Analysis of eight important judgements (December 2010 to May 2011)

1. Re-assessment u\s 147:- Jurisdiction and its scope.

The decision of the Bombay High Court in the case of CIT vs. Jet Airways {I} Ltd. reported in [2011] 331 ITR 236 {Bom} presents an interesting authority on the subject of the scope of jurisdiction of an Assessing Officer to re-assess income believed to have escaped assessment.

The generally known line of thinking is that once an Assessing Officer has ‘reasons to believe’ that income of an assessee has escaped assessment, he can re-open the assessment by issue of a notice u\s 148.  In short, the formation of such belief is the founding material on basis of which he assumes jurisdiction to re-open the assessment. If these reasons do not exist, then the jurisdiction of the Assessing Officer becomes questionable and the Court can intervene to quash the re-assessment proceedings as ill founded. 

It is also logical that re-assessment proceedings which have been validly initiated by formation of a proper ‘belief’ will also have to be dropped if it is found in the course of the proceedings that income has factually not escaped assessment.

On the other hand, once re-assessment proceedings have been validly initiated, then the Assessing Officer is empowered to also assess other incomes which have come to his notice during the re-assessment proceedings that have escaped assessment, even if the same were not the items on the basis of the notice u\s 148 had been issued.

This is the legal matrix that we see in the day to day situations involving re-assessment proceedings.

The case before the Bombay High Court in the Jet Airways decision referred above presented a different situation. In this case, the case was validly re-opened on the basis of a belief that income ‘X had escaped assessment. But, in the re-assessment order passed u\s 147 by the Assessing Officer, no addition was made in respect of this ‘X’ income, but an addition was made for ‘Y” income which was noted to have escaped assessment.

The Bombay High Court held that such addition of ‘Y’ income cannot be sustained when no addition was been made for ‘X’ income. The Bombay High Court noted that there is indeed a power with the Assessing Officer to assess escaped incomes other than the those on the basis on which the notice u\s 148. This power is explicit in the language used in Explanation 3 to section 147.  But, this power is conditioned by the word ‘and also’ in this language. According the High Court, the words ‘and also’ are used in a conjunctive and cumulative sense indicating that the other escaped incomes can be assessed only in conjunction with the escaped incomes on the basis  of which notice u\s 148 had been issued. If at all the Assessing Officer wishes to assess only the other escaped incomes independently, then he must issue another fresh notice u\s 148 for this purpose.

This decision, according to me, should bring in to the fore the dual aspects of jurisdiction viz it’s ‘vesting’ and it’s ‘sphere of operation’. Jurisdiction, in its primary form, connotes the power of an authority to take cognisance of the case and determine it. This is the ‘vesting’ aspect of jurisdiction. The second is the ‘sphere’ of the authority i.e. the limits within which the   vested  power can be exercised.

In the context of re-assessment u\s 147, the vesting of the jurisdiction takes place when the Assessing Officer ‘has reasons to believe’ that income of an assessee has escaped assessment. Once jurisdiction has so vested with the Assessing Officer, the same is not absolute but conditioned by the sphere of authority circumscribed in Explanation 3 of the provisions. Explanation 3 here permits assessment of other incomes that escaped assessment, only if the items of alleged escaped incomes, which formed the basis on which the  notice u\s 148 was issued, are necessarily assessed.

The Bombay High Court decision in Jet Airways case, in my view, therefore sets the right balance between these two twin aspects of jurisdiction.

2. Charitable institutions – difference between ‘objects’ and ‘powers’ –

Income tax exemption to charities u\s 11 is available only if the objects of the trusts and institutions are charitable.  Here too, a distinction has been made by the Courts with regard to the main objects and the incidental objects.  As to whether a trust is to be treated as ‘charitable’ or not, has to be tested vis-a-vis the main objects and not the incidental objects. After all the main objects are the dominant objects for which the trust has been formed and the function of the incidental objects is to only supplement the main object.  Where the main objects themselves are distributive, it is essential that each of the main objects is charitable in nature. Otherwise, the exemption for charities would be denied. This is rightfully, so because the trustees have the option to apply the incomes and the funds of the trust for non charitable purposes also.

This is age old law regarding exemption for charities as spelled out by the Supreme Court in Dharmoposhaman vs. CIT [1978] 114 ITR 463 {SC} and being followed to recent times in the DIT vs. Bharat Diamond Bourse [2003] 126 Taxman 365 {SC}.

Just as there is difference between the main objects and the incidental objects, there is also a difference between the objects of the trust and the powers of the trustees mentioned in the trust deed.  But, quite frequently, this vital legal distinction between the objects and the objects is lost sight by the Income Tax Department and exemption for charities is denied mistaking the powers of the trustees as the objects of the trust.

Such a case came before the Delhi Tribunal in the case of IILM Foundation vs. CIT [2011] 44 SOT 37 {Del}.  Here, the assessee was a company registered u\s 25 of the Companies Act, 1956. It filed an application for registration as a charitable institution u\s 12A of the Income Tax Act. The registration was refused by the Commissioner on the ground that not all of the objects of the company were charitable. In appeal, the Tribunal found that the predominant objects of the company were veritably charitable. It was also noted by the Tribunal that the so called objects which the Commissioner found as objectionable to charity were actually powers of the trust and not its objects. Based on these findings, the Tribunal held that the company should be granted registration u\s 12A.

As regard the fine distinction between objects of the trust and the powers of the trustees, Readers should find  useful authorities  in the cases of Yogiraj Charity Trust vs. CIT [1976] 103 ITR 777, 782 {SC} and the Federation of Indian Chambers of Commerce and Industry [1981] 130 ITR 186 {SC}. The decision of the Delhi Tribunal in the IILM Foundation vs. CIT [2011] 44 SOT 37 {Del} shows that despite the precedents laid by the Supreme Court,  tax litigation on the issue of grant of exemption to charities is continuing unabated.

It should be clear that the difference between ‘the objects’ and the ‘powers’ lies in recognising that whereas the former constitute the ‘ends’ to be achieved by the trust, the ‘powers’ constitutes the ‘means’ to achieve these ‘ends’. If this simple distinction is noted by the Income Tax Department at the time of processing the assessees’ applications for registration u\s 12A, much undesirable litigation can be avoided.  From the assessees’ side, it is also desirable the lines of distinctions between main objects, incidental objects and powers of the trustees are firmly demarcated by the draftsmen in the trust deeds so that there is no confusion over it by the Income Tax Department.

3. Exemption u\s 54F – whether net consideration to be invested is the actual consideration received by assessee or deemed consideration u\s per section 50C

The decision of the Bangalore Tribunal in the case of Gauli Mahadevappa vs. ITO reported in [2011] 9 ITR {Trib} 129 {Bangalore} involves a very though provoking issue. In this case, the assessee, a freedom fighter had sold a plot of land for an agreed consideration of Rs. 20,00,000. From these sale proceeds and another Rs. 4,00,000 of his other funds, the assessee invested Rs. 24,00,000 towards purchase of a residential house and claimed exemption u\s 54. In the assessment that followed, the Assessing Officer found that the stamp duty value of the house was Rs. 36,00,000 and treated this amount as the deemed sale consideration u\s 50C of the Income Tax Act. He also reworked the exemption u\s 54 by taking the net consideration at Rs. 36,00,000 .

In the appellate proceedings, the Tribunal has held that whereas the capital gains u\s 48 has to be computed taking Rs. 36,00,000 as the deemed transfer consideration applying the provisions of section 50C, the exemption u\s 54F has to be computed by taking the net consideration at Rs. 20,00,000 and not Rs. 36,00,000. In coming to this conclusion, the Tribunal had observed that section 54F is a separate code by itself which has to be construed independent of the computational provisions of section 48.  The deeming provisions u\s 50C should be confined to the provisions of section 48 and not extended in to the provisions of section 54F. In saying so, the Tribunal has relied on the decision of the Bombay High Court in the case of CIT vs. Ace Builders P. Ltd. [2006] 281 ITR 210 {Bom}, where it was held that the deeming fiction in section 50 [treating gains on transfer of a block of assets as short term capital gains] was restricted to section 48 and not to the exemption provisions of section 54E.  

The Tribunal has also noted that what is required to be invested for purchase of residential house to claim exemption u\s 54F is the ‘net consideration’ which expression has separately defined in section 54F without reference to section 50C.

In effect, whereas the Tribunal has confirmed that the transfer consideration to be deemed at Rs. 36,00,000 [i.e.  the stamp duty value of the property transferred] for computing the capital gains u\s 48, it has allowed the assessee to favourably compute the exemption u\s 54F on the  basis of net consideration of Rs. 24,00,000 actually received.

According to me, this decision rendered in contrasting styles, sets the right balance in the play of operations of the provisions of section 48, section 50C and section 54F respectively without an encroachment of one provision in to the sphere of the other. The presence of separate definition of the expression ‘net consideration’ in section 54F coined with the opening words ‘for the purpose of this section’   should also support a  proposition that this definition is to be construed ‘for the purpose’ it  was enacted i.e. to grant the exemption  proportionate to the ‘investible’ consideration utilised for purchase of a residential house. The decision of the Tribunal should also accord with the established canon laid down in Supreme Court decisions that a tax exemption provision must be interpreted to advance the exemption rather than deny or restrict it. Readers are advised to read this exhaustively reasoned decision.

4. Capital gains:- Transfer of a business undertaking for non monetary consideration. Transaction is an ‘exchange’ and not ‘sale’. Slump sale provisions of section 50B therefore not applicable.  Cost of acquisition not determinable – no taxable capital gains.

The decision of the Mumbai Tribunal in the case of Bharat Bijlee {ITA no.  6410/M/08 dated 11-3-2011 – E Bench for A.Y. 2005-06} reported on www.itatonline.org highlights the distinction between a ‘sale’ and an ‘exchange’ and consequently, the differing capital gains’ tax implications flowing from the same.

Before I delve in to this decision, permit me to give a brief legal preview for the same.

We are all aware that the event that triggers taxation of capital gains is the transfer of a capital asset for consideration at a gain.  A running business is also a capital asset {CIT vs. F.X. Pereira & Sons {Travancore} P. Ltd. [1990] 184 ITR 461 [Ker]}. Likewise, a business undertaking, which may be a component of a larger business, is also a capital asset (Indian Bank Ltd. vs. CIT [1985] 153 ITR 282 {Mad}.Therefore, a transfer of a business undertaking for a consideration should generally invite capital gains tax.

But, where it is not possible to compute the cost of acquisition of the capital asset transferred, the capital gains provisions fail and there is no capital gains’ tax.{CIT vs. B.C. Srinivasa Shetty [1981] 128 ITR 294 [SC].}.

Earlier, when a business undertaking as a whole was sold for a ‘slump price’, i.e. without the sale consideration being attributed to individual assets transferred, it was held there could not be an cost of acquisition attributable to the business and hence, it was not possible to compute capital gains for tax purposes {CIT vs. Artex Manufacturing Co. [1997] 227 ITR 260 [SC]} and PNB Finance vs. CIT [307 ITR 75 {SC}].

To counter such situation, the Legislature, vide Finance Act 1999, brought the provisions of sections 2 [42C] and 50B respectively on the statute to enable taxation of capital gains from slump sale. Section 2 [42C] defined slump sale to mean ‘transfer of one or more undertakings as a result of sale for a lump sum consideration without values being assigned to the individual assets and liabilities in such sales [emphasis supplied in bold underline]. Section 50B provided the mechanism to tax capital gains from the slump sale. The earlier lacuna of the impossibility of computing the cost of acquisition was overcome by deeming the ‘net worth’ of the business [cost of assets minus liabilities] as the cost of acquisition of business undertaking sold. With this amendment, the taxation of capital gains resultant from sale on business undertakings at a slump price was enabled.

The facts in the Mumbai Tribunal decision in the case of Bharat Bijilee Limited vs. ACIT were that the assessee transferred its undertaking on a “going concern” basis pursuant to a scheme of arrangement u/s 391 to 394 of the Companies Act. In consideration, the transferee allotted preference shares & bonds to the assessee. The assessee claimed that the transfer was not liable to tax on capital gains on the basis that there was no “cost of acquisition” of the undertaking. The AO held that the transaction was a “slump sale” as defined in s. 2(42C) and that the gains had to be computed u/s 50B. This was upheld by the CIT (A).

The Tribunal reversed the decisions of the lower authorities by holding that there was no slump sale involved in the first place. This is because in order to constitute a “slump sale” u/s 2(42C), the transfer must be as a result of a “sale” i.e. for a money consideration and not by way of an “Exchange”. The difference between a sale and an exchange is this that in the former the price is paid in money, whilst in the latter it is paid in goods by way of barter. The presence of money consideration is an essential element in a transaction of sale. If the consideration is not money but some other valuable consideration it may be an exchange or barter but not a sale. Since in the instant case, the undertaking was transferred in consideration of shares & bonds, it was a case of “exchange” and not “sale” and so s. 2(42C) and s. 50B cannot apply.

The Tribunal further noted that the “capital asset” which was transferred was the “entire undertaking” and not individual assets and liabilities forming part of the undertaking. There was therefore neither any reason for apportioning the consideration to the various assets comprised in the undertaking nor could the “cost of acquisition” of the undertaking be determined. In the absence of a cost/date of acquisition, the computation & charging provisions of s. 45 fail and the transaction cannot be assessed.

In short, the Tribunal held that there can neither be a taxation u\s 50B nor under the normal provisions of section 45.

While according to me the decision has been rightly arrived by the Tribunal, I would only drop a word of care to be exercised to assessees who want to take the benefit of the decision. In the instant case before the Tribunal, the consideration for transfer of the undertaking was found to be not money, but in kind i.e. shares and bonds. On this basis, the Tribunal concluded that the transaction was not a sale, but an exchange.

It would be a different story if the business undertaking was transferred for a monetary price, which was to be discharged by issue of shares and bonds. In such case, the price constitutes the monetary consideration and the transaction becomes a sale inviting the slump sale provisions of section 50B.

In short, if a business undertaking is transferred for shares and bonds without reference to a monetary price in the transfer agreement, the transaction is an exchange. On the other hand, if the same business undertaking is transferred for such a price mentioned in the agreement and the payment of the price is merely settled by issue of shares and bonds, the transaction is of sale {see CIT vs. Ramakrishna Pillai (R.R.) 66 ITR 725 (SC)}. Whereas in the former case, the slump sale provisions of section 50B will not be attracted as held by the Mumbai Tribunal in the Bharat Bijlee case, the said provisions will certainly be attracted in the later case.

This is the fine line of distinction, which the Readers are advised to take note.

5. Sale of land after division in to plots: – whether capital gains or business income?

The issue whether gains from land dealings are to be assessed as business incomes or capital gains has often engaged the attention of tax authorities. In coming to any conclusion, the vital considerations are the motive of the assessee at the time of purchasing the property and his subsequent conduct with the same.  If the motive and the conduct are commensurate with that of an investor, the gains from the sale of the property ought to be assessed as capital gains. On the other hand, if the motive and conduct are characteristic of a trader, the gains ought to be taxed as business income.

Generally, if the holding period is substantially long and he has also enjoyed revenue from the property during the holding period, a presumption may be drawn in his favour that he is an investor and not a trader. The profit on subsequent sale of the property would be a case of capital accretion taxable as capital gains and not business income. [G. Venkatswami Naidu and Co. vs. CIT [1959\ 35 ITR 594 {SC}]. On the other hand, if the property is developed by the assessee shortly after its purchase and later sold in bifurcated units, it would be a case of a business venture. [Raja J. Rameshwar Rao vs. CIT [1961] 42 ITR 179 {SC}].

It is not uncommon that one may come across a hybrid situation i.e. where the property is initially held for a long tenure but later sub-divided in plots and sold. In such case, the test is to be answered by taking an overall view of all the factors involved. The decision of the Hyderabad Tribunal in ITO vs. Omkarmal Rambilas Ginning and Pressing Factory as reported in [2011] 44 SOT 544 /10 taxmann.com 90 {Hyd} produced such a test.

The facts of the case were that the assessee held a large tract of land and utilised the same for agricultural purposed for long period.  At the end of such period, the assessee divided the land in to 219 residential plots and sold the same. It was the contention of the assessee that the land was so sub divided only to make it marketable as large properties are not easy to sell in the open market. The assessee had not carried on any development activities like laying roads, drainage and sanitary connection. In assessment, the gains from the sale of the plots was assessed as income as against capital gains returned by the assessee. In further appeal, the Commissioner {Appeals} held in favour of the assessee.

In the appeal preferred by the Department, the Tribunal has upheld the order of the Commissioner {Appeals}. The Tribunal noted that the assessee had held the property for a long period and even carried agricultural operations on the same. From this act, the Tribunal inferred that the land has held as investment by the assessee and he had no intention to trade in it. The Tribunal appreciated that the division of the land in to plots was necessary to make the property marketable and get a better price.  This act should be seen as an endeavour to merely to achieve a proper realisation of the capital asset and the surplus from such realisation ought to have to be therefore assessed only as capital gains. The fact that the assessee did not indulge in further development of land like laying of roads, drainage or sanitary connections also supported the assessee’s stand that it had no intention of embarking on a business activities. Accordingly, the Tribunal held that the gains from sale of the plots were assessable as capital gains and not business income.

According to me, the Tribunal has rightly come to its conclusions. The conclusions also accord with the view of the Supreme Court in P.M. Mohammed Meerakhan vs. CIT [1969] 73 ITR 735 {SC} / Khan Bahadur Ahmed Alladin & Sons vs. CIT [1968] 68 ITR 573 {SC} / Janki Ram Bahadur Ram vs. CIT [1965] 57 ITR 21 {SC} that the question whether a transaction amounts an adventure in nature of trade should be answered by taking an overall view after considering relevant factors in to consideration.

In the case before the Hyderabad Tribunal, the overall motive and conduct of the assessee were akin to an investor rather than a trader. The decision according to me is therefore well founded.

6. Redemption vs. Conversion of units – tax implications different?

The decision delivered by the Mumbai Tribunal in the case of ACIT vs. ABC Bearings Ltd. [2011] 44 SOT 338 {Mum} require careful consideration by the readers.

The facts in this case that that Unit Trust of India [UTI] had issued US-64 units which were readily traded in the market. In the year 2002-03, UTI faced severe financial crunch and the Net Asset Value {NAV} of the US 64 units dipped below the face value of the unit of Rs. 10. To help the various unit holders of US 64, the Government of India decided to close the various schemes formulated by UTI and give two options to the investors viz :- (i) to either surrender the units and take cash or (ii) to get the units converted in to 6.75 per cent tax free bonds guaranteed by the Government. A price was also fixed for the first 5000 units at Rs. 12 per unit to help the small investors and beyond that the price was fixed at Rs. 10 per unit.

The assessee, ABC Bearings Ltd, claimed a loss of Rs, 37.04 under the head ‘capital gains’ on account of the conversion of units of UTI in to tax free bonds. In assessment, the Assessing Officer was of the view that the conversion of units in to bonds did not amount to transfer and disallowed this loss. The Commissioner {Appeals} however allowed the appeal in favour of the assessee.

Before the Tribunal, the assessee argued that there was a relinquishment of the units and therefore, a transfer u\s 2 [47] was to be imputed. The assessee has here relied on the Supreme Court decision in the case of  Anarkali Sarabhai vs. CIT [1997] 224 ITR 422 {SC}, wherein redemption of shares was held to be ‘relinquishment’ and hence a transfer u\s 2 [47].

The Tribunal has however not accepted this proposition of the assessee. According to the Tribunal the decision of the Supreme Court in Anarkali Sarabhai was not applicable as there was no redemption of the units, but only a conversion in to bonds.  Capital gains provisions can be invoked only if there is a ‘transfer’ as defined in section 2 [47]. The instant case of the assessee did not involve a transfer by way of ‘exchange’. In case of the exchange, the property purported to be transferred should continue to exist in the hands of the purported transferee. In the instant case, the Units 64 ceased to be in existence and therefore, there was no ‘exchange’ involved.

According to the Tribunal in order to constitute a ‘relinquishment’, it is necessary that the assessee should ‘withdraw’ himself from the asset [CIT vs. Rasiklal Maneklal {HUF} 177 ITR 198 {SC}]. The Tribunal was of the view that the assessee had not abandoned its rights in Units 64, but only got new tax free bonds on the strength of its rights in the Units 64 and therefore, there was no ‘relinquishment’ involved. {This is an aspect which the readers may please appraise}. The Tribunal also held that there was no transfer u\s 2 [47] by way of ‘extinguishment’.  According to the Tribunal, this was only a simple case of ‘conversion’ of one asset in to another and there was no ‘transfer’ of capital loss. The assessee’s claim for the loss under the head ‘capital gains’ was thus disallowed by the Tribunal.

From this decision, several issues should crop up in the minds of the readers. One way of looking is that the  assessee, by  opting for the tax free government bonds instead of monetary payment in consideration,  is expressly ‘consenting’ in  giving up its holding rights in respect of Units 64.  Does this not amount to abandonment of its rights in the units so as to constitute a ‘relinquishment?

Another possibility is that this could be just a case of redemption of units by payment of consideration in kind [i.e. bonds].  It is pertinent that the Mumbai Tribunal has held in the case of Administrator of Estate of Late E. F. Dinshaw vs. ITO [2011] 8 ITR [Trib] 771 {Mumbai} that  redemption of units by mutual fund is only a buy back of the units and hence there is a transfer u\s 2 [47] qua the unit holder. Here, the Mumbai Tribunal has applied the decision of the Supreme Court in Anarkali Sarabhai vs. CIT [1997] 224 ITR 422 {SC} to the effect that in the redemption event there is a surrender or abandonment of rights by the unit holder, which constitutes a ‘relinquishment’.

The Readers may also ascertain whether the units 64 ‘automatically’ became ‘government bonds’ or whether the government bonds were ‘issued’ in lieu of the units surrendered?  Whereas in the former case, there may be a case of ‘conversion’, in the latter case, it may not be said so. Readers are advised to probe this very interesting decision on these lines.

7. Penalty u\s 271 [1][c] not to be levied – when High Court has admitted the quantum appeal on the  same issues.

When an assessee canvasses a claim based on possible legal view, penalty for concealment of income should not be levied merely because the claim had been disallowed in the assessment. The decision of the Supreme Court in the case of Cement Marketing Co. of India Ltd vs. CST [1980] 124 ITR 15 {SC}, though rendered in sales tax case, is good law on this subject even for income tax matters. 

In this direction, the decision of the Mumbai Tribunal in the case of Nayan Builders & Developers Pvt. Ltd. vs. ITO {‘B’ Bench in ITA no. 2379/M/09 dated 18-3-2011 for Assessment Year 1997-98 reported in www.itatonline.org} should augur as a  welcome development for the assessees.

The facts of the case are that in the quantum proceedings, the Tribunal upheld the addition of three items of income. The assessee filed an appeal to the High Court which was admitted. The AO levied penalty u/s 271(1)(c) in respect of the said three items. The penalty was upheld by the CIT (A).

The Tribunal has deleted the penalty. According to the Tribunal, once the High Court admits substantial question of law on an addition, it becomes apparent that the addition is certainly debatable. In such circumstances penalty cannot be levied u/s 271(1) (c). The admission of substantial question of law by the High Court lends credence to the bona fides of the assessee in claiming deduction. Once it turns out that the claim of the assessee could have been considered for deduction as per a person properly instructed in law and is not completely debarred at all, the mere fact of confirmation of disallowance would not per se lead to the imposition of penalty. In short, the Tribunal has laid down the rule that once the High Court admits a quantum appeal on any issue, penalty u\s 271 [1][c] on the same issue is not permissible. In coming to the conclusion, the Tribunal has also referred the decisions of the Ahmedabad Tribunal in Rupam Mercantile vs. DCIT [2004] 91 ITD 237 {Ahd}{TM} and Smt. Rumila Ratilal Shah vs. ACIT [1998] 60 TTJ 171 {Ahd} to the same effect.

According to me, the above decision of the Mumbai Tribunal is well founded. The amended provisions of section 260A of the Income Tax Act presently permit a High Court to admit an appeal on if it involves a question of ‘substantial law’. A mere question of law can longer be entertained by the High Court and it has to be shown that the question involved is ‘substantial’ in legal effect to merit admission.

An useful authority as to what constitutes a substantial question of law can be found in the decision of the Punjab and Haryana High Court in the case of Sanguri Vanaspati Mills Ltd. vs. CIT [2006] 283 ITR 267 {P & H}. Here, the High Court has referred to the decision of the Supreme Court in Santosh Hazari vs. Purushottam Tiwari [2001] 251 ITR 84 {SC} dealing with an analogous provision contained in section 100 of the Code of Civil Procedure. Here, the Apex Court has re-iterated the tests laid down by the Constitution Bench in Sir Chunilal V. Mehta and Sons vs. Century Spg. & Mfg. Co. Ltd. AIR 1962 SC 1314 for determining whether a question raised in a case is ‘substantial question of law’ or not. The tests would be as following:-

[i]  Whether it is of general public importance or

[ii] Whether it directly or substantially affects the rights of the parties or

[iii] Whether it is an open question in the sense or that it is not finally settled by the Supreme Court or

[iv] Whether it is not free from difficulty and

[v] Whether it calls for discussion for alternative views.

From the above discussion, it should be clear that when the High Court admits an appeal as involving a substantial question of law, it should logically follow that the issue is very debatable. Therefore, a benefit of doubt must be given in favour of the assessee in penalty proceedings that he had made a bona fide claim in the assessment, for which no penalty for concealment of income u\s 271 [1][c] ought to be levied.

Seen from this angle, the above decision of Mumbai Tribunal in Nayan Builders’ case is a step in the right direction. The decision should hopefully cull much unwanted litigation in the penalty arena in the near future.

8. Waiver of loan taken by assessee– when income u\s 28 [1][iv]?

When a loan taken by the assessee is waived by the lender, the benefit of waiver received by the assessee cannot be taxed u\s 41 [1] of the Income Tax Act. This is because what can be taxed u\s 41 [1] is only the benefit of a cessation or remission of liability received by an assessee in respect of an expenditure claimed as a deduction in the past.  When an assessee takes a loan, there is no question of claiming any expenditure as deduction. So, the provisions of section 41 [1] does not come in to play, when the loan is subsequently waived by the lender.

The issue that survives is whether the benefit of the loan waiver can be taxed as business income u\s 28 [1][iv]. Section 28 [1][iv] subjects to tax as business income ‘the value of any benefit or perquisite, whether convertible in to money or not, arising from business or the exercise of profession’.

In the case before the Bombay High Court in Mahindra and Mahindra Ltd. vs. CIT [(2003) 261 ITR 501 {Bom}, the assessee had taken a loan for acquiring capital assets. The High Court had held that the waiver of the principal amount of this loan by the lender was not taxable as business income u\s 28 [1][iv]

Subsequently, the Supreme Court had held in the case of T.V.S. Sunderam Iyengar and Sons Ltd [1996] 222 ITR 344 {SC} that unclaimed security deposits’ amounts received from trade customers and ultimately appropriated by the assessee to himself were liable to be taxed as business income. This was of course involving a security deposit and not a loan.

The Bombay High Court the case of Solid Containers Ltd. vs. Dy. CIT [2009] 308 ITR 417 has distinguished its earlier decision in the case of Mahindra and Mahindra Ltd. on the ground that the case pertained to waiver of loan taken for a capital asset, whereas in the instant case before it, the loan waived pertained to the trading operations of the assessee. The High Court applying the above Supreme Court of T.V.S. Sunderam Iyengar and Sons Ltd held that  the benefit of  waiver of loan taken by the assessee for business purposes was taxable u\s 28 [1][iv].

Referring to the above decisions, the Delhi High Court in the case of Logitronics P. Ltd. vs. CIT [2011] 333 ITR  386, 402 {Del}has held that the question  whether waiver of loan is income or not depends on whether loan was used for capital or revenue purposes. If the loan was taken for acquiring a capital asset, the waiver thereof would not amount to any income exigible to tax u/s 28(iv) or 41(1). On the other hand, if the loan was taken for a trading purpose and was treated as such from the very beginning in the books of account, its waiver would result in income more so when it was transferred to the P&L A/c in view of Sundaram Iyengar 222 ITR 344 (SC).

According to me, this decision of the Delhi High Court fairly reconciles the findings of the Supreme Court and the High Courts in coming to its above conclusion. The benchmarks for taxing or not taxing the benefit derived by an assessee from waiver of loan taken seems to me laid down with some firmness after this decision.