Yama Finance Ltd. vs Assistant Commissioner of Income Tax

The assessee/appellant is aggrieved by an order of the ITAT dated 30.03.2010 whereby its appeal was rejected. The question of law urged which this Court formulates hereby is--

"Did the Tribunal fall into error in holding that the sum of Rs. 58,71,144/- reported as long term capital gain by the assessee was to be treated as its business income?"

The facts briefly for the purpose of this appeal are that the assessee deals in shares. It declared a total income of Rs. 83,78,279/-. During scrutiny, it was discerned that the assessee had also invested and sold mutual funds apart from shares. The AO also found that the assessee derived income from interest, dividend and surplus realized on sale of shares and mutual funds. As to the precise issue of the sale of mutual funds, the facts appearing on the record are that the assessee had invested in these funds and shown them in its investment account and had not characterized it as stock-in-trade. This position apparently had been reported and accepted for the previous years. Furthermore, it appears that the assessee held its mutual funds for about two years before eventually redeeming them. The assessee had contended that the surplus from the sale of these mutual funds had to be treated as long term capital gain and not business income. The AO had rejected this.

The CIT(A), however, after analyzing the transactions involved allowed the appeal.

The ITAT, however, allowed the Revenue''s appeal holding that the profits from the sale of these mutual funds amounted to business income.

Learned counsel highlights that apart from the fact that the mutual funds were held for almost two years, other indicators clearly showed that the transactions did not result in business income. It was submitted that the mutual funds units were not tradable and had to be redeemed from the issuing concern or the fund house. Furthermore, submitted learned counsel, that no borrowed funds had been used and right through the accounts kept in these mutual funds have been clearly demarcated as investments. The Tribunal''s undue emphasis on the infrastructure was a wholly irrelevant factor.

Learned counsel for the Revenue supported the findings of the Tribunal and stated that the mere circumstance that the assessee showed the mutual funds in the investment account could not be conclusive of these aspects. It was also submitted that there was some doubt as to whether the assessee was even authorized in terms of its Memorandum of Association to deal in mutual funds. Having regard to these, the conclusions arrived at by the ITAT were justified.

The CIT (A) in his order recorded as follows:--

"(i) Assessee has employed its own funds out share capital and accumulated free reserves that there was no borrowing at any time.

(ii Assessee''s is lacking proper infrastructure and is only holding Rs. 2.02 lacs (WDV Rs. 1.39 lacs) worth of fixed assets.

(iii) Assessee has only one employee to whom an aggregate salary of Rs. 60,000 has been paid.

(iv) Assessee''s treatment of mutual fund as investment is consistent since 2002-03, even when no special privileges of any tax concession was available. Merely because subsequently assessee is entitled to some benefits/tax concessions, the whole transaction cannot be now pulled under the umbrella of Business.

(v) Auditors report and balance sheet as per schedule VI to the companies has identified units of mutual fund as ''investments'' categorically stating that company is not holding any stock-in-trade.

(vi) Units of mutual funds are not freely transferable nor tradable and thus cannot be categorized as Business. These units can be bought or redeemed with mutual fund itself. It cannot be gifted or transferred in any other manner.

(vii) The key decision making authority rest with the fund manager of the respective mutual fund and assessee do not have any say as to when to buy, what to buy, when to sell and what to sell.

(viii) Assessee''s case of transactions in Mutual Funds resulting in capital gains has already been held in its favour in AY 2004-05 in appeal No. 112/2006-07 by my predecessor.

(ix) Most of the investments in mutual fund schemes have been held for a considerable time and as far as 27 months, thus frequency is restricted."

This Court also notices that the CIT (A) noted in the order that the Income Tax Act itself recognized units of mutual funds as a special category of "investments" as far as trusts were concerned, u/s. 11(5) which placed this in an entirely separate class. He, therefore, reasoned that investments in mutual funds are of an entirely different kind and cannot be clubbed with sale of shares or commodities. This Court is inclined to agree with this finding and conclusions expressed on the application of the clearly recognised tests to determine whether profits or amounts received are business income or short/long term capital gains.

One often underlined and widely used test is the "volume, frequency, continuity and regularity" of the transactions test. This is in addition to other indicia such as maintenance of separate portfolios in the same set of books of account for "investments" or maintenance of separate books of account for the two activities, and whether borrowed capital was used.

Having regard to these and the further fact that the assessee had kept these amounts separately in an investment account and held these mutual funds for about two years, this Court is of the opinion that the Tribunal clearly fell into error in holding that the amount of Rs. 58,71,144/- was business income and not long term capital gains as was rightly concluded and held by the CIT(A). For these reasons, the question of law framed is answered in favour of the assessee and against the Revenue. The appeal is accordingly allowed in the above terms.