The AO was not justified in making the addition in the hands of shareholders merely on the basis of a presumption of some future events, which could not influence the value of the shares prior to the date of such development, as held by MumTrib in Dy CIT v Kaizen Commercial Pvt Ltd — In favour of: The assessee; ITA No 5974/Mum/2005: (AY 2002–2003).
Decided on: 10 June 2011.
No addition can be made under s 28(iv) in the absence of any business or profession relationships.
Dy. CIT v Kaizen Commercial Pvt Ltd
ITAT BENCH 'E' MUMBAI
ITA No. 5974/Mum/2005
Assessment Year: 2002-2003
P M Jagtap, AM and Vijay Pal Rao, JM
Decided on: 10 June 2011
Counsel appeared:
Shri J D Mistry for the appellant
Shri Vimal Gupta (Special Counsel) for the respondent
Order
Per: Vijay Pal Rao, JM:
This appeal filed by the revenue is directed the order dated 21.7.2005 of the CIT(A) relating to AY
2002-03.
2. The revenue has raised the following grounds:
“i) The ld. CIT(A) has erred in deleting the addition of Rs. 42 crores made u/s 28(iv).
ii) The ld. CIT(A) has erred in holding that no benefit at all arose to the assessee when in fact
a huge benefit has arisen which is indicated by the ever-soaring value of the RCPL shares.
iii) The ld. CIT(A) has erred in failing to take note of the business activities of the company
and its Director, and the nexus between its business and benefit derived.
iv) The ld. CIT(A) has erred in ignoring he fact that the RCPL shares were worth for more
than their face value even at the time of allotment, in view of the grand value and the inherent
economic strength of the Reliance Group.
v) The ld. CIT(A) ought to have appreciated the position that sec. 28(iv) is couched in the
broadest of terms and that what all it requires is that some benefit or perquisite should have
arisen from the business.
vi) The ld. CIT(A) should have appreciated the point made by the Assessing Officer that the
assessee and its Director had been all along rendering services of the business nature to the
Reliance Group and the allotment of RCPL shares at face value cannot but be in consider for
those services.”
2.1 From the grounds raised by the revenue, the only issue arises for our consideration and
adjudication is whether in the facts and circumstances of the case, the CIT(A) is justified in deleting
the addition of Rs. 42 crores made by the AO u/s 28(iv) of the IT Act.
3. Facts of the case are that from the balance sheet, it has been noticed by the Assessing Officer that the assessee company has shown Rs. 3 crores investment in the shares of M/s Reliance
Communications Pvt Ltd (in short ‘RCPL'). From the details, it has been found that the 3 crores
shares of face value of Re/ 1/- each were allotted to the assessee company at par by M/s RCPL on
2.4.2001. M/s RCPL is now known as ‘Reliance Inforcomn Ltd' (in short ‘RICL')., the company
which is engaged in the business of mobile telecom. The Assessing Officer noticed that RCIL
subscribed to and was also allotted equity shares of the company as under:
a) 32.02 crores of equity shares on 2.11.2002 at a price of Rs. 53.71 per share
b) 18.65 crores of equity shares on 9.9.2003 at a price of rs. 50.4 per share
c) 50.67 crores of equity shares on 11.11.2003 at par against warrants.
3.1 Accordingly, the RCIL allotted 101.34 crore of equity shares on an average price of Rs. 27.35 per
share. The aforesaid allotments at the premiums mentioned above were at all times with the approval of the Board of Directors of the company. It is quite obvious from the above facts that each time the company issued shares, it has been done after board of the company taken into account all the financial aspects and factors relevant to the pricing of the shares to be issued to the subscriber. The members of the company board have done it with proper application of mind and valuations are
appropriate considering the fact and circumstances prevailing at the time of insurance of the shares.
The Assessing Officer observed from the Directors report for the year ended 31.3.2001 of RCPL that
Shri Manoj Modi, Director of the assessee company is also a director in RCPL. From the said report,
it was also seen that the following information has been furnished:
“During the year, the company applied for licenses to operate basic telephone service in 19 telephone circles comprising 19 states and 3 union territories across the countries which will cover about 92.5 crores of population (approximately 90%) and 25.94 laces sq. Kms of geographical area
(approximately 84%) of the country. The company has already received the license to provide the said services in 16 out of the 8 telecom circles. The company expects to receive the license for the Tamil Nadu Telecom circle shortly. The license for the Jammu and Kashmir Telecom circle is yet to b issued by the Govt. The company expects to roll out the Basic Telephone services during the FY 2002-03 utilising the state of the art optic fibre network capable to transmit terabit capacity. During the year, the company had also applied for license for providing National Long Distance service. Pursuant thereto, the company has received a letter of Intent (LoI) conveying the approval for award of license subject to compliance of certain terms and conditions. The company intends to comply with the conditions and convert the LoI into a license during the FY 2001-02.”
3.2 It was further observed by the Assessing Officer that in the case of the assessee, the shares have been allotted by RICL at par. Further, it was noted that it would appear an element of compensation is embedded in the allotment of shares that the company received. Further, Shri Manon Modi is a common director in both the companies. It is also observed that the assessee company has in the past rendered services to M/s Reliance Industries Ltd (RIL). According to the Assessing Officer, the transactions would, attract the provisions of sec 28(iv), which is reproduced below:
“The following income shall be chargeable to income tax under the head “Profits and Gains of
business or profession:
iv) the value of any benefit or perquisite, whether convertible into money or not, arising from business or the exercise of a profession.”
3.3 The Assessing Officer was of the view that the assessee company has been providing services to
Reliance Group of companies in the earlier years and therefore, to benefit the assessee company, 3
crores shares of RCIL have been allotted at the face value. Further, Shri Manoj Modi is common
director in the Assessee Company and RICL; Shri Manoj Modi was privy to all the events occurring
in the development of RICL. Further, the RCIL had already applied for telecom licenses, had
mustered funds and was in the process of completion of many procedures for establishing the telecom business before the date of allotment of shares to the assessee company i.e. 2.4.2001. It was further observed that the value of shares had already increased by virtue of completion of various procedures and passage of time. Accordingly, the Assessing Officer, took the fair value of the shares of RICL on 2.4.2001 as Rs 15/- per share at premium of Rs. 14/- per share and held that the assessee company has acquired benefit of Rs. 42 crore on account of allotment of 3 crores share of RICL and added the same to the total income of the assessee.
4. On appeal, the CIT(A) deleted the addition made by the Assessing Officer and held that it is not
possible to hold that the shares in question could be commanding any premium at all as on 2.4.2001. He, therefore, concluded that there is no benefit that arose to the assessee, much less from business carried out by the assessee.
5. Before us, the ld special counsel for the revenue has submitted that the assessee received benefit in the shape of allotment of shares in its favour at par. The said benefit arose from the business. He
referred the assessment order and submitted that the assessee company has been providing services to the Reliance Group of companies in earlier years and therefore, to benefit the assessee company, Rs. 3 crores shares of M/s RICL were allotted at face value. Therefore, the assessee received the benefit of allotment of the shares at par without paying any premium. The special counsel for the revenue, then referred the annual report of RICL for the FY 2000-01 at page 1 to 15 of the paper book andsubmitted that the Directors report show that the RCPL presently known as RICL applied for licenses to operate basic telephone services in 18 telecom circles comprising 19 states and 3 Union Territories across the country. It is also stated in the said report that the company has already received the license to provide the said services in 16 out of 18 telephone circles and expected to receive the license for the remaining telecom circles shortly. Apart from this, the director's report further states that during the year, the company had applied license for providing National Long Distance Services (NLDS).The company has received a letter of intent (LoI). Then, he has submitted that the directors' report for the year ending 31.3.2001 clearly indicates that the assessee company applied for operation of basic telephone services as well as the national long distance services during the year and received license for operating the basic telephone services in 16 out of 18 telephone circles. Thus, he has contended that the value of the shares had already increased, which is also clear from the value of the shares became Rs. 27/- in Nov 2002.
5.1 The ld. Special counsel then referred to the directors report placed at page 3 of the paper book and submitted that Shri Manoj Modi was one of the Directors of RCPL (changed as RICL), who is also a director of assessee company having more than 99% of the shares holding. When the company had a business relation with Reliance Group of companies and RICL is one of the reliance group
companies, therefore, the case of the assessee clearly falls u/s 28(iv) of the I T Act. He referred a debit note placed at page 33 of the paper book and submitted that the assessee was working with RIL and raised a debit note in respect of the work executed by the assessee. Therefore, the ld. special counsel emphasized that the assessee was having business relation and direct business with Reliance Group of companies. He then referred to the letter dated 9.1.2003 written by the assessee to the Assessing Officer placed at page 29 to 32 of the paper book and submitted that the assessee has admitted before the Assessing Officer that the assessee was doing business with RIL as the services of the assessee were hired. RICL subsequently allotted the shares @ 53.71 per share on 2.11.2002 and thereafter @ 50.94 per share on 9.9.203. Therefore, the Assessing Officer took the average price of the share at Rs. 27.35 per share. He has further contended that when these shares were allotted on 2.4.2001 to seven parties including the assessee, all these seven parties were related to the Reliance group of companies;
and therefore, the shares were allotted at par without charging any premium. Since the shares were
issued on discount; therefore, it amounts to the benefit received by the assessee for business. He
strongly relied on the order of the Assessing Officer.
5.2 On the other hand, the Sr. counsel for the assessee has submitted that RCPL presently known as
RICL allotted the equity shares at par on 3 occasions prior to the allotment in question on 2.4.2001.
He has further contended that when the entire payment was made by the allottee then there is no
question of invoking provisions of sec. 28(iv) of the Act. Even otherwise, there were seven allottees in the said allotment of 65 crores equity shares at par and the assessee was allotted only 3 crores out of 65 crores allotment on the same day. The ld. Sr. counsel pointed out that in case of other six parties, the provisions of sec. 28(iv) was not invoked and how the Assessing Officer can be allowed to pick and choose the assessee alone for invoking the provisions of sec. 28(iv) of the Act. He has further submitted that the action of the Assessing Officer was totally arbitrary, illegal unjustified and not call for. He has stressed that prior to the present allotment on 2.4.2001, the RCIL made the allotment on 27.1.2001 and 12.2.2001 and both these occasions, the allotment was at par i.e. Rs. 1/- per share. He has further contended that the reliance placed by the Special counsel for the revenue on the directors' report is totally misconceived because the directors' report has given the status of the affairs upto the date of the report. He has contended that on 2.4.2001, at the time of allotment in question, license of operating basic telephone services was not at all in the picture though, RCIL applied for the license of basic telephone services but it was not allotted. Therefore, there was no question of giving rise to the value of shares of the company merely by applying the license. The Sr. counsel then submitted that by merely applying for license would not give any value addition to the shares of RCIL and the allotment prior to the grant of license cannot be benefited of any premium. He has pointed out that the net worth of RCIL as on 31.3.2001 was negative. He has referred to the balance sheet at page 8 of the paper book and submitted that RCIL was having negative net worth as on 31.3.2001 and there is no question of premium attached to the shares of the said company. He has further submitted that the assessee company was providing the services of petrochemical projects of RIL. He has contended that since Shri Manoj Modi is having skills in financial planning and commercial negotiations and has vast and in-depth business knowledge, RIL procured the assessee's services and particularly because the two directors Mr Manoj Modi and Shri P M S Prasad were having expertise of technical and commercial evaluation of the projects.
5.3 He has referred the provisions of sec. 28(iv) of the Act and submitted that the assessee has no
business relation with RCIL then the provisions of sec. 28(iv) cannot be applied merely because the
assessee was doing some technical services of RIL, which does not amount to have any business with M/s RCIL.
5.4 He has relied upon the decision of the Hon'ble jurisdictional High Court in the case of Shri
Prashant S Joshi & ors v ITO in Writ petition no.2287 of 2009 and Writ Petition No.59 of 2010 and
submitted that benefit must arise from business to invoke provisions of sec. 28(iv) of the Act. The ld
Sr counsel further submitted that the assessee company has no business or professional relationship
with RCIL during the year under consideration or in past or even subsequently. Therefore, in the
absence of such relationship, the provisions of sec. 28(iv) cannot be applied. He has submitted that the Assessing Officer took hypothetical view and took in account future event and adopted the value of the shares at Rs. 15/- per share. He has emphasized that there was no basis for valuing the shares at Rs. 15/- per share and the Assessing Officer has adopted the said rate as per his own presumption and estimation. He has relied upon the decision of the Hon'ble Supreme Court in the case of CIT v Sarabhai Holdings P Ltd reported in 219 CTR 644 and the decision of the Hon'ble Gujarat High Court in the case of CIT v Alchemic P Ltd reported in 130 ITR 168 and submitted that the action of the Assessing Officer is not sustainable as it was only notional estimated value of the shares made by the Assessing Officer. The Assessing Officer was influenced by some future events, which was not even in picture at the time of allotment of shares on 2.4.2001. The licenses were allotted to the RICL only in the month of July 2001 and therefore, if any appreciation due to grant of license of telephone services, it was subsequent to the date of allotment and not prior to the date of allotment.
6. We have considered the rival contentions and perused the relevant material on record. While
making the addition of the premium of Rs. 14/- per share, the Assessing Officer has taken into
consideration the directors' report. The Special counsel has also relied upon the directors' report which talks about the allotment of the basic telephone services in 16 out of 18 circles applied by RICL. It is pertinent to note that the directors' report is dated 16.8.2001, which is consequent to the grant of license to RICL for operating the basic telephone services on 20.7.2001. Thus, it is clear that the directors' report refers to the events consequent to the allotment of the shares on 2.4.2001 and
particularly the developments of the grant of license of 16 telephone circles. Undisputedly, once the license for operating the basic telephone service in 16 circles was granted which cover the majority of the states of the country; hence, was an important development and certainly it has a positive effect on the value of the shares of RICL. Therefore, reference of grant of license in the directors' report cannot support the action of the Assessing Officer to presume the value of the share of RCIL at Rs. 15/- per share on the date of allotment i.e. 2.4.2001.
6.1 As pointed out by the Sr counsel for the assessee that prior to 2.4.2001, RCIL have already issued
the shares through allotment at par i.e. Rs. 1/- each in the month of Jan and Feb 2001. On both these occasions, the shares were allotted at Rs. 1/- per share. Similarly on 2.4.2001, 65 crores shares were again allotted by RCIL to seven allottes as per the details of the allotment reproduced by the Assessing Officer at page 2 of his order as under:
Name of the assesse | No.of Shares allotted (in crores) |
Reliance Industries Ltd | 6.50 |
Reliance Commn Infrastructure Ltd | 20.50 |
Other bodies Corporate: | |
Greenwich Capital P Ltd | 1.16 |
Warburg Capital P Ltd | 1.17 |
Perigee Trading P Ltd | 1.17 |
Kaizn Commercial Ltd | 3.00 |
Ganesh Infrastructure Capital Fund | 31.50 |
Total | 65.00 |
6.2 The Assessing Officer, while estimating the premium has taken into account the shares allotted by RCIL on 2.11.202, 9.9.2003 and 11.11.2002. The Assessing Officer has reproduced the details in the assessment order which we have reproduced in this order in the foregoing paragraph no.5.1. Thus, it is event that the Assessing Officer has taken into account the allotment price of the shares of RCIL on 2.11.2002, 9.9.2003. It is to be noted that when the RCIL was allotted the license for operating the basic telephone services and also started the work for providing the services, the allotment in Nov 2002 and Sept 2003 was subsequent to the said development and therefore, the appreciation of the value of the shares a natural consequence of grant of license and work executed by RCIL for providing the service. Therefore, the future event on development of grant of license cannot be a basis for valuing the shares on the date when no such allotment was in sight. Moreover, when net worth of RCIL was negative as on 31.3.2001, then the valuation of the shares on 2.4.2001 cannot be supposed to higher then what was in the month of Jan and Feb 2001. Hence, in our considered opinion that the Assessing Officer has misguided himself by taking into account the appreciation of the shares of RCIL on account of allotment of license and work done by RCIL for providing the basic telephone services in pursuant to the license while working out the valuation prior to all these development.
6.3 Further, when the assessee was not having any direct business relation or having any business or carried out any business with RCIL either in the past or during the year in question or in subsequent year then it cannot be said that there exist any business or profession relationship between the assessee and RCIL. RCIL and other Reliance group of companies are independent entities and even for taxation purposes, they are separate and independent persons; therefore, any business or professional relationship of the assessee with the RIL could not automatically create any business or professional relationship between the assessee and RCIL. Therefore, provisions of section 28(iv)cannot be applied in the case of the assessee.
7. In view of the above discussion, we hold that the value estimated by the Assessing Officer of the
shares of RCIL on 2.4.2001 @ Rs. 15/- per share is highly unrealistic, arbitrary and without any
acceptable basis but on the basis of some future events, which could not influence the value of the
shares prior to the date of such development. Accordingly, we do not find any error or illegality in the order of the ld CIT(A).
8. In the result, the appeal filed by the revenue is dismissed.
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