2016 (1) TMI 581 - HC - Income Tax

Sale of business of firm as a going concern to the company for a consideration of paid up share capital whether does not amount to transfer liable to tax as capital gains? - Held that - In the facts of the present case, capital gains tax is sought to be levied in respect of immovable property being land and building. Insofar as the building being Sarita Shopping Centre is concerned the same was for the first time brought into the books of account after revaluation only in the year under consideration. Evidently, therefore, no depreciation had been claimed in respect thereof. Under the circumstances, the question of invoking section 41(2) of the Act would not arise in the present case. For the purpose of attracting sub-section (1) of section 45 of the Act profit or gain should have arisen from the transfer of a capital asset. Sub-section (2) of section 45 of the Act provides that the profits or gains arising from the transfer by way of conversion by the owner of a capital asset into, or its treatment by him as stock-in-trade of a business carried on by him shall be chargeable to income tax as his income of the previous year in which such stock-in-trade is sold or otherwise transferred by him and, for the purposes of section 48, the fair market value of the asset on the date of such conversion or treatment shall be deemed to be the full value of the consideration received or accruing as a result of the transfer of the capital asset. Insofar as invocation of subsection (2) of section 45 of the Act is concerned, while the Assessing Officer has briefly referred to the said provision in paragraph 5.7 of his order, no factual foundation has been laid down in that regard to establish that the said properties had been brought into the books as stock-in-trade. On the contrary the learned counsel for the assessee has maintained that the said properties were always treated as capital assets and were never converted into stock in trade. Under the circumstances, in the absence of any factual foundation having been laid in that regard, the question of invoking sub-section (2) to section 45 of the Act would not arise. Thus the provisions of section 45(4) of the Act would not be attracted in the present case as the provisions of section 45(1) and section 45(4) of the Act would not be attracted in the present case - Decided in favour of the assessee

Issues Involved:
1. Whether the sale of business of a firm as a going concern to a company for consideration of paid-up share capital amounts to a transfer liable to tax as capital gains.
2. Whether the revaluation of assets and their introduction into the books of account constitutes taxable income.
3. Applicability of Sections 45(1), 45(2), and 45(4) of the Income Tax Act, 1961.
4. Whether the transaction constitutes a slump sale and its tax implications.
5. Interpretation of the term "transfer" under Section 2(47) of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Whether the sale of business of a firm as a going concern to a company for consideration of paid-up share capital amounts to a transfer liable to tax as capital gains:

The Tribunal held that the conversion of a partnership firm into a company under Chapter IX of the Companies Act does not constitute a transfer liable to capital gains tax. The Tribunal relied on the decision in Texspin Engineering & Manufacturing Works, which clarified that capital gains can only be taxed if the full value of the consideration is received by or accrues to the transferor. Since the shares were issued to the partners and not to the firm, the firm would not be liable to tax.

2. Whether the revaluation of assets and their introduction into the books of account constitutes taxable income:

The Assessing Officer treated the revaluation of assets and their introduction into the books as taxable income under Section 28(iv) of the Act. However, the Tribunal disagreed, stating that the revaluation and introduction of assets do not amount to obtaining any benefit or perquisite since the asset was already owned by the assessee. The Tribunal concluded that no income accrued to the assessee by merely bringing the asset into the books.

3. Applicability of Sections 45(1), 45(2), and 45(4) of the Income Tax Act, 1961:

- Section 45(1): The Tribunal held that there was no transfer of capital assets under Section 45(1) because the firm and the company are not distinct entities; the firm was merely succeeded by the company under statutory provisions, and there was no conveyance of property executable in favor of the company.

- Section 45(2): The Tribunal noted that no factual foundation was laid to establish that the properties were brought into the books as stock-in-trade. The properties were always treated as capital assets, and hence, Section 45(2) was not applicable.

- Section 45(4): The Tribunal found that Section 45(4) was not attracted because there was no distribution of capital assets. The vesting of assets in the company was not consequent to a transfer but was a statutory vesting under Part IX of the Companies Act.

4. Whether the transaction constitutes a slump sale and its tax implications:

The Tribunal and the High Court considered whether the transaction was a slump sale. The High Court referred to the decision in PNB Finance Ltd., which clarified that for a slump sale, the entire undertaking is transferred as a going concern, and item-wise allocation of consideration is not possible. The High Court concluded that the transaction did not constitute a slump sale as there was no allocation of consideration to individual assets.

5. Interpretation of the term "transfer" under Section 2(47) of the Income Tax Act:

The High Court referred to the definition of "transfer" under Section 2(47) and concluded that the conversion of the firm into a company did not constitute a transfer as envisaged under the Act. The court emphasized that the statutory vesting of properties in the company does not amount to a transfer, and hence, no capital gains tax was applicable.

Conclusion:

The High Court affirmed the Tribunal's decision that the conversion of the firm into a company did not attract capital gains tax. The court held that the revaluation of assets and their introduction into the books did not constitute taxable income, and Sections 45(1), 45(2), and 45(4) were not applicable. The transaction was not considered a slump sale, and the statutory vesting of properties did not amount to a transfer under Section 2(47). The appeal was dismissed, and the question was answered in favor of the assessee and against the revenue.

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