2025 (7) TMI 255 - HC - Income Tax

Addition of deemed dividend u/s 2(22)(e) - payment made by the appellant to the parent company - date of payment whether there existed accumulated profits? - HELD THAT - Similar issue came up for consideration even before in the case of Commissioner of Income Tax-I Ludhiana vs. Shri Amrik Singh 2015 (4) TMI 1174 - PUNJAB AND HARYANA HIGH COURT wherein the Punjab and Haryana High Court also took the same stand holding that the money transferred in the normal course of business as a matter of fact of business expediency would not amount to advances made to be treated as dividend and the Punjab and Haryana High Court also relied upon the decision of Creative Dyeing and Printing P. Ltd. 2009 (9) TMI 43 - DELHI HIGH COURT . The said judgment of the Punjab and Haryana High Court 2015 (4) TMI 1174 - PUNJAB AND HARYANA HIGH COURT was also challenged by the Revenue before the Hon ble Supreme Court 2015 (8) TMI 1262 - SC ORDER . However the Hon ble Supreme Court dismissed the said Special Leave to Appeal. Last but not the least all the aforesaid decisions of various High Courts and the Hon ble Supreme Court was taken into consideration by the Central Board of Direct Taxes which in turn had issued a Circular i.e. Circular No.19 of 2017 dated 12.06.2017 as held a settled position that trade advances which are in the nature of commercial transactions would not fall within the ambit of the word advance in section 2(22)(e) of the Act. Accordingly henceforth appeals may not be filed on this ground by Officers of the Department and those already filed in Courts/Tribunals may be withdrawn/not pressed upon. The whole issue would stand laid to rest thereby resulting in the remand order made by the ITAT itself totally uncalled for and the consequential orders if any on the said issue detrimental to the interest of the assessee would also be rendered bad in law.

Summary

The core legal questions considered by the Court in these appeals were:

(a) Whether the payments made by the appellant to the parent company amounted to a loan or deemed dividend under Section 2(22)(e) of the Income Tax Act, 1961, and whether accumulated profits existed on the date of such payments;

(b) Whether the Income Tax Appellate Tribunal (ITAT) erred in remanding the matter to the Assessing Officer for fresh determination on the issue of Section 2(22)(e) of the Act.

Regarding the first issue, the relevant legal framework is Section 2(22)(e) of the Income Tax Act, which defines "dividend" to include any payment by a closely held company by way of advance or loan to a shareholder or a concern in which such shareholder has a substantial interest, to the extent of the company's accumulated profits. The legislative purpose behind this provision is to prevent closely held companies from distributing accumulated profits disguised as loans or advances to shareholders, thereby circumventing tax liability on dividends.

The ITAT had held that payments made by the appellant to the parent company, exceeding the credit balance in the running account and the accumulated profits, were to be treated as deemed dividends under Section 2(22)(e). It further directed the Assessing Officer to compute the credit balances and accumulated profits on a daily basis to determine the extent of deemed dividend, remitting the matter for fresh assessment.

The appellant challenged this approach, contending that the payments were made in the ordinary course of business and did not constitute loans or advances attracting the deeming provisions of Section 2(22)(e). The Court examined precedents from various High Courts and the Supreme Court that have interpreted the scope of Section 2(22)(e) in similar contexts.

In particular, the Delhi High Court's decisions in Commissioner of Income-tax vs. Raj Kumar, Commissioner of Income-tax vs. Ambassador Travels Pvt. Ltd., and Commissioner of Income-tax vs. Creative Dyeing and Printing Pvt. Ltd. were pivotal. These judgments emphasized that the term "advance" in Section 2(22)(e), when read in conjunction with "loan," implies an advance carrying an obligation of repayment. Trade advances or payments made in the ordinary course of business, which are commercial transactions rather than loans or advances for financial accommodation, do not fall within the ambit of deemed dividend under this provision.

The principle of noscitur a sociis (a word is known by the company it keeps) was applied to construe the term "advance" in context with "loan," leading to a purposive interpretation that excludes trade advances from the definition of deemed dividend. This approach aligns with the legislative intent to tax only those transactions that are essentially loans or advances to shareholders, not routine business dealings.

Further, the Court noted that mere nomenclature or book entries are not determinative of the true nature of the transactions, and the factual matrix, including the existence of running accounts and the commercial purpose of payments, must be examined.

The Court also considered the decisions of other High Courts such as the Allahabad High Court and Punjab and Haryana High Court, which upheld the view that payments made in the ordinary course of business are not loans or advances attracting Section 2(22)(e). The Supreme Court's dismissal of the Revenue's Special Leave Petition against the Punjab and Haryana High Court's decision reinforced this position.

Significantly, the Central Board of Direct Taxes (CBDT) issued Circular No.19 of 2017, which clarified that trade advances in the nature of commercial transactions do not fall within the ambit of Section 2(22)(e), directing departmental officers not to file or pursue appeals on this ground. This circular effectively settled the legal position in favor of taxpayers in such cases.

On the second issue concerning the remand order by the ITAT, the Court analyzed whether the appellant's appeal against the remand order had become infructuous due to the Assessing Officer's fresh assessment following the remand. The Revenue argued that since the remand order had been acted upon and fresh assessments passed, the appeals were rendered moot.

The Court rejected this contention, relying on authoritative precedents from the Supreme Court and the Allahabad High Court. These precedents establish that a party aggrieved by an order of remand retains the statutory right to appeal against the remand order itself. The subsequent orders passed pursuant to the remand are dependent and subordinate to the remand order. If the remand order is set aside, the consequential orders lose their validity. Therefore, the appeal against the remand order cannot be dismissed on the ground that fresh assessments have been made following the remand.

This principle ensures that the correctness of the remand order can be independently tested and prevents procedural unfairness where a party is compelled to challenge only the consequential orders without the opportunity to contest the remand itself.

Applying these legal principles to the facts, the Court found that the payments made by the appellant to the parent company were regular business transactions reflected in running accounts and did not constitute loans or advances attracting Section 2(22)(e). The ITAT's remand for detailed computation of credit balances and accumulated profits was unnecessary in light of the settled legal position and the CBDT Circular.

The Court concluded that the remand order and any consequential assessments based on the deemed dividend theory were legally unsustainable and detrimental to the appellant's interest.

The Court therefore allowed the appeals, set aside the common ITAT order dated 14.03.2007, and held that the payments made by the appellant to the parent company would not be treated as dividend or advances under Section 2(22)(e) of the Income Tax Act.

In summary, the significant holdings include:

"The word 'advance' which appears in the company of the word 'loan' could only mean such advance which carries with it an obligation of repayment. Trade advance which are in the nature of money transacted to give effect to commercial transactions would not, in our view, fall within the ambit of the provisions of section 2(22)(e) of the Act."

"The Tribunal was correct in holding that the amounts advanced for business transaction between the parties ... was not such to fall within the definition of deemed dividend under section 2(22)(e)."

"The law gives to the person aggrieved by the order of remand, a right to appeal, and that right cannot be taken away only for the reason that a final order has been passed consequent to the remand ... The validity of the later order passed by the trial Judge would, therefore, depend upon the validity of the earlier order passed by the first appellate court."

"In view of the aforesaid Circular of the Central Board of Direct Taxes, the whole issue would stand laid to rest thereby resulting in the remand order made by the ITAT itself totally uncalled for and the consequential orders, if any, on the said issue detrimental to the interest of the assessee would also be rendered bad in law."

Thus, the Court established the core principle that payments made in the ordinary course of business between related parties do not attract the deeming provisions of Section 2(22)(e), and that appeals against remand orders retain their vitality irrespective of subsequent assessments made pursuant to remand.