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TMI Blog2010 (4) TMI 910X X X X Extracts X X X X X X X X Extracts X X X X ..... value ignoring the judgment of the hon'ble Supreme Court in the cases of CIT v. Gillanders Arbuthnot and Co. [1973] 87 ITR 407, CIT v. Smt. Nilofer I. Singh [2009] 309 ITR 233 (Delhi) and Dev Kumar Jain v. ITO [2009] 309 ITR 240 (Delhi). Thus, the action of the Assessing Officer should be reversed and the capital gain should be computed on the basis of full value of consideration. (2) The Commissioner of Income-tax (Appeals) erred in law and on facts in confirming an addition of ₹ 37,60,41,886 as short-term capital gain on sale of 23,90,000 shares transferred on May 10, 2005 by considering their date of acquisition as July 27, 2004 whereas the same was April 4, 2004 following Circular No. 704 dated April 28, 1995 reported at ([1995] 213 ITR (St.) 7). Thus, the said loss should be assessed as long-term capital loss as claimed by the assessee. (3) The Commissioner of Income-tax (Appeals) erred in law and on facts in confirming the disallowance of ₹ 22,03,822 under section 57(iii) of the Act on interest paid to others ignoring the facts and evidence placed on record. Thus, the action of the Assessing Officer should be reversed." The facts culled out from the assessment ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n this connection, it was mentioned that the bid value of Hotel Ashok Yatri Niwas was about ₹ 45.03 crores. However, the assessee took over only the land and building and sundry creditors and debtors were to be dealt with by ITDC. On this basis, the asset taken over by the assessee from ITDC, representing 8,98,166 shares, was about ₹ 16.49 crores. This constituted 99.97 percent of the equity. The rest of the shares were also acquired from other shareholders at about ₹ 1.65 crores. Therefore, the cost of acquisition per share at the time of taking over Hotel Ashok Yatri Niwas was about ₹ 183.63. The assessee had also incurred cost on bank guarantee, processing fees and stamp duty, which was added to the cost of acquisition, leading to valuation of the shares at the time of acquisition at ₹ 185.68 per share. The Assessing Officer adopted this value for working out the capital gains, which worked out to about ₹ 37.60 crores against the loss of about ₹ 8.64 crores claimed by the assessee. The detailed working of the capital gains, computed by the Assessing Officer, is described as under: Date of purchase No. of shares Rate Total value Inde ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the assessee and his wife respectively, who corresponded in the capacity of managing director and director of the respective companies. Subsequently, Hotel Queen Road Pvt. Ltd., vide letter dated April 4, 2004, communicated to the assessee-company regarding creating a right in its favour in 23,90,000 equity shares on April 4, 2004. This letter has also been signed by Shri R. P. Mittal. The necessary formalities with regard to transfer of shares were completed on July 27, 2004. In these circumstances, the learned Commissioner of Income-tax (Appeals) came to the conclusion that the aforesaid shares constituted short-term capital asset. The learned Commissioner of Income-tax (Appeals) also considered the matter regarding adoption of fair market value in place of the sale consideration at the time of transfer of the shares to Shri R. P. Mittal. It was, inter alia, mentioned that Shri R. P. Mittal and Smt. Sarla Mittal were in effective control of the assessee-company and Hotel Queen Road Pvt. Ltd. The assessee-company managed the affairs of Hotel Queen Road Pvt. Ltd. in such a manner that other shareholders were kept in the dark not only in respect of management of affairs but also ab ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hers. Such shares were also acquired by the assessee. There is no dispute about the cost of acquisition of the shares of Hotel Queen Road Pvt. Ltd. acquired from ITDC and others, and the cost of acquisition worked out by the Assessing Officer at ₹ 185.68 per share has become final. Hotel Ashok Yatri Niwas required extensive repairs and renovation. Therefore, fresh capital was required for undertaking such repairs and renovation. Such capital was infused by the assessee-company by way of fresh capital subscription at par. The assessee was allotted 23,90,000 shares on July 27, 2004 at ₹ 2.39 crores. The assessee was further allotted 41,51,648 shares on January 7, 2005 at ₹ 4,15,16,480. Out of original holdings acquired from ITDC and others and fresh allotment of equity, the assessee sold 32,88,181 shares to Shri R. P. Mittal at ₹ 20 per share. These shares comprised 8,98,181 shares originally acquired and 23,90,000 shares allotted by Hotel Queen Road Pvt. Ltd. to the assessee on July 27, 2004. Coming to the arguments, it is submitted that there is no dispute about the cost of acquisition of these shares. However, there is a dispute when the sale price was su ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o be delivered to the assessee shortly were also mentioned in this letter (page 23 of the paper book). A copy of share application money account was also filed, which shows various payments between November 12, 2003 to March 4, 2004. On the basis of the Board Circular No. 704 dated April 28, 1995 and other cases, it was contended that the assessee acquired the shares on April 4, 2004 when Hotel Queen Road Pvt. Ltd. intimated to it the factum of allotment and the distinctive numbers. There is also a dispute regarding deduction of interest paid to others. The facts in this regard are that the assessee-company deposited a sum of about ₹ 8.80 crores with Hotel Queen Road Pvt. Ltd. on which interest of about ₹ 90 lakhs was received. Borrowings to the extent of about ₹ 9.65 crores were made from Shri R. P. Mittal, to whom no interest was paid. Monies were borrowed from third parties to discharge the liability towards Shri R. P. Mittal and interest of about ₹ 22 lakhs was paid on such borrowings. Therefore, it is argued that there was a nexus between borrowings from others and lending to Hotel Queen Road Pvt. Ltd. Thus, interest paid to others is deductible in com ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the computation of capital gain made by the lower authorities may be upheld. In the alternative, it is argued that since originally acquired shares were sold at a loss, such loss may be disallowed as it was not a transaction in the nature of business, being a colourable transaction. It is also argued that the money received from Shri R. P. Mittal was lent to Hotel Queen Road Pvt. Ltd. on which interest was earned. There was no stipulation on payment of interest to Shri R. P. Mittal. This money was substantially used for allotment of shares to him at par. Therefore, there is no nexus between interest earned from Hotel Queen Road Pvt. Ltd. and interest paid to third parties. In the rejoinder, learned counsel submits that the correspondence between Hotel Queen Road Pvt. Ltd. and the assessee-company was not required to be filed before any other authority or third party. Therefore, it is not available with anyone except the assessee and Hotel Queen Road Pvt. Ltd. The payments had been made by the assessee on the basis of the letter of Hotel Queen Road Pvt. Ltd. The assessee is not in a position to produce the board resolution as it had been excluded from the management of Hotel Que ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... our purpose). The issue as to whether fair market value can be substituted in place of the sale consideration was examined by the hon'ble Supreme Court in the case of CIT v. Gillanders Arbuthnot and Co. [1973] 87 ITR 407 under section 12B(2) of the 1922 Act, which reads as under (page 415) : "The amount of a capital gain shall be computed after making the following deductions from the full value of the consideration for which the sale, exchange, relinquishment or transfer of the capital asset is made, namely : (i) expenditure incurred solely in connection with such sale, exchange, relinquishment or transfer ; (ii) the actual cost to the assessee of the capital asset, including any expenditure of a capital nature incurred and borne by him in making any addition or alterations thereto, but excluding any expenditure in respect of which any allowance is admissible under any provision of sections 8, 9,10 and 12 :" (The remaining portion of section 12B is not relevant for our present purpose) While deciding this case, the hon'ble court followed its own decision in the case of CIT v. George Henderson and Co. Ltd. [1967] 66 ITR 622 (SC). It was mentioned that the Legislature has made ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ons of this proviso are not satisfied the main part of section 12B(2) applies and the Income-tax Officer must take into account the full value of the consideration for the transfer." Learned counsel had also relied on the decision of the Delhi High Court in the case of Smt. Nilofer I. Singh [2009] 309 ITR 233. The hon'ble court applied the decision in the case of George Henderson and Co. Ltd. [1967] 66 ITR 622 (SC) and Gillanders Arbuthnot and Co. [1973] 87 ITR 407 (SC). It was held that for the purpose of computing capital gains in such a case as the one before us, there is no necessity for computing the fair market value and, therefore, the Assessing Officer could not have referred the matter to the Valuation Officer. This decision was followed by the hon'ble court in the case of Dev Kumar Jain v. ITO [2009] 309 ITR 240 (Delhi). Coming to the cases relied upon by the learned Departmental representative, the facts of the case of CIT v. L. N. Dalmia [1994] 207 ITR 89 are that the assessee floated a private limited company called LNE. The assessee and his nephew became subscribers to the memorandum and articles of association. The certificate of incorporation was issued by the Reg ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e state of affairs in a case like the one before us. This duty the Tribunal pre-eminently failed to do. Accordingly, the issue set out earlier at No. (ii) involving question No. 2 is answered in the affirmative and in favour of the Revenue." Thus, the ratio of the case is that the appellate authorities can go behind the transaction and examine whether the transaction was required to be undertaken because of valid consideration or not. If not, the loss incurred in the transaction can be ignored. However, we shall deal with this matter later. The learned Departmental representative had also relied on the decision of the hon'ble Delhi High Court in the case of A. S. Bhargava v. CIT [1973] 88 ITR 14. The questions before the court were as under (page 15) : "1. Whether, on the facts and in the circumstances of the case, the Tribunal could hold that a sum of ₹ 30,000 being the face value of three hundred fully paid up shares of Messers. Delhi Gate Services (P) Ltd., was not capital but revenue receipt in the hands of the petitioner liable to tax ? 2. Even if it be held that the aforesaid amount represented revenue receipt, could the Tribunal in law hold that the entire face valu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ideration of the facts and the case law relied upon by the rival parties, we are of the view that the ratio of the decisions in the cases of Gillanders Arbuthnot and Co. [1973] 87 ITR 407, Smt. Nilofer I. Singh [2009] 309 ITR 233 (Delhi) and Dev Kumar Jain [2009] 309 ITR 240 (Delhi) are applicable to the facts of the case. Section 52, containing provisions regarding substitution of fair market value in place of sale consideration, in the case of related parties transactions and understatement of consideration, stand omitted by the Finance Act, 1987 with effect from April 1, 1988. Thus, no ground survives for such a substitution. Therefore, it is also held that the learned Commissioner of Income-tax (Appeals) could not have substituted fair market value of the shares transferred in place of consideration received or accruing. The learned Departmental representative also raised an alternative argument that the transactions were between the related parties. The assessee was a holding company of Hotel Queen Road Pvt. Ltd. Shri R. P. Mittal and his wife were controlling the affairs of both companies. In such a scenario, it was argued that the transaction of sale was not in the normal c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tment would have sunk. Thus, by the said transfer of shares, the appellant not only saved its investment and reduced the liability but also ensured that in due course its remaining investment also gains with returns on investments in the hotel. It was a prudent businessman decision taken under the then prevalent circumstances and commercial expediency. It must be appreciated that it might be that Mr. Mittal was controlling both the companies but as far as the ownership of equity in Hotel Queen Road Pvt. Ltd. was concerned, it was the appellant who was the owner and not Mr.Mittal till the shares were transferred to him so that he actually becomes the owner of the said shares. 2.16 The Assessing Officer did not appreciate the ground reality of the appellant and the then prevalent circumstances that as to why the 23,90,000 and 41,51,648 equity shares were allotted against cash contribution by Hotel Queen Road Pvt. Ltd. to the appellant in 2004-05 at par value if the said shares could be offered in the market at higher value by the said company. Admittedly, the only business being the hotel of the said company was closed for completion of renovation for want of funds. It was in dire n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ; 2.39 crores. Further subscription was made in the year 2005 at Rs. 10 per share at about ₹ 4.15 crores. The original shares and 23,90,000 shares acquired in the years 2002 and 2004 were sold to Shri R. P. Mittal in this year. The hotel was not functional as it was under repairs. The funds for subscription were raised from Shri R. P. Mittal. The further facts are that the shares were valued at ₹ 3.19 per share by the authorised valuer. Though the Revenue challenged the valuation, it has not placed any other valuation report to rebut the value of ₹ 3.19. We have accepted the value of ₹ 20, of course on legal grounds, which has resulted in profit to the assessee on transfer of 23,90,000 shares. There is also dispute about control and management of the company between two rival groups. The assessee was indebted to Shri R. P. Mittal, who had advanced money without stipulation of charging interest. Thus, there is a qualitative difference in the facts of this case and the facts of the case of L. N. Dalmia [1994] 207 ITR 89. In that case, there was no dispute between the shareholders in regard to management of the company. However, as we shall see later while deal ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d that the fresh equity must be allotted before March 31, 2004. A cheque of ₹ 50 lakhs was enclosed with this letter. We may treat these letters as prospectus and offer to make contribution subject to the condition. Hotel Queen Road Pvt. Ltd. responded by letter dated April 4, 2004 through Shri R. P. Mittal, acknowledging receipt of ₹ 2.39 crores by way of various cheques and allotment of 23,90,000 shares at par. It was also mentioned that a right was created in his favour and requisite distinctive numbers of the shares were also mentioned. The share application account shows receipt of the aforesaid amount on various dates between November 12, 2003 and March 4, 2004. The share certificates were handed over to Shri R. P. Mittal on July 27, 2004. The assessee treated these shares as a short-term asset and computed short-term capital gain on transfer of these shares at ₹ 2.39 crores. However, this position was sought to be altered in the course of assessment. In the proceedings, the assessee failed to produce minutes book to support whether any resolution was passed by the board of directors at any point of time for allotment of these shares. We may also add that th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the return of income by counting the period of holding from July 27, 2004. The assessee was required to produce the minutes book, which was not done by stating that there were disputes with the other group of Shri Ashok Mittal because of which the assessee is unable to produce the minutes book. We have considered the facts of the case and submissions made before us. Section 2(42A) defines the term "short-term capital asset" to mean a capital asset held by an assessee for not more than 36 months immediately preceding the date of its transfer. The proviso to this section reduces the period from 36 months to 12 months in case of a share held in a company. The question is whether the assessee held these shares for not more than 12 months from the date of transfer ? None of the contending parties referred to the provisions of the Companies Act in this matter. We have done a bit of research to understand the situation on clearer footing. Under that Act, a contract for allotment of shares stands at par with an executory contract under the Contract Act. An agreement to allot shares or take and pay for shares is specifically enforceable, as held in the case of Sri Lanka Omnibus Co. Ltd. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 5 ; [1959] 29 Comp Cas 282 ; AIR 1959 SC 775 ; Killick Nixon Ltd. v. Bank of India [1985] 57 Comp Cas 831 (Bom-DB). The assessee relies on Board circular (supra), which deals with the transaction carried on at recognised stock exchanges. The broker's note is a third party evidence, which also gets registered with the stock exchange. Thus, these are reliable evidence. However, the whole evidence here is internal and it is not in respect of transaction on a recognised stock exchange. Consequently, the circular or the ratio of the case of Max Telecom Ventures Ltd. v. Asst. CIT [2008] 301 ITR (AT) 90 ; [2008] 114 ITD 46 (Amritsar), based on it, cannot be applied to the facts of this case. On perusal of evidence on record, it can be said that there was an offer made by the assessee-company to Hotel Queen Road Pvt. Ltd. for subscribing to about 22,50,000 shares. However, it was a conditional offer that the allotment must be made before March 31, 2004. This condition has not been satisfied by Hotel Queen Road Pvt. Ltd. It is also a matter of fact on record that the assessee had paid ₹ 2.39 crores to Hotel Queen Road Pvt. Ltd. by March 4, 2004 as share application money. However, i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing the holding of board meeting to consider allotment of shares to the assessee in terms of its conditional offer dated November 11, 2003. The computation of gain as short-term capital gains by the assessee in the return of income by assessee itself negates the content of letter dated April 4, 2004. We are of the view that such a computation was in accordance with the judgment in the case of SN. Zubin George [2004] 265 ITR 683 (Ker). We may add that the assessee has not produced copies of record from the Office of the Registrar regarding allotment of shares and shareholders' register showing the dates on which these shares were added against its name. The absence of these documents, the onus of production of which for substantiating its claim was on the assessee, further weakens the case of the assessee. It may also be added that under the company law "holder of equity shares" is a term synonymous with the "member of the company". Mere allotment of shares in the meeting of the board does not make an investor to be member of the company. He becomes the member only when his name is entered in the shareholders' register after completing necessary requirements under the Companies Act. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s had to be made from outsiders on which interest of about ₹ 22 lakhs was paid. Therefore, there is a nexus between interest paid and interest received. In reply, the learned Departmental representative relied on the order of the learned Commissioner of Income-tax (Appeals). We have considered the facts of the case and submissions made before us. Section 57(iii) is in the nature of a residuary provision, permitting the deduction of any other expenditure (not being in the nature of capital expenditure) laid out or expended wholly and exclusively for the purpose of making or earning such income. This section is analogous to section 37(1) albeit with a narrower ambit, as that provision contains the words "laid out or expended wholly and exclusively for the purpose of making or earning such income" as against the words "laid out or expended wholly and exclusively for the purpose of business". The provision under consideration requires proof of nexus between earning of income and the expenditure. In the case of T. S. Krishna v. CIT [1973] 87 ITR 429 (SC) it was held that payment of wealth-tax did not bear any direct or incidental relationship with earning of dividend income and, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ence. The facts canvassed by learned counsel in our case are that the assessee had raised interest-free loans from Shri R. P. Mittal. The money was advanced to Hotel Queen Road Pvt. Ltd. and interest income was earned on the advances. The loans taken from Shri R. P. Mittal were discharged by repaying the loan from borrowed funds from others raised subsequently. The reason is stated to be that Shri Mittal was demanding return of his loan. Seen in this context, the dominant purpose of borrowings from others was to return the loan taken from Shri R. P. Mittal. This was done to discharge a pre-existing contractual liability. The funds were not borrowed from others to invest them for the purpose of earning the income. Thus, although the borrowings from others may have a remote connection with the lending to Hotel Queen Road Pvt. Ltd., though repudiated by the Revenue, the dominant purpose of the borrowings was not to earn interest income. Therefore, it cannot be said that moneys were borrowed from others wholly and exclusively for the purpose of earning interest income from Hotel Queen Road Pvt. Ltd. Thus, the provision contained in section 57(iii) is not applicable to the facts of the ..... X X X X Extracts X X X X X X X X Extracts X X X X
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