2013 (9) TMI 276 - HC - Income Tax

Capital gain or business income - Sale of Shares - Whether the subscription to 20% of the issued equity shares of M/s. MABL and subsequent sale thereof resulting in gain was in the nature of capital gains or in the nature of business income - Held that - The fact that the Managing agency could be utilized for earning profit could not lead to the conclusion that shares so purchased were on revenue account in the absence of any intent to trade in in those shares. - Decided in favor of assessee. The assessee by purchasing the shares also acquired the right to manage M/s. MABL and in the absence of any other evidence to indicate that there was an intent on the part of the appellant to deal in the shares the only conclusion would be that the entire transaction of purchase and sale by the appellant was on capital account. Moreover the subscription of 20% shares in M/s. MABL subscribed to by the appellant were not freely transferable but regulated and restricted by the shareholders agreement dated 16 May 2002. In view of the above agreement dated 16 May 2002 there was a three years lockin period in respect of the subscribed share capital and the appellant could not sell the same during that period. In case the appellant had to sell during three years lock in period the sale was restricted only to the other two parties to the shareholders agreement. Moreover even after the three year lock in period was over the other two parties to the agreement continue to have right of preemption in respect of the appellant s shareholding. The shares had been purchased out of borrowed funds and yet the Apex Court held that the same would not by itself indicate/evidence an intent to deal in shares. Taking all the cumulative factors including the decision of the Supreme Court in Ramnarain Sons (P) Ltd. 1960 (12) TMI 3 - SUPREME Court the impugned order was incorrect in holding that 20% shares of M/s. MABL subscribed to by the appellant was stock in trade of the appellant and not its capital asset as contended by the revenue. - Decided in favor of assessee. Though the appellant had right to appoint its nominee as a Manager of M/s. MABL yet the nominee could not exercise authority as a Manager on his own but had to do so in consultation with others and therefore was not the Manager. Consequently the conclusion by the Tribunal that no amount was paid while subscribing for the shares to enjoy the rights of Manager of M/s. MABL. Merely because the appellant s nominee acts as Managing Director of M/s. MABL and such function of Managing Director as a Manager has to be discharged in consultation with others does not denude the Manager of its authority and function as a Manager. It is axiomatic that no Manager in any field of business activity enjoys on absolute and unfettered rights to manage his business without having to consult others. Therefore the finding in the impugned order that because the appellant nominee has no absolute right to manage M/s. MABL as it desires it must follow that the appellant has no right as a Manager of M/s. MABL is perverse. - Decided in favour of assessee.

Summary

Issues Involved:
1. Whether the investment in shares of a private limited company for acquiring control over its business can be considered stock-in-trade or a capital asset.
2. Whether the Tribunal's finding that the appellant purchased shares with the intent of trading and not as a capital asset is perverse.

Detailed Analysis:

Issue 1: Investment in Shares as Stock-in-Trade or Capital Asset

The central question was whether the investment made in shares of Millennium Alcobev Pvt. Ltd. (MABL) was intended as stock-in-trade or as a capital asset. The appellant had subscribed to 20% of MABL's issued equity shares, arguing that these were for acquiring control and management rights, not for trading. The Assessing Officer had concluded that the shares were stock-in-trade, citing factors such as the use of borrowed funds for the purchase and the high price paid despite the shares' low book value. The CIT(A) reversed this, stating that the shares were a strategic investment for management control, supported by the Shareholders and Subscription Agreements.

The Tribunal, however, sided with the Assessing Officer, emphasizing that no prudent investor would purchase shares at such a high price with borrowed funds without expecting immediate returns. The Tribunal also dismissed the relevance of the Supreme Court's decision in Ramnarain Sons (P) Ltd., which had held that shares purchased to acquire managing agency were capital assets, not stock-in-trade.

The High Court found that the facts were similar to Ramnarain Sons (P) Ltd., where the purchase of shares was for acquiring management rights and not for trading. The Court noted that the appellant's intent was to manage MABL, supported by the restrictive nature of the Shareholders Agreement, which limited the transferability of shares and indicated a long-term investment. The Court concluded that the shares were indeed a capital asset, not stock-in-trade.

Issue 2: Tribunal's Finding on the Intent of Trading

The Tribunal had determined that the appellant's purchase of shares was with the intent to trade, not as an investment, based on the high purchase price and the use of borrowed funds. The High Court found this conclusion perverse. It highlighted that purchasing shares at a higher price than the book value does not necessarily indicate trading intent, as investors often see potential in loss-making companies. The Court also noted that the other shareholders had subscribed at even higher prices, supporting the appellant's investment perspective.

Moreover, the Court stated that the use of borrowed funds for purchasing shares does not automatically classify the transaction as trading. The funds were borrowed for a short period without interest, indicating bridge financing rather than leveraging for trading. The Court also dismissed the Tribunal's view that the appellant did not have management rights, clarifying that managerial roles often require consultation and do not negate the management intent.

Judgment:

The High Court reversed the Tribunal's decision, holding that the shares were a capital asset and not stock-in-trade. The Court found the Tribunal's findings on the appellant's intent to trade as perverse and unsupported by the facts. The appeal was allowed, and the disputed tax recovery was stayed.

Conclusion:

The High Court concluded that the appellant's investment in MABL shares was a strategic investment for management control, classifying it as a capital asset. The Tribunal's findings were deemed perverse, and the appeal was allowed in favor of the appellant.