1997 (11) TMI 1 - SC - Income Tax

Tribunal is right in law in holding that issue of bonus shares from out of the development rebate reserve did not amount to distribution of profits within the meaning of section 34(3)(a)(i) and section 155(5)(ii)(a)

Issues Involved:
1. Whether the issue of bonus shares from the development rebate reserve amounts to distribution of profits under section 34(3)(a)(i) and section 155(5)(ii)(a) of the Income-tax Act, 1961.
2. Whether the Income-tax Officer was justified in withdrawing the development rebate.

Issue-wise Detailed Analysis:

1. Issue of Bonus Shares and Distribution of Profits:
The core issue was whether the issuance of bonus shares from the development rebate reserve constituted a distribution of profits, violating sections 34(3)(a)(i) and 155(5)(ii)(a) of the Income-tax Act, 1961. The assessing authority initially allowed the development rebate claim but later withdrew it, interpreting the issuance of bonus shares as distribution of profits by capitalisation. The High Court supported this view, holding that the issuance of bonus shares resulted in the distribution of profits, thereby violating the statutory requirement.

The Supreme Court examined both sections 34(3)(a)(i) and 155(5)(ii)(a). Section 34(3)(a)(i) stipulates that the development rebate reserve must be utilized for business purposes and not for distribution as dividends or profits. Section 155(5)(ii)(a) allows the Income-tax Officer to withdraw the development rebate if the reserve is used for distribution by way of dividends or profits within eight years.

The Court explored two perspectives:
- The first view posited that issuing bonus shares involves a dual operation where the reserve fund is released to shareholders but retained by the company, effectively equating to a distribution of accumulated profits.
- The second view argued that issuing bonus shares merely capitalizes the profits without any actual distribution to shareholders, as the capital remains within the company.

The Court leaned towards the second view, supported by English case law, notably IRC v. Blott and Commissioners of Inland Revenue v. Fisher's Executors. The Court concluded that the issuance of bonus shares does not amount to distribution of profits since no actual disbursement occurs, and the reserve fund remains within the company, albeit in a different account.

2. Withdrawal of Development Rebate:
The second issue was whether the Income-tax Officer was justified in withdrawing the development rebate. The appellate authority and the Appellate Tribunal had both ruled in favor of the company, asserting that issuing bonus shares did not constitute a distribution of profits.

The Supreme Court agreed with this view, emphasizing that the development rebate reserve's transfer to the share capital account did not involve any disbursement of money to shareholders. The intrinsic value of the shares may have changed, but the company's accumulated profits remained intact within its accounts. The Court cited CIT v. Dalmia Investment Co. Ltd., where it was held that the issuance of bonus shares does not alter the proportional interest of shareholders or the company's capital structure.

The Court also distinguished this case from Leader Engineering Works v. CIT, where a partnership firm had credited the development rebate reserve to partners' accounts, making it available for personal use. In contrast, shareholders in a public limited company cannot withdraw from the share capital account.

The Court concluded that the statutory language did not support the Revenue's interpretation, and there was no distribution of profits in substance or form. Therefore, the Income-tax Officer's withdrawal of the development rebate was unjustified.

Conclusion:
The Supreme Court set aside the High Court's judgment, ruling that the issuance of bonus shares from the development rebate reserve did not amount to distribution of profits. Consequently, the Income-tax Officer was not justified in withdrawing the development rebate. The appeals were allowed with no order as to costs.

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