S/s. 28, 45 – For the purpose of deciding whether the Deep Discount Bond is a short term capital asset or a long term capital asset the holding period has to commence from the date of allotment of the DDB and not from the date of its listing on the National Stock Exchange.
Income does not accrue on a day to day or year to year basis on Optionally Fully Convertible Premium Notes where the terms of the issue provide that the holder of OFCPN could only in the last quarter of the 5th year decide to convert or not to convert the OFCPN into equity shares and in the event of his deciding not to convert the OFCPN into equity shares becomes entitled to Face value being a sum greater than issue price.
Facts I:
On 18-03-2002, the assessee sold 330 Deep Discount Bonds (DDBs) Series A of Nirma Ltd. of Rs. 330 lakh for a consideration of Rs. 4,02,92,630. The DDBs were allotted to the assessee vide letter of allotment dated 28-07-2000. The debenture trust deed was dated 27-04-2001 and certificate of holding to the assessee was issued on 10-05-2001. These DDBs were made available for dematerialisation on 24-09- 2001 and were listed in NSE on 20-09-2001.
The surplus arising on sale of DDBs was returned by the assessee as long term capital gain and benefit of section 54EC was claimed.
The Assessing Officer held that for deciding whether the DDBs are long term capital asset or short term capital asset the holding period should commence from the date of listing of the DDBs on NSE and not from the date of allotment as was the case of the assessee. He, accordingly, considered the gain to be short term capital gain and denied the benefit of section 54EC of the Act.
Aggrieved, the assessee preferred an appeal to CIT(A) who upheld the action of the AO.
Aggrieved, the assessee preferred an appeal to the Tribunal.
Held I :
The Tribunal observed that in the case of Karsanbhai K. Patel (HUF) (ITA No. 1042/Ahd/2006 dated 09-10- 2009; assessment year 2002-03) the Tribunal was considering an identical issue on identical facts. In the said case, the Tribunal held that the period of holding has to be counted from the date of allotment. Following the ratio of the said decision, the Tribunal held that the holding period be counted from the date of allotment. If the holding period was counted from the date of allotment, in the present case, the gain arising on transfer of DDBs would be long term capital gain and the assessee would be entitled to claim benefit of section 54EC. The Tribunal decided the issue in favor of the assessee.
Fact II:
The assessee held Optionally Fully Convertible Preference Notes (OFCPN) of Nirma Industries Ltd. which were acquired by the assessee on 25- 03-2002 i.e. after the date of issue of CBDT Circular No. 2 dated 15-02-2002. The assessee was following mercantile system of accounting.
The OFCPN were of the face value of Rs. 33,750 and were issued for Rs. 25,000. The Tenure was five years from the date of allotment. The terms of the issue provided that the investor had an option to put the OFCPN in the last quarter of 5th year. The investor also had an option to convert each of the OFCPN at the end of 5th year from the date of allotment into 2,500 equity shares of Rs. 10 each at par but no interest would be payable till maturity. If the assessee opts for conversion, it would get 2,500 equity shares of Rs. 10 each at par in lieu of one OFCPN of issue price of Rs. 25,000 and the assessee will not get any monetary gain in the form of interest or otherwise and only if the assessee does not exercise this option then the assessee will get Rs. 33,750 after the expiry of the period of 5 years from the date of allotment.
In view of the terms of the issue, the assessee was of the view that no interest accrued on day to day basis or on year to year basis. However, the Assessing Officer (AO) made an addition of Rs. 47,812 to the total income of the assessee on account of notional accrued interest on OFCPN.
This issue was raised as an additional ground and was admitted. The Tribunal observed that since this issue was not raised before the lower authorities normally it would be restored to the file of the CIT(A) or the AO but since a legal issue had to be decided as to whether as per the terms of the OFCPN of Nirma Industries Ltd., it can be said that any income is accruing on year to year basis or not and since the terms of the issue were before the Tribunal and also before the authorities below the Tribunal decided to decide the issue rather than restore it back to the file of the lower authorities.
Held II:
The Tribunal noted that, as per the terms of issue, in the initial 4 years, the assessee is not eligible to decide as to whether he is going to exercise the option of convertibility or not and such option is to be exercised only in the last quarter of the 5th year and the assessee will get shares at the end of the period of 5 years and no interest as such is payable till maturity even if the assessee does not opt for conversion. If the assessee does not opt for conversion into equity shares he will get Rs. 33,750 for each OFCPN after the expiry of period of 5 years from the date of allotment. The debentures are transferable during the period of 5 years and company is also eligible to purchase debentures at discount, at par or at premium in the open market or otherwise. Hence, in the earlier period also, if the assessee is not opting for conversion in the equity shares, the assessee can sell the debentures in the open market or to the issuer company and it is quite natural that in the open market, such debentures will command such price which will include offer price plus proportionate accretion on account of difference in the issue price and the face value which can be considered as interest although no such nomenclature is given for accretion in the issue details.
The Tribunal held that the issue details suggest that no income is guaranteed to the assessee even after 5 years period from the date of allotment if the assessee opts for conversion and the assessee will get the income being difference between the face value and the issue price only if such option of conversion is not exercised by the assessee which he can exercise only in the last quarter of 5th year. There was an argument forwarded by the learned DR that before the last quarter of the 5th year, the assessee has an option to sell these OFCPNs because these OFCPNs are transferable and in that situation, the assessee will get at least issue price plus proportionate accretion till date of transfer over and above the issue price. This may be correct but in our considered opinion, even in the light of these facts, it cannot be said that any income is accruing to the assessee on day to day or year to year basis. The OFCPN may be held by the assessee as investment or trading item. If the assessee is holding OFCPN as a trading item and till the same is sold by the assessee, it has to be considered by the assessee as closing stock which has to be valued at the cost or market price whichever is lower and in that situation, even if the market price is more than the cost price i.e. issue price, then also this income is not taxed till the sale takes place. Although, if the market price goes down below the cost price i.e. issue price then in that situation, the assessee can claim loss to that extent by valuing the closing stock of OFCPN at market price but in case the market price is more than the cost price, no income is accruing to the assessee till the same is sold.
In another situation, where the assessee is holding these OFCPNs as investment then also, the income if any in respect of such capital asset is taxable only as capital gain and that too after the capital asset in question is transferred by the assessee. Till the actual transfer takes place, neither any income is taxable in the hands of the assessee even if the market value of the asset has gone up nor any loss is allowable to the assessee even if market value of the asset has gone down. It is not the case of the AO that the assessee has sold or transferred these OFCPNs in the present year. In the absence of this, it cannot be said that any income has accrued to the assessee even if it is accepted that the market value of these OFCPNs till the last date of the present year is more than cost price i.e. issue price which can be issue price plus proportionate accretion and the difference between the face value and issue price.
We have already discussed that the nature of OFCPN is not that of a fixed deposit and it is also not of the nature of DDB because of convertibility option and uncertainty about receipt of any extra amount over and above the issue price. Even on conversion, shares are to be allotted at par and not at premium i.e. face value.
Considering all these facts, we hold that in the facts of the present case, it cannot be said that any income has accrued to the assessee on account of these OFCPNs of Nirma Industries Ltd. because no sale has taken place and there is no guaranteed income to the assessee even after 5 years in case the assessee opts for conversion into shares at par.
The Tribunal allowed this ground of appeal of the assessee.
