2022 (4) TMI 805 - AT - Income Tax

Addition u/s 56(2)(vii)(c)(ii) - allotment of shares to assessee shareholder at a value lower - whether Tax to be paid by the shareholders or the company? - HELD THAT - In the present case since the explanation (e) of section 56(2)(vii) which provides that in case of HUF, any member thereof falls in the definition of relative, as the shares allotted to the assessee to the extent of 95.35% was from the interest of his relatives, the same ought not be subject to tax and the company since it is Private Limited company and holding the majority of shares by the relatives , where the assessee himself the karta is Director and member of HUF holding major shares in the company. The shares have been allotted on 31.03.2014 to the assessee instead of allotting shares to all the existing shareholders and thus even if it is assumed that the shareholders to whom shares were not allotted have given up their right of allotment in shares to other shareholders, it is a case of transfer of right in shares by one relative to another relative and therefore also section 56(2)(vii)(c) would not get attracted. Whether there is a difference between allotment of shares and receipt of shares ? - For receipt of share there should be shares in existence and a person holding such share transferring it to another person. As against this in case of allotment of shares, it comes into existence after it is allotted and there is no transfer of shares from one person to another person. Therefore allotment of shares cannot be equated with receipt of shares because in case of receipt of shares the property is already in existence whereas in case of allotment of shares the property comes into existence after it is allotted. Whether assesses comes under the definition of Relative? - There is no dispute in the contention of the assessee is that all the shareholders are relatives and 95% of the shares have been within the relatives. The transaction between the close relatives is not taxable under the head 'income from other sources u/s 56(2) of the Act. We are of the opinion that the section 56(2)(vii)(c) has no application and the company is liable to be taxed . The opinion and well known facts that in a private limited company major percentage of shares are holded by the relatives only. Whether it is fresh allotment of shares or existing allotment of shares? - Where the receipt of shares in as much as there is a distinction between allotment of shares and receipt of shares. Receipt is the action of receiving something or the fact of its being received whereas allotment is defined as the portion or share of something. For receipt of share there should be shares in existence and a person holding such share transferring it to another person. There is no dispute that existing shareholders prior to fresh allotment was the assessee and his relatives and the provisions of section 56(2)(viii)(c)(ii) shall not apply in case of money or any property received from any close relative .In the present case it is fresh allotment of shares. Taking into consideration the facts, circumstances of the case and also the decision in the case of ACIT vs. Venkanna Choudhary 2020 (1) TMI 1012 - ITAT VISAKHAPATNAM we allow the appeal of the assessee and set aside the order of CIT(A) and addition confirmed by the CIT(A) is deleted. - Decided in favour of assessee.

Issues Involved:
1. Condonation of delay in filing the appeal.
2. Applicability of Section 56(2)(vii)(c)(ii) of the Income Tax Act, 1961.
3. Distinction between allotment of shares and receipt of shares.
4. Definition and applicability of "relative" under Section 56(2)(vii)(c) of the Income Tax Act.
5. Taxability of shares allotted to existing shareholders.

Detailed Analysis:

1. Condonation of Delay in Filing the Appeal:
The assessee filed an appeal with a delay of 180 days due to the lockdown and non-functioning of the income tax side. The assessee submitted a condonation application, supported by an affidavit from the Chartered Accountant, explaining the reasons for the delay. The Revenue had no objection to the condonation. The Tribunal, after hearing both parties and considering the circumstances, condoned the delay, finding merit in the assessee's explanation.

2. Applicability of Section 56(2)(vii)(c)(ii) of the Income Tax Act, 1961:
The core issue was whether the addition of ?4,56,000 under Section 56(2)(vii)(c)(ii) was justified. The Assessing Officer (AO) held that the Fair Market Value (FMV) of the shares, as per Rule 11UA, was ?11.52 per share, whereas the shares were allotted at ?10 per share, leading to an addition of ?4,56,000. The AO rejected the assessee's argument that Section 56(2)(vii)(c)(ii) applies only to the receipt of shares, not their allotment. The CIT(A) upheld this view, stating that the distinction between initial allotment and secondary sale of shares was irrelevant for the purpose of the section.

3. Distinction Between Allotment of Shares and Receipt of Shares:
The assessee argued that Section 56(2)(vii) applies to the receipt of shares, not their allotment. The Tribunal agreed, noting that allotment of shares results in their creation, whereas receipt implies the transfer of existing shares. The Tribunal emphasized that Section 56(2)(vii) is a deeming provision and must be construed literally. Therefore, allotment of shares does not fall under the ambit of Section 56(2)(vii)(c).

4. Definition and Applicability of "Relative" under Section 56(2)(vii)(c):
The assessee contended that 95.35% of the shares were held by relatives as defined under Explanation (e) to Section 56(2)(vii). The Tribunal noted that transactions between close relatives are not taxable under Section 56(2). The Tribunal found that the shares were allotted to the assessee instead of all existing shareholders, implying a transfer of rights among relatives. Hence, the provisions of Section 56(2)(vii)(c) were not applicable.

5. Taxability of Shares Allotted to Existing Shareholders:
The Tribunal examined whether the shares allotted to the assessee were taxable. It concluded that since the shares were allotted to an existing shareholder and the majority of the shares were held by relatives, the transaction was not taxable under Section 56(2)(vii)(c). The Tribunal relied on a similar case (ACIT vs. Venkanna Choudhary), where it was held that transactions between close relatives are exempt from taxation under this section.

Conclusion:
The Tribunal allowed the appeal, setting aside the CIT(A)'s order and deleting the addition of ?4,56,000. The Tribunal held that Section 56(2)(vii)(c) was not applicable to the allotment of shares to existing shareholders, especially when the majority of the shares were held by relatives. The Tribunal emphasized the distinction between allotment and receipt of shares and the non-taxability of transactions between close relatives.

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