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TMI Blog2005 (11) TMI 181X X X X Extracts X X X X X X X X Extracts X X X X ..... ejecting the claim of deduction under s. 80P of the Act in respect of Rs. 37,79,100 being profit on sale of Government Securities. 4. Without prejudice to the above grounds, the learned CIT(A) erred in holding that the entire income of Rs. 37,79,100 being profit on sale of Government Securities as taxable without even allowing pro rate expenditure attributable for earning these incomes." Additional ground of appeal 4. "In the alternative and without prejudice to the above grounds, the CIT(A) further erred in not directing the AO to allow full deduction of expenses in respect of all the incomes which are not eligible for deduction under s. 80P of the Act." As all these grounds of appeal are interlinked, we will take up all the grounds of appeal together. 5. The material facts are as follows. The order impugned in appeal before us is the assessment order passed in the second round of proceedings, as a result of setting aside of the assessment by the CIT(A) vide order dt. 5th Oct., 1998. While so setting aside the assessment order, the CIT(A) has observed as follows: "On the facts and in the circumstances of the case as discussed above, I feel it will be unjust if the appellant ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tions were entered into with Andhra Bank and Bank of India, but these banks have not issued any confirmation letters acknowledging the transactions. He also noted that these transactions have been carried out in violation of RBI instructions and rules, which is evident from the fact that the assessee-bank is alleged to have purchased and sold securities through SGL form, without signing SGL form and without keeping any account with the RBI. It was also noted that the assessee failed to furnish any confirmation from the brokers, whereas, according to the AO, the brokerage was indeed paid as built in the prices at which transactions were entered. In the words of the AO, "the fact is that this brokerage has been adjusted in purchase and sale price fabricated in the contract notes". The AO further added that 'the genuineness of these transactions is not free from doubt, because, as observed by my predecessor, several transactions have not been reported to the stock exchange". It was in the backdrop of these observations that the AO carne to the conclusion that the profit on sale of securities is treated to be non-genuine securities transactions, on which deduction under s. 80P cannot b ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... esentative that the AO was bound by the directions is legally correct to a substantial extent. However, a careful perusal of the directions would show that this legal proposition would not apply to the facts of this year as the direction was to complete the assessment de novo and after considering the final report of Jankiraman Committee. The AO has not considered the final report and proceeded to mechanically repeat the earlier findings, though for this year, the AO should have applied and followed the directions of the CIT(As) in framing the assessment de novo. However, be that as it may, the first appellate authority is not fettered by any such directions. This is the legal position laid down in the case of CIT vs. Kanpur Coal Syndicate (1964) 53 ITR 225 (SC) which was followed by Jute Corporation of India vs. CIT (1990) 88 CTR (SC) 66 : (1991) 187 ITR 688 (SC) and more recently in CIT vs. Nirbheram Daluram (1997) 139 CTR (SC) 484 : (1997) 224 ITR 610 (SC)." Coming to the affidavit filed by the assessee, the CIT(A) observed that: "As regards the filing of the affidavit, the appellant-bank has reiterated its perception of the matter. The cases against two employees under s. 120 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ansactions were recorded as made with counter-party as bank, but the actual beneficiaries of these transactions were certain brokers while the banks merely acted as 'routing banks' for the brokers. When the securities were not available, these routing banks issued their own BRs. The CIT(A) also noted that the Bank of Karad, and its brokers Excel & Co. as well as Bhupen Champaklal Devidas, were specifically mentioned in the Jankiraman Committee Report. It was also noted that where a ready forward transaction is made, the sale rate reflected in agreed return on the use of funds and necessarily, therefore, either the sale or purchase was at a rate different from the real value of security. It was also noted that these transactions were de facto temporary finance transactions. It was in this backdrop that the CIT(A) came to the conclusion that unauthorized deployment of funds in breach of the guidelines could not be held to be income from banking, eligible for deduction under s. 80P. The CIT(A) was, after careful perusal of the Jankiraman Committee Report, of the view that "the activities engaged by the banks at p. 88 did not form part of the activities attributable to banking". The CI ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e in the case of a co-operative society assessee, gross total income includes profits and gains attributable to 'carrying on the business of banking or providing credit facilities to its members', the whole of such profits will be eligible for deduction. The decisive test for eligibility for deduction under s. 80P(2)(a)(i) is whether or not the profits and gains are attributable to 'carrying on the business of banking' so far as the case before us is concerned. 11. To decide whether or not the profits in question are profits attributable to the banking business, in turn, we have to understand the nature of these transactions particularly in the light of the Jankiraman Committee findings which have been extensively referred to by both the parties before us. The relevant extracts of the Jankiraman Committee, so far as transactions entered into by the assessee-bank are concerned, are as follows: Third Interim Report - pp. 88 and 89 "X : Bombay Mercantile Co-operative Bank Ltd. 1. Between 2nd Aug., 1991 and 8th April, 1992, Bombay Mercantile Co-operative Bank Ltd. (BMCBL) entered into 13 ready forward transactions in securities for an aggregate value of 97.34 crores through broker ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ccount to which such payments were debited are still to be ascertained. 6. It appears that through these transactions, BMCBL has made available the funds to the brokers though ostensibly the transactions were shown as being with Bank of India." 12. In our considered view, following extracts from the final report submitted by the Jankiraman Committee dealing with ready forward transactions, which needs to be read along with the above findings are also relevant: Final Report - pp. 271 and 272 "9(a) The funds collected by the banks as also their own funds could be lent to the brokers only in accordance with RBI guidelines. To circumvent these guidelines, the funds were lent in the guise of ready forward transactions. As mentioned above, ready forward transactions could be entered only with banks and only in respect of Government Securities. To circumvent the first stipulation, transactions were recorded as made with counter-party banks but the beneficiaries of these transactions were certain brokers. To accomplish this, certain banks acted as 'routing' banks for the brokers. (b) The routing banks purchased securities in their own name and sold their securities in their own name w ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hase of the same security with the same counter-party. The purpose behind the transaction is not to buy or sell the security but temporarily create finance by selling the security which finance is repaid when the sale is reversed in the second leg of the transaction. In a double ready forward transaction, two securities are simultaneously bought and sold on a ready forward basis. The purpose behind such a transaction is not to create liquidity but rather to temporarily exchange the investment portfolios and in the process alter the holding rate of securities. (b) It is believed that some leading brokers were speculating heavily on the possibility of a hike in the coupon rate on Government Securities. As such a hike would lead to a reduction in the market rate of the securities, they had short-sold the securities, mainly Gal Loan 2010. When the hike did not materialise for some time, the brokers were unable to liquidate their positions. It is possible that a number of ready forward and double ready forward deals in such securities were designed to enable the brokers to carry forward their positions till the hike materialised. (c) As mentioned earlier; banks were permitted to enter ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... purchaser. Indian Banks Association (IBA) had prescribed a standard format for the BR and had also prescribed BR rules and a format for the monthly statements of BRs held and issued. These formats and rules were notified to the chief executives of all member banks vide IBA letter dt. 6th May, 1991. A copy of this letter and its enclosures are given in the Annexure to the first report of the Committee issued in May, 1992. (b) These rules, inter alia, provided that: (i) The BR should be issued only in the prescribed form. (ii) Normally, no BR should be issued when SGL facility is available. (iii) A separate BR should be issued for each type of security. (iv) The BR is non transferable (v) BRs should be issued serially numbered on security paper. (vi) BRs must be exchanged with actual scrips as early as possible and in any case within 90 days of issue. (vii) BRs should be signed by two authorized signatories whose signatures should be registered with the buyer bank to verify the signatures. (viii) BRs should be accepted by the purchasing bank only if they were issued by the following institutions: All member banks of IBA All India Financial Institutions like IDBI, IFCI, ICC ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t having sufficient balance in their SGLM account. (iv) Issuing BRs/SGL forms on behalf of their broker clients without safeguarding banks' interest. 2. You may be aware that with a view to helping the banks to overcome various deficiencies in their long-term securities market and to enable them to manage their short-term cash deficiencies/surpluses more efficiently, we have permitted banks to enter into buy back deals in Government Securities among themselves (and not with their non-bank clients). It was our expectation that such deals will be undertaken by the selling bank only if it holds sufficient securities (either in the physical form or in the SGL account) at market related rates and such deals will be properly reflected in their books of account. However, we observe that certain banks have been resorting to this type of transaction without actually holding sufficient securities either in physical form or in their SGL account (resulting in substitution of BRs/return of SGL form for want of sufficient balance) at rates which have no relevance to the markets, with a view to window-dressing their profitability/maintenance of their SLR requirement with tactic understanding wi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ment portfolio of banks- Transactions in securities As you are aware, Governor of the RBI had appointed a committee to enquire into the securities transactions of banks and financial institutions. The committee had made a number of recommendations in its interim report submitted recently. RBI has examined these recommendations and accepted them generally. 2. In relation to the primary (urban) co-operative banks, the following instructions, which will come into force with immediate effect, are issued in accordance with these recommendations: Investment policy ...............................Keeping in view the fact that funds of urban co-operative banks are essentially meant for members' requirements for productive and other purposes and also the special provisions for meeting Statutory Liquidity Ratio and Cash Reserve Ratio requirement applicable to urban co-operative banks, the need for dealing in Government Securities does not arise. However, there is no prohibition to deal in such securities in case bank has large surpluses which it will like to profitably invest. In this context, we have to issue following instructions: (i) to (iii) ............ (iv) The bank are prohibite ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... transactions entered into by the assessee-bank are, ready forward transactions in the Government Securities but then at the material point of time the ready forward transactions in the Government Securities were not at all prohibited. It was only on 15th Sept., 1992 that Executive Director of the RBI issued a circular to chief executives of all co-operative banks and advised them that "The banks are prohibited with immediate effect, (i.e., from 15th Sept., 1992) from undertaking ready forward and double ready forward deals in dated Government and approved/trustee securities, etc." Of course there was a secret circular dt. 26th July, 1991 expressing Concern on certain ready forward transactions but then this circular did acknowledge the fact that the RBI had in fact "permitted banks to enter into buy back deals in Government Securities among themselves (and not with their non-bank clients)" and this circular also made it clear that the RBI was concerned about certain practices with regard to the ready forward transactions. By no stretch of logic, it could be said that by issuance of this circular, the RBI put an embargo on the ready forward transactions in the Government Securities ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ay of debit to a broker by the name of Excel & Co. It was based on these facts that the Jankiraman Committee expressed the apprehension that "it appears that through these transactions, BMCBL has made available the funds to the brokers though ostensibly the transactions were shown as being with Bank of India". These observations were made in the interim report dt. 23rd Aug., 1992. In the final report submitted by the Jankiraman Committee on 29th April, 1993, some interesting observations were made which will throw some light on the nature of these transactions. The committee observed that, "Brokers also arranged contracts with banks where the name of a bank was given as counter-party selling bank without the knowledge of the bank concerned. The proceeds received from a purchasing bank in the form of banker's cheques in the name of alleged counter-party bank was credited by that bank to the broker's account by virtue of an existing arrangement. Thus the purchasing bank was unaware that it was in fact dealing with a broker and not with a counter-party bank." The Jankiraman Committee observed that it was only "when delivery was not effected for the securities for which payment has bee ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as a 'routing bank' Which was in fact purchasing and selling the securities in its own name without indicating that it was acting for the brokers, and, therefore, it was deeply involved in the scam. No entries for these entries could be found in the books of the Bank of Karad because though it was buying and selling securities in its own name, the transactions actually belonged to the brokers for whom the Bank of Karad was acting as a routing bank. Under these circumstances, non-confirmation by the respective counter-party banks does not make it a transaction not entered into the normal course of banking business. As for non-deposit of the SGL forms, it was also a common practice, duly taken cognizance of by the Jankiraman Committee, that "in particular, BRs were not issued on the security paper or in the prescribed form, and more significantly were not exchanged with the actual scrip but were returned for cancellation on reversal of original transaction" and that "in the final analysis only BRs are exchanged and no security is delivered". The other objections raised by the Revenue are that the sale price is higher than the price quoted by the BSE, that the transactions were not re ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... question and yet it is held that the transactions entered into by the assessee were not in the nature of banking business transactions and, therefore, the assessee is not entitled to deduction under s. 80P in respect of profits from such transactions. The Revenue never filed an appeal against these directions of the CIT(A) and yet these directions have not been implemented. 20. Let us consider another aspect of the matter. If this transaction, as is vehemently contended by the learned special counsel, is not a transaction in the course of normal banking business, then what is the nature of this transaction? Revenue's contention is that it is not a normal banking transaction because actually there was no security and transactions were actually with the broker and not the bank. The "profit on sale of securities is treated to be non-genuine securities transactions" by the AO. Just because it is treated as not a 'genuine security transaction', does it cease to be a part of the banking business transaction? On this issue also we find guidance from the Jankiraman Committee. At p. 274 of the Jankiraman committee's final report, it is stated that, "It will be appreciated that the ready f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f this circumstantial evidence because that would put the impossible onus of proving a negative on the assessee, i.e., the assessee was not aware of the possibility that the transactions entered into by the assessee-bank with Bhupen C. Devidas were transactions in brokers account and the bank he claimed to be representing had nothing to do with those transactions. When CIT(A) states that "the facts in such cases would be in the personal knowledge of the persons who have entered into the transactions and, therefore, asking the AO to prove otherwise would be to expect an impossibility", he does not appreciate the fact that to prove that such alleged facts were not in their knowledge of those persons is also an impossibility. The burden which is cast on the assessee-bank by the CIT(A) cannot be discharged. When the AO cannot prove that the facts stated by the assessee are correct, it is not open to him to disregard the stand of the assessee only on the basis that such a stand does not stand the test of, what the AO perceives as, preponderance of probabilities. That is a typical case of rejection of an assertion by the assessee on the basis of surmises and conjectures. The CIT(A) has a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t Securities. 5. Without prejudice to the above grounds, the learned CIT(A) erred in holding the entire income of Rs. 32,88,395 and Rs. 24,72,896 being profit on sale of Government Securities and broken period interest on sale of securities as taxable without allowing pro rata expenditure attributable to earning these incomes. 25. Learned representatives fairly agree that the outcome of this appeal will depend on the outcome of the appeal for the asst. yr. 1990-91 which has been argued in detail and dealt with in our order in the foregoing paragraphs. The only point of difference in the facts of these two cases is that in the asst. yr. 1991-92, i.e., the present appeal before us, broken period interest (net) in respect of the above transactions has also been declined deduction under s. 80P. The ground of declining the deduction is the same, i.e., dealing in Government Securities in ready forward deals does not form part of 'carrying on business of banking' which is eligible for deduction under s. 80P, but then this plea for the detailed reasons set out earlier in this order has already been rejected by us. Following our order for the asst. yr. 1990-91, we hold that the profits in ..... X X X X Extracts X X X X X X X X Extracts X X X X
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