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TMI Blog2010 (11) TMI 718X X X X Extracts X X X X X X X X Extracts X X X X ..... is no material brought on record to show that they were not true whether the entry of the Assessee as beneficial owner of shares in the Depository/Participants register is conclusive that the transaction in question was a sale - It is similar to the presumption of prima facie evidence of title to the shares as contained in Sec.84 of the Companies Act, 1956 regarding certificate of shares and name of the person found on such certificate - It is now well settled that the question as to whether the title from the vendor to the vendee passed entirely depends upon the intention of the parties - In the present case, the parties to the transaction viz., the Assessee and RCIL both of them agree that the shares were given as security by way of pledge for loan given by the Assessee to RCIL and not by way of sale - It can still be shown that no property was intended to pass and that the transaction was really a pledge/bailment Held that: it is not possible to have physical delivery of shares after the DPA but parties are at liberty to show that the delivery of shares by the pawnor to the pawnee by treating the pawnee as beneficial owner in the register of the depository was only by way o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 11366. 8. On 31.3.2004, the Assessee informed RCIL that 50 crores equity shares of Re.1/-each of RIC offered as security by way of pledge for the loan given by the Assessee to RCIL be transferred to the Demat Account of the Assessee held with the Depository Participant, HDFC Bank Ltd., the Client's ID of the Assessee being 42646206 and Depository IDNo. being IN300476. The letter further mentions that the transfer of shares to the above account of the Assessee is by way of pledge and as a security for the loan given by the Assessee to RCIL. 9. On 31.3.2004, the demat account of the Assessee with HDFC Bank Ltd. was credited with 50 Crores shares of face value of Re.1/- of RIC from the Demat account of RCIL with Reliance Capital Ltd. 10. As per section 187C of the Companies Act, 1956, a person, whose name is entered, in the register of members of a company as the holder of a share in that company but who does not hold the beneficial interest in such share, shall, within such time and in such form(Form No.I) as may be prescribed, make a declaration to the company specifying the name and other particulars of the person who holds the beneficial interest in such share. Similar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sessee therefore acquired 50 crores shares of RIC of the face value of Re.1/- at its face value of Re.1/- although the market value as on the date of the transfer of shares were Rs.53.71 Ps. per share. Thus shares of the value of Rs.2685 crores were acquired by the Assessee for just Rs.50 crores. According to the AO in view of the provisions of Sec.2(24(iv) of the Act, the difference between the value of the shares and the value at the which the Assessee purchased the shares, have to be assessed as deemed income in the hands of the Assessee. Sec. 2(24) is as follows: Sec.2(24): Income includes (iv) the value of any benefit or perquisite, whether convertible into money or not, obtained from a company either by a director or by a person who has a substantial interest in the company, or by a relative of the director or such person, and any such paid by any such company in respect of any obligation which, but for such payment, would have been payable by the Director or other person aforesaid. According to the AO, there was a transfer of ownership in shares by way of sale when the Assessee was recognized as beneficial owner by the Depository participant. The legal consequenc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g statement of the client. 16. M/s.Reliance Capital Ltd., vide its reply dated 20.11.06, informed the AO that 1. RCIL applied for dematerilization of 506731900 shares of RIC on 25.3.2004 and on 31.3.2004, 50 crores shares of RIC were transferred to the account of the Assessee. 2. No pledge request in the account of RCIL was received and therefore there was no transaction or report of pledge. 3. The procedure for creating a pledge is laid down by National Securities Depositories Ltd. in bye-law 12.9.1 to 3 of the bye laws and the said procedure was required to be followed by all depository participants. The relevant extract of the bye laws was also given which is as follows: "9.9.1. If a Client intends to create a pledge on a security owned by him, he shall make an application in this regard in the form specified in the Business Rules to the Depository through the Participant, who has his account in respect of such securities. 9.9.2. The pledgor and the pledgee must have an account in the Depository to create a pledge. However, the pledgor and the pledgee may hold an account with two different Participants. 9.9.3. The Participant after satisfaction th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... can device a particular method by which pledge of shares had to be done. The Assessee took a stand that u/s.172 of the Contract Act, 1872, a pledge is bailment of goods as security for payment of debt or performance of a promise. The bailor being the pawnor and the bailee being the pawnee. The Assessee submitted that u/s.148 of the Contract Act, 1872, a bailment is delivery of goods by one person to another for some purpose, upon a contract that they shall, when the purpose is accomplished, be returned or otherwise disposed of according to the directions of the person delivering them. The person delivering the goods is called the "bailor". The person to whom they are delivered is called the "bailee". According to the Assessee the delivery of possession could be actual or constructive. The mode referred to by the AO prescribed in the NSDL bye-laws is constructive delivery and the mode by which the Assessee took delivery was actual delivery. Thus the Assessee submitted that the mode of creation of pledge as claimed by the Assessee was in accordance with law. 3. With regard to the disproportionate quantum of value of security vis- -vis the loan amount, the Assessee submitted that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hall give intimation of such pledge or hypothecation to the depository and such depository shall thereupon make entries in its records accordingly. (3) Any entry in the records of a depository under sub-section (2) shall be evidence of a pledge or hypothecation. 21. Sec.25 of the Depositories Act, 1996 gives power to SEBI to frame rules to carry out the puroses of the DPA 25. Power of Board to make regulations (1) Without prejudice to the provisions contained in section 30 of the Securities and Exchange Board of India Act, 1992, the Board may, by notification in the Official Gazette, make regulations consistent with the provision of this Act and the rules made thereunder to carry out the purposes of this Act. (2) In particular, and without prejudice to the generality of the foregoing power, such regulations may provide for- (d) the manner of creating a pledge or hypothecation in respect of security owned by a beneficial owner under sub-section (1) of section 12; 22. Similarly the Depositories have power to make bye-laws and this is provided in Sec.26 of the DPA: 26. Power of depositories to make bye-laws (1) A depository shall, with the previous ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cumstances of the case and in law, the learned CIT(A) erred in holding that the acquisition of 50 crore shares of Reliance Infocomm Ltd. from Reliance Communication Infrastructure Ltd. by the Assessee as pledge and loan transaction." 2. "On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in holding that the Assessee did not benefit by acquiring the shares of Reliance Infocomm Ltd. from Reliance Communication Infrastructure Ltd. as the transaction of 50 crores shares of Reliance Infocomm Ltd. was a loan and pledge transaction." 3. "On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in directing the assessing officer not to treat Rs.2635/- crore as income of the Assessee u/s. 2(24)(iv) of the Income-tax Act, 1961." 4. "On the facts and in the circumstances of the case and in law, the learned CIT(A) erred in directing the assessing officer not to treat loan transaction as a fa ade created only to justify the transfer of 50 crore shares of Reliance Infocomm Ltd. to the assessee at a price of Rs.1/- per share although the market value thereof was Rs.53.71 per share and in further not holding that this ex ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... m even assuming for the purpose of argument that the Board resolution regarding availing of loan from the Assessee by RCIL and offering shares as security by way of pledge, the form of declaration filed by the Assessee and RCIL in view of provisions of Sec.187C of the Companies Act, 1956, with RIC, the return filed by RIC with the registrar of Companies in view of the provisions of Sec.187C of the Companies Act, 1956, the return of loan by RCIL and transfer of shares again by the Assessee to RCIL, are all genuine, the legal consequence of the Assessee being recognized as the beneficial owner of 50 crores shares of RIC by the depository participant was that he was to be considered as owner for all purposes. Since there was a transfer of ownership in shares on the Assessee being entered as a beneficial owner by the depository participant, the transaction had to be considered as a sale and not as pledge as contended by the Assessee. He submitted that the CIT(A) erred in totally ignoring the binding nature of the regulations of SEBI pointed out by the AO in the order of Assessment. In this regard, he submitted that the regulations and bye-laws pointed out by the AO in the order of asse ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eads as follows: 28. Application of other laws not barred The provisions of this Act shall be in addition to, and not in derogation of, any other law for the time being in force relating to the holding and transfer of securities. 30. It was his submission that the above provisions clearly bring out that the mode of delivery of shares by way of bailment as security viz., by recognizing the pledgee as beneficial owner, after complying with the other procedure under the Companies Act, 1956 is still permissible. According to him the parties to a contract are at liberty to adopt any manner permissible in law. According to him, the intention of the parties cannot be ignored and importance attached to the form or manner in which a transaction has been carried out. It was submitted by him that the transfer of shares in the name of the Assessee as beneficial owner with the depository participant was physical delivery of shares taken by the Assessee as pledgee and not as owner of shares and this fact would be clear if other circumstances viz., the Board resolution regarding availing of loan from the Assessee by RCIL and offering shares as security by way of pledge, the form of de ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .3.2004 when the Demat Account of the Assessee held with the Depository Participant, HDFC Bank Ltd., the Client's ID of the Assessee being 42646206 was credited with 50 Crores shares of face value of Re.1/- of RIC from the Demat account of RCIL bearing ID No.10011366 with the Depository Participant Reliance Capital Ltd. or whether the said transfer was only by way of delivery of possession of shares as security for repayment of a loan availed by RCIL from the Assessee.? In deciding the above question, we have to delve on the following aspects. a) What is the mode of creating pledge of shares prior to the DPA? How sale of shares is effected? b) With the introduction of the concept of dematerialization of share certificate and holding them in dematerialized form, whether the only mode in which a pledge can be created is in accordance with the provisions of Sec.12 of the DPA and the rules and regulations made under the DPA? How sale of goods Act, 1930 would apply in the light of the DPA to shares held in dematerialized form? c) Whether the parties are liberty to show, notwithstanding the fact that a person is shown as beneficial owner in the register of a depository partic ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or agrees to transfer the property in goods to the buyer for a price. There may be a contract of sale between one part-owner and another. (2) A contract of sale may be absolute or conditional. (3) Where under a contract of sale the property in the goods is transferred from the seller to the buyer, the contract is called a sale, but where the transfer of the property in the goods is to take place at a future time or subject to some condition thereafter to be fulfilled, the contract is called an agreement to sell. (4) An agreement to sell becomes a sale when when the time elapses or the conditions are fulfilled subject to which the property in the goods is to be transferred. 35. The expression Contract of sale is a generic term comprising both executory and executed contracts of sale. When the contract is executory it is called "Agreement to sell". A sale is effected only when in pursuance of contract of sale the transfer of property in the goods takes place on payment of the price. Thus it is only when there is transfer of ownership in goods from the seller to the buyer that a sale is complete. Sec. 19 of the Sale of Goods Act, 1930 lays down that Property passes wh ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ted by delivery of share certificates, with or without instrument of transfer duly signed by the owner of the shares either in blank or in favour of the pawnee, as security for repayment of a debt availed or to be availed. II. The Depositories Participants Act, 1996: (DPA) 39. With a view to regulate depositories in securities and for matters connected therewith or incidental thereto, the Parliament passed DPA, which came into force on 20/9/1995. The DPA introduced the concept of holding securities/shares in dematerialized form rather than in physical or material form. Dematerialization is the process by which holding of physical share certificate is converted into an electronic record. Just as a bank holds ones money in a savings account, the record of ones share holdings is held by an institution called a depository. Since demat shares are an electronic record, they cannot be fake as was the case when shares were held in physical form. There is no question of bad delivery. One need bother about the safe custody of shares because there do not exist physically. Because they are in electronic form, there is nothing like the concept of marketable lot-even one share can be bou ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... me of the depository actually holding them, the rights, benefits and liabilities in respect of the securities held by the depository remain with the beneficial owner. For the securities dematerialized, NSDL/CDSL is the Registered Owner in the books of the issuer; but ownership rights and liabilities rest with Beneficial Owner. All the rights, duties and liabilities underlying the security are on the beneficial owner of the security. Every depository shall maintain a register and an index of beneficial owners in the manner provided in sections 150, 151 and 152 of the Companies Act, 1956. The DPA does not make dematerialization of shares mandatory. A beneficial owner of shares held in dematerialized form can opt for having physical form of shares and vice versa. But if one wants to sell the shares through the stock market, then they have to dematerialize their holding into electronic form. 41. In our case, the "registered owner" of the shares in question is NSDL. The "issuer" is RIC. HDFC Bank Ltd., and Reliance Capital Ltd., are the "depository participants". The beneficial owner is the Assessee or RCIL respectively. 42. Under the DPA shares are not held in physical form. DP ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... shares are in fungible form and therefore there is no distinctive numbers and therefore a proviso to Sec.83 was introduced to highlight this aspect. In section 111A the Companies Act, for sub-section (3), the following sub-section was substituted, namely:- "(3) The Company Law Board may, on a application made by a depository, company, participant or investor or the Securities Exchange Board of India, if the transfer of shares or debentures is in contravention of any of the provisions of the Securities and Exchange Board of India Act, 1992, or regulations made thereunder or the Sick Industrial Companies (Special Provisions)Act, 1985, or any other law for the time being in force, within two months form the date of transfer of any shares or debentures held by a depository or from the date on which the instrument of transfer or the intimation of the transmission was delivered to the company, as the case may be, after such inquiry as it thinks fit, direct any depository or company to rectify its register or records." The entry of a name in the register of depository is also subject to rectification by the Company Law Board under the provisions of Sec.111A(3) of the Companies ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he present case, it is the claim of the Assessee that it has taken physical possession by having his name registered as beneficial owner but in law he holds the securities/share only as pawnee and that RCIL is the beneficial owner of the security. Whether this claim of the Assessee can be accepted and if yes, whether legally it is permissible? 47. The claim of the Assessee in this regard, we must hold is in accordance with the Companies Act, 1956 wherein the formalities regarding the declaration to be made u/s.187C have been duly complied with. The claim of the revenue is that that there is absence of contemporaneous third party evidence because Form No.I and II required to be filed by the person (Assessee) who has been shown as holding beneficial ownership and the person who is the beneficial owner but who is not shown so in the register of members (RCIL) were to be given to the RIC and all were group companies in which Assessee was Director/Manging Director. RIC had to file Form No.III within 30 days of receipt of Form No.I and II with the registrar of companies and this had been done after a delay of more than 8 months. Though the Assessee, RCIL and RIC are part of the same ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... c.195 of the Companies Act, 1956 minutes of a meeting of Board of Directors are presumed to be true until the contrary is proved and it shall be presumed that the meeting has been duly called and held and all proceedings thereat to have duly taken place. The meeting of the Board of Directors of RCIL and resolution passed on 13.3.2004 as recorded therein authorizing the borrowing of monies by RCIL from the Assessee have therefore to be presumed to be true and there is no material brought on record to show that they were not true. 48. This takes us to the question as to whether the entry of the Assessee as beneficial owner of shares in the Depository/Participants register is conclusive that the transaction in question was a sale. Under Sec.84 of the Companies Act, 1956, a certificate, under the common seal of the company, held by any member, shall be prima facie evidence of the title of the member to such shares. There is no provision in the DPA about an entry in the register of a depository as beneficiary owner of shares. Sec. 10 of the DPA provides regarding Rights of depositories and beneficial owner. It lays down as follows: (1) Notwithstanding anything contained in any o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o is actually entitled to rights over the shares. Such questions are decided in summary proceedings under the Companies Act, 1956 and if complicated questions of facts/law arise the parties are relegated to a civil suit. These provisions only show that entry as beneficial owner in the register of depositories is not conclusive regarding ownership of the securities. As regards third parties, who act bona fide on the basis of entry in the depository as beneficial owner, then the real owner cannot claim rights over the securities as against them. As between the real owner and the beneficial owner of the securities entry in the register of depository is not conclusive. 50. In the present case, the parties to the transaction viz., the Assessee and RCIL both of them agree that the shares were given as security by way of pledge for loan given by the Assessee to RCIL and not by way of sale. The revenue however wants to treat the transaction as a sale and a very important circumstance on which it relies is the fact that the Assessee's name is found as a beneficial owner of the shares in the register of beneficiaries with the depository. Even assuming that the legal consequence of the na ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e Assessee held shares not as beneficial owner but as Pawnee as security for repayment of debts? What is the veracity of the claim of the Assessee regarding existence of a pledge, especially in the light of the allegation of the AO that the purported transaction of loan of Rs.50 crores is not supported by any contemporaneous third party evidence nor is it grounded on commercial reality and the further allegation that the parties to the transaction were group companies whose control was management was in the hands of the Assessee. The only third party evidence of filing the return u/s.187C of the Companies Act, 1956 with the ROC which was filed late by about 8 months. The answer to this question is contained in the discussion in paras-47 to 50 of this order. d) To create a pledge of shares is it still possible to have physical delivery of shares after the introduction of the concept of dematerialization of shares and whether to this extent do the provisions of Sec.172 of the Contract Act, 1872 stand modified? The answer to the first part of the above question is that it is not possible to have physical delivery of shares after the DPA but parties are at liberty to show t ..... X X X X Extracts X X X X X X X X Extracts X X X X
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