2024 (2) TMI 604 - AT - Income Tax

Addition u/s 56 - Issue of shares at premium - method taken for value of unquoted equity shares - valuation of shares of the assessee company based on which premium has been charged - Choice to adopt either Net Asset Value Method or Discounted cash flow (DCF) Method. - assessee has adopted Net Asset Value Method for arriving the fair market value of the equity shares of the assessee company as per section 56(2)(viib) r.w. Rule 11UA I.T.Rules - As per AO method taken for value of unquoted equity shares is not in accordance with the prescribed under Rule 11UA of I.T.Rules. HELD THAT - As to value the business of the holding company, the valuation of subsidiary company is relevant and important for determination of the valuation of the holding company. The whole basis of existence of the holding company depends upon the performance of the subsidiary company. It is brought to our notice that the holding company does not have any activities of its own and all the education and training activities are carried in the subsidiary company. For the purpose of argument if we agree the valuation method suggested by the AO to value the shares of the assessee company, the valuation of investments made by the holding company in its subsidiary will remain at the historical cost. It will not change even after ten years and the valuation of the holding company will remain same even after ten years. Proper method of valuation of shares of any holding company depends upon valuation of the subsidiary company. Therefore, in order to determine the valuation of shares of the holding company the valuation of subsidiary company has to be determined on the basis of proper method as per Rule 11UA of I.T.Rules. The method to be selected based on the purpose for which the valuation is necessity. If it is running business, the valuation has to be on the basis of futuristic. Therefore, in order to determine the valuation of the subsidiary company one has to adopt the Discounted cash flow Method considering the fact that the futuristic value of shares has to be determined based on Discounted cash flow Method only. Net Asset Value of the subsidiary company will give present value, but will not give futuristic value. Since the assessee is bringing new investors the valuation has to be done on the basis of futuristic based valuation. The valuation of wholly owned subsidiary company was carried out on the basis of Discounted cash flow Method which is one of the approved method u/R 11UA of I.T. Rules. Coming to the valuation of assessee s company since the assessee does not carrying out any activity except investments in subsidiary company most of the assets and liabilities are at historical cost except there may be changes in the investments made by the assessee in its subsidiary companies. The value of investments will not remain same and as per the new Accounting Standards the valuation of subsidiary has to be made every year. The value of shares of subsidiary company will change every year based on its performance. Therefore, the assessee has valued its shares adopting one of the methods mentioned under Rule 11UA of I.T. Rules i.e., Net Asset Value Method for its own shares and the variables in its balance sheet i.e, investments made in subsidiary company which was revalued based on Discounted cash flow Method which is also one of the approved method under Rule 11UA of I.T.Rules. Therefore, the method adopted by the assessee to value its own shares are within the method prescribed under Rule 11UA of I.T. Rules. Tax Authorities has to appreciate the purpose for which the valuation of shares were carried and it should also appreciate the evolution of various valuation methods to suit the purpose. In the given case, the assessee has brought in new investors and when the new investors are introduced the existing shareholders cannot be at par with the new shareholders by issuing shares at existing Net Asset Value valuation. The new shareholders have to bring in premium to match the goodwill carried on by the existing shareholders. Valuation of any holding company depends upon the performance of the subsidiary company. In this case the MLRPL are wholly owned subsidiary company and the valuation of the wholly owned subsidiary company has to be valued based on futuristic value by adopting Discounted cash flow Method. The above valuation of subsidiary company had a direct impact on the valuation of the assessee company. We do not see any reason to reject the method adopted by the assessee. Allow the ground raised by the assessee.

Summary

Issues Involved:
1. Applicability of Section 56(2)(viib) of the Income-tax Act, 1961.
2. Valuation method for unquoted equity shares under Rule 11UA of the Income-tax Rules.
3. Consistency in valuation methods adopted in previous years.

Summary:

Issue 1: Applicability of Section 56(2)(viib) of the Income-tax Act, 1961

Assessee filed its return declaring a loss, which was processed under section 143(1) of the Act. The case was selected for scrutiny to verify the applicability of section 56(2)(viib) due to the large share premium received during the year. Notices under sections 143(2) and 142(1) were issued, and the assessee provided details through e-proceedings.

Issue 2: Valuation method for unquoted equity shares under Rule 11UA of the Income-tax Rules

The assessee issued shares with a premium and justified this with a valuation report using the Net Asset Value (NAV) Method and the Discounted Cash Flow (DCF) Method for its subsidiary, Mylaw Learning Resources Private Limited (MLRPL). The Assessing Officer (AO) observed that the method adopted was not in accordance with Rule 11UA, as the assessee used a hybrid method by combining NAV and DCF.

The AO revalued the shares using only the NAV Method, concluding that the assessee had charged an excessive premium. This resulted in an addition of Rs. 65,79,934/- to the assessee's income. The Ld. CIT(A) upheld this view, stating that the assessee cannot adopt a hybrid method by picking and choosing between NAV and DCF methods.

Issue 3: Consistency in valuation methods adopted in previous years

The assessee argued that the valuation method had been accepted in previous years and should be consistent. They cited case laws supporting the principle of consistency. However, the AO and Ld. CIT(A) rejected this argument, emphasizing that the method adopted was not in accordance with Rule 11UA.

Judgment:

The Tribunal observed that the valuation of the holding company depends on the subsidiary's performance. It held that the assessee's method of valuing the subsidiary using the DCF Method and its own shares using the NAV Method is within the rules prescribed under Rule 11UA. The Tribunal emphasized that the valuation should reflect the futuristic value, especially when new investors are introduced. It concluded that the method adopted by the assessee was appropriate and allowed the appeal.

Conclusion:

The appeal filed by the assessee was allowed, and the method adopted for valuing the shares was deemed acceptable under Rule 11UA of the Income-tax Rules.

Order pronounced in the open court on 09th February, 2024.