TMI Blog2001 (3) TMI 36X X X X Extracts X X X X X X X X Extracts X X X X ..... . Ltd. (hereinafter referred to as "KPP"), was a private limited company which maintained its accounts on the basis of the financial year ending March 31 and on that basis its assessments were completed up to the assessment year 1973-74. KPP was amalgamated with Shahibaug Entrepreneurs Pvt. Ltd. (hereinafter referred to as "SEP" or "the assessee"), with effect from January 1, 1974. On March 30, 1970, the assessee sold the Wadala unit of one of its divisions called Swastik Oil Mills to Vegoll Pvt. Ltd. a wholly owned subsidiary of the assessee for a consideration of Rs. 1 crore. This was made up of Rs. 7.5 5 lakhs for land and building, Rs. 6.45 lakhs for plant and machinery at book value and Rs. 10 lakhs for technical knowledge, etc., and Rs. 76 lakhs for goodwill. The assessee did not declare any income charge able to tax but the Income-tax Officer included a sum of Rs. 86 lakhs relating to sale of technical knowledge and goodwill as profits from an adventure in the nature of trade. He further held that as the fixed assets were sold at the written down value there was no profit under section 41(2). In appeal, the Appellate Assistant Commissioner held that all the relevant fact ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n was determined for the sale of each division. The particulars of the sale of the aforesaid divisions to four different wholly owned subsidiary companies of the assessee are as under : -------------------------------------------------------------------------------- | | | |Valuation of goodwill Sl. |Division (under- |Transferee company| Consideration |--------------------- No. |taking) trans- |(wholly owned sub-| Rs. | Determined | As per |ferred by asses- | sidary company of| (approx) | by assessee| assess- |see |assessee) | | Rs. | ment | | | | | order -------------------------------------------------------------------------------- (a)| (b) | (c) | (d) | (e) | (f) -------------------------------------------------------------------------------- 1. |Swastik House | | | | |hold and Indust- | | | | |rial Products | | ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ted the total value of the goodwill at Rs. 4,37,60,000 (Rs. 4.34 crores + Nil + Rs. 3.60 lakhs, respectively). Thus, according to the Income-tax Officer, the balance amount of Rs. 3,62,40,000 (i.e., Rs. 8 crores Rs. 4,37,60,000) was paid for transfer of assets for which deprecation had been allowed in the assessments for earlier years and for transfer of stocks, spare parts, etc. As a result, the Income-tax Officer included in the assessment certain incomes by way of balancing charge under section 41(2) and certain other income as realised from sale of stocks, spare parts, etc. Thus, the income by way of balancing charge was determined at Rs. 3,60,48,375 and the income from business chargeable as on sale of stocks, spare parts, etc., were determined at Rs. 1,91,625. The assessee filed an appeal before the Appellate Assistant Commissioner disputing the additions made by the Income-tax Officer. As regards the transaction of transfer of Swastik Oil Mills, the Appellate Assistant Commissioner held that there was no justification for holding that there was income from an adventure in the nature of trade. As regards the sale of other divisions, the Appellate Assistant Commissioner tes ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ssessee. Both learned counsel have taken us through the assessment order, the order of the Appellate Assistant Commissioner and the judgments of all the three learned members of the Tribunal. Learned counsel have also invited our attention to the copies of the agreements regarding the aforesaid transactions of sale of the respective divisions. Mr. B.B. Naik, learned counsel for the Revenue, has made the following submissions : (i) As far as the sale of Swastik Oil Mills division is concerned, the Assessing Officer was justified in holding that it was an adventure in the nature of trade and, therefore, it did not have any goodwill. In any view of the matter, the division could not have any goodwill as it was incurring losses for the last five years and, therefore-, it could not have had any goodwill. It is apparent that when such an undertaking with land and building, plant and machinery, stocks and raw material was sold at Rs. 2.45 crores, the value of the goodwill could not have been Rs. 2 crores. The Income-tax Officer was justified in assessing the value of the goodwill at nil. (ii) In respect of the other undertakings also the Income-tax Officer was justified in holding ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rice. Strong reliance has been placed on the decision of the apex court in CIT v. Electric Control Gear Mfg. Co. [1997] 227 ITR 278. II. The decision of the apex court in Artex Manufacturing Co.'s case [1997] 227 ITR 260, is not applicable for the fallowing reasons : (a) The apex court has expressed the view that the provisions of section 41(2) are applicable in a case where a going concern is transferred and separate consideration for each item of properties sold is available, though there is no separate sale of different items. This is contrary to the factual situation existing in the assessee's case as stated above. (b) In Artex Manufacturing Co.'s case [1997] 227 ITR 260 (SC), it is an admitted position on the facts that the assets had been the subject-matter of revaluation by an authorised valuer at the time of agreement for sale whereas in the present case all assets are transferred at book value and no such exercise of revaluation of each item of all the assets was undertaken. (c) In Artex Manufacturing Co.'s case [1997] 227 ITR 260 (SC), though itemwise value attributable to each item of the total assets was not available at the initial stage, the same was available ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Ltd. was a separate company from 1930 onwards and it was under the managing agency of Sarabhai Sons (P.) Ltd. a sister concern of the assessee. Earlier the shares of Swastik Oil Mills Ltd., were held by three groups including the Sarabhai group and as per the agreement of the shareholders, all the shares of Swastik Oil Mills Ltd. came to be purchased by the Sarabhai group, i.e., by Sarabhai Sons (P.) Ltd. The shares were purchased for a price which was higher than the value obtained on the break-up value method. The assessee-company agreed to take over the entire share capital of Swastik Oil Mills Ltd. Sarabhai Sons (P.) Ltd. which was holding all the shares of Swastik Oil Mills Ltd. agreed to sell its entire shareholding to the assessee-company on April 15, 1968. Upon purchase of Swastik Oil Mills Ltd., the same was amalgamated with the assessee-company and became one of the divisions of the assessee-company. Swastik Oil Mills Ltd. had two units, one at Wadala manufacturing vegetable oils and the other at Ambernath manufacturing detergents and cosmetics. Simultaneously, the assessee-company also floated a new wbolly owned subsidiary Vegoils (Pvt) Ltd. in July, 1968, itself with an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s the business is better than normal return of profitability. But here the case is reverse. So there is no goodwill. The business is also not of a monopolistic nature. (g) It is pertinent to mention here that the Swastik Oil Mills division was sold to Swastik Household and Industrial Products (P.) Ltd. on March 30, 1973, whereas the above valuation report is dated June 25, 1975. It means the whole of the story of goodwill is an afterthought cooked up story to show the real profits in the garb of so-called goodwill so that it can be claimed as a capital receipt from the subsidiary of the assessee-company. Thus, there is no goodwill at all attached to the business of the Swastik Oil Mills division as claimed by the assessee. The Income-tax Officer gave notice dated March 9, 1977, to the assessee to show cause why the so called goodwill of Rs. 2 crores charged in the sale consideration of the Ambernath unit of Swastik Oil Mills division to Swastik Household and Industrial Products (P.) Ltd. on June 30, 1973, should not be taxed as business income from an adventure in the nature of trade on the aforesaid grounds. The assessee submitted its objections dated March 14, 1977. After ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... | | |Servi ces and Sara-| Sarabhai |Sarabhai Glass | |bhai Mktg. Divisions| Chemicals | -------------------------------------------------------------------------------- | | (Rs. in lakhs) |(Rs.in lakhs)|(Rs.in lakhs) -------------------------------------------------------------------------------- | | | | 1. |Land and building | 23.00 | 91.00 | 6.00 2. |Machinery and equipments, | 28.00 | 372.00 | 21.00 |loans and advances, current| | | |assets, cash and bank | | | |balances | | | | | | | 3. |Raw materials | 74.00 | 838.00 | 26.00 | | | | 4. |Goodwill | 40.00 | 750.00 | 10.00 ----------------------------------------------------------------- ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng at the profits of five years. (c) The valuer has failed to make adjustments on account of depreciation and capital expenditure on scientific research in the profits. (d) In method II the valuer has taken the goodwill equal to three years purchase price. In this method if the average of five years profits is taken, the goodwill should have been equal to two years purchase price only. (e) It is pertinent to mention here that the sale of the above divisions took place on June 30, 19 1'3, whereas the valuation report relied on by the assessee is dated June 25, 1975. It means the assessee had already charged the amount of goodwill of Rs. 7,50,00,000 on the sale of the above divisions but with a view to make its case goodwill pace (sic) it obtained the above just after two years of the sale. If the above defects are removed from the computation of goodwill made by the valuer, the goodwill comes only to Rs. 4,34,00,000. The aforesaid amount was worked out by the Income-tax Officer and placed in annexure A to the assessment order by working out the average net profits after tax as taken by the valuer for Sarabhai Chemicals Division, Sarabhai Marketing Division and Sarabhai Co ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... odwill of Sarabhai Glass Division at Rs. 3.60 lakhs as against the goodwill of Rs. 10 lakhs as claimed by the assessee for sale consideration for Sarabhai Glass Division. When the Income-tax Officer gave show-cause notice dated January 11, 1977, the assessee filed its reply dated February 7, 1977, contending that the sums involved in question were nothing but pure and simple capital receipts which arose as a result of transfer of capital assets by the assessee-company to its wholly owned subsidiaries and, therefore, there was no liability to tax in view of the provisions of section 47 of the Income-tax Act. The sale consideration was supported by the valuation report made by a firm of chartered accountants. Whenever there is a transfer of an undertaking by a parent company to its wholly owned subsidiary, it is prevalent practice to transfer the assets at bock value and not at the so-called market value. In any view of the matter, the purchaser company, subsidiary or holding company, is entitled to deprecation only on the written down value of the assets to the vendor company and not en any higher value. At the meeting of the Central Direct Taxes Advisory Committee held on ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t amalgamated with a banking company. Hence, Circular No. 63, dated August 16, 1971 was not applicable. As regards the assessee's arguments that the certificate from Sorab S. Engineers was obtained on June 23, 1973, on the basis of which entries were posted in the books of account of the concerned divisions, the Income-tax Officer noted that it was considered in the course of the healing that the valuation reports as produced before the Income-tax Officer were in fact dated June 25, 1975. The Income-tax Officer accepted that the question of taxability of capital gains would not arise in view of the bar imposed in section 47, but there is no prohibition in the statute in regard to the taxability of profits or business profits under section 41(2) in case of transfer to subsidiary companies. The Income-tax Officer then concluded 6s under "To concludes the charging as income in the bands of the assessee of the profits, including profits under section 41(2) held to be arising to the assessee on sale of the various undertakings to the newly floated subsidiary companies is approved in view of the clear-cut observations and the principles enumerated by the Supreme Court in CIT v. B. M ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ll and that the accounts only appeared to justify that goodwill cannot be astronomical figures created by the assessee and there was, therefore, a great need to probe into the calculation, the criteria adopted for calculation of the goodwill and even the basis figures to be adopted for calculation. "(i) The appellant-company did not wind up its business after the transfer of assets to the four subsidiaries. It continued to be an investment company. The entire business was not sold as one going concern, but to four subsidiaries. (ii) The assets were transferred at specified values, (iii) The mere fact that the portions of the industrial undertaking had been sold does not establish that it was a slump sale. The facts of the case should also prove that there was a slump sale. Since in the present case, the business of the assessee continued and the sales were by parts and at specified values, the theory of slump sale cannot be accepted. The decision is on the facts of the case (vide para. 12 in the appellate order of Sarabhai Sons Ltd.). (iv) The Supreme Court decision in the case of B. M. Kharwar [1969] 72 ITR 603 is an affective answer to the interpretation put forward by th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n to became investment companies and the family members of the Sarabhai transferred most of their shares to the mentioned main companies or their subsidiary investment companies. On account of the applicability of executive instructions for calculating share values of private investment companies, the assets of the family members would have registered a substantial fall for wealth-tax purposes. The assessee had created a goodwill of Rs. 10 crores which would have increased the value of shares of KPPL. The increase had been got rid of by an ingenious method. The assessee created about 48 new subsidiaries. The assessee sold the shares held by it to about 22 investment companies (subsidiaries) out of these 48. The assessee sold the shares of these twenty-two subsidiary investment companies (51) to a corresponding set of another twenty-two subsidiaries. On account of the sale of shares of the 22 companies, they ceased to be subsidiaries of the assessee, but they became the subsidiaries of another set of subsidiaries (52). Since the sale of shares was of investment companies, the assessee applied the instructions in the Board's circular for valuation of shares of investment companies, i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... . If the values are not furnished by the appellant he will be at liberty to estimate the values. (iii) Profit under section 41(2) and profit on sale of raw materials, closing stock, etc., should be considered as income of the appellant subject to the limit of difference between the goodwill created and the estimated goodwill by the Income-tax Officer". Findings given by the Tribunal : In second appeal before the Tribunal, there was a difference of opinion between the Judicial Member and the Accountant Member. Hence, the case was referred by the President of the Tribunal for hearing by the Vice-President of the Tribunal. The Judicial Member had accepted the stand of the Revenue and concluded that while it is open to the transferor to transfer the assets at less than the market value, and when the consideration for goodwill is in disputer it is open to the Revenue to show that goodwill is overvalued and the other assets are undervalued. The Judicial Member relied on the decision of the Supreme Court in Guzdar Kajora Cool Mines Ltd. v. CIT [1972] 85 ITR 599 wherein the Supreme Court had laid down that if circumstances exist showing that a fictitious price has been put on the a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t themselves give the value of the assets which are set out in the schedules to the agreements, the principle laid down by the apex court in Artex Manufacturing Co.'s case (1997) 227 ITR 260 would not apply, but the principle laid down by the apex court in Electric Control Gear Mfg. Co.'s case [1997] 227 ITR 278 would apply. We are unable to accept this contention because in Artex Manufacturing Co.'s case [1997] 227 ITR 260 (SC), the apex court has held that even if in the agreement there is no reference to the value of the plant, machinery and dead stock, if on the basis of the information that is made available to the Income-tax Officer, it becomes evident that the plant, machinery and dead stock was sold at a price higher than the book value of the plant, machinery and dead stock, the provisions of section 41(2) of the Act are applicable. The facts in Artex Manufacturing Co.'s case [1997] 227 ITR 260 (SC), were particularly as under : The assessee was a firm which was carrying on the business of manufacturing art silk cloth. A private limited company by the name of A was formed with a view to take over the business of the assessee as a Funning concern. On March 31, 1996, t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the value of the plant, machinery and dead stock. But on the basis of the information that was furnished by the assessee before the Income-tax Officer it became evident that the amount of Rs. 11,50,400 had been arrived at by taking into consideration the value of the plant, machinery and dead stock as assessed by the valuer at Rs. 15,87,296. Section 41(2) was applicable. It was further held that, the liability under section 41(2) was limited to the amount of surplus to the extent of the difference between the written down value and the actual cost. If the amount of surplus exceeded the difference between the written down value and the actual cost, then the surplus amount to the extent of such excess would have to be treated as capital gains for the purpose of taxation. The Tribunal had not considered this matter. It was held that on the question relating to the two circulars of the Central Board of Direct Taxes, the Tribunal had stated that one of the circulars related to the tax liability of surplus in the case of nationalised banks and it has no application to the present case and that the second circular was based on the decision in Mugneeram Bangur [1965] 57 ITR 299 (SC), an ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e-tax Act, 1961. He also brought to tax capital gains of Rs. 8 lakhs, being the sum of Rs. 5,000 as basic exemptions included the sum of Rs. 7,95,000 in the computation of the total income of the assessee under the head "Capital gains", The Appellate Assistant Commissioner held that the profits in question were taxable under the provisions of section 41(2). The Tribunal remitted the matter to the Income-tax Officer for recomputation of the aggregate amount chargeable as profits under section 41(2) and as capita] gains. The High Court held that section 41(2) was not applicable. On appeal by the Revenue to the, Supreme Court, the Supreme Court held that there was nothing to indicate the price attributable to the assets like machinery, plant or building out of the consideration amount of Rs. 8 lakhs. Merely because, a sum of Rs. 3,32,863 had been allowed as depreciation to the assessee-firm, it could not be said, that was the excess amount between the price and the written down value. The provisions of section 41(2) were not applicable. It is thus clear that the consideration amount in the said case was only Rs. 8 lakhs as the cost of the total undertaking and the decision was rend ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the firm as his contribution to its capitals The facts in the instant case are entirety different. Hence, the principle laid down therein is not applicable. Before concluding, we must note that even while not accepting the major arguments urged on behalf of the assessee, there is some substance in the contention of Mr. R. K. Patel for the assessee that the provisions of section 41(2) govern only building, machinery, plant or furniture and that, therefore, other assets cannot be included within the scope of section 41(2) for taxing the difference between the written down value and the actual cost. We also find that in view of the provisions of section 47 of the Act, the transfer will not attract the provisions of section 45 relating to capital gains if the transfer of capital assets is by a company to its wholly owned subsidiary company and the holding company as well as the subsidiary company are Indian companies. In view of the above discussion, our answer to question No. 1 is in the negative to the above extent, i.e., in favour of the Revenue and against the assessee. Our answer to question No. 2 is in the affirmative to the above extent, i.e., in favour of the Revenue and ..... X X X X Extracts X X X X X X X X Extracts X X X X
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