TMI Blog1981 (8) TMI 36X X X X Extracts X X X X X X X X Extracts X X X X ..... per share of which his cost was Rs. 80. Under then circumstances the question giving rise to this petition which is formulated in the next breath has arisen. When a company reduces its share capital by paying off a part of the paid up capital in exercise of powers under s. 100(1)(c) of the Companies Act, 1956 (and thus reduces its own liability vis-a-vis the shareholders) does it result in extinguishment of the right of the shareholders to the extent of the reduction of the face value of the share ? And the consequential question, if so, whether any profits or gains arising from such extinguishment are chargeable to income-tax under the head " Capital gains " under s. 45 read with s. 2(47) of the I.T. Act of 1961, the extinguishment being considered as a transfer within the meaning of the aforesaid provision, is the question which confronts us in this reference at the instance of the assessee. The Income-tax Appellate Tribunal, Ahmedabad Bench 'C', having taken the view that income-tax was chargeable under the head " Capital gains " under s. 4 in respect of all the profits or gains accruing to the assessee in the context of the aforesaid transaction pertaining to the assessment y ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on of " transfer ". The Tribunal has taken the view that the ITO was right in holding that the transaction in question resulted in an extinguishment of the rights of the assessee in the shares in question and that the AAC was in error in taking a contrary view. Thereupon the present reference has come to be made at the instance of the assessee. Reliance has been placed by the assessee on CIT v. R. M. Amin [1971] 82 ITR 194 (Guj), as confirmed by the Supreme Court in [1977] 106 ITR 368, in support of the proposition that a transaction of this nature would not fall within the description of transfer. The expression " transfer " has been defined in s. 2(47) of the Act in the following terms : " 2. (47) 'Transfer ', in relation to a capital asset, includes the sale, exchange or relinquishment of the asset or the extinguishment of any rights therein or the compulsory acquisition thereof under any law." The view taken by the Tribunal is that the transaction of reduction amounts to an extinguishment of the right of the assessee in the preference shares in question and that on that account the transaction would fall within the ambit of the expression " transfer ". The question, therefo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... were available for distribution amongst the shareholders, the same were distributed in the course of winding-up by the official liquidator. In the context of this fact-situation the Division Bench concluded that the moneys received by the erstwhile shareholder were not on account of any extinguishment of his right in the shares held by him. The amount was paid to him not because any of his rights in the shares were extinguished. The amount was paid to him because that was the only right that he had as a shareholder consequent to the winding up of the company. It is in this context that the Division Bench has enunciated the position of law in the following terms (p. 195): " When a shareholder receives moneys representing his share on distribution of the net assets of the company in liquidation, he receives such moneys in satisfaction of the right which belongs to him by virtue of his holding the share and not by way of consideration for the extinguishment of his right or rights in the share. It is not the extinguishment of his rights in the share for which consideration is received by him; it is rather because moneys representing his share in the distribution are received by him ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... needs to be emphasised is that the rationale of the conclusion, that a payment made to a share., holder upon the distribution of the assets upon a winding-up does not constitute an extinguishment of any right, rested on the circumstance that the distribution was made not because any right belonging to the shareholder was extinguished but by reason of the fact that he had such right, viz., the right to share in the distribution of the net assets. When what was paid to him was by reason of and on account of and thus in satisfaction of his right, it cannot be said that any of his rights was extinguished. This reasoning cannot apply to a situation arising in the context of the reduction of share capital. When the share capital is reduced by paying off a part of the capital by reducing the face value of the share, the share remains but the right of the shareholder to dividends on his share capital and the right to share in the distribution of the net assets upon liquidation is extinguished proportionately to the extent of the reduction in capital. Till the reduction took place, the shareholder had a right to dividend on a capital of Rs. 1,000 per share. He also had a right to distributi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng the appropriate procedure, whether or not the shareholder was agreeable to it, the company was entitled to reduce the share capital and to pay off a part of the share capital if a special resolution as contemplated by s. 100 of the Companies Act was passed in the aforesaid manner. It was, therefore, an act of the company which had the consequence of extinguishing of the right of the shareholder to the aforesaid extent. The payment is made not because the shareholder was entitled to a refund of his share capital. It was made because the company had decided to reduce its liability by extinguishing the right of the shareholder to the aforesaid extent by paying off the share capital to the aforesaid extent. The provision contained in s. 100(1)(c) of the Companies Act provides that the company has a right to extinguish or reduce the liability in respect of the shares by, paying off the paid up share capital which is considered to be in excess of its requirements. The said provision, in so far as material, reads as under: " 100. (1) Subject to confirmation by the court, a company limited by shares or a company limited by guarantee and having a share capital may, if so authorised by ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ount. Such being the position the basis of the reasoning in R. U. Amin's case [1971] 82 ITR 194 (Guj), is of no avail to the assessee. The Revenue seeks to reinforce its submission on this point by recourse to the reasoning which found favour with a Division Bench of this High Court in CIT v. Minor Bababhai [1981] 128 ITR 1 (Guj). The question arose in the context of the fact that the debt due to the assessee in that case under a promissory note held by him was scaled down by 55% by way of a scheme of compromise framed in the course of winding-up proceedings instituted against a company. The assessee had to let off 55% of his claim with interest under the scheme and in consideration thereof he received 45% of the balance without interest by instalments and became entitled to equity shares of Rs. 50 each to the extent of 5% of his claim without interest. The court took the view that it constituted a novation and the payment which was made to him, was in the context of the scheme and/or arrangement sanctioned by the court, whereby he was paid 45% of the original amount without interest along with the equity shares, and was not in repayment of the original debt under the promissory no ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e court and the court will not confirm the reduction unless it is 'fair and equitable'." Counsel for the assessee has sought support from CIT v. G. Narasimhan [1979] 118 ITR 60 (Mad). The ratio of the said decision does buttress the proposition canvassed by the assessee. It is a decision directly in his favour in the context of a fact situation similar to the one obtaining in the present case. It was a case of reduction of capital. A Division Bench of the Madras High Court has taken the view that the payment made in the context of reduction would not constitute extinguishment of the right of the shareholder and that it is not a transfer within the meaning of s. 2(47) of the Act. In order to appreciate the basis of the reasoning which commended itself to the Madras High Court, it is necessary to reproduce the following passages from pp. 70 and 71 of the report: " The only other aspect of the argument that has to be considered is whether there has been any extinguishment of any of the capital assets held by the shareholder as a result of the reduction of capital in the company. It was contended that there has been such extinguishment of the rights of the shareholder. We are not a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... right to receive dividend and to share in the net assets of the company upon liquidation. This aspect of the matter has not been considered to be a matter of any consequence by the Madras High Court as is evident from the following observations extracted from the said passage (p. 71.): " Whether, on liquidation, he would get the amount which he would have received had a liquidation taken place at the time of the reduction of capital cannot touch the question as to whether by the reduction of capital there has been any extinguishment. It is conceivable that he would receive less in the event of the winding up of the company after reduction of capital in view of the fact that there has been distribution of assets. But on the possibility of the company not prospering and not augmenting its assets, it is not possible to come to any conclusion that there has been any extinguishment of the rights of the shareholder. The shareholder's right to receive the assets of the company, as we said earlier, can arise only in the event of winding up of the company and on liquidation taking effect. That event not having taken place, we cannot postulate any extinguishment." Again, saying so wit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fund of the share capital. It has nexus with the decision of the company to pay off a part of the share capital. Thus, as a result of the act of the company coupled with the payment of the proportionate amount, the right of the shareholder stands extinguished protanto. Such being the position we are unable to concur with the view taken by the Madras High Court in the aforesaid decision. In the result, the question referred to us in both the references requires to be answered in the manner indicated hereinbelow: I.T.R. No. 68/76 : Question Answer Whether, on the facts of the In the affirmative and against case, the Tribunal rightly held that the assessee the assessee had made capital gains on the reduction of preference share capital which was exigible to capital gains tax ? I.T.R. No. 369 : Whether, on the facts and in In the affirmative and against the circumstances of the case, the the assessee. Tribunal was justified in holding that the assessee had made capital gain of Rs. 28,710 as a result of reduction in preference share capital of Sarabhai Ltd. ? Both the references answered accordingly with no order regarding costs. Counsel for the assessee makes an or ..... X X X X Extracts X X X X X X X X Extracts X X X X
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