2014 (11) TMI 1118 - AT - Income Tax

Profit on sale of shares - liable to be taxed as capital gain OR business income - nature of income - Held that - The investments held by the assessee consisted of investment in quoted shares of ₹ 6.60 crores and investment in unquoted shares and shares warrants of ₹ 11.14 crores which were valued at cost. Similarly in assessment year 2007-08, assessee was holding quoted shares at cost of ₹ 7.10 crores and unquoted shares of ₹ 2.26 crores. The disclosure of the investment in the accounts is a material fact to ascertain the intention of the assessee to hold the shares as investment or stock in trade . In the case of Gopal Purohit (2010 (1) TMI 7 - BOMBAY HIGH COURT ), the Tribunal held that presentation in the books of accounts is most crucial source of gathering intention of the assessee with regard to the nature of transaction. It is also not the case of AO that the shares which were held as investment in earlier assessment years i.e. 2005-06, 2006-07 & 2007-08 and accepted by the department as investment were converted into stock in trade so as to attract the provisions of Section 43(5) of the Act. Since the shares held as investment in earlier years and also accepted by the department as such, the assessee having not converted its shares in stock in trade , there was no reason to assess the profit arising out of sale as business income in place of capital gains. Addition u/s 14A - Held that - Assessee has not invested interest bearing funds in the shares and securities in terms of detailed discussion made hereinabove. Since no interest expenditure was incurred during the year in respect of additional investment put in the shares which were fully financed out of the sale proceeds of shares held as long term capital investment and same also offered as long term capital gains, there is no reason for disallowance of interest expenditure by invoking provisions of Section 14A read with Rule 8D. With regard to the other expenditure debited in the profit and loss account, we found that common expenditure have been debited which are in the nature of insurance expenses, bank charges, audit fees, repairs and maintenance, stamp duty, etc., which amounts to ₹ 65,925/-. Since this expenditure was also attributable for the earning of exempt income, we direct the AO to confirm the disallowance of these expenditure of ₹ 65,925/- u/s.14A. Nature of loss - notional loss or business loss - Held that - After considering the actual payment made for shares, the CIT(A) held that derivative transactions through a recognized stock exchange have been taken out of the purview of the speculation transaction u/s.43(5), after amendment w.e.f. 1-4-2006. In the instant case, relevant assessment year under consideration is 2008-09, to which amended provision is applicable. As in the case of Bharat Ruia (HUF) 2011 (4) TMI 37 - BOMBAY HIGH COURT also considered the amended provisions and held that derivative transactions prior to amendment would come within the ambit of speculation transactions u/s.43(5) of the Act. A categorical finding has also been recorded by the CIT(A) to the effect that these transactions have been carried out through recognized stock exchange, accordingly, profit/loss on such transactions will be treated as normal business profit/loss and it cannot be treated as notional loss. We do not find any reason to interfere in the findings recorded by the CIT(A) for treating such loss as a normal business loss instead of AO s action of treating the same as notional loss.

Summary

Issues Involved:

1. Classification of income from the sale of shares as either capital gains or business income.
2. Disallowance under Section 14A read with Rule 8D of the Income Tax Rules, 1962.
3. Treatment of derivative transactions as normal business loss or notional loss.

Detailed Analysis:

1. Classification of Income from Sale of Shares:

The core issue was whether the income from the sale of shares should be treated as capital gains or business income. The assessee consistently treated the shares as investments in its books, valuing them at cost rather than market value, indicating an intention to hold them as capital assets. The CIT(A) directed the AO to treat the profits from the sale of shares as capital gains, referencing the case of Gopal Purohit vs. CIT, where it was held that consistency in the treatment of shares as investments should be maintained unless there is a change in facts. The Tribunal upheld this view, emphasizing that the assessee's intention, treatment in books, and consistency over the years were decisive factors. The Tribunal also noted that the assessee had not used borrowed funds for these investments, further supporting the classification as capital gains.

2. Disallowance under Section 14A read with Rule 8D:

The AO made a disallowance by invoking Section 14A read with Rule 8D, which was confirmed by the CIT(A). The assessee argued that no borrowed funds were used for acquiring investments and that no administrative expenses were incurred for earning dividends. The Tribunal found that the assessee had not used interest-bearing funds for the investments and that the additional investments were financed from the sale proceeds of long-term investments. Consequently, the Tribunal directed the AO to confirm only a small portion of the expenditure (Rs. 65,925) attributable to earning exempt income, thereby reducing the disallowance significantly.

3. Treatment of Derivative Transactions:

The CIT(A) directed the AO to treat the derivative transactions conducted through a recognized stock exchange as normal business loss, referencing an amendment effective from 1-4-2006, which excluded such transactions from the purview of speculative transactions under Section 43(5). The Tribunal upheld this view, citing the Hon'ble Bombay High Court's decision in Bharat Ruia (HUF), which clarified that derivative transactions conducted through recognized stock exchanges should be treated as normal business transactions. The Tribunal found no reason to interfere with the CIT(A)'s findings, thus treating the loss from these transactions as normal business loss.

Conclusion:

The Tribunal dismissed the Revenue's appeal and partly allowed the assessee's appeal, primarily affirming the CIT(A)'s decisions. The income from the sale of shares was to be treated as capital gains, the disallowance under Section 14A was significantly reduced, and the loss from derivative transactions was treated as normal business loss. The judgment emphasized the importance of consistency, intention, and proper classification in the books of accounts in determining the nature of income from share transactions.