2010-VIL-878--DT
Income Tax Appellate Tribunal, NEW DELHI
ITA Nos. 1184 and 2460/Del/2008,
Date: 23.12.2010
DCIT
Vs
SELECT HOLIDAY RESORTS (P) LTD.
Ajay Vohra, Adv. and Gaurav Jain, CA for the Appellant
B. Kishore, DR for the Respondent
BENCH
Rajpal Yadav, Shamim Yahya, JJ.
JUDGMENT
Shamim Yahya:-
1. These appeals by the revenue are directed against the respective orders of the Ld. Commissioner of Income Tax (Appeals) pertaining to assessment years 2004-05 and 2005-06.
2. Since the issues involved are connected and the appeals were heard together. These appeals are being disposed of by this common order for the sake of convenience.
3. One common issue raised in both the appeals pertains to restricting the disallowance of Rs.1,14,17,833/- for assessment year 2004-05 and Rs. 1,75,62,196/- for assessment year 2005-06 made by the Assessing Officer on account of earning exempt income to 1/3rd.
4. For the assessment year 2004-05 the Assessing Officer noted that assessee had received dividend of Rs.12,74,30,434/- and interest on Tax Free Bonds of Rs.1,06,31,042/- that means the assessee had received Tax Free income of Rs.13,80,61,476/- during the year. Assessing Officer found that assessee had allocated expenditure of Rs.7,12,094/- out of the total expenditure of Rs.1,14,17,833/- towards tax free income. Assessing Officer on the other hand was not satisfied with the allocation made by the assessee. He proceeded to compute the disallowance as under:-
"Expenses to be apportioned on different heads of receipt |
|
Rs. 1,14,17,833/- |
Total turnover as declared by the assessee |
|
Rs. 2,21,36,99,011 |
Less:- sale of investment |
|
Rs. 74,49,92,651 |
Less:- sale of security |
|
Rs. 1,33,01,54,367 |
|
Net turnover |
Rs. 13,85,51,993 |
|
Tax Free income = |
Rs. 13,80,61,476 |
|
|
99.64% |
Total expenditure |
1,14,17,833 x 9.40% |
1,13,76,728 |
Disallowance u/s 14A therefore comes to |
|
Rs. 1,13,76,728/-." |
5. Upon assessee's appeal Ld. Commissioner of Income Tax (Appeals) elaborately considered the issue and held as under:-
"4.3 I have carefully considered the submissions made by the appellant. It is found that the turnover considered by the Assessing Officer for the purpose of proportionate allocation of expenses consist of tax free income primarily, except the other receipts of only about Rs.5 lacs. The sale consideration of investments which were included by the appellant for such proportionate allocation were excluded by the Assessing Officer on the ground that income in respect of sale of investments and securities is computed under the head Capital Gains and no expenses can be allocated to those receipts. It is true that for the purpose of computation of taxable income the sale of investment in securities are considered under the head Capital Gains where only specific deductions like cost of acquisition, cost of improvement and expenditure for sale etc. are allowed. However, the exercise which was being carried out was to allocate the general expenses incurred by the company on proportionate basis to various sources from which income was earned. In such proportionate allocation some items cannot be excluded simply because the income relevant to that is computed under specific section. If that is done the results obtained would be anomalous as happened in this case where 99.64% of the general expenses were allocated and held to be incurred for earning of tax free income from dividend and bonds. On the other hand it is noted that while allocating the expenses, the appellant has included sale value of securities in the turn over and worked out only about 6.23% of expenses attributable to huge tax free income. The allocations made both by Assessing Officer and by the appellant are not correct and are at two extremes. Proper allocation of expenses that can be attributed to different types of income can be done only if a balanced view is taken.
4.4 It is found that the expenses that are being allocated are those incurred by the erstwhile IIPL. That company earned income only from dividend interest and sale of investments. In other words it may been seen that IIPL was basically Investment Company which was managing investments. It may further be noted that it is a composite activity which results in the income by way of return on investment (dividend and interest) as also profit / loss on sale of investments. The allocation in the ratio of turnover is not justified because interests and dividend are not in a nature of turn over (or a receipt where some specific cost is involved) but direct income itself. Hence comparing income with turnover (sale proceeds of shares) will not give correct proportionate allocation. If at all sale proceeds of shares and securities is to be compared, it should be done to the gross investment (Rs.133,12,21,063 as on 31.3.2004) on which dividend and interest is received. On the other hand since the sale of investment may result in either profit or loss, comparing direct income (dividend and interest) with profit on sale of investment will again not give correct allocation of expenses for different sources of income. The expenses taken for allocation are the general expenses of IIPL. From the P and L A/c of IIPL it is noted that major part of expenditure of Rs.1,14,17,833 was towards salaries, rent, director's travel, legal and professional charges which together make up Rs.65,09,271. Remaining expenses are also of general nature. Obviously these expenses have been incurred for composite activity of managing the investment. For an investment company it can not be said that dividend income is automatic without any effort after initial investment. This is because the investment of fund has to be continuously monitored to safeguard the funds and maximize returns. The investment portfolio is changed on regular basis which results in long term and short term gain/loss. Therefore, instead of proportionate allocation, some other method is to be applied to allocate reasonable amount of expenses for earning of tax free income. Considering the above discussion and fact that:-
(i) quantum of long term investment is much larger than short term investments;
(ii) switching/swap of investment is guided more by concern for safeguarding the investment rather to earn dividend; and
(iii) earning of dividend income is incidental despite it being part of composite activity; I am of the opinion that 1/3rd of the total expenses on management of investment may be treated as attributable to earning of dividend and tax free interest.
Hence only 1/3rd out of Rs.1,14,17,833 be disallowed u/s 14A.The disallowance made by the Assessing Officer is reduced to that extent."
6. Against this order the Revenue is in appeal before us.
7. We have heard both the counsel and perused the records.
7.1 We find that in this case Assessing Officer has noted that while allocating the expenditure towards exempt income the sale of securities and investments has been treated as turnover alongwith tax free income. In the computation statement the income from sale of investment has been computed under the head long term capital gain and short term capital gain. Therefore, for the purpose of allocation of expenditure the sale consideration of securities, the Assessing Officer has made the allocation to tax free income in the ratio of turnover other than sale of investments and securities. The said turnover was worked by the Assessing Officer at Rs.13,85,51,993/- out of which the tax free income was Rs.13,80,61,476/- which came to about 99.64% of the total turnover. Accordingly, the said percentage of the total expenditure was allocated towards tax free income and hence a sum of Rs.1,13,76,728/- was disallowed. Ld.Commissioner of Income Tax (Appeals) on the other hand found that the Assessing Officer's line of action is not proper. He has noted that allocation in the ratio of turnover is not justified because interests and dividend are not in a nature of turn over but direct income itself. On the other hand, he has also found that the allocation made by the assessee is too meager. Hence, he has made the estimated disallowance of 1/3rd of the total expenses. Hence, he has opined that 1/3rd of the total expenses on management of investment may be treated as attributable to earning of dividend and tax free interest.
7.2 As per the latest law with regard to disallowance u/s 14A allocation of expenses has to be done as per Rule 8D. The Hon'ble Mumbai High Court in the case of Godrej Boyce Mfg. Co. Ltd. vs. DCIT in ITA No. 626 of 2010 = 234 CTR 1 has held that Rule 8 D has been notified on 24.3.2008 and will be applicable only from Assessment year 2008-09.
7.3 Under the circumstances, we find that reasonable estimate has to been done for the concerned assessment year. We find that Ld. Commissioner of Income Tax (Appeals) had elaborately considered the issue and made a reasonable disallowance. Under the circumstance, we do not find any infirmity in the order of the Ld. Commissioner of Income Tax (Appeals), hence, we uphold the same.
7.4 The above adjudication also applies for Revenue's appeal for the assessment year 2005-06.
8. Another issue raised in ITA No. 1184 is that Ld. Commissioner of Income Tax (Appeals) erred in holding that provisions of section 79 are not applicable in this case and therefore, the assessee company is eligible for set off brought forward losses of Rs.5,99,88,612/- against the current year income.
9. Assessing Officer on this issue noted that assessee has claimed set off brought forward loss and unabsorbed depreciation of Rs.5,99,88,612/- (including carry forward business loss of Rs.1,53,62,863/-). The assessee was asked to explain and justify the conditions laid down in section 79 of the Income Tax Act in regard to change in the share holding after the amalgamation. Assessing Officer noted that it has been observed on the basis of the information given by the assessee in respect of share holding pattern before the merger of the company with the assessee company namely M/s Indrama Investment P Ltd. there has been major change in the share holding pattern before the merger of M/s Indrama Investment P Ltd. with the assessee company. The issued share capital of the assessee company was of Rs. 15 crores. Out of share capital of Rs.15 crores the share capital worth Rs. 14.70 crores was held by M/s Indrama Investment P Ltd. After the merger share capital of the assessee company is Rs. 6 crores. Share holding of Indrama Investment P Ltd. has been cancelled pursuant to the merger. As a result of merger more than 51% of share capital which was held earlier by M/s Indrama have reduced to NIL. Assessing Officer held that above change in the share holding pattern has resulted in violation of conditions laid down in section 79 of the Income Tax Act for allowability of set off of carried forward business loss. Assessee in response to query claimed that share holding continues to be with the same beneficiary holders of shares. Earlier these particular share holders were holding through M/s Indrama Investment P Ltd. whereas now they are holding more than 51% share directly. Therefore, it was claimed that provisions of section 79 have not been violated. Assessing Officer did not accept these contentions and he proceeded to disallow the claim of the assessee.
10. Upon assessee's appeal Ld. Commissioner of Income Tax (Appeals) elaborately considered the issue. He found that assessee's contention that section 79 was not applicable to the peculiar facts of the assessee's case needs consideration particularly in view of the ratio of the Hon'ble Apex Court in the case of Italindia Cotton (174 ITR 116). It has been held that every change in share holding need not fall within the provision of section 79. In closely held company 51% share holding is considered to be the requirement for retaining control and management over the company. Therefore, the basic intent of the section as discussed by the Hon'ble Apex Court was that when the share holding changes for acquiring control over a company which incurred losses with a view to avoiding reducing tax liability, section 79 comes into play because that was the result which it was designed to prevent. Thereafter, Ld. Commissioner of Income Tax (Appeals) has as under:-
"5.5 In the present case it may be noted that IIPL was holding 98% of the shares of the appellant company. On the other hand 100% shares of IIPL were held by four persons of the family who were having the control and management of the IIPL as well as of the appellant company. Because of the merger of IIPL into the appellant company, the former came to an end as a result of which the shares of amalgamated company were allotted to the share holders of IIPL. Therefore, it may be seen that there was no change in the management of the Co. which remained with the same family (set of persons) who was earlier exercising control. The appellant submitted a list of directors on the Board of the two companies prior to merger as well as the directors on the Board of merged company. Copy of this statement is made part of this order as Annexure-A. It may be seen that the control remained in the same hands. The reason for change in shareholding of more than 51% was the merger of two companies. There was however no change of control and management.
5.6 It may be noted that a Circular No. 528 dated 16.12.88 was issued when clause (b) was deleted. Para 26.3 of the said circular is reproduced as under:-
26.3 With a view to avoiding hardship likely to be caused in genuine cases, it has also been provided that the set off of brought forward losses in the case of closely held companies will not be denied in a case where change in shareholding to the extent of 51 per cent or more of the voting power takes place in the event of death of any share holder or on account of a gift by any share holder to his relatives, as defined in section 2(41) of the Income Tax Act, 1961.
It may be noted that the intention of legislature was not to clause hardship in genuine cases. Accordingly an exception has been provided by way of first proviso to Clause (a) of 79. We may examine the reason for change in shareholding from another point of view. When IIPL was merged into appellant company its existence came to an end which is akin to death of share holder. In case of death of a living person the shares held by him get transferred to his legal heirs. Similarly when existence of a company is legally finished, the benefit of assets held by it (including shares of other company) will pass on to its shares holders. Therefore there appears to be a change in the share holders of the appellant company holding more than 51% shares, because earlier IIPL was appearing in the list of share holders and now the individuals were the majority share holders. However, actually there was no change in the control and management of the company because even earlier the management of the appellant company was with the same persons who were share holders of the holding company IIPL as discussed earlier. In view of the above I am of the opinion that the provision of section 79 is not applicable to the appellant's case because intention of that section was to prohibit the benefit of losses incurred by a company to some other group of persons acquiring its control and management merely for tax benefit. In the peculiar facts of this case section 79 is not to be applied and the losses of earlier years are eligible to be set off with the profit in this previous year.
In the result the appeal is partly allowed."
11. Against this order the revenue is in appeal before us.
12. Ld. counsel of the assessee vehemently contended that section 79 is not applicable here. He said that this is a case of reverse merger. He claimed that there is no change in beneficiary share holding. He further claimed that section 79 is not at all applicable.
13. Ld. Departmental Representative on the other hand relied upon the order of the Assessing Officer.
14. We have heard both the counsel and perused the records. We can gainfully refer the provisions of section 79:-
"Notwithstanding anything contained in this Chapter, where a change in shareholding has taken place in a previous year in the case of a company, not being a company in which the public are substantially interested, no loss incurred in any year prior to the previous year shall be carried forward and set off against the income of the previous year unless:-
(a) on the last day of the previous year the shares of the company carrying not less than fifty one percent of the voting power were beneficially held by persons who beneficially held shares of the company carrying not less than fifty one percent of the voting power on the last day of the year or years in which the loss was incurred.
Provided that nothing contained in this section shall apply to a case where a change in the said voting power takes place in a previous year consequent upon the death of a shareholder or on account of transfer of shares by way of gift to any relative of the share holder making such gift.
Provided further that nothing contained in this section shall apply to any change in the shareholding of an Indian company which is a subsidiary of a foreign company as a result of amalgamation or demerger of a foreign company subject to the condition that fifty one percent shareholders of the amalgamating or demerged foreign company continue to be the share holders of the amalgamated or the resulting foreign company."
15. Now examining the present case, we find that IIPL was holding 98% of the shares of the assessee company. On the other hand 100% shares of IIPL were held by four persons of the family who were having the control and management of the IIPL as well as of the assessee company. Because of the merger of IIPL into the assessee company, the former came to an end as a result of which the shares of amalgamated company were allotted to the share holders of IIPL. Thus, it is clear that there is no change in the management of the Company which remained with the same family (set of persons) who was earlier exercising control. The assessee submitted a list of directors on the Board of the two companies prior to merger as well as the directors on the Board of merged company. It remained in the same hands. Thus, the Ld. Commissioner of Income Tax (Appeals) is correct in holding that change in more than 51% was due to merger in two companies. There was no change in control and management. We also find considerable cogency in the part of the Ld. Commissioner of Income Tax (Appeals)'s adjudication wherein he has referred the Circular No. 528 dated 16.12.88 and considered the case of the present merger as akin to death of share holder. He also held that in the case of death of a living person the shares held by him get transferred to his legal heirs. Similarly when existence of a company is legally finished, the benefit of assets held by it (including shares of other company) will pass on to its shares holders. Under the circumstances, we fully agree with the view of the Ld. Commissioner of Income Tax (Appeals) and do not find any infirmity or illegality in the order of the Ld. Commissioner of Income Tax (Appeals). Accordingly, we uphold the same.
16. In the result, both the appeal filed by the Revenue stand dismissed.
Order pronounced in the open court on 23.12.2010.
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