2012 (8) TMI 805 - HC - Income Tax

Disallowance of Capital Loss on Transfer of shares - invalid transfer of the shares which were pledged with the IDBI Bank - Held that - The assessee did transfer whatever rights it had in the shares to the purchaser company. If such transfer is not recognized by the IDBI and there are other legal implications of breach of undertaking given to IDBI, such issue would have to be thrashed out between the concerned parties but insofar as income tax proceedings are concerned, that by virtue of section 2(47), the assessee was entitled to claim that upon transfer of shares or interest thereon, it had suffered long term capital loss which it was entitled to set off against the capital gain on sale of shares during the same previous year. In the present case, of course, there is a further angle of the shares in question being pledged to IDBI and therefore it would not be possible for the assessee to deliver the original share certificates to its purchaser along with the duly signed transfer forms. As already noted, such special angle in the present proceedings is not concerned by this court with such internal possible dispute between the assessee and the said financial institution. This, however, by itself would not establish that the sale of shares was only a paper transaction and a device contrived by the assessee to claim loss which it did not suffer and thereby seek set off against the capital gain received by it during the year under consideration as there is no provision in the Act which would prevent the assessee from selling loss making shares. Simply because such shares were sold during the previous year when the assessee had also sold some shares at profit by itself would not mean that this is a case of colourable device or that there is a case of tax avoidance - As long as the Revenue could not doubt the sale price of the shares, it would not be open for the Revenue to contend that the assessee had shown loss which it did not really suffer - in favour of assessee.

Summary

Issues Involved:

1. Validity of the transfer of pledged shares and resultant capital loss.
2. Whether the transaction was a device for reducing tax effect.

Issue-wise Detailed Analysis:

1. Validity of the Transfer of Pledged Shares and Resultant Capital Loss:

The primary issue was whether the assessee could legally transfer shares pledged with the Industrial Development Bank of India (IDBI) and claim a resultant capital loss. The shares in question were pledged with IDBI, and the original share certificates and duly executed transfer forms were with the bank. The Assessing Officer (AO) and the Commissioner of Appeals (CIT) opined that the transfer of shares was invalid since the share certificates were with IDBI, and thus, the sale of shares could not be completed. They also viewed the transaction as a colorable device to create a loss to offset capital gains from other share sales.

The Tribunal, however, reversed these findings, relying on the Madras High Court decision in A.M.P. Arunachalam v. A.R. Krishnamurthy. The Tribunal held that the legal title to the shares remained with the assessee, allowing them to transfer the shares despite the physical possession being with IDBI. The Tribunal concluded that the assessee had the right to transfer the shares because the legal title vested in them.

The High Court agreed with the Tribunal, stating that the assessee had entered into a valid agreement with the purchaser and had given an irrevocable power of attorney to deal with the shares. The court emphasized that for income tax purposes, the transfer was complete under Section 2(47) of the Income Tax Act, 1961, which includes the extinguishment of any rights in the capital asset. The court noted that any disputes between the assessee and IDBI were not relevant to the income tax proceedings.

2. Whether the Transaction was a Device for Reducing Tax Effect:

The second issue was whether the transaction was a colorable device for tax avoidance. The Revenue argued that the transaction was not genuine, as the assessee and the purchaser company were part of the same group with common directors, and the shares had no real market value due to being pledged with IDBI.

The High Court rejected this contention, stating that there was no provision in the Act preventing the sale of loss-making shares. The court noted that the sale price of the shares was not disputed by the Revenue and that the shares were sold at market value. The court emphasized that the mere fact that the shares were sold during the same year as profit-making shares did not indicate a colorable device. The court also highlighted that avoidance of tax does not include every case of reduction of tax liability and that legitimate transactions reducing tax liability are permissible.

The court concluded that the transaction was genuine and not a device to avoid tax. The court also referenced the decision in Commissioner of Income Tax v. Sakarlal Balabhai, which stated that not all transactions reducing tax liability constitute tax avoidance.

Conclusion:

The High Court affirmed the Tribunal's decision, holding that the assessee could validly transfer the pledged shares and claim the resultant capital loss. The court also held that the transaction was not a colorable device for tax avoidance. The questions were answered in favor of the assessee and against the Revenue, and the tax appeal was dismissed.