PETITIONER:
ANARKALI SARABHAI,SHAHIBAG HOUSE, AHMEDABAD
Vs.
RESPONDENT:
COMMISSIONER OF INCOME TAX,AHMEDABAD
DATE OF JUDGMENT: 24/01/1997
BENCH:
S.C. AGRAWAL, SUHAS C. SEN
ACT
HEADNOTE
JUDGMENT
JUDGMENT SEN, J.
In this case the question of law is:
Whether, on the facts and in the circumstances of the
case, the Tribunal was justified in holding that the
assessee was liable to pay tax in respect of capital
gains on receipt of the amount equal to the fact value
of the preference shares of M/s. Universal Corporation
Pvt. Ltd. on the company redeeming its preference
shares?
The High Court answered the question in the affirmative and against the assessee. The High Court granted a certificate of fitness for appeal under Section 261 of the Income Tax Act in view of the fact that they had taken a view contrary to the view adopted by the Madras High Court on this question.
The facts of the case, as stated in the judgment of the High Court, are as under:-
"The assessee is an individual and the assessment year
under reference is assessment year 1969-70, the year of
account being the calendar year 1968. The assessee held
297 redeemable preference shares of M/s. Universal
Corporation Private Limited a company incorporated
under the Companies Act (hereinafter referred to as the
"Company"). The face value of such of these preference
shares was Rs. 1,000/- and, therefore, the total face
value of these shares came to Rs.2,97,000/-. The
assessee had purchased these shares for Rs.2,68,550/-.
The Company decided to redeem the preference shares and
the assessee received Rs.2,97,000/- face value of the
shares held by her in the year of account relevant to
the assessment year under reference. Thus the value of
the shares received by the assessee exceeded the value
which he had paid for these shares by Rs.30,450/-. The
Income Tax Officer, assessing the assessee sought to
tax this amount of difference as capital gains under
Section 45 of the Act. The assessee resisted the action
proposed by the Income Tax Officer by contending that
redemption of her preference shares by the Company
would not amount to transfer within the meaning of
Section 2(47) of the Act and consequently the
difference between the value received by her from the
Company on redemption of shares and the price which she
had paid for the shares was not exigible to tax. In
other words, according to the assessee even if there
was any profit or gain, as a result of redemption on
shares by the Company, such profit or gain could not be
said to have arisen from the transfer of a capital
asset. The Income Tax Office, however, rejected the
contentions raised on behalf of the assessee and
brought capital gains arising out of the redemption of
the shares to tax."
The Appellate Assistant Commissioner as well as the Tribunal upheld the view taken by the Income Tax Officer.
It has been contended by Mr. G. Ganesh appearing on behalf of the appellant that there is no question of applicability of Section 45 of the Income Tax Act in this case because no ‘transfer’ of the preference shares had taken place because of the redemption of the shares. The capital received by the Company had been returned to the shareholder. The money was not paid by the Company to the shareholder because of any sale, exchange or relinquishment of the capital asset or extinguishment of any right therein. Our attention was invited to the definition of ‘transfer’ and it was contended that redemption of shares did not come within the mischief of Section 2(47).
Sections 2(47) and 45(1) are as
follows:-
"2(47). ‘transfer’, in relation to
a capital asset, includes,-
(i) the sale, exchange or
relinquishment of the asset; or
(ii) the extinguishment of any
rights therein; or
(iii) the compulsory acquisition
thereof under any law; or
(iv) in a case where the asset is
converted by the owner thereof
into, or is treated by him as,
stock-in-trade of a business
carried on by him, such conversion
or treatment; or
(v) any transaction involving the
allowing of the possession of any
immovable property to be taken or
retained in part performance of a
contract of the nature referred to
in section 53A of the Transfer of
Property Act, 1882 (4 of 1882); or
(vi) any transaction (whether by
way of becoming a member of, or
acquiring shares in, a co-operative
society, company or other
association of persons or by way of
any agreement or any arrangement or
in any other manner whatsoever)
which has the effect of
transferring, or enabling the
enjoyment of, any immovable
property;
Explanation. - For the purposes of
sub-clauses (v) and (vi),
‘immovable property’ shall have the
same meaning as in clause (d) of
section 269UA;
order to get this amount the assessee had to give up abandon or surrender the shares held by her. The meaning of the word ‘relinquish’ as given in Webster’s Comprehensive Dictionary, International Edition 1984, is "1. To give up; abandon; surrender. 2. To cease to demand; renounce; to relinquish a claim. 3. To let go (a hold or something held)." The assessee in this case has given up the shares and has received in lieu thereof a sum of money. This, in our view, comes clearly within the mischief of Section 2(47)(i).
That apart, in court view the transaction amounts to "sale".
Under the provisions of the Companies Act, 1956 the share capital of a company limited by shares may be of two kinds - (a) equity share capital and (b) preference share capital. Section 85 of the Companies Act has defined "preference share capital" to mean that part of the share capital of the company which fulfils both the following requirements:-
(a) as respects dividends, it
carries or will carry a
preferential right to be pair a
fixed amount or an amount
calculated at a fixed rate, which
may be either free of or subject
to income-tax; and
(b) with regard to capital, it
carried or will carry, on a winding
up or repayment of capital, a
preferential right to be repaid the
amount of the capital paid up or
deemed to have been paid up,
whether or not there is a
preferential right to the payment
of either or both of the following
amounts namely:-
(i) any money remaining unpaid, in
respect of the amounts specified in
clause (a), up to the date of the
winding up or repayment of capital;
and
(ii) any fixed premium or premium
on any fixed scale, specified in
the memorandum or articles of the
company.
Section 85(2) of the Companies Act has defined "equity share capital" to mean "all share capital which is not preference share capital." Section 80 of the Companies Act lays down that a company limited by shares may, if so authorised by its articles, issue preference share which are, or at the option of the company are to be liable, to be redeemed. This section, however, lays down that preference shares must not be redeemed except out of profits of the company which would otherwise be available for dividend or out of the proceeds of a fresh issue of shares made for the purposes of the redemption. They cannot be redeemed unless they are fully paid. The premium, if any, payable on redemption must have been provided for out of the profits of the company or out of the company’s share premium account before they are redeemed.
There are other provisions in Section 80 which are not necessary for the purpose of this case. But, it has to be noted that it has been specifically provided in sub-section (3) that the redemption of preference shares shall not be treated as reduction of the amount of the authorised share capital. The balance sheet of the company which has issued redeemable preference shares must specify any part of the issued capital of the company that consists of such shares, the earliest and latest dates on which the company has power to redeem them, whether they must be redeemed in any event or are liable to be redeemed at the option of the company, and whether any (and, if so, what) premium is payable on redemption.
The other provision of the Companies Act which is important in this connection is Section 77 which is as under:-
"77. Restrictions on purchase by
company, or loans by company for
purchase, of its own or its holding
company’s shares.-
(1) No company limited by shares,
and no company limited by guarantee
and having a share capital, shall
have power to buy its own shares,
unless the consequent reduction of
capital is effected and sanctioned
in pursuance of sections 100 to 104
or of section 402
(2) ... ...
...
(3) ... ...
...
(4) ... ...
...
(5) Nothing in this section shall
affect the right of a company to
redeem any shares issued under
Section 80 or under any
corresponding provision in any
previous companies law."
This section clearly implies that redemption of its preference shares by a company would have come within the bar of purchasing its own shares by a company. This specific provision of sub-section (5) was necessary to get over the bar. The company redeemed its preference shares only by paying the preference shareholders the value of the shares and taking back the preference shares. In effect, the company has bought back the preference shares from the shareholders. It may have been done at a date set by the terms of the issue. When a preference share is redeemed by a company, what a shareholder does in effect is to sell the share to the company,. Such a transaction is nothing but sale of the preference shares by the shareholders to the company. That is why after specifically laying down in Section 77(1) that no company shall have the power to buy its own shares, it was necessary to specify in sub-section (5) that this provision shall not affect the right of a company to redeem any shares issued under Section 80. If redemption of preference shares did not amount to sale, it would not have been necessary to specifically provide that the restriction imposed upon a company in respect of buying its own shares will not apply to redemption of shares issued under Section 80.
Therefore, in my judgment, the redemption of preference shares by the company will squarely come within the phrase "sale, exchange or relinquishment of the asset".
There can be no dispute that the shares held by a member in a company is movable property transferable in the manner provided in the Article of Association of the company. There can also be no dispute that the shares can be held by a member as stock-in-trade or capital assets. In the instant case, the preference shares were held as capital assets. The excess amount received by the shareholder on redemption of these shares will have to be treated as capital gain in view of the provisions of Section 2(47) read with Section 45 of the Income Tax Act.
I shall not refer to the various cases that were cited at the bar.
In the case of Commissioner of Income Tax, Gujarat v. R.M. Amin, 106 ITR 368, the company went into voluntary liquidation. The assessee as a shareholder received an amount from the liquidator which was in excess of the amount that he had paid for those shares. It was held that there was no transfer of any capital asset within the mewing of Section 2(47) of the Income Tax. Act. When a shareholder receives money representing totality of rights in the property. In the third case, there may be reduction of the exclusive interest in the totality of the rights of the original owner into a joint or a share interest with others. An exclusive interest in property was a larger interest than a share in that property. To the extent to which the exclusive interest was reduced to share interest, there was a transfer of property.
This again, has no bearing on the question whether redemption of preference shares will come within the mischief of Section 2(47) of the Income Tax Act.
The Bombay High Court in Sath Gwaldas Mathuradas Mohata Trust v. Commissioner of Income Tax, 165 ITR 620, dealt with the question which has now arisen in this case. There the question was whether the amount received by the assessee on redemption of preference shares was liable to tax under the head "capital gains". After referring to the meaning given to "transfer" by Section 2(47) of the Income Tax Act, the Court held:
"Here, a regular "sale" itself has
taken place. That is the ordinary
concept of transfer. The company
paid the price for the redemption
of the shares out of its fund to
the assessee and the transaction
was clearly a purchase. As rightly
observed by the Tribunal, if the
company had purchased a valuable
right, the assessee had sold a
valuable right. "Relinquishment"
and "extinguishment" which are not
in the normal concept of transfer
but are included in the definition
by the extended meaning attached to
the word are also attracted in the
transaction. The shares were assets
and they were relinquished by the
assessee and thus relinquishment of
assets did take place. The assessee
by virtue of his being a holder of
redeemable cumulative preference
shares had a right in the profits
of the company, if and when made,
at a fixed rate of percentage.
Quite obviously, this was a
valuable right and this right had
come to an end by the company’s
redemption of shares. Thus, the
transaction also amounted to
"extinguishment" of right. Under
the circumstances, viewed from any
angle, there is no escape from the
conclusion that section 2(47) was
attracted and that the amount of
Rs.50,000 received by the assessee
was liable to be taxed under the
head "Capital gains".
The view taken by the Bombay High Court accords with the view taken by the Gujarat High Court in the judgment under appeal. In the judgment under appeal, it was pointed out that the genesis of reduction or redemption of capital both involved a return of capital by the company. The reduction of share capital or redemption of shares is an exception to the rule contained in Section 77(1) that no company limited by shares shall have the power to buy its own shares. When it redeems its preference shares, what in effect and substance, it does is to purchase preference shares. Reliance was placed on the passage from Buckley on the Companies Acts, 14th Edn., Vol. , at p. 181:
"Every return of capital, whether
to all shareholders or to one, is
pro tanto a purchase of the
shareholder’s rights. It is illegal
as a reduction of capital, unless
it be made under the statutory
authority, but in the latter case
is perfectly valid."
Reference was also made to
Pennington’s company Law, 4th Edn.,
p 192:
"The general rule is that a company
cannot issue shares on terms that
it shall or may redeem them at an
agreed future date, because the
redemption would amount to a
purchase by the company of its own
shares, which is illegal."
We are of the view that the High Court has come to a right decision in this case. The redemption of preference shares in the facts of this case will squarely come within the meaning of the phrase "sale, exchange or relinquishment of the asset".
We were also referred to a decision of Madras High Court which was a case of reduction of share capital and also the decision in Commissioner of Income Tax, Bombay v. Rasiklal Maneklal (HUF), 177 IIR 198, which again was a case of amalgamation of two companies. In the facts of that case, it was held that there was neither any exchange nor any relinquishment of an asset by the assessee. Consequently, there was no transfer within the meaning of Section 12B of the Indian Income Tax Act, 1922.
The case of Vania Silk Mills P. Ltd. v. Commissioner of Income Tax, 191 ITR 647, is also not of any assistance for the purpose of this case. That was a case where insurance money was paid for loss of machinery. It was held that the amount received in replacement of machinery could not be treated as capital gain because payment of insurance claim was not in consideration for machinery taken over. This was not a case of extinguishment of right in the property on account of destruction or loss of asset.
Mr. Ganesh also strenuously argued that this is not a case where the extinguishment of any right in the preference shares had taken place. The preference share itself stood extinguished by redemption. Therefore, clause (ii) of Section 2(47) could not be invoked in the facts of this case to bring the surplus amount received by the assessee to tax as capital gains under Section 45 of the Income Tax Act.
In court vies, the case squarely comes within clause (i) of Section 2(47). Therefore, it is not necessary to express any opinion on the last contention of Mr. Ganesh.
The appeal is dismissed. The judgment under appeal dated 18/22-8-1992 is affirmed. There would be no order as to costs.