COMMISSIONER OF INCOME-TAX, BIHAR vs. DALMIA INVESTMENT CO. LTD.

CIVIL APPEAL No. 780/1962Supreme Court[1964] 7 S.C.R. 21013 March 1964Bench: 3 JudgesAuthor: A.K. SARKAR, M. HIDAYATULLAH, J.C. SHAH18 pages
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What did the Supreme Court hold?

The Supreme Court, in a majority decision (Hidayatullah and Shah, JJ.), held that the bonus shares cannot be valued at nil cost, nor at their face value. The Court reasoned that the Income-tax Act's definition of 'dividend' does not extend to make the issue of bonus shares a release of reserves as profits. The certificate for bonus shares entitles the holder to a share in the company's assets and future profits, but its market price is affected by various factors, not just its face value. The Court found that the issue of bonus shares results in an instant loss to the shareholder in the value of their original holding, as the earning capacity of the capital remains the same. Therefore, the method of calculating the cost of bonus shares at nil or face value is incorrect. The Court held that bonus shares can be valued by spreading the cost of the old shares over the old and new shares combined, provided they rank pari passu. In this case, as the bonus shares ranked pari passu with the old shares, the original cost of Rs. 5,84,283 for 31,909 shares was spread over these shares and the 31,909 bonus shares, resulting in a proportionate cost of Rs. 2,92,141 for the bonus shares. This led to a revised calculation showing a profit of Rs. 7,444 on the sale of all shares, which was to be added to the income returned. The High Court's finding that the profit was Rs. 3,11,646 was deemed erroneous. The appeal was allowed.

What were the facts?

The assessee, Dalmia Investment Co. Ltd., dealt in shares and held investments. On January 1, 1948, it held 1,10,747 shares of Rohtas Industries at a book value of Rs. 15,57,902. This included 31,909 bonus shares issued in 1945, which the assessee debited at their face value of Rs. 10 each, totaling Rs. 3,19,090, with a corresponding credit to the capital reserve account. The assessee had acquired these bonus shares at a cost of Rs. 5,84,283 in 1944. On January 29, 1948, the entire lot of 1,10,747 shares was sold for Rs. 15,50,458. The assessee claimed a loss of Rs. 7,444 by deducting the sale price from the book value. The Income-tax Appellate Tribunal valued the bonus shares at nil and held a profit of Rs. 3,11,646. The High Court, on reference, disagreed with the Tribunal, finding the assessee's profit calculation erroneous.

What were the issues?

1. Whether the bonus shares, when sold, can be valued at their face value for the purpose of calculating profit or loss on sale (question of law). 2. Whether the cost of bonus shares should be considered nil, making the entire sale proceeds taxable as profit (question of law). 3. How to correctly determine the cost of bonus shares for the purpose of calculating capital gains or losses (question of mixed law and fact). Assessee's Contentions: The assessee contended that the bonus shares should be valued at their face value (Rs. 10 each) for the purpose of calculating the cost of acquisition. This led to a claimed loss of Rs. 7,444. Revenue's Contentions: The Revenue contended that the assessee had paid nothing for the bonus shares, and therefore, the entire sale proceeds of these shares should be treated as profit and taxed accordingly. The Revenue's view was that the cost of bonus shares was nil. Tribunal's Finding: The Tribunal valued the bonus shares at nil and determined a profit of Rs. 3,11,646.

Which sections of the Income-tax Act were involved?

Section 68

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1§61 March 1.3 210 SUPREME COURT REPORTS [1964} COMMISSIONER OF INCOME-TAX, BIHAR v. DALMIA INVESTMENT CO. LTD. [AK. SARKAR, M. HIDAYATULLAH AND J. C. SHAH, JJ.] ~ Income-tax Act-Business-Investment company-Dealing in shares-Bonus shares-Valuation.

The assessee company dealt in shares and also held invest- ments of shares on January 1, 1948. The assessee held 1,10,747. shares of Rohtas Industries at a book value of Rs. 15,57,902/-.

Of these shares 31,909 were bonus shares issued by Rohtas Indus- tries in 1945 at the face value of Rs. 10/- each and the assessee had debited the investment account in respect of the bonus shares by Rs. 3,19,090 with a· corresponding entry in the capital reserve account on its credit side for the same amount. The. assessee acquired these bonus shares at a cost of Rs. 5,84,283 in 1944. On January 29, 1948, the assessee sold the entire lot of 1,10,747 shares for Rs. 15,50,458. The assessee deducted the sale price from the book value of Rs. 15,57,902 and claimed a loss of Rs. 7,444 on the sale of shares. The appellate Tribunal valued the bonus shares at nil and held that the assessee had made a profit of Rs: 3,11,646/-. On a referen

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