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2016 (3) TMI 696 - RAJASTHAN HIGH COURT

2016 (3) TMI 696 - RAJASTHAN HIGH COURT - TMI - Sanction of scheme of de-merger - Held that:- The sanction to the scheme of de-merger as sought by the petitioner company cannot be granted. The company does not appear to have had any real pre-existing real estate division since its inception. It is evident that the petitioner company was all along engaged in the business of manufacturing, processing and sale of vegetable oil alone. As evident from the facts on record no income or profit and loss .....

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That pre-requisite is found absent in the facts of the instant case. To sanction the scheme of demerger of purported (not real) and nonfunctional real estate business of the company as sought would also be in the cross hair of a statutory provision i.e. explanation to Section 2(19AA) of the Act of 1961.

Thus the scheme of demerger of which sanction is sought appears to be only a device for avoidance of obligation towards capital gains tax and stamp duty and also falls foul of Explan .....

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motion under Section 391-394 of the Companies Act, 1956 (hereinafter the Act of 1956') read with Rule 57 of the Company Court Rules, 1959 (hereinafter the Rules of 1959') seeking sanction of the scheme of de-merger of Uma Enterprises Private Limited (hereinafter the company') into nine resultant companies aside of demerged company as approved and adopted by the shareholders and creditors of the company so as to be binding on all concerned. The facts of the case are that the company .....

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e consequent meetings as directed by this court, the scheme of demerger was approved and adopted at the meetings of 30-6-2012 and reports of Chairpersons of the meetings as appointed by the court submitted to the court. Hence this application on the second motion seeking sanction of the approved scheme of de-merger. Notices were issued by this court on 26-7-2012 to the Regional Director, Ministry of Corporate Affairs. Publication of notices in two newspapers, one English, the other vernacular, a .....

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meters of its land purportedly the nine real estate divisions of the company to nine resultant companies, each of which will then work independently for enhancement of shareholders' value. Counsel for the petitioner has submitted that the scheme of de-merger was necessitated for reason of compulsion of implementing family arrangement between the shareholders of the company who are all related. The de-merger as approved at the meeting of the shareholders and creditors will facilitate continui .....

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d that the scheme of demerger will also facilitate proper management, focus on core businesses to advance the interest of the shareholders by each of the resultant demerged and resultant companies. It has been submitted that total value of land in the ownership and possession of the company as per its books is ₹ 2,43,051 of which a sum of ₹ 75,000/- is constituted of capital expenditure towards development work on the company land by levelling it and redying it for real estate busine .....

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on the scheme. On receipt of notice, the Regional Director, North Western Region Ministry of Affairs has filed four affidavits on 13-5-2014, 25-11-2014, 26-1-2015 and 24-2-2015 and opposed the sanctioning of the scheme of demerger approved by the various stakeholders as required under the Companies Act and set up before this court. Mr. R.D.Rastogi, Additional Solicitor General appearing for the Regional Director has submitted that the de-merger scheme of which sanction is sought is evidently a s .....

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gains tax. It was pointed out that 26023 sq. meters of valuable land with market price of over ₹ 1 lac per meter is worth ₹ 260 crores odd but is being transferred on face value of ₹ 1.61 lacs under the colour of the demerger scheme. It was submitted that the purpose and intent of the de-merger scheme is not so much efficacy of existing businesses or enhancement of shareholder value by transferring an ongoing concern/ undertaking/ division of the company for better results but .....

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60 crores. The device adopted by the applicant company through abuse of the benefits of the statutory provisions of Sections 391-394 of the Act of 1956 will bring about loss of about 50 crores to the revenue on account of capital gains and about ₹ 15 crores on account of stamp duty-all to the detriment of public interest. Collection of due tax is the highest public interest. The Addl. Solicitor General has also submitted that the scheme of de-merger is also malafide founded as it is upon i .....

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he Tax Audit Report dated 11-9-2013 and 19-9-2014 also shows the applicant company only engaged in the manufacturing activity and sale of vanaspati and edible oils. The Addl. Solicitor General then pointed out that no land has been shown in the inventory of the company in its books under the head of current assets as required if the purported real estate business of company was operational as a going concern. Even in the return of 2014-15 the applicant company's land has been shown as Fixed .....

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ture on the company's land on account of its alleged levelling cannot be taken as a commencement of the company's real estate business or creation of real estate division/s. It was submitted that the process of this court is sought to be misutilised as are the salutary provisions of Section 392(2) read with 394 of the Act of 1956 by camouflaging the conveyance of the company's land as a demerger solely to avoid the taxation events which would otherwise follow in the ordinary course o .....

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ng or a business as a whole, and when the holder of equity shares in the demerged company have similar interest in the resultant company/s. It has been submitted that from the facts on record, specifically the company's own balance-sheet as also its profit and loss account, and turnover, no real estate undertaking obtained in the company's business since its inception which could be de-merged under the Income Tax Act, 1961. It has been submitted that public policy would not allow the cou .....

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the instant case contrary to general practice, the shareholders of the demerged company are to be allotted under the scheme only non-cumulative compulsorily redeemable preference shares and not equity shares, thus clearly separating them from ownership/ interest in the resultant companies. This clearly establishes that the demerger is not a bonafide restructuring but a sale of assets under a device to circumvent tax liability. Per contra, Mr. Gunjan Pathak, counsel for the petitioner company ha .....

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arrangement under the Act of 1956 does not violate any provision of law, the mere suspicion of alleged avoidance of tax cannot be a ground for not sanctioning the scheme, otherwise lawful and valid. Referring to the judgment in case of CIT West Bengal Vs. Calcutta Discount Company Limited, [1974)3 SCC 260] it has been submitted that an assessee is free in law to arrange his/ its affairs with intent to minimise the tax burden. It has been submitted that the applicant company has a real estate bu .....

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tal expenditure, and so accepted by the Income Tax Department, it does not lie in the mouth of the Regional Director to argue to the contrary that the company is not engaged in any real estate activity of which it is seeking demerger. It has been further submitted that for the commencement of a business mere intention to do so suffices and no rule, regulation or law applicable to a private limited company has been cited by the Regional Director to show it is as the company's obligation to di .....

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egard. The aforesaid clauses relate to business activities which the company was authorised to carry out in the interest of its shareholders. On the issue of compulsorily redeemable preference shares related to the demerged company by the resultant companies as proposed in the scheme of de-merger to which objection was taken by the Regional Director as indicative of the scheme being that of transfer of land and not of a de-merger of a unit/ division of the company, it was submitted that the issu .....

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arrangement by way of amalgamation or de-merger is well delineated under Sections 391 to 394 of the Act of 1956 and profusely expounded in a catena of judgments of the Apex Court and this Court. It is well settled that the scheme of arrangement under Sections 391-394 of the Act of 1956 is fundamentally a commercial document based on the commercial wisdom of the shareholders and creditors of the company. The company court cannot sit in judgment thereof on merits as if in appeal and seek to evalua .....

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background and material facts of the case, determining the good faith and foundation of scheme under consideration, ascertaining the purpose of scheme, ensuring that it is not prejudicial to the public interest, that it does not violate any provision of law rendering it contrary to public policy and is not a mere device to evade tax. The scheme should be bonafide to advance business efficacies and shareholders interest without compromising public interest. It should not be a ruse to indirectly a .....

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company's other objects real estate business. However, as submitted by the Additional Solicitor General it is manifest that the company did not carry out any real estate activity as neither was such activity reflected in its books of accounts by way of turnover, income and profit therefrom nor for that matter was the land of the company included in inventory under the head of Current Assets warranted under applicable Generally Acceptable Accounts Principles (hereinafter 'GAAP') for r .....

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te business was operative and a going concern. I am unable to accept the contention of counsel for the petitioner that the mere intent to commence the business of real estate and the purported expenditure of ₹ 75,000/- debited to the capital account towards levelling of land constituted commencement of business to bring it within the scope of Section 2 (19AA) of the Income Tax Act, 1961 and allow for a demerger. I am of the considered view that in the facts obtaining it cannot be held that .....

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to be a mere device to avoid tax capital gains and stamp duty which would be otherwise leviable in the event of the land of company otherwise being transferred to a third party. The compulsorily redeemable preference shares in lieu of equity shares being allotted by the resultant companies to the demerged company is further indicative of the arrangement/ demerger under consideration being a plain transfer of land not a restructuring of the applicant company. An important criterion for restructur .....

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ections 391-394 appears to have been formulated, approved and adopted by the shareholders solely with the intent to avoid tax and is without any evident fundamental purpose for the benefit of the shareholders and efficacies of a restructured business, it would tantamount to a sanction being sought contrary to public interest owing to which it cannot and ought not to be sanctioned. The Apex Court in the case of M/s. Macdowell and Company Limited Vs. Commercial Tax Officer [(1985)3 SCC 230] has he .....

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transaction is a device to avoid tax, more so by resort to judicial process to accord approval thereto, it cannot be countenanced and it is upto the court to take stock to determine the nature of the device, to expose the device for what it really is and to refuse to give it judicial benediction. The Gujarat High Court in the case of Wood Polymer Limited [(1977) 109 ITR 177 (Guj.)] has held that if the object of a scheme of amalgamation (and by extension demerger) is just to defeat tax provisio .....

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s held that all taxes are levied by the State in public interest and where a citizen/ corporate seeks to circumvent its obligation to pay taxes by subterfuges and even misuse and abuse of salutary provisions dehors their context and purpose, the enterprise should not be promoted by the court. In the context of amalgamation and public interest considerations for sanction thereof it was held by the Gujarat High Court in its opinion that the scheme of amalgamation must accordingly fulfill some felt .....

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d the counsel for the Regional Director, with reference to facts of the case, I am of the considered view that the sanction to the scheme of de-merger as sought by the petitioner company cannot be granted. The company does not appear to have had any real pre-existing real estate division since its inception. It is evident that the petitioner company was all along engaged in the business of manufacturing, processing and sale of vegetable oil alone. As evident from the facts on record no income or .....

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