Commissioner of Income Tax vs Harikishan Jethalal Patel

A.M. Ahmadi, J.—The assessee is a member of a Hindu undivided family. The said Hindu undivided family had received agricultural land on

partial partition of the bigger-Hindu undivided family some time in October, 1955 (S. Y. 2011). Expect for carrying out certain agricultural

operations, this land was not put to any other use. It is the case of the assessee that on February 8, 1975, this land was converted into stock-in-

trade in the books of the assessee and the said stock-in-trade was transferred on the very same day as contribution of the Hindu undivided family

in the partnership firm of Messrs. H. J. Traders wherein the Hindu undivided family had 28 paise in a rupee as share in the profit and loss of the

said partnership firm. The value of the transferred land was taken as Rs. 1,99,045 was against its original cost of Rs. 17,817. The sum of Rs.

1,99,045 was credited to the account of the Hindu undivided family in the partnership firm as contribution towards capital.

The assessee, a member of the Hindu undivided family, filed a return declaring the taxable income at Rs. 17,515 for the assessment year 1976-

While filing the said return, the assessee did not show any income from the partnership firm of Messrs. H. J. Traders. However, in the course

of hearing and during scrutiny, it was released that the firm of Messrs. H. J. Traders was assessed to tax for the assessment year 1976-77 by the

Income Tax officer, Circle II, Ward J, Ahmedabad, by his order dated January 8, 1979. According to the said assessment order, the assessee had

earned a profit of Rs. 2,095 during the said assessment year. It was also realized that the assessee had on the transfer of the agricultural lands to

the firm of Messrs. H. J. Traders earned a profit of Rs. 1,81,229 (Rs. 1,99,045 - Rs. 17,817) which was exigible to tax u/s 45 of the Income Tax

Act, 1961 (hereinafter called ""the Act""). Since the variation was likely to exceed Rs. 1,00,000, the Income Tax Officer prepared and forwarded

the draft of the proposed assessment order to the assessee on March 21, 1979, as required by sub-section (1) of section 144B of the Act. On

receipt of objections from the assessee, the Income Tax officer forwarded the draft order together with the objections to the Inspecting Assistant

Commissioner, AR. II, Ahmedabad, as required by sub-section (4) of the section 144B of the Act. The Inspecting Assistant Commissioner gave

the necessary directions as per his letter dated June 4, 1979. The Income Tax officer after giving an opportunity to the assessee of being heard

through his chartered accountant came to the conclusion that the agricultural land which was transferred by the Hindu undivided family to the

partnership firm constituted transfer of a capital assets within the meaning of section 2(14) read with section 2(47) of the Act and the profit realised

on the transfer thereof amounted to capital gains and was liable to tax u/s 45 of the Act. In the this view that he took, he added as amount of Rs.

1,32,172 after permitting admissible deductions for working out the net income of the assessee. The assessee''s net total income was assessed at

Rs. 1,54,782 and the Income Tax officer directed demand notice and challan to issue after adjusting pre-paid taxes, it any, and further directed

initiation of penalty proceedings u/s 271(1)(C) of the Act for concealment of income from Messrs. H. J. Traders.

Feeling aggrieved by this order passed by the Income Tax Officer on June 8, 1979, the assessee preferred an appeal which was allowed by the

commissioner of Income Tax (Appeals), Ahmedabad, on March 9, 1981. The commissioner of Income Tax (Appeals) came to the conclusion that

since the land in question was never put to any use other than agricultural use and since the assessee was not carrying on business of dealing in land

or developing land, he could not have turned the capital asset into stock-in-trade since there cannot be stock-in-trade without an existing business.

He, therefor, concluded that at the time when the land came to be transferred to the partnership firm as contribution towards capital, it was not

stock-in-trade but continued to be capital assets. Relying on the decision of the Income Tax Appellate Tribunal, Ahmedabad Bench, in I.T. A No.

851/AHD of 1979, the commissioner of Income Tax (Appeals) came to the conclusion that there was no transfer within the meaning of section

2(47) of the Act and, therefore, the assessee could not be said to have earned a profit on transfer so as to attract the provisions of section 45 of

the Act.

The Revenue, feeling aggrieved by this order of the Commissioner of Income Tax (Appeals), carried the matter in further appeal to the Income

Tax Appellate Tribunal. The ground raised in the appeal before the Tribunal was whether the Commissioner of Income Tax (Appeals) had erred in

law in holding that there was no transfer within the meaning of section 2(47) of the Act when the assessee contributed the agricultural land to the

firm of Messrs. H. J. Traders. At the time of hearing before the Tribunal, the department representative submitted that the questions was required

to be answered in favour of the Revenue in view of the decision of the Supreme Court in Sunil Siddharthbhai Vs. Commissioner of Income Tax,

Ahmedabad, Gujarat, . He further requested the Tribunal that the matter should be remanded for further processing on the basis of fresh facts with

a view to finding out the genuineness of the transaction and the firm. This request was made on the basis of the observations made by the Supreme

Court on page 523 of its judgment in the case of Sunil Siddharthbhai Vs. Commissioner of Income Tax, Ahmedabad, Gujarat, . The Tribunal

confirmed the decision of the Commissioner of Income Tax (Appeals) on the basis of the aforesaid judgment of the Supreme Court on the premise

that even though there was a transfer of a capital asset, its value could not be evaluated and the book entry of Rs. 1,99,045 could only be taken to

be notional.

The Tribunal refused to accede to the request for remanding the matter for an inquiry into the genuineness of the transaction and the firm as

requested by the departmental representative. In the view that the Tribunal took, the appeal was dismissed.

The Revenue sought a reference u/s 256(2) of the Act. The question which arises for our consideration in this reference is as under :

Whether, on the facts and in the circumstances of the case, the Appellate Tribunal is right in law in not remanding the matter to the Income Tax

Officer for redeciding the issue on the basis of the decision of the Supreme Court in the case of Sunil Siddharthbhai Vs. Commissioner of Income

Tax, Ahmedabad, Gujarat, ?

For the reasons which we shall presently state, we are of the view that the aforesaid question must be answered in favour of the assessee and

against the Revenue.

In the case of Sunil Siddharthbhai Vs. Commissioner of Income Tax, Ahmedabad, Gujarat, , the assessee, a partner of firm ""S"", made over

certain shares of limited companies which were held by him as his capital asset to another firm as his contribution to the capital in the other firm.

The book value of these shares in his account books was shown to be Rs. 1,49,819 but on the date when he contributed those shares to the

partnership firm, he revalued the shares at the market value of Rs. 1,60,279 and credited the resulting difference of Rs. 10,460 to his capital

account. The Income Tax Officer while drawing up the assessment order for the assessable income. The Commissioner of Income Tax was,

however, of the opinion that the difference between the market value of the shares and the cost of acquisition of the shares should have been

brought to tax as capital gains u/s 45 of the Act. Exercising his revisional jurisdiction, he reopened the assessment and remanded after computing

the capital gains arising on transfer. On appeal by the assessee, the Appellate Tribunal held that while the transaction did amount to a transfer u/s

2(47) of the Act, it did not result in capital gains liable to tax. The Appellate Tribunal, therefore, allowed the appeal and set aside the order of the

Income Tax officer. On a reference u/s 256(2), two questions arose for consideration :

(1) Whether, on the facts and in the circumstances of the case, the Income Tax Appellate tribunal was right in law in holding that no capital gains

resulted from the transfer of the shares held by the assessee to the partnership firm as his capital contribution, the cost of acquisition of the shares

to the assessee being Rs. 1,49,819 and the market value of the shares being Rs. 1,60,279 ?

(2) Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that there was a transfer within the meaning

of clause (47) of section 2 of the Income Tax Act, 1961, of the shares contributed by the assessee as capital to the partnership firm in which he

was a partner ?

The High Court answered the questions in favour of the Revenue and against the assessee. The matter was carried in appeal to the Supreme

Court. The Supreme Court took the view that when a partner brings in his personal asset into a partnership firm as his contribution to its capital, an

asset which originally was subject to the entire ownership of the partner, becomes subject to the rights of other partners. It is, however, not an

interest which could be evaluated immediately, it is an interest which is subject to the operation of future transactions of the partnership, and it may

diminish in value depending on accumulating liabilities and losses with a fall in the prosperity of the partnership firm. The evaluation of a partner''s

interest takes place only when there is a dissolution of the firm or upon his retirement from it. Therefore, the credit entry made in the partner''s

capital account in the books of the partnership does not represent the true value of consideration. It is only a notional value intended to be taken

into account at the time of determining the value of the partner''s share in the partnership assets on the date of dissolution or on the partner''s

retirement. It is not possible to predicate what will be the position in terms of monetary value of a partner''s share on that date. All that lies within

the womb of the future. Therefore, the Supreme Court was of the view that the consideration which a partner acquires on making over his personal

asset to the firm as his contribution to its capital cannot fall within the terms of section 48 and consequently it must fall outside the purview of

section 45 also. The Supreme Court, therefore, came to the conclusion that (i) there was a transfer of the shares when the assessee made them

over to the partnership firm as his capital contribution, and (ii) the assessee received no consideration on such transfer within the meaning of section

48 of the Act nor did any profit or gain accrue to him for the purpose of section 45 of the Act. However, while parting with the matter, the

Supreme Court made the following observation which emboldened the departmental representative to seek a remand for a further inquiry into the

genuineness of the transaction and the firm (p. 523) :

We have decided these appeals on the assumption that the partnership firm in question is a genuine firm and not the result of a sham or unreal

transaction and that the transfer by the partner of his personal asset to the partnership firm represents a genuine intention to contribute to the share

capital of the firm for the purpose of carrying on the partnership business. If the transfer of the personal asset by the assessee to a partnership in

which he is or becomes a partner is merely a device or ruse for converting the asset into money which would substantially remain available for his

benefit without liability to Income Tax on a capital gain, it will be open to the Income Tax authorities to go behind the transaction and examine

whether the transaction of creating the partnership is a genuine or a sham transaction and, even where the partnership is genuine, the transaction of

transferring the personal asset to the partnership firm represents a real attempt to contribute to the share capital of the partnership firm for the

purpose of carrying on the partnership business or is nothing but a device or ruse to convert the personal asset into money substantially for the

benefit of the assessee while evading tax on a capital gain. The Income Tax Officer will be entitled to consider all the relevant indicia in this regard,

whether the partnership is formed between the assessee and his wife and children or substantially limited to them, whether the personal asset is sold

by the partnership firm soon after it is transferred by the assessee to it, whether the partnership firm has no substantial or real business or the

record shows that there was no real need for the partnership firm for such capital contribution from the assessee. All these and other pertinent

considerations may be taken into regard when the Income Tax Officer enters upon a scrutiny of the transaction, for, in the task of determining

whether a transaction is a sham or illusory transaction or a device or ruse, he is entitled to penetrate the veil covering it and ascertain the truth.

It was, therefore, contended by learned counsel for the Revenue before us that unless the matter is remanded, the Income Tax Officer will have

no opportunity to examine whether the transaction of transferring a capital asset, namely, agricultural land, was genuine or examine the genuineness

of the firm itself. It will thus be seen that the question posed for our decision is solely based on the general observations of the Supreme Court

quoted above. It must at the same time be realised that the Supreme Court did not remand the matters in appeal before it to the Income Tax

Officer for scrutinizing the genuineness of the partnership as well as the transaction.

In the present case, it must be realised that the Income Tax Officer never doubted the genuineness of the firm or the genuineness of the

transaction in question. If he had doubted the genuineness of the firm or the genuineness of the transaction, there would have been no occasion for

him to vary the income of the assessee by adding the amount of capital gains for working out the net taxable income for the assessment year 1976-

If the firm was not genuine or if the transaction was not genuine, there would be no question of the assessee having earned profit which could

be brought to tax as capital gains within the meaning of section 45 read with section 48 of the Act. It was only because the Income Tax Officer

thought that the transaction in question was a genuine transaction and the agricultural land was transferred to the firm, the genuineness whereof was

not in doubt, that the Income Tax Officer, after deducting the cost of acquisition of the land, computed the capital gain at Rs. 1,32,172 and added

the same to the net income of the assessee for the assessment year 1976-77. The genuineness of the firm as well as the transaction was, therefore,

never in doubt; in fact, the Income Tax Officer proceeded on the premise that the firm as well as the transaction was genuine and taking the price

of the agricultural land on transfer at Rs. 1,99,045, he computed the capital gains in the hands of the assessee u/s 48 of the Act. If the Supreme

Court had not come to the conclusion that the amount credited in the account books of the partnership as the price of the land was merely notional,

the question of remanding the matter for examining the genuineness of the firm as well as the transaction would never have arisen. It is true that in a

given case the genuineness of the firm and/or the transaction may be doubted and may require scrutiny, but in the present case, there existed no

such doubt throughout the proceedings but merely because of the observations of the Supreme Court reproduced earlier, the departmental

representative argued before the Appellate Tribunal that the matter should be remanded for further processing on the basis of fresh facts for finding

out the genuineness of the transaction and the firm. It is obvious from the demand made before the Appellate Tribunal that the Revenue desires to

examine the genuineness of the firm and the transaction on fresh facts, for the existing facts not even remotely create the existing facts, for the

existing facts do not even remotely create any doubt regarding the genuineness of the firm and/or the transaction. The question then is, whether, in

these circumstances, it would be permissible to grant a second innings to the Revenue to introduce new facts for the purpose of deciding the

genuineness of the firm and/or the transaction. What the Revenue desires is an opportunity for a shot in the dark without there being any

foundational facts on record. A mere fishing inquiry is contemplated on remand in the hope of digging out material which would throw a doubt on

the genuineness of the firm and/or the transaction. If the demand is conceded, it would mean that all cases concluded by the decision of the

Supreme Court in Sunil Siddharthbhai Vs. Commissioner of Income Tax, Ahmedabad, Gujarat, , would be reopened in the mere hope that the

Revenue may be able to fish out material casting a doubt on the genuineness of the firm and/or the transaction. Hundreds of cases which stand

finally settled by the above decision of the Supreme Court and in which no foundational facts exist for doubting the genuineness of the firm and/or

the transaction would on remand be reopened to enable the Revenue to make a fishing inquiry. The result would be that hundreds of assessee

would be unnecessarily vexed and put to avoidable hardship. We are, therefore, of the opinion that in cases where foundational facts do not exist

raising even a remote doubt regarding the genuineness of the firm and/or the transaction in question, a second innings should not be permitted to the

Revenue as it would result in avoidable hardship and harassment to hundreds of assessees whose cases stand covered by the aforesaid decision of

the Supreme Court.

In Commissioner of Income Tax, Gujarat Vs. Dhirajben R. Amin, , the question which arose for consideration was whether donations in kind

fall outside the purview of section 80G of the Act. This court took the view that in deciding whether the donation is in cash or in kind, the

substance of the transaction has to be examined and if the court is satisfied that it is essentially a donation in cash and not in kind, it will grant rebate

admissible u/s 80G of the Act. In that case, the court came to the conclusion that the donation was in kind and not in cash and hence the assessee

did not qualify for rebate u/s 80G of the Act. Thereupon the assessee''s counsel made a request that the assessee should be given an opportunity to

prove that in substance the donation was in cash and not in kind. Dealing with this request, this court observed as under (at p. 886) :

We are afraid we cannot permit the assessee to make out a totally new case at this belated stage which would run counter to the stand taken

before the authorities below. The statement of case clearly shown that the assessee donated shares and not cash. We, therefore, cannot accede to

the assessee''s request to permit her to a second round of litigation by remanding the case with a view to giving her an opportunity to make out a

case, hitherto not pleaded, that the donation, though ex facie of shares, was in substance of cash.

In the present case also, as pointed out earlier, the Income Tax Officer never doubted the genuineness of the firm and/or the transaction. On

the record, there is no material whatsoever to doubt either. What the Revenue desires is a remand so that it may, on introduction of fresh facts, if

any, examine the genuineness of the firm and/or the transaction. Even at present, it is not the case of the Revenue that it has come into possession

of fresh facts which cast a doubt on the genuineness of the firm and/or the transaction. The Revenue wants to take a shot in the dark hoping that it

may on remand be able to dig out fresh facts which may cast a doubt on the genuineness of the firm and or the transaction. It is merely a possibility

and that too not supported by an iota of material. The Revenue desires to enter upon a mere fishing inquiry hoping that in the course of the inquiry

some material may fall into its hands which may throw a doubt on the genuineness of the firm and/or the transaction. We are afraid that such a

fishing inquiry which would cause considerable harassment, hardship and expenditure to the assessee cannot be permitted on the mere possibility

or hope that some facts may emerge which may cast a doubt on the genuineness of the firm and/or the transaction. We are, therefore, of the view

that such a fishing inquiry ought not to be allowed.

In view of the above, we answer the question raised for our decision in the affirmative, that is, against the Revenue and in favour of the

assessee. The reference is disposed of accordingly with no order as to costs.