DCIT, MUMBAI vs. KANTA GANPATLAL KOTHARI, MUMBAI

All the assessee is before this Tribunal are individuals and had income under various heads. The assessee also invests regularly in equity mutual funds and PMS etc., over the past years. The Assessee is said to be a regular investor in mutual fund for earning regular income in the form of dividend. During assessment year 2018-19, JM Balanced Fund issued a public notice in the newspaper on 18/03/2018, calling upon investments and declared dividend at Rs.13 per unit. Relying on 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 the notice published in the newspaper, the assessee invested Rs.1 crore on 20/03/2018 through normal banking channels. 3.1 JM Balance Fund subsequently declared dividend on 22/03/2018 (relevant assessment 2018-19) and assessee received dividend of Rs.40,45,559.22/-. Subsequently, during assessment year 2019-20 dividend of Rs.11,71,029.44 was declared on 07/03/2019, after one year of the investment. The assessee redeemed the entire Rs.3,11,196.863 units on 11/03/2019 for a value of ₹49,16,785.96 on which STD of ₹49 was also paid. 3.2 It is submitted that, in the present case, original assessment was completed u/s. 143(3) on 28/12/2017 and total income was assessed at Rs.5,82,31,560/-The assessee's case was reopened u/s.148A, and as per procedure laid down under section 148A, order under section 148A(d) was passed on 20/03/2023. 3.3 In the order passed under section 148A(d), the Ld.AO relied on the information received through insight portal, i.e., survey u/s.133A of the Income Tax Act, 1961, conducted on 15.02.2021 in the case of M/s. JM Financial Asset Management Limited ("JM Financial"), Mumbai, it was found that JM Balanced Fund- Annual Dividend Option Regular Plan (the "Plan") of JM Financial manipulated accounting methodology so as to artificially inflate the distributable surplus. It was found that in this process, the SEBI guidelines were flouted by the JM Financial by classifying portion of capital as distributable surplus and thereafter artificial payout to the investor in the form of dividend. It was also communicated to the Ld.AO that though dividend received by the 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 unit holders from the equity based mutual fund is exempt from taxation u/s 10(35) of the Act, however, the same cannot be applied as said provisions are for genuine investments in market regulated mutual funds. On detailed investigation, the DDIT (Inv.) concluded that, the dividend received was from sham transaction generated using colorable devices. The dividend received is not on account of appreciation of the investment but is return of a part of the capital itself and hence it can't qualify as dividend. It is nothing but a make-believe arrangement to create fictitious loss to the beneficiary investor so they may adjust it with capital gains from other investments. The dividend being sham and capital loss being artificial is not eligible for set off. 3.4 During the assessment proceeding, Ld.AO noted that SEBI vide its Circular No. SEBI/IMD/CIR No 18 / 198647/2010 dated 15/03/2010, clearly instructed the fund houses that Unit Premium Reserve shall be treated at par with Unit Capital and cannot be utilized to declare dividends and the mutual fund houses cannot distribute dividends from Unit Premium Reserve. And that it can distribute only from surplus generated by realizing the gains on investments or dividends received from equity markets which it had invested. Meaning thereby, mutual fund has to invest and make profit to distribute. However, said direction of the SEBI was not followed by the mutual fund, as first it artificially rigged the distributable surplus and then applied said ratio to future allotted units (before the planned dividend distribution date). 3.5 TheLd.AO thus observed that the mutual fund deployed unfair and manipulative methods, to rig distributable surplus in 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 a planned manner that was against the guidelines specified by the SEBI. He further observed that as per the SEBI, investors, in order to reduce their tax liability, entered into these sham transactions and received dividend and Short-Term Capital Loss and therefore, the dividend is not eligible for deduction u/s 10(35) of the Act and short-term capital loss is also not eligible for adjustment with other capital gains. 3.6 The Ld.AO noted that the assessee was a beneficiary of this scam by adopting modus operandi mentioned hereinabove, assessee claimed short term capital loss along with claim of dividend income which is a colourable nature of transaction. 3.7 The assessee was thus issued notice under section 148 on 20/03/2023. In response, assessee filed its return of income on 10/04/2023 that was same as the original return of income. Subsequently, notice under section 143(2) was issued on 19/05/2023. 3.8 Before the Ld.AO, the assessee submitted that in the course of her regular investment activity, units of mutual fund namely JM Balanced Fund- Quarterly Dividend Plan of Rs.1,00,00,000/- was made on 20/03/2018 floated by JM Financials. It was submitted that during the period of holding the assessee received dividend income of Rs.52,16,588/-. It was submitted that the said mutual fund was redeemed on 11/03/2019(during assessment year 2019-20) for a consideration of Rs.49,16,785.96/- that resulted in short term capital loss of Rs. 50,83,214/-. It is was submitted that the dividend income of Rs.52,16,588/-was claimed as exempt u/s 10(35) of the Act.

The Ld.CIT(A) upheld the reopening u/s.148.However, on merits gave relief by allowing dividend income to be exempt and set off of short term capital loss by observing as under: “6.11 I find it necessary to consider the intent of the legislation with respect to loss incurred in case of issue of dividend as considered in section 94(7) of the Act. The memorandum notes for bringing out the said section into statute as published in the CBDT Circular No.14/2001, the relevant extracts (Para 56.2 and 56.3 reproduce) are as under: “56.2 The existing provisions did not cover a case where a person buys securities (including units of a mutual fund) shortly before the record date fixed for declaration of dividends, and sells the same shortly after the record date. Since the cum-dividend price at which the securities are purchased would normally be higher than the exdividend price at which they are sold, such transactions would result in a loss which could be set off against other income of the year. At the same time, the dividends received would be exempt from tax under s. 10(33). The net result would be the creation of a tax loss, without any actual outgoings. 56.3 With a view to curb the creation of such short-term losses, the Act has inserted a new sub-s. (7) in the section to provide that where any person buys or acquires securities or units within a period of three months prior to the record date fixed for declaration of dividend or distribution of income in respect of the securities or units, and sells or transfers the same within a period of three months after such record date, and the dividend or income received or receivable is exempt, then, the loss, if any, arising from such purchase or sale shall be ignored to the extent such loss does not exceed the amount of such dividend or interest, in the computation of the income chargeable to tax of such person. ” 6.12 On perusal of the above provision, it is clear that loss incurred on account of issue of dividend has not been considered as non-genuine and the same shall be disallowed only when the record date falls within the period as stipulated u/s 94(7). The position has been also been upheld by Supreme Court in the case of Walfort Share & Stock Brokers (P) Ltd. (2010) 41 DTR 233 (SC)wherein it was held as under: “The real objection of the Department appears to be that the assessee is getting taxfree dividend; that at the same time it is claiming loss on the sale of the units; that the assessee had purposely and in a planned 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 manner entered into a pre-meditated transaction of buying and selling units yielding exempted dividends with full knowledge about the fall in the NAV after the record date and the payment of tax-free dividend and, therefore, loss on sale was not genuine. We find no merit in the above argument of the Department. At the outset, we may state that we have two sets of cases before us. The lead matter covers assessment years before insertion of s.94(7) vide Finance Act, 2001 w.e.f. 1st April, 2002. With regard to such cases we may state that on facts it is established that there was a "sale". The sale- price was received by the assessee. That, the assessee did receive dividend. The fact that the dividend received was tax-free is the position recognized under s. 10(33) of the Act. The assessee had made use of the said provision of the Act. That such use cannot be called "abuse of law". Even assuming that the transaction was pre-planned there is nothing to impeach the genuineness of the transaction. With regard to the ruling in McDowell & Co. Ltd. vs. CTO (1985) 47 CTR (SC) 126: (1985) 154 ITR 148 (SC), it may be stated that in the later decision of this Court in Union of India vs. Azadi Bachao Andolan& Anr (2003) 184 CTR 450,263 ITR 706 (SC) it has been held that a citizen is free to carry on its business within the four corners of the law. That, mere tax planning, without any motive to evade taxes through colourable devices is not frowned upon even by the judgment of this Court in McDowell & Co. Ltd.’s case (supra). Hence, in the cases arising before 1st April, 2002, losses pertaining to exempted income cannot be disallowed.” 6.13 Thus, it is clear that the loss incurred cannot be held as non genuine merely because of issue of dividend by the JM Financial fund if the holding period is not covered by section 94(7). Coming to the validity of the assessee’s claim regarding the short-term capital loss/profit, it is noted that the appellant had made an investment of Rs.1,00,00,000/- which was subsequently sold for Rs. 49,16,785/- leading to a short term loss of Rs. 50,83,214/-. The said sales consideration received by the appellant is duly reflected in the bank statement and the folio statement submitted by her. The provisions of section 48 of the Act, which states that capital gains is computed by reducing cost of acquisition and expenditure incurred on transfer from sales consideration. Considering the provisions of the said section and the facts of the present case, it is seen that the appellant’s computation of short-term capital loss by reducing the cost of investment i.e. Rs.1,00,00,000/- from sales consideration of Rs. 49,16,785/- appears to be in line with the provisions of the Act. Also, I find that the AO has not disputed the amount of such cost or sales consideration, thus doubting the short-term capital loss arising from such figures is not 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 correct. Further, it is not the case of the AO that the appellant has violated the provisions of section 94(7) of the Act.

The A.O. has also alleged that the mutual fund has declared dividend as high as 52% and therefore, the AO very comfortably smacked something wrong and conspiracy between the assessee and the JM Financial Mutual Fund as also the IIFL (the lender). However, the scene is completely otherwise in as much as it was 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 not at all within the hands of the assessee or anybody employees of these entities or in the hand of anybody else for this reason to influence or to get the dividend declared at his own wishes. The earnings of the Mutual Fund are directly based upon the type/nature of the investment made by the Mutual Fund. Needless to say, that the declaration of the dividend by the companies depends upon the several factors and market sentiments. It has to be kept in mind that it is not guaranteed that there will always be a profit but the companies might have also sustained huge losses with the result that the mutual funds would not have been able to declare any dividend at all. It was only keeping in mind the past track record, better performance and the good market movement in the Indian Capital Market that the AMC made investments in those companies and directors of the assessee company also having a vast experience, decided to invest in JM Mutual Fund

In view of the above, the suspicion of the AO on this aspect is completely baseless. To prove his allegation that 52% dividend was declared in connivance, it was for him to have established beyond all reasonable doubts but he is completely silent as regards the onus lay upon him.”

After hearing the learned counsel for the parties and after going through the aforesaid decision of the Supreme Court, we find that it is now clear that the fact that the dividend received by the assessee was tax free is the position recognized under section 10(33) of the Income-tax Act. It appears that the assessee has utilized the said provision of the statute and as such, the same cannot be called as an abuse of the process of law. As pointed out by the Supreme Court, even if we assume for the sake of argument, that the transaction was a preplanned one, there was nothing to impeach the genuineness of the transaction. As regards the observation of O. Chinnappa Reddy, J. in the case of McDowell & Co. Ltd. v. CTO [1985] 154 ITR 148 /22 Taxman 11, it was pointed out by the Supreme Court in the later decision of the Supreme Court in the case of Union of India v. Azadi Bachao Andolan [2003] 263 ITR 706 / 132 Taxman 373 , that a citizen is free to carry on his business within the four corners of the law and that mere tax planning, without any motive to evade taxes through colourable devices is not frowned upon. Thus, in a case arising before April 1, 2002, the losses pertaining to exempted income cannot be disallowed.

We, therefore, set aside the order passed by the authorities below and hold that in the case before us, the assessee is entitled to claim loss on the aforesaid transaction by answering the two questions framed by the Division Bench in favour of the assessee against the Revenue. We direct the Assessing Officer to treat the loss arising out of the aforesaid transaction and also to grant benefit of exemption as pointed out by the Supreme Court.”

It is noted that the assessing officer held the transaction of short-term capital loss and the dividend claimed exempt by the assessee under section 10 (35) of the act, as non genuine. To deny the claim of the assessee the Ld.AO relied on the survey action carried out in case of JM Financial wherein it was found that, JM Financial manipulated the method of accounting and artificially inflated the distributable surplus. It was noted by the 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 survey team that, a portion of capital was paid out to the investors in the form of dividend. The Ld.AO came to the conclusion that as the assessee received dividend and made loss on redemption of the units of mutual fund, managed by JM financial, the assessee claimed bogus exemption and bogus short-term capital loss. 6.7 The Ld.CIT(A) deleted additions/disallowance made by assessing officer on the ground that, SEBI enquiry relied by the Ld.AO did not report any adverse findings regarding JM Financial and that the statement recorded from the key personnel’s did not mention name of the assessee. The Ld.CIT(A) also granted relief to the assessee by observing that assessee did not violate provisions of section 97(4) of the act, and therefore the transaction of the short-term capital loss claimed by the assessee and exemption of dividend under section 10(35) cannot be treated as non genuine. Further the Ld.CIT(A) relied on the decisions of coordinate bench of this Tribunal in case of investors with similar facts involved in investments made in J M Financial Asset Management Ltd. in case of Goldmine International Ltd. vs. DCIT in dated 05.04.2024. 6.2 It is noted that the Ld.AR from the paper book filed, relied on the decision of Hon’ble Bombay High Court in case of Karan Maheshwari vs ACIT reported (2025) 176 taxmann.com 700 wherein, identical issue involving similar transaction with JM Financial alleged to be fictitious was under consideration. Hon’ble Court while considering the legality of the reopening, looked into implications of the provisions of section 94(7) having regards to the decisions of Hon’ble Supreme Court in case of McDowell & Co 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 Ltd vs CTO reported (1985) 47 CTR 126, the celebrated decision in case of Union of India & Anr. vs Azadi Bachao Andolan & Anr. reported (2003) 184 CTR 450 and decision of Hon’ble Supreme Court in case of CIT vs Walfort Share & Stockbrokers (P) Ltd., reported (2010) 233 CTR 42.Hon’ble Court analysed identical arguments of the revenue, as is raised before this Tribunal, by observing as under:

It is thus clear that petitioner is only a small fry in the larger scheme of things and in fact himself a victim of the alleged fraud of JM Financial and again being victimised by the Assessing Officer. Even in the order where it is mentioned that statement of the key management personnel of the mutual fund was recorded, there is nothing to indicate that petitioner was part of the alleged sham mutual fund. Infact in paragraph 7.4 of the impugned order referred to by Mr. Singh, in the statement of Mr. Suvendu Rakshith, it is recorded that the sales team had been passing on the hints to the distributors about the prospective dividend distribution, much in advance, "to lure" the prospective clients. Admittedly petitioner was not a distributor and was only a client.

In the notice issued under Section 148A(b) of the Act, it is alleged that petitioner was one of the persons who claimed fictitious short term capital loss. There is nothing in the notice to indicate on what basis it is alleged that the short term capital loss claimed was fictitious. Petitioner had, based on public announcement, invested in the mutual fund. The fact that petitioner received tax free dividend fund cannot be held against petitioner. The fact that petitioner had suffered a loss also cannot be held against petitioner. Even assuming that the transaction was pre-planned, there is nothing to impeach the genuineness of the transaction. Petitioner was free to carry on his business which he did within the four corners of law. Mere tax planning without any motive to evade taxes through colourable devices is not frowned upon even by the judgment of the Apex Court in McDowell & Co. Ltd. v. Commercial Tax Officer [1985] 22 Taxman 11/154 ITR 148 (SC). Paragraphs 18 and 20 of the judgment of the Apex Court in Commissioner of Income Tax v. Walfort Share & Stock Brokers (P). Ltd. [2010] 192 Taxman 211/326 ITR 1 (SC) read as under : 18. The next point which arises for determination is whether the "loss" pertaining to exempted income was deductible against the chargeable income. In other words, whether the loss in the sale of units could be disallowed on the ground that the impugned transaction was a transaction of dividend stripping. The AO in the present case has disallowed the loss of Rs. 1,82,12,862 on 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 the sale of 40% tax-free units of the mutual fund. The AO held that the assessee had purposely and in a planned manner entered into a pre-meditated transaction of buying and selling units yielding exempted income with the full knowledge about the guaranteed fall in the market value of the units and the payment of tax-free dividend, hence, disallowance of the loss. xxxxxxxxxxxxx 20. The real objection of the Department appears to be that the assessee is getting tax-free dividend; that at the same time it is claiming loss on the sale of the units; that the assessee had purposely and in a planned manner entered into a pre-meditated transaction of buying and selling units yielding exempted dividends with full knowledge about the fall in the NAV after the record date and the payment of taxfree dividend and, therefore, loss on sale was not genuine. We find no merit in the above argument of the Department. At the outset, we may state that we have two sets of cases before us. The lead matter covers assessment years before insertion of Section 94(7) vide Finance Act, 2001 w.e.f.1.4.2002. With regard to such cases we may state that on facts it is established that there was a "sale". The sale-price was received by the assessee. That, the assessee did receive dividend. The fact that the dividend received was tax-free is the position recognized under Section 10(33) of the Act. The assessee had made use of the said provision of the Act. That such use cannot be called "abuse of law". Even assuming that the transaction was pre-planned there is nothing to impeach the genuineness of the transaction. With regard to the ruling in McDowell & Co. Ltd. v. Commercial Tax Officer [154 ITR 148(SC)], it may be stated that in the later decision of this Court in Union of India v. Azadi Bachao Andolan [263 ITR 706(SC)] it has been held that a citizen is free to carry on its business within the four corners of the law. That, mere tax planning, without any motive to evade taxes through colourable devices is not frowned upon even by the judgment of this Court in McDowell & Co. Ltd. 's case (supra). Hence, in the cases arising before 1.4.2002, losses pertaining to exempted income cannot be disallowed. However, after 1.4.2002, such losses to the extent of dividend received by the assessee could be ignored by the AO in view of Section 94(7). The object of Section 94(7) is to curb the short term losses. Applying Section 94(7) in a case for the assessment year(s) falling after 1.4.2002, the loss to be ignored would be only to the extent of the dividend received and not the entire loss. In other words, losses over and above the amount of the dividend received would still be allowed from which it follows that the Parliament has not treated the dividend stripping transaction as sham or bogus. It has not treated the entire loss as fictitious or only a fiscal loss. After 1.4.2002, losses over and above the dividend received will 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 not be ignored under Section 94(7). If the argument of the Department is to be accepted, it would mean that before 1.4.2002 the entire loss would be disallowed as not genuine but, after 1.4.2002, a part of it would be allowable under Section 94(7) which cannot be the object of Section 94(7) which is inserted to curb tax avoidance by certain types of transactions in securities. There is one more way of answering this point. Sections 14A and 94(7) were simultaneously inserted by the same Finance Act, 2001. As stated above, Section 14A was inserted w.e.f. 1.4.1962 whereas Section 94(7) was inserted w.e.f. 1.4.2002. The reason is obvious. Parliament realized that several public sector undertakings and public sector enterprises had invested huge amounts over last couple of years in the impugned dividend stripping transactions so also declaration of dividends by mutual fund are being vetted and regulated by SEBI for last couple of years. If Section 94(7) would have been brought into effect from 1.4.1962, as in the case of Section 14A, it would have resulted in reversal of large number of transactions. This could be one reason why the Parliament intended to give effect to Section 94(7) only w.e.f. 1.4.2002. It is important to clarify that this last reasoning has nothing to do with the interpretations given by us to Sections 14A and 94(7). However, it is the duty of the court to examine the circumstances and reasons why Section 14A inserted by Finance Act 2001 stood inserted w.e.f. 1.4.1962 while Section 94(7) inserted by the same Finance Act as brought into force w.e.f. 1.4.2002. (emphasis supplied) 6.3 It is noted that in the present facts of the case the assessing officer treated the transaction undertaken by the assessee be bogus, based on the statements recorded of key personnel is of JM Financials. There is no live link or nexus between the statement recorded and the assessee. 6.4 Sufficient time was granted to the Ld.DR to bring on record any material/evidence in order to support the addition/disallowance made by the Ld.AO. Nothing has been filed by the department in the form of an order by SEBI holding that the investors should be denied the benefit. The SEBI order filed by the Ld.DR does not indicate any restriction cast on J M Financial in respect of JM Balance Fund. In fact it is dealing with 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 retail investment was J M Financial Products Ltd. and not with the specific fund the assessee has invested. 6.5 Be that as it may, it is noted that, the transaction undertaken by the assessee cannot be found fault with as the provisions of section 97 (4) is also not flouted by the assessee. Admittedly assessee is an investor who invested in JM Financial fund based on the public notice declared in the newspapers on 18/03/2018. 6.6 For the sake of ready reference, Section 94(7) is reproduced hereunder:- "Where (a) any person buys or acquires any securities or unit within a period of three months prior to the record date; (b) such person sells or transfers- (i) such securities within a period of three months after such date; or (ii) such unit within a period of nine months after such date; (c) the dividend or income on such securities or unit received or receivable by such person is exempt, then, the loss, if any, arising to him on account of such purchase and sale of securities or unit, to the extent such loss does not exceed the amount of dividend or income received or receivable on such securities or unit, shall be ignored for the purposes of computing his income chargeable to tax." 6.7 From the perusal of the aforesaid provision, it is clear that, loss incurred on account of issue of dividend has not been considered as non-genuine and the same shall be disallowed only when the record date falls within the period as stipulated u/s.94(7). This proposition has been upheld by the Hon'ble Supreme Court in the case of Walfort Share & Stock Brokers (P) Ltd. (2010) 41 DTR 233 (SC) wherein the Hon'ble Supreme Court held as under:- "The real objection of the Department appears to be that the assessee is getting tax-free dividend; that at the same time it is claiming loss on the sale of the units; that the assessee had purposely and in a planned manner entered into a pre-meditated transaction of buying and selling 2988, 2998,2999, 3001, 3002, 2990, 3000/Mum/2025; A.Y. 2018-19, 2019-20 units yielding exempted dividends with full knowledge about the fall in the NAV after the record date and the payment of tax-free dividend and, therefore, loss on sale was not genuine. " "We find no merit in the above argument of the Department. At the outset, we may state that we have two sets of cases before us. The lead matter covers assessment years before insertion of s. 94(7) vide Finance Act, 2001w.e.f. 1st April, 2002. With regard to such cases we may state that on facts it is established that there was a "sale". The sale-price was received by the assessee. That, the assessee did receive dividend. The fact that the dividend received was tax-free is the position recognized under s. 10(33) of the Act. The assessee had made use of the said provision of the Act. That such use cannot be called "abuse of law", Even assuming that the transaction was pre-planned there is nothing to impeach the genuineness of the transaction. With regard to the ruling in McDowell & Co. Ltd. vs. CTO (1985) 47 CTR (SC) 126: (1985) 154 ITR 148 (SC), it may be stated that in the later decision of this Court in Union of India vs. Azadi Bachao Andolan & Anr (2003) 184 CTR 450,263 ITR 706 (SC) it has been held that a citizen is free to carry on its business within the four corners of the law. That, mere tax planning, without any motive to evade taxes through colourable devices is not frowned upon even by the judgment of this Court in McDowell & Co. Ltd. 's case (supra). Hence, in the cases arising before 1st April, 2002, losses pertaining to exempted income cannot be disallowed. " 6.8 Thus, loss incurred cannot be held to be non-genuine merely because the dividend has been issued by J.M. Financial funds. It is not in dispute that the purchase/investment of Rs.1Crore and sale is duly recorded and reflected in the bank statement. As per the provision of Section 48, capital gain has to be computed by reducing the cost of acquisition and expenditure incurred on transfer from sale consideration. In absence of applicability of Section 94(7), such short term capital loss is allowable under the Act. We therefore do not find any infirmity in the view taken by the Ld.CIT(A) and the same is upheld.