IT APPEAL NO. 1001 (HYD.) OF 2012
[ASSESSMENT YEAR 2006-07]

B. RAMAKOTAIAH, ACCOUNTANT MEMBER AND SAKTIJIT DEY, JUDICIAL MEMBER

T. Diwakar Prasad for the Appellant.
Vijay Mehta for the Respondent.

ORDER

Saktijit Dey, Judicial Member - This appeal by the department is directed against the order dated 30-3-2012 of CIT (A) -IV, Hyderabad pertaining to the assessment year 2006-07.

2. The only issue in dispute which arises out of the grounds raised by the department is whether the CIT (A) was justified in treating the income of Rs.1,49,14,360/- from share transactions as income under the head of capital gains instead of treating it as business income as held by Assessing Officer.

3. Briefly the facts are, the assessee is a limited company incorporated in August, 1995. It is registered with RBI as a Non Banking Finance Company (NBFC). The main object of the assessee is to function as an investment company. As stated by the assessee, in terms with the said object, it started making investments in shares and Mutual Funds (MF) and derived income from sale of the investments from time to time depending upon market conditions. For the impugned assessment year the assessee filed its return of income on 15-11-2006 showing long term and short term capital gain of Rs.45,17,556/- and Rs.1,03,96,804/- respectively and declared the total income of Rs.85,67,964. Assessee's return was selected for scrutiny. During the scrutiny assessment proceeding, the Assessing Officer noted that the assessee had earned an income of Rs.1,49,14,360/-from sale of shares and securities and the same has been reflected in P & L account as per the books of account for the year under consideration. But in the computation filed with the return of income, the assessee has reduced the same from business income and treated it as capital gain. He therefore asked the assessee to explain why the income should not be treated as business income. In its reply, assessee stated that share transactions are investments only, hence income derived therefore has to be treated as capital gain. It was stated that the shares were acquired entirely from the companies listed in NSE. The dividend received during the year from shares and units in MF was Rs.65,39,113. It was stated that only because of number of purchase and sale transactions, it is not correct to hold it as trading activity. It was submitted that an assessee may hold certain investments in shares for a longer period and may dispose of some in a short period depending upon the market conditions, but that does not make it trading activity. It was submitted that not only the assessee has treated the dealings in share as investments from the very beginning, but the department has also accepted in all the earlier assessment years even in assessments completed u/s 143(3) of the Act. In support of such contention the assessee relied upon a decision of the AAR in Fidelity Northstar Fund, In re [2007] 288 ITR 641/158 Taxman 372 (AAR - New Delhi).

4. The Assessing Officer however rejected all the contentions of the assessee. The Assessing Officer was of the view that the assessee had been regularly trading in shares by buying and selling of shares and securities. H e felt that the assessee's activities were nothing but business of buying and selling of shares with an intention of making profits and use of business conditions as per the prevailing market sentiments. He noted that assessee's basket of shares consisted of various and numerous companies, quoted and unquoted and in many cases shares of the same company had been acquired and sold during the year. He noted that, this shows that the assessee had consistently kept an eye on the market sentiment and conditions with professional acumen, with a clear intent of aggressive business motive of quick profits. On the aforesaid basis, the Assessing Officer held that income derived from share transaction has to be treated as business income and completed the assessment accordingly by treating the amount of Rs.1,49,14,316/- as business income of the assessee. Being aggrieved of the assessment order so passed, the assessee preferred an appeal before the CIT (A).

5. In course of hearing of appeal before the CIT (A) also, the assessee reiterated that the income derived from share transaction has to be treated as income from capital gain as these are investments only. In support of such contention, the assessee also relied upon a number of decisions. The CIT(A) after considering the submissions of the assessee vis a vis the facts and materials on record as well as in the light of ratio laid down in various decisions dealing in shares being investments of the assessee held that income derived there from has to be treated as capital gain. The CIT (A) summed up his conclusions as under:—

'6.18. From the above discussion, it is amply clear that the Assessing Officer has not been able to justify the different view taken by him of the transaction of the appellant in shares and securities during the year, as against the consistent approach adopted and accepted in the earlier years. On the other hand, it is clear that the appellant has been classified his holdings in shares and units of mutual funds, as "investments" right from the beginning, whereas the benefit of sec. 111A of the Act was introduced w.e.f. 1.11.2004 only, much later than the acquisition of the investments by the company. Therefore, it cannot be said that the shares / securities had been so classified as investments' and shown as resulting in Long Term capital gains and Short term Capital gains only with a view to obtain the benefit of the above provisions. It is also clear that the appellant has not made repeated purchase and sale of same scrips on a regular basis with a view to take advantage of the market fluctuations. It is also seen that despite substantial volume on account of huge investments itself, there was not much frequency of buying and selling shares. The fact that the appellant had substantial long term gains during the relevant year and even in subsequent years also shows that the purpose was to hold the acquisitions with a long term prospective. It was in view of this strategy only that the appellant earned substantial dividends over the year including the year under consideration. On a cumulative consideration of the facts of the present case, therefore, the dominant impression that one is left with on his mind is that the appellant is an "investor" and had continued its "investment in shares and securities" during the previous year relevant to the A.Y. 2006-07 also, resulting in the income of Rs. 1,49,14,360/- there from during the year. Accordingly, the income of Rs. 1,49,14,360/- earned by the appellant from the transactions in shares and securities during the year is required to be taxed under the head 'Capital gains' only and not as 'business income'. Ground Nos. 2 and 3 are decided in favour of the appellant.'

6. The learned DR initiating his argument contended that there is lot of complexity relating to the activity in stock market, unlike other investments like gold, real estate etc. Investment in shares require lots of research and investigation. Once investment is made in share, systematic analysis has to be made every day. While in other investments risk of losing is minimal but in case of shares there is a great risk. He submitted that, the nature of activity and nature of behaviour in investing in share is same as in any other business activity as any business activity involves some amount of risk. It was submitted that minimisation of risk is also a business requirement. The learned DR dealing with the facts submitted that in case of 15 scrips both acquisition and sale were during the year. However, the learned DR fairly conceded that investments in mutual fund cannot be considered as business activity. The learned DR submitted that though the assessee claims itself to be a NBFC but its income from NBFC is only 4 lakhs whereas the assessee has shown short term capital gain from sale of shares at Rs.1,35,71,704 which shows that the main activity of the assessee is dealing in shares. The learned DR referring to the balance sheet of the assessee as at 31-3-2006 submitted that unsecured loans and reserves are more than Rs.7 crores, whereas investments are Rs.8,25,89,612. He submitted that the details of sundry creditors show that the assessee is buying shares from the creditors. It was submitted that 50% of the investments are out of borrowed funds only. The learned DR referring to page 38 of the paper book submitted that there are about six different occasions of purchase and sale of shares of Gurarat NRE coke. He submitted that in case of shares of Gruh Finance Ltd., also shares were purchased and sold during the year and actual number of transactions are more. The learned DR submitted that though the assessee has shown the holding period but the frequency of transaction has not been given. He therefore submitted that going by the frequency and volume of share transactions it cannot be anything else but business of the assessee. In support of his contention the learned DR relied upon the decision of the Hon'ble AP High Court in case ofPVS Raju v. Addl. CIT [2012] 340 ITR 75/18 taxmann.com 3/[2013] 213 Taxman 13 (Mag.).

7. The learned AR placing the facts of the case submitted that, the assessee has sold 40 scrips and number of sale transactions are 175 during the years. In this context, he invited our attention to page 37 to 45 containing details of shares sold within a holding period of one year. He submitted that the average holding period of shares held for short term is 123 days and of shares held for long term is 416 days. It was submitted that when the assessee took a decision to sale a scrip entire shares were offloaded, though it may have been sold over a period of 3-4 days. The learned AR submitted that even in few cases of re- entry are also driven by reasons. Specifically referring to page 41 of paper book, the learned AR submitted that in case of Murudeshwar Ceramics Ltd., the assessee sold shares when prices dipped to 119 but when the prices further dipped to 114 the assessee purchased it. Similarly in case of Priyadarshini Spinning Limited, re-entry on 25-2-2006 is only in right issues. In this context, the learned AR referred to the corresponding entries at page 8 of the paper book.

8. The learned AR submitted that from the very beginning the assessee has been consistently showing them as investments and offering income under the head capital gain. The learned AR submitted that the department is also accepting it right from the assessment year 2001-02 till 2011-12 accepting the impugned assessment year. That being the case the department cannot for one year say that it is business while accepting it as investment in all other assessment years. In this context, he relied upon a decision of the Hon'ble Bombay High Court in case of CIT v. Gopal Purohit [2011] 336 ITR 287/[2010] 188 Taxman 140. He submitted that SLP filed against the aforesaid judgment of the Hon'ble Bombay High Court was dismissed by the Hon'ble Supreme Court (334 ITR (St.) 308). The learned AR submitted that in fact though there was loss from share transaction, the assessee has always treated it as capital loss and has never taken advantage of set off of loss from shares held on account of investments against income under the other heads. He further submitted that such loss has been reflected in the computation of income filed along with the returns of income for asst. Years 2002-03, 2003-04 and 2005-06 and accepted by the Assessing Officer even in scrutiny assessments.

9. The learned AR submitted that the main object of the company as per the object clause is to make investments in shares. In this context the learned AR referred to the memorandum of association of the company at pages 16-21 of the paper book. It was submitted that during the year under dispute the assessee has earned dividend income of Rs.65.39 lakhs and over a period of time, the assessee has earned substantial dividend details of which are at page 26 of paper book. The intention of the assessee is that of investment is also clear from the fact that in spite of substantial appreciation in value of investment, the assessee has held shares for quite a long period. In this context, the learned AR referred to the details at page 28 to 33 of paper book. It was submitted that the shares and units have been shown as investments in the financial statements and this method is consistently followed in all years and the same has been accepted by the department. The learned AR submitted that shares and units have always been valued at 'cost' and not at 'cost or market price' whichever is less. He further submitted that there are no employees and no salary cost has been incurred. During the year the company has incurred total administrative overhead expenses of Rs.4,61,489 only. He further submitted that interest expenditure incurred is against interest income earned as NBFC. It was submitted the assessee has not used any interest bearing borrowed funds for the purpose of making investments. Source of investment is own funds and interest free borrowing from shareholders who are all family members. The learned AR referring to page 3 of paper book and page 5 of paper book submitted that unsecured loans are from family members and so are sundry creditors. The borrowing is only Rs.3,42,894.

10. The learned AR submitted that transactions in Mutual Fund's (MF) units cannot be treated as 'on trading account' as units are always purchased from and sold to MF and not in open market. Purchase and sale are always at net asset value (NAV) of fund which in turn depends on result of working of MF. Further, there is no scope of quick profit or loss in purchase and sale of units. The learned AR submitted that shares/units held as on the last day of the preceding previous year have been reflected in balance sheet and accepted by department as an investment. Hence, gain on sale of such shares/units either long term or short term, cannot be treated as business income. It was submitted that assessee was holding 2,00,000 unquoted shares of Spectra Shares and Scrips Pvt. Ltd., 90,000 shares of Spectra Agro Chem Ltd., and 20,000 preference shares of Specta Agro Chem Ltd. These are for holding of family concerns and are not held for trading purpose. The learned AR submitted that the decision of the Hon'ble A.P. High Court in case of PVS Raju (supra) is clearly distinguishable on fact and will not apply to the facts of assessee's case. He submitted that on the other hand, the tests laid down by the jurisdictional High Court in case of Spectra Shares & Scrips (P.) Ltd. v. Dy. CIT [2013] 354 ITR 35/36 taxmann.com 348 (AP.) if applied to the assessee then there can be only one conclusion that these are investments only. The learned AR also relied upon the following two decisions of the Mumbai Bench of the Tribunal:—

11. We have considered the submissions of the parties and perused the orders of the revenue authorities as well as other materials on record. We have also applied our mind to the decisions relied upon by the parties before us. The only issue to be decided in the present appeal is whether dealing in shares are to be treated as 'investments' as claimed by the assessee or it is a business activity as held by the Assessing Officer. Before taking a decision on the issue, let us examine certain facts which have a crucial bearing on the decision to be taken. Undisputedly, the assessee is registered with the RBI as a NBFC. The nature and character as per the main objects of the company as mentioned in the Memorandum of Association, a copy of which is placed at page-16 of the paper book, is 'investment company'. For the impugned year the assessee declared total gain of Rs.1,49,14,360 from sale of shares and mutual funds out of which long term capital gain of Rs.45,17,556 was claimed as exempt and short term capital gain of Rs.1,03,96,804 was offered to tax. Facts on record further reveal that from the assessment year 2001-02 onwards the assessee has been showing them as investments and offering capital gain in the returns filed. The department has also accepted it throughout even in scrutiny assessments which were completed u/s 143(3) of the Act for the asst. years 2002-03, 2004-05 and 2005-06. A perusal of the assessment order passed u/s 143(3) of the Act for the asst. Year 2002-03 would show that not only the Assessing Officer has accepted the assessee as an investment company but has also accepted the loss shown from sale of shares under the head capital gain. Similarly, in the assessment order passed u/s 143(3) of the Act for the asst. Year 2004-05, the Assessing Officer observed that the assessee did not derive any income from business activity and in fact allowed assessee's claim for set off of long term capital gain against brought forward capital losses. Assessment order passed u/s 143(3) of the Act for the asst. Year 2005-06, a copy of which is at page 66 of the paper book would reveal some interesting facts. The Assessing Officer while examining assessee's claim of provisions for bad debt written back and administrative expenses made certain observations which is worth noting. For the sake of convenience, we extract the same hereunder:—

'In the statement of computation of total income assessee claimed Rs.50,00,000/- as provisions for bad debt written back and an administrative expenses of Rs. l ,37,630/-. On careful examination of the assessee's returns of income for various earlier years, it is observed that assessee did not have any business income or business operations. It is only offering the income for taxation under the heads income from house property, income from other sources and capital gains. Though it was not having any business operations, it is claiming expenses under the business head.

With above backdrop, assessee explanation called for as under vide letter dated] 6.07.2007.
"State whether shares transactions of the company falls under the activity of business or investment". Further clarification invited on its consistent stand taken by the company over the years.

The transactions of the company in shares fall under the investments activity. This was accepted in the earlier years. The reason is that the company is a Non Banking Finance Company registered with RBI, a copy of the Certificate policy. A copy of the investment schedule enclosed Balance Sheet is filed. The schedule shows that the date &purchase cost of the shares and sale details during the year and remaining as investments at the end of the year. At the end of the year the shares remaining with the company are shown at investment price not at the market price or investment prices whichever is less as normally done in case of trading activity. It may be noted that in the Assessment order of the earlier years, the assessee's business was shown as Investment Company.'
12. The Assessing Officer finally completed the assessment by accepting the long term and short term capital gain from sale of share shown by the assessee as can be seen from the income computed by him in page 5 of this order. In fact except in the impugned assessment year, the Assessing Officer in all other assessment years, prior and subsequent, has accepted the dealings in shares as investments only by assessing the gain there from as either long or short term capital gain. Therefore, consistency has to be maintained with regard to the assessability of gain from sale of shares. In case of Radhasoami Satsang v. CIT [1992] 193 ITR 321/60 Taxman 248 (SC) the Hon'ble Supreme court has held that though principles of resjudica do not apply strictly to income tax proceedings each assessment year being an independent unit, but still then consistency is to be followed. If a position has been consistently accepted both by the assessee as well as the department it should not be disturbed, unless there are new facts emerging.

13. In the present case, we do not find any changed circumstances which could have led the Assessing Officer to take a different stand than what he has taken in other years. Furthermore, when the Assessing Officer in the immediately preceding assessment years have accepted purchase of shares as investments, in the subsequent year he cannot treat the gain arising on sale of those shares as business income by holding it to be a trading activity. A reading of the impugned assessment order would make it clear that the Assessing Officer has not at all spelt out what are the distinguishing features which provoked him to take a different view in the impugned assessment year. As it appears, he has not at all considered the facts at depth and has approached the entire issue in a superfluous manner. Though the learned DR has tried to fill the lacuna left by the Assessing Officer by mentioning a few instances of purchase and sale of shares to suggest that it is a trading activity but on deeply analysing them it is to be noted that they are not enough to hold it as trading activity. We may observe that the CIT (A) has considered the entire issue of purchase and sale of shares by examining all facts and has recorded a finding of fact, which in our view, is unassailable. In the aforesaid factual back drop let us apply the tests laid down by jurisdictional high court in case of Spectra Shares & Scrips (P.) Ltd. (supra), though we may hasten to add that whether a particular activity is in the nature of investment or trade is purely a factual issue and would depend upon the particular facts involved in each case. The Hon'ble jurisdictional High Court for distinguishing share transactions to be investment as against trading activity laid down the following tests.

14. Though the aforesaid decision of the jurisdictional High Court is in the context of exercise of power u/s 263 by the Commissioner but the ratio laid down therein are applicable to other cases also and therefore constitutes binding precedent. The tests laid down therein are important indicators to differentiate 'investments' from 'trading activity'. Applying the aforesaid tests to the assessee's case it is to be noted that the assessee has made the investments with own funds. The closing stock is always valued at cost and not 'at cost or market price' whichever is lower. The assessee over the years has earned substantial dividend income including the year under dispute. There is no allegation that the assessee dealt in futures, derivatives and options. All the transactions of purchase and sales are delivery based. The assessee never claimed set off of the capital losses against other income. Unlike a trader the assessee has held large number of shares for an average period of 416 days and has invested in mutual funds and unquoted shares. In fact, the learned DR has fairly conceded that gain from mutual funds and unquoted equity shares cannot be business income. Most important factor is from the very beginning the assessee has treated the shares as investments and gain from sale of shares and mutual funds have been shown as capital gain. Department has also accepted it for all assessment years except in the impugned year even under scrutiny assessments. It is not disputed that in earlier assessment years the assessee had capital loss of quite substantial amount which was never set off. Had it been a trading activity, the Assessing Officer should have allowed set off as well as carry forward of such loss. On the one hand Assessing Officer is not allowing the loss to be set off and carried forward in the earlier asst. Years by treating it as investment activity. On the other hand when there is gain from sale of shares in impugned assessment year the Assessing Officer is treating it as trading activity. This is unacceptable. The assessee cannot be put to double jeopardy. The inference drawn by the Assessing Officer that because of volume and frequency of transaction it is a trading activity is also not acceptable. As held by the Hon'ble jurisdictional High Court in case of Spectra Shares & Scrips (P.) Ltd. (supra) volume or frequency of transaction cannot be the sole criteria to say that it is a trading activity. Similarly, the fact that the assessee is monitoring the stock market and buying at dips and selling at high with an intention to make profit is not conclusive to treat it as a trading activity. Thus, applying the aforesaid tests laid down by the jurisdictional High Court to the assessee's case, the transactions in purchase and sale of shares cannot be anything else but 'investments' of the assessee and the gain from sale of shares certainly as income of the assessee under the head 'capital gain'.

15. So far as the parameters laid down in case of PVS Raju (supra) for treating it as a trading activity of the assessee in that case, none of them are present in assessee's case. Furthermore, in case of PVS Raju (supra) the assessee's claim of 'investments' was not accepted because assessee himself was treating it as a trading activity prior to introduction of sec. 111A of the Act and whereupon the assessee started treating the share transactions as an investment activity. Whereas, the assessee before us, from the very inception has been treating the share transactions as 'investments' which is much prior to the introduction of sec. 111A to the statute. In case of PVS Raju (supra) most of the shares found to be held by the assessee between 1 to 7 days, which is not the case with the assessee. Therefore, considered in the broader perspective and keeping in view the factually distinguishing features, the decision in case of PVS Raju (supra) is not applicable to the assessee. Therefore, considering the totality of facts and circumstances in assessee's case and applying the tests laid down by the jurisdictional High Court in case of Spectra Shares & Scrips (P.) Ltd (supra), we are of the view that the finding of the CIT (A) in holding the dealing in shares by the assessee as its investment and directing the Assessing Officer to assess it as income under the head capital gain is most reasonable and appropriate, hence do not call for any interference. Accordingly, we uphold the order of the CIT (A) by dismissing the grounds raised by the department.

16. In the result, department's appeal is dismissed.