ITAT MUMBAI BENCH 'B'

IT APPEAL NO. 2108 (MUM.) OF 2009 CO. NO. 177 (MUM.) OF 2009
[ASSESSMENT YEAR 2005-06]

N.V. VASUDEVAN, JUDICIAL MEMBER AND PRAMOD KUMAR, ACCOUNTANT MEMBER

Pravin Verma for the Appellant.
Vijay Mehta for the Respondent.

N.V. Vasudevan, Judicial Member - ITA No.2108/M/09 is an appeal by the revenue against the order dated 30/1/2009 of CIT(A) 23, Mumbai relating to assessment year 2005-06. The ground of appeal raised by the revenue read as follows:

"(i) On the facts and circumstances of the case, the Hon'ble CIT(A) erred in holding that the conditions prescribed in section 47 (xiv) are satisfied.

(ii) On the facts and circumstances of the case, the Hon'ble CIT(A) erred in holding that the assessee is eligible for exemption u/s. 47(xiv) and no capital gains are to be taxed."

2. The Assessee is a proprietor of a concern by the name of Krystal Colloids through which the business of various kinds of gums exports is carried out. The facts of the case are as under. It is seen that during the year under assessment there has been reorganization of business. It is further observed that as on 31st March 2005, there is a succession of the proprietorship business in to a corporate entity Krystal Colloids Private Limited, whereby the assessee had assigned running business of M/s. Krystal Colloids sole proprietary concern as a going concern to Krystal Colloids Private Limited. Accordingly the assets and liabilities of the sole proprietary concern had been transferred to the Private limited company. The assessee vide letter dated 13th Aug.2007 contended that the said assignment was at book values and thus claimed exemption as per the provisions of section 47(xiv) of the Income Tax Act, 1961. It was further observed that the Assessee had carried out a revaluation of certain assets during the year. The details of the revaluation carried out were as under:

The assessee had filed a valuation report dated 20.6.2004 to justify the derivation of the value of its intangible assets. The same is taken on record.

Provisions of S.47(xiv): The provisions of S.47 (xiv) read as under:

"where a sole proprietary concern is succeeded by a company in the business carried on by it as a result of which the sole proprietary concern sells or otherwise transfers any capital asset or intangible asset to the company.

Provided that—
(a) all the assets and liabilities of the sole proprietary concern relating to the business immediately before the succession become the assets and liabilities of the company;

(b) the shareholding of the sole proprietor in the company is not less than fifty per cent of the total voting power in the company and his shareholding continues to remain as such for a period of five years from the date of the succession; and

(c) the sole proprietor does not receive any consideration or benefit, directly or indirectly, in any form or manner, other than by way of allotment of shares in the company;"

According to the AO the condition No.A as stated in the proviso to section 47(xiv) of the Income Tax Act, 1961 (the Act) was not satisfied. In this regard the AO found as part of the Agreement for assignment listing out the assets and liabilities which were required to be transferred to the Limited Company, the sole proprietor was required to transfer the Bank Accounts to the Company. On enquiry it was submitted that there were 6 bank accounts of the sole proprietor. The details are as under:-

The assessee submitted that some of these bank accounts were continued to ensure that the various refunds, remittance, etc. receivable from one or more government departments, debtors, etc. be directly credited to the respective accounts which were already disclosed to the respective authorities, debtors, etc. The assessee also explained some of the entries in the said Bank Accounts to justify that the bank accounts were maintained only with a view to ensure receipt and realization of all assets transferred to the Company. He also explained that the said accounts have been reflected as assets in the balance sheet of the private limited company. The AO however was of the view that the bank accounts of the sole proprietary concern still continued and had not been transferred to the company nor the said accounts were closed. He, therefore, held that the aforesaid conditions were not satisfied.

3. The AO was of the view that condition mentioned in clause (c) of the proviso of section 47 (xiv) of the Act was not complied with for the following reasons.

"11. Perusal of the Annexure to balance sheet of the assessee immediately before the succession reveals that there were certain additions to Fixed Asset. Note to Schedule - 3 Fixed Asset mentions that Additions "include revaluation of certain assets". It is further observed that under the head 'Intangibles' certain assets namely Technical Know how amounting to Rs. 2,75,00,000/- have been created and the same are being claimed to be transferred at book value alongwith other assets.

12. It is seen that the Assessee has carried out a revaluation of the intangible assets in its books of accounts and these assets have been reflected in the books of accounts at such revalued figures. The revaluation surplus has been credited to the capital account of the sole proprietor. All the intangible assets which have been revalued in the books of accounts are self generated assets for which as submitted by the assessee, no cost has been incurred. Under the Agreement of Assignment, the assets and liabilities were to be transferred at book values. However in respect of these Intangible Assets the same have been transferred to the limited company at the revalued amounts being the book values. Consequently the limited company has issued shares to the sole proprietor of a higher amount including the revaluation surplus. By issuing the shares at a higher cost the assessee in the case of a subsequent transfer of the shares would be entitled to claim higher cost and thereby avoiding capital gains of the shares."

The AO also was of the view that as per Accounting Standard 26 of the ICAI which prescribes that intangible assets have to be recorded at the cost of acquisition and other direct cost and self generated intangible assets should also not be recognized on the balance sheet. The AO also referred to the decision of the Hon'ble Gujarat High Court in the case of CIT v. Gautam Sarabhai Trust No. 31 [1988] 173 ITR 216 / 40 Taxman 178 , which was a case of claim of exemption under section 47(vii) of the Act. We will deal with this decision in the later part of this order. The AO accordingly held that the assessee was not entitled to the exemption and according brought to tax a sum of Rs. 3,67,50,000/- as long term capital gain.

4. On appeal by the assessee the CIT(A) held as follows:

"5. The appellant's submission have been considered. During the relevant previous year, the appellant has transferred his proprietary concern to a closely held private limited company with 99% shares of himself and 1% to his wife. It has been held in assessment order that appellant had not satisfied conditions specified u/s. 47(xiv) as some bank accounts were not transferred and by revaluation of intangible assets like technical know how, trade name and goodwill at a higher value of Rs. 3,67,50,000/- he has derived indirect benefit by allocation of larger number of shares which if on sale in future the capital gains liability would be reduced by claiming higher cost.

5.1 The appellant's explanation that these bank accounts were not transferred considering business interest as a prudent businessman is logical and acceptable. All receipts have been transferred to the acquirer company as evident from the bank statements. Moreover, the balance in these accounts stand transferred in the name of the acquirer company and shown in its accounts. Thus, the company is to be considered as beneficial owner of these bank accounts. The appellant was operating these accounts for convenience.

5.2 All these assets have been transferred at book values except Technical Know how, Trade Marks and Goodwill. Clause (c) of section (xiv) reads as under:

"(c) the sole proprietor does not receive any consideration or benefit, directly or indirectly, in any form or manner, other than by way of allotment of shares in the company;"

The section envisages issues of shares and in the appellant's case no other consideration other than shares have been received on transfer. Receipts of higher number of shares by revaluation cannot be treated as consideration or benefit directly or indirectly in any manner other than by way of allotment of shares in the company."

5.5 Thus, in the present case, it cannot be held that he has received consideration or benefit indirectly other than by way of allotment of shares, only because higher number of shares have been allotted due to revaluation. Taxation would arise only on subsequent sale of these shares.

5.6 As the conditions prescribed in the Section 47 (xiv) are satisfied, the appellant is eligible for exemption and no capital gain are to taxed. This ground is allowed."

5. Aggrieved by the order of the CIT(A) the revenue has preferred the aforesaid appeal before the Tribunal.

6. The ld. D.R relied on the order of the AO. The ld. Counsel for the assessee reiterated the submissions as were made before CIT(A).

7. We have considered the rival submissions. As far as the application of proviso -A to section 47 (xiv) is concerned we find that the agreement for assigning of business in favour of a Private Limited Company dated 24/3/2005 clearly envisages the approval of the following:

"On the date of execution of these presents, the Assigner is in the legal control/ ownership/possession of factory buildings, plant & machineries, furniture, fixtures and other tangible and intangible assets, rights and entitlements in respect of the said business, more particularly set out in the list annexed hereto and marked Annxure-1 hereto."

Annexure 1 to the agreement in Item No.11 refers to bank balance with banks. Thus the agreement transfers all the bank balances. As between the assessee and the Limited company the transfer of bank account is complete and the fact that sum of the bank accounts continue to be operated by the assessee will not result in the application of proviso A to section 47 (xiv) of the Act. It is also seen that in the individual balance sheet of the assessee these bank accounts are shown on the asset side of the balance sheet. It is also noticed that the assessee had given a declaration in the form of an affidavit whereby the assessee has declared that effective from 31/3/2005 all the assets of the proprietary concern have been transferred to the Limited Company as per the agreement dated 24/3/2005 by which the business was assigned by the assessee to the Limited Company. Further the balance sheet of the Limited Company as on 31/3/2005 refers to all bank accounts which were in the name of the assessee and the said bank accounts have been considered as the bank account of the Limited Company. In the light of the above we are of the view that the bank account have become the assets of the Limited Company and proviso A to section 47(xiv) were not attracted.

8. As far as proviso (c) to section 47(xiv) is concerned the revenue has not disputed that the assessee has not received any consideration apart from allotment of shares in the company. The grievance of the revenue is only that prior to the transfer of the business to the Limited Company revaluation of assets had taken place and that intangible assets were also revalued. According to the revenue by doing so shares were issue at a higher cost to the assessee and in future when assessee transfers such shares cost of acquisition of the shares will be higher and consequently there would be a benefit of lesser capital gain on transfer of those shares. At the outset we are not convinced with this line of reasoning adopted by the AO. The section envisages denial of exemption under section 47 (xiv) under proviso (c) only in a case where consideration benefit for transfer of the business is received other than by way of allotment of shares in the company. It is not the case of the revenue that any other consideration or benefit directly or indirectly received by the assessee other than allotment of shares the section does not contemplate a future benefit which the assessee is likely to get (even such benefit is only contingent and not certain). As rightly contended on behalf of the assessee receipt of higher number of shares because of revaluation cannot be treated as consideration or benefit received other than by allotment of shares. There were other contentions raised by the assessee. We are not dealing with those contentions because of the view taken above.
9. As far as decision of the Hon'ble Gujarat High Court is concerned we find that, that was a case where exemption was claimed under section 47(vii) of the Act, where shares are issued on amalgamation. One of the condition for such allowance was that the consideration should be received in the form of shares in the amalgamated company. On facts of that case the assessee was given apart from shares bonds or debentures in the amalgamated company. In such circumstances the Hon'ble Court dealt held that the consideration was not in the form of only shares and, therefore, the benefit of exemption under section 47(vii) of the Act would not be available. We are of the view that the decision in the aforesaid case has no relevance to the case dealing with the case of the assessee. For the reasons given above we uphold the order of the CIT(A) and dismiss the appeal of the revenue.

C.O.No.177/M/2009:
10. Grounds No.1 & 2 raised in the Cross Objection reads as follows:
"The Respondent (Cross Objector) submits the following grounds, which are without prejudice to one another:
1. The order passed by the Learned Commissioner of Income Tax (Appeals) is bad in law and on facts.
2. Re: Disallowance of depreciation claimed of Rs. 62,338/-

2.1 On the facts and in the circumstances of the case and in law, the learned Commissioner of Income Tax (Appeals) [hereinafter referred to as 'the learned CIT(A)] grossly erred in upholding the action of the Assessing Officer in disallowing depreciation on the Gun sorter machine on the ground that the same were not capable of being put to use in the current year without appreciating the submissions made by the Appellant in this regard.

3. Re: Disallowance of telephone expenses Rs. 24,193/-3.1

3.1 On the facts and in the circumstances of the case and in law, the learned Commissioner of Income Tax (Appeals) [hereinafter referred to as 'the learned CIT(A)9 grossly erred in upholding the action of the Assessing Officer in disallowing the telephone expenses incurred by the Appellant on an ad hoc basis to the extent of 10% of the expenses incurred by the Appellant.

3.2 Without prejudice to the above, the disallowance on the account of telephone expenses ought to be significantly reduced.

4. The Respondent (Cross Objector) craves leave to add to, alter, amend or delete any ground of cross objection."

11. The Assessee has shown an addition of Rs. 4,98,704/- on account of purchase of Gunsun Sorter Machine. The Assessee has claimed depreciation of Rs. 62,338I-(less than 180 days) on the said addition. A perusal of the various bills submitted by the Assessee shows that most of the spare parts and electrical accessories required for commissioning of electrical supply to the above machine and its air compressor were purchased only on 31/03/2005 as per Cash Memo No. 874 & 875 both dated 31/03/05 issued by Ambika Electricals & Hardware Stores. It is further seen that the payment for the same is made on 1-4-05. It is further observed that even though the transportation charges, Insurance and various other expenses in connection with the erection, installation and commissioning of the above machine were incurred only on 31/3/2005 however, in the Audit Report, the date of 'put to use' of the said items is shown as 25- 03-05. The assessee was asked to provide a certificate for the date of installation and the date put to use with supporting evidences. The assessee failed to substantiate its claim and thus failed to discharge his primary onus. The onus to prove any claim made by the assessee is on the assessee itself as is held by the Apex Court in the case of CIT v. Calcutta Sales Agency Ltd. [1951] 19 ITR 191.

Depreciation can be allowed on any asset only when it is in a position of being put to use. The asset was not capable of being put to use in the month of March. Since the asset has not been put to use, the depreciation claimed by the Assessee of Rs. 62,338/- on the same is disallowed. Total disallowance on account of Depreciation works out to Rs. 63,823/- (Rs. 1485+Rs. 62,338) and the same is added back to the total income of the Assessee.

12. On appeal by the assessee the CIT(A) confirmed the order of the AO.

13. We have heard the rival submissions and perused the material on record. At page 63 of the paper book the addition to the fixed assets has been given and the same is as follows:
Details of addition to Fixed - Gunsun orter Machine.

We will not deal with each of the items set out in the chart above.

1. At page 1 of the paper book we find that the assessee has purchased Gunsun Sorter Machine. Invoice is dated 14/3/2005.

2. The Air Compressor required for the Sorter Machine was purchased under invoice dated 22/3/2005. The same is at page 64 of the paper book.

3. Transport loading and insurance: As far as transportation charges are concerned at page 2 we find a bill dated 30/3/2005 raised by Info Services for a sum of Rs. 12,079/-. The break up of the expenses shows that claim of reimbursement of transit insurance charges and reimbursement of transport charges were actually paid under bill dated 16/3/2005 by Info Services to Auro Transport Services Bangalore. Thus the transportation and loading had taken place prior to 30/3/2005.

4. At page 3 we find that the installation and agency commission had been claimed and the same includes three days stay. This invoice is dated 30/5/2005. The fact that 3 days stay expenses had been claimed only shows that at least three days prior to 30/3/2005 installation had been done.

5. At page 65 we find that a Drier Sorter Machine had been purchased under invoice dated 30/3/2005. The Lorry receipt is however dated 28/3/05. Thus the Drier to Sorter Machine had been received by the assessee on 30/3/2005. Evidence for Octroi charges are dated 18/3/2005.

6. Electrical installation expenses incurred by the assessee comprises of small and petty items under cash memo dated 30/3/05 and 31/3/2005.

Based on the above evidence it can be said that the assessee has installed and put the machine to use during the previous year. We are, therefore, of the view that the disallowance of the depreciation on the ground that the machineries were not put to use during the previous year cannot be sustained. We direct that the depreciation as claimed by the assessee should be allowed. Ground No.2 raised by the assessee is accordingly allowed.

14. Ground No.3 was not pressed and the same is dismissed as not pressed.

15. In the result, the appeal by the revenue is dismissed while Cross Objection by the assessee is partly allowed.