BHARAT BIR MOHINDRA,CHENNAI vs. ACIT, CHENNAI

(a) Payment by way of loan on advance is given by a company in which the public are not substantially interested. (b) Such loan is given to a registered shareholder. (c) The shareholder (getting the loan) beneficially holds 10% or more of equity shares in the company (giving the loan). (d) The company possess accumulated profits at the time it makes Payment of loan or advance.

The AO noted that since all the aforesaid conditions are satisfied in this case, the amount of loan received by the assessee from M/s.

Classic Linens International Pvt. Ltd to the extent at accumulated profit of `1,59,04,178/- as on 31.3.07 is to be treated as deemed dividend in the hands of the assessee being a shareholder of M/s.

Classic Linens International Pvt. Ltd holding 83.71% share and ld. Assessing Officer issued show notice to the assessee. Ld. Assessing Officer relied on the following circular/case-law.

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Thus, the AO concluded that the amount of loan received by the assessee company from M/s. Classic Linens International Ltd., to the extent of accumulated profit of `1,59,04,178/- as on 31.3.07 is treated as deemed dividend in the hands of the assessee and is chargeable to tax under the head "income from Other Sources".

Accordingly, ld. Assessing Officer invoked the provisions of Sec. 2(22)

(e) of the Act and considered an amount of `1,59,04,178/- as deemed income of the assessee Aggrieved, assessee filed an appeal before ld. Commissioner of Income Tax (Appeals)

Classic Linens International Pvt. Ltd. The AO has added a sum of `1,59,04,178/- as deemed dividend u/s 2(22)(e) in the hands of the assessee . As per Sec. 2(22) of the Act, it is clear that comprehends manifold requirements, the first being that the payment should be made by; way of loan or advance. The second requirement is that the company making the payment should not be a company in which the public are substantially interested. Thirdly, the payment of advance or loan to the extent of accumulated profits (excluding capitalized profits) should be to (i) an equity shareholder, who is beneficial owner of ITA No.462/Mds/2013. :- 5 -: shares holding not less than 10 per cent of voting power; or (ii) any concern in which such shareholder (holding not less than 10 per cent of voting power) is a member or a partner and in which he has a substantial interest; or (iii) any person, on behalf, or for the individual benefit, of any such shareholder (holding not less than 10 per cent voting power). Ld. Commissioner of Income Tax (Appeals) found that all the above requirements are satisfied in the case of the assessee and therefore Assessing Officer has rightly applied the deeming provisions of sec.2(22)(e). It is seen that during the course of assessment proceedings, that assessee agreed to the application of Sec.2(22)(e), but contended that the declared dividend sum of � 80 lakhs on which dividend distribution tax has been paid the company should be reduced from the total advance taken and only balance amount of `51,72,144/- is subjected to Sec. 2(22) ( e) of the Act. The assessee has contested against the said addition on the grounds that the repayments were not taken into consideration, the dividend tax paid was not taken into consideration and 'non-applicability of the deeming !provisions of sec.2(22)(e) for commercial transactions. As regards the assessees first argument regarding repayments not being taken into consideration, he relied on the Hon'ble Supreme Court's decision in the case of Tarulata Shyam vs. CIT (1977) 108 ITR 345.

The repayment of loan or advance during the year or subsequently

ITA No.462/Mds/2013. :- 6 -: does not affect the deeming provisions of sec.2(22)(e). The assessee's argument that dividend distribution tax was not taken into consideration does not have any force as the said tax was not into existence at all when the sec.2(22)(e) corresponding to sec.2(6A)(e) of Indian Income Tax, 1922 was introduced. The dividend distribution tax has been introduced w.e.f. 01.05.1997 only therefore payment of dividend distribution tax does not affect the applicability of sec.2(22)(e) of the Act. The assessee's third argument is that the sums were advanced for an interim period to create an export arm while implementing the plan of expansion of the assessee's business in linen, the funds were used for creating a unit in SEZ, Tambaram and therefore there was commercial consideration in-built in the transaction under scrutiny. However, on consideration of the assessee's case, it is hard to agree that the transaction was on account of commercial considerations. The assessee has failed to prove any commercial expediency for advancing these amounts by M/s. Classic Linens International P. Ltd to the assessee. Assessee placed reliance on the judgment of CIT vs. Rajkumar 318 ITR 462 (Delhi High Court). However, in the instant case, the sums advanced are not "Trade Advances", a fact which has not been disputed by the appellant. Thus, the facts of the assessee's case being totally different from that of CIT vs. Rajkumar 318 ITR 462, the same is not applicable.

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Assessee also placed reliance in the case of CIT vs. Creative Dyeing & Printing 318 ITR 476. The High Court in this case, more or less, endorsed the view taken by it earlier in CIT vs. Rajkumar(supra). In the assessee's case, the transaction under consideration is definitely not a "business transaction" and it does not result in any benefit to the company making payment, therefore this case does not support the case of the assessee in any way. The facts of the case In PRADIP KUMAR MALHOTRA vs. CIT in 338 ITR 538 (Cal) relied on by the Id.AR are entirely different from that of the assessee’s case. The provisions of sec 2(22)(e) create a fiction bringing in amount paid otherwise than as dividend into the net of dividends. Therefore, according to CIT(A), this clause must be given a strict interpretation as held by the Hon'ble Supreme Court in the case of CIT v. C.P. Sarathy Mudaliar in 83 ITR 170(SC). The historical perspective of sec 2(22)(e) was also discussed by the Hon'ble Mumbai ITAT Special Bench in the case of ACIT v.

Bhaumik Colour P Ltd (118 ITO 1) .ld. Commissioner of Income Tax (Appeals) observed that In the case of the assessee , all the conditions stipulated in sec 2(22)(e) are satisfied. In view of the facts and circumstances of the case and authoritative judicial precedents, the loan received by the assessee from M/s. Classic Linen lnternational Pvt. Ltd to the extent of accumulated profit of `1,59,04,178/- as on 31.03.07 was rightly taxed as deemed dividend

ITA No.462/Mds/2013. :- 8 -: in the hands of the assessee and is chargeable to tax under the head "Income from Other Sources" and dismissed the appeal of the assessee. Against this, the assessee is in appeal before us.

He placed reliance on the decision of Co-ordinate Mumbai Bench, in the case of ITL Fabrics P. Ltd vs. ACIT (2012) 19 ITR (Trib) 499.

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According to AR, the purpose of Section 2(22) (e) accumulated profits do not include current year's business profits, since it accrues only at end of year and deemed dividend assessable in any of earlier year had to be reduced from accumulated profits, even if it was not assessed in that year. More so, amount of accumulated profits has to be determined on date on which loans were given by company and not at the end of year. The ld. AR also placed reliance on the decision of Vishaka Bench of the Tribunal in the case of P.Satya Prasad Vs ITO 141 ITD 403 (Vishaka Trib). Ld. AR further submitted that M/s Classic Linens International Pvt Ltd is a company in which the public are not substantially interested and possess accumulated profit of `1,27,08,173/- as on 01/04/2006 and `1,59,04,178/- as on 31/03/2007. The Assessee holds 83.71% shares of M/s Classic Linens International Pvt Ltd during the financial year 2006-07. Further, he relied on the order of the Chennai Bench of the Tribunal in the case of ACIT vs. C.Rajini and ACIT Vs. Subba Reddy (HUF) (140 TTJ 216) had held as ‘’19. After carefully considering the rival submissions as put forth before us, we are of the considered opinion that section 2(22)(e) of the Act is a deeming provision which assumes existence of certain facts if the conditions specified in a particular section are fulfilled. We agree that these provisions are to be strictly construed. This legal fiction has to be carried to such logical ends and not to illogical lengths. Only a loan, which would include the payments mentioned in section ITA No.462/Mds/2013. :- 10 -:

2(22)(e) can be deemed to be dividend and to that extent of the company has accumulated profits on the date of payment. We have gone through the Tribunal order dated March 9, 2007 passed in this assessee's case for the assessment year 2002-03 on which the learned authorised representative has heavily relied. In that year from the copy of account of CHPL in the books of CPDPL for the period April 1, 2001 to March 31, 2002 the Assessing Officer found that as on April 1, 2001 the account of CHPL started with a debit balance of Rs. 2.5 crores and odd and thereafter there were various debit entries aggregating to Rs. 2.75 crores which according to the Assessing Officer, were over and above the payments already made by CPDPL as on March 31, 2001 to CHPL. The Assessing Officer accordingly proposed to the assessee that the payments to the extent of Rs. 2.75 crores by CPDPL to CHPL would attract the provisions of section 2(22)(e) in the hands of the substantial shareholders. It was argued on behalf of the assessee that the receipts by CPDPL were on account of contract payments by CHPL and that the transactions between these two companies were purely business transactions and that the provisions of section 2(22)(e) would not be applied to the business transactions between the companies ; or between the companies and the directors. In these circumstances, the Tribunal after following other shareholder's case, namely that of C. Subba Reddy in I. T. A. No. 2975/Mds/04 for the assessment year 2001-02 vide order dated February 9, 2007 has held that the provisions of section 2(22)(e) of the Act would not be attracted. It was found from the copy of the accounts of the assessee in the books of CPDPL from April 1, 2001 to March 31, 2002 that the assessee had credit balance with an opening balance of Rs. 3.13 crores and a closing balance of Rs. 1.40 crores. This section intends the monies taken by substantially interested person otherwise by way of dividend. In this case, the assessee is holding substantial amount in crores with the company without interest and to brush aside this fact is against the spirit of the section. The Assessing Officer has stated that the assessee has been making payments for transactions done and the assessee cannot claim the excess money lying with CPDPL. The advance of Rs. 20,00,000 was made by CPDPL to CHPL on December 26, 2000 and balance of the assessee with company was Rs.4,35,67,200. The contract

ITA No.462/Mds/2013. :- 11 -: referred to by the Assessing Officer was completed after two years in a total amount of Rs. 8 crores. It was stated that the assessee was advancing all her funds in the two companies in which she is a director, for the purpose of business. A letter dated December 15, 2006 clearly shows that the assessee had a current account with the company and was advancing monies to the company as and when required for the purpose of business of the company. Therefore, we are also in agreement with Commissioner of Income-tax (Appeals) that this section can be invoked to curtail the misuse of the funds belonging to a private limited company by its shareholder but not when there is a business transaction between the two entities ; and funds of the director were also lying with the company. In this case, the assessee's money ranging between Rs.313.72 lakhs and Rs. 490.67 lakhs with Ceebros Property Development P. Ltd., the payment by the same company to Ceebros Hotels P. Ltd. of Rs. 20,00,000 cannot be treated as intended deemed dividend under section 2(22)(e) of the Act. These facts have not been denied by the Assessing Officer. Consequently, we do not find any infirmity in the appellate order. So, there is no legality in making impugned addition’’.

5.1 According to ld. A.R, the provisions of s. 2(22)(e) could not be invoked when there is a genuine business transaction between two assessees and funds of the assessee were also lying with the company and prayed that the appeal of the assessee to be allowed.

On the other hand, ld. Departmental Representative 6. vehemently opposed to the submissions of the ld. Authorised Representative.

having accumulated profit of `1,27,08,173/- as on 01.04.2006 and �1,59,04,178/- as on 31.03.2007. Assessee hold more than 83.71% of shares in M/s. Classic Linens International P. Ltd during the financial year 2006-2007. As per provisions of Sec. 2(22) (e) of the Act “any payment by a company, not being a company in which the public are substantially interested, of any sum (whether as representing a part of the assets of the company or otherwise) [made after the 31st day of May, 1987 , by way of advance or loan to a shareholder, being a person who is the beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power, or to any concern, in which such shareholder is a member or a partner and in which he has a substantial interest (hereafter in this clause referred to as the said concern)] or any payment by any such company on behalf, or for- the individual benefit, of any such shareholder, to the extent to which the company in either case possesses accumulated profits”. Now before us, ld. Authorised Representative submitted that loans given by M/s. Classic Linens International Pvt Ltd is on account of commercial expediency.

However there was no iota of evidence to support this claim of the assessee. The ld. Authorised Representative took support of the order of the Tribunal in the case of C.Rajini (supra) to say that funds

ITA No.462/Mds/2013. :- 13 -: were never misused by the assessee it was advanced to another company for the purpose of business transactions between two assessees and it cannot be treated as deemed dividend. However, as explained earlier if there is business transactions between these two assessees, it is duty of the assessee to bring on record circumstances under which it was advanced. Ld. Commissioner of Income Tax (Appeals) given a categorical finding by placing reliance on the judgment of Delhi High Court in the case of CIT vs. Rajkumar, 318 ITR 462 observing that it was not a business advance. Being so, we are not in a position to appreciate the above argument of the ld. Authorised Representative. Accordingly, this argument of the A.R is rejected.

assessee was examined by Supreme Court in the case of P. Sarada vs. CIT 229 ITR 444, and observed hereunder:-

‘’In the instant case, excess withdrawals were made by the assessee on various dates between July 3, 1972, and March 22, 1973, when the account of Mahesh had not been debited. The assessee’s account was consequently overdrawn. On the very last day of the accounting year some adjustment was made but that will not alter the position that the assessee had drawn a total amount of Rs. 93,027 between July 3, 1972, to March 22, 1973, from the company when her account with the company did not have any credit balance at all. That means these advances made by the company to the assessee will have to be treated as deemed dividends paid on the dates when the withdrawals were allowed to be made. Subsequent adjustment of the account made on the very last day of the accounting year will not alter the position that the assessee had received notional dividends on the various dates when she withdrew the aforesaid amounts from the company. A point was taken that the High Court has reappraised the facts and had disbelieved the letter dated April 3, 1972, which was accepted as genuine by the Tribunal. It was contended that it was not open to the High Court to doubt this letter. This argument is misconceived. The High Court has proceeded on the basis of the facts found by the Tribunal. There is no dispute that the assessee had withdrawn various sums of money between July 3, 1972, and March 22, 1973, when she did not have any credit balance with the company. In order to pay her these sums of money the account of Mahesh was not debited at all. The entire credit balance of Mahesh stood as it was till the very last day of the accounting year. On these facts found by the Tribunal, the High Court concluded that it was not possible to hold that the assessee was paid money out of the funds lying to the credit of Mahesh. The High Court decided the case entirely on the basis of the facts found by the Tribunal’’.

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8.1 As per the above, withdrawals made by the shareholder from the company on various dates amounted to grant of loan or advance within the meaning of s. 2(22)(e) even though ultimately the amount was adjusted against the repayment of the said loan in the same assessment year. The jurisdictional High Court in the case of Sunil Kapoor in 375 ITR 01 (Mad.) wherein observed that any amount paid to assessee by company during the relevant year, that is less than amount repaid by assessee in a same year, shall be deemed to be construed as "dividend" for all purposes. Further it is noted by the Jurisdictional High Court in that case that while computing the deemed dividend one has to be considered the payments made by the assessee to the company. Hence it is observed by the Court that each debit will have to be individually considered because it may or may not be a loan. The AO is, therefore, directed to verify the each debit entry on the aforesaid loan and treat only the excess amount of debit in the books of accounts of the company as a deemed dividend u/s.2(22)(e) of the Act. In other words, only those net amounts which reflected the debit side of the books of accounts of the assessee falling under the definition of the loans and advances in the relevant assessment years will be entitled to be taken as a deemed dividend. In other words, the AO has to compute the day to day debit balance of this assessee in the books of accounts of the company and compare with it, accumulated

ITA No.462/Mds/2013. :- 16 -: profit in respect of company and lower of these to be considered as deemed dividend in the hands of present assessee.

8.2 Further, ld. Authorised Representative made an argument that accumulated profit shall not include current year profit. For this purpose, he placed reliance on the decision of Vizag Bench and Mumbai Bench cited (supa). It was held by the Hon’ble Supreme Court in the case of CIT vs. V. Damodaran, 121 ITR 572 that accumulated profit shall not include current year’s profit. So as pointed out by the ld. Authorised Representative, this was considered by the Vizag Bench of the Tribunal in the case of P. Satya Prasad vs. ITO (141 ITD 403) and observed that for purposes of s. 2(22)(e), the accumulated profits are to be worked out up to the date of each payment/advancement of loan. That there is a distinction between the "accumulated profits" of business and the current year's profits of business, that profit of business accrue at the end of the previous year. That loan or advance treated as deemed income up to the date of fresh loan is to be reduced from the accumulated profits. Thus, it has been held that the accumulated profits do not include current year's business profit, since it accrues only at the end of the year.

Further the loan or advance treated as deemed income up to the date of fresh loan is to be reduced from the accumulated profits. Consistent with the view taken by the Ahmedabad Bench in the case of ITA No.462/Mds/2013. :- 17 -:

M.B.Stock Holding Pvt Ltd. Vs. CIT in (2003) 84 ITD 542(Ahd.), we also hold so. The contention of the assessee is that the amount of deemed dividend, which should have been assessed in any of the earlier years, should also be reduced from the accumulated profit even if it was not assessed as deemed dividend in that year. This view is fortified by the decision rendered by the Cochin Bench of Tribunal in the case of Gordhindas Khimji (11 ITD 158 (Cochin)) and also the decision rendered by the Delhi Bench of Tribunal in the case of A.R.

Chadha & Co India (P.) Ltd. VS. DCIT (133 TTJ 490). We have already noticed that the Ahmedabad Bench of the Tribunal in M.B.Stock Holding Pvt Ltd. Vs. CIT has explained about the area of operation of Explanation 2 to sec. 2(22)(e) of the Act and we have also concurred with the view that the accumulated profit does not include current year’s profit from business. Accordingly, in our view, the Explanation 2 to sec. 2(22)(e) shall not alter the taxability of the dividend in the right year of assessment. The Hon'ble Supreme Court has held in the case of Miss P. Sarada (supra), that the legal fiction embodied in sec.

2(22)(e) comes into play as soon as monies were paid by a company.

The very same view was expressed by the Apex Court in the case of Smt Tarulata Shyam vs. CIT [l977] 108 ITR 345. The Cochin Bench of Tribunal in the case of Gordhandas Khimji (supra) considered the decision of Hon'ble Supreme Court in the case of Tarulata Shyam

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(supra) and has expressed the view that the deemed dividend assessable in any of the earlier years has to be reduced from the accumulated profits, even if it was not assessed in that year. The relevant observations made by the Cochin Bench are extracted below:

"11. In Smt. Tarulata Shyam s case (supra), it was held by the Supreme Court that the statutory fiction created by s. 2(6A)(e) would come into operation at the time of payment of advance or loan to a shareholder and tax is attracted to the loan or advance to the extent to which the company possesses accumulated profits the moment the loan or advance is received, and even if the loan or advance ceases to be outstanding at the end of the previous year, it can still be deemed to be 'dividend' if the conditions of the section are satisfied. It was also observed that the language of the section is clear and unambiguous and that there is no scope of importing into the statute words which are not there and that once it is shown that the case of the assessee comes within the letter of the law, he must be taxed, however great the hardship may appear to the judicial mind to be. ...

the amount of loan or advance, immediately on making such loan or advance. Only if this is done, the subsequent loans or advances can be tested by verifying the accumulated profits on the dates on which they are made. As pointed out in the decision referred above, the repayments of the advances or loans will have no effect either on the advances or loan treated as dividend or on the accumulated profits as reduced by such advance or loan. As such, it does not seem to be neither practicable nor proper to postpone the whole process of ascertaining the accumulated profits till the Department chooses to treat a particular advance as deemed dividend. If the contention of the Department is accepted, then if the ITO ignores the advances in earlier years and then goes down on the assessee in an assessment year in which he has drawn substantial advances, it will amount to allowing the Department to take advantage of its omissions to assess the earlier loans and advances as deemed dividends and to allow such omissions to bloat the accumulated profits, so that the whole of the large advances taken in the last assessment year are converted into deemed dividends. As rightly pointed out by the CIT(A), the advances or loans in the earlier assessment years should be treated as dividend which the Department omitted to assess. If so, it follows that the accumulated profits should be reduced by the earlier loans or advances in spite of the fact that they were not assessed to tax as deemed dividends by the Department." 8.3 It is a well settled proposition of law that an income pertaining to a particular assessment year can be assessed in that year only. For example, the income pertaining to the assessment year 2006-07 can be assessed only in that year, i.e., the said income cannot be assessed in any other assessment year, even if the tax authorities wish to do so.

Hence, the assessee cannot be compelled to pay tax on the income which was omitted to be assessed in an earlier year, by assessing the said income in any other assessment year. Accordingly, we are inclined to follow the decision rendered by the Cochin Bench in the case referred supra. Accordingly, the loan given by the company only in the ITA No.462/Mds/2013. :- 20 -: immediate preceding year, i.e., assessment year 2007-08, should be assessed as deemed dividend in accordance with the provisions of sec.

2(22)(e) in that year. The deemed dividend so assessable in that earlier assessment year is liable to be deducted from the amount of "accumulated profits" for the purpose of computing the deemed dividend during the year under consideration.

8.4 Further, argument of the ld. Authorized Representative is that dividend declared and paid by the company is required to be reduced from the accumulated profit as well as from deemed dividend and stated that no such set off was made by the lower authorities. As per clause (iii) to Sec. 2(22)(e) of the act deemed dividend does not include any dividend paid by a company, which is set off by the company against the whole or any part or any sum paid by it and treated as dividend within the meaning of Sec.2(22)(e) of the Act. The assessee has stated that no such set off was made by the lower authorities in spite of this claim of the same. The CIT(Appeals) observed in para-6 & 6.1 in page-5 & 6 of her order that the argument of the assessee that dividend distribution tax was not taken into consideration does not have any force as the said tax was not into existence at all when the Sec.2(22)(e) corresponding to Sec.2(6A)(e) of Income Tax Act, 1922 was introduced. The dividend distribution tax has been introduced w.e.f. 01.06.1997 only therefore payment of ITA No.462/Mds/2013. :- 21 -: dividend distribution tax does not affect the applicability of sec.2(22)(e) of the Act. In our considered opinion, this finding of the CIT(Appeals) is contrary to the order of the Tribunal in the case of P.Satya Prasad cited supra wherein held in para-18 as follows:-

“18. As per clause (iii) of sec. 2(22)(e), the dividend does not include any dividend paid by a company which is set off by the company against the whole or any part of any sum previously paid by it and treated as dividend within the meaning of sec. 2(22)(e) of the Act. The Ld CIT(A) has observed that the assessee had stated that no such set off was made in the books of account. However, we notice that the assessee has furnished a copy of the Loan account of the assessee as available in the books of the company in Page 8 of the paper book. On the perusal of the said account, we notice that the dividend amount of Rs.31,25,100/- was adjusted by the company against the said loan amount. Thus, the observation made by Ld CIT(A) appears to be against the facts available on record. There cannot be any dispute that the dividend amount so set off shall have to be deducted from the deemed dividend amount computed above. However, the observations made by Ld CIT(A) show that the tax authorities have not examined this aspect properly. Hence, the factual aspect on this matter, in our view, requires verification preferably at the end of the assessing officer.”

In view of the above, deemed dividend does not include any dividend paid by the company in the assessment year under consideration and it is to be set off against the amount of deemed dividend. Hence, the factual aspect on this matter requires verification from the end of the ld. Assessing Officer. Accordingly on the matter of accumulated profits and deemed dividend computed by the lower authorities, which are ITA No.462/Mds/2013. :- 22 -: not in accordance with the provisions of Sec. 2(22) (e) of the Act. The issue is remanded to the file of the ld. Assessing Officer with the direction to carry out necessary verification with regard to the computation of accumulated profits and thereafter determine the quantum of deemed dividend as discussed above specifically with reference to Sec. 2(22)(e)(iii) of the Act and to consider the accumulated profit which do not include current year’s business profit which accrues only at the end of the years. It is needless to say that an opportunity of hearing is to be given to the assessee by the Assessing Officer.