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TMI Blog2017 (11) TMI 632X X X X Extracts X X X X X X X X Extracts X X X X ..... on interest on a higher level of borrowings. An analogy, to our mind, would be a firm (or any entity) claiming depreciation on the enhanced value of an asset, otherwise eligible for depreciation under the Act, using the tax neutral event of succession, as u/s. 47(xiii), for the purpose. The ld. CIT(A) clearly has misdirected himself in the instant case. We, in view of the foregoing, accordingly, uphold the AO’s action qua the disallowance of the interest (premium) on the debentures, i.e., as relatable to the revaluation of land by the successee firm, Kali Material Handling Systems. Reopening of the assessments - Held that:- In the facts of the case, the returns for the relevant years, i.e., AYs. 2008-09 and 2009-10, were only processed u/s. 143(1), which procedure bars the examination of the assessee’s return or the claims preferred thereby, with as much as even the prima facie adjustments, i.e., on the basis of a return and the accompanying material, also barred w.e.f. 01.06.1999. The disallowance under reference, as afore-stated, is even otherwise not a subject matter of a prima facie adjustment, entails as it does, a complete understanding and knowledge of the primary fac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dgmentcum- notice in respect of the appeals filed by the Revenue is stated as received on 06.08.2015. It was pleaded by the ld. Authorized Representative (AR), Shri T.Banusekar, that it was while preparing for the appeals in the first week of January, 2016, that he realized that the reopening of the assessment could also be challenged. The Cross Objections were accordingly filed on 01.02.2016. A perusal of the case record reveals that the hearing of the Revenue s appeals was fixed for the first time in July, 2015, and on regular intervals thereafter; the relevant dates being 22.07.2015, 29.09.2015, 30.09.2015 and 08.12.2015, i.e., prior to 01.02.2016. On each of these occasions, except 30.09.2015, the assessee sought adjournment through the ld. AR (copy on record). Firstly, therefore, the appeal papers were communicated to the assessee on 16.06.2015, i.e., as per the acknowledgment-cum-notice on record, so that the delay would run from 16.07.2015 onwards, working to 200 days. Why, the authorization on record for representing before the Tribunal (in the favour of its counsel) is dated 18.7.2015, with the first adjournment by the counsel being sought on 22.07.2015. It is clear that ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , formed on conversion of a partnership firm M/s. Kali Material Handling Systems, on 01.04.2007. Prior to the conversion, in March, 2007, the said firm revalued its land, increasing its value by ₹ 202.8 lacs, crediting ₹ 67.6 lacs to each of the three partners. Each of the partners was then paid ₹ 1.1 cr. by the firm by overdrawing on its bank account, which amount was debited in the books of the firm to their respective capital accounts, reducing the capital of the firm to that extent, i.e., ₹ 3.30 cr. This money was deposited by them in their saving bank (s/b) accounts, where it stood parked as on 31.03.2007, and continued to be so up to 27/6/2007, whereat the same was brought back to the firm (since converted into a company the assessee), issuing them debentures (partly convertible and partly non-convertible) for an aggregate of ₹ 1 cr. each, i.e., for ₹ 3 cr. In the view of the Assessing Officer (AO), there was no fresh infusion of funds to the extent of ₹ 202.8 lacs. He, accordingly, disallowed 2/3 of the assessee s claim for the proportionate premium for the relevant year/s. These facts came to light in the course of assessment pro ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ses for being answered in the present case. 5. We have heard the parties, and perused the material on record. 5.1 We shall take up the disallowance of (proportionate) interest (premium) on debentures, i.e., the merits of the issue, first. This is as the same is in any case to be decided, i.e., for AYs 2010-11 2012-13, and which would though hold for all the four years, being independent of the legal issue, raising a jurisdictional question. The ld. CIT(A) has regarded the withdrawal of their capital by the erstwhile partners of the firm as a simple case of reduction in the firm s capital, i.e., to the extent of the withdrawal. That is, as independent of the revaluation by the firm of it s land, so that the AO had been unduly influenced by the said revaluation, i.e., of one of its capital assets by the firm. Delinking the two, i.e., the credit on account of revaluation and withdrawal by the partners of their capital, it is a clear case of succession of a firm by a company, which is not regarded as a transfer u/s.47(xiii), subject to the satisfaction of the conditions stated therein, principally being the taking over of all the assets and liabilities of the successee-firm by ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the total voting power in the company and their shareholding continues to be as such for a period of five years from the date of the succession; ( e) the demutualisation or corporatisation of a recognised stock exchange in India is carried out in accordance with a scheme for demutualisation or corporatisation which is approved by the Securities and Exchange Board of India established under section 3 of the Securities and Exchange Board of India Act, 1992 (15 of 1992); We may exhibit this by way of an example, assuming (for the sake of simplicity) land as the only capital asset of the firm: Table 1A Liabilities (Rs.) Assets (Rs.) Capital 2000 Fixed Assets Land 1000 Net Current Assets (NCA) (current assets current liabilities) 1000 Total 2000 Total 2000 Clearly, any withdrawal up to ₹ 2,000/- (by assuming bank credit, or from other sources), depicted as under, would only imply ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (Rs .) Capital 6000 Fixed Assets 5000 Net Current Assets (NCA) 1000 Total 6000 Total 6000 Table 2B Liabilities (Rs .) Assets (Rs .) Capital Nil Fixed Assets 5000 Bank Borrowings 6000 Net Current Assets (NCA) 1000 Total 6000 Total 6000 Now, surely if this (Table 2B) position obtains as on 31st March, i.e., immediately prior to the conversion, any introduction of (up to) ₹ 6,000/- could not be said to be non-infusion of funds, the new borrowings (from the erstwhile partners) going to either finance acquisition of further assets and/or repayment of the firm s borrowings to any extent. There should apparently be therefore no disallowance of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e partners) on infusion of funds to the extent of ₹ 4,000/- (in our example). As afore-noted, any infusion (of funds by the directors) in excess of ₹ 4,000/-, in either case, may be eligible to the regarded as, as per the terms of the introduction, either capital or borrowing, with the interest on the latter being ostensibly entitled for deduction in case of a company. We may, therefore, state that the impugned order, in which the assessment order has since merged, requires to be modified to state that only infusion in excess of the deficiency in capital (what had been earlier referred to by us as negative capital), ₹ 4000 in our example, that may arise if the capital is reckoned without revaluation in-as-much as the same is only a case of withdrawal of the firm s resources in excess of the contribution thereto, appropriating thus the liability of the firm, would be entitled to deduction on account of interest. We shall revert to Table 3B subsequently as well. We may now dwell on certain aspects arising for consideration, enumerated earlier. The credit of the revaluation of the partner s capital account is inconsistent with the partnership law. This is as no pa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dmissible under the Act as well, which regards partnership as a different person, separate and distinct from the partners, so that the transfer of an asset by one to the other is liable for capital gains u/s. 45. In view of the clear bar on such a credit, the question of its withdrawal does not arise . This in fact is also the accounting prescription for any business enterprise. The credit, on revaluation, which may be undertaken for any business purpose, is to a separate account titled revaluation reserve . The same is barred for being withdrawn . Reference in this regard may be made to para 13 of the Accounting Standard (AS)-10, titled Accounting for Fixed Assets , issued by the Institute of Chartered Accountants of India, the more relevant part of which reads as under: 13.3 The revalued amounts of fixed assets are presented in financial statements either by restating both the gross book value and accumulated depreciation so as to give a net book value equal to the net revalued amount or by restating the net book value by adding therein the net increase on account of revaluation. An upward revaluation does not provide a basis for crediting to the profit and loss statem ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... revaluation (i.e., even granting the credit) suffers from another basic infirmity in law as well as accounts the mandate of both of which we have afore-noted, and which becomes apparent when one considers as to what does the same represent, also explaining indirectly the premise of the revaluation of a capital asset for an economic entity. The asset, land in the present case, continuing to be a part of the firm s assets, how, one wonders, could the credit of revaluation be withdrawn on payment of funds to the partners? Each accounting entry represents the relevant transaction; its purport, and considered along with the narration thereto, the purpose thereof. The credit on account of revaluation represents a part of the value of the relevant asset . The only manner, therefore, whereby the said credit could be debited (neutralized) or diminished is by transfer of the said asset to a partner/s withdrawing it from the firm in whole or in part, as explained earlier in the context of dissolution of a partnership or retirement of a partner/s therefrom. It could not be otherwise. For example, if 50 per cent. of the land is transferred to a partner/s, his account/s would stand debited ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... transferring a capital asset; the partners being credited the difference between the market (transfer) value and the book value, and, then withdraw their capital. This, where coupled with a reorganization of the firm, i.e., introduction and retirement of partner/s, even if in a graded manner, amounts to a change of ownership through the medium of partnership. The practice stands cautioned against time and again by the Hon'ble Apex Court per its decisions prior to the introduction of ss. 45(3) and 45(4) (of the Act), while at the same time confirming that there could be no transfer of an asset between a firm and its partners, who have an undefined share in each of them, inasmuch as the exclusive interest of a partner gets converted into a shared interest, the same is not chargeable to capital gains u/s. 45 (viz. Sunil Siddarthabhai v. CIT [1985] 156 ITR 509 (SC) on which reliance is placed). The withdrawal of capital attributable to a fixed asset, intended to be retained as part of the capital structure of the firm, amounts to it s monetization by the partners for their personal purposes, and is clearly impermissible, both from the stand-point of credit to the partner s c ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... a business entity, credit on account of which and its subsequent withdrawal is the issue in the present case , we yet consider it relevant to state this as it may well be that revaluation in a given case is resorted so as to not reflect negative capital on account of operational losses, since financed by bank borrowings. The bank borrowings in such a case represent financing of such losses; the firm s capital being insufficient to absorb the same. There is no depletion or withdrawal of capital by the equity holders, as in the present case, in such a case. The inference of the borrowing (debentures) as being not against revaluation reserve (funds) by the ld. CIT(A) is clearly misplaced; in fact, contrary to the basic facts of the case. This in fact is precisely why the same has been regarded as not genuine by the Revenue, a gimmick, and, in any case, not relating to the business of the assessee. We have already shown the modus operandi adopted as being in violation of the accounting principles and the partnership law. The same is also proscribed under the Act, being inconsistent with the clear terms of the relevant provision (s.36(1)(iii)), which allows interest only on the borro ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ugh clearly in the negative, and for the same reasons discussed at length in this order. It is only the partner s capital, which is by definition the positive difference between the firm s assets and liabilities, which could be regarded as the firm s capital, on which deduction of interest, subject to the relevant conditions, is allowable under the Act (s. 36(1)(iii) r/w. s. 40(b)(iv)). The firm s assets are recorded at cost, defined u/s. 43(1), subject to the exceptions laid u/s. 43A and proviso to s. 36(1)(iii). The same, as shall be noted, are largely in agreement with the accounting standards, being AS-10. It is in view of this settled position of law that we also endorse the AO s construing the assessee s claim, referring to McDowell Co. Ltd. (supra), as largely an exercise in tax evasion. The revaluation in the present case has no purpose except to claim tax deduction on interest on a higher level of borrowings. An analogy, to our mind, would be a firm (or any entity) claiming depreciation on the enhanced value of an asset, otherwise eligible for depreciation under the Act, using the tax neutral event of succession, as u/s. 47(xiii), for the purpose. The ld. CIT(A) clea ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee s return or the claims preferred thereby, with as much as even the prima facie adjustments, i.e., on the basis of a return and the accompanying material, also barred w.e.f. 01.06.1999. The disallowance under reference, as afore-stated, is even otherwise not a subject matter of a prima facie adjustment, entails as it does, a complete understanding and knowledge of the primary facts leading to the issue of the debentures to the directors of the assessee-company, who, as it transpires, are the erstwhile partners of the successee-firm. And, accordingly, there is no question on either formation of reason to believe or an opinion by the AO in the matter, and which, as apparent from its reading, guided the decision in TANMAC India (supra). Rather, as afore-stated, any issue of notice u/s. 148 without the knowledge of the relevant facts would be violative of s.147, being not supported by any reason/s to believe. The charge of change of opinion, which is the basis of the assessee s legal plea, is misplaced in view of the admitted position that the relevant facts along with the materials came to light only during the course of the assessment proceedings for AY 2010-11. Furthe ..... X X X X Extracts X X X X X X X X Extracts X X X X
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