2016 (11) TMI 247 - AT - Income Tax

Reopening of assessment - whether there was short term capital gain? - Held that - The reasons recorded by the AO before issuing notice u/s.148 of the Act for making reassessment u/s.147 of the Act, shows that the AO had information that the Partnership Firm had revalued its assets. If at all any income accrues or arises owing to such revaluation, it was an issue which had to be dealt with in the assessment of the firm, which is a separate taxable entity. The Assessee s source of income is share income from partnership firm . Even assuming that income accrued and arose in the hands of the firm consequent to revaluation of the assets by the firm, the income that might accrue in the hands of the partner would be in the nature of share income from the firm . In terms of Sec.10(2A) of the Act, partner s share in the total income of the firm is not to be included in the total income of the partner. Therefore, looked at from any angle, the AO could not on the basis of the reasons recorded formed belief that income chargeable to tax in the hands of the Assessee has escaped assessment. Since the formation of such belief is a requirement for initiating proceedings u/s.147 of the Act and since on the facts and circumstances of the present case such formation of belief does not exist, the initiation of reassessment proceedings, were rightly held to be not valid in law by the CIT(A). In the instant case, the year of transfer was the financial year ended March 31, 2006. The ITO was wholly unjustified in invoking section 45(3) which had no application in the assessment year 2008-09 or for that matter in the assessment year 2006-07. Even otherwise, section 45(3) seeks to determine the capital gains with reference to the value of the asset recorded in the books of account of the firm. The value so recorded is statutorily deemed to be the full value of consideration received or accruing to the partner as a result of the transfer of the capital asset to the firm. Thus, section 45(3) does not seek to substitute by any other figure the value agreed between the partners at which the asset is transferred by a partner to the firm. The ITO s actions are completely contrary to the scheme of the statute. We therefore uphold the order of the CIT(A) in so far as it relates to his conclusion that the AO was not justified in assessing short term capital gain. As far as the question whether the AO was justified in bringing to tax a sum of ₹ 37,03,36,187/- as share of revaluation profit, is concerned, the law is well settled that for accounting purposes, stock is valued at cost or market price, whichever is lower. The market value is taken only when it falls below the cost. After conversion of inventory into fixed assets the firm revalued the developed land including construction thereon in order to bring it in line with the current market value and for justifying the bank finance of nearly ₹ 250 crores. Such revaluation was neither colourable nor a device. It is settled law that revaluation in the books of account of an asset which the assessee continues to own does not result in any profit or income. Revaluation at market value results in notional imaginary profit which cannot be taxed. Revaluation of an asset which an assessee continues to hold is not a taxable event and does not give rise to any taxable income. A person cannot make a profit from himself. In the event of sale, in computing the capital gains, only the actual cost of the asset would have been considered as the cost of acquisition and not the revalued cost. Thus, even in case of transfer of the capital asset, the revaluation would not have resulted in any tax benefit or advantage. There was no withdrawal by the Partners from capital account and therefore there cannot be any income liable to taxation in their hands. We therefore concur with the view of the CIT(A) on this issue also. We therefore confirm the order of the CIT(A) by holding that the assessee did not make any short term capital gains of ₹ 96,37,85,635/- taxable under section 45(3) of the Act or otherwise and that on revaluation of its fixed assets by the firm (of its land and building) there was no income that accrued or arose in the hands of the partners and the addition of ₹ 37,03,36,187/- on account of alleged revaluation profit is not sustainable and was rightly deleted by the CIT(A).- Decided against revenue

Summary

Issues Involved:
1. Validity of reassessment proceedings under section 147 of the Income Tax Act.
2. Applicability of section 45(3) of the Income Tax Act regarding short-term capital gains.
3. Taxability of revaluation profit credited to the partners' accounts.

Issue-wise Detailed Analysis:

1. Validity of Reassessment Proceedings:
The Assessee contended that the initiation of reassessment proceedings under section 148 was invalid as the reasons recorded did not spell out the belief of the Assessing Officer (AO) regarding the escapement of income chargeable to tax. The CIT(A) held that the AO did not form a belief that any income chargeable to tax had escaped assessment in the hands of the partner, as any income arising from the revaluation of assets should be considered in the hands of the firm, not the partners. The Tribunal upheld this conclusion, emphasizing that the AO could not have formed a belief that income chargeable to tax in the hands of the Assessee had escaped assessment based on the reasons recorded.

2. Applicability of Section 45(3) Regarding Short-Term Capital Gains:
The AO invoked section 45(3) to assess short-term capital gains of ?96,37,85,635/- in the hands of the Assessee, arguing that the revalued figure of the land should be considered as the full value of consideration for the transfer of the capital asset. The CIT(A) and the Tribunal found that the land was transferred to the partnership firm as a capital contribution during the financial year ended March 31, 2006, and was accounted for as current assets, not as a capital asset. Section 45(3) applies only to the transfer of capital assets, not current assets. Therefore, the AO's application of section 45(3) was unjustified for the assessment year 2008-09.

3. Taxability of Revaluation Profit:
The AO assessed ?37,03,36,187/- as income from revaluation profit credited to the partners' accounts. The CIT(A) and the Tribunal held that revaluation of assets, which the firm continued to own, does not result in any real profit or taxable income. Revaluation at market value results in notional imaginary profit, which cannot be taxed. The Tribunal noted that the revaluation was done for financial purposes to justify bank loans and did not confer any tax advantage. The firm did not claim depreciation on the revalued assets, and there were no withdrawals from the revaluation amount credited to the partners' current accounts. Therefore, the addition of revaluation profit was unsustainable.

Conclusion:
The Tribunal dismissed the Revenue's appeal, confirming that the reassessment proceedings under section 147 were invalid, section 45(3) was not applicable to the transfer of current assets, and the revaluation profit did not result in taxable income in the hands of the partners.