Introduction
1.1 Section
2(22)(e) of the Income-tax Act,1961 (the Act) creates a deeming fiction to
treat certain payments by certain companies to their shareholders etc.
as dividend subject to certain conditions and exclusions provided in section
2(22) ( popularly known as ‘ deemed dividend’). These provisions are applicable
to certain payments made by a company, not being a company in which public are
substantially interested (‘closely held company’/ such company) of any sum
(whether as representing a part of the assets of the company or otherwise) by
way of advance or loan. For the sake of brevity, in this write-up, such sum by
way of advance or loan both are referred to as loan. In this context, section
2(32) is also relevant which defines the expression ‘person who has a
substantial interest in the company’ as a person who is the beneficial owner of
shares, not being shares entitled to a fix rate of dividend, whether with or
without a right to participate in profits (shares with fixed rate of dividend),
carrying not less than 20% of the voting power in the company. Under the
Income-tax Act, 1922 (1922 Act), section 2(6A)(e) also contained similar
provisions with some differences [such as absence of requirement of substantial
interest etc.] which are not relevant for the purpose of this write-up. Such
payments can be treated as ‘deemed dividend’ only to the extent to which the
company possesses `accumulated profits’.
The expression “accumulated profits” is also inclusively defined in
Explanations 1 & 2 to section 2 (22). Section 2(22)(e) also covers certain
other payments which are not relevant for this write-up.
1.2 The
Finance Act, 1987 (w.e.f. 1/4/1988) amended the provisions of section 2(22)(e)
and expanded the scope thereof. Under the amended provisions, dividend includes
any payment of loan by such company made after 31/5/1987 to a shareholder,
being a person who is the beneficial owner of the shares (not being shares with
fix rate of dividend) holding not less than 10% of the voting power, or to any
concern in which such shareholder is a member or partner and in which he has
substantial interest. Simultaneously, Explanation 3 has also been inserted to
define the term “concern” and substantial interest in a concern other than a
company. Accordingly, the term ‘concern’ means a Hindu undivided family (HUF),
or a firm or an association of person [AOP] or a body of individual [BOI] or a
company and a person shall be deemed to have substantial interest in a
‘concern’, other than a company, if he is, at any time during the previous
year, beneficially entitled to not less than 20% of the income of such
‘concern’. It may be noted that in relation to a ‘concern’, being a company,
the determination of person having substantial interest will be with reference
to earlier referred section 2(32). As such, with these amendments, effectively
not only loan given to specified shareholder but also to a ‘concern’ in which
such shareholder has substantial interest is also covered within the extended
scope of section 2(22)(e) (New Provisions – Pre-amended provisions are referred
to as Old Provisions).The cases of loan given by such company to specified
‘concern’ are only covered under the New Provisions and not under the earlier
provisions.
1.3 Under
the 1922 Act, in the context of the provisions contained in section 2(6A)(e),
the Apex Court in the case of C. P. Sarathy Mudaliar (83 ITR 170) had
held that the section creates a deeming fiction to treat loans or advances as “
dividend” under certain circumstances. Therefore, it must necessarily receive a
strict construction .When section speaks of “shareholder”, it refers to the
registered shareholder [i.e. the person whose name is recorded as shareholder
in the register maintained by the company] and not to the beneficial owner of
the shares. Therefore, a loan granted to a beneficial owner of the shares who
is not a registered shareholder cannot be regarded as loan advanced to a
‘shareholder’ of the company within the mischief of section 2(6A)(e).This
judgment was also followed by the Apex Court in the case of Rameshwarlal
Sanwarmal (122 ITR 1) under the 1922 Act. Both these judgment were in the
context of loan given by closely held company to HUF, where it’s Karta was
registered shareholder. As such, under the 1922 Act, the position was settled
that for an amount of loan given to a shareholder by the closely held company
to be treated as deemed dividend, the shareholder has to be a registered
shareholder and not merely a beneficial owner of the shares. Even in the
context of expression ‘shareholder’ appearing in section 2(22) (e), this
proposition , directly or indirectly, found acceptance in large number of
rulings under the Act. [Ref:- Bhaumik Colour (P). Ltd – (2009) 18 DTR 451
(Mum- SB), Universal Medicare (P) Ltd – (2010) 324 ITR 263 (Bom), Impact
Containers Pvt. Ltd. – (2014) 367 ITR 346 (Bom), Jignesh P. Shah – (2015) 372
ITR 392, Skyline Great Hills – (2016) 238 Taxman 675 (Bom), Biotech Opthalmic
(P) Ltd- (2016) 156 ITD 131 (Ahd), etc]
1.4 Under
the New Provisions, loan given to two categories of persons are covered viz. i)
certain shareholder (first limb of the provisions) and ii) the ‘concern’ in
which such shareholder has substantial interest (second limb of the
provisions). In this write-up, we are only concerned with the loan given to
person covered in the second limb of the provisions (i.e. ‘concern’). For both
these provisions, the expression shareholder was understood as registered as
well as beneficial shareholder as explained by the special Bench of the tribunal
in Bhaumik Colour’s case (supra) and this position of law largely
held the field in subsequent rulings also.
1.4.1 For
the purpose of understanding the effect of section 2(22)(e) under both the
limbs of the provisions, the decision of the Special Bench in Bhaumik
Colour’s case (supra) is extremely relevant as that has been
followed in number of cases and has also been referred to by the High courts.
Basically, in this case, the Special Bench laid down following main principles:
(i) The expression ‘shareholder’ referred to
in section 2(22)(e) refers to registered shareholder. For this, the Special
Bench relied on the judgments of the Apex Court under 1922 Act, delivered in
the context of section 2(6A)(e), referred to in para 1.3 above.
(ii) The
expression ‘ being a person who is beneficial owner of shares’ referred to in
the first limb of the New Provisions is a further requirement introduced under
the New Provisions which was not there earlier. Therefore, to invoke the first
limb of New Provisions of section 2(22)(e), a person has to be a registered
shareholder as well as beneficial owner of the shares. As such, if a person is
a registered shareholder but not the beneficial shareholder then the provisions
of the section 2 (22)(e) contained in the first limb will not apply. Similarly,
if a person is a beneficial shareholder but not a registered shareholder then
also this part of the provisions of the section 2(22)(e) will not apply.
(iii) The second limb of the New Provisions
dealing with treatment of loan given to specified ‘concern’ is introduced for
the first time in the New Provisions. The expression ‘such shareholder’ found
in this provision dealing with a loan given to a ‘concern’, only refers to the
shareholder referred to in the first limb of the provisions referred to in (ii)
above. As such, to invoke this provision, a person has to be a registered
shareholder as well as beneficial shareholder having requisite shareholding
[i.e. 10 % or more] in the lending company and this shareholder should have a
substantial interest in the ‘concern’ receiving the loan.
(iv)
If, the conditions of second limb of provisions referred to in (iii) above are
satisfied, then the amount of the loan should be taxed as deemed dividend only
in the hands of the shareholder of the lending company and not in the hands of
the ‘concern’ receiving the amount of
loan.
1.5.
Even in cases where the condition for invoking the second limb of the
New Provisions are satisfied (i.e. the concerned person is a registered shareholder
as well as beneficial owner of the shares), the issue is under debate that, in
such cases, where the loan is given to a ‘concern’ in which such shareholder
has substantial interest, whether the amount of such loan is taxable as deemed
dividend in the hands of such shareholder or the ‘concern’ to whom the loan is
given. In this context, the CBDT (vide Circular No 495 dtd. 22/9/1987) has
expressed a view that in such cases, the deemed dividend is taxable in the
hands of the ‘concern’. However, the judicial precedents largely, directly or
indirectly, showed that in such cases, the deemed dividend should be taxed in
the hands of the shareholder [Ref: in addition to most of the cases referred to
in para 1.3., Ankitech (P) Ltd. – (2012) 340 ITR 14 (Del), Hotel Hilltop –
(2009) 313 ITR 116 (Raj), N. S.N. Jewellers (P) Ltd.- (2016) 231 Taxman 488
(Bom), Alfa Sai Mineral (P) Ltd. – (2016) 75 taxmann.com 33(Bom), Rajeev
Chandrashekar – (2016) 239 taxman 216 (Kar), etc.
1.6
In the context of loan given to an
HUF by a closely held company in which it’s Karta is the registered shareholder
having requisite shareholding, the issue was under debate as to whether the New
Provisions relating to deemed dividend will apply and if these provisions are
applicable, the amount of such deemed dividend should be taxed in whose hands
i.e. the registered shareholder or the HUF, which received the amount of loan.
This issue has been dealt with by the Apex Court in the case of Gopal &
Sons (HUF) [391 ITR 1]. The Apex Court in this case, based on the facts of that
case, decided that the amount of such loan will be taxable as deemed dividend
in the hands of the HUF. As such, the Court impliedly decided the issue
referred to in para 1.5 which gives support to the opinion expressed in the
CBDT circular referred to in that para. This judgment has been analysed by us
in this column in April and May issues of the journal.
1.7 Recently,
the issue referred to in para 1.5 directly came-up for consideration before the
Apex Court in the case of Madhur Housing & Development Co. Considering the
impact of the judgment in this case, it is thought fit to consider the same in
this column.
CIT
vs. Madhur Housing and Development Company [ITA 721/2011- Delhi HC]
2.1 In the above case, the relevant facts [as found
from the decision of the Tribunal] were: the assessee company was a closely
held company and during the previous year relevant to A. Y. 2006-07, the
assessee company had received Rs. 1,87,85,000 from M/s Beverley Park
Operations & Maintenance (P) Ltd. [BPOM] against the issue of fully
paid debentures by the assessee company. In BPOM, one Mrs. Indira Singh was
holding 33.33% equity shares, in her individual capacity, carrying voting
power. She as well as her husband [Mr. K. P. Singh] were also indirectly
holding 32.3 % equity shares each in BPOM through another company, which was
ultimately held [through layer companies] by holding company controlled by Mr.
and Mrs. Singh with the holding of all the equity shares [50% each] . All these
companies were part of DLF group of companies and were controlled by Mr. K. P.
Singh and family. There was sufficient accumulated profits in BPOM to cover the
amount of debentures issued to it by the assessee company. It was also revealed
that Mr. K. P. Singh and Mrs. Indira Singh [both, break-up in individual name
is not available] were holding 58.27% of equity shares in the assessee company
for which the investment was made by the partnership firm known as General
Marketing Corporation [GMC]. As such, GMC was the beneficial owner of the
shares [58.27%] held in the assessee company which were registered in the name
of its partners [namely, Mrs. Indira Singh and Mr. K. P. Singh]. Necessary
disclosures for holding these shares on behalf of the firm [GMC] were also made
before the Registrar of Companies [ROC]. Mr. & Mrs. Singh were also holding
certain preference shares with fixed rate of dividend in the assessee company.
2.1.1
During the assessment
proceedings, the Assessing Officer [AO] took the view that the assessee company
received a loan in the form of debentures from BPOM and Mr. K. P. Singh and
Mrs. Indira Singh are having substantial interest as they are registered
shareholder holding 10,200 equity shares [58.27%] in the assessee company. Name
of the GMC is not there in the register of the assessee company and as such,
they are registered and beneficial shareholder having substantial interest in
the assessee company. They are also beneficially holding more than 10% equity
shares in BPOM [may be , more so as Mrs. Indira Singh was holding 33.33% shares
directly for herself in BPOM]. As such, the conditions of section 2(22)(e) are
satisfied and accordingly, the AO treated the said amount of 1,87,85,000 as
deemed dividend in the hands of assessee company. While doing so, the AO
rejected the main contentions of the assessee that: Mr. K P Singh and Mrs.
Indira Singh were only registered shareholders of the assessee company as the
firm as such can not hold shares in it’s name and shares were actually held by GMC
through its partners, payment by BPOM was not a loan but investment in
debentures and the amount given by BPOM was in the ordinary course of business
and money lending is a substantial part of the business of BPOM and as such,
the transaction is covered by the exceptions provided in section 2(22)(e).
2.2 When
the above issue came up before the Commissioner of Income- tax (Appeals) [CIT
(A)] at the instance of the assessee company, the CIT (A) noted the principles
laid down by the Special Bench of the tribunal in Bhaumik Colour’s case
(supra) to the effect that the deemed dividend can be assessed only in
the hands of the shareholder of the lending company and not in the hands of a
person other than a shareholder and the expression shareholder in section 2(22)(e)
refers to both registered shareholder as well as beneficial shareholder [refer
para 1.4.1 above].
2.2.1 The
CIT (A) then noted the fact that Mr. K. P. Singh and Mrs. Indira Singh are
holding 10,200 equity shares [i.e. 58.27% of equity capital] in the assessee
company. However, these shares are beneficially held by the GMC and they are
registered in the name of it’s partners. Therefore, these shares are not
beneficially held by Mr. and Mrs. Singh. Mrs. Indira Singh and Mr. K. P. Singh
are also holding certain non- cumulative preference shares in the assessee
company in their individual capacity which are carrying fixed rate of dividend
and not carrying any voting power and therefore, this fact is not relevant for
involving section 2(22)(e).The assessee company is neither a registered
shareholder nor a beneficial shareholder in BPOM and further, admittedly, Mrs.
Indira Singh held equity shares in both the companies [i.e. assessee company as
well as BPOM] but, she did not hold any equity shares in the assessee company
in her individual capacity as equity shares held by her in assessee company
were on behalf of GCM in which she is one of the partners. Finally, CIT(A) took
the view that in the light of these facts, in view of the decision of Special
Bench of the tribunal in Bhaumik Colour’s case (supra), the
provisions of section 2(22)(e) cannot be invoked in this case. Accordingly, CIT
(A) deleted additions made on account of deemed dividend. It seems that CIT (A)
does not seem to have either gone in to other contentions raised by the
assessee company before the AO (ref para 2.1.1) or had not found any merit in
the same.
2.2.2
From the above, it appears that CIT (A) seems to have deleted the
additions of deemed dividend on two counts viz. (i) the assessee company is neither a registered
shareholder nor the beneficial shareholder in BPOM (i.e. lending company) and
(ii) though Mrs. Indira Singh is registered as well as beneficial shareholder
holding more than 10% equity shares in BPOM, she did not
beneficially hold any equity share in the assessee company as the shares
registered in her name were held by her for and on behalf of GMC(i.e. she is
registered shareholder but not the beneficial
owner of the shares).
2.3
The above matter was carried to the Appellant Tribunal at the instance
of the Revenue [ITA NO: 1429/Del/2010]. After hearing contentions of both the
parties which primarily related to the decision of the Special Bench in Bhaumik
Colour’s case (supra), the Tribunal observed as under:
“7.2
We have carefully considered the submissions. We find that the Tribunal in the
Special Bench decision in the case of Bhaumik Colours has held that
deemed dividend can be assessed only in the hands of a person who is a
shareholder of the lender company and not in the hands of the borrowing concern
in which such shareholder is member or partner having substantial interest.
Admittedly, in the case assessee is not shareholder of BPOM. Hence, the amount
of Rs. 1,87,85,000/- borrowed by the assessee from BPOM cannot be considered
deemed dividend in the hands of the assessee.”
2.3.1
Finally, the Tribunal decided the issue in favour of assessee and held as under
“7.3
Ld. Commissioner of Income Tax (Appeals) has followed the aforesaid Hon’ble
Special Bench decision and found that the ratio is applicable in this case and
no contrary decision or contrary facts has been brought to our notice. On the
facts of the present case the ratio of the said decision is applicable. Hence,
we do not find any infirmity or illegality in the order of the Ld. Commissioner
of Income Tax (Appeals). Accordingly, we uphold the same.”
2.3.2
From the above, it would appear that the tribunal has effectively
confirmed the order of the CIT (A). This shows that the Tribunal has also
confirmed the findings of the CIT (A) and both the reasons given by CIT(A) for
deletion of the additions referred to in para 2.2.2 above.
2.4
The matter then travelled to the Delhi High Court at the instance of the
Revenue. It seems that on an earlier day, the Division Bench of the Delhi High
Court had already decided similar issue in the case of Ankitech (P) Ltd.
[ITA No 462/2009]. Following that decision, the High Court dismissed the
appeal [vide order dated 12-05-2011] of
the Revenue by observing as under:
“This
matter is covered by the judgment of this Court dated 11.5.2011 passed in ITA
No. 462/2009 (CIT vs. Ankitech Pvt. Ltd.) In view of the said judgment, the assessment cannot be in the
hands of the assessee herein u/s. 2(22)(e) of the Income-tax Act, but it has to
be in the hands of the shareholder of
the company.”
2.5 From
the above, it would appear that the issue was decided in favour of the assessee
company on the short ground that the assessee company was not the shareholder
of the lending company and the deemed dividend u/s.2(22)(e) can not be assessed
in the hands of the assessee company (i.e. ‘concern’) but can be assessed only
in the hands of shareholder of the company. As such, it seems that the High Court decided the issue only on one
ground for deletion [given by the CIT(A)] referred to in para 2.2.2 for
confirming the deletion of the addition made on account of deemed dividend u/s.
2(22)(e). _
[To be
continued]
