged in supply of equipments for shooting and editing telefilms, etc. Two of its partners, holding 20% share each in the profits (or losses) of the firm, retired there-from during the financial year 2001-02. They and were paid their share of ‘goodwill’ at an aggregate of Rs. 26,53,536.

Assessee claimed depreciation contending that retiring partners were paid their share of goodwill at time of retirement. Thesaid sum was capitalized in its books of account.

Such amount was nullified by the revenue authorities on ground that goodwill was not a qualifying asset under Explanation 3(b) to section 32(1)(ii).

The tribunal confirmed the Order.

On appeal.

Held:

It was viewed that there was nothing on record to show that the sums stated in the retirement deeds are paid over and above the balance outstanding in the capital (or the current) account of the retiring partners.Thus, the payments, to that extent, would get debited to their respective accounts, and not to the ‘goodwill’ account.

The book value of a partner’s capital account only represents his share in the partnership, including undefined share in its assets. As such, the payments agreed to be paid to the retiring partners include that due on account of their capital as outstanding in the firms’ books of account.

The said payment shall not by itself create a capital asset in the hands of the firm. Goodwill, tenancy rights and permit license, already exist with the firm prior to the retirement/s, and continues therewith, post it, as do all other assets, in-as-much as the business survives the retirement/s, which is thus on a going concern basis. That is, there is no accretion to the asset base of the assessee-firm.

No ‘goodwill’ or any other tangible or intangible asset was acquired by the firm consequent to the payment to the retiring partners in pursuance of the retiring deeds. Thus, no ‘goodwill’ has been actually acquired by the firm on the payment of the impugned sums.

However, the transaction in right perspective, i.e., as one between the partners inter se, would resolve such issues, which arise only on misconstruing the transactions as one of purchase/acquisition of goodwill by the assessee-firm. Thus, appeal was dismissed.

Hence, depreciation shall not be claimed on goodwill if retiring partner were not paid in excess of balance in capital account.

 

Section 32 (1) In respect of depreciation of –

(i)                buildings, machinery, plant or furniture, being tangible assets;

(ii)             know-how, patents, copyrights, trademarks, licenses, franchises or any other business or commercial rights of similar nature, being intangible assets acquired on or after the 1st day of April, 1998, owned, wholly or partly, by the assessee and used for the purposes of the business or profession, the following deductions shall be allowed-

(a)   in the case of assets of an undertaking engaged in generation or generation and distribution of power, such percentage on the actual cost thereof to the assessee as may be prescribed;

(b)   in the case of any block of assets, such percentage on the written down value thereof as may be prescribed

Explanation 3. – For the purposes of this sub-section, the expression “assets” shall mean –

(a)  tangible assets, being buildings, machinery, plant or furniture;

(b)intangible assets, being know-how, patents, copyrights, trademarks, licenses, franchises or any other business or commercial rights of similar nature.

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