ASHA NIMMAGADDA ,HYDERABAD vs. ASSISTANT COMMISSIONER OF INCOME TAX ,CIRCLE-2(2) , HYDERABAD

While adverting to the decision of the Hon’ble Apex Court in the case of Sunil Siddharthbhai vs. CIT [1985] 23 Taxman 14w (SC), he did not allow the long-term capital loss of Rs. 28,52,66,503/- and set-off of the same with the long-term capital gains of Rs. 24,77,06,773/- claimed by the assessee. As a result, the learned Assessing Officer determined income of assessee at Rs. 27,42,65,913/- as against total income of Rs. 2,65,59,140/- and losses of current year to be carried forward of Rs. 3,75,59,729/-, returned by the assessee. Aggrieved by such an action of the learned Assessing Officer, assessee preferred appeal before the learned CIT(A).

Learned CIT(A) by way of impugned order, held that the assessee, having realized the capital gains by selling the shares held by her in MAA TV, in order to evade the payment of tax on such capital gains, devised a means by way of converting the limited company into an LLP, transferred her agricultural land to such LLP towards her capital contribution at a value less than the cost of acquisition by her, thereby created artificial capital gains loss. On this premise, learned CIT(A) dismissed the appeal.

Assessee is, therefore, aggrieved and filed this appeal stating that the authorities below failed to notice that the assessee was a shareholder in the erstwhile company which was converted into LLP and, therefore, no change of her status vis-à-vis the property is brought into existence by the conversion of the erstwhile company into LLP. It is further stated that the assessee earned the capital gains by transferring shares to an LLP controlled by her daughter and herself, while the capital losses were accrued on transfer of land to LLP controlled by her and both the transactions shall be given equal treatment.

Main plank of argument of the learned AR is that the authorities below erred in entertaining the suspicion basing on the fact of conversion of Smilax Corporate Services Pvt. Ltd. into Smilax Corporate Services LLP, assessee’s retaining control over the land that was transferred to Smilax Corporate Services LLP even after such transfer, want of registered instrument to transfer the land to Smilax Corporate Services LLP and the Smilax Corporate Services Pvt. Ltd./Smilax Corporate Services LLP not doing any worthwhile business prior/subsequent to such transfer of land by the assessee towards her capital contribution.

He submitted that the conversion of company into LLP is irrelevant because, even otherwise, the assessee was the major stake-holder in the company also. He further submitted that the assessee transferred the land and shares at the Fair Market Value and in excess thereof as prescribed in the Act. He submitted that firm is distinct from the person and merely because the assessee holds a particular percentage of stake, it cannot be a parameter to test the validity of the transaction. He placed reliance on many decisions in support of his contention that when once the assessee transferred the land at Fair Market Value complying with the provisions under section 50C of the Act, merely because there occasioned some loss, it cannot be said that such a transfer is not a genuine one or that it is a colourable device. He further submitted that the learned CIT(A) is not correct in observing that for want of compliance with the stamp and registration requirement, transfer did not take place. It is also his contention that because of unfavourable business conditions, the erstwhile company or the subsequent LLP could not conduct business from 2013 and that cannot be a ground to say that the company/LLP is a fictious entity.

By placing reliance on the decision reported in Union of India vs. Azadi Bachao Andolan [2003] 263 ITR 706 (SC), he submitted that once the transaction is genuine, merely because it was entered into with a motive to avoid tax, it would not become a colourable device nor does it earn any disqualification. His submission is that the decision of the Hon’ble Apex Court in the case of Sunil Siddharthbhai (supra), has no application to the facts of the case, because, transaction is covered under section 45 of the Act whereas such case is applicable where the transactions are not covered under section 45 of the Act. He further submitted that provisions of section 45(3) of the Act gives ownership of the asset so transferred to the firm and benefits of such ownership accrue to the firm in terms of section 45(4) of the Act, and, therefore, it cannot be said that the transfer loss for the benefit of the assessee or that it goes in evasion of tax.

It is his further submission that Smilax Corporate Services LLP was formed on 18/09/2015 by conversion of Smilax Corporate Services Pvt. Ltd., such conversion was in compliance with relevant provisions of the IT Act; that the LLP and the company, its predecessor, are being assessed to tax regularly and their tax returns were also scrutinized under section 143(3) of the Act; that in none of those proceedings, the genuineness of these entities was questioned; that some entities take longer time to gain footprint in business, whole some may add other business lines; that in this context, the LLP accepted the land towards capital as the same is very near to the Financial District, Gachibowli, Hyderabad, which is the epi-centre to the IT-Software business; that the assessee has thought that owning and developing the land individually would drain her resources and bringing it under the LLP would open the roads for raising funds for development of the same; that though the land is currently in restricted use, there is strong news that local authorities may lift the restrictions on land use, which would lead to huge growth in the fortunes of the asset; that the learned Assessing Officer cannot sit in the assessee’s chair and make a review and pass judgments on the same; and that the Hon’ble Supreme Court condemned such actions of the learned Assessing Officers.

Per contra, learned DR, in tune with the orders of the authorities below, submitted that insofar as the transaction of sale of shares of MAA TV is concerned, negotiations in that respect started in February, 2015 and culminated in the sale transaction by 29/12/2015. Learned Assessing Officer never doubted the genuineness of this transaction. All the dispute in this appeal revolves around the transaction of transfer of the agricultural land to Smilax Corporate Services LLP. Both the authorities below adverted to the attendant circumstances having regard to the common course of natural events, human conduct and public and private business, in their relation to the facts of this particular case, and held that such a transaction is not free from doubt and it is only a colorable device to evade the tax. She submitted that the circumstances adverted to by the authorities have to be seen not in isolation to each other, but in a holistic way. Individually each circumstance may be innocuous, but when viewed in a comprehensive way, they cut a sorry picture of dubious means to evade tax. She submitted that the conversion of Company into LLP, transfer of land to LLP towards the capital contribution of the assessee, transactions at Fair Market Value were held by various judicial for a to be legally permissible transactions, but the unholy combination of all these factors establish the device to defeat the interests of Revenue.

She brought to our notice certain facts like the timing of conversion of the Smilax Corporate Services Pvt. Ltd. into Smilax Corporate Services LLP, transfer of such land by the assessee to Smilax Corporate Services LLP at a value less than the cost of acquisition by the assessee, the fact of assessee holding 98.17% of stake in Smilax Corporate Services Pvt. Ltd. before the transfer of land and her retaining 98.83% of stake in Smilax Corporate Services LLP subsequent to the transfer of share thereby drawing inference that by transfer, her rights in the property remained unaffected, the nature of company/LLP not doing any business, but showing losses continuously in respect of the overhead charges etc., to argue that all these circumstances cannot be understood in any better way than as understood by the authorities below. She submitted that the context only indicates that in order to evade payment tax the capital gains arising out of sale of shares, the transaction of transfer of land to Smilax Corporate Services LLP is brought into existence and such a transaction does not furnish any meaning or purpose having regard to the timing. Further according to her, the conversion of Smilax Corporate Services Pvt. Ltd. into Smilax Corporate Services LLP is not without any purpose or significance, because section 45(3) of the Act is applicable only to a firm or other association of persons or body of individuals and its specifically excludes a company or a co-operative society. Only to bring the transaction within the purview of section 45(3) of the Act, the conversion took place. This shows the design of the colourable device.

We have gone through the record in the light of the submissions made on either side. Insofar as the sale of shares of MAA TV by the assessee to Swapriya Raj Holdings LLP is concerned, it is not in dispute. Assessee herself admitted accrual of capital gains in that transaction. Only dispute is in respect of transfer of agricultural land located at Vatti Nagulapally to M/s. Smilax Corporate Services LLP at a value less than the cost of acquisition by the assessee. According to the authorities, it is only having realized the need to pay the tax in respect of capital gains arose on the sale of shares, the assessee introduced the transfer of agricultural land to Smilax Corporate Services LLP at a value less than the cost of acquisition by the assessee. This was done by converting Smilax Corporate Services Pvt. Ltd. into Smilax Corporate Services LLP. Authorities below have adverted to certain circumstances to come to a conclusion that the transfer of agricultural land to Smilax Corporate Services LLP by the assessee towards her capital contribution at a value less than the cost of acquisition by the assessee, is an artificial creation of capital losses by introducing a colurable device, which the assessee is challenging. Now we shall refer to such circumstances and deal with the legality of the reasons and conclusions.

Firstly, according to the learned AR, the transfer of MAA TV shares was to Swapriya Raj Holdings LLP wherein the assessee and her relative have stake each whereas transfer of land was to Smilax Corporate Services LLP where the assessee and some others had a stake and, therefore, similar treatment has given in both the cases. It means that if the capital gains arising out of transfer of shares is accepted, the capital loss arising out of transfer of land should also be accepted. This argument is not convincing because, the composition of the LLPs, need, motive and other attendant circumstances of sale of shares need not be identical to the transfer of land. Parties having stakes in both the LLPs are not the same parties. We do not know what considerations weighed the sale of shares. There were no suspicious circumstances attending such a transaction of sale of shares.

Authorities, however, delineated certain circumstances raising suspicion in respect of the transfer of land to Smilax Corporate Services LLP and such suspicion needs to be dispelled by the assessee with cogent reasons. Merely because the sale of shares is accepted, that by itself does not absolve the assessee from the need to explain the transaction of transfer of land. There is no such rule that one genuine transaction and one suspicious transaction, if any, have to be set-off against each other on the sole ground that in both the LLPs the assessee is a common partner. Such a concept is alien to law. We, therefore, brush aside this argument. 15. One of the factors that provoked the suspicion of the learned Assessing Officer is in respect of the transfer of land to Smilax Corporate Services LLP is the conversion of Smilax Corporate Services Pvt. Ltd. into Smilax Corporate Services LLP just before the transfer of land at a value less than the cost of acquisition by the assessee. He held that such a transfer did not bring about any change either from the point of Smilax Corporate Services LLP or from assessee. This factor on an analysis led him to conclude that the conversion is only to bring the transaction within the purview of section 45(3) of the Act, recording of lesser value in the books of LLP in respect of such land than her cost of acquisition is only to introduce the artificial capital loss, and in that way, it is not a case of tax avoiding by proper tax planning, but it is a case of tax evading through a colourable devise.

Smilax Corporate Services Pvt. Ltd. is a company where the assessee held 99.17% of stake. It was formed for the purpose of carrying on business of providing Corporate Liaison Services. Admittedly, this company did not do any business in the last preceding years and also the succeeding Smilax Corporate Services LLP also did not do any business not only during the assessment year under consideration, but also in the assessment year 2017-18 and 2018-19. All through these entities were booking losses towards the overhead charges. Though the assessee claimed that such a company was waiting for good days and in that hope only, waiting for the lifting of the restrictions under G.O.No. 111, in respect of land usage it was converted to Smilax Corporate Services LLP on 18/09/2015. After the sale of shares by the assessee and deriving capital gains by way of amended deed dated 16/03/2016, the assessee transferred her individual property to the books of LLP towards her capital contribution.

Cost of acquisition of such land was Rs. 19,52,82,028/- in the year 2006-07 to 2007-08. The value of property in the books of the LLP was shown as Rs. 11.70 crores as against the cost of acquisition of Rs. 19.53 crores, a decade back. It is not as though there was no guidance as to the value of property, except SRO value. The cost at which the assessee acquired the same was serving as guidance as on the date of transfer to LLP. Assessee did not plead or prove any circumstances, much less compelling reasons, to transfer the property to the LLP at almost one fourth of the indexed cost of acquisition which happened to be at Rs. 40,22,66,503/-. The sale of shares was the result of negotiations for over ten months, namely, negotiations started in February, 2015 and the sale took place on 29/12/2015; whereas the element of such negotiations or the operation of the market forces is conspicuously absent in case of value entered in the books of LLP on such transfer. The value was no doubt at Fair Market Value as per SRO value, but there was no need for the assessee to suffer losses at that point of time. At the same time, this particular transfer did not result in any profit-making conduct of business of the Smilax Corporate Services LLP. Except the unfounded statement made by the assessee at a later point of time, to the effect that with a fond hope of lifting the restrictions imposed by G.O. No. 111, which does not inspire confidence in our mind, the purpose and motive of such transfer remains un-known.

Argument of the assessee is that even if the Smilax Corporate Services Pvt. Ltd. was not converted into Smilax Corporate Services LLP, the assessee still had an option to transfer to transfer the land to a company as per the provisions under section 45 read with section 2(47)(vi) of the Act, where registration is mandatory. If it is a fact, it makes the case of the assessee worse, because in that case, the conversion of Smilax Corporate Services Pvt. Ltd. into Smilax Corporate Services LLP remains redundant. In this context, we find it difficult to brush aside the reason for such conversion explained by the learned DR and for that matter, learned Assessing Officer. According to the learned DR, provisions of section 45(3) of the Act speak of a partnership firm or an AOP, not being a company or co-operative society and considering this exception, the assessee converted her 98.17% owned company into 99.83% owned LLP just to take advantage of this contribution of capital and thereby evade tax liability arising on the transfer of MAA TV shares. We do not see any other reason.

Nobody knows as in the year of 2015 and 2016, when will the restrictions clamped by G.O. No. 111, on the land usage, will be revoked or whether such restrictions will ever be revoked or not. The stake holders in the earlier Smilax Corporate Services Pvt. Ltd. happened to be the partners in Smilax Corporate Services LLP. The resources of assessee or Smilax Corporate Services LLP remain the same before and after transfer. We can understand the genuineness of either conversion of company into LLP or the transfer of land if such conversion/transfer happens in the proximity of such a need. Except to introduce a colourable device, no other meaning is indicated in this transaction. Question here is, therefore, not whether the percentage of stake holding either in company or in the LLP changes the character of a transaction, but it throws some light to view the things in their proper perspective. 20. Whether or not a registered instrument is necessary to effect transfer of land to an LLP towards capital contribution, is no longer res integra and now it is settled that such an instrument is not necessary. To that extent, we disapprove the observations of the learned CIT(A). For that matter, learned Assessing Officer did not take any such ground.

Other aspect agitated by the assessee is that when a transaction takes place at Fair Market Value, even if it results in capital loss, it is not for the learned Assessing Officer to question the same and the learned Assessing Officer cannot sit in the chair of the assessee to pass a judgment on the same. We agree with this contention of the assessee, provided the transactions are free from doubt. It shall be kept in mind that the Hon’ble Apex Court in the case of Sunil Siddharthbhai vs. CIT [1985] 156 ITR 509 (SC) held that if the transfer of the personal asset by the assessee to a partnership in which she is or becomes a partner is merely a device or ruse for converting the asset into money which would substantially remain available for his benefit without liability to income-tax on a capital gain, it will be open to the income-tax authorities to go behind the transaction and examine whether the transaction of creating the partnership is a genuine or a sham transaction and, even where the partnership is genuine, the transaction of transferring the personal asset to the partnership firm represents a real attempt to contribute to the share capital of the partnership firm for the purpose of carrying on the partnership business or is nothing but a device or ruse to convert the personal asset into money substantially for the benefit of the assessee while evading tax on a capital gain.

In that case, Hon’ble Court held that the learned Assessing Officer will be entitled to consider all the relevant indices in this regard, whether the partnership is formed between the assessee and his wife and children or substantially limited to them, whether the personal asset is sold by the partnership firm soon after it is transferred by the assessee to it, whether the partnership firm has no substantial or real business or the record shows that there was no real need of the partnership firm for such capital contribution from the assessee. All these and other pertinent considerations may be taken into regard when the learned Assessing Officer enters upon a scrutiny of the transaction, for in the task of determining whether a transaction is a sham or illusory transaction or a device or ruse he is entitled to penetrate the veil covering it and ascertain the truth. 23. When the learned Assessing Officer undertakes such an exercise as referred to by the Hon’ble Apex Court, he is duty bound to examine the issue in the facts and circumstances in their entirety. Merely because there was paper compliance with the requirements of law, an apparent need not be real. Learned Assessing Officer undertook the search for the essential reality seeking to un-cover the economic substance of the transactions in order to allow the tax burden to fall with the exact weight as intended by the Legislature.

There cannot be any doubt that if we do not appreciate the facts of conversion of company into LLP wherein the assessee has got substantial interest, transfer of the agricultural lands to such LLP at a value less than the cost of acquisition by the assessee, introduction of the capital losses on this deemed transfer - in the light of assessee earning capital gains by transfer of shares – the earlier transactions remain meaningless. There is no presumption that the conversion of company into an LLP and transfer of lands to such LLP at a value less than the cost of acquisition by the assessee towards capital introduction resulting in capital loss, is a futile exercise. Explanation as to the hope of revocation G.O. No. 111, is too weak and vague to be accepted. Only plausible explanation is that the voluntary act of transfer of land at a value less than the cost of acquisition by the assessee is only to introduce artificial capital loss through a colourable device. No other understanding is possible.

Having regard to the common course of natural events, human conduct and public and private business, in their relation to the facts of this particular case, we are of the considered opinion that the capital losses said to have been incurred by the assessee are only notional and introduced artificially. Authorities below rightly disallowed the same. With this view of the matter, we do not find any illegality or irregularity in the findings of the authorities below and the same are upheld. Grounds of appeal are accordingly found devoid of merits.

In the result, appeal of the assessee is dismissed. Order pronounced in the open court on this the 22nd day of September, 2023.