CASE STUDY SERIES

 

Section 45(3), Section 45(4), Section 9B & Rule 8AB – Income-tax Act, 1961**

(With conceptual integration through CBDT Circular No. 14/2021)

 

I. Conceptual Framework

1. Section 45(3) – Transfer of capital asset by partner to firm

Where a partner contributes a capital asset to a firm/AOP/BOI by way of capital contribution, any profit or gain from such transfer is taxable in the partner’s hands in the year of transfer.

The full value of consideration is the value recorded in the books of the firm, irrespective of actual market value or stamp duty value.

 

2. Section 45(4) – Distribution of money or assets to partner on reconstitution

 

After Finance Act 2021, Section 45(4) applies when a partner receives money or capital assets on account of reconstitution (admission, retirement, change in PSR, etc.).

The firm is taxed, not the partner.

 

Formula:

Income u/s 45(4) = A – B

Where:

                •              A = money + FMV of capital asset(s) received by partner

                •              B = capital account balance of partner (excluding revaluation/ self-generated goodwill/asset uplift)

 

3. Section 9B – Deemed transfer by firm to partner

 

Where, during reconstitution/dissolution, a partner receives capital asset or stock-in-trade, the firm is deemed to have transferred those assets to the partner.

 

Thus:

Firm pays capital gains tax (if capital asset)

 

Firm pays business income tax (if stock-in-trade)

 

FMV on date of receipt by partner is taken as sales consideration.

 

4. Rule 8AB – Allocation of Capital Gain (arising u/s 9B) to remaining assets

 

If Section 9B triggers gains in the hands of firm, such gains must be allocated to remaining capital assets of the firm for the purpose of computing future gains under Section 45(4) and future cost adjustments.

 

Rule 8AB ensures no double taxation.

 

5. CBDT Circular No. 14/2021 (dated 2 July 2021) – Conceptual Link

 

CBDT clarified the interplay between Sections 45(3), 45(4), 9B and Rule 8AB, summarised as:

 

a. Section 9B and Section 45(4) apply independently and simultaneously.

 

If a partner receives asset + money →

Firm taxed u/s 9B for deemed transfer

 

Firm taxed u/s 45(4) for receipt by partner

 

b. Section 45(3) is a separate charging section

Applicable when partner introduces capital assets.

 

c. Rule 8AB avoids cascading tax by allocating 9B gains to asset blocks.

 

d. Change in profit-sharing ratio may constitute “reconstitution” and trigger 45(4) even if no partner retires.

 

CASE STUDY 1 – Section 45(3)

Partner Introduces Land as Capital Contribution

 

Facts (AY 2025–26)

Firm: ABC & Co.

Partners: A, B, C (equal share).

 

Particulars.                 Amount

Original cost of land (A)               ₹10,00,000

Stamp duty value (SDV)               ₹60,00,000

Value recorded in firm’s books    ₹50,00,000

 

Tax Implication – Section 45(3) (Partner A)

Section 45(3) states:

“…the amount recorded in the books of account of the firm shall be deemed to be the full value of consideration.”

 

Thus, for computing capital gains:

Full value of consideration = ₹50,00,000 (book value)

Cost of acquisition = ₹10,00,000

 

Capital Gain = ₹40,00,000

 

Nature of capital gain depends on holding period of the land in the hands of Partner A (not given).

 

SDV of ₹60,00,000 is irrelevant – Section 50C does not apply because Section 45(3) contains a special deeming provision.

 

B. Firm’s Position – Cost for Future Purposes

 

The land now becomes a capital asset of the firm.

Firm’s recorded cost = ₹50,00,000

 

This cost is relevant for:

Depreciation (if depreciable asset)

Capital gains on future sale

Computation under Section 9B if, in future, asset is distributed

Allocation under Rule 8AB during reconstitution

 

The firm is not taxed at the time of introduction.