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TMI Blog2001 (3) TMI 229X X X X Extracts X X X X X X X X Extracts X X X X ..... d dividend because the company does not possess accumulated profits. The Assessing Officer rejected the contention of the assessee and taxed the amount of distribution as deemed dividend. The CIT(A) has however held that in the absence of accumulated profits, no dividend on account of reduction of capital by the company is liable to be included under section 2(22)(a). 2. AIPL had reduced its share capital from Rs.100 per share to Rs.45 per share after obtaining necessary approval from its shareholders and High Court of Gujarat. Reduction of Rs.45 per share has been paid partly in cash and partly in kind to each shareholder as under: ---------------------------------------------------------------------- For Equity Entitlement Value of Amount Basis shares of entitle- per share Alkapuri ment ---------------------------------------------------------------------- 10 1 equity share of 29 02.90 Valuation report Sarabhai Pvt. Ltd. dated 20-6-1988 of Rs. 10 each. based on B/S as at 31-3-1988 19 1 equity share of 868 45.68 Market quota- Squibb Corpn. tion of Newyork Newyork of US $-1 Stock Exch. as on 21-6-1988 6 1 equity share of 30 05.00 Market quota- Calico of Rs. 125 tion as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d amalgamation in the group companies took place w.e.f. 1-4-1981 whereunder SEPL along with other three companies, viz. Sarabhai Chemicals Pvt. Ltd. (SCPL), Elscope Pvt. Ltd. (Elscope) and Fabriquip Pvt. Ltd. (Fabriquip) amalgamated with (Alkapuri) w.e.f. 1-4-1981. For one share of SEPL, 1.2 shares and one 11% Bonds of Rs.100 each of Alkapuri were allotted on amalgamation. For two preference shares of SEPL, one share of Alkapuri was issued. 4. Prior to this amalgamation which became effective from 1-4-1981, total paid up share capital of AIPL was Rs.3,30,30,000 divided into 3,30,300 equity shares of Rs.100. On account of amalgamation of SEPL with AIPL, total number of equity shares allotted to the shareholders of SEPL were 5,44,777 equity shares of Rs.100 each. Allotment of shares by AIPL to the shareholders of SEPL is as under: -------------------------------------------------------------------------- 700706 equity shares of SEPL X 1.2 shares of Alkapuri = 840847.2 eq. shares. 5900 pref. shares of SEPL X 0.5 shares of Alkapuri = 29555 eq. shares. Total equity shares = 843802.2 eq. shares. Less: Shares of Alkapuri held by SEPL cancelled as per order of Gujarat High Court = 299025 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ts at a negative figure of Rs.48,61,000 as para 59 of the appellate order as under: -------------------------------------------------------------------------- "Total reserve and surplus Rs. 10,87,13,000 Add: Provision for taxation included in debit balance of P & L account. Rs. 23,47,000 ----------------- Rs. 11,10,60,000 Less: Capital reserve A/c No. (1) Rs. 3,45,71,000 Out of capital reserve No. (2) Rs. 6,22,73,000 Debit balance in P & L Account Rs. 1,90,77,000 ------------------ Rs. 11,59,21,000 ------------------ Accumulated profit/loss (-) Rs. 48,61,000" -------------------------------------------------------------------------- The CIT(A) proceeded to hold that since the accumulated profit works out to a negative figure, the distribution made by the company to its shareholders on reduction of share capital will not attract provisions of section 2(22)(d) of the I.T. Act and deleted the additions made by the Assessing Officer under section 2(22)(a). The CIT(A) further held that since the assessee has not received any amount in excess of what was paid for acquiring the share, no capital gains tax would be leviable as a result of reduction of capital by AIPL. The revenue i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ounsel for the assessee argued that under section 2(22) of the I.T. Act, 1961 certain amounts which are actually not distributed as dividend are brought within the net of dividend for the purpose of taxability by introducing a legal fiction and the provision must therefore receive a strict interpretation. Relying upon the decision of Supreme Court in Punjab Distilling Industries Ltd. v. CIT [1965] 57 ITR 1 and Calcutta High Court decision in CIT v. Martin Burn Ltd. 136 ITR 805 the ld. counsel urged that the legal fiction has been incorporated by the Legislature to prevent evasion of tax and must receive a strict interpretation. Repelling the contention of the ld. D.R. that amalgamation and mergers by the companies of the Sarabhai group have been engineered as tax planning measures, the ld. counsel argued that the scheme of amalgamation, has been duly approved and sanctioned by the High Court in accordance with the provisions of section 101 of the Companies Act. The ld. counsel referred to the Gujarat High Court decision in Wood Polymer Ltd., In re [1977] 109 ITR 177 wherein the Court has observed that a scheme of amalgamation made for the avowed object of defeating tax would not be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... accumulated profits of Alkapuri. We shall refer to the rival contentions and deal with the same while considering the issue of their inclusion in the accumulated profits. 11. We have given our thoughtful consideration to the rival submissions made before us and perused the orders of the tax authorities below. An array of judicial pronouncements of Hon'ble Supreme Court and various High Courts cited at the Bar have also been carefully gone through by us. Before we embark upon the consideration of various items included by the Assessing Officer for computation of accumulated profits, we consider it necessary to analyse true scope and ambit of the expression "accumulated profits" as used in section 2(22). Section 2(22) deals with various types of cases and creates a fiction by which certain amounts, which are actually not distributed as dividends, are also brought within the net of dividend. It is a cardinal rule of interpretation that such a deeming section must receive a strict interpretation. The object and purpose of introducing the legal fiction in the statute is to frustrate any attempt by a company to avoid dividend tax by distributing the profits of the company to its share ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tually incurred by the assessee, and in computing this income, he may include many items of notional basis. But the commercial or accounting profits are the actual profits earned by an assessee calculated on commercial principles." Again in P.K Dadiani v. CIT [1976] 105 ITR 642, a three-judge Bench of this court while considering the question of "deemed dividend" observed at page 647 as follows: "We think that the term "profits" occurring in section 2(6A)(e) of the 1922 Act means profits in the commercial sense, that is to say, the profits made by the company in the real and true sense of the term" 13. Insofar as profits of capital nature are concerned arisen from the sale of capital assets, such profits are to be excluded for the purpose of ascertaining the accumulated profits under section 2(22) unless such capital profits have been subjected to capital gains under section 45. In First ITO v. Short Bros. (P.) Ltd. [1966] 60 ITR 83 (SC) it has been held that capital appreciation in respect of the lands from which the income was derived was agricultural income and that was not taxable in the hands of the company as capital gains, would not, on distribution be liable to be so ta ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and effect of amalgamation and any reserves created in the balance sheet of the amalgamated company in the context of section 2(22) of the I.T. Act. So far as the contention of the ld. D.R. that Alkapuri and various allied companies of the Sarabhai Group have carried on series of amalgamations as a tax planning device, we are unable to accept the contention. We see substantial merit in the contention of ld. counsel for the assessee that various amalgamations and mergers have been duly approved by the High Court and after such amalgamations have been sanctioned as made in conformity with the requirements under the Companies Act, no such allegation of tax planning or tax evasion can be levelled by the revenue against the assessee. While according sanction the High Court has duly considered that the scheme of amalgamation is in public interest which essentially implies that the amalgamation is not motivated by consideration of capital gains tax. The decision of Gujarat High Court in Wood Polymer Ltd's case relied upon by the ld. counsel renders direct support to the view taken by us. Their Lordships in the said decision observed at page 177 of the report, "this Court would not, by app ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ncome. 3. Capital gains chargeable under section 45 would be includible as part of the accumulated profits. 4. If there is a provision in the constitution of the company against distribution of dividend out of capital profits, such profits would not form part of accumulated profits unless charged to capital gains tax. 5. Surplus arisen on the amalgamation of companies would not result in revenue gain since amalgamation even if treated as an activity of purchase would not result in profit to the amalgamated company. 6. Since amalgamating company is a separate entity, profits in its balance sheet, after amalgamation cannot be treated as accumulated profits of the amalgamated company. 19. We would proceed to discuss the specific items included by the Assessing Officer for computing accumulated profits for the purpose of section 2(22)(a) of the I.T. Act. The entire controversy whether any deemed dividend is liable to be included in the hands of the shareholder under section 2(22)(a) on reduction of capital by AIPL (Alkapuri) would be determined by the question whether AIPL possess accumulated profits as on the date of reduction being 22-6-1988. 20. Capitalised part of share ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... terms of section 2(22)(d). It is worth noting here that Alkapuri has not issued any bonus shares to its shareholders. Bonus shares have been issued by the two amalgamating companies viz. KPPL and BAPL prior to 1-1-1974 i.e. much before their amalgamation with Alkapuri. 22. For the aforesaid reasons we would uphold the view of the CIT (A) that the amount of Rs.8,58,07,700 is not to be considered as part of accumulated profits. 23. Capital Reserve No. 1: Rs.3,45,70,443. This is the book surplus which has arisen on account of various amalgamations and mergers as per the facts indicated hereinbefore: "Sarabhai Chemicals is wholly owned subsidiary of Alkapuri. Elscope is wholly owned subsidiary of Sarabhai Chemicals. Fabriquip is wholly owned subsidiary of Elscope. SEPL owns 2,99,025 shares of Alkapuri. On amalgamation of these companies, the shares so held by each of them cease to exist, and hence, surplus had arisen in case of Alkapuri amounting to Rs.3,45,70,443. This amount is shown under the head Capital Reserve in balance sheet of Alkapuri." 24. The contention of the ld. counsel before us is that the surplus amount of Rs.3,41,43,264, being capital reserve No. 1 cannot be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... diaries during the year ended 31-3-1988, over the book value of the shares of those subsidiaries Rs. 25.16 c. Excess of distribution received from liquidators of certain wholly owned subsidiaries during the year ended 31-3-1988, over the book value of the shares of those subsidiaries. Rs. 622.73 ------------ Rs. 741.43 --------------------------------------------------------------------- Out of the aforesaid three items the ld. CIT(A) has accepted the contention of the assessee with regard to item No. C amounting to Rs.622.73 lakhs being outside the purview of the accumulated profits whereas the first two items aggregating to Rs.118.70 lakhs have been held as includible as accumulated profits. The contentions of the ld. counsel for excluding capital reserve No. 2 from the purview of the accumulated profits are on the same lines as pleaded in respect of capital reserve No. 1 above. The amount credited to the reserve account comprised in the aforesaid three items represents the excess over book value received from liquidators on distribution of assets from the companies which have gone to voluntary liquidation. The first item of Rs.93,54,263 has arisen on account of excess of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... re inclined to hold that the amount of Rs.6,22,73,000 has been rightly excluded by the CIT(A) for the purposes of section 2(22)(a) of the Act. In the case of Brahmi Investments Pvt. Ltd. the book surplus credited to capital reserve account No. 2 amounted to Rs.35,07,454 whereas there was a real loss on account of liquidation aggregating to Rs.20,55,945. The working regarding the book surplus as well as the real loss would be borne out from the following facts. 31. In the assessment year 1988-89, Brahmi Investments Pvt. Ltd. was a wholly owned subsidiary of KPPL. In July and August 1973 KPPL and its nominees acquired all the 1,11,000 equity shares of Aravali Investments P. Ltd. at a total cost of Rs.1,11,000. Consequently Aravali became a wholly owned subsidiary of KPPL. In December 1973 the said shares were transferred by KPPL to Brahmi Investments for a total consideration of Rs.55,36,680. Consequently Aravali Investments became a wholly owned subsidiary of Brahmi Investments P. Ltd. In June 1986 Aravali Investments went into voluntary liquidation and in July 1987 Brahmi received assets of the value of Rs.93,24,000 from Aravali Investments. The Assessing Officer computed capital ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he grounds decided against him. In support of his contentions the Id. counsel placed reliance on the following decisions: 1. Vahiwatdars of Ambaji Temple v. CIT [1965] 58 ITR 675 (Guj.). 2. Kanpur Industrial Works v. CIT [1966] 59 ITR 407 (All.). 3. Arundhati Balkrishna v. CIT [1982] 138 ITR 245 (Guj.). 34. The ld. DR. on the other hand argued that since the assessee has not filed any cross objection against the order of the CIT(A), the grounds regarding tax provision and tax liability etc. decided against him by the CIT(A) cannot be agitated by the assessee in a departmental appeal. 35. We have considered the rival submissions and are inclined to hold that rule 27 clearly entitles the assessee to support the order of the CIT(A) on the grounds decided against him. The decisions of Gujarat High Court and Allahabad High Court cited by the ld. counsel in this behalf are direct authorities in support of the view taken by us. It has been held by the Gujarat High Court in Arundhati Balkrishna's case: "Held, (i) that the Tribunal had power to permit the question regarding date of transfer to be raised before it. So long as the subject matter of dispute before the Tribunal was t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Ltd. V. CIT [1971] 82 ITR 363 and Gujarat High Court in Nagri Mills Co. Ltd. v. CIT [1981] 131 ITR 257 and argued that the issue of deduction of tax liability for arriving at accumulated profits would not be governed by the view the assessee might take of its rights nor can the existence or absence of entries in its books of account be decisive or conclusive in the matter. 40. The ld. D.R. on the other hand referred to para 57 of the impugned order of the CIT(A) wherein deduction on account of disputed tax liabilities has been disallowed inter alia on the ground that liabilities have not been provided in the books of account of the company and further that the revised annual report dated 17-9-1992 showing tax liabilities cannot be considered as decisive for allowing the deduction. The CIT(A) has placed reliance on the decision of Supreme Court in the case of Indian Overseas Bank Ltd. v. CIT [1970] 77 ITR 512. 41. We have considered the matter and are inclined to accept the contention of the ld. counsel for deduction of the tax liabilities of Rs.17,38,04,000 as well as Rs.23,47,000. The various decisions cited by the ld. counsel fully support the claim for deduction in respect o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... es due from the company will have to be deducted from the profits to enable the company to accumulate the same." Having regard to the aforesaid reasons we hold that deduction is liable to be made for ascertaining accumulated profits. 44. We may summarise that the assessee would be entitled to deduction of the following liabilities over and above the deductions allowed by the CIT(A) vide para 59 of his order: --------------------------------------------------------------------- 1. Provision for taxation Rs. 23,47,000 ---------------- 2. Tax liabilities determined by the I.T. authorities. Rs. 17,38,04,000 --------------------------------------------------------------------- 45. We have further held that the current profits of Rs.1,21,455 would be includible as part of accumulated profit. Thus the working of accumulated profits would be made as under: -------------------------------------------------------------------------- Accumulated profit/loss as worked out by the CIT(A) vide Rs. para 59 of his order - 48,61,000 Add: Current profit as discussed above. + 1,21,455 ------------- -4739,545 Deduct: Tax provision debited to P & L account. - 23,47,000 - 70,86,545 Deduct ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... he levy of capital gains under section 45. In the instant case the Assessing Officer has observed that the paid up capital of Alkapuri as on 31-3-1988 has been shown at Rs.8,58,07,700 whereas the shareholders have paid an amount of Rs.17 lakhs only towards their subscription. The entire issue of computation of capital gains in the hands of the shareholders as a result of reduction of share capital would therefore have to be considered by the Assessing Officer in the light of the principles spelt out by the Hon'ble Supreme Court in the aforementioned decisions. In the instant case the Assessing Officer had no occasion to consider the issue of levy of capital gains under section 45 as a result of reduction of share capitals since he came to the conclusion that accumulated profits possessed by the company exceeded the distribution made to the shareholders on reduction of share capital. While reversing the conclusion of the Assessing Officer and deleting the addition on account of dividend under section 2(22)(a) the CIT(A) did not apply his mind to the issue of levy of capital gains under section 45 particularly since the distribution made by Alkapuri on reduction of share capital has ..... X X X X Extracts X X X X X X X X Extracts X X X X
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