MR.LALIT KUMAR RAICHUR,BANGALORE vs. INCOME TAX OFFICER, BANGALORE

Per Vijay Pal Rao, Judicial Member

Page 4 of 7 4. Having considered the rival submissions as well as relevant material on record it is noted that the assessee sold 9,000 shares on 01.09.2008 for the consideration of Rs. 14,22,000/-. Thereafter on 06.09.2008 bonus shares at the ratio 1:1 was received by the assessee. While computing the capital gain the assessee took the cost price as it was prior to the issue of bonus shares. The AO has worked out the cost of shares by considering the bonus shares and therefore recomputed the short term capital gain. There is no dispute regarding the sale price. However the AO has taken into consideration the bonus shares which is not permissible as per the provisions of the Act. There is no dispute that the assessee sold the shares after the record date and therefore the assessee was entitled for issue of bonus shares and received the equal number of bonus shares after sale of 9,000 shares. However, the bonus stripping is not permissible in case of shares as per section 94(8) which is applicable only in the case of mutual fund units. The coordinate bench of the Tribunal in the case of Shri B.G. Mahesh Vs DCIT (supra) while dealing with an identical issue has held in para 6.4.1 to 6.4.4.

6.4.1 We have heard the rival contentions and perused and carefully considered the material on record including the written submissions made and the judicial decisions cited. The basic facts of the case are not in dispute. That the shares of the said companies were bought cum-bonus with a view to acquiring the bonus shares has been clearly brought out by the Assessing Officer and the same is not in dispute. Also, the fact that the assessee sold the original shares immediately after the allotment of bonus shares of these companies is also an indisputable fact on record. In view of these sale transactions, the assessee has incurred loss in the current year

Page 5 of 7 even while his wealth is intact, as he retains the bonus shares allotted to him. Therefore, in real terms, the assessee has not incurred any loss as the loss claimed by him is a notional loss. As observed by the learned CIT(Appeals), this gives a two-fold benefit to the assessee, in that he gets a deduction of the notional loss from LTCG earned from sale of other shares thereby reducing his tax liability and also the capital gains on eventual sale of the bonus shares (after holding it for a period of one year, thereby making it long term asset) is not taxable as per the provisions of section 10(38) of the Act. 6.4.2 As observed by the Assessing Officer, the sequence of the transactions point to a clear intention on the part of the assessee to gain the bonus shares and to make notional loss by sale of the original shares. This intention of the assessee has also been acknowledged by the learned CIT(Appeals) in her order. However, in our view, the conclusion drawn by the Assessing Officer that this intention of the assessee renders it a trading activity and therefore the transaction is distinguished form section 55(2)(aa) of the Act, is misplaced. While selling the shares, the assessee has adopted the first-in-first-out (FIFO) method which is as provided in section 45(2A) of the Act. Further, in terms of section 55(2)(aa)(iiia) of the Act, introduced by Finance Act, 1995 and w.e.f. 1.4.1996, the cost of bonus shares are to be taken as NIL. Hence, it is clear that these transactions are in accordance with the provisions of section 55(2)(aa) of the Act. 6.4.3 The learned CIT(Appeals) observed that these transactions which generate a notional loss is commonly called “bonus stripping”. Bonus stripping refers to a transaction where a person purchases shares of a company cum-bonus after the public announcement of the bonus issue by the company and after he gets entitled to receive the bonus shares on the record date, he sells the original shares and continues to hold the bonus shares. Usually, after the record date, the share price declines almost proportionately to the extent of dilution caused by the Bonus Issue. The record date is the cut-off date as on which the beneficial holders of the shares on record will be considered eligible for receiving / being allotted bonus shares. Anyone buying shares after this date will not be eligible for bonus share allotment. Upon the sale for the original shares, because of the reduction in the market price of the shares pursuant to allotment of bonus shares, the person suffers a STCL on such transaction and claims set-off of the same against other income chargeable to tax under the head ‘Capital Gains’. If the bonus shares are listed and the tax payer sells them after 12 months, any profit that arises therefrom will be exempt from LTCG. Briefly, bonus stripping involves buying shares cum-bonus and selling them ex-bonus and claiming a STCL on sale of the original shares. There are no specific conditions specified in the IT Act, 1961 for obtaining the benefit of bonus stripping of shares except that he must hold the bonus shares for a period of atleast 12 months so that the gain arising on its sale will be LTCG and would be exempt to tax if Page 6 of 7 they are listed shares. Any tax payer who derives STCG or LTCG can off set the said income by STCL incurred from bonus stripping and thereby reduce his tax liability. At the same time, the LTCG that arises on sale of listed bonus shares (where cost of acquisition is NIL) will be exempt from tax. 6.4.4 Section 94(8) of the Act was introduced w.e.f. 1.4.2005 (viz. Assessment Year 2005-06) to curb the practice of creation of losses through bonus stripping as has been carried out by the assessee in the case on hand. This section has been introduced under Chapter X of the Act – “Special Provisions relating to Avoidance of Tax”. Section 94 of the Act in Chapter X of the Act bears the heading “Avoidance of tax by certain transactions in securities.” The provisions of section 94(8) of the Act read as under : “ 94 (8) Where— (a) any person buys or acquires any units within a period of three months prior to the record date; (b) such person is allotted additional units without any payment on the basis of holding of such units on such date; (c) such person sells or transfers all or any of the units referred to in clause (a) within a period of nine months after such date, while continuing to hold all or any of the additional units referred to in clause (b), then, the loss, if any, arising to him on account of such purchase and sale of all or any of such units shall be ignored for the purposes of computing his income chargeable to tax and notwithstanding anything contained in any other provision of this Act, the amount of loss so ignored shall be deemed to be the cost of purchase or acquisition of such additional units referred to in clause (b) as are held by him on the date of such sale or transfer.] Explanation.—For the purposes of this section,— (a) "interest" includes a dividend ; (aa) "record date" means such date as may be fixed by— (i) a company for the purposes of entitlement of the holder of the securities to receive dividend; or (ii) a Mutual Fund or the Administrator of the specified undertaking or the specified company as referred to in the Explanation to clause (35) of section 10 the purposes of entitlement of the holder of the units to receive income, or additional unit without any consideration, as the case may be;]

Page 7 of 7 (b) "securities" includes stocks and shares ; (c) securities shall be deemed to be similar if they entitle their holders to the same rights against the same persons as to capital and interest and the same remedies for the enforcement of those rights, notwithstanding any difference in the total nominal amounts of the respective securities or in the form in which they are held or in the manner in which they can be transferred; (d) "unit" shall have the meaning assigned to it in clause (b) of the Explanation to section 115AB.”