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TMI Blog2005 (9) TMI 229X X X X Extracts X X X X X X X X Extracts X X X X ..... e assessee claimed through his letter dated 5-9-1996 that these shares were held by her uncle since 1968 or even earlier. For the purpose of computation of long-term capital gain, the cost of acquisition of original shares was opted by the assessee for the fair market value as on 1-4-1981, as per section 55(2)(b)(1) of the Income-tax Act (hereinafter called as an 'Act'). In support of his calculation of fair market value, the assessee submitted the valuation report of Mr. P.C. Hansotia & Co., who adopted the yield method taking into account the profits of three preceding years prior to 1-4-1981 i.e., year ending 30-6-1978, 30-6-1979 and 30-6-1980. He, accordingly, calculated the value of each share at Rs. 3,656 as fair market value as on 1-4-1981 for the original equity shares. Since the bonus shares were issued on the original equity shares at 1:1 basis, the assessee arrived at the average cost of both original as well as bonus shares at Rs. 1,828 per share. Applying cost of inflation index separately to the original shares and the bonus shares issued on 19-5-1989 the cost of acquisition of original shares was arrived at Rs. 4,21,372. The cost of acquisition for bonus shares was a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... reversed so far. With regard to its applicability to the income-tax proceedings, the learned DR has contended that in the Income-tax Act no procedure or the guidelines has been laid down as to how unquoted shares are to be valued for the purpose of computation of capital gain. The learned DR further invited our attention to the provisions of section 55A of the Income-tax Act in which a reference was made to ascertain the fair market value of a capital asset for the purpose of computation of income from capital gains with the submissions that when a reference is made to a DVO the relevant provisions of Wealth-tax Act are applicable. Meaning thereby, the provisions of the Wealth-tax Act are applicable whenever no specific provision is laid down under the Income-tax Act. Since the fair market value of the shares as on 1-4-1981 is to be determined in order to compute the capital gain, the formula laid down in the Wealth-tax Act for determining the fair market value of the unquoted shares should be adopted. Before the introduction of rule 1D to the Wealth-tax Rules, different methods were being adopted by the assessee to determine the fair market value as it was held by the Apex Court i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1981? The method of determination of market value of unquoted shares was examined by the Apex Court in the cases of Mahadeo Jalan and Smt. Kusumben D. Mahadevia and in those cases it has been held by the Apex Court that the unquoted shares can be valued as per dividend yield method. But, later on the controversy arose before the Apex Court in the case of Bharat Hari Singhania wherein the validity of rule 1D and its applicability was challenged. After upholding the validity of rule 1D their Lordships of the Apex Court have dealt with the controversy about the applicability of rule 1D and held that the unquoted equity shares are to be valued as per break up method. Their Lordships of the Apex Court have examined this issue in the light of earlier judgments of the Apex Court in the cases of Mahadeo Jalan and Smt. Kusumben D. Mahadevia, CGT v. Executors & Trustees of the Estate late Shri Ambalal Sarabhai [1988] 170 ITR 144 (SC). Their Lordships have categorically held that rule 1D has necessarily to be followed and WTO has no option either to follow or not to follow the same and the question whether the Rule is mandatory or directory does not arise. While dealing with the other methods ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tions added to the above Rules which make them highly cumbersome and time consuming. The WTO has to examine the facts and circumstances of each case including the nature of the business, prospects of the profitability and similar other considerations before finally determining whether to apply the dividend method, yield method or whether break up method should be followed. There may be cases where an assessee may be holding shares of large number of private companies or public limited companies whose shares are not quoted. Their Lordships have commented that compared to them, break up method incorporated in rule 1D is fair, simpler and fair, less time consuming. It prescribes simple uniform method, to be followed in all cases. The WTO has to take the balance sheet, delete some items from the columns relating to assets and liabilities as directed by the Explanation II and then apply the formula contained in the Rules. He need not have looked into the profitability, earning capacity and the various other factors mentioned in propositions 2,3 and 4 of the decision. Their Lordships further held that under these circumstances, it is, difficult to agree with the learned counsel for the a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... shall', which prima facie indicates its mandatory character. Two decisions of this Court constitute the bed-rock upon which are founded the several submissions of the learned counsel for the assessees. They are CWT v. Mahadeo Jalan [1972] CTR (SC) 395 : [1972] 86 ITR 621 (SC) and CGT v. Kusumben D. Mahadevia [1980] 14 CTR (SC) 366 : [1980] 122 ITR 38 (SC). It is, therefore, necessary to examine the ratio of the said decisions to find out whether they do in fact support their contentions. Mahadeo Jalan was concerned with assessment years 1957-58 and 1958-59. Rule 1D was not in force at that time. The assessee owned shares in certain private limited companies which had to be valued for determining the assessee's wealth. The question referred to the High Court under section 66(1) of the Indian Income-tax Act, 1922 was: "whether, on the facts and in the circumstances of the case, the principle of 'break up value' adopted by the Tribunal as the basis for the valuation of the shares in question is sustainable in law". At the relevant time, sub-section (1) of section 7 read differently. It provided that "the value of any asset, other than cash, for the purposes of this Act, shall be esti ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... all in the price of quoted shares of companies which have suffered similar reverses. (5) Where the company is ripe for winding up then the break up value method determines what would be realised by that process. (6) As in Attorney General of Ceylon v. Mackie [1952] 2 All ER 775 (PC) a valuation by reference to the assets would be justified where as in that case the fluctuations of profits and uncertainty of the conditions at the date of the valuation prevented any reasonable estimation of prospective profits and dividends." In setting out the above principles, we have not tried to lay down any hard and fast rule because ultimately the facts and c circumstances of each case, the nature of business, the prospects of profitability and such other considerations will have to be taken into account as will be applicable to the facts of each case. But, one thing is clear, the market value, unless in exceptional circumstances to which we have referred, cannot be determined on the hypothesis that because in a private limited company one holder can bring it into liquidation by the break up method is one resorted to in exceptional circumstances or where the company is ripe for liquidation b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... basis. It is worth pointing out that it is not the dividends declared that is the basis but the "dividends reflecting the profit earning capacity on a reasonable commercial basis". It is then stated that if the dividends declared do no reflect the profit earning capacity on a reasonable commercial basis, one has to adopt the 'earning method', which is explained as meaning "the profits which the company has been making and should be making". It is then stated that if the results of two methods (dividend method and earning method) differ, "an intermediate figure may have to be computed by adjustment of unreasonable expenses and adopting a reasonable proportion of profits". One need not emphasise the amount of investigation the WTO has to do in each case and an assessee may own shares in any number of companies. This is not all. Where in a private limited company, disproportionate expenses are incurred, such disproportionate expenses have to be added back to the-profits of the company in computing the yield. Again, in a case where dividend and earning methods break down "by reason of the company's inability to earn profits and declare dividends" and "if the set back is temporary", the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ntained in the rule. He need not have to look into the profitability, the earning capacity and the various other factors mentioned in propositions (2), (3) and (4) of the decision. The decision, it bears repetition, recognizes that break up method "nonetheless is one of the methods". In the circumstances, it is difficult to agree with the learned counsel for the assessees either that break up method is not a recognized method or that yield method is the only permissible method for valuing the unquoted equity shares. It is not as if the rule making authority has adopted a method unknown in the relevant circles or has devised an impermissible method. There is no empirical data produced before us to show that break up method does not lead to the determination of market value of the shares. Merely because yield method may be more advantageous from the assessee's point of view, it does not follow that it alone leads to the ascertainment of true market value and that all other methods are erroneous or misleading. This aspect we have emphasised hereinbefore too. The decision in Kusumben D. Mahadevia does no more than reiterate the principles and observations in Mahadeo Jalan. 10. Dr. Gau ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ved was very small. Firstly, it may be seen that the matter had arisen under the GT Act and rule 1D did not in terms apply to it. The shares were of a British Company which was analogous to a private limited company in India. Up to the stage of High Court, both the revenue and the assessee were ad aidem in applying the break up method. The only question was which balance sheet was required to be taken as the basis? In this Court, however, the revenue shifted its stand and wanted the yield method to be applied, which contention was upheld following the aforesaid two decisions. This decision does not, therefore, lay down any different propositions than those enunciated in Mahadeo Jalan and Kusumben D. Mahadevia's case. Incidently, this case establishes that in case of some companies, break up method is more advantageous to the assessees than the yield method. In other words, it is not always that yield method is more advantageous to the assessee. 12. Dr. Gauri Shankar submitted that inasmuch as section 46 provides for the Rules being laid before both the Houses of Parliament for the specified period, it must be deemed that the Parliament has approved these Rules. The consequence, ac ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... es. 14. For all the above reasons, we hold that rule 1D is not ineffective or invalid for any of the reasons suggested by the learned counsel for the assessees nor can it be said that the WTO has an option to follow or not to follow the said rule. He has to follow and apply the said rule in each and every case where he has to value the unquoted equity shares of a company. The contention of the assessee that it is merely directory and that it need not be followed at the choice of the WTO or the assessee, or in the case of a going concern, cannot be accepted." 9. We have also examined the applicability of provisions of Wealth-tax Act and we find that while making a reference under section 55A to the WTO the relevant provision of Wealth-tax Act are applicable to determine the fair market value. We also find force in the contention of the department that under the Income-tax Act no specific mode or formula is laid down to determine the fair market value of the unquoted shares. In the absence of any specific procedure, one has to look to other Act in which a procedure has been laid down. Under the Wealth-tax Act, rule 1D was inserted of which applicability was upheld by the Apex Court ..... X X X X Extracts X X X X X X X X Extracts X X X X
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