2024 (3) TMI 201 - AT - Income Tax

Bogus long-term and short-term capital loss arising upon sale of shares - WEPL (which stood merged with the assessee) had claimed capital loss on sale of shares of 'WECL' to its related entity SIPPL - loans provided by WEPL to WECL for funding the project SPVs were converted into OCPS Optionally Convertible Preference Shares - According to the AO, the aforesaid loss was an artificial loss created on paper and thus should not be allowed to the assessee HELD THAT - The acts involving issuance of OCPS of Rs. 375 crores in October 2014, and the subsequent scheme of merger undertaken in AY 2015-16; was neither a colorable device nor did it result in creation of any artificial loss. Accordingly, the cost of OCPS of Rs. 375 crores subscribed by WEPL in the first tranche cannot be disregarded or be said to exist only on paper. Second tranche of cost of acquisition of OCPS of Rs. 310.60 crores, assessee had initially granted loan in several tranches to WECL, majorly from September 2014 to March 2016. Later on, these loans were converted to OCPS at face value in November 2016. As in absence of any foreseeable cash flows, which would enable WECL to clear the loans obtained from the assessee, a commercial decision was taken to convert the outstanding loans into OCPS. Further, the first tranche of Rs. 375 crores was subscribed more than two year ago i.e. in October 2014. Having regard to surrounding circumstances and based on human probabilities, one cannot infer that the assessee would have known the outcome of the petition before the NGT which would adversely impact the valuation in the relevant FY 2016-17 and thus the assessee could have planned to purportedly generate overall loss by selling OCPS which were subscribed as far back in October 2014. According to us therefore, the overall cost of acquisition of Rs. 686 crores, for capital gain computation purposes, is found to be tenable and includable in computing cost of acquisition deductible from the sale consideration, for arriving at capital gain/loss. Sale consideration component involved in this transaction - AO was of the view that the transaction with SIPPL, a related entity was a controlled transaction and that the OCPS was sold at an undervalued figure to generate a loss - AO had ignored the report obtained by the assessee from merchant banker who had valued the OCPS based on risk and business profile as per the Net Asset Value ( NAV ) Method. Although this valuation report is noted to have been placed by the assessee before the AO, but no defect or infirmity therein has been pointed out by the AO. According to us therefore, when the sale consideration agreed upon between related parties was supported by an independent valuation report obtained from an expert in this field, there was no reason to allege it to be under-valued, unless the Revenue points out any defect or error in the valuation methodology. If the transactions entered between various parties are analysed, we notice that following two different types of transactions would emerge - (a) The first one is the investment made by WEPL in the OCPS issued by WECL. It consisted of Rs. 375 crores ( ) Rs. 305.20 crores ( ) Rs. 5.40 crores aggregating to Rs. 686 crores (rounded). This investment of Rs. 686 crores have been sold for a consideration of Rs. 300 crores. The issue before us is related to the loss claimed by the assessee in respect of these transactions. It is pertinent to note that the above said OCPS were sold by WEPL in March, 2017 falling in AY 2017-18. (b) The second one is the investment made by WECL in the OCPS issued by WERPL. It consisted of Rs. 300 crores only. Since WERPL merged with WEPL, the above said investment made by WECL was required to be written off. The fact would remain that the loss arising on account of writing off of Rs. 300 crores was not claimed as deduction by WECL nor was it carried forward. It is pertinent to note that the merger of WERPL with WEPL has taken place on the appointed date of 01-01-2015. Consequently, WECL has written of investments in the year relevant to AY 2015-16. It can be noticed that both the above said transactions are independent transactions and they are nothing to do with each other, except for the fact that a part of amount of Rs. 375 crores collected by WECL by issuing OCPS was invested to the extent of Rs. 300 crores in the OCPS of WERPL. Thus, (a) the OCPS issued by WECL to WEPL and (b) the OCPS issued by WERPL to WECL are two different transactions carrying different rights and liabilities. Hence they are not connected with each other. However, it appears that the AO has mixed up both the transactions. We notice that the AO has examined the transactions relating to issue and writing off of Rs. 300 crores in AY 2017-18, even though those transactions are relevant for AY 2015-16. The AO has taken adverse view with respect to the same and accordingly, arrived at the conclusion that the investment made by WEPL in the OCPS issued by WECL is also sham, even though it is an independent transaction. However, we are of the view that the AO was not justified in doing so. Hence the disallowance of claim of both long term and short term capital loss was not correct on this reasoning also. AO was unjustified in disallowing the aggregate capital loss by treating the transaction involving sale of OCPS by WEPL to be a colorable device and accordingly uphold the order of Ld. CIT(A) deleting the impugned disallowance. This ground is therefore dismissed. Disallowance u/s 14A both while computing income under normal computational provisions as well as book profit computed u/s 115JB - AO rejected the same and invoked Rule 8D and thereby computed disallowance u/s 14A being 1% of average value of investments - HELD THAT - We note that the Ld. CIT(A) had rightly followed the decision of Hon ble Bombay High Court in the case of M/s. Nirved Traders Pvt. Ltd. 2019 (4) TMI 1738 - BOMBAY HIGH COURT for holding that the disallowance u/s 14A of the Act is to be restricted to the extent of exempt income earned by assessee. Thus the disallowance u/s 14A cannot exceed the exempt income, and thus directed the AO to restrict the quantum of disallowance accordingly. Thus we see no reason to interfere with the above findings of the Ld. CIT(A) restricting the disallowance u/s 14A to the extent of exempt income i.e. Rs. 55/- as suo moto offered by the assessee. MAT computation u/s 115JB for addition u/s 14A - As in Vireet Investments Pvt Ltd ( 2017 (6) TMI 1124 - ITAT DELHI has held that Rule 8D cannot be invoked and applied, while computing book profit under clause (f) of Explanation (1) to Section 115JB. Following the same we uphold the order of Ld. CIT(A) deleting the further addition u/s 14A r.w. Rule 8D made by the AO while computing book profit under clause (f) of Explanation (1) to Section 115JB of the Act. Accordingly, these grounds of appeal stand dismissed.

Summary

Issues Involved:
1. Deletion of disallowance of long-term and short-term capital loss on sale of shares.
2. Disallowance under Section 14A of the Income-tax Act, 1961.

Summary:

Issue 1: Deletion of Disallowance of Long-term and Short-term Capital Loss on Sale of Shares
The Revenue appealed against the CIT(A)'s decision to delete the disallowance of capital loss arising from the sale of shares of M/s Welspun Energy Limited (WEL). The assessee, engaged in manufacturing and trading of sponge iron and steel products, had claimed a capital loss of Rs. 423 crore on the sale of shares of M/s Welspun Energy Chhattisgarh Limited (WECL) to a related entity, M/s Solarsys Infra Projects Pvt. Ltd. (SIPPL). The AO deemed this loss as artificial, created through circular movement of funds and amalgamation schemes. The AO referenced the statement of Shri Rajesh Verma, who could not explain the business rationale behind these transactions, to support the disallowance.

The CIT(A) deleted the disallowance, noting that the transactions were legitimate business activities supported by material evidence and that the loss from the merger was not claimed or carried forward. The Tribunal upheld the CIT(A)'s decision, stating that the transactions had commercial rationale and were not colorable devices. The Tribunal also noted that the valuation of the sale consideration was supported by an independent merchant banker's report, and the sale was at fair market value.

Issue 2: Disallowance Under Section 14A of the Income-tax Act, 1961
The AO disallowed Rs. 9,69,98,557/- under Section 14A, invoking Rule 8D, while the assessee had disallowed only Rs. 55/-. The CIT(A) upheld the assessee's disallowance, restricting it to the exempt income earned. The Tribunal agreed with the CIT(A), referencing the jurisdictional High Court's decision in M/s. Nirved Traders Pvt. Ltd. Vs. DCIT, which held that disallowance under Section 14A cannot exceed the exempt income earned. The Tribunal also noted that the amendment to Section 14A introduced by the Finance Act 2022 is applicable prospectively from Assessment Year 2022-23.

Regarding the addition made under Section 14A while computing book profit under Section 115JB, the Tribunal followed its earlier decision in the assessee's case, holding that Rule 8D cannot be applied while computing book profit. Thus, the Tribunal upheld the CIT(A)'s order deleting the further addition under Section 14A read with Rule 8D.

Conclusion:
The Tribunal dismissed the Revenue's appeal, upholding the CIT(A)'s decisions on both issues. The deletion of the disallowance of capital loss and the restriction of disallowance under Section 14A to the exempt income earned were found to be justified.