Third Member, ITAT, Resolves Controversy On S. 14A + Rule 8D Disallowance For Shares Held As Stock-in-trade

D. H. Securities Pvt. Ltd vs. DCIT (ITAT Mumbai) (Third Member)

S. 14A & Rule 8D disallowance applies to tax-free securities held as stock-in-trade


The assessee claimed that as it was engaged in the business of trading in shares, its main object is to earn profit on purchase and sale of shares and not to earn dividend income from such shares. It claimed that the accrual of tax-free dividend on such shares was merely incidental to the holding of shares as stock-in-trade and that no disallowance could be made u/s 14A and Rule 8D. It also claimed that though the assessee had not incurred any direct or indirect expenditure to earn the said dividend, the AO had made the disallowance on a presumptive basis. The Division Bench referred the dispute to a Third Member in view of the difference of opinion between the Benches. Before the Third Member, the assessee relied on CCI Ltd 71 DTR (Kar) 141 , India Advantage Securities, Yatish Trading etc in which the law had been laid down that s. 14A & Rule 8D does not apply to securities held as stock-in-trade. The department relied on Godrej & Boyce Manufaturing Co 328 ITR 81 (Bom) (where it was held that Rule 8D is mandatory) and Daga Capital 117 ITD 169 (Mum) (SB) (where it was held that s. 14A applies to stock-in-trade). HELD by the Third Member:

It is accepted by both parties that the assessee is a dealer in shares and that the shares were held by it as stock-in-trade. The issue under appeal is squarely covered by the principles laid down in Godrej & Boyce, Dhanuka & Sons 339 ITR 319 (Cal), American Express Bank and Damani Estates & Finance in which the issue has been elaborately considered. The argument that the judgement of the Karnataka High Court in CCI Ltd is the solitary High Court judgement on the point and it should be followed is not correct because the issue has also been considered by the Calcutta High Court in Dhanuka & Sons. Also, while CCI Ltd has not considered the jurisdictional High Court judgement in Godrej & Boyce, Dhanuka & Sons has duly considered Godrej & Boyce in taking the view that s. 14A/ Rule 8D applies to shares held as stock-in-trade. Accordingly, disallowance u/s 14A can be made in conformity with law even where dividend income has been earned on shares held as stock-in-trade.

‘Tax avoidance’ arrangement is legitimate if it’s within four corners of law, says HC

Where arrangement of assessee to avoid payment of tax did not contravene any statutory provision and was achieved within four corners of law, it couldn’t be found fault with

In the instant case the assessee was holding shares in BFSL, which had purchased 15 acres of land from assessee. The assessee sold its shareholding in BFSL for a certain consideration to DLF through Stock Exchange after paying STT and claimed exemption from gain on sale of shares under section 10(38). The AO held that sale of shares by assessee was a colourable device and that virtually the immovable property had been transferred to DLF and assessee was liable to tax on short-term capital gain on sale of immovable property. Further, the CIT (A) and the Tribunal upheld the order of the AO.

The High Court held in favour of assessee as under:

1) Every taxpayer is entitled to arrange his affairs so that his taxes would be as low as possible and that he is not bound to choose that pattern which will replenish the treasury. If the taxpayer is in a position to carry through a transaction in two alternative ways, one of which will result in liability to tax and the other will not, he would at liberty to choose the latter one and would do so effectively in the absence of any specific tax avoidance provision;

2) If BFSL had sold the property by executing a registered sale deed and received the sale consideration, then it ought to have paid capital gains on the said consideration. All the authorities were carried away by this aspect of the matter and because the Department was deprived of the tax, they had come to the conclusion that it was a colourable device and tax planning to avoid payment of taxes;

3) The assessee by resorting to such tax planning had taken advantage of the benefit of the loopholes in the law, which had endured to his benefit. After seeing how this loophole had been exploited within four corners of the law, it was open to the Parliament to amend the law plugging the loopholes;

4) However, by any judicial interpretation one couldn’t read into the section, which was not intended to by the Parliament at the time of enacting this provision. If the shareholder chose to transfer the land to the purchaser of the shares, it would be a legal transaction, in law, and merely because it was able to avoid payment of tax, it couldn’t be said to be a colourable device or a share transaction;

5) The finding of the assessing authority that it was a transfer of immovable property was contrary to law and material on record. Unfortunately, three authorities committed the very same mistake which was illegal, contrary to settled legal position and, therefore, required to be set aside - BHORUKA ENGINEERING INDS. LTD. V. DY.CIT (2013) 36 taxmann.com 82 (Karnataka)