2014 (9) TMI 156 - AT - Income Tax

Determination of effective date for cost of acquisition - Computation of LTCG - Whether the cost of acquisition of the property is to be taken as on 09/08/1985 when the property was originally purchased by the assessees or as on December, 1987 when the respective shares of the property were distributed to the assessees on dissolution of the partnership firm Held that - The distribution of assets on dissolution of firm admittedly took place on 31st April, 1987 - the provisions of this section could not apply and the cost of acquisition shall not be the cost for which the previous owner of the property acquired it as per section 45(4) of the Act, the profit or gains arising from transfer of capital asset by way of distribution of capital asset on dissolution of a firm or other association of persons, shall be chargeable to tax as income of the firm of the previous year for which the said transfer took place and for the purpose of section 48 of the Act, the Fair Market Value of the asset on the date of such transfer shall be deemed to be the full value of consideration received or acquired as a result of transfer - When the Fair Market Value of the asset as on date of dissolution of the firm is deemed to be the full value of consideration received or acquired as a result of transfer, the Fair Market Value shall be the cost of acquisition in the hands of the transferee/the partners who received the property/capital asset. The circular No. 495 dated 22nd September, 1987 issued by CBDT clarifies the doubt raised with regard to the computation of capital gain or profit & gains of the partnership firm on conversion of partnership asset into individual asset on dissolution of the firm - The Board has clarified that conversion of the partnership asset into individual asset on dissolution or otherwise also forms part of scheme of tax avoidance - Keeping in view the clarification given by the CBDT and the provisions of section 45(4) of the Act, it has been held that on dissolution of the firm, if the capital assets are distributed, the cost of acquisition of capital asset in the hands of the recipients or the partners, would be the Fair Market Value of the asset on the date of transfer, which was taken into account for computing the profit and gains of the firm on transfer of capital asset on its dissolution - the CIT(A) has properly adjudicated the issue and deleted the addition Decided against Revenue.

Issues Involved:
1. Computation of Long Term Capital Gain.
2. Determination of Cost of Acquisition.
3. Application of Sections 45(4) and 49(iii)(b) of the Income Tax Act.
4. Validity of Valuation Report by Approved Valuer.
5. Interpretation of Circular No. 495 dated 22 September 1987 by CBDT.

Detailed Analysis:

1. Computation of Long Term Capital Gain:
The primary issue was the computation of long-term capital gain arising from the sale of a property initially purchased in 1985 and subsequently introduced as capital in a partnership firm. The property was sold in 2008 for Rs. 3,03,00,000, and the assessee computed the long-term capital gain based on the fair market value (FMV) as of 1987, the date of dissolution of the partnership firm.

2. Determination of Cost of Acquisition:
The Assessing Officer (AO) contended that the cost of acquisition should be based on the original purchase price in 1985, not the FMV in 1987. The assessee argued that the property became an individual asset only upon the firm's dissolution in 1987, and thus the FMV at that time should be considered the cost of acquisition.

3. Application of Sections 45(4) and 49(iii)(b) of the Income Tax Act:
The CIT(A) and the Tribunal examined the provisions of Sections 45(4) and 49(iii)(b). Section 45(4) states that the FMV of the asset on the date of dissolution shall be deemed the full value of consideration received. Section 49(iii)(b) provides that the cost of acquisition should be the cost for which the previous owner acquired it, increased by any cost of improvement. The Tribunal concluded that since the dissolution occurred after 1st April 1987, the FMV at the time of dissolution should be the cost of acquisition.

4. Validity of Valuation Report by Approved Valuer:
The AO rejected the cost of construction incurred during 1986-87 due to a lack of evidence but accepted other parts of the valuation report. The CIT(A) and the Tribunal held that the AO could not partially accept and partially reject the valuation report without valid reasons. The Tribunal emphasized that the valuation report by an approved valuer, being a technical person, should be relied upon unless proven otherwise.

5. Interpretation of Circular No. 495 dated 22 September 1987 by CBDT:
The Tribunal referred to Circular No. 495, which clarified that the conversion of partnership assets into individual assets on dissolution forms part of a tax avoidance scheme. The circular supports the application of Section 45(4), indicating that the FMV at the time of dissolution should be the cost of acquisition for the partners.

Conclusion:
The Tribunal upheld the CIT(A)'s decision, confirming that the cost of acquisition should be based on the FMV at the time of dissolution in 1987. The AO's computation of long-term capital gain was deemed incorrect, and the addition of Rs. 34,27,520/- was deleted. The Tribunal dismissed the Revenue's appeal and the assessee's cross-objections, affirming the CIT(A)'s order.

Order pronounced in the open court on 11/04/2014.

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