M/s Jindal Equipment Leasing Consultancy Services Ltd. vs Commissioner of Income Tax Delhi – II, New Delhi

100 shares of JFAL – During the relevant assessment year, the appellants claimed exemption u/s.47(vii), I.T. Act in respect of the receipt of JSL shares in lieu of JFAL shares, treating the same to be capital assets – Exemption denied by Assessing Officer holding that the shares of JFAL constituted stock-in* Author trade in the hands of the appellants and taxed the difference between the value of the JSL shares (as on the appointed date) and the book value of JFAL shares – Order upheld by CIT(A) – However, Tribunal allowed the assessees’ appeals – Appeals filed by Revenue – High Court set aside the Tribunal’s order and remitted the matter for fresh consideration – Challenge to: Held: Judgment of the High Court affirmed – s.28 is of wide import and encompasses all profits and gains arising in the course of business, even when such profit is realised in kind – The statutory substitution of shares of the amalgamating company by shares of the amalgamated company is not a mere neutral replacement; where the new shares are freely marketable and possess a definite commercial value, the event constitutes a commercial realisation giving rise to taxable business income – Such profit need not await actual sale if the benefit received is real and presently realisable – Where the shares of an amalgamating company, held as stock-in-trade, are substituted by shares of the amalgamated company pursuant to a scheme of amalgamation, and such shares are realisable in money and capable of definite valuation, the substitution gives rise to taxable business income within the meaning of s.28 – However, the charge u/s.28 is attracted only upon the allotment of new shares – At earlier stages namely, the appointed date or the date of court sanction, no such benefit accrues or is received – The receipt of shares of the amalgamated company in substitution of stock-in-trade can give rise to taxable business profits u/s.28 – However, the actual application of this principle to the facts of the present case, including whether the shares received are freely realisable or otherwise subject to restrictions, or whether the shares are held only as investment requires factual determination – Matter remitted to the Tribunal for fresh adjudication in accordance with law. [Paras 29-31, 33] Income Tax Act, 1961 – s.28 – Profits and gains of business or profession – Scope of – Explained. [Paras 15-15.3, 18.3-18.6] Income Tax Act, 1961 – s.28 – Profits and gains of business or profession – Governing test u/s.28 – Is not the presence of a sale, exchange, or extinguishment of rights in the technical sense, but whether the assessee has, in consequence of business operations, come into possession of a real and presently realisable commercial benefit – This may take the form of money directly received, or assets in kind capable of being immediately disposed of for money’s worth – Therefore, the shares must be readily available for trading to be treated as stock-in-trade:

Held: The true test u/s.28 is not the legal label of “exchange” or “transfer”, but whether the assessee, in consequence of the amalgamation and thereby of its business, has obtained a profit that is real and presently realisable – The well-known real-income principle must be applied – Therefore, the enquiry for the Court is whether, as a result of the amalgamation, the assessee has in fact realised a profit in the commercial sense – This assessment may turn on whether, (a) The old stock-in-trade has ceased to exist in the assessee’s books; (b) The shares received in the amalgamated company possess a definite and ascertainable value; and (c) The assessee, immediately upon allotment, is in a position to dispose of such shares and realise money – If these conditions are satisfied, the substitution bears the character of a commercial realisation and the profit may be taxed u/s.28 – Where, however, the allotment of shares is merely a statutory substitution mandated by the scheme of amalgamation, without yielding an immediately realisable benefit, no income can be said to accrue or be received at that stage, and taxability arises only upon the eventual sale of the shares – What must be established is that the transaction has the attributes of a commercial realisation resulting in a real and presently disposable advantage – Where this test is satisfied, taxability may arise at the stage of substitution – Otherwise, the accrual or receipt of income is deferred until actual sale. [Paras 18.3-18.6] Interpretation of Statutes – Income Tax Act, 1961 – s.28 – Profits and gains of business or profession – Charging provisions, though construed strictly, are not to be read narrowly when the language of the provision itself is wide:

Held: The language of s.28 “the profits and gains of any business or profession” is deliberately wide, i.e., the charge itself is cast in wide terms – Charging provisions, while construed strictly, are not to be read in an unduly narrow manner when the language of the provision itself is wide. [Para 15]

Income Tax Act, 1961 – s.28 – Profits and gains of business or profession – Amalgamation – Whether there is receipt or accrual of income upon amalgamation; Commercial realisability; Definite valuation – Real Income Principle: Held: In the context of amalgamation, what transpires is essentially a statutory substitution of one form of holding for another – The shareholder’s interest in the transferor company is replaced by a corresponding interest in the transferee company – For the purposes of s.28, the first test is whether such substitution constitutes either a receipt or an accrual of income – The general position, nevertheless, is that what the law recognises in amalgamation is the receipt of shares in substitution of trading assets – Further, mere receipt of shares does not suffice to attract s.28; commercial realisability is also required when income is received in kind – Amalgamation is to be understood as a statutory substitution of holdings, and not as an “exchange” in the legal sense – Profit must be capable of definite valuation, so that the real gain or loss stands crystallized – The test is not satisfied merely by the receipt of realisable shares in substitution of earlier holdings; such shares must also be capable of quantification – Therefore, what attracts s.28 is the receipt of shares coupled with their present realisability and their nexus with business – These three conditions- actual receipt, present realisability, and ascertainability of value- together determine the timing of taxability in cases of amalgamation – The profit arising on receipt of the amalgamated company’s shares may be taxed u/s.28 where the shares allotted are tradable and possess a definite market value, thereby conferring a presently realisable commercial advantage – Where such attributes are absent, the Court cannot, by analogy, extend s.28 to tax hypothetical accretions in the absence of an express statutory mandate – The enquiry whether, consequent upon an amalgamation, the allotment of new shares has resulted in a real and presently realisable commercial benefit must be determined on the facts of each case – The burden lies on the Revenue to establish the same – It is thereafter for the Tribunal, as the final fact-finding authority, to apply these principles to the evidence on record. [Paras 17-18.1, 24, 24.2, 24.3] Words and Phrases – ‘Amalgamation’ – Concept and legal character, discussed:

Held: Amalgamation, in corporate law, signifies the statutory blending of two or more undertakings into one – The transferor company ceases to exist as a separate corporate entity, its business, assets, and liabilities are absorbed into and continue within the transferee – Amalgamation- ordinarily effected through a scheme of compromise or arrangement sanctioned by the Court or Tribunal is founded on agreement between shareholders and creditors, but its legal effect is statutory: upon sanction, all assets, rights, and liabilities of the transferor vest in the transferee by operation of law – Amalgamation is more than a mere contractual transfer; it is a statutory process of substitution – Notwithstanding its statutory character, amalgamation does involve a “transfer” within the meaning of the Income-tax Act. [Paras 16, 16.1-16.4, 18.2] Income Tax Act, 1961 – s.28 – Plea of the appellants that even if the fair market value of the shares allotted in the amalgamated company exceeded the book value of the shares held in the amalgamating company, such excess would be merely hypothetical and illusory until the shares were sold, given that market value is inherently fluctuating: Held: The test u/s.28 is not postponed until an actual sale, but is satisfied once the assessee comes into possession of an asset of determinable and presently realisable value in substitution of its trading stock – The fact that such value may fluctuate subsequently does not render the benefit unreal; valuation for tax purposes is always carried out at a particular point in time, notwithstanding subsequent volatility – What matters is that, on the date of allotment, the assessee must have received realisable instruments capable of being valued in money’s worth, and such receipt constitutes a real, and not a notional, commercial gain. [Para 26] Income Tax Act, 1961 – s.47(vii):

Held: There is a difference between a charging provision and an exemption provision – A provision that enables the levy of tax on a particular transaction is a charging provision – Only a transaction that is covered by a charging provision is taxable – Only if the transaction is taxable can there be an exemption – Therefore, the transfer of shares arising out of an order of amalgamation, even if it is treated as a capital asset, is generally taxable but would be exempt from taxation only if both the requirements u/s.47 (vii) are satisfied. [Para 12]

Income Tax Act, 1961 – s.28 – Timing of taxability – Charge u/s.28 not attracted on the mere sanction of the scheme or on the appointed date:

Held: In the context of amalgamation, three points in time require to be distinguished – First, the appointed date specified in the scheme, which determines corporate succession and continuity between the transferor and transferee companies – Secondly, the sanction of the scheme by the Court, which gives statutory force to the amalgamation – At these stages, however, there is only a substitution of rights by legal fiction, without any asset in the hands of the shareholder capable of commercial exploitation – Thirdly, the allotment of new shares in the amalgamated company, which alone crystallises the benefit in the shareholder’s hands, for it is only then that the old stock-in-trade ceases to exist and is replaced by new shares of definite market value capable of immediate realisation – Thus, the charge u/s.28 is not attracted on the mere sanction of the scheme or on the appointed date, but only upon the receipt of the new shares, when the statutory substitution translates into a concrete, realisable commercial advantage. [Para 25] Income Tax Act, 1961 – ss.28, 47 – Exemption in respect of capital assets – Rationale – Distinction between capital and business assets:

Held: s.47 expressly carves out an exemption in respect of certain transfers in the context of amalgamation, but that exemption is confined to capital assets – The rationale is plain – Where a shareholder holds shares as an investment, the underlying object is to remain invested in the corporate venture, and a mere amalgamation ordinarily does not alter that position – While the possibility of tax avoidance in the investment field cannot be ruled out altogether, the legislative judgment reflects that the risk is relatively low – Thus, the exemption u/s.47 is founded on the recognition that amalgamation, in the capital field, is essentially a corporate restructuring and not a true realisation of profit – It is also common in business parlance for entities to hold shares either as investments or as stock-in-trade – By contrast, s.28, which governs profits of business, contains no such carve-out, nor could it be otherwise – The nature of stock-in-trade is wholly different from that of an investment – Stock-in-trade represents circulating capital: it is held not for preservation or appreciation, but for conversion into money in the ordinary course of business – Thus, while the Act makes an express exception for amalgamation of capital assets, no such exception is contemplated in the case of business assets. [Paras 27, 27.1, 27.4]