DHAVAL N PATEL vs. COMMISSIONER OF INCOME TAX, AHMEDABAD - IV

C/SCA/14422/2008 JUDGMENT IN THE HIGH COURT OF GUJARAT AT AHMEDABAD SPECIAL CIVIL APPLICATION NO. 14422 of 2008 With SPECIAL CIVIL APPLICATION NO. 14423 of 2008

FOR APPROVAL AND SIGNATURE:

HONOURABLE MR.JUSTICE AKIL KURESHI and HONOURABLE MS JUSTICE SONIA GOKANI ================================================================ 1 Whether Reporters of Local Papers may be allowed to see the judgment ? 2 To be referred to the Reporter or not ? 3 Whether their Lordships wish to see the fair copy of the judgment ? 4 Whether this case involves a substantial question of law as to the interpretation of the Constitution of India, 1950 or any order made thereunder ? 5 Whether it is to be circulated to the civil judge ? ================================================================ DHAVAL N PATEL....Petitioner(s) Versus COMMISSIONER OF INCOME TAX, AHMEDABAD - IV & 1....Respondent(s) ================================================================ Appearance: MR TUSHAR P HEMANI, ADVOCATE for the Petitioner(s) No. 1 MR NITIN K MEHTA, ADVOCATE for the Respondent(s) No. 1 - 2 ================================================================ CORAM: HONOURABLE MR.JUSTICE AKIL KURESHI and HONOURABLE MS JUSTICE SONIA GOKANI

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C/SCA/14422/2008 JUDGMENT Date : 26/02/2014

ORAL JUDGMENT (PER : HONOURABLE MS JUSTICE SONIA GOKANI) 1.Facts are common in both the petitions.   Therefore both the petitions are heard together and are being disposed of by   this   common   judgment.   For   the   purpose   of   this judgment, we may notice the facts   as arising in Special Civil Application No.14422/2008. 2.Challenge in this petition preferred under  Article 226 is made to the issuance of order under section 179 of the Income Tax Act (“the Act” here­in­after) dated 11.1.2005 as also to order passed under section 264 of the Act dated 19.3.2008. 3.The factual background necessary  for adjudication  is as follows : 3.1. The petitioner  was a promoter/director  of a public limited   company   named   Lanzorate   Finance   (India) Limited   which   was   originally   incorporated   as   Ravit Vinimay   Limited   with   Registrar   of     Companies   on 19.8.1992 and   obtained the certificate of commencement   of   business   as   on   17.9.1992.   The company   was   engaged   in   the   business   of   secondary market   operations   and   project   consultancy   and, thereafter, started its activity of equipment leasing. The company came out with its public issue of equity shares on 18.6.1996. It is averred that the prospectus of the company provides details of the company. The petitioner Page 2 of 14

C/SCA/14422/2008 JUDGMENT resigned from the company on 31.5.2000 due to change in the management. 3.2. For the assessment year 1996­1997, amount of tax demanded   from   the   company   was   to   the   tune   of Rs.53,18,694/­.   In   view   of   the   petitioner   being   the director  of the said company  at the relevant  point  of time, a show cause notice was issued under section 179 on 17.11.2004 proposing to recover such arrears of tax from the petitioner. 3.3. Vide its reply dated 26.11.2004, it was contended by the petitioner that such notice is not maintainable as the   company   was   a   public   limited   company   and provisions of section 179 would not be applicable. The Assessing   Officer   however,   passed   an   order   on 11.1.2005   holding   the   petitioner   jointly   and   severally liable for such tax demand and a consequent notice was issued   on   31.1.2005     to   recover   said   amount.   The petitioner preferred   Special Civil   Application No.11542/2006 challenging the validity of such notice. The Court vide its order dated 18.7.2006 dismissed the petition on the ground that no evidence was adduced to show that the company was a public limited company and therefore, in the petition under Article 226 of the Constitution of India, Court cannot go into those factual details. 3.4. The   petitioner   thereafter,   preferred   a   revision application under section 264 of the Act challenging the notice impugned. The Commissioner of Income­tax in its Page 3 of 14

C/SCA/14422/2008 JUDGMENT order   dated   19.3.2008   dismissed   the   revision application  on the ground that  the assessee’s Special Civil Application before this Court was not entertained and   was   dismissed,   therefore,   his   application   for rectification   of   order   under   section   179   also consequently deserved to be rejected.   Resultantly, the present petition challenging both the impugned orders made under section 179 and order under section 264 in the revision petition, seeking the following prayers : “a. Direct   the   respondents   to   quash   and   set   aside   the impugned order u/s.179 dated 11.01.2005 at Annexure ’A’ to this petition and quash and set aside the impugned order u/s 264 of the Act dated 19.03.2008 at Annexure B to this petition. b. pending the admission, hearing and final disposal of this petition,   stay   operation   and   implementation   of   the   impugned order u/s 179 dated 11.01.2005 at Annexure­A to this petition. c. any other  and further  relief deemed  just  and proper  be granted in the interest of justice. d. to provide for the cost of this petition.” 4.We have heard learned counsel Shri Tushar Himani for the petitioner who has fervently contended that company is a public limited company and, therefore, the very provision is not applicable. He has also pointed out various documents to substantiate  his contention  that  the petitioner  was a director   of   the   public   limited   company   which   was incorporated from the very beginning as a public limited company and even for the year under consideration, i.e. 1996­1997, the same was a public limited company. He therefore, urged that the act of issuance of notice so also Page 4 of 14

C/SCA/14422/2008 JUDGMENT the order of rejection of his revision, both deserve to be quashed. 5.Learned   counsel   Shri   Nithin   Mehta   appearing   for   the respondent Revenue has urged that in the return of income filed for the assessment year 1996­1997 on 5.1.1997, the status code in column No.8   was shown as 13. Code 13 stands for a domestic company which is not a company in which the public are substantially interested and during the period relevant to the assessment year concerned, the assessee   company   had   not   raised   any   public   issue.   He therefore,   urged   that   the   Court   may   not   interfere   as requested for. 6.On thus hearing both the sides, as also considering the pronouncements on the subject we are of the opinion that the petition deserves to be allowed for the reasons to follow here­in­after. 7.As   could   be   noticed   from   the   materials   on   record,   the petitioner herein was the director of the company which was   originally   incorporated   as   Ravit   Vinimay     with   the Registrar of Companies, Gujarat on 19.8.1992. It obtained certificate of commencement of business on 17.9.1992. The company   changed   its   name   from   Ravit   Vinimay   to Lanzorate Finance (India) Limited and was registered with Registrar of Companies vide certificate dated 14.12.1995. The petitioner also brought on record a certificate issued by the ROC, being the certificate of incorporation as also the certificate of commencement of business and further changed the name to Lanzorate Finance (India) Limited. It Page 5 of 14

C/SCA/14422/2008 JUDGMENT appears that the company thus from the very incorporation was a public limited  company  and its public issue  also were   out   on   18.6.1996.   The   petitioner   was   the promoter/director and continued to be with the company till he resigned from the post on 31.5.2000. 8.The arrears of tax demand raised  on the petitioner in his capacity of Director  by issuance of the impugned notice under section 179  is for the assessment year 1996­1997. The provision of section 179 permits recovery of such tax arrears  of a company  from  the director  of the company which is a private company or a private limited company. The provision makes it amply clear that when the company is a public company  or a public limited company,  such provision would not be applicable. Relevant here would be to   refer   to   the   provisions   of   law   and   some   of   the   well pronounced judgements on the subject. 9.Section 179 of the Income Tax Act reads as under : “Liability of directors of private company in liquidation : 179.(1)   Notwithstanding   anything   contained   in   the Companies Act, 1956 (1 of 1956), where any tax due from a   private   company   in   respect   of   any   income   of   any previous year or from any other company in respect of any income   of   any   previous   year   during   which   such   other company   was   a   private   company   cannot   be   recovered, then,   every   person   who   was   a   director   of   the   private company  at any time  during  the relevant  previous  year shall be jointly and severally liable for the payment of such tax   unless   he   proves   that   the   non­recovery   cannot   be attributed to any gross neglect, misfeasance or breach of duty on his part in relation to the affairs of the company. Page 6 of 14

C/SCA/14422/2008 JUDGMENT Where   a   private   company   is   converted   into   a   public company and the tax assessed in respect of any income of any   previous   year   during   which   such   company   was   a private   company   cannot   be   recovered,   then,   nothing contained in subsection (1) shall apply to  any person who was a director of such private company in relation to any tax due in respect of any income of such private company assessable for any assessment year commencing before the 1st day of April, 1962.” 10. As contained in the said provision, where any tax is due from a private company in respect of any income from the said company or any other company in respect of any income of the company of the previous year during which year such company was a private company, if the Revenue is not in a position to recover, every person who was a director   of   the   private   company,   during   such   relevant previous year would be jointly and severally liable for the payment of such tax, unless he proves that non­recovery could not be attributed to any gross neglect, misfeasance or breach of duty on his part in relation to the affairs of the company.   Subsection  (2)   of  section  179  of   the   Act  also provides   the   situation   that   where   the   private   company converted into public company and the tax in respect of private company could not be recovered, nothing contained in subsection (1) would be applicable to any person who was a director of such private company in relation to any tax due in respect of any income of such private company assessable for any assessment year commencing before the Page 7 of 14

C/SCA/14422/2008 JUDGMENT 1st day of April, 1962. 11. This Court in Special Civil Application NO.1921/2005 referred to some of the decisions and held thus : “4. This Court in the case of Pravinbhai M. Kheni v. Assistant Commissioner   of   Incometax,   Central   Circle   2   and   others, reported   in   353   ITR   585,   had   an   occasion   to   deal   with   the liability of the directors of a public limited company, where the proceedings   under   section   179   were   initiated   against   the petitioner   Director   of   such   company.   Pursuant   to   search proceedings against the public limited company, the tax liability determined was more than Rs.155 crore. The Revenue was of the opinion that such company was formed for taking over business of the partnership and the Directors had amassed huge wealth in the form of immovable property and disclosed the income had not been on members of the partnership and other had become Directors of the company. Such  conclusion of the Revenue that the   unaccounted   income   of   the   company   had   been misappropriately utilized by the directors and shareholders and company was only a conduit for creation of unaccounted money. The request is made for lifting the corporation veil and recover tax dues of public company. In such a situation, the proceedings were   laid   down   under   section   179   of   the   Act   for   lifting   the corporate veil. It would be profitable to reproduce the relevant findings of this Court on this aspect as under : “15. From the above judicial pronouncements,  it can be seen that  concept  of  lifting  or  piercing  the  corporate  veil  as  some times referred to as cracking the corporate shell, is applied by Courts sparingly and cautiously. It is however, recognised that boundaries of such principle have not yet been defined and areas where   such   principle   may   have   to   be   applied   may   expand. Principally, the concept of corporate body being an independent entity enjoying existence independent of its directors, is a well known principle. Its assets are distinct and separate and distinct from   those   of   its   members.   Its   creditors   cannot obtain Page 8 of 14

C/SCA/14422/2008 JUDGMENT satisfaction from the assets of its members. However, with ever developing   world   and   expanding   economic   complexities,   the Courts have refused to limit the scope and parameters or areas where corporate veil may have to be lifted. 16. Howsoever cautiously, the concept of piercing of corporate veil is applied by the Courts in various situations. Two situations where such principle is consistently applied are, one where the statute itself so permits or provides for and second where due to glaring facts established on record it is found that a complex web has been created only with a view to defraud the revenue interest of the State. If it is found that incorporation of an entity is only to create a smoke screen to defraud the revenue and shield the individuals who behind the corporate veil are the real operators of the company and beneficiaries of the fraud, the Courts have not hesitated in ignoring the corporate status and striking at the real beneficiaries of such complex design. 17. Section 179 of the Act itself is a statutory creation of piercing of corporate veil. Ordinarily, directors of a company even that of a private company would not be answerable for the tax dues of the  company.  Under  subsection(1)  of  section  179  of  the  Act, however,   subject   to   satisfaction   of   certain   conditions,   the directors can be held jointly and severally liable to pay the dues of the company. 18. In the present case, however, the Revenue desired to apply the   principle   of   lifting   the   corporate   veil   in   case   of   a   public company and seeking to resort to provisions contained in section 179 of the Act. In our view if the factors noted by the Assistant Commissioner are duly established, there is no reason why such double  application  of  lifting  the  corporate  veil   one  statutorily provided and other due to emergent need of the situation, cannot be   applied.   As   noted   above,   the   factors   recounted   by   the Assistant Commissioner in the impugned order are glaring. The company   had   defaulted   in   tax   for   more   than   Rs.155   crores. Same was unearthed during search operations carried out by the Revenue Authority. The attachment of the assets of the company could lead to recovery of not more than Rs. 5 crores from such Page 9 of 14

C/SCA/14422/2008 JUDGMENT huge outstanding dues. The company was formed for taking over business of the partnership. The members of the partnership firm and other family members of the same family became the directors of the company. Shares of the company were held by them and not by any members of the public. The directors had amassed huge wealth in the form of immovable property. The Assistant Commissioner therefore, was of the opinion that the company was only a conduit for creation of unaccounted money and appropriating in directors.” 5. The Courts have been, thus, categorical in these judgments that essentially under two conditions the piercing of corporate veil would be applied by the Courts one where the statute itself would permit and secondly, where the glaring facts from record emerge.   In   the   case   before   this   Court   in  Pravinbhai   Kheni (supra), the Revenue had put forth sufficient material and when both the conditions of meeting with the emergent need of the situation were held to be duly satisfied, double application of lifting of veil was permitted by the Court. 6. This Court in the case of Special Civil Application No.10686 of 2013 with Special Civil Application No.10688 of 2013 in the case of  Sandeep A. Mehta v. Income Tax Officer and another, decided on   October   15,   2013,   also   had   an   occasion   to   refer   to   the decision   in   the   case   of  Pravinbhai   Kheni   (supra).   The   facts somewhat similar to the present case were presented, wherein the petitioners were the directors of the Company, where the notice was issued to the Directors for recovery of demand under section   179   of   the   Act   in   their   capacity   as   Directors.   The Company  admittedly  was a public  limited  company  since  the year 1995 and the petitioners were appointed as directors of the Company in December, 2005. They were not even share holders at the time of conversion of the company from private limited company to public limited company. The request was also made by the Revenue to lift the corporate veil. On duly considering the judicial pronouncements on the said aspect and on considering the material on record, the Court did not find any need to permit the said request of lifting the corporate veil by holding thus : Page 10 of 14

C/SCA/14422/2008 JUDGMENT “23.   From   the   ratio   discussed   hereinabove,   it   needs   to   be examined whether any of the two situations specified in the said decision exist on the record. Firstly, whether the statute itself so permits or provides for lifting of veil and secondly, whether the facts are so glaringly emerging on record whereby it can be found that with a view to defeat the interest of the Revenue, attempt is made by creating complexity of the facts. In the instant case, therefore, in other words, what needs to be examined is whether with a view to defeat the interest of the State some of the real beneficiaries  have  created  complex  design  and  web  and  have chosen to hide behind the corporate veil. Section 179 of the Act itself is a creation of the statute whereby the corporate veil can be pierced and original Directors of the Private Limited Company could   be   held   liable   for   the   outstanding   tax   dues   of   the Company. The statute, however, has created a situation whereby they can be jointly and severally held liable. In the instant case, the facts are apparently clear whereby conversion of the Amadhi Investment Limited from a Private Limited Company to a Public Limited Company  was in the year 1995. The petitioners were appointed   as   Directors   of   Amadhi   Investment   Limited   on 29.12.2005. They were not even   shareholders of the Company from 5.6.1995 till 30.9.2006. Therefore, there would not be any requirement of establishing that non recovery of the amount due to the Company  could  be attributed  to any  gross  negligence, misfeasance or breach of duty on the part of the petitioners in relation to the affairs of the Company. Therefore, the very action under  section  179  against  the  petitioners  would  not  lie.  The petitioners   since   were   not   Directors   of   the   Company   until 28.12.2005, for the liability of the Company pertaining to the Assessment Year in question i.e. on 200506, they cannot be held liable under section 179 of the Act. 24. Thus, the statute permits the lifting of the corporate  veil section   179   of   the   Act   as   one   of   the   modes   of   the   statutes permitting such piercing of the veil provided of course Directors of the Private Company behind the veil are the beneficiaries and who have created such a complex web for their personal interest Page 11 of 14

C/SCA/14422/2008 JUDGMENT so as to defraud the Revenue. 25. When the facts are eloquent  enough  in the instant  case, where the petitioners were never concerned with the affairs of the Company until 28.12.2005 and the Company had already become Public Limited Company and by  the time they became Directors, they were not even simple shareholders for the entire period till the year 2006, there does not arise any question of applying   the   ratio   of   decision   of   Pravinbhai   M.   Kheni   vs. Assistant Commissioner of Income Tax and others (supra) or for that matter upholding the action of the respondents of invoking the provisions of section 179 of the Act.” 7. In the present case, as we can notice, the company M/s.Blue Information   Technology   is   a   Public   Limited   Company.   It   was incorporated   as   a   Public   Limited   Company   vide   certificate   of incorporation dated May 25, 1992. It came out with a public issue in June, 1996. The petitioner director of the said Company resigned on September 06, 1997. Admittedly, the dues are of the years 1995­96, 1996­97 and 1997­98. The notice was issued on October  14,  2001  under  section  221(1)  of the  Act  seeking  to recover penalty for not having paid the dues of the company for the   aforesaid   years   to   the   tune   of   Rs.297   lakh.   It   is   not   in dispute that the petitioner  ceased to act as a director  of the Company from September, 1997. 8. With regard to the outstanding dues of the company for the assessment years 1995­96, 1996­97 and 1997­98, the Company being   a   Public   Limited   Company   from   May   25,   1992   the certificate of incorporation having come, the very issuance of the notice cannot be sustained unless, of course, as provided in the case of Pravinbhai Kheni (supra) and followed thereafter, in the case of Sandeep A. Mehta (supra) there are glaring facts which would permit the lifting of the corporate veil. In the present case, as   could   be   noticed,   those   foundational   facts   are   completely missing. It is not even the case of the Revenue that such claim exist   warranting   lifting   of   veil.   Except   non­fulfillment   of   the obligation by the Company of the tax demands that had arisen Page 12 of 14

C/SCA/14422/2008 JUDGMENT as a result of the assessment of all these years, nothing comes on record for the Court to permit the piercing of corporate veil. The petitioner being the director of the public limited company, this provision is non­applicable. 9. Section 179 of the Act chooses to impose a vicarious liability on   the   director   of   a   private   company   making   his   liability coextensive  with  the  company  in respect  of  arrears  of  tax of assessment year when he functions as a director. However, the income tax authority in relation to the liability of the Company shall need to insist upon its recovery and when the Company is unable to discharge such liability and the attempts of the Tax Authorities to realise such tax dues do not materialise, director needs to be issued the notice of recovery. These provisions are made   in   respect   of   private   companies   and   subsection   (2)   of section 179 of the Act makes it abundantly clear that in the case of   a   public   company   or   public   limited   company,   the   very provision is not applicable. As noted above, in absence of any contrary   facts   which   either   require   this   Court   to   pierce   the corporate veil or anything to indicate that the Company is other than a public company, the invocation of section 179 of the Act itself shall have to be held bad. It would be, of course, the onus of the petitioner to establish that nonrecovery of the amount of tax due to the Company could not be attributed to any gross negligence,  misfeasance  or breach  of duty  on the part  of the petitioner in relation to the affairs of the private Company, but, the very action against the petitioner under section 179 of the Act, when would not lie, the petition, therefore, deserves to be succeeded.” 12. In   wake   of   such   legal   position,   the   only   factual contention that requires to be dealt with is the reference of code no. 13 in the return of income filed by the company as it is the code applicable to a domestic company which is a company   in   which   the   public   is   substantially   not interested.   This   solitary   circumstance   can   never   be   the Page 13 of 14

C/SCA/14422/2008 JUDGMENT ground for the Revenue to not recognise other substantive and cogent evidences which are far more pronounced and for which no disputes have been raised at any stage. Mere mentioning of the code as contended by the Revenue could be   hardly   a   ground   to   allow   it   to   pursue   the   notice impugned. It is also necessary to note at this stage that the earlier   petition   preferred   before   this     Court   was   not entertained on the ground that necessary documents for the Court to arrive at a decision, whether the company was a public limited company or not, were absent. That ipso facto   itself   cannot   be   the   ground   for   the   concerned authority not to examine  the subject matter on merits in the   revision   petition.   Therefore,   both,     the   order   under section 179 and the consequential order under section 264 in the revision application, in light of the above discussion, must fail. 13. Petitions are allowed. Impugned orders under section 179 dated   11.1.2005  and   under   section  264   dated  19.3.2008   are quashed   with   all   consequential   proceedings.   Petitions   are disposed of.  Rule is made absolute to above extent with no order as to costs. (AKIL KURESHI, J.) (MS SONIA GOKANI, J.) raghu Page 14 of 14