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Income Tax Appellate Tribunal, IN THE INCOME TAX APPELLATE TRIBUNAL
Before: SHRI G.D.AGRAWAL, D.AGRAWAL & BEFORE SHRI G. & MS. SUCHITRA KAMBLE MS. SUCHITRA KAMBLE
PER G.D.AGRAWAL, PER G. D.AGRAWAL, VP VP : PER G. PER G. D.AGRAWAL, D.AGRAWAL, VP VP These appeals by the Revenue for the assessment year 2001-02 are directed against the order of learned CIT(A)-3, New Delhi dated 2nd March, 2015 and 3rd March, 2015.
ITA No.3710/Del/2015 - M/s Escort ITA No.3710/Del/2015 ITA No.3710/Del/2015 M/s Escort M/s Escorts Heart Institute and Research Centre, M/s Escort Heart Institute and Research Centre, Heart Institute and Research Centre, Heart Institute and Research Centre, New Delhi New Delhi :- New Delhi New Delhi
In this appeal, the Revenue has raised the following grounds :-
“1. Whether on the facts and in the circumstances of the case and in law, Ld.CIT(A) has erred in deleting the addition of Rs.156,44,47,193/- on account of transfer of accumulated profit.
2. Whether the CIT(A) was correct in holding that reference in section 11(3) of the Act is to be accumulation u/s 11(2) of the Act only and out to the accumulation u/s 11(1) of the Act.
3. Whether the CIT(A) was correct in holding that addition of Rs.95,26,54,640/- on account of excess of assets over liabilities tantamount to retrospective withdrawal of the charitable status.
4. Whether the CIT(A) was correct in holding that addition in respect of donation, keyman insurance, software expense and difference in the value of land couldn’t have been made u/s 11(3) of the Act.
Whether the CIT(A) was correct in holding that the assessee had no surplus which could have been charged to income under the provision of section 11(3) of the act.
6. The appellant craves leave to add, alter or amend any ground of appeal raised above at the time of hearing.”
The facts of the case are that a society by the name of Escorts Heart Institute & Research Centre was formed at Delhi (EHIRC, Delhi) on 21.10.1981 and its objects were charitable in nature, its income was exempt under Section 10(21) of the Act. It also had the approval of the Central Government under Section 35(1)(ii) of the Act which was effective till 31st March, 2001. On 11th November, 1999, another society by the same name was formed at Chandigarh (EHIRC, Chandigarh) with objects identical to that of EHIRC, Delhi. However, EHIRC, Chandigarh was not a charitable society and it did not have any object of relief to the poor. On 1st April, 2000, EHIRC, Delhi merged with EHIRC, Chandigarh under due process of law and all its assets and liabilities vested with the latter. The Chandigarh society registered itself as a company under Part IX of the Companies Act, 1956 vide Certificate of Incorporation dated 31st May, 2000 granted by the Registrar of Companies, Punjab, H.P. and Chandigarh.
For the year under consideration i.e. assessment year 2001-02, the assessee did not file the return of income. The Assessing Officer issued notice under Section 148, in response to which, the assessee filed the return declaring nil income. That due to amalgamation of assessee with EHIRC, Chandigarh, the Assessing Officer reopened the assessment for assessment years 1997-98, 1998-99, 1999-2000 and 2000-01. The assessee filed a writ petition challenging the reopening before the Hon'ble Delhi High Court. That Hon'ble Delhi High Court, vide order dated 14th December, 2012 in W.P.(C) 11909/2005, held as under :-
“5. Elaborate arguments were addressed before us on the question of jurisdiction of the assessing officer to reopen the assessments. These have been considered. The precise question that arises for our consideration has been formulated in the beginning of our order. Even assuming that there was breach of any statutory conditions under which the exemption was granted to the petitioner under section 10(21), the entire accumulated income of the earlier years cannot be taxed in those years by reopening the assessments for those years. Section 11(3), which is made applicable to section 10(21), itself provides that the entire accumulated income shall be deemed to be the income of the assessee of the previous year in which the breach of the conditions or the contingency occurs. The statute having thus fixed the assessment year in which the entire past accumulated income falls to be taxed, it is impermissible in law for the assessing officer to entertain a reason to believe that income chargeable to tax for the assessment years 1998-99 to 2000-01 had escaped assessment. The statute has imposed a fetter on the power of the assessing officer to consider the accumulated income, as the income of the respective earlier years and has mandated it to be the income of the previous year i.e. the previous year commencing on 01.04.2000 and ending on 31.03.2001 relating to the assessment year 2001-02, which is the year in which the petitioner was amalgamated with Escorts Hospital, Chandigarh and transferred all its assets to the Chandigarh Hospital which is looked upon as a breach of the statutory provisions subject to which the exemption under section 10(21) was allowed. The consequences of the breach having been provided by the statute itself, it is not open to the assessing officer to consider the accumulated income as having escaped assessment in the past assessment years. He has to perforce bring to tax the accumulated income only in the year in which the breach occurred; that is the mandate of section 11(3).
Two important conditions for the applicability of section 147 are (a) income chargeable to tax must have escaped assessment and (b) assessing officer must have reason to believe so. When section 11(3) treats the accumulated income of the past year of the petitioner as income of the assessment year 2001-02, there can be no question of any income escaping assessment in the past assessment years i.e. the assessment years 1998-99 to 2000-01. It follows that the assessing officer cannot entertain any reason to believe that income chargeable to tax for those years had escaped assessment.
For these reasons we quash the notice issued under section 148 of the Act for all three years i.e. assessment years 1998-99 to 2000-01 and allow the writ petition with no order as to costs.”
5. Thus, Hon’ble High Court, while quashing the notice under Section 148 for assessment years 1998-99 to 2000-01, held that any accumulated profit under Section 11(3) of the Income-tax Act in the hands of the assessee of the past years is liable to be taxed in assessment year 2001-02. Thus, the limited question which we are required to adjudicate in this appeal is whether there were any accumulated profits in the hands of the assessee within the meaning of Section 11(3) of the Act which can be taxed on account of merger of the assessee with EHIRC, Chandigarh. We further find that learned CIT(A) has given the finding that there was no accumulated profit under Section 11(2) of the Act. Accordingly, he deleted the entire addition made by the Assessing Officer in this regard. The relevant finding of the learned CIT(A) reads as under :-
“A look at the figure of taxable income aggregating Rs.1,56,44,47,193/- shows that the first item amounting to Rs.95,26,54,640/- represents the excess of assets over liabilities as on 31.03.2000 viz. the assets both fixed and current acquired out of the income during the pre- amalgamation period when the appellant enjoyed the exemption as a charitable institution under section 10(21) read with section 11 of the Act.
This addition tantamount to some extent to a retrospective withdrawal of the charitable status and which is disapproved by the Hon'ble Delhi High Court in the order dated 14.12.2012 when it quashed the notices issued u/s 148 of the Act for the assessment years 1998-99 to 2000- 01 as also the order dated 25.01.2012 whereby the notice u/s 148 of the Act for the assessment year 1997-98 was quashed. The orders of the Hon'ble Delhi High Court are stated to have attained finality.
Three other additions need to be referred to : (1) donations received over the years Rs.14,87,58,297. (2) additions on account of keyman insurance.
(3) software expenses aggregating Rs.8,14,63,413/- made in the assessment years 1998-99 to 2000-01.
These by no stretch of imagination can be treated as income within the meaning of section 11(3) of the Act and if done would be contrary to the statutory provisions and the judgments relied upon including the appellant’s own case.
Coming to the addition of Rs.38,15,70,842/-, being the difference in the value of land pursuant to the valuation by the DVO, this again does not qualify to be considered and for that matter u/s 11(3) of the Act.
Reverting back at this stage to the addition of Rs.95,26,54,460/- comprising of Rs.25,87,72,888/- being the excess of income over expenditure for the period ending 31.03.2000 plus the brought forward balance under the same head amounting to Rs.69,38,81,752/- the same stands reflected in the fixed assets as also the current assets.
The year-wise chart for the application of income is as under :
Asstt. Gross Income applied u/s 11(1)(a) Year receipts Application of Income Expenses Depreciation On purchase On Total App. Accumulated Total (excluding of capital repayment u/s 11(1)(a) u/s 11(1)(a) application- Depn.) assets of loan (upto 25% of accumulation gross u/s 11(1)(a) income) 1 2 3 4 5 6 7 8 (2-7) 7+8=2 (3+4+5+6)
1986- 2396533 368712 0 11348032 11716744 -9320211 2396533 87 1987- 1526812 666389 0 23482506 24148895 -22622083 1526812 88 1988- 562980 2184996 409501 84724675 87319172 -86756192 562980 89 1989- 27638328 33745343 29354417 31185914 94285674 -66647346 27638328 90 1990- 98399991 73799993 33326044 49066295 156192332 -57792341 98399991 91 1991- 139892069 112150939 27678366 15822008 6700000 162351313 -22459244 139892069 92 1992- 208960485 148489174 45737929 23917938 14400000 232545041 -23584556 208960485 93 1993- 285459371 189594106 57947448 142720587 14400000 404662141 -119202770 285459371 94 1994- 361441841 242257442 53214648 43830919 15600000 354903009 6538832 361441841 95 1995- 438536984 291986445 85042855 130562637 15600000 523191937 -84654953 438536984 96 1996- 539853589 376740562 82589981 85593387 7800000 552723930 -12870341 539853589 97 1997- 688144941 471709341 99737391 120475521 691922253 -3777312 688144941 98 1998- 839473870 586397887 98123830 84968700 769490417 69983453 839473870 99 1999- 101559931 714376465 95890459 93056648 903323572 112275744 1015599316 00 6 2000- 123729721 863814310 114709927 170508026 114903223 88264952 1237297215 01 5 [Total Exempted accumulation u/s 11(1)(a)] -232624368 The assessee filed the chart for the application of income before the Assessing Officer during the reassessment proceedings but the Assessing Officer has not rebutted the contention of the assessee that the accumulated amount in column 8 results in the negative figure of Rs.23,26,24,368 over the gross receipts. During the remand proceedings, the Assessing Officer vide letter dated 25.02.2013 and subsequent reminders was directed to comment on the contentions raised by the assessee but the Assessing Officer has not offered any comments on the specific issue. The assessee has never made any request to the Assessing Officer for the accumulation of its income under section 11(2) of the Act. The year wise chart shows that there is negative figure of Rs.23,26,24,368 which is the excess of the expenditure over the receipts. The above chart also clearly establishes that the assessee never had any surplus which could be charged to income under the provisions of Section 11(3) of the Act. Further, Section 11 of the Act contemplates charging of income generated from the assets held in trust but not applied for the charitable purposes. The Act does not contemplate charging of the asset itself to the tax. In view of the aforesaid observations and in the final analysis, I delete the entire addition of Rs.1,56,44,47,193.”
6. The Revenue aggrieved with the order of the CIT(A) is in appeal before us.
We have heard the arguments of both the sides and perused the material placed before us. The learned DR heavily relied upon the order of the Assessing Officer and he stated that the Assessing Officer has rightly worked out the accumulated profit. Learned CIT(A) wrongly restricted the meaning of accumulated profit and he considered only the profit accumulated under Section 11(2) of the Act ignoring the fact that the assessee had excess of assets over liabilities amounting to `95.26 crores which clearly indicated the accumulation of profit. He, therefore, stated that the order of learned CIT(A) should be reversed and that of the Assessing Officer should be restored.
Learned counsel for the assessee relied upon the order of the learned CIT(A). He stated that Section 11(3) referred to the accumulation of profit under Section 11(2) and therefore, in view of the decision of Hon'ble Jurisdictional High Court, only the accumulated profit under Section 11(2) can be considered. He further submitted that the assessee had not filed any application for accumulation of profit under Section 11(2) in any of the preceding year. So, there was no accumulation of profit under Section 11(2) which can be taxed under Section 11(3) and therefore, learned CIT(A) rightly deleted the addition made by the Assessing Officer.
We have considered the arguments of both the sides. Section 11(3) of the Income-tax Act, 1961 reads as under :-
[(3) Any income referred to in sub-section (2) which – (a) is applied to purposes other than charitable or religious purposes as aforesaid or ceases to be accumulated or set apart for application thereto, or [(b) ceases to remain invested or deposited in any of the forms or modes specified in sub-section (5), or] (c) is not utilised for the purpose for which it is so accumulated or set apart during the period referred to in clause (a) of that sub-section or in the year immediately following the expiry thereof, [(d) is credited or paid to any trust or institution registered under subsection 12AA or to any fund or institution or trust or any university or other educational institution or any hospital or other medical institution referred to in sub-clause (iv) or sub-clause (v) or sub-clause (vi) or sub-clause (via) of clause (23C) of section 10,] shall be deemed to be the income of such person of the previous year in which it is so applied or ceases to be so accumulated or set apart or ceases to remain so invested or deposited or [credited or paid or], as the case may be, of the previous year immediately following the expiry of the period aforesaid.]
From a plain reading of the above Section, it is evident that under Section 11(3), only the income as referred to in Section 11(2) is to be considered and no other income. Section 11(2) of the Act reads as under :-
“[(2) [Where [eighty-five] per cent of the income referred to in clause (a) or clause (b) of sub-section (1) read with the Explanation to that sub-section is not applied, or is not deemed to have been applied, to charitable or religious purposes in India during the previous year but is accumulated or set apart, either in whole or in part, for application to such purposes in India, such income so accumulated or set apart shall not be included in the total income of the previous year of the person in receipt of the income, provided the following conditions are complied with, namely:-] [(a) such person furnishes a statement in the prescribed form and in the prescribed manner to the Assessing Officer, stating the purpose for which the income is being accumulated or set apart and the period for which the income is to be accumulated or set apart, which shall in no case exceed five years; (b) the money so accumulated or set apart is invested or deposited in the forms or modes specified in sub-section (5); (c) the statement referred to in clause (a) is furnished on or before the due date specified under sub-section (1) of section 139 for furnishing the return of income for the previous year:
Provided that in computing the period of five years referred to in clause (a), the period during which the income could not be applied for the purpose for which it is so accumulated or set apart, due to an order or injunction of any court, shall be excluded.]”
From the plain reading of the above Section, it is evident that where the assessee did not apply 85% of the income for the charitable or religious purposes, he is given an option to accumulate the balance income provided he fulfills the conditions as prescribed in sub-clause (a), (b) and (c) above. From a combined reading of Section 11(2) and 11(3), it is evident that under Section 11(3), the accumulated income of the past years under Section 11(2) is to be taxed if there is a breach of any condition prescribed under sub-clauses (a) to (d) of Section 11(3). Hon'ble Jurisdictional High Court, after considering the facts of the case, has arrived at the conclusion that during the accounting year relevant to assessment year 2001-02 i.e., the year under appeal, there is violation of conditions prescribed under sub-clauses (a) to (d) of Section 11(3) and therefore, accumulated income of past years of the assessee is to be taxed as income in assessment year 2001-02.
Now, the question remains whether there was any accumulated income within the meaning of Section 11(2) of the Income-tax Act. Learned CIT(A), after considering the facts of the case in detail including the application of income in each assessment year beginning from assessment year 1986-87, has arrived at the conclusion that there was no accumulation of income in any of the years. On the other hand, the application of income was more than the prescribed limit of 85%. The above finding of fact recorded by the CIT(A) has not been controverted by the Revenue. The assessee has stated before the learned CIT(A) as well as before us that the assessee has not accumulated any income in any of the past assessment year by filing application as prescribed in that Section. The Revenue neither in the assessment order nor during appellate proceedings before the CIT(A) including the remand report before learned CIT(A) has been able to establish that there was any accumulation of income as provided in Section 11(2) of the Act. Before us also, no evidence is brought on record by the Revenue to establish any accumulation of profit under Section 11(2) by the assessee society. In view of the above, we do not find any justification to interfere with the order of the learned CIT(A) in this regard. The same is sustained and all the grounds raised by the Revenue in this appeal are dismissed.
ITA No.3709 /Del/2015 - M/s Escort M/s Escorts Heart Institute and Research Centre, Heart Institute and Research Centre, ITA No.3709 /Del/2015 /Del/2015 M/s Escort M/s Escort Heart Institute and Research Centre, Heart Institute and Research Centre, Chandigarh Chandigarh :- Chandigarh Chandigarh
In this appeal by the Revenue, following grounds have been raised :-
“1. On the facts and in the circumstances of the case and in law, Ld.CIT(A) has erred in deleting the addition of Rs.1,44,34,72,911/- on account of capital gain.
2. On the facts and in the circumstances of the case and in law, Ld.CIT(A) has erred in holding that transfer of assets within the meaning of section 2(47) of the I.T. Act after conversion of a society as a company under part IX of the Companies Act, 1956 do not attract capital gains chargeable to income tax u/s 45(1) of the I.T. Act.
3. On the facts and in the circumstances of the case and in law, Ld.CIT(A) has erred in deleting the addition of Rs.44,98,53,100/- on account of fair market value of land.
4. The appellant craves leave to add, alter or amend any ground of appeal raised above at the time of hearing.”
The facts of the case are that the assessee society was formed at Chandigarh on 11th November, 1999. On 1st April, 2000, the EHIRC, Delhi merged with the assessee and all the assets and liabilities vested with the assessee. On 30th May, 2000, the assessee society was converted into a company limited by shares. The initial assessment was reopened under Section 147 of the Act on the ground that the conversion of assessee AOP into a company tantamount to a transfer and capital gain arose in the hands of the assessee under Section 45(4) of the Act. The Assessing Officer worked out the short term capital gain at `149,08,97,151/- and completed the assessment at `154,34,28,751/- in the order passed under Section 143(3) read with Section 147 dated 28th March, 2005. Learned CIT(A), by order dated 10th February, 2006, sustained the order of the Assessing Officer. The assessee, aggrieved with the order of the learned CIT(A), filed appeal before the ITAT and, before the ITAT, the Revenue, by invoking the provision of Rule 27 of the ITAT Rules, contended that the capital gain is leviable under Section 45(1) also. The ITAT held as under :-
25.5 By applying the ratio laid down by the Hon’ble Gauhati High Court it can be said that in the present case, the issue has been decided by the Ld.CIT(A) in favour of the department, therefore, the department opted not to file any cross objection even when the appeal has been preferred by the assessee. The provisions of Rule 27 are clear and unambiguous and the right granted to the respondent by the said Rule cannot be taken away. Therefore, we are of the considered view that the revenue department can defend the order of Ld.CIT(A) and can plead the issue of applicability of section 45(1) of the Income Tax Act, 1961. However, it is not in dispute that neither the Assessing Officer nor the Ld.CIT(A) invoked the provisions of section 45(1) of Income Tax Act, 1961 which contemplates the accrual of profits or gains from transfer of capital assets. It is well settled that section 45(1) is a charging section and when read with section 48, it forms one composite scheme. In other words, one does not work without the other, but this aspect has not been examined either by the Assessing Officer or by the ld.CIT(A). So the principles of natural justice and the equity demands that the issue as regards to the applicability of section 45(1) be decided by the Assessing Officer after providing due and reasonable opportunity of being heard to the assessee.
At the end, the ITAT set aside the issue of levy of capital gains to the file of the Assessing Officer. The Assessing Officer, in pursuance to the order of the ITAT, completed the assessment vide order dated 31st March, 2010. In this order, in paragraph 10.5, which reads as under, the Assessing Officer accepted that Section 45(4) is not applicable :-
10.5 The grounds raised by the assessee AOP during the course of the proceedings and on the point that there was no distribution of assets took place in above mode of the transfer of assets over liabilities from the assessee AOP to the company whatsoever capital gain would not be under section 45(4) of IT Act is accepted. However the question of considering cost with reference to certain modes of acquisition specified u/s 49(1) does not arise and the request of the assessee in this regard is rejected.
In paragraph 16, which reads as under, the Assessing Officer concluded that there is transfer of the assets owned by the assessee AOP to another legal entity within the meaning of Section 2(47) which would attract capital gain under Section 45(1) :-
16. In the light of the above findings it is concluded that there was transfer of assets owned by the assessee AOP to another legal entity within the meaning of Sec 2(47) which was not explicitly not considered as transfer by certain transaction as mentioned in section 47 and would attract capital gain u/s 45(1) of IT Act 1961. In absence of any sale, there can be no question of taking sale price as the ‘full value of consideration’ since no price has been settled and nor is the relationship between the two is that of vendor and vendee. In the context of this case the full value of the consideration is the fair market value of the assets received on account of “extinguishments rights over the property On appeal, learned CIT(A), vide order dated 2nd March, 2015, 17. agreed with the assessee’s contention that there was no transfer within the meaning of Section 45(1) because there were no two parties transferor and transferee. The relevant finding of the CIT(A) reads as under :-
“The crux of the matter is the absence of two parties i.e. a transferor and a transferee when a conversion takes place under Part IX of the Companies Act and this being a sine qua non for a transfer to take place within the meaning of section 2(47) read with section 45(1) of the Act. Further the concept of ‘full value of consideration’ is alien to the scheme of section 45(1) which stipulates a negotiated sale price/sale consideration. The Assessing Officer in successive remand reports from time to time has not offered any rebuttal on the submissions of the appellant either on facts or in law choosing to deal with issues outside the scope of the remand by the Hon’ble ITAT. For the first time, the question of ‘tax avoidance’ has been raised and a doubt has been cast on the ‘merger’ of EHIRC, Delhi with EHIRC, Chandigarh and the conversion of the latter into a Limited Company under Part IX of the Companies Act.
It needs to be stated that the question of merger of EHIRC, Delhi with EHIRC, Chandigarh was considered by the Hon’ble ITAT Delhi bench in the case of Escorts Limited vs. ACIT reported in 104 ITD 427 and held to be valid in law as per the following observations :-
The scheme of amalgamation of the Delhi Society with the Chandigarh Society is placed at page 109-113 of Revenue’s paper book-IV. As per the scheme all the assets and liabilities of the Delhi Society were to vest with the Chandigarh Society on or after the effective date of amalgamation, which is the 1st day of April, 2000. This is the scheme which was approved by the members of the Delhi Society in the general meeting. The Registrar of Societies, Delhi by order dated 6.6.01 recognized the fact that the Delhi Society was dissolved and amalgamated with the Chandigarh society. Copy of this order is at page 14 of Revenue’s paper book No.-II. It therefore follows that the assets of the Delhi Society vested with the Chandigarh Society by operation of law.
Following the said decision, the Hon’ble ITAT, Chandigarh Bench in its order dated 18.03.2008 in ITA 144/Chandi/2006 took an identical view. It is the case of the appellant that both these orders have become final in as much as in the case of the order of the ITAT, Chandigarh no appeal was filed u/s 260-A by the department before the Hon’ble High Court and in the case of Escorts Ltd. although an appeal was filed u/s 260-A of the Act but no question/ground was raised on the aspect of merger of the two institutions. The Assessing Officer has not rebutted these factual submissions made on behalf of the appellant.
Coming to the question of conversion, the matter has become final in view of the certificate of incorporation issued by the ROC which as per section 35 of the Companies Act is conclusive in all respects and remains unchallenged till date. Further, the Revenue cannot tax capital gains and challenge the conversion process at the same time.
As regards the ‘tax avoidance’, the question cannot be raised at this stage having not even been adverted to in the order impugned or for that matter any facts referred to for proving the allegation. It needs to be noted as a fact that pursuant to the merger of EHIRC, Delhi with EHIRC, Chandigarh and the conversion of the latter into a limited company under Part IX of the Companies Act each of the resulting entities came to be assessed on the substantive basis and the company i.e. EHIRC Limited is assessed till date with a substantial contribution on account of taxes to be exchequer and continuing to render services in the field of the healthcare.
The Assessing Officer has relied on the judgments in the case of A Gasper vs. CIT reported in 117 ITR 581 (Cal.) and CIT vs. Mrs. Grace Collis reported in 248 ITR 323 (SC) to support the case of the Revenue.
On a close reading, these judgments are found to be distinguishable and not applicable to the facts of the assessee’s case. In the case of A Gasper supra, it was the transfer of a capital asset to another party for a consideration actually received resulting in the extinguishment of the assessee’s right in the capital assets. In the case of the assessee, no two parties are involved and no consideration has passed.
In the case of Mrs. Grace Collis as well, there were two parties viz. an amalgamating company and an amalgamated company whereby under a scheme a shareholder in the amalgamating company in lieu of his shareholding was to be issued shares in the amalgamated company. The observations pertaining to the ‘extinguishment’ by the Hon’ble Court are in relation to a scheme of amalgamation and the assessee is a shareholder and not the amalgamating company.
The Hon’ble Bombay High Court in the case of CIT vs. Texspin Engg. & Mfg. Works reported in 263 ITR 345 (Bom.) at page 354 very significantly rejected the argument of the department when it sought to bring the conversion under Part IX under the term ‘extinguishment’ by observing as under :-
Now, in the present case, it is argued on behalf of the Department before the Tribunal, for the first time, that in this case, on the vesting of the properties of the erstwhile firm in the limited company, there was a transfer of capital assets and, therefore, it was chargeable to income-tax under the head ‘Capital gains’ as, on such vesting, there was extinguishment of all right, title and interest in the capital assets qua the firm. We do not find any merit in this argument.
In the final analysis, it is held that the provisions of section 45(1) of the Act were not applicable and no capital gain arose to the assessee on its conversion into a Ltd. Co. under Part IX of the Companies Act. The consequential addition of Rs.149,08,97,151 is liable to be deleted.”
The Revenue, aggrieved with the order of the learned CIT(A) is in appeal before us.
At the time of hearing before us, learned DR heavily relied upon the order of the Assessing Officer and he stated that during the year under consideration, all the assets and liabilities of the assessee AOP have been transferred to the company on the AOP being converted into company and therefore, it is a clear case of transfer of asset by the AOP to the company and Section 45(1) was rightly invoked by the Assessing Officer for levying the capital gain on such transfer of asset from the AOP to the company. That the learned CIT(A), without properly appreciating the facts of the case, deleted the addition made by the Assessing Officer. He requested that the order of learned CIT(A) should be reversed and that of the Assessing Officer may be restored.
Learned counsel for the assessee, on the other hand, relied upon the order of the learned CIT(A) and he stated that there was no transfer within the meaning of Section 2(47) of the Act because the word ‘transfer’ presupposes the existence of two parties viz., transferor and transferee whereas in the case of a conversion under Part IX of the Companies Act, when an entity is converted into a company, no two parties remained in existence at any point of time. He, therefore, submitted that neither there was existence of two entities nor there was passing of consideration from one entity to another and therefore, Section 45(1) is not applicable. In support of this contention, he relied upon the decision of Hon’ble Bombay High Court in the case of CIT Vs. Texspin Engineering and Manufacturing Works – [2003] 263 ITR 345 (Bombay) which is relied upon by Hon'ble Jurisdictional High Court in the case of CIT Vs. Rita Mechanical Works – [2012] 344 ITR 544 (P&H). He also relied upon the decision of Hon’ble Madras High Court in the case of CADD Centre Vs. ACIT – [2016] 383 ITR 258 (Mad).
We have carefully considered the arguments of both the sides and perused the material placed before us. We find the issue to be squarely covered in favour of the assessee by the decision of Hon’ble Bombay High Court in the case of Texspin Engineering and Manufacturing Works (supra), wherein their Lordships held as under :-
“B) On Section 45(1)
As stated above, in this case we are concerned with the assessment year 1996-97. Therefore, in this case, we are not concerned with clause (xiii) inserted by Finance (No. 2) Act, 1998 in Section 47 under which it is provided that where a Firm is succeeded by a company in the business carried on by it as a result of sale or otherwise, of any capital assets, then such transaction shall not be regarded as transfer. This clause was inserted with effect from 1st April, 1999. Therefore, we are not concerned with that amendment. However, it provides a clue to the legislative intent. In our opinion, this clause has been introduced with effect from 1st April, 1999 in order to encourage more and more Firms becoming Limited Companies. It also indicates the difference between transfer and transmission. Basically, when a Firm is treated as a company under Part IX, it is a case similar to transmission. This is amply made clear by clause (xiii) to Section 47, which states that where a Firm is succeeded by a company in the business, the transaction shall not be treated as a transfer. Now, this amendment has been made in Section 47 in view of the controversy arising on Section 45(1) read with Section 2(47)(ii).
As stated above, Section 45(1) is a charging section. Section 45, read with the computation Section viz. 48 etc., form one composite scheme. This point is very important. Section 45(1) provides that where any profit, arising from transfer of a capital asset is effected in the previous year then such profit shall be chargeable to income-tax under the head "Capital gains". The expression "transfer of a capital asset" in Section 45(1) is required to be read with Section 2(47)(ii) which states that transfer in relation to a capital asset shall include extinguishment of any rights therein. The moot point which arose on interpretation of Section 45(1) in numerous matters was that on extinguishment of the rights in the capital assets, there was a transfer and in certain cases of reconstitution of firms and introduction of new partners, there was a resultant extinguishment of the rights in the capital assets proportionately. In order to get over this controversy, and keeping in mind the object of encouraging Firms being treated as Companies, the controversy is resolved by the Legislature by introducing clause (xiii) in Section 47 with effect from 1st April, 1999.
Now, in the present case, it is argued on behalf of the department before the Tribunal, for the first time, that in this case, on vesting of the properties of the erstwhile Firm in the Limited Company, there was a transfer of capital assets and, therefore, it was chargeable to income-tax under the head "Capital gains" as, on such vesting, there was extinguishment of all right, title and interest in the capital assets qua the Firm. We do not find any merit in this argument. In the present case, we are concerned with a Partnership Firm being treated as a company under the statutory provisions of Part IX of the Companies Act. In such cases, the Company succeeds the Firm. Generally, in the case of a transfer of a capital asset, two important ingredients are : existence of a party and a counterparty and, secondly, incoming consideration qua the transferor. In our view, when a Firm is treated as a Company, the said two conditions are not attracted. There is no conveyance of the property executable in favour of the Limited Company. It is no doubt true that all properties of the Firm vests in the Limited Company on the Firm being treated as a Company under Part IX of the Companies Act, but that vesting is not consequent or incidental to a transfer. It is a statutory vesting of properties in the Company as the Firm is treated as a Limited Company. On vesting of all the properties statutorily in the Company, the cloak given to the Firm is replaced by a different cloak and the same Firm is now treated as a Company, after a given date. In the circumstances, in our view, there is no transfer of a capital asset as contemplated by Section 45(1) of the Act.”
That the above observation of their Lordships would be squarely applicable to the case of the assessee because in this case also, the assessee AOP was converted into a company under Part IX of the Companies Act. Thus, till the time of conversion, the AOP remained in existence and the moment conversion took place, the company came into existence. However, the AOP and company never remained in existence simultaneously. Section 45(1) would be applicable on transfer of a capital asset. The transfer of a capital asset is possible only when there is a transferor and the transferee. In the absence of existence of the two entities, the transferor and the transferee, there cannot be any transfer. Similarly, in the absence of two entities, the consideration cannot pass from transferor to the transferee. In view of the above, we hold that the above decision of Hon’ble Bombay High Court would be squarely applicable to the case of the assessee and has rightly been followed by the learned CIT(A).
We also find that Hon'ble Jurisdictional High Court in the case of CIT Vs. Rita Mechanical Works – [2012] 344 ITR 544 (P&H) has also relied upon the decision of Hon’ble Bombay High Court in the case of Texspin Engineering and Manufacturing Works (supra) for taking the view that taking over the assets of the firm by a company does not give rise to profit chargeable to capital gain under Section 45(4) of the Income-tax Act. Though in the above mentioned case the issue before the Hon'ble Jurisdictional High Court was with regard to the capital gain under Section 45(4) of the Act, but, their Lordships, while considering the decision of Hon’ble Bombay High Court in the case of Texspin Engineering and Manufacturing Works (supra) has specifically referred and discussed the applicability of Section 45(1) read with Section 247(2) of the Act in paragraph 17 of their order. No contrary decision is brought to our knowledge. In view of the above, we, respectfully following the above decision of Hon’ble Bombay High Court in the case of Texspin Engineering and Manufacturing Works (supra), uphold the order of learned CIT(A) and dismiss the appeal filed by the Revenue.
In the result, both the appeals of the Revenue are dismissed.
Decision pronounced in the open Court on 11th June, 2019.