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TMI Blog2001 (10) TMI 49X X X X Extracts X X X X X X X X Extracts X X X X ..... version of equity shares into preference shares, at par? 3. Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that, as per rule 10(2) of the Gift-tax Rules, the value of the equity shares as well as the preference shares, would be the same? 4. Whether, on the facts and in the circumstances of the case, the Tribunal was correct in law in holding that the value of the assets of the assessee had not decreased 'in globo'?" The dispute relates to the assessment year 1971-72. The factual position, in a nutshell, is as follows: The assessees, respondents in the references, were the holders of equity shares of the face value of Rs.100 per share in Hari Bros. (P.) Ltd. (hereinafter referred to as "the company"). They held different number of shares totalling 2,000. The original number of equity shares held by each of these persons was only 250 and the increase to 2,000 shares had taken place, as a result of the issue of 1,750 bonus shares. The company was incorporated on March 2, 1995 (?), and its paid-up capital was Rs.2 lakhs consisting of 2,000 shares of Rs.100. As indicated above, 250 equity shares were allotted in cash and sub sequ ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eference shareholders, they will have a preferential right both as to the dividends as well as to the payment of capital. It was also pointed out that after the managing agency system came to an end in December, 1969, the company had only one immovable property in occupation of the shareholders as their residence and the company may have to surrender a substantial part of the property to the Government under the urban land ceiling law. This would considerably lower the value of the equity shares. The act of conversion was a unilateral action by the company and the shareholders did not part with their equity shares, for preference shares, in favour of any third party. In essence, it was contended that the conversion cannot be held to be a transaction resulting in a gift. The Assessing Officer rejected the contentions. It was his stand that valuable rights were attached to the equity shareholders such as the right to vote and the right to a higher rate of dividend, which was not available to the preference shareholders. It was held that a transaction entered into with the intent to diminish the value not of some property which is transferred to another person, but of the donor's own ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nterest of each of these assessees in such companies; the conclusions of the Revenue authorities that the intent was to diminish the value of the property was not established; this could also be not inferred from the mere fact that a transaction had the ultimate result of diminishing the value in such property. So far as the conversion of the equity shares into preference shares was concerned, the Tribunal held that it was merely of academic interest, as it had already been held by it that the conversion of the shares did not give rise to any gift. Even otherwise in working out the break-up value, the only property owned by the company had not been properly valued as the overriding charge in favour of Smt. Krishna Devi Dalmia and the share of unearned increase in the value of the land payable to the President of India had not been taken into account; the Assessing Officer had totally ignored the fact that preference shares are cumulative preference shares with a right to participate in the surplus of assets in the event of liquidation of the company and further the Assessing Officer had not taken note of rule 10(2) of the Gift-tax Rules, 1958 (in short, "the Rules"), under which th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s held by the assessees were transferred to the company and the assessees in exchange or as consideration for this transfer received cumulative preference shares. This cannot be treated as a unilateral transaction. Two parties were involved. The rights of preference shareholders are not the same as those of equity shareholders, therefore, the assessees had given up several rights, which were available as the equity shareholders. Though the Tribunal held that rule 10(2) of the rules could have been made applicable and even if it was held that the valuation made by the Assessing Officer was at a higher figure that per se was not a ground to accept the assessees' contention regarding non-increase in the value. Rule 10(2) is not mandatory and the manner of calculation of market value is not stated in rule 10(2). Rules of valuation are procedural in nature and have to be given retrospective effect. Schedule II to the Act was inserted by the Direct Tax Laws (Amendment) Act, 1989. The said Schedule incorporated as procedural rule partakes of the character of a rule of evidence, therefore, Schedule II is applicable to all pending proceedings and could have been applied. The stand of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e the property is transferred to the Government or where the value of the consideration for the transfer is determined or approved by the Central Government or the Reserve Bank of India; (b) where property is transferred for a consideration which, having regard to the circumstances of the case, has not passed or is not intended to pass either in full or in part from the transferee to the transferor, the amount of the consideration which has not passed or is not intended to pass shall be deemed to be a gift made by the transferor; (c) where there is a release, discharge, surrender, forfeiture or abandocument of any debt, contract or other actionable claim or of any interest in property by any person, the value of the release, discharge, surrender, forfeiture or abandonment, to the extent to which it has not been found to the satisfaction of the Assessing Officer to have been bona fide, shall be deemed to be a gift made by the person responsible for the release, discharge, surrender, forfeiture or abandonment; (d) where a person absolutely entitled to property causes or has caused the same to be vested in whatever manner in himself and any other person jointly without adequate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ictive provision as to the alienation of shares, the value of the shares, if not ascertainable by reference to the value of the total assets of the company, shall be estimated to be what they would fetch if on the date of gift they could be sold in the open market on the terms of the purchaser being entitled to be registered as holder subject to the articles, but the fact that a special buyer would for his own special reasons give a higher price than the price in the open market shall be disregarded." It is to be noted that shares are goods and movable property as provided in section 2(7) of the Sale of Goods Act, 1930 (in short "the Sale Act"). Section 2(46) of the Companies Act defines "shares" as share capital of the company and that the shares or any other interest of any member in a company shall be movable property, transferable in the manner provided by the articles of association of the company in terms of section 82 of the Companies Act. In CIT v. Standard Vacuum Oil Co. [1966] 59 ITR 685 it was observed by the apex court that a share is not a sum of money alone but represents interest of the share holders, measured in a sum of money and made of diverse rights contained ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ny property is transferred otherwise than for adequate consideration, it will amount to a gift. Under clause (c) release, discharge, surrender, forfeiture or abandonment of any interest in the property, which is not bona fide is also deemed to be gift, In Khoday Eswarsa and Sons v. CGT [1990] 186 ITR 388 (Kam), it was observed that the term "gift" under the Act is much wider than under section 122 of the Transfer of Property Act, 1882 (in short, "the TP Act"). Under section 6 of the Act, the value of any property or price is that which in the opinion of the Assessing Officer, it would fetch, if sold in the open market. As observed by the apex court in Jagatram Ahuja v. CGT [2000] 246 ITR 609, the word "transaction" in clause (d) of section 2(xxiv) of the Act takes its colour from the main clause, i.e., it must be a transfer of property, in some way. The words disposition, conveyance, assignment, settlement, delivery and payment are all used to indicate some kind of transfer of property. The definition of "transfer" in section 2(47) of the Income-tax Act is not an exhaustive definition. Clause (i) speaks of sale, exchange or relinquishment. In Kartikeya V. Sarabhai's case (1997] 228 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and mismanagement; (e) Right to move the court for winding up; and (f) Share surplus on winding up of the company. The value or market price of equity shares and preference shares of the same company will be different as a preference shareholder does not have the same rights in a company as an equity shareholder. An equity shareholder has the right to elect the directors and through them participate in management. A preference shareholder does not have the right to elect directors and essentially there is no participation in the management. An equity shareholder has the right to vote on each resolution in a general body meeting of the share holders and in case of poll his voting right is in proportion to the shares of the paid-up equity capital of the company. A preference shareholder does not have the right to vote in respect of all resolutions; he has the right to vote only on resolution, which directly affect rights attached to the preference shareholders. It is only if the dividend due on cumulative preference shares remains unpaid for an aggregate period of not less than two years preceding the date of commencement of meeting that a cumulative preference shareholder g ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t the issue of bonus shares results in the reduction of the market value of the shares. Though the number of shares held by the assessee increases the total market value remains the same. This is because the rights of the shareholders, even after the issue of bonus shares, remain the same. The inevitable conclusion is, therefore, that on conversion of equity shares, held by the assessees, to preference shares, there was a transfer of property amounting to gift within the meaning of section 2 (xii) of the Act. The residual and the more important question is whether the valuation aspect has been properly dealt with by the Tribunal. It is to be noted that rule 10(2) comes into picture where the articles of association of a private company contain restrictive provision as to the alienation of shares. The value of the shares, if not ascertainable by reference to the value of the total assets of the company, shall be estimated to be what they would fetch, if on the date of gift they could be sold in the open market on the terms of the purchaser being entitled to be registered as a holder subject to the articles, but the fact that a special buyer would for his own reasons give a higher ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r; it has to choose one of them, which according to it is more appropriate. The rule making authority in the concerned rule, i.e., rule ID, has prescribed the break-up method, which is undoubtedly one. of the recognized methods of valuing unquoted equity shares. It was further held that even if it is assumed that there was another method available, which was more appropriate, still the method chosen cannot be faulted so long as the method chosen is one of the recognised methods, though less popular. It is to be noted that prior to the amendment by the Direct Tax Laws (Amendment) Act, 1989, with effect from April 1, 1989, section 6 of the Act had a sub-section (3) which read as follows: "6. (3) Where the value of any property cannot be estimated under sub-section (1) because it is not saleable in the open market, the value shall be determined in the prescribed manner." Undisputedly the shares in question were not saleable in the open market. Sub-section (3) of section 6 of the Act is in pari materia with sub-section (3) of section 7 of the Wealth-tax Act, which was under consideration in Bharat Hari Singhania's case [1994] 207 ITR 1 (SC). Applying the principles laid down in th ..... X X X X Extracts X X X X X X X X Extracts X X X X
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