UNNATI INORGANICS PVT. LTD.,BHAVNAGAR vs. THE ITO, WARD-1(5), , BHAVNAGAR

आदेश/O R D E R

PER PRADIP KUMAR KEDIA - AM:

[Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 2 - 2. The solitary ground of appeal of the assessee seeks to impugn the action of the CIT(A) in confirming an addition of Rs.2,04,82,560/- to the returned income by invoking the provisions of Section 56(2)(viib) of the Act.

“(a) No accounting entry has been passed in respect of the difference between the Fair Market Value (FMV) of the immovable property at the relevant point of time (based on jantri price) and its corresponding actual costs as reflected in the books of account; (b) Since the premium charged was less than what was required to be charged, if based on the jantri price of one of the underlying immovable properties, there is arbitrariness in deciding the price of the share at a lower amount of Rs.33/-, including the premium of Rs.23/-per share; (c) Since the Appellant initially acquired an immovable property in village Padra for setting up its plant and thereafter acquired another land at village Dahej in view of it not being in a position to complete the legal formalities vis-a-vis the first property, there is an element of adhocism in the actions of the Appellant; (d) The FMV of the share, as calculated by the Appellant, was not substantiated by it to the satisfaction of the AO.”

6.1 The learned AR for the assessee submitted at the outset that the action of the Revenue authorities is based on the mis-appreciation of facts and mis-conception towards position of law. To begin with, the learned AR pointed out that the assessee company was originally [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 4 - promoted by the members of two families namely ‘Rauts’ & ‘Voras’ who contributed certain funds towards initial capital for the purposes of carrying on the business of manufacturing of and dealing in precipitated Silica. After incorporation of the company, the assessee purchased two plots of adjoining land in Taluka Padra Dist. Vadodara in the month of Jan. 2010. The aforesaid plots of land were agricultural plots and therefore the process of converting the same into non agricultural one was commenced so as to utilize the same for setting up the manufacturing facilities thereon. However, to obviate possible delay and consumption of longer time for completion of the conversion, the assessee purchased another piece of industrial land at Dahej, Dist. Bharuch and the activities of setting up necessary infrastructure thereon were commenced. Since, the setting of entire manufacturing facility required sizeable investment and since the assessee company was owned and controlled only by two families at the relevant point of time, it was considered necessary to negotiate and invite one more group to join assessee company not just by contribution of funds towards share capital but also to join its Board of Directors. One Luhariwala Group headed by Mr. Vineet Luhariwala agreed to the proposal and introduced certain funds into the assessee company partly in the financial year relevant to AY 2013-14 and partly in the year under consideration i.e. AY 2014-15. The learned AR next observed that as per a broad understanding with Luhariwala group, its members agreed to purchase / apply for such number of shares so as to be holders of approximately 1/3rd of the aggregate shares of the company. Owing to substantial increase in the underlying parcels of land acquired by the assessee company in past, it was agreed that the shares will be acquired by Luhariwala group at a negotiated price of Rs.33/- per share bearing face value of Rs.10/-. It was also agreed that even the original promoter groups will also contribute certain additional funds into the assessee company which will also be allotted at the same rate. The learned AR thereafter [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 5 - submitted that the negotiation of price with Luhariwala group was clearly based on the FMV of parcels of land taken in a very conservative way which was in fact substantially below even the jantri rate declared by the Government of Gujarat in so far as Dahej land was concerned. On the basis of this arrangement, the assessee issued 2,10,000 shares to Luhariwala group in FY 2012-13 (AY 2013-14) and further 9,06,000 shares in FY 2013-14 (AY 2014-15). All these shares were issued at a premium of Rs.23 per share. The assessee also issued 1,61,000 shares each in FY 2013-14 to the original two groups the Rauts & Voras who also subscribed the shares at the same rate of premium. All these transactions were carried out through proper banking channel and necessary formalities as prescribed under the Companies Act, 2013 were duly complied with. Upon completion of all these formalities, the share holdings of each of these three groups resulted in almost equal proportion as per the initial understanding between them.

6.2 The learned AR pointed out that the core promoter namely Bharat Raut is an IIT in Chemical Engineering with over 35 years’ experience in Silica, a chemical product with vast array of end uses in Tyres, toothpaste, cosmetics, fertilizers, pesticides, footwears and so on. Similarly, Mr. Vineet Luhariwala who joined as co-promoter had robust marketing expertise. The learned AR submitted that given the solid combination of marketing expertise and technical expertise together with eminence associated with the Silica project, plant at Dahej and teams capabilities, a reputed company of Tata Group namely Tata Chemicals also offered for purchase of entire plant at Rs.34.20Crore whereby per share value would stand at Rs.40/- per share. However, due to certain legal obstacles the proposed Tata deal could not materialize. A business transfer agreement was also signed in this regard. In December 2016, a Singapore based company has actually purchased 10% shares of the assessee company at a price of [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 6 - approximately Rs.47/- per share. Reflecting the confidence of the giant groups in the technology start up, the promoters have themselves pulled in their own funds at a moderate premium of Rs.23/- per share. It was pointed out that the aforesaid premium is not astronomical in any manner in such technical start ups. The learned AR also referred to an article as published on 10.02.2017 in newspaper The Hindu- Business line revealing ongoing current plans by Tata Group to invest substantial amount in the plant set up by the assessee company for manufacturing processed silica.

6.3 It was then submitted that the AO however did not appreciate the simple justification of charging premium @ Rs.23/- per share by mis- interpreting the clear and unambiguous provisions of Section 56(2) of the Act. The learned AR adverted to Explanation to Section 56(2)(viib) of the Act and submitted that the FMV of the shares to be adopted shall be higher of two limbs as provided in the Explanation (a) to Section 56(2)(viib) of the Act. It was contended that as per first limb, the method of valuation as set out in Rule 11UA may be applied for determination of FMV. As per the second limb, however, the assessee is entitled to and is at liberty to substantiate and justify the FMV of shares based on intrinsic value of tangible and intangible assets hold by the assessee company. The learned AR then observed that the AO ignored the second limb of Explanation (a) completely. Referring to the second limb, the learned AR submitted that dilution of ownership of the existing shareholders on account of further issue of share capital is commercially tenable only on the basis of FMV of the underlying assets already held by the company. Therefore, the Revenue Authorities have committed fatal error in not taking cognizance of the intrinsic value of the parcels of lands held by the assessee. [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 7 - 6.4 The learned AR next submitted that insertion of Section 56(2)(viib) was aimed to primarily curb the practice adopted earlier by certain companies with dubious intent whereby shares were being issued at huge premium in favour of dummies who would otherwise be men of no means. Such provision is not intended to harm the genuine business transactions. Rule 11UA connotes FMV of shares only with reference to the book value of underlying assets and liabilities which may, at times, be at great variance in comparison to the intrinsic value of assets and business capabilities prevailing at the relevant point of time. It is for this reason that an alternative method for arriving at FMV was embodied in Explanation (a) so as to ensure that the commercial decisions legitimately taken at arm’s length between the parties are not adversely effected.

6.5 The learned AR went on to submit that in the backdrop of aforesaid submissions, it needs to be appreciated that when the ‘Routs’ & ‘Voras’ negotiated the deal with the ‘Luhariwalas’, the basis of arriving at the FMV of the shares was inter alia the market value of the Dahej land on which the construction of factory premise was being carried out. It was the proposition of ‘Routs’ & ‘Voras’ that the jantri rate of Dahej land was fixed at Rs.3060/- per sq.mtr. by Gujarat Government. The value of Dahej land would thus translated into its FMV in the vicinity of at Rs.9.18 Crore as against its actual cost of acquisition at Rs.2,31,46,397/- as incurred by the assessee and consequently, reflected as book value in the books of accounts. When the aforestated market value is factored and substituted to the book value, the net worth of the company would go up considerably and the shares price would shoot up to nearly Rs.55/- per share i.e. far beyond the negotiated price. Upon negotiation with Luhariwala, a trade off was arrived at a price of Rs.33/- per share coupled with a clear understanding that Routs & Voras will also infuse further funds by acquiring 1,61,000 shares each and such shares will also be issued at [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 8 - the same price. The learned AR pointed out that Vineet Luhariwala being a gold medalist in chemical engineering from IIT, Rurki and very successful professional in the field, the existing promoters readily agreed to concede the terms of arm’s length basis in keeping with the overall interest of the business of the company.

6.6 As a part of the above arrangement, the assessee issued 2,10,000 shares to Luhariwala group in FY 2012-13 relevant to AY 2013-14. The paid up share capital was further increased in the year under appeal by issuing 1,61,000 shares each to the Routs & Voras and 6,94,000 shares to the Luhariwala. All these shares were issued to the various groups at a premium of Rs.23/- per share. Upon completion of this arrangement, each of the three groups ended up holding almost 1/3rd of the total share capital of the company. As a part of this arrangement, Vineet Luhariwala was taken on Board as a third Director of the company and continues to hold the same position thereafter.

6.7 Turning to the another contention of the Revenue, the learned AR thereafter submitted that the contention of the AO as wrongly approved by the CIT(A) that absence of accounting entry in relation to re-valuation of asset in the books makes the action of the assessee for determination of FMV questionable has no substance. The learned AR contended in this regard that financial accounting is pre-dominantly historical in method and the re-valuation of assets in the books of accounts is not necessary at all for the purposes of the second limb to Explanation (a) to Section 56(2)(viib) of the Act. A re-valuation or otherwise, according to the learned AR does not have any impact for determination of true value. The learned AR referred to and relied upon the decision of the Supreme Court in Kedarnath Jute Manufacturing Co. Ltd. vs. CIT (1971) 82 ITR 363 (SC) for the proposition that the manner of entries in the books of accounts would [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 9 - not be decisive or conclusive in determination of true profits and absence of entries in the books of accounts will not impinge upon the rights of the assessee in demonstrating the intrinsic value. The learned AR thus submitted that the revenue authorities gravely misapplied the position of law in the facts of the case.

6.8 The learned AR thus contended that on a recital of the factual position and position of law noted above, the action of the AO in restricting the FMV of shares artificially at Rs.12.84 and thereby subjecting the differential amount of premium as subject matter of addition under s.56(2)(viib) of the Act resulting into and addition of Rs.2,04,82,560/- is de hors the ground realities as well as opposed to the letter as well as spirit of provision introduced.

6.9 Propping up its case, the learned AR for the assessee further referred to the assessment order concerning AY 2016-17 passed under s.143(3) of the Act wherein the AO disputed the allotment of fresh shares to Bharat Raut Group (Janay Project & Services Pvt. Ltd.) at Rs.46/- per share and agreed for FMV at Rs.33/- per share at which the shares were allotted to Luhariwala group. The AO in AY 2016-17 accordingly treated Rs.13/- per share to be excess premium collected and consequently chargeable to tax under s.56(2)(viib) of the Act. The learned AR thus submitted that in the subsequent assessment year, the premium collected by the assessee on subscription made by Luhariwala Group was actually endorsed. Thus, it does not lie in the mouth of the Revenue to take a different position in the preceding assessment years in total contrast to a position duly taken.

6.10 Making reference to the decision rendered by the co-ordinate bench in Rameshwaram Strong Glass (P) Ltd. 172 ITD 571 (Jaipur Trib.) & ASG Leather (P) Ltd. 171 ITD 476 (Kolkata Trib.) the learned AR sought to assert that the assessee has a strong case on [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 10 - merits in terms of Explanation (a) (ii) to Section 56(2)(viib) of the Act. The learned AR submitted that the CIT(A) has totally ignored and bypassed the position of law in the given set of facts and alleged adhocism and arbitrariness disregarding the commercial exigencies and consequently alleged that the action of Revenue is totally opposed to the facts and vitiated in law. The learned AR accordingly urged for reversal of the action of the AO and CIT(A).

8.1 The Finance Act, 2012 inserted Section 56(2)(viib) of the Act w.e.f. 1st April, 2013 and consequently applicable from AY 2013-14 onwards. Section 56(2)(viib) of the Act imposes tax liability on company itself in respect of excessive premium collected by such company from resident subscribers of its shares. It will be thus prudent to reproduce the relevant provision applicability of which is in question:

"Income from other sources. 56. (1) Income of every kind which is not to be excluded from the total income under this Act shall be chargeable to income-tax under the head "Income from other sources", if it is not chargeable lo [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 11 - income-tax under any of the heads specified in section 14, items A to E. (2) In particular, and without prejudice to the generality of the provisions of subsection (1), the following incomes, shall be chargeable to income-tax under the head "Income from other sources ", namely :-— …………………………………………………………………………………………. (viib) 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. 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, parents, copyrights, trademarks, licences, franchises or any other business or commercial rights of similar nature, whichever is higher."

8.2 A perusal of Section 56(2)(viib) of the Act quoted above seeks to enable the determination of FMV by two methods: (i) prescribed method as purportedly embedded in Rule 11UA of Income Tax Rules and (ii) FMV based on the intrinsic value of the assets both tangible and intangible on the date of issue of shares. Thus, the FMV of all the assets (tangibles, intangibles, human resources, right of management or control or other rights whatsoever in or in relation to Indian company) whether recorded in the books or not, appearing in the [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 12 - books at their intrinsic value or not, is a sufficient warrant to value the premium on issue of unquoted equity shares by closely held company. Thus, the Explanation (a)(ii) itself implies that book entry for recognition of intrinsic value is not necessary at all. Also, the higher of the value determined as per the first and second limb of Explanation shall be adopted for the purposes of Section 56(2)(viib) of the Act.

8.3 The assessee company, in the instant case, seeks to take shelter of second limb of Explanation (a) to contend that book value of the parcel of lands hold by the assessee company requires to be replaced by intrinsic value, by virtue of which the FMV would surpass the negotiated premium by the assessee company.

8.4 It is essentially the case of the assessee that the intrinsic value of parcels of land allocated at Padra & Dahej are substantially higher and once the book value is replaced by the intrinsic value, the FMV of shares allotted would be far higher than the negotiated price. At this stage, we notice from the assessment order that calculation of premium has been made by the assessee in para 3.1 whereby the share premium eligible to the assessee was worked out to Rs.22.34 per share (say to Rs.23/-) on substitution of book value of land by the value as per the valuation report. It is the case of the assessee that value of Dahej land has been taken at 45% of the jantri value only whereas if full amount as per jantri value is adopted, the valuation would be more than double of the present valuation. In the circumstances, it is case of the assessee that higher FMV as per second limb to the Explanation is duly substantiated by the valuation report and the action of the CIT(A) in confirming the order of the AO is marred by mis-conception of law and facts. It is further case of the assessee that cursory observation of adhocism and arbitrariness by the first appellate authority can be no ground to depart from the ostensible [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 13 - factual position. The market value of the land prevailing at the time of issue of shares requires to be substituted which value is duly supported by the valuation report obtained in this regard. Such valuation report has not been successfully controverted by the Revenue.

8.5 As narrated in the preceding paras, the limited question that arises for consideration is whether the value of land parcels adopted by the assessee as per the valuation report requires to be taken cognizance of for the purposes of Section 56(2)(viia) of the Act or not. At this juncture, we observe that one of the grounds taken for rejecting the basis of determination of FMV is that no accounting entry has been passed in respect of difference between the FMV of the immovable property at the relevant point of time in the books of accounts. As observed in the earlier paras, we do not see any merit in this line of reasoning adopted by the lower authorities. It is well settled that even where the assessee fails to make necessary entries in the books of accounts, it will not operate as a bar for claiming benefits by way of deduction etc. as was held by the Hon’ble Supreme Court in the case of Kedarnath Jute Manufacturing Co. Ltd. vs. CIT (1971) 82 ITR 363 (SC). Secondly, the second limb of Explanation (a) itself provides for determination of FMV based on value of underlying assets. As a corollary, the value once substantiated would be replaced with the book value for the purposes of FMV regardless of the book entries in this regard. This basis adopted by the lower authorities therefore does not hold any water.

8.6 We now advert to the another allegation made by the CIT(A) that the action of the assessee company is marred by adhocism and beset with arbitrariness. The CIT(A) has observed that project was ultimately set up at Dahej despite acquisition of land at Padra which defies logic and gives an impression of adhocism. We fail to [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 14 - understand the purport of such observation for determination of FMV. The intrinsic valuation of the land as sought to be demonstrated by the assessee was required to be looked into to give effect to Explanation (a) below Section 56(2)(viib) of the Act. The manner in which the assessee was required to run its business is totally within the domain of the assessee and has no bearing on applicability of Section 56(2)(viib) of the Act. We are also unable to see substance in the allegation of arbitrariness in the conduct of the assessee. What the assessee has attempted to demonstrate that the market value of Padra land and 45% of jantri value of Dahej land itself is sufficient to justify the premium collected. By stating so, the assessee merely seeks to justify the bonafides of the premium based on value of the land. The assessee has also attempted to narrate the circumstances for unison of existing promoters group (Rauts & Voras) and incoming group (Luhariwala). The valuation got done after the issue of shares is really of no consequence. What is relevant is whether at the time of allotment of shares, the value of shares as claimed existed or not! The valuation report is not an evidence in itself but merely an opinion of an independent having regard to totality of expert facts and circumstances existing on the date of valuation. So long as the facts and circumstances exist, the presence or otherwise valuation report per se has no effect. Both the lower authorities have failed to controvert the value adopted for land parcels in departure with the book value. No rebuttal of the fact towards the value is on record. The Revenue authorities are clearly guided by irrelevant consideration while holding against the assessee. The AO himself in the subsequent year has disputed the higher valuation of Rs.46/- and unequivocally adopted Rs.33/- as fair value. The assessee has also been able to demonstrate the arm’s length transaction and unison of two different groups bringing different capabilities and expertise for the furtherance of business. The peripheral evidences in the form of interest shown by giant groups like Tata are significant and underlie the bonafides in [Unnati Inorganics Pvt. Ltd. Vs. ITO] A.Y. 2014-15 - 15 - the fair valuation for issuance of fresh shares. There is another overwhelming factor subsisting in the case to justify the fair value. The existing promoters have also subscribed at the rate similar to the rate at which shares were allotted to Luhariwala Group which further reinforces the inherent strength in the valuations of the company as represented by the value of equity shares. We thus see no valid reason whatsoever in upholding the adverse conclusion drawn by the Revenue Authorities. The order of the CIT(A) accordingly set aside and the AO is directed to delete the addition made under s.56(2)(viib) of the Act discussed above.

This Order pronounced in Open Court on 11/09/2019

Sd/- Sd/- (MAHAVIR PRASAD) (PRADIP KUMAR KEDIA) JUDICIAL MEMBER ACCOUNTANT MEMBER Ahmedabad: Dated 11/09/2019 True Copy S. K. SINHA आदेश क� ��त�ल�प अ�े�षत / Copy of Order Forwarded to:- 1. राज�व / Revenue 2. आवेदक / Assessee 3. संबं�धत आयकर आयु�त / Concerned CIT 4. आयकर आयु�त- अपील / CIT (A) 5. �वभागीय ��त�न�ध, आयकर अपील�य अ�धकरण, अहमदाबाद / DR, ITAT, Ahmedabad 6. गाड� फाइल / Guard file. By order/आदेश से,

उप/सहायक पंजीकार आयकर अपील�य अ�धकरण, अहमदाबाद ।