ASSESSMENT OF PARTNERSHIP FIRMS

(INCLUDING LIMITED LIABILITY PARTNERSHIP – LLP ACT - 2008)

(ASSESSMENT YEAR 2019-20)
Introduction
One of the forms of business organisation is partnership. A partnership firm is a separate business
entity in the eyes of law as well as in Income Tax Authorities. Every business entity has to pay tax
on its total income which exceeds a taxable limit. The total income of the business is computed in
accordance with the provisions of Income Tax Act, 1961. The total income of the partnership firm
is computed according to the provisions of Section 184 of the Act.

Partnership
Section 4 of the Partnership Act, 1932 defines Partnership as “relationship between persons who have
agreed to share the profits of business carried on by all or any of them acting for all.”

Partners and Firm

Persons who have entered into partnership with one another are called individu ally "partners" and
collectively "a firm", and the name under which their business is carried on is called the
"firmname".

Partnership Deed
A partnership deed, also known as a partnership agreement , is a document that outlines in detail
the rights and responsibilities of all parties to a business operation. It has the force of law and is
designed to guide the partners in the conduct of the business.

Points to be observed
1. There will be no distinction between registered and unregistered firms.
2. The income of the firm under the head ―Profits and gains of business and profession‖ shall
be computed in accordance with the provisions of Sections 30 to 38. Besides, the firm can
claim special deduction, subject to the limits prescribed under Section 40(b), on account of
remuneration to the working partners and interest on capital.

3. The share of a partner in the income of the firm will not be included in his total income.
Such income is exempt under Section 10(2A). However, remuneration and interest, which
are allowed u/s 40(b) in computing business income of the firm, shall be taxable in the hands

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 of the partners in their individual assessments under the head ―Profits and gains of business
or professional.
4. Under the new scheme of taxation of firms, effective from the assessment year 1993-1994,
partnership firms will be of the following two types:

(a) Partnership firms assessed as such [PFAS], and

(b) Partnership firms assessed as association of persons [PFAAOP].
5. The income of the firm shall be charged to tax at a flat rate of 30% (20% for long-term
capital gains, 15% for short-term capital gains specified u/s 111A). For the assessment year
2018- 2019, for an income exceeding Rs 1 crore, surcharge shall be 12% and education cess
and secondary and higher education cess @ 2% and 1% respectively shall be charged on
the amount of income tax computed above.

PARTNERSHIP FIRMS ASSESSED AS SUCH [PFAS] – SECTION 184

A firm shall be assessed as a firm if the following conditions are fulfilled:
(a) The partnership is evidenced by an instrument [Section 184(1)(i)].
(b) The individual shares of the partners are specified in that instrument [Section 184(1)(ii)].
(c) A certified copy of the instrument of partnership shall accompany the return of income of the
firm of the previous year releva nt to the assessment year commencing on or after 1st April, 1993
in respect of which assessment as a firm is first sought [Section 184(2)].

Computation of Business Income

When a firm is assessed as such, its income under the head - Profits and Gains of Business or
Profession‖ shall be computed in the usual manner after claiming deductions under Sections 30 to
38. But in respect of payment of interest and remuneration, the following should be considered:

1. Interest paid to a partner is allowable as deduction u/s 36.

2. Remuneration paid to a working partner is allowable as deduction u/s 37.
3. The payment of interest and remuneration to a partner of a firm assessed as such is subject
to the restrictions under Sections 40(b) and 40A.

Restrictions on Payment of Interest and Remuneration to Partners [Section 40(b)]

The payment of interest and remuneration to the partners of a firm assessed as such is subject to the
following rules:

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 1. Any payment of salary, bonus, commission or remuneration to any partner who is not a
working partner is to be disallowed [Section 40(b)(i)].

2. Any payment of remuneration to any partner who is a working partner or any payment of
interest to a partner which, in either case, is not authorised by, or is not in accordance with,
the terms of the partnership deed, is to be disallowed [Section 40(b)(ii)].
3. Any payment of remuneration to any working partner or payment of interest to any partner
which is authorised by the partnership deed but which relates to a period prior to the date
of such partnership deed shall not be allowed as deduction [Section 40(b)(iii)].

4. Any payment of interest to any partner in accordance with the partnership deed relating to
a period falling after the partnership deed shall be allowed to the extent of 12% simple
interest p.a., or the actual rate of interest in accordance with the partnership deed,
whichever is lower [Section 40(b)(iv)].

5. Any payment of remuneration to any working partner in accordance with the partnership
deed shall be allowed subject to the maximum limit shown below [Section 40(b)(v)].
Book-Profit Actual Amount Deductible
(a) on the first Rs 3,00,000 of the book-profit or Rs 1,50,000 or 90 per cent of the Book-
in case of a loss Profit, whichever is higher
(b) on the balance of the Book-Profit At 60% of the Book-Profit.

Meaning of Book Profit [Explanation 3 to Section 40(b)]:

Book profit means the net profit, as shown in the profit and loss account for the relevant previous
year, computed in accordance with the provisions of Sections 28 to 44D and increased by the
aggregate amount of the remuneration paid or payable to all the partners of the firm if such amount
has been deducted while computing the net profit.

In other words, the Book Profit shall be computed under the following steps:
Step I - Find out the Net Profit as given in the Profit and Loss Account.
Step II- Adjust the Net Profit in accordance with the Provisions of Sections 28 to 44D.
Step III - Add the Aggregate amount of Remuneration paid or payable to any partner, if it is already
debited to the profit and loss account.

The resulting amount is the book profit.

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For the purpose of Computation of Book Profit, the following should also be considered:
1. Income under any Other Heads [e.g., Income from House Property, Capital Gains and Income
from Other Sources] are not part of the book profit. These incomes, if included in the Profit and
Loss account, shall be excluded.

2. Brought forward Business Loss shall not be deducted to arrive at the Book Profit. But
Unabsorbed Depreciation being allowed under Section 32, shall be deducted.
3. Deduction under Chapter VIA [i.e., Deductions U/S 80C to 80U] shall be ignored for the purpose
of computation of Book Profit.

Deductibility of Fringe Benefit Tax:

Although fringe benefit tax payable by a firm is expenditure laid out wholly and exclusively for
the purposes of the business, Section 40(a)(ic) expressly prohibits the deduction of the amount of
fringe benefit tax paid for the purpose of computing income under the head ―Profits and gains of
business or profession‖. Therefore, fringe benefit tax is not a deductible expenditure for
computing book profit within the meaning of Section 40(b).

Provisions relating to Set off and Carry Forward of Business Loss:

The brought forward business loss of a firm shall be dealt with as under:
1. Loss relating to the assessment year commencing on or before 1st April, 1992 [Section 75]:

Such loss, which could not be set off against any other income of the firm and which had been
apportioned to a partner of the firm, but could not be set off by such partner prior to the
assessment year commencing on 1st April, 1993, then, such loss shall be allowed to be set off
against the income of the firm subject to the condition that the partner continues in the said firm
and to be carried forward for set off under Sections 70, 71, 72, 73, 74 and 74A.

2. Loss relating to the assessment year commencing on or after 1st April, 1993:
With effect from the assessment year 1993-1994, there is no separate provision for set off and
carry forward of losses of a firm. Such losses, as is the case with the other assessees, shall be
dealt with under the provisions of Sections 70 to 74A.

3. Carry forward and set off losses in the case of change in the constitution of firm [Section
78(1)]:

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 Where any change has occurred in the constitution of the firm owing to death or retirement of
a partner, then the firm shall not be allowed to carry forward and set off so much of the loss
proportionate to the share of such retired or deceased partner as exceeds his share of profits
in the firm in respect of the previous year.

4. Carry forward and set off losses in the case of succession of business [Section 78(2)]: The
broad principle underlying Sections 72 to 74 is that the right to carry forward and set off
business loss is available only to the person who has incurred the loss. Section 78(2), however,
permits the successor of a business to carry forward and set off the loss of his predecessor against
his income, if the succession is by means of inheritance. For example, if a widow is taken up as
the partner of a firm after the death of her husband, the firm shall be entitled to carry forward and
set off the loss attributable to the deceased partner.

Computation of Total Income of PFAS:

The total income of a firm assessed as such, shall be computed under the steps mentioned below:

Step I - Compute the income of the firm under the various heads [e.g., Income from house
property, profits and gains of business or profession, Capital gains and Income from other
sources].

Step II - Make adjustments for clubbing of income under Sections 60 and 61.
Step III - Make adjustment for unabsorbed depreciation and brought forward loss, if any. The
income remaining at this stage is called Gross total income.

Step IV - Allow Deductions under Chapter VIA as specified below:

80G Deduction in respect of donation to certain funds and charitable institutions
80GGA Deduction in respect of certain donations for scientific research or rural development
80GGC Deduction for contribution to political parties
80IA Deduction in respect of profits and gains from industrial undertakings or enterprise
engaged in infrastructure development

80-IAB Profits and gains of an undertaking engaged in the development of SEZ

80-IB Deduction in respect of profits and gains from certain industrial undertakings other than
infrastructure development undertakings

80IC Deduction for certain undertakings in special category states

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 80-ID Deduction in respect of profits and gains of hotels and convention centres in specified
area.

80-IE Deduction in respect of certain undertakings in the North-Eastern States of India

80 JJA Deduction in respect of profits from the business of collecting and processing of
biodegradable waste

Applicable Rate of Tax for PFAS

For the Assessment Year 2019-2020, PFAS is liable to tax at the rates specified below:
Long-term Capital Gains (10% without indexation) 20%

Long-term Capital Gain liable for STT (Exempted U/S 10(38) Exempted

Short-term Capital Gains liable for STT (Covered u/s111A) 15%

Winnings from Lottery 30%

Other Incomes 30%

Surcharge
From the assessment year 2019-2020, for an income exceeding Rs 1 Crore, 12%
surcharge will be 12%.

Health and Education Cess

For the Assessment Year 2019-2020 4%

Assessment of Partners of Partnership Firm Assessed as Such:

The provisions relating to the assessment of partners of PFAS are as under: A.
Share of Profit from the Firm:

Under Section 10(2A), the share of income of a partner of a firm assessed as such is exempt from tax.

B. Share of Loss including Brought Forward Loss:

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Any loss of the firm in relation to the assessment year commencing on or after 1st April, 1993,
shall not be apportioned to the partners. Such losses shall be carried forward and set off by the firm
under the provisions of Sections 70 to 74A.

C. Remuneration and Interest:

The tax treatment of remuneration and interest in the assessment of a partner of PFAS shall be as under:

● Remuneration:
Any payment received by a partner from the firm by way of salary, commission, bonus or
remuneration or by whatever name called, shall be included in the total income of the partner under
the head ―Profits and Gains of Business or Profession‖ to the extent it is not disallowed under
Section 40(b)(v).
Amount disallowed under Section 40(b) shall be treated as his share of profit from the firm and
accordingly, shall be exempt under Section 10(2A).

● Interest:
Interest received or receivable by the partner from the firm shall be included in the total income of
the partner under the head ―Profits and gains of business or profession‖ to the extent it is not
disallowed under Section 40(b)(iv).

Amount of interest disallowed under Section 40(b)(iv) shall be treated as his share of profit from the
firm and accordingly, shall be exempt under Section 10(2A).

Assessment of Limited Liability Partnership [LLP]:

The definition of firm in Section 2(23) includes a Limited Liability Partnership as well. The
assessment procedures for such a limited liability partnership shall therefore be made under the
foregoing 12 provisions as much as they are applicable to a partnership firm defined in the Indian
Partnership Act 1932.

However, the following provisions need to be underscored:

1. Presumptive tax under section 44AD is not applicable to LLP.
2. Alternate Minimum Tax (ATM) which was applicable to LLP only, is now applicable to all
assessees other than a company.

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 3. LLP is not subjected to Dividend Distribution Tax.
PROFORMA FOR COMPUTATION OF BUSINESS INCOME OF A PARTNERSHIP FIRM
Particulars Rs Rs
Net Profits as per Profit and Loss Account xxxx
Add: Expenses Disallowed but Debited to P&L A/c (including
Partners’ Remuneration) xxxx xxxx
xxxx
Less: Expenses Allowed but not Debited to P&L A/c xxxx xxxx
xxxx
xxxx xxxx
Add: Incomes Taxable under this head but not credited to P&L A/c
xxxx
xxxx xxxx
Less: Incomes Not-taxable under this head but credited to P&L A/c xxxx
xxxx xxxx
Add: Overvaluation of Opening Stock xxxx
Undervaluation of Closing Stock
xxxx
Less: Undervaluation of Opening Stock
xxxx xxxx
Overvaluation of Closing Stock xxxx
BOOK PROFIT xxxx
Less: Remuneration Allowed U/S 40(b)
Actual Remuneration Paid to Partners
OR Whichever is Less
Remuneration as per Section 40(b)(v)

Taxable Income from Business of the Firm xxxx

Special Points to remember:

1. Any remuneration to partners like salary, bonus, commission, etc must be disallowed.
2. Any interest payable to a partner must be allowed as deduction if the payment of interest is
authorized by partnership deed.

The amount of interest deductible is least of the following:

i. Amount of Interest authorized by the partnership deed, or ii. Interest at
12% simple interest per annum (on opening capital balance)

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 Format for Computation of Total Income of Partnership Firm for the AY 2019-2020
Incomes Rs Rs
Income from House Property xxxx xxxx
Income from Business and Profession
Short-term Capital Gains (other than STCG liable for xxxx xxxx
Security Transaction Tax)
Income from Other Sources (Other than Casual Incomes) xxxx
Gross Total Income xxxx xxxx
Less: Deductions Under Sections 80G to 80JJA
Taxable Income xxxx
Add: STCG liable for Securities Transaction Tax xxxx xxxx
Long Term Capital Gains xxxx
Casual Incomes xxxx
Total Taxable Income xxxx

Format Computation of Tax Liability of the Firm

Rs Rs
Tax on Other Taxable Income at 30% xxxx xxxx
Tax on Long-term Capital Gain at 20% xxxx xxxx

Tax on Short-term Capital Gain liable for STT at 15%

Tax on Casual Incomes at 30%
xxxx xxxx

Add: Surcharge (if applicable)

xxxx xxxx

Add: Health andEducation Cess at 4S%

Tax Liability xxxx

Surcharge
‘Surcharge’ is an additional tax levied by the Central Government for mobilizing revenues for
specific purpose. It is a tax on tax and calculate on ‘tax on taxable incomes’. Surcharge is calculated
for partnership firms at the following rates:

1. If Total Income does not exceed Rs 1 Crore Nil

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 2. If Total Income exceeds Rs 1 Crore 10%

Partners’ Remuneration and Commission

Remuneration and Commission taxable in the hands of the Partners under the head
“Profits and Gains from Business or Profession:
Actual Remuneration/Commission Remuneration/Commission U/S 40(b)(v) received
by the Partner X Total Remuneration/Commission of all the Partners

Format for Computation of Taxable Income of the Partners

Particulars A B C
Share of Profits in the Firm Exempt Exempt Exempt
Interest on Capital at 12% Remuneration xxxx xxxx xxxx
to Partners:
xxxx xxxx xxxx
(Salary Commission and Bonus)
Total taxable income of the partners xxxx xxxx xxxx
Srikanth.N Assistant professor of Commerce ,MWCMC,Mysuru.

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