deeming provisions under income tax act 1961

Deeming Provisions(under the Income-tax Act, 1961)

- Nihar Jambusaria

2May 03, 2015

1. Section 14A

2. Section 43CA

3. Section 50C

4. Section 56

Disallowance Under Section 14A

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Section 14A• Inserted by the Finance Act, 2001, w.r.e.f. 1-4-1962.

• It provides for disallowance of expenditure incurred in relation to income which is not includible in the total income of the assesse.

• The operative part of the Section reads as under :

“(1) For the purposes of computing the total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by the assessee in relation to income which does not form part of the total income under this Act.”

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Section 14A• The proviso was inserted by the Finance Act, 2002, w.e.f. 11-5-2001.

“Provided that nothing contained in this section shall empower the Assessing Officer either to reassess under section 147 or pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee under section 154, for any assessment year beginning on or before the 1st day of April, 2001.”

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Section 14ASubsection (2) and (3) were inserted by the Finance Act, 2006, w.e.f. 1-4-2007 to provide that AO shall determine the amount of expenditure incurred in relation to the exempt income in accordance with such method as may be prescribed by Rules if the AO, having regard to the accounts of the assessee, is not satisfied with –

• the correctness of the claim of the assessee in respect of such expenditure in relation to income which does not form part of the total income, or

• the assesse’s claim that no expenditure has been incurred by him in relation to income which does not form part of the total income.

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Rule 8D - Method for determining amt. of expenditure in relation to income not includible in total income

(1) Where the AO, having regard to the accounts of the assessee of a previous year, is not satisfied with

(a) the correctness of the claim of expenditure made by the assessee; or

(b) the claim made by the assessee that no expenditure has been incurred

in relation to income which does not form part of the total income he shall determine the amount of expenditure in relation to such income in accordance with the provisions of sub-rule (2).

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Rule 8D - Method for determining amt. of expenditure in relation to income not includible in total income

(2) The expenditure in relation to income which does not form part of the total income shall be the aggregate of following amounts, namely

(i) the amount of expenditure directly relating to income which does not form part of total income

(ii) where the assessee has incurred expenditure by way of interest during the previous year which is not directly attributable to any particular income, computation in accordance with formula:

Interest Expense* Average Tax Free Investment

Average Total Assets

(iii) 0.05% of Average Tax Free Investment

May 03, 2015

Issues arising

in section

14A

1) Constitutional validity of Section 14A and Rule 8D

2) Establishment of nexus between the exempt income and related expenditure

3) Investment in subsidiaries4) No exempt income earned during the

relevant AY5) Investments held as stock-in-trade6) Interest income exceeded interest expense7) Applicability of Section 14A while computing

MAT8) Misc. issues

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Constitutional validity of Section 14A & Rule 8D

Godrej & Boyce Mfg. Co. Ltd. [(2010) 328 ITR 81 (Bom HC)]

• Section 14A and Rule 8D are constitutionally valid

• Rule 8D will apply from AY 2008-09. For earlier years, the tax authority has to apply reasonable method for quantifying section 14A expenditure

• Proximate relationship between expenditure (direct and indirect) is required to invoke disallowance under section 14A

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Constitutional validity of Section 14A & Rule 8D

Godrej & Boyce Mfg. Co. Ltd. [(2010) 328 ITR 81 (Bom HC)]

• Rule 8D cannot be invoked mechanically by the Tax Authority. The provisions require satisfaction of the Tax Authority having regard to the accounts of the taxpayer that the claim made by the taxpayer is not correct. Such satisfaction must be an objective satisfaction arrived at in good faith and on relevant consideration of all facts and circumstances. Also, the Tax Authority must record reasons for non-satisfaction with the claim of the taxpayer [Delhi ITAT upheld this principle in the case of Jindal Photo Limited – ITA No.4539/Del./2010 dt 7 January 2011]

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Establishment of nexus between the exempt income and related expenditure

Whether the disallowance can be made where the investment in tax-free securities are made out of only own funds (No loans at all) ?

• Hero Cycles Ltd. - Punjab & Haryana High Court [323 ITR 518]

Section 14A cannot be invoked to disallow interest expenditure, where it is factually found that no interest bearing funds are utilized for making investments which give rise to exempt dividend income.

• Similar View - GMR Power Corporation Ltd vs DCIT [TS-720-ITAT-2013(Bang.)]

Also Held that management of investments requires expertise, upholds Sec 14A disallowance for indirect expenditure worked out @ 0.5%of average value of investments as per Rule 8D.

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Establishment of nexus between the exempt income and related expenditure – (interest free loan)

• DCIT vs Subramanya Constructions & Development Co.Ltd. [TS-100-ITAT-2015 (Bang.)]

Not necessary to draw a one to one nexus between investments and interest free loans. When the funds had gone out of a common pool and the assessee had interest free funds in excess of the investments, it could take a valid plea that such investments were made out of interest free loans.

• Interglobe Enterprises Ltd. v. DCIT (ITA No. 1362 & 1032/DEL /2013)

Assessee had utilized interest free funds for making fresh investments and that too into its subsidiaries. No disallowance of interest is required to be made under rule 8D (i) & 8D (ii) as no direct or indirect interest expenditure has incurred for making investments.

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Position after Godrej & Boyce, decisions following

• Bunge Agribusiness (India) (P) LTD - (2011) 132 ITD 549 (Mumbai)• Sudhir Genset Ltd (2010) 134 TTJ (Del)(UO) 78• Digital Electronics LTD (2011) 135 TTJ (Mumbai) 419 • Delite Enterprises (P) LTD. (2011) 135 TTJ (Mumbai) 663 • J.P. Morgan India (P) Ltd. (2011) 46 SOT 250 (Mumbai) • Yatish trading co. (P) ltd. (2011) 50 DTR (Mumbai)(Trib) 158• Jindal Photo Ltd. (ITA No. 4539/D/10) AY 2007-08 dated Dec 22, 2010 (Del)• Multi Commodity Exchange of (India) Limited (ITA No. 1050/M/10) AY 2008-

09 dated August 5, 2011• Jindal Photo Ltd. (ITA No. 814/D/11) AY 2008-09 dated Sep. 23, 2011 (Del)

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Whether there can be disallowance of interest if mix funds are available and it can be demonstrated that surplus funds were utilized for making investment in tax free source?

In favour of Assessee:

• Reliance Utilities & Power Limited ( 313 ITR 340) (Bom HC)• CIT v. HDFC Bank Limited (ITA No. 330 of 2012) (Bom HC)• CIT v. Suzlon Energy Ltd (ITA No. 223 of 2013) (Guj. HC)• International Nederlanden Bank (ITA No. 5098 & 5099 / Mum 2004)• Punjab State Co-operative and Marketing Fed. Ltd. v. ACIT (ITA No.

579/Chd/2011) (Chandigarh ITAT)

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Investment in subsidiaries

Whether there can be disallowance u/s 14A if the investment is made in subsidiaries for acquiring control interest / strategic investment?

In favour of Assessee:

• Piem Hotels Limited vs. DCIT [TS-162-ITAT-2015(Mum.)• Interglobe Enterprises Ltd. v. DCIT (ITA No. 1362 &

1032/DEL/2013)• EIH Associated Hotels Ltd. v. DCIT [2009] 126 TTJ 246 (KOL.)• CIT vs RPG Transmissions Ltd [2014] 48 taxmann.com 57

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No exempt income earned during the relevant AY

Whether there can be disallowance u/s 14A where no income is earned during the relevant AY?

In favour of Assessee:Alliance Infrastructure Projects Pvt Ltd v. DCIT [ITA No.220 &1043(Bang)/2013]CIT v. Shivam Motors P. Ltd. (ITA No. 88/2014, 5 May 2014)CIT v. Corrtech Energy Pvt. Ltd. (ITA No. 239/2014, 24 March 2014) (Guj)CIT v. Winsome Textile Industries Ltd. [2009] 319 ITR 2014 (P&H)CIT v. Delite Enterprises (ITA No. 110/2009, 26 February 2009)Against:Cheminvest Ltd. v. ITO [2009] 121 ITD 318 (Del)

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No exempt income earned during the relevant AY

CBDT issued a circular no.05/2014• Disallowance of expenses under section 14A would be applicable even

where taxpayer has not earned exempt income in that particular year.• The Circular cited use of the term "includible" in heading to Sec 14A of the

Act and Rule 8D of the Income-tax Rules,1962. Also, Section 14A does not use the words “income of the year” but “income under the Act”. The legislative intent was to allow only that expenditure which is relatable to earning of income.

• Delhi Special Bench decision of Cheminvest Ltd. (supra) and Circular no. 05/2014 dated 11/02/2014 overruled. ACIT v. M. Baskaran [2014] 152 ITD 844. CIT vs Holcim India P.Ltd. [TS-640-HC-2014(Del.)]

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Investments held as stock-in-trade

Whether Rule 8D is applicable in case of investments held as stock-in-trade?

In favour of Revenue:• ITO v. Daga Capital (312 ITR 1)• Cheminvest Ltd. v. ITO (121 ITD 318)

In favour of Assessee:• CIT v. Leena Ramchandran (235 CTR 512)

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Investments held as stock-in-trade• CCI Ltd (ITA No. 359/2011, 28 February 2012) (Karnataka HC) –

Section 14A cannot be applied to disallow expenditure incurred on shares purchased for trading purposes from interest-free funds merely because such shares give rise to incidental exempt dividend income.

However, the issue is highly controversial. On a similar issue, the Delhi HC (in the case of Maxopp - 203 Taxmann 364) and Karnataka HC (in the case of Catholic Syrian Bank - 237 CTR 164) have held in favour of the Revenue.

These contra rulings do not appear to have been cited or considered by Karnataka High Court.

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Interest income exceeded interest expense

DCIT vs. M/s. Trade Apartment Ltd [ITA No. 1277/Kol./2011]

• No interest expenditure remains after adjusting the interest credited to the Profit and Loss Account.

• Sec 14A disallowance on interest expense not attracted since interest income exceeded interest expense.

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Applicability of Section 14A while computing MAT

Whether formula based disallowance under section 14A read with Rule 8D needs to be added back while computing book profit for determining MAT liability under section 115JB of the Act?

• Rule 8D cannot be invoked while computing book profit under section 115JB of the Act, only adjustments permissible u/s section 115JB can be made - Goetze (India) Ltd [32 SOT 101 (Del)]

• In computing book profits under section 115JA/JB, if actual expenditure to earn tax-free income not debited in P&L A/c, Section 14A cannot apply - Quippo Telecom Infrastructure Ltd vs. ACIT (ITA No. 4931/Del/2010)

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Applicability of Section 14A while computing MAT - Contrary Judgement

DCIT v. Sobha Developers (ITA No. 1410/Bang./2013)

There is no prohibition u/s 115JB to employ Sec 14A and Rule 8D for computing total income. Whatever expenditure are incurred to earn income which does not form part of the total income under the Act, both direct and indirect expenditure, have to be disallowed. There is no basis for the argument u/s. 115JB, it is only direct expenses that are contemplated as capable of being added to the profits as per P&L account under clause (f) to Expln.1 below Sec.115JB(2) of the Act. Rule 8D comes into play when there is no other basis for arriving at the quantum of expenditure.

Similar view - ITO v. RBK Share Broking Pvt. Ltd. [2013] 159 TTJ 16 (Mum.) and Dabur India Ltd. v. ACIT [2013] 145 ITD 175 (Mum.)May 03, 2015

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Misc. issues• Whether while computing interest disallowance, interest earned can be

reduced?

Yes - Morgan Stanley India Securities Pvt. Ltd. [ITA No.5072/Mum/2005]

No - Cranes Software International Ltd. [TS-662-ITAT-2014(Bang.)]• CIT vs. M/s Abhishek Industries Ltd. [ITA No.320 of 2013 (P&H)]

AO to record satisfaction on the basis of clear and cogent material. AO's General observations cannot form basis for disallowance u/s 14A.

• ACIT vs. Iqbal M Chagala [ITA No. 877/Mum/2013]

Sec 14A application by AO based on ‘presumption’ that administrative expenses like telephone / salary would have been incurred for earning exempt income quashed.

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Misc. issues

• Can the appellate authority disallow the expense u/s 14A exceeding the amount originally proposed by AO?

No - Top Star Mercantile v. ACIT (Bom HC) [334 ITR 374]Where in assessment order, no finding was recorded by AO with respect to disallowance of part of expenditure on touchstone of section 14A, Tribunal was not justified in restoring matter back to AO observing that AO needed to reconsider issue including that of disallowance of expenditure on touchstone of section 14A.

May 03, 2015

Section 43CA

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Position before the introduction of Section 43CA• The High Court ruling in the case of Kan Construction and Colonizers (P)

Ltd. - [2012] 20 taxmann.com 381 held that section 50C applies only to capital assets. Stamp duty valuation provisions u/s 50C of the Act does not apply to sale of plot of land held as ‘Stock-in-trade’.

• It further ruled that in order to apply the provisions of section 50C of the Act, the asset should be ‘Capital Asset’ as defined under section 2(14) of the Act which excludes assets held under ‘Stock-in-trade’.

• Same view was taken in the case of ITO vs Champaben C.Patel (ITA No.5686/Mum/2012) also.

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Section 43CA – w.e.f 1st April, 2014

(1) Where the consideration received or accruing as a result of the transfer by an assessee of an asset (other than a capital asset), being land or building or both, is less than the value adopted or assessed or assessable by any authority of a State Government for the purpose of payment of stamp duty in respect of such transfer, the value so adopted or assessed or assessable shall, for the purposes of computing profits and gains from transfer of such asset, be deemed to be the full value of the consideration received or accruing as a result of such transfer.

(2) The provisions of sub-section (2) and sub-section (3) of section 50C shall, so far as may be, apply in relation to determination of the value adopted or assessed or assessable under sub-section (1).

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Section 43CA – w.e.f 1st April, 2014

(3) Where the date of agreement fixing the value of consideration for transfer of the asset and the date of registration of such transfer of asset are not the same, the value referred to in sub-section (1) may be taken as the value assessable by any authority of a State Government for the purpose of payment of stamp duty in respect of such transfer on the date of the agreement.

(4) The provisions of sub-section (3) shall apply only in a case where the amount of consideration or a part thereof has been received by any mode other than cash on or before the date of agreement for transfer of the asset.

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Take a note

• The effect of taxation on the basis of valuation as per this section is lying with the seller or transferor.

• Section 43CA is restricted to the transfer of an asset (other than capital asset) being land or building or both only.

• The income generated from the treatment of this section is to be assessed under section 28 as income from business.

• On the transfer of an asset (other than capital asset), if the consideration is less than the stamp valuation authority, then such stamp value will be treated as full value of consideration.

• An option of adopting the value as on the date of agreement available.

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Take a note

• Under this section the word ‘transfer’ cannot be enumerated as defined under section 2(47) of the Act. It may have to be construed in accordance with the provision of transfer of property Act, 1882.

• Section 43CA cannot be applied where the builder merely sells the right in the property without entering into sale through the registered conveyance deed.

• Tax deductible sum for the purpose of TDS u/s 194IA shall be the actual consideration paid/payable and not the value replaced by Section 43CA

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Issues• Currently, there is controversy on scope of ‘land’ and ‘building’ u/s. 50C

whether it includes items like TDR, grant of development rights, long term tenancy/leasehold rights, etc. Same will extend to 43CA also.

• Whether once the income is deemed in section 43CA, can it be deferred over a period of project, based on percentage of completion method. As per the accounting standard of ICAI and proposed accounting standard in income tax Act, the income from real estate can be offered to tax on percentage completion method (also known as work in progress method).

• Whether 43CA can apply to slump sale? • Whether bearer cheque will be considered in mode other than cash?

May 03, 2015

Section 50C

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Section 50C - Applicability

Section 50C is applicable if the following conditions are satisfied –

Condition 1: There is a transfer of a capital asset being land or building or both. The assets may be long-term capital asset or short term capital asset. It may be depreciable or non-depreciable asset.

Condition 2: The sale consideration is less then value adopted (or assessed) by any authority of a State Government for the purpose of payment of stamp duty (hereinafter referred to as “Stamp duty Authority”) in respect of such transfer.

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CONSEQUENCES IF THE ABOVE CONDITION ARE SATISFIED

Situations

1. Where the assessee accepts the value adopted by Stamp duty authority.

2. Where the assessee claims that value adopted by Stamp duty authority is more than the fair market value (but he has not disputed such valuation in stamp duty proceeding.)

Full value of consideration for the purpose of Section 48

1. Value adopted by Stamp duty authority is taken as full value of consideration.

2. Fair market value determined by the Department Valuation Officer (if it is less than the stamp duty valuation) is taken as full value of consideration. Stamp duty valuation (if the fair market value determined by the DVO is more than the stamp duty value) is taken as full value of consideration.

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Take a note• The effect of taxation on the basis of valuation as per this section is

lying with the seller or transferor.• An option of adopting the value as on the date of agreement is not

available.• Provisions of section 50C would also apply in case of capital gain from

depreciable assets. - Smita Conductors Ltd v. DCIT [2015] 152 ITD 417• This section specifically applies for the capital asset land or building or both

held as capital asset either in Investment account or in Fixed Asset by the Assessee.

• Tax deductible sum for the purpose of TDS u/s 194IA shall be the actual consideration paid/payable and not the value replaced by Section 43CA.

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Example : Sale of Building by Mr. X to Mr. Y• Sales consideration – 50L• SDV on the date of agreement – 80L (payment received of 10L on that date)₹• SDV on the date of transfer – 90L

May 03, 2015

Mr. X Sales consideration U/s 43CA

Sales consideration U/s 50C

Stock-in-trade 80L -

Capital Asset - 90L

Mr. Y Purchase Price

Stock-in-trade 50L*

Capital Asset (Non-depreciable Asset) 80L* - Sec 49(4)

Capital Asset (Depreciable Asset) 50L*

The provisions of Section 56(2)(vii)(b) would be attracted. The difference between the SDV and the actual consideration shall be taxable u/s 56(2)(vii)(b) i.e. 30L (80L-50L).

Issues arising

in section

50C

1) Applicability of section 50C in case of transfer of lease hold rights

2) Stamp duty value for the purpose of Section 54F

3) Deeming fiction of Sec 50C inapplicable to charitable trust taxation u/s 11

4) Implications on Section 69/69B5) Penalty u/s 271(1)(c)6) Sec 50C not applicable to unregistered sale

deeds prior to Oct’20097) Misc.

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Applicability of section 50C in case of transfer of lease hold rights

Favourable• Atul G. Puranik [TS-197-ITAT-2011(Mum)]

Provisions of section 50C would not apply in case of transfer of ‘lease rights’ in land. The deeming provisions of section 50C would apply only in case of transfer of land and building and not in case of transfer of lease hold rights in land or building.

Against• Hari Om Gupta [TS–207-ITAT-2014(LKW)]

Transfer of Lease Hold Rights for 99 years on land amounts to transfer of “Capital Asset” and thus it would attract the provisions of section 50C.

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Stamp duty value for the purpose of Section 54F

Against• Gyan Chand Batra v/s. ITO - [2010] 133 TTJ 482(JP)

Deeming provisions as mentioned in section 50C will not be applicable to section 54F so far as meaning of ‘full value of consideration’ is concerned, as deeming provision mentioned in section 50C is for specific asset and for purpose of section 48. The words ‘full value of consideration’ as mentioned in other provisions of the Act are not governed by the meaning of ‘full value of consideration’ as contained in section 50C. The natural meaning of full value of consideration refers to consideration specified in the sale deed.

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Stamp duty value for the purpose of Section 54F

Favourable• Gouli Mahadevappa v. ITO (2013) 356 ITR 90 (Kar.)

Where the stamp duty value U/s 50C has been adopted as the full value of consideration, the reinvestment made in acquiring a residential property, which is in excess of the actual net sale consideration , be considered for the purpose of computation of exemption U/s 54F, irrespective of the source of funds for such investment.

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Deeming fiction of Sec 50C inapplicable to charitable trust taxation u/s 11

• The Upper India Chamber of Comm. [TS-735-ITAT-2014(LKW)]

Deeming fiction created by virtue of section 50C in determining capital gain cannot be extended to section 11(1A). Section 11(1A) has to be applied for definite or limited purpose for which it is created.

Sec 11(1A) being specific section governing taxability of capital gains for trusts and a complete code in itself, shall prevail over Sec 50C which is a general section and does not start with a non-obstante clause.

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Whether addition u/s. 50C in the hands of the seller, means that the buyer has paid “on-money” and addition u/s. 69/69B for unexplained investment shall be made in the hands of the buyer?

• Section 50C creates a deeming fiction and provides that the guideline value shall be treated as the full value of consideration in the hands of the seller No presumption can be made against the buyer that he paid “on-money”. Unless the AO has evidences against the buyer that he has paid “on-money”, no addition can be made in his hands.

• Favorable: ACIT v. Rakesh Narang [TS-68-ITAT-2015(DEL)] DCIT v. Vallabhbhai [2012] 27 taxmann.com 306 (Ahd.) DCIT v. Virjibhai Kalyanbhai Kukadia [2013] 151 TTJ 219(Ahd.) Harley Street Pharmaceuticals Ltd. [2010] 38 SOT 486 (Ahd.) Sangam Tower v. ITO [2009] 130 TTJ 104 (JP)

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Penalty u/s. 271(1)(c)

Whether addition u/s. 50C would necessarily mean that assessee has “concealed” the income or “furnished inaccurate particulars thereof” and therefore penalty u/s. 271(1)(c) should be levied?

• Where in respect of sale of a property, matter was referred to DVO who determined sale consideration at a higher amount, that by itself would not amount to furnishing inaccurate particulars of income so as to levy penalty under section 271(1)(c).

Favorable: CIT v. Fortune Hotels and Estates (P.) Ltd. [2014] 52 taxmann.com 330

(Bombay HC) ACIT vs N. Meenakshi (2009) 125 TTJ 856 (Chennai)May 03, 2015

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Sec 50C not applicable to unregistered sale deeds prior to Oct’2009• Shri Gurdip Singh Sidhu TS-69-ITAT-2012(ASR)

Prior to Oct 2009, Section 50C was attracted only when property transferred through registered sale deed and not merely through a sale agreement. Amendment to Section 50C is not retrospective. Thus, Transfers after October 2009 would attract Section 50C even if sale deed not "registered" for stamp duty purposes.

• CIT vs. R.Sugantha Ravindran TS-90-HC-2013 (MAD)

Deeming provision of Sec 50C not applicable to unregistered sale deeds prior to October 2009. CBDT Circular no. 5/2010 clarifies that the introduction of the words "or assessable" u/s 50C has prospective application.

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Misc.• TV Nagasena [TS-383-ITAT-2012(Bang)]

AO is required to make a reference to Valuation Officer if assessee objects to the adoption of stamp duty valuation u/s 50C. AO’s action in not making reference to Valuation Officer violates the Sec 50C(2).

• Rupakula Srinivas v. ITO [2015] 67 SOT 58 (Hyderabad - Trib.)

AO is empowered to reopen assessment if understatement of sale consideration by assessee in terms of section 50C is prima facie established.

May 03, 2015

Section 56(2)(vii)

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Section 56(2)(vii) - Gifts received by Individual & HUF• Gifts not taxable if received -

From Relatives On the marriage of individual, By will or inheritance, In contemplation of Death of payer From local authority From Charitable Trust registered u/s 12AA From Any Trust, Foundation etc referred u/s 10(23c)

• Cash

If aggregate value is less than 50,000 than nothing will be taxable. If value ₹exceeds 50,000 , the whole amount will be taxable.₹May 03, 2015

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56(2)(vii)(b) - Immovable Property - Without Consideration

FMV≤50,000 FMV>50,000

Donor Donee Donor Donee

Not considered as transfer u/s 47(iii) – No Capital Gain

56(2)(vii) is not applicable. Cost of Acquisition (COA) will be previous owner’s Cost as per Sec 49(1). Holding period of previous owner period will be counted for donee.


SDV is income from other Sources u/s 56(2)(vii).COA will be SDV.Holding period will be counted from acquisition of property by donee.

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56(2)(vii)(b) - Immovable Property - Inadequate Consideration

FMV≤50,000 FMV>50,000



56(2)(vii) is not applicable. COA will be previous owner’s Cost as per Sec 49(1). Holding period of previous owner period will be counted for done.

Sec 50C will be applicable if Land & Building is capital Assets for Donor and Sale Consideration for Donor will be SDV. Capital Gain will be SDV less COA.Sec 43CA will be applicable if Land & Building is not a capital Assets for Donor and Sale Consideration for Donor will be SDV. Income from PGBP will be SDV less COA.

Difference of SDV and Consideration is income from other Sources u/s 56(2)(vii). At the time of further sale COA will be SDV and holding period will be counted from acquisition of property.

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56(2)(vii)(c) - Movable Property Without Consideration

FMV≤50,000 FMV>50,000



56(2)(vii) is not applicable. COA will be previous owner’s Cost as per Sec 49(1). Holding period of previous owner period will be counted for done.


Fair Market Value (FMV) shall be income from other Sources u/s 56(2)(vii). COA will be FMV. Holding period will be counted from the date of acquisition of property by donee.

Inadequate Consideration: if the difference of consideration and FMV is greater than Rs.50000/- than differential amount will be taxable for receiver and the treatment shall be the same as mentioned above.

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Allotment of ‘additional shares’• Sudhir Menon (HUF) [2014] 162 TTJ 425 (Mumbai - Trib.)

• Held

• The ITAT analyzed the tax implications under the following categories – Where the allotment is on a proportionate basis; and Where the allotment is on a disproportionate basis.

• In the first category, there was no scope for any property being received on said allotment of shares as it is similar to the issue of bonus shares whereby a share is split and the total value, post issue of additional shares in the hands of the shareholder remains the same.

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Case Laws

• Provisions of section 56(2)(vii)(c) did not apply to difference in book value and face value of additional shares.

• However, in the case of ‘disproportionate’ issue of additional shares provisions of section 56(2)(vii)(c) will apply.

• This decision may also help firm or closely held companies to mitigate the tax liability under section 56(2)(viia) of the Act on receipt of shares of a closely held company.

May 03, 2015

Section 56(2)(viia)

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Section 56(2)(viia) reads as under…

where a firm or a company not being a company in which the public are substantially interested, receives, in any previous year, from any person or persons, on or after the 1st day of June, 2010, any property, being shares of a company not being a company in which the public are substantially interested,—

(i) without consideration, the aggregate fair market value of which exceeds 50,000 ₹, the whole of the aggregate fair market value of such property

(ii) for a consideration which is less than the aggregate fair market value of the property by an amount exceeding 50,000 ₹, the aggregate fair market value of such property as exceeds such consideration.

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Section 56(2)(viia) reads as under…

…..

Provided that this clause shall not apply to any such property received by way of a transaction not regarded as transfer under clause (via) or clause (vic) or clause (vicb) or clause (vid) or clause (vii) of section 47.

Explanation.—For the purposes of this clause, "fair market value" of a property, being shares of a company not being a company in which the public are substantially interested, shall have the meaning assigned to it in the Explanation to clause (vii).

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Take a note• Transfer of shares of a company without consideration or inadequate

consideration would attract the provisions of section 56(2)(viia), if the recipient is a firm or a company.

• If such shares are received without consideration, the aggregate fair market value on the date of transfer would be taxed as the income of the recipient firm or company, if it exceeds Rs 50,000.

• If such shares received for inadequate consideration , the difference between the aggregate fair market value and the consideration would be taxed as the income of the recipient firm or company, if such difference exceeds Rs 50,000.

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Take a note• ‘Fair market value’ of a property, being shares of a closely held company,

shall have the meaning assigned to it in Explanation to section 56(2)(vii). Thus, FMV of shares of a closely held company shall mean FMV determined in accordance with rules 11U and 11UA.

• ‘Receive’ - As per the Advanced Law Lexicon dictionary, the term “receive” has been defined as “To receive means to get by a transfer, as, to receive a gift, to receive a letter, or to receive money and involves an actual receipt”.

• The provisions of section 56(2)(viia) would not apply in the case of transfer of shares – Of a company in which the public are substantially interested; or To a company in which the public are substantially interested.

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Take a note• Certain transactions are exempted from the application of this provision-

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Section Transaction

47(via) Transfer of shares held in an Indian company, in a scheme of amalgamation, by the amalgamating foreign company to an amalgamated foreign company.

47(vic) Transfer of shares held in an Indian company, in a scheme of demerger, by the demerged foreign company to a resulting foreign company.

47(vicb) Transfer by a shareholder, in a business reorganisation, of shares held in the predecessor co-operative bank, in consideration of the allotment of shares in the successor co-operative bank.

47(vid) Transfer or issue of shares by the resulting company, in a scheme of demerger, to the shareholders of the demerged company in consideration of demerger of the undertaking

47(vii) Transfer by a shareholder, in a scheme of amalgamation, of shares in the amalgamating company in consideration of allotment to him of shares in the amalgamated Indian company.

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Comparison of section 56(2)(viia) & 56(2)(vii)(c)Points of comparison Taxability in the hands of

individuals/HUFs undersection 56(2)(vii)(c)

Taxability in the hands of closelyheld companies/firms under section 56(2)(viia)

Effective from 1-10-2009 1-6-2010

Shares covered Shares of both listed andunlisted companies

Shares of only unlisted companies

Whether receipt of othersecurities taxable?

Yes No

Whether shares received mustbe the capital asset of therecipient assessee?

Yes No such requirement. This is probably because no one would hold unlisted shares as stock-in-trade

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Section 56(2)(viib)

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Section 56(2)(viib) reads as under…

Where a company, not being a company in which the public are substantially interested, receives, in any previous year, from any person being a resident, any consideration for issue of shares that exceeds the face value of such shares, the aggregate consideration received for such shares as exceeds the fair market value of the shares:

Provided that this clause shall not apply where the consideration for issue of shares is received—

(i) by a venture capital undertaking from a venture capital company or a venture capital fund; or

(ii) by a company from a class or classes of persons as may be notified by the Central Government in this behalf.

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Section 56(2)(viib) reads as under…

Explanation.—For the purposes of this clause,—

(a) the fair market value of the shares shall be the value—

(i) as may be determined in accordance with such method as may be prescribed; or

(ii) as may be substantiated by the company to the satisfaction of the Assessing Officer, based on the value, on the date of issue of shares, of its assets, including intangible assets being goodwill, know-how, patents, copyrights, trademarks, licenses, franchises or any other business or commercial rights of similar nature,

whichever is higher;

(b) "venture capital company", "venture capital fund" and "venture capital undertaking" shall have the meanings respectively assigned to them in clause (a), clause (b) and clause (c) of Explanation to clause (23FB) of section 10.May 03, 2015

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Take a note

• S.56(2)(viib) brings to charge consideration received by a company which is not a Widely Held Company (WHC) towards issue of shares in excess of Fair Market Value (FMV) of its shares.

• Section is an anti – abuse provision (SAAR) aimed at arresting circulation of unaccounted money in the economy.

• Section is triggered when CHC issues shares (including preference shares) to a resident at a premium and receives consideration which is in excess of FMV of shares.

• If section is triggered - amount in excess of the FMV of the shares is assessed as income from other sources.

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Take a note

•FMV for the purpose of this section is higher of: Normative value as may be prescribed or FMV substantiated to the satisfaction of AO (i.e. value with respect

to assets including intangible assets as of the date of issue).

• Status of relevance is person to whom shares are issued and not from whom consideration is physically received. Hence, section would not apply when shares are issued to a NR but consideration is received from a Resident.

• Resident includes Not Ordinary Resident (NOR). Section applies equally to Residents and NOR.

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Take a note

• Initial onus of proving fairness of values would be on the taxpayer. However, once reasonable clarification is provided, onus of adducing evidence and proof shifts back on the tax officer.

• Valuation for the purpose of S.56(2)(viib) would need to be done on the date of issue of share. It may not be proper for the company to rely merely on the last audited balance sheet date.

• Consideration could be monetary or non monetary. Section does not put any restriction on nature of consideration.

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Exclusions

• Issue of shares by WHC

• Issue of shares to NR

• Issue by Venture Capital Units to Venture Capital Company / Venture Capital Fund

• Issue of shares to class of persons notified by Central Government

• Issue of shares at par

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Transactions or Situation NOT likely to be impacted

• Transactions involving transfer / receipt of existing shares - buyback, forfeiture, capital réduction, liquidation etc.

• Transactions where issuing company does not receive any consideration - bonus issue, consolidation / subdivision of existing shares etc.

• Transactions where consideration received is admittedly less than FMV - rights issue, ESOPs etc.

• Sweat shares if documentation supports that fair value of consideration is not higher compared to fair value of shares issued.

• Issue and conversion of CCDs / Bonds / CCPS etc.

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• Year of taxability - Consideration received in year one but actual allotment happens in subsequent year/s. Is the assessment triggered in the year of receipt of consideration or in the year of issue of shares? S. 56(2)(viib) is triggered in the year of issue of shares and date of receipt

of share application money is not relevant.

• Implications of S.56(2)(viib) when shares are issued for cash consideration but there is a transaction of asset purchase which is consummated on a contemporaneous basis Transaction of sale needs to be contra distinguished from a transaction of

exchange. In a bonafide sale transaction, the amount agreed to be paid and agreed to be received between parties constitutes value of the consideration as between parties.S.56(2)(viib) needs to be evaluated based on this proposition.

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• CHC allots shares at premium during the year but acquires listing status at the end of the year and thus becomes a WHC as per section 2(18). Would section 56(2)(viib) still apply as the company was a CHC at the time of allotment?.

S.2(18)(b)(A) confers WHC status to a company if its shares are listed on Recognized Stock Exchange (RSE) as on last day of previous year.

Once shares of company are listed on RSEs at end of the year, a company would be WHC for whole of the financial year.

Once company, by force of statutory provision, is regarded as WHC for whole of the financial year, section does not get triggered.

Hence, reference to date of issue or date of receipt of consideration loses its significance.

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• Impact of S.56(2)(viib) in hands of a CHC (being a foreign company) issuing shares to residents. No impact as income cannot be regarded as accruing or arising in India or

deemed to be accruing or arising in India. Also, when remittance is made from India, there would be no tax trigger

as receipt would be outside of India.

• Would different considerations apply for transaction covered by S.47(xiii)/ (iv) such that shares may be issued by CHC but the seller is eligible for exemption under the provisions of S.47? Since share issue is part of a business restructuring which is tax

neutralized under any provisions of the Act does not provide any immunity from applicability of S.56(2)(viib) which needs independent evaluation.

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