2014 (9) TMI 656 - AT - Income Tax

Computation of capital gain - Claim of exemption u/s 47(xiib) Private Limited Company namely Aravali Polymers Pvt. Ltd. was converted into a Limited Liability Partnership under section 56 of the Companies Act - advancing of loans to the partners - tantamount to distribution and/or payment to the partners - Held that - The Company does not exist after conversion - the question of a violation of Proviso (c) to Section 47(xiiib) does not exist - Coming to the proviso (f) to section 47(xiiib), it bars payment either directly or indirectly to any partner out of the accumulated profit standing in the accounts of the Company on the date of conversion for a period of three years from the date of conversion - Here the assessee-firm gave loans to its partners - This loan, more so a part of the loan, has been paid out of the Reserves and Surplus of the erstwhile Company which, in fact, represents the accumulated profit standing in the accounts of the erstwhile Company - the loan has been paid, it is an interest - free loan coupled with the fact that the loan has been given to its partners in the same ratio as profit sharing shows that the amount has been given directly to the partners out of the balance of the accumulated profits standing in the accounts of the Company on the date of conversion - there is a violation of proviso (f) to section 47(xiiib). Proviso (f) of section 47(xiiib) having been violated the benefit of the provisions of section 47, which deems certain transactions to be not regarded as transfer stands violated. The conversion of the Pvt. Limited Company into a Limited Liability Partnership does not have the protection of section 47(xiiib) in the assessee s case - the capital gain on the same is liable to be considered - In the computation of capital gains, nowhere in the Act is there provision, more so in section 45, for deeming the sale price in the case of equity shares - The value at which the shares or the assets of the Company Aravali Polymers Pvt. Ltd. was taken over by the Limited Liability Partnership firm, would be the sale price and the cost of acquisition thereof is to be as per books of the erstwhile Company - the issue of computation of the capital gains u/s 45 is restored to the file of the AO - the assessee has not complied with the proviso to section 47(xiiib) - Consequently the benefit of section 47(xiiib) is not available to the assessee - as the assessee did not have the benefit of section 47(xiiib), the provision of section 47A(4) does not apply - The capital gains in respect of the transfer of the assets in the hands of M/s. Aravali Polymers Pvt. Ltd. to the appellant firm Aravali Polymers LLP is to be computed under section 45 of the Income Tax Act for which purpose, the issue is restored to the file of the Assessing Officer Decided partly in favour of assessee.

Issues Involved:
1. Whether the Commissioner of Income Tax (Appeals) erred in confirming the assessment order without addressing the arguments raised by the appellant.
2. Whether the CIT(A) failed to address specific grounds (nos. 4 to 8) raised by the appellant.
3. Whether the provisions of section 47(xiiib) of the Income Tax Act were complied with, and if the capital gains tax exemption on the conversion of a private limited company to an LLP was applicable.
4. Whether advancing loans to partners constituted a violation of section 47(xiiib) and affected the availability of tax benefits.
5. Whether the valuation of shares and the computation of capital gains by the Assessing Officer was correct.
6. Whether the disallowance of legal expenses as capital in nature was justified.
7. Whether the appellant's liability to pay interest under sections 234B and 234C was valid.

Detailed Analysis:

1. Confirmation of Assessment Order Without Addressing Arguments:
The appellant contended that the CIT(A) confirmed the assessment order without discussing or addressing any of the arguments presented. This was claimed to be a non-speaking order, which is illegal and liable to be cancelled. However, this ground was not pressed during the hearing, and hence, it was dismissed.

2. Failure to Address Specific Grounds:
The appellant argued that the CIT(A) did not discuss or decide on grounds nos. 4 to 8. This was deemed arbitrary, erroneous, illegal, and perverse. The tribunal did not specifically address this contention in the judgment, focusing instead on the substantive issues related to section 47(xiiib).

3. Compliance with Section 47(xiiib) and Capital Gains Tax Exemption:
The appellant converted Aravali Polymers Pvt. Ltd. into Aravali Polymers LLP and claimed exemption under section 47(xiiib). The main assets were shares of East India Hotels Ltd., which were sold, and the resultant capital gains were offered for taxation. The Assessing Officer held that the provision of interest-free loans to partners violated section 47(xiiib), leading to the invocation of section 47A(4). The tribunal found that the loan given to partners did not constitute a direct benefit as per proviso (c) of section 47(xiiib), but the use of Reserves and Surplus for loans violated proviso (f). Hence, the benefit of section 47(xiiib) was not available.

4. Advancing Loans to Partners:
The tribunal examined whether advancing loans to partners violated section 47(xiiib). It concluded that the interest-free loans given to partners from the Reserves and Surplus of the erstwhile company constituted a violation of proviso (f) to section 47(xiiib), as it represented accumulated profits. Thus, the conversion did not qualify for the tax exemption under section 47(xiiib).

5. Valuation of Shares and Computation of Capital Gains:
The tribunal noted that the Assessing Officer computed capital gains by adopting the market value of shares as on the date of transfer, which was contested by the appellant. The tribunal held that, as section 47(xiiib) was not applicable, the computation should be under section 45. The sale price should be the value at which the assets were taken over by the LLP, and the cost of acquisition should be as per the books of the erstwhile company. The issue was remanded to the Assessing Officer for recomputation.

6. Disallowance of Legal Expenses:
The tribunal did not specifically address the disallowance of legal expenses as capital in nature in the detailed analysis, focusing instead on the primary issues related to section 47(xiiib) and capital gains computation.

7. Liability to Pay Interest under Sections 234B and 234C:
The appellant denied liability to pay interest under sections 234B and 234C. The tribunal did not provide a detailed analysis on this issue, as the primary focus was on the applicability of section 47(xiiib) and the resultant capital gains computation.

Conclusion:
The tribunal concluded that:
1. The benefit of section 47(xiiib) was not available to the appellant due to violation of proviso (f).
2. Section 47A(4) did not apply as section 47(xiiib) was not applicable.
3. The capital gains should be computed under section 45, and the issue was remanded to the Assessing Officer for recomputation.

The appeal was partly allowed for statistical purposes.

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