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Facts
The assessee, a technology startup, received share premium based on a valuation using the Discounted Cash Flow (DCF) method, which the Assessing Officer (AO) accepted in the assessment order under section 143(3). The Principal Commissioner of Income Tax (PCIT) initiated revisionary proceedings under section 263, contending that the AO's order was erroneous and prejudicial to the revenue because the share valuation (and thus the share premium) was incorrect as per Rule 11UA(2) and based on 'fictional' figures, alleging lack of proper inquiry by the AO.
Held
The Income Tax Appellate Tribunal (ITAT) held that the AO had conducted extensive inquiries and verified the valuation report and other details furnished by the assessee. The PCIT's conclusion that the AO failed to make inquiries or erred in accepting the valuation report was unsubstantiated and erroneous. The ITAT found that the assessee's financial statements and DCF method for valuation were acceptable, and the order of the AO was not erroneous or prejudicial to the interest of the revenue. Therefore, the PCIT was not justified in invoking section 263.
Key Issues
Whether the PCIT was justified in invoking section 263 to set aside an assessment order by alleging that the AO failed to conduct proper inquiries into the valuation of share premium, and whether the assessee's share valuation under the DCF method was erroneous or acceptable.
Sections Cited
143(3) of the Income Tax Act, 1961, 263 of the Income Tax Act, 1961, 56(2)(viib) of the Income Tax Act, 1961, Rule 11UA(2) of Income Tax Rules, 1961
AI-generated summary — verify with the full judgment below
Income Tax Appellate Tribunal, DELHI BENCHES : H : NEW DELHI
Before: SHRI G.S. PANNU, HON’BLE & SHRI ANUBHAV SHARMA
IN THE INCOME TAX APPELLATE TRIBUNAL DELHI BENCHES : H : NEW DELHI
BEFORE SHRI G.S. PANNU, HON’BLE VICE PRESIDENT AND SHRI ANUBHAV SHARMA, JUDICIAL MEMBER ITA No.1261/Del/2021 Assessment Year: 2016-17 Hatch Tact Innovations Private Vs Pr. CIT, Limited, Faridabad. C2/215, Jal Vayu Towers, Sector 56, Gurgaon (Haryana) – 122 002. PAN: AADCH5527R (Appellant) (Respondent) Assessee by : Shri P.K. Jain, CA Revenue by : Ms Sapna Bhatia, CIT-DR & Shri Amit Katoch, Sr. DR Date of Hearing : 05.04.2024 Date of Pronouncement : 04.06.2024 ORDER PER ANUBHAV SHARMA, JM:
This is appeal preferred by the Assessee against the order dated 15.03.2021 of the Pr. Commissioner of Income Tax, Faridabad (hereinafter referred to as ‘the ld. PCIT’) in Revision No.PCIT, Faridabad/Revision-263- 100000185493/2021 arising out of the order dated 26.09.2018 passed u/s.
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143(3) of the Income Tax Act, 1961 (hereinafter referred as ‘the Act’) by the Assessing Officer, Ward 2(1), Gurgaon (hereinafter referred to as the Ld. AO).
The assessee is a technology start up based at Gurgaon. The assessee company intended to create innovative marketing, digital technology in the field of child development, education, consumer buying, financial advice, travel, trade, etc., for which in the year under consideration the assessee received share premium of Rs.41,90,400/- from different persons. The ld. AO mentions in the assessment order that necessary evidence regarding confirmations of persons from whom share premium have been received and certificate from the Chartered Accountants regarding the fair market value of the shares as per Rule 11UA was furnished which was verified and placed on record and, accordingly, the return of income declaring loss of Rs.1,36,008/- was accepted.
However, the ld. PCIT was not satisfied with the assessment order and, on the basis of perusal of the assessment record, made the following observation vide para 2 of his order:- “The above case was selected under limited scrutiny to examine whether the funds received in the form of shares premium are from disclosed sources and have been correctly offered for tax. The assessee received share premium of Rs.41,51,600 at premium of Rs. 1,070 per share on issuing 3880 no. of shares of face value of Rs. 10 during previous year 2015-16 relevant to assessment year 2016-17. Assessee has adopted fair market value of Rs.1,080 per share as per Discounted Cash Flow Method (DCF). However as per rule 11UA(2) of Income Tax Rules, 1961, the fair market value of shares arrives at Rs. 306. Thus, the assessee has received excess/ more share premium of Rs.29,64,320/- [(1070X3880) - (306X3880)] than fair market value. Further assessee has stated that it
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was a start up company but no Certificate issued from the Inter- Ministerial Board of Certification for tax benefit in this connection was available in the file. The DCF method was based on projected figures and the auditors who prepared the valuation report using DCF method clearly states that this report could not be produced before third party without their consent. Keeping in view of these facts the amount of share premium of Rs. 29,64,320/- should have been taxed under section 56(2)(viib) of the Act.”
The assessee submitted that due information was provided to the ld. AO who was satisfied, with the computation of fair market value of shares. Thus, no proceedings u/s 263 of the Act can be initiated. The ld.PCIT, however, was not satisfied and was of the view that the assessee has adopted fair market value of Rs.1080 per share as per discounted cash flow method. However, the financials were not prepared for relevant financial year. Therefore, discounted free cash flow method approach adopted is not sustainable and, after calculating the fair market value as per Rule 11UA(2) concluded that share premium of Rs.29,64,320/- should have been taxed u/s 56(2)(viib) of the Act. It will be appropriate to reproduce the relevant paras of the order of the ld.PCIT hereinbelow:- “5.1 From the above it is clear that the financial statement of the assessee has been prepared from the date of its incorporation on 05.02.2015 to 31.03.2016. Therefore, its financials were not prepared as on 31.03.2015 and shareholder details are also not prepared as on 31.03.2015. In the absence of financial statement and shareholder details as on 31.03.2015, certificate of the accountants in the valuation report and different figures given for the year 2015 in the working of Discounted Cash Flow Method appears to be fictional figures without any basis. Even in the statutory audit report as on 31.03.2016 the figures as on 31.03.2015 are not given. In view of the above the valuation report dt. 31.03.2015 submitted by the assessee as per Discounted Free Cash Flow
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Method on the basis of fictional figures are not reliable and liable to be rejected. 5.2 As per rule 11UA(2) of Income Tax Rules, 1961, the fair market value of shares works out to Rs. 306. Thus, the assessee has received excess/ more share premium of Rs.29,64,320/- [(1070X3880) - (306X3880)] than fair market value. Keeping in view of these facts the amount of share premium of Rs.29,64,320/- should have been taxed under section 56(2)(viib) of the Act. Assessee has stated before the AO that it was a startup company but no Certificate issued from the Inter- Ministerial Board of Certification for tax benefit was filed in this connection. Further no such claim of startup company is made in the 263 proceedings. AO accepted the claim of the assessee without making the inquiries and verifications on the main issue of funds received in the form of share premium and correctness of taxes paid. 6. Keeping in view the facts and circumstances of the case, I am of the considered view that the assessment order under consideration passed by the Assessing Officer, without inquiries and verifications on the main issue for which the case was selected for scrutiny, is erroneous in so far as it is prejudicial to the interest of the revenue in terms of explanation 2 of section 263 and it needs to be suitably revised. Therefore, the assessment order dated 26.09.2018 passed by the AO u/s 143(3) of the I.T. Act for the AY 2016-17 is hereby set-aside u/s 263(1) of the I.T. Act, 1961 and restored to the AO for making fresh assessment with direction to add the excess share premium of Rs. 29,64,320/- under section 56(2)(viib) of the Act. The AO is directed to make a judicious and logical order as per law after providing due opportunity of being heard to the assessee.”
The assessee is in appeal raising the following grounds:- The grounds of appeal set out below are without prejudice to each other: 1. (a) On the facts and in the circumstances of the case and in law, the Ld. Pr. Commissioner of Income Tax (PCIT)- Faridabad erred in initiating and concluding revision proceedings u/s. 263 of the Income Tax Act, 1961 as the assessment sought to be revised is neither erroneous nor prejudicial to the interest of revenue. (b) On the facts and in the circumstances of the case and in law, the Ld. PCIT- Faridabad erred in setting aside the assessment order passed under section 143(3) of the Act by the ld. Assessing officer (AO) on the ground that the AO had not made the inquiries and verifications in
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respect of amounts received in form of share premium through issue of equity shares for which the case was selected for scrutiny. (c) (i) The Ld. PCIT erred in invoking the re visionary power under section 263(1) of the Income Tax Act, 1961 when the Ld. AO after making specific enquiry and examining the facts had taken one of the possible views by considering recent judicial pronouncements of ITAT, High Court and Supreme Court. (ii)That on the facts and circumstances of the case, the impugned order u/s. 263 based upon mere change of opinion or possibility of a second view is not sustainable in law vide CIT v. Max India Ltd. (2007) 295 ITR 282 (SC) and Malabar Industrial Co. Ltd. v. CIT (2000) 243 ITR 83 (SC). 2 (a) On the facts and circumstances of the case in law, the Ld. PCIT has erred in making addition of Rs. 29,64,320/- by determining the fair market value of unlisted equity shares at Rs. 306 u/r.11UA(2)(a) as against Rs.1,070 determined by the Chartered Accountant (CA) as per the Discounted Free Cash Flow (DCF) method u/r. 11UA(2)(b) being the option adopted by the appellant. (b) On the facts and in the circumstances of the case and in law, the Ld. PCIT erred in rejecting the valuation of equity shares determined by CA vide his report dated 31.03.2015 as per DCF method without pointing out any flaws or discrepancies in such report and substituting the method of valuation even when he had no right of substituting the method of valuation. . (c) PCIT has erred in changing the method of valuation without obtaining valuation report as per DCF method from another valuer. (d) According to the facts and circumstances above, the addition made u/s 56(2)(viib) should be deleted. The appellant craves leave to add, amend, alter, modify and/or delete any of the above grounds of appeal on or before the date of hearing.”
Heard and perused the record. The ld. AR has primarily submitted that the ld. AO had made extensive enquiry on the limited issue of scrutiny. It was submitted that the ld.PCIT has erroneously held that the books of account were not maintained for whole of the period, because as per section 2(41) of the
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Companies Act, 1956, the assessee was required to maintain account upto 31st March of the next following year in case of companies incorporated after 1st January of any year. It was submitted that thus, there was no infirmity in closing accounts of first year of incorporation on 31.03.2016 instead of 31.03.2015.
6.1 It was further submitted that notices issued u/s 142(1) of the Act, were duly responded by the assessee and that establish that the AO has made sufficient enquiries to accept the source of investment.
6.2 It was also submitted that the ld.PCIT has observed that although the assessee is a start up company, no certificate of tax benefit was filed. The ld. AR submitted that when no benefit was claimed, there was no need for filing of the said certificate.
6.3 It was also submitted that the assessee company had received approximately 60% of the share application money from NRI under FDI and, as per the Master Circular of Reserve Bank of India, the pricing of shares has to be as per the discounted free cash flow method in case of unlisted companies as determined by SBI Registry merchant banker or a Chartered Accountant. Therefore, no other view of valuation of share by invoking Rule 11UA could be made. The ld. AR has relied the orders:
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(i) Mohak Real Estate Private Ltd. vs. PCIT, ITA No.1068/Del/2021, AY 2016-17; and (ii) PCIT vs. M/s Cinestaan Entertainment Pvt. Ltd., ITA No.1007/2019 & CM Appl. 54134/2019 (Delhi High Court)
On the other hand, the ld. DR supported the findings of the ld. tax authorities below and relied the Hon’ble Calcutta High Court order in the case of PCIT vs. Trimex Fiscal Services (P) Ltd., (2022) 141 taxmann.com 524 (Calcutta) to contend that where AO record satisfaction that shares issued of assessee company were not circular transaction, but, fail to record his satisfaction that FMV of such shares was being determined in accordance with section 56(2)(viib) of the Act, then, Commissioner was justified in setting aside the impugned assessment order as erroneous and prejudicial to the interests of the Revenue by invoking powers u/s 263 of the Act.
We have given thoughtful consideration to the matter on record and what comes up is that by notice dated 08.08.2017 u/s 143(2), the assessee was informed of the scrutiny assessment on the question ‘whether the funds received in the form of share premium are from disclosed sources and have been correctly offered for tax.’ Thereafter, by notice u/s 142(1) dated 12.07.2018 available at page 63 of the paper book, the AO had specifically called for the following information:-
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“1. Complete details of business being carried out by you in the year under scrutiny, address of your business premises, nature of business carried on. If any other concern is being run from the same premises, its name and nature of business should be furnished.
Copy of Audit Report in prescribed form along with all the annexure for the year under consideration. 3. Copy of statement of bank accounts for the period 01.04.2015 to 31.03.2016 4. Please furnish the capital account and source of capital introduced in your capital account/s during the year. 5. Please furnish the name and address of shareholder as on 31.03.2015 and 31.03.2016, in case there is any changes in the shareholding during the year furnish details thereof. 6. Please provide the copy of resolution passed by company authorized allotment of such shares if any. 7. Name and address of share applications who have applied for shares during the financial year 2015-16, number of shares applied, date and mode of payments, date of allotment of shares, no of shares allotted also provide the copy of accounts of such share applicants and also the supporting documents to prove their identity, creditworthiness and genuineness of share application money received from them and whether the fund received in the form of share premium are from disclosed sources and have been correctly offered for tax. 8. Please give valuation report from the chartered accounts regarding the fare market value of the share as per Rule 11UA and also explain why the difference, if any be taken for assessment.”
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The reply to the same is made available at pages 65 to 67 of the paper book and we consider it appropriate to reproduce the same:-
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The Hon’ble Delhi High Court in the case of M/s Cinestaan Entertainment Pvt. Ltd. (supra) has held that the valuation is a question of fact which would depend upon appreciation of material or evidences. Thus, we are of the view that unless it is established that Ld. AO has not made any enquiry or enquiry made is eye wash, then on disputing certain facts and figures from the financials alone, the assessment order cannot be said to be erroneous and prejudicial to the interest of the Revenue. So as to give the Revisioinal Authority power under section 263 of the Act to substitute his valuation of the shares.
10.1 The Ld. Pr.CIT has discredited the valuation report filed by the assessee primarily on the basis that the assessee has not prepared financial statements from incorporation on 05.02.2015 to 31.03.2016 and, thus, concluded that the 11
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figures taken in working out discounted cash flow method appears to be fictional figures without any basis. The period between 05.02.2015 to 31.03.2016 is not as long so as to say that it would have affected the financials. There is substance in the contention of the ld. AR that when, as per the Companies Act, the assessee was required to make accounts upto 31st March of the next following year in which the assessee was incorporated, then, without showing that financials as prepared on 31.03.2016 for the period after incorporation dated 05.02.2015, in any way were incorrect. Thus to hold that the valuation report was based on the fictional figures cannot be sustained.
The conclusion of the ld.PCIT that the AO had not made inquiries and verifications on the main issue for which case was selected is erroneous as the notice and reply reproduced above show that extensive inquiry was made by the ld. AO and duly replied.
The judgement which the ld. DR has relied in the case of Trimex Fiscal Services (P) Ltd., (supra) is not applicable to the present circumstances as, in that case, based on certain facts coming out of the manner in which the AO had scribed certain observations in regard to acceptance of valuation of shares after subscribing his signatures on the assessment order, Hon’ble High Court had concluded that no satisfaction was recorded by the AO for accepting the valuation of shares. However, in the case in hand, relevant queries were raised by the ld. AO. Thereafter, taking into consideration, the Chartered Accountant’s 12
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report regarding fair market value of shares as per section 11UA, the return of income is accepted. Ld. AO has mentioned of the same in the order, though not in descriptive manner. Thus it is not a case of ‘no enquiry’, as held by Ld. Pr. CIT.
Consequently, we are of the view that ld. Pr.CIT had fallen in error in concluding that the AO had not made enquiries or that he had fallen in error in accepting the valuation report submitted by the assessee. The grounds raised are sustained and the appeal of the assessee is allowed. The impugned order u/s 263 of the Act is quashed.
Order pronounced in the open court on 04.06.2024. Sd/- Sd/- (G.S. PANNU) (ANUBHAV SHARMA) VICE PRESIDENT JUDICIAL MEMBER Dated: 04th June, 2024. dk Copy forwarded to: 1. Appellant 2. Respondent 3. CIT 4. CIT(A) 5. DR Asstt. Registrar, ITAT, New Delhi