2016 (11) TMI 1710 - AT - Income Tax

Claim of exemption u/s 10(38) - capital gains arising from redemption of Deep Discount Bonds - Denial of exemption as capital assets was not in the nature of an equity share in a company or a unit of an equity orient fund subject to various other stipulations therein - whether the impugned redemption income is to be treated as capital gains or interest income from securities? - HELD THAT - There is no dispute that assessee had acquired the Deep Discount Bonds in question way back on 11.01.1994. It has come on record that the CBDT Circular dated 15.02.2002 applicable from prospective effect only has directed the field authorities to treat such bonds redemption income as interest income. The CIT(A) relied upon the Board s press note dated 20.03.2002 that the above circular would have prospective effect only. We further notice that a co-ordinate bench decision in C. S. Goslla 2008 (7) TMI 1083 - ITAT MUMBAI holds the very Deep Discount Bonds as capital assets. We thus find no force in Revenue s argument that the impugned redemption income has been wrongly treated as capital gains in the lower appellate s proceedings. Assessee s corresponding first argument seeking to assess his redemption income as interest income on mercantile basis also has not merit since the above Deep Discount Bonds have been declared in the original return as capital assets only. The assessee claimed redemption income therefrom as capital gains u/s.10(38) of the Act in his return filed. We thus find no reason to accept his first argument adopting a different stand at this stage without any tangible basis. The Revenue s only argument fails. Non cost indexation benefit qua the above Deep Discount Bonds whilst treating income therefrom as capital gains - We notice that the lower appellate authority has placed reliance on Section 48 third proviso stipulating that second proviso thereto regarding indexed cost of acquisition shall apply to long term capital gains arising from transfer of a long term capital asset being bond or debenture and so on. Ld. counsel fails to dispute the application of this proviso restricting the ambit and scope of the other proviso regarding indexation cost computation. This assessee s argument also meets the same outcome. Entitlement for assessment of his capital gains arising from redemption of Deep Discount Bonds at a flat rate of 10% u/s.112 - We find no reason to concur with the same as this proviso itself stipulates that where the tax payable in respect of any income arising from the transfer of a long term capital asset in the nature of listed security other than a unit or zero coupon bond exceeds 10% of the amount of capital gains before giving effect to provisions of second proviso to Section 48, then, such excess shall be ignored for the purpose of computing the tax payable by the assessee. It has already come on record that second proviso to Section 48 of the Act is itself not applicable as per third proviso discussed hereinabove. We thus observe that this assessee s last argument also deserves to be declined since the above proviso to Section 112 applies before giving effect to the provisions of second proviso to Section 48 which admittedly is not the case here.

Summary

Issues Involved:
1. Taxation of profits from redemption of Deep Discount Bonds.
2. Classification of redemption income as either long-term capital gains or interest income.
3. Eligibility for exemption under Section 10(38) of the Income Tax Act.
4. Applicability of cost indexation benefit under Section 48.
5. Tax rate applicability under Section 112.

Detailed Analysis:

1. Taxation of Profits from Redemption of Deep Discount Bonds
The primary issue was whether the profits arising from the redemption of Deep Discount Bonds (DDBs) of Sardar Sarovar Nigam Ltd. should be classified as long-term capital gains or interest income. The assessees purchased the bonds at ?3600 per bond and redeemed them at ?50,000 per bond. The Assessing Officer (AO) initially treated the redemption income as interest on securities, while the assessees claimed it as long-term capital gains exempt under Section 10(38) of the Income Tax Act.

2. Classification of Redemption Income
The CIT(A) treated the redemption income as capital gains, rejecting the AO's classification as interest income. The CIT(A) noted that the bonds were held as long-term investments and not as trading assets. The CBDT Circular No.2 of 2002, which directed treating such redemption income as interest, was applicable prospectively and not to bonds issued before the circular. The Tribunal upheld this view, referencing the Madhya Pradesh Financial Corporation vs. CIT and Mrs. Perviz Wang Chuk Basi cases, which supported treating such bonds as capital assets.

3. Eligibility for Exemption under Section 10(38)
The assessees claimed exemption under Section 10(38), which applies to long-term capital gains from the sale of equity shares or units of equity-oriented funds subject to Securities Transaction Tax (STT). The AO and CIT(A) both rejected this claim, as the DDBs did not qualify as equity shares or units of equity-oriented funds, and no STT was paid. The Tribunal concurred, noting that the provision was inapplicable to the bonds in question.

4. Applicability of Cost Indexation Benefit under Section 48
The assessees argued for the cost indexation benefit under Section 48. The CIT(A) denied this benefit, citing the third proviso to Section 48, which excludes bonds or debentures from cost indexation. The Tribunal upheld this decision, affirming that the third proviso restricts the application of the second proviso regarding indexation for bonds.

5. Tax Rate Applicability under Section 112
The assessees sought a flat tax rate of 10% on their capital gains under Section 112. The Tribunal rejected this argument, explaining that Section 112(1)(proviso) applies only to listed securities other than units or zero-coupon bonds and before giving effect to the second proviso to Section 48. Since the second proviso was inapplicable due to the third proviso, the flat rate of 10% was not applicable.

Conclusion
The Tribunal dismissed all four appeals, affirming the CIT(A)'s decision to treat the redemption income as capital gains without indexation benefits and rejecting the exemption under Section 10(38) and the flat tax rate under Section 112. The Tribunal found no reason to interfere with the CIT(A)'s well-reasoned order.