Question 5 OR (b)
Interest and remuneration to partners allowable to a firm under section 40(b) (as set, 1961 Act, AY 2018-19)
5 marks
- Time to write
- About 10 minutes
From an older CBCS paper
Question
Question 5 OR (b) · 5 marksM/S. Rama Krishna & Co. is a firm that carries on business, with business income of ₹ 3,60,000. The firm has paid the partners interest @ 15% p.a., amounting to ₹ 1,50,000, and this has been debited to the profit and loss account. Compute the interest and the remuneration that are allowable to the partners. 5
Paper note: The as-set version: set and answered under the Income-tax Act, 1961 for assessment year 2018-19 (previous year 2017-18), with the dates as printed. The question does not say whether the business income of 3,60,000 is before or after the interest debited in the profit and loss account, nor that the partnership deed authorises interest and remuneration to the partners; the answer will state its reading and give the other where it changes the result.
Reworded from the university paper: names and figures differ, the task is the same. The original paper belongs to the University of Delhi. See DU's question bank.
Before you write
Read off the question and its marks
Read from the question
- ComputeHead by head: each income under its head, exempt items marked exempt, then the deductions and the tax.
Write it in this order
- Read the data; note exactly what is asked 1 min
- 1 Interest at 12% 1½ marks 2 min
- 2 Book profit 1½ marks 2 min
- 3 Remuneration limits 1½ marks 2 min
- 4 Readings and the other outcomes ½ mark 2 min
- Check: arithmetic, units (₹, %), final answer underlined 1 min
Try it first. About 10 minutes for 5 marks. Write it out, then open the solution.
Solution
Hover or tap a marked figure, like 72,000, to see how it is made and where else it appears.
- The business income of ₹3,60,000 is read as the profit shown after the interest of ₹1,50,000 was debited to the profit and loss account (the question says it was debited), and with no remuneration yet debited.
- The partnership deed is taken to authorise the interest and remuneration, the payments to be in accordance with its terms, and the partners to be working partners. Section 40(b)(ii) disallows interest to any partner, and remuneration to a working partner, that the deed does not authorise or that is not in accordance with its terms; remuneration to a partner who is not a working partner is disallowed in full (section 40(b)(i)), but interest to such a partner is allowable within the same limits. The interest is taken as paid to each partner in his own right: interest to a partner in a representative capacity, or received by a partner for another person, is counted as Explanations 1 and 2 to section 40(b) provide.
- The deed is taken to be dated before the previous year, so the whole year's interest and remuneration relate to a period after its date. A payment for a period before the deed's date is disallowed unless an earlier deed authorised it for that period, and an earlier deed's authorisation cannot itself reach back before that earlier deed's date (section 40(b)(iii)); the 12% and remuneration limits apply to periods after the deed's date (section 40(b)(iv) and (v)).
Interest to a partner, working or not, is allowed only if authorised by and in accordance with the deed, and only up to 12% simple interest a year (section 40(b)(ii) and (iv)).
| Particulars | ₹ |
|---|---|
| Interest paid at 15% | 1,50,000 |
| Allowable at 12%: 1,50,000 × 12/15 | 1,20,000 |
| Disallowed (excess over 12%) | 30,000 |
Book profit is the net profit as per the profit and loss account, computed as Chapter IV-D requires (so after adding back the disallowed interest), and increased by any remuneration to partners deducted in it (Explanation 3 to section 40(b)).
| Particulars | ₹ |
|---|---|
| Business income as per the profit and loss account | 3,60,000 |
| Add: interest disallowed | 30,000 |
| Book profit | 3,90,000 |
Remuneration to working partners is allowed, in aggregate, up to (section 40(b)(v)): on the first ₹3,00,000 of book profit (or a loss), ₹1,50,000 or 90% of the book profit, whichever is more; on the balance, 60%.
| Particulars | ₹ |
|---|---|
| On the first ₹3,00,000: 90% (more than ₹1,50,000) | 2,70,000 |
| On the balance ₹90,000 at 60% | 54,000 |
| Maximum remuneration allowable | 3,24,000 |
The firm may deduct interest of ₹1,20,000 and remuneration up to ₹3,24,000 to its partners. Remuneration paid within this limit is deductible; any excess is disallowed.
If the facts are read otherwise
- If ₹3,60,000 is the income before the interest is deducted, book profit is ₹3,60,000 − ₹1,20,000 = ₹2,40,000 and the remuneration allowable is ₹2,16,000 (90% of ₹2,40,000, more than ₹1,50,000); interest allowable stays ₹1,20,000.
- If the deed does not authorise interest and remuneration, neither is allowed: the whole ₹1,50,000 of interest is disallowed.
Where the 5 marks sit
| # | Component | Marks |
|---|---|---|
| 1 | Interest at 12% | 1.5 |
| 2 | Book profit | 1.5 |
| 3 | Remuneration limits | 1.5 |
| 4 | Readings and the other outcomes | 0.5 |
| Total | 5 |
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