Commissioner of Income Tax vs A. and F. Harvey Ltd.

Thanikkachalam, J.—This is a reference at the instance of the department u/s 256(1) of the income tax Act, 1961 (''the Act''), in which the

question referred for our consideration is ""Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that but for

the fact that the original assessment has adopted a loss of Rs. 13,028 under the head ''Capital gains'' the actual loss that would have qualified for

set off would have been Rs. 13,99,887. The assessee is a public limited company. The accounting period relevant to the assessment year 1968-69

under consideration ended on 5-4-1968. The original assessment in this case was completed on 22-10-1968. In making the original assessment on

22-10-1968, the ITO computed the loss under the head ''Capital gains'' as under :

Rs.

Capital gains as returned : 2,83,596.00

Less: Previous year''s loss set off : 2,96,624.00

Balance loss to be carried forward : 13,028.00

Thereafter, the ITO reopened the assessment u/s 147(b) of the Act. In making the reassessment, the ITO computed the capital gains at Rs.

2,83,596. This the ITO has done by relying on the detailed reasons given by him in the assessment for the assessment year 1966-67, wherein the

carried forward loss was not given a set off. As against the assessment made in the assessment year 1966-67, there was an appeal to the AAC,

who held that the assessee was not entitled to carry forward the loss and the further appeal to the Tribunal was withdrawn on this point. However,

in the assessment year under consideration the assessee appealed to the AAC and submitted that the capital gains would not be the entire receipts

of Rs. 2,83,596, but the capital gains ought to have been computed in accordance with the provisions of the Act.

In the assessment year 1968-69, the assessee received disbursement of certain amounts from the official liquidator from the following three

private limited companies as under:

(1) The Comorin Investment & Trading Co. (P.) Ltd.:

The assets received from the liquidator in February 1960 against the company''s holding of 3,000 fully paid equity shares of Rs. 100

each.

Rs.

Madura Mills shares in specie at Rs. 30 per share : 8,66,670.00

Cash: 6.10

8,66,676.10

Less: Net value of section 2(6A) dividend accounted for in profit and loss account as a

revenue receipt after tax deduction at source : Rs.

1,83,154.41

Balance representing capital assets : 6,83,521.69 (1)

Cost of acquisition of 3000 shares 9,36,690.00 (2)

acquired before 1-1-1954:

Capital loss (2 minus 1): 2,53,168.31 (A)

(2) Harveys (P.) Ltd.

Assets received from the liquidator, in February 1960 against the company''s holding of 500

fully paid equity shares of Rs. 100 each :

i. 35,370 Madura Mills shares in Rs

specie at Rs. 30 per share: 10,61,100.00

ii. To cash: 20.14

10,61,120.14

Less : Net value of section 2(6A) dividend accounted for in profit and loss account as revenue

receipt after tax deduction at source:

2,353.55

Balance representing capital receipt 10,58,766.59 (3)

Cost of acquisition of 7,500 shares 9,35,000.00 (4)

Capital gains(3 - 4): 1,23,766.59 (B)

(3) Indian Mills Supply Co. (P.) Ltd.

Assets received from the liquidator in February 1960 against company''s holding of Rs. 280

fully paid equity

shares of Rs. 100 each :

i. 425 Pandyan Weaving Mills share Rs.

in specie at Rs. 100 per share : 42,500.00

ii. Cash: 62.43

Total 42,562.43

Less : Net value of section 2(6A) dividend accounted for in profit and loss account as a revenue 4,749.68

receipt after tax deduction at source:

A. Balance representing capital receipt 37,813.75 (5)

B. Cost of acquisition of 281 shares : 61,892.92 (6)

Capital loss (6 minus 5): 24,079.17 (C)

As far as the capital gain on the sale of Binny shares amounting to Rs. 6,413 is concerned, there was no dispute. The AAC thereafter held that

the computation would have to be as under :

The Comorin Investment & Trading Co. (P.) Ltd:

Rs.

Cost of acquisition of the shares : 9,36,690.00

Less: Amount received on first distribution in 1960: 6,83,522.00

Unabsorbed cost of acquisition : 2,53,168.00

Second distribution in March 1968 : 74,520.00

Loss under the head ''Capital gains'' relating to the 2,53,168.00

assessment year 1968-69 :

Less: 74,520.00

1,78,648.00

Harveys (P.) Ltd. :

Cost of acquisition 9,35,000.00

Less: Amount received on first distribution in 1960 : 10,58,767.00

Surplus : 1,23,766.00

The AAC, however, ultimately came to the conclusion that this amount could not be subjected to tax u/s 12B(2) of the Indian income tax Act,

1922, in view of the decision of the Supreme Court in Commissioner of Income Tax, Madras Vs. Madurai Mills Co. Ltd., . Therefore, according

to the AAC since the full cost of acquisition had been recouped on the first distribution, the amount of Rs. 2,02,250 received in March 1968 on

account of second distribution is assessable in full. Insofar as the share of the Indian Mill Supply Co. (P.) Ltd. is concerned, even after taking into

account the first distribution there was an unabsorbed deficit in the cost of acquisition of Rs. 2,04,079. According to the AAC, this had to be set

off against the amount of Rs. 313 received as distribution in March 1968 and accordingly arrived at a balance loss of Rs. 23,466.

Thus, insofar as Comorin Investment & Trading Co. (P.) Ltd. is concerned, capital gain was nil and the net capital loss was Rs. 1,78,648.

Insofar as Harveys (P.) Ltd. is concerned, the net capital gain is Rs. 2,02,050 and there is no capital loss. Insofar as Indian Mills Supply Co. (P.)

Ltd. is concerned, there is no capital gain but there is only a net capital loss of Rs. 23,466. In Binny''s, the net capital gain was Rs. 6,413.

Therefore, the total gain was Rs. 2,08,463 and the total net capital loss was Rs. 2,02,114. Finally the net capital gain was arrived at is Rs. 6,349.

Aggrieved, the assessee filed an appeal before the Tribunal. Before the Tribunal, the assessee contended that since the first distribution was

received in 1960, i.e., prior to the coming into force of the Act, no adjustment should be made in respect of any amount received by way of first

distribution. According to the assessee, it is only the second distribution made in March 1968, that would come under the purview of the Act,

which was received in the assessment year 1968-69. According to the assessee while computing the capital gain u/s 46(2) on the amount

distributed by the official liquidator in March 1968; the cost of acquisition has got to be deducted. In this process, the assessee submitted that the

cost of acquisition was to be the original cost of shares where shares were acquired after 1-1-1954 and in the case of shares which were acquired

prior to 1-1-1954, the cost of acquisition would be the substituted market value as on 1-1-1954.

The assessee gave the working of the cost of acquisition in respect of the shares of the three companies as under:

Comorin : Value of shares as on 1-1-1954 Rs.

Co.

Rs. 312.23x3000 = 9,36,690

Harveys : Value of shares as on 1-1-1954

Rs. 137x5000 = 6,85,000

Actual cost of purchase of

shares: Rs. 100 x 25000 = 2,50,000

9,35,000

Indian : Value of shares as on 1-1-1954

Mills

Rs. 221.48x279= 61,793

Actual cost of purchase of Rs

shares : Rs. 100 x 1 = 100

61,83

The learned counsel for the assessee also gave a concession to the effect that he would not ask for reduction of the value of shares purchased

after 1-1-1954 either in the case of Harveys or in the case of Indian Mills. Therefore, in respect of Harveys, he would seek only for deduction of

market value as on 1-1-1954 of 5,000 shares, i.e., Rs. 6,85,000 included in the amount of Rs. 9,33,000 and in the case of Indian Mills, he would

seek for deduction only the value of 279 shares held on 1-1-1954, viz., Rs. 61,793 included in the value of Rs. 61,893. In the case of Comorin

Co., since all the shares were acquired prior to 1-1-1954, he was seeking for the full substituted market value of Rs. 9,36,690. According to the

learned counsel for the assessee, the cost of acquisition which the AAC has referred to in his order is the same aggregate cost of acquisition as

given by the assessee.

The contention of the learned counsel for the department was that there was no warrant for ignoring the first distribution made in the case of

each of the companies. According to the learned counsel for the department, the distributions have to be taken as an integral one whether such

distributions were prior to coming into force of the Act, or later and there was no warrant for making any dichotomy.

After considering the arguments advanced on both sides, the Tribunal held as under:

... At the time of the first distribution in the case of each of the companies in 1960 there was no statutory provision relating to deduction of the cost

of any capital asset because there was no statutory provision relating to assess ability of distributed amounts and deeming the same to be full value

of consideration for the purposes of capital gains. Hence, since only the general law has to be considered it is clear that though the distribution by

the liquidator may have been a capital receipt in the hands of the assessee in 1960 there was no question of deducting therefrom any cost of the

shares as cost of the capital asset. In view of this conclusion of ours the question of making any set off for cost of acquisition which should earlier

be considered to have been deducted does not arise. It is for the first time after coming into force of the Act of 1961 and in the present case when

the second distribution took place in March, 1968 that solely because of statutory provisions the question has arisen of deducting cost of

acquisition of the capital asset, i.e., the shares. Since this is the first occasion on which the question of such deduction has arisen it stands to reason

that the full cost of acquisition has to be deducted and in this case it will be the substituted market value as on 1-1-1954 of the shares referred to.

In the abovesaid view taken by the Tribunal it was held that while computing the capital gain u/s 46(2) of the income tax Act, 1961, in the

assessment year 1968-69 in the case of Comorin Investment & Trading Co. (P.) Ltd., out of the full value of consideration of Rs. 74,520, the cost

of acquisition of Rs. 9,36,690 should be deducted, then there will be a loss of Rs. 8,62,170. In the case of Harveys (P.) Ltd., the cost of

acquisition of 5,000 shares as computed according to the market value as on 1-1-1954 amounting to Rs. 6,83,000 should be deducted from the

full value of consideration of Rs. 2,02,050, then the loss would be Rs. 4,82,950. In the case of Indian Mills Supply (P.) Ltd., the full value of

consideration was Rs. 613 and the cost of acquisition of 279 shares as on 1-1-1954 would be Rs. 61,793. If that is so, in this case also the loss

would be Rs. 61,180. Thus, the aggregate loss according to the Tribunal under the head ''Capital gains'' would, thus, be Rs. 14,06,300 less profit

in Binny shares of Rs. 6,413 = Rs. 13,99,887.

Before us, the learned standing counsel for the revenue contended that while computing the capital gain u/s 46(2), in the assessment year under

consideration, i.e., 1968-69 no cost of acquisition can be deducted because according to the provisions of the abovesaid section, the cost of

acquisition and the dividend u/s 22(c) are permissible deductions only from the first distribution of the assets by the liquidator in the case where a

company has gone into liquidation. The learned standing counsel pointed out that in the instant case, the first distribution of assets from the

abovesaid three companies by the liquidator was in the year 1960 and if at all the assessee can claim the deduction of cost of acquisition it can be

only from the first distribution. The distribution made by the liquidator in the present assessment year under consideration, viz., 1968-69 was the

second distribution. Therefore, it was submitted that in this second distribution, the assessee is not entitled to deduction of cost of acquisition.

According to the learned standing counsel, if the assessee was unable to deduct the cost of acquisition from the first distribution then it amounts to

foregoing his right in that year of assessment. The learned standing counsel further submitted that if the deduction of cost of acquisition is given in

this assessment year, then there would be double deduction in the case of assessee in the assessment year under consideration, which the assessee

is not entitled to.

On the other hand, the learned counsel for the assessee contended that the first distribution by the official liquidator was in the year 1960 when

the Act was not in force. The learned counsel pointed out that in the year 1960, the concept of capital gain, cost of acquisition, full value of

consideration are not known and, therefore, there is no question of ascertaining the capital gain after deducting the cost of acquisition from the full

value of consideration arise in the year 1960. In such circumstances, in the case of the assessee the first distribution after coming into force of the

Act as per the provisions of section 46(2) would be the second distribution made by the official liquidator in the assessment year 1968-69. Since

the distribution made in this assessment year happens to be the first distribution, the assessee is entitled to the deduction of cost of acquisition from

the full value of consideration in accordance with the provisions of section 46(2). The learned counsel further pointed out that if the interpretation

given by the learned standing counsel is accepted, it will amount to giving retrospective effect to section 46(2).

We have heard the rival submissions made by the parties. The facts remain that in the assessment year 1968-69, the assessee received by way

of second and final distribution from the official liquidator in respect of Indian Mills Supply Co. (P.) Ltd., The Comorin Investment & Trading Co.

(P.) Ltd., and Harveys (P.) Ltd., a sum of Rs. 613, Rs. 74,520 and Rs. 2,02,050, respectively. The assessee contended that while computing the

capital gain for the assessment year 1968-69 under consideration as per the provisions of section 46(2), the cost of acquisition should be

deducted. According to the department, the assessee had already received the first distribution in the year 1960. The learned standing counsel for

the department contended that the assessee is entitled to deduction of cost of acquisition from the full value of consideration as per the provisions

of section 46(2), from the first distribution. The learned standing counsel pointed out that the distribution made by the official liquidator in the

assessment year 1968-69 cannot be the first distribution since the assessee had already received the first distribution in the year 1960. Therefore,

in the second distribution, the assessee is not entitled to get the deduction of cost of acquisition from the full value of consideration as per the

provisions of section 46(2).

It remains to be seen that when the assessee received the first distribution in the year 1960, the present income tax Act, 1961 was not in force.

Prior to the coming into force of the present Act the concept of capital gain, full value of consideration and cost of acquisition were not known and,

therefore, the question of ascertaining the capital gain after deducting the cost of acquisition from the full value of consideration does not arise.

Hence, such an ascertainment made by the ITO in his assessment order is not in accordance with law as it stood on that date. Therefore, after

coming into force of the Act, the first distribution in the case of the assessee herein as per the provisions of section 46(2) would be the second

distribution made in the assessment year 1968-69. If that is so, the assessee is entitled to claim deduction of cost of acquisition from the full value

of consideration, while computing the capital gains in the assessment year 1968- 69.

In this context, our attention was drawn to a decision of the Supreme Court in Madurai Mills Co. Ltd.''s case (supra). In construing the

provisions of section 12B, the Supreme Court held that:

The distribution of the assets of a company in liquidation does not amount to a transaction of sale, exchange, relinquishment or transfer so as to

attract section 12B of the income tax Act, 1922, as revived by the Finance (No. 3) Act, 1956, and no capital gains arise to the shareholders of the

company therefrom. (p. 45)

In order to understand the provisions contained in section 46(2), reliance was placed on the decision of this Court in COMMISSIONER OF

Income Tax, MADRAS-II Vs. M. A. ALAGAPPAN., . According to the facts appearing in this case :

The liquidator of a company which went into voluntary liquidation sold some assets of the company to a new company and in pursuance of such

sale the shareholders of the old company were allotted shares in the new company equal in number and face value to the shares held by them in the

old company. The liquidator thereafter distributed from time to time various sums to the shareholders out of the realisations in respect of the

remaining assets. The assessee received from the liquidator during the year of account relevant to the assessment year 1965-66 a sum of Rs.

8,331. As the assessee had already received the full value of his original investment in the form of shares in the new company at the first distribution

itself, the officer brought this sum of Rs. 8,331 to tax as capital gains u/s 46(2) of the income tax Act, 1961���� (p. 1000)

On these facts, this Court held as under :

1... that the distribution of assets of the company in liquidation does not amount to a transfer even under the extended definition of the word

''transfer'' in section 2(47);

section 46(1) is merely intended to make it clear that the company would not be liable for payment of any capital gains ;

that section 46(2) provides that the amount received by the shareholder shall be chargeable to income tax under the head ''Capital gains'' and

the amount to the extent it is not liable to be treated as dividend shall be deemed to be the full value of the consideration for purposes of section 48

and hence is an independent provision making the amounts received chargeable to income tax under the head ''Capital gains'' though it did not arise

from transfer of a capital asset;

accordingly, even if capital gains of the nature falling u/s 45 is alone included in the definition of income in section 2(24)(vi) and not any other

kind of capital gains, section 46(2) makes the amount received by a shareholder on the liquidation of a company chargeable to income tax under

the head ''Capital gains'' and hence it will have to be included in the total income of the assessee���. (p. 1000)

In this context, yet another decision brought to our notice was that in Commissioner of Income Tax, Tamil Nadu Vs. Inland Agencies P. Ltd., )

wherein while considering the provisions of sections 45, 46(1)/(2) and 48, this Court pointed out that in computing the capital gains u/s 46(2) on

amounts received by a shareholder on the liquidation of a company, the cost of acquisition of the capital asset, viz., the shares, and any cost of

improvement thereto will have to be deducted. If the payment by the liquidator is made in instalments, the cost of acquisition cannot be deducted at

every point of time when there is a receipt from the liquidator. It should be deducted from the earlier payments and once the cost of acquisition is

wiped out, any further sum received would be completely liable to tax as capital gains. This decision is also an authority for the proposition that

before coming into the force of the Act, the Court is not concerned with the computation of capital gain as contemplated u/s 46(2).

Thus, a plain reading of the provisions contained in section 46(2), in the light of the judicial pronouncements cited (supra), would clearly show,

that while computing the capital gains u/s 46(2), the cost of acquisition has got to be deducted from the full value of the consideration. Prior to the

coming into force of the Act, the concept of computation of capital gains does not arise. Therefore, in the instant case, the first distribution made by

the official liquidator, in the year 1960, before coming into force of the Act, cannot be taken into consideration for the purpose of computation of

capital gains u/s 46(2) in the assessment year 1968-69. While computing the capital gain in the case of the assessee herein in the assessment year

1968-69, cost of acquisition has got to be deducted from the full value of the consideration, which is the second and final distribution made by the

official liquidator in March 1968. In that view of the matter, we are of the opinion that the Tribunal was correct in computing the capital gains in the

case of the assessee in the assessment year 1968-69, in accordance with the provisions of section 46(2) after deducting the cost of acquisition

from the second and final distribution made by the official liquidator in March 1968, which is the full value of consideration.

However, we consider that the question framed and referred to us by the Tribunal, in this reference, does not reflect the real issue arising on

the facts and in the circumstances of the case. Therefore, considering the facts and circum stances arising in this case we reframe the question

comprehensively reflecting all facts as under :

Whether, on the facts and in the circumstances of the case the Appellate Tribunal was correct, while computing the capital gain u/s 46(2) of the

income tax Act, 1961, in the assessment year 1968-69, in the case of the assessee, in deducting the cost of acquisition of shares held in various

companies, from the full value of the consideration, viz., the second and final distribution made by the official liquidator in March 1968; even though

the assessee received the first distribution, from the official liquidator in the year 1960.

In the view that we have taken herein above, we answer the question referred to us in the affirmative and against the revenue. The assessee is

entitled to its costs. Counsel fee Rs. 500.