Vildirect: IncomeTax-caselaws-2008-VIL-426-ITAT-MUM

2008-VIL-426-ITAT-MUM

Equivalent Citation: [2008] 23 SOT 512 (MUM.)

Income Tax Appellate Tribunal MUMBAI

IT APPEAL NO. 7503(MUM.) OF 2004 AND 3927 (MUM.) OF 2005

Date: 10.04.2008

ASSISTANT COMMISSIONER OF INCOME-TAX, CIRCLE 18(3), MUMBAI

JEHANGIR T. NAGREE

BENCH

SUNIL KUMAR YADAV AND R.K. PANDA, JJ.

JUDGMENT

Sunil Kumar Yadav, Judicial Member. - These appeals are preferred by the revenue against respective orders passed by the CIT(A) in the case of different assessees. Since common issue is involved in both these appeals, these were heard together and are being disposed off by this consolidated order.

2. For the sake of reference, we extract the grounds of appeal raised in both these appeals as under :

ITA No. 7503/MUM./2004 - in the case of Firoz T. Nagree

"On the facts and in the circumstances of the case and in law, the learned counsel for the assessee CIT(A) erred in :—

(i )Directing the Assessing Officer to treat the loss on sale of shares as business loss as against the short-term capital gains treated by the Assessing Officer.

(ii)Ignoring that as per section 45(2) of the Income-tax Act the conversion of investment into stock-in-trade is allowable only if such business is carried on by the assessee before the conversion of investment into stock-in-trade and that the assessee was not engaged in the trading of shares before 1-4-2000.

(iii)Ignoring that the conversion entries in the books of account of the assessee have not been passed as on 1-4-2000.

(iv)Failing to appreciate the Assessing Officer’s finding that the assessee’s treatment of short-term capital loss as business loss is a tax avoidance plan and nothing else."

ITA No. 3927/MUM./2005 - in the case of Mr. Jehangir T. Nagree

"On the facts and in the circumstances of the case and in law, the learned counsel for the assessee CIT(A) erred in :—

(i )Directing the Assessing Officer to treat the loss on sale of shares amounting to Rs. 8,57,564 as business loss as against the short-term capital gains treated by the Assessing Officer.

(ii )Ignoring that as per section 45(2) of the Income-tax Act the conversion of investment into stock-in-trade is allowable only if such business is carried on by the assessee before the conversion of investment into stock-in-trade and that the assessee was not engaged in the trading of shares before 1-4-2000.

(iii)Ignoring that the conversion entries in the books of account of the assessee have not been passed as on 1-4-2000.

(iv)Failing to appreciate the Assessing Officer’s finding that the assessee’s treatment of short-term capital loss as business loss is a tax avoidance plan and nothing else."

3. Since the order passed by the CIT(A) in the case of Firoz T. Nagree has been followed in the case of Mr. Jehangir T. Nagree by the CIT(A) while adjudicating the identical issue, we deal with the facts of the case and the issue raised in the case of Firoz T. Nagree as under.

4. The facts with regard to the impugned issue borne out from the record are that the Assessing Officer has rejected the assessee’s claim of business loss and holding the same to be short-term capital loss having observed that in assessment year 2000-01 the assessee had entered into large number of share transactions in respect of which, he has incurred the loss amounting to Rs 15,46,930, and the said loss was treated by the assessee as short-term loss on shares and taxed it under the head ‘capital gain’. In the assessment year 2001-02, the year under appeal, the assessee, as on 1-4-2000 being the first day of the relevant year, converted the investment in shares brought forward from the assessment year 2000-01 into the stock-in-trade and had done the business in shares during the accounting year. The share transaction activity which, according to the Assessing Officer, was exactly of similar nature of the previous assessment year, had resulted in a loss of Rs. 16,38,738. The assessee had also incurred a loss of Rs. 66,11,154 in speculation of shares. According to the Assessing Officer by converting the capital asset being investment into stock in trade of which the scales resulted into the loss, the assessee was able to set off such loss against his income under the head salary, income from house property, long-term capital gain and income from other sources. The Assessing Officer was of the opinion that the entire arrangement was made essentially to avoid tax and he called upon the assessee to show cause why the arrangement should not be rejected, and the loss should be treated as short-term capital loss.

5. The assessee vide his letter dated 13-10-2003 explained to the Assessing Officer that on 1-4-2000 he had converted some investment in shares of securities held as capital asset into stock in trade of business of shares and securities and to this effect note is given in the tax audit report. The assessee further contended that in view of the provisions of section 45(2) of the Income-tax Act, 1961 (hereinafter referred to as the ‘Act’) the gain on account of transfer by way of conversion of capital asset into the stock in trade, was subjected to tax under the head ‘capital gain’ in respect of conversion of shares which were sold during the year. Since the loss arose on sale of shares held as stock in trade, the said loss was claimed as loss on business account. The Assessing Officer did not accept the explanation of the assessee, and he held that the consequent loss claimed as business loss is not allowable to it as the provision of section 45(2) of the Act contained the words ‘of a business carried on by him’ and since as on the date of conversion the assessee had no business of share transaction the conversion was not valid. The Assessing Officer accordingly held that by this arrangement, the assessee had gained immensely by setting of income in various other heads against the business loss which benefit would not have been available had this loss has been treated as short-term capital loss. He accordingly disallowed the claim of the assessee.

6. The assessee preferred an appeal before the CIT(A) with a submission that the assessee is an individual having proprietary concern in the name of ‘The Maple Leaf’ and through this proprietary concern, the assessee carries on business of manufacture and sale of furniture. Besides above, during the assessment year under consideration, the assessee was engaged in the business of dealing in shares which has resulted in a net loss of Rs. 16,38,738. In view of this conversion and as per the provisions of section 45 of the Act, the assessee showed the short term capital gain on account of sale of shares and securities which was converted from investment into stock in trade of share business at Rs. 10,93,752. At the same time, the assessee has shown the resultant loss on shares in share trading business of Rs 27,32,490. The CIT(A) re-examined the issue in the light of the assessee’s contention and material available on record and is of the view that the conversion made by the assessee was valid and not device and especially in view of the fact that the assessee has done large volume of transaction during the year in speculation account and has also made fresh purchase of shares for share business to the extent of Rs. 10,24,316. He accordingly allowed the claim of loss arising on sale of share and securities as a business loss. The relevant observation of the CIT(A) is extracted hereunder for the sake of reference:

"5. Summarizing the arguments it is seen that the appellant has explained that the conversion as on 1-4-2000 of the capital assets of the value of Rs. 57,25,172 were made since the Appellant desired to carry on business in shares and securities. This was supported by an affidavit of the appellant dated 1-4-2000 wherein at para 3 the appellant has stated that the investments were being converted to stock in trade of his personal share business. The Appellant has also stated that the allegation of the Assessing Officer that the said conversion was an arrangement to absorb the profits under other heads of income would not stand to reason since the conversion was made on the first day of the accounting year and neither the appellant nor the Assessing Officer would have been in a position to know whether the appellant would have ultimately made profit or loss in share business during the assessment year especially when the appellant had in fact made gains on sale of shares in the immediately preceding assessment year. The appellant has further pointed out to the fact that besides the trading in shares and securities which were converted, the appellant had made further purchases of shares and securities of the value of Rs. 10,24,316 and during the accounting year the appellant had engaged himself in speculation of shares of a very high volume. The authorized representative pointed out that during the accounting year the appellant had by way of speculation purchased shares worth Rs. 12,90,40,857 and sold speculation transaction shares at Rs. 12,33,51,592 which had resulted in a speculation loss of Rs. 65,89,265 which itself showed the enormous volume of transactions done by the appellant giving further credence to his claim of business activity.

6. As regards the words ‘of a business carried on by him’ in section 45(2). the authorized representative submitted that reading the section as a whole, it was clear that on conversion of capital asset into stock in trade, the same would be treated as a stock in trade of a business carried on by the appellant. The authorized representative submitted that the words of a business carried on by him were of a prospective meaning to say that it is the future business that would be carried on by the assessee and not that the assessee ought to have been carrying on the said business before the conversion. Emphasis has been laid on the wording of the section to the effect that the section nowhere states that the business should have been carried on before the date of conversion or prior to the date of conversion. He has in fact laid emphasis on the very words to say that on conversion the stock in trade, the profit or loss would be treated as that relating to the business of shares and securities carried on by him. He has further argued that post conversion the income which is generated is to be taxed as business income and the difference between the cost and the value of the share as on the date of conversion was to be taxed as a capital gain whether short-term or long-term depending upon the period of holding only when the shares were sold. He further stated that the amendment in section 45(2) was brought about only to overcome the decision of Supreme Court in the case of Bai Shrinibai Kooka reported in 46 ITR 86 (SC) where it was held that on conversion the difference between the. book value and the market value was not liable to capital gains tax.

7. He further referred to the provisions of section 28 of the Income-tax Act wherein similar terminology is used in sub-section (1) which reads as follows:—

(i )The profits and gaines of business or profession which was carried on by the assessee at any time during the previous year.

He pointed out that here the use of the word ‘was’ before the words ‘carried on’ clearly showed the intention of the Legislature that the profits and gains of business would be chargeable to Income-tax in respect of such business or profession which was carried on by the assessee at any time during the previous year. He further referred to the provisions of section 176(3A) where also the words ‘carried on the business’ related to a business carried on in the past which had been discontinued. He therefore emphasized that the interpretation of section 45(2) in respect of the words ‘of a business carried on by him’ by the Assessing Officer as business carried on in the past was incorrect and inappropriate and that no business could be carried on unless and until the conversion had taken place and that the true meaning of the said phrase is that the business should have been carried on by the appellant in the accounting year in which the conversion has taken place.

He has further relied upon the decision of the Supreme Court in Azadi Bachao Andolan reported in 263 ITR 706 to the effect that the conversion of investment into stock in trade for the purpose of carrying on business in shares and securities was not a device but an act permissible under law and that such an act which together with the evidence of trading in shares, purchase of new shares and speculation to the extent of more than Rs. 13 crores cannot be treated as a device for tax evasion and as such it was pleaded that the claim of business loss was more than justified and ought to be allowed.

I have perused the above arguments and submissions of the appellant and I am of the opinion that the conversion by the appellant of capital assets being investments into stock in trade as on 1-4-2000 which is duly supported by an affidavit of the same date is justified. The appellant has made out a clear case of his intention to carry on business in shares and has even paid tax on the deemed short-term capital gain as per provisions of section 45(2) of the Income-tax Act on a sum of Rs. 10,93,752. The term ‘business carried on by him in section 45(2) need not necessarily mean that the business ought to have been carried on before the date of conversion as the section does not use such terminology. In fact how can a person carry on business unless and until he is holding a stock in trade and therefore it would be appropriate. On the facts and in the circumstances of the case, the Ld. CIT(A) has erred in give the meaning of the above phrase a prospective application and it would suffice to the appellant had carried on business of shares and securities in the said accounting year in which the conversion had taken place. The words in sections 28(i) and 176(3A) also are very specific since in section 28(i) the phrase is followed by the words ‘at any time during the previous year’ and in section 176(3A) the phrase is followed by the words ‘had such sum been received before such discontinuance’.

8. It would, therefore, be more appropriate to interpret the phrase in section 45(2) to mean a business carried on during the accounting year (i.e., previous year) and as such I agree with the appellant that the conversion made was valid and not a device and specially in view of the fact that the appellant has done a large volumes of transactions during the year on speculation account and has also made fresh purchases of shares for the share business to the extent of Rs. 10,24,316 the claim of the appellant to treat the loss arising on sale of shares and securities as a business loss is justified."

7. Now, the revenue has preferred an appeal before the Tribunal and the learned DR has emphatically argued that in earlier years, the assessee has made sale and purchases of shares and securities and whatever loss was suffered it was declared as a short-term capital loss. The nature of activities remained the same but in this year, the assessee has tried to claim the short-term capital loss as a business loss by showing conversion of investment in shares and securities into the stock in trade on the very first day of the year, i.e., 1-4-2000. The learned DR further contended that at the time of conversion of investment in stock in trade, the assessee was not carrying on any sort of business of share transactions and the question of conversion of investment in stock in trade does not arise. He further invited our attention to the provisions of section 45(2) of the Act with a submission that the investments in shares and securities can only be converted into stock in trade in a running business or a business carried on by the assessee in earlier years. But in the instant case, after converting the investment in stock in trade, the assessee made purchase and sales and claimed the loss suffered therein as a business loss in order to get the benefit of set-off of this loss against the income under different heads. Hence, the assessee is not entitled for a claim of set off of loss against the other income and CIT(A) has wrongly allowed the claim to the assessee.

8. The learned counsel for the assessee on the other hand, besides placing heavy reliance on the order of the CIT(A), has emphatically argued that the claim of the assessee cannot be disallowed only for a simple reason that in the immediately preceding year loss suffered on sale of shares was offered to short-term capital loss. It is a sweet will of the assessee to decide when he wants to convert the investment in share and securities into stock in trade. There is no bar under the law that once the assessee holds the investment in shares and securities he cannot convert it into the stock in trade. So far as the other stand of the revenue that the business should have been carried on before conversion of investment in stock in trade is concerned, the learned counsel for the assessee has submitted that the assessee had been carrying on business through his proprietary concern M/s. Maple Leaf and engaged in the manufacture and sale of furniture. It is not necessary that the assessee had been in the business of sale and purchase of shares and securities. At any point of time, the investment in share and securities can be converted into stock in trade and the assessee can make the sales and purchase in shares and securities and there is no legal impediment in doing so.

9. Having heard the rival submissions and from a careful perusal of the record, we find that undisputedly the assessee has been doing sale-purchases of shares and securities in the preceding years and the loss suffered on its sales was offered to be the short-term capital loss but the nature of activities carried in the immediately preceding year cannot be the sole factor to decide the nature of activities in the succeeding year. The assessee has converted its investment in shares and securities on 1-4-2000 in stock in trade of its existing business though not dealing in shares and thereafter undertook several transactions of sale and purchase in shares and securities and suffered huge loss of Rs. 16,38,738. It is also evident from the record that the assessee had suffered a loss of Rs. 66,11,154 in the speculation of shares. Having seen the volume of transactions undertaken by the assessee in the impugned assessment year, it is very difficult to hold that the assessee still holds the investment in shares and securities. It is the sweet Will of the assessee to decide as to when he intends to convert his investment in stock in trade. The assessee has also filed an affidavit to this effect besides the corresponding entries in the books of account on 1-4-2000 and the revenue has not brought anything on record to dispute these facts. The revenue has denied the claim of the assessee on the ground that conversion of investment in stock in trade was done when the assessee was not in business of sales-purchase in share and securities. From a careful perusal of the relevant provisions of section 45(2) of the Act, we find that there should be the conversion of investment or capital asset by the owner as stock in trade of a business carried on by him. The words ‘business carried on by the assessee’ does not mean that before conversion of investment or capital asset in stock in trade the business must be in existence. If the assessee starts the business by converting the investment into stock in trade instead of purchasing it from the market can it not be called that the assessee is in the business of trading in shares enabling the assessee to avail the benefit of section 45(2) of the Act. To our mind the restrictive meaning as suggested by the revenue should not be given to the words ‘business carried on by him’ in the light of the use of the words in other sections of the Act like section 28(i). Moreover, in the instant case, the assessee was already in the business of manufacture and sale of furniture and section 45(2) does not state that the investment can only be converted in a stock in trade of the business of trading in shares. The assessee can undertake multiple business activities under his proprietary concern. Besides, the manufacturing and sale of furniture, the assessee can also deal in trading in shares in the name of same proprietary concern keeping the stock in trade of shares separate. From any angle, if the facts of the case are viewed, we would find that the conversion of investment in shares and securities in stock in trade is valid and the assessee is entitled to benefit of section 45(2) of the Act in the light of huge volume of transactions in shares. We accordingly do not find any infirmity in the order of the CIT(A) as he has dealt with each and every aspect raised by the parties. We accordingly confirm the same.

10. In the case of Mr. Jehangir T. Nagree, the CIT(A) has decided the issue following his order in the case of Firoz T. Nagree which has been approved by us in the foregoing paragraphs. We, therefore, following the same, confirm the order of the CIT(A) in the case of Mr. Jehangir T. Nagree.

11. Accordingly, appeals in both the cases are dismissed.

12. In the result, the appeals of the revenue stand dismissed.

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