2008 (11) TMI 273 - AT - Income Tax

Deemed dividend u/s 2(22)(e) - payment by the company to the concern - Whether deemed dividend u/s. 2(22)(e) can be assessed in the hands of a person other than a shareholder of the lender? - words such shareholder includes both the 'registered' shareholder and the beneficial shareholder? - CIT(A) deleted the addition made by the AO for the reason that NNT was not beneficial shareholder of shares in BCPL or UPPL and therefore the second limb of the provisions of s. 2(22)(e) could not be applied vis-a-vis the assessee. HELD THAT - In the case of the assessee it is seen that the three trustees of NNT held shares in UPPL and BCPL only as a legal and registered owner. They held shares for and on behalf of 5 beneficiaries of the trust who are different individuals. They were therefore not beneficial owners of the shares. Trust ownership is a peculiar instance of duplicate ownership. Trust property is, in fact, owned by two persons simultaneously in the sense that one is under an obligation to use the property for the benefit of the other. As between trustee and third party ownership conferred on the trustee fictitiously by law prevails, i.e., the trustee is clothed with the rights of the beneficiary and is so enabled to personate or represent him in dealings with the world at large. The main purpose of trusteeship is to protect the rights and interest of person who for any reason are unable effectively to protect them for themselves. Such protection is required for four classes of people, (a) unborn persons; (b) infants, lunatics, or other disqualified persons; (c) a large number of persons who are interested in common; and (d) persons having conflicting interest in the same property, Le., an owner and an encumbrancer or different kinds of encumbrances. Therefore, the first requirement of holding of shares both as a legal registered owner and beneficial owner of such shares is not satisfied in the case of the assessee. Therefore, provisions of s. 2(22)(e) would not be applicable at all to the case of the assessee. We therefore hold that deemed dividend u/s. 2(22)(e) can be assessed only in the hands of a shareholder of the lender company and not in the hands of any other person. The expression 'shareholder' referred to in s. 2(22)(e) refers to both a registered shareholder and beneficial shareholder. If a person is a registered shareholder but not the beneficial shareholder then the provisions of s. 2(22)(e) will not apply. Similarly, if a person is a beneficial shareholder but not a registered shareholder then also the provisions of s. 2(22)(e) will not apply. There is no merit in this appeal by the Revenue and the same is therefore dismissed.

Summary

Issues Involved:
1. Whether deemed dividend under Section 2(22)(e) of the IT Act, 1961 can be assessed in the hands of a person other than a shareholder of the lender.
2. Whether the words "such shareholder" occurring in Section 2(22)(e) refer to a shareholder who is both the 'registered' shareholder and the beneficial shareholder.

Detailed Analysis:

Issue 1: Assessment of Deemed Dividend in Non-Shareholder's Hands
The primary question was whether deemed dividend under Section 2(22)(e) can be assessed in the hands of a non-shareholder. The Tribunal examined the historical context and legislative intent behind Section 2(22)(e), noting that it was designed to prevent tax avoidance by closely held companies distributing profits as loans to shareholders or concerns where shareholders have substantial interest.

The Tribunal referenced the Hon'ble Rajasthan High Court's decision in CIT v. Hotel Hilltop, which held that deemed dividend could only be taxed in the hands of the shareholder, not the concern. The Tribunal emphasized that the intention behind Section 2(22)(e) was to tax the dividend in the hands of the shareholder because the loans or advances are presumed to ultimately benefit the shareholder.

The Tribunal also considered the provisions of Section 5(1) of the Act, which outlines the scope of total income, and concluded that the income must be in the nature of income to be taxed. Since a loan or advance to a concern is not inherently income, it cannot be taxed as deemed dividend in the hands of the concern.

Therefore, the Tribunal held that deemed dividend under Section 2(22)(e) can only be assessed in the hands of the shareholder of the lender company and not in the hands of any other person.

Issue 2: Definition of "Such Shareholder"
The second issue was whether the term "such shareholder" in Section 2(22)(e) refers to a shareholder who is both a registered shareholder and a beneficial shareholder. The Tribunal analyzed the language of the statute, historical amendments, and judicial interpretations.

The Tribunal referenced the Supreme Court's decisions in C.P. Sarathy Mudaliar and Rameshwarlal Sanwarmal, which clarified that the term "shareholder" refers to a registered shareholder. The Tribunal also noted that the 1961 Act added the requirement that the shareholder must also be a beneficial owner of the shares.

The Tribunal concluded that the expression "such shareholder" in Section 2(22)(e) refers to a person who is both a registered shareholder and a beneficial shareholder. Therefore, if a person is only a registered shareholder or only a beneficial shareholder, the provisions of Section 2(22)(e) do not apply.

Conclusion:
1. On the first question: Deemed dividend under Section 2(22)(e) can be assessed only in the hands of a person who is a shareholder of the lender company and not in the hands of a person other than a shareholder.
2. On the second question: The expression "shareholder" in Section 2(22)(e) refers to both a registered shareholder and a beneficial shareholder. If a person is a registered shareholder but not the beneficial shareholder, or a beneficial shareholder but not a registered shareholder, the provisions of Section 2(22)(e) will not apply.

The Tribunal dismissed the Revenue's appeal, affirming that the deemed dividend could not be taxed in the hands of the assessee or the intervener as they were not shareholders of the lender company.