Recently, Delhi ITAT in the case of Hespera Realty Pvt. Ltd . [ITA No. 764/Del/2020] / have turned down AO’s attempt to recharacterize an amount transferred to capital reserve during AY 2015-16 pursuant to accounting treatment specified under scheme of amalgamation duly approved by the High Court. AO termed the entire transaction as colorable device and recharacterized the amount of Rs. 247 crores transferred to capital reserve as revaluation reserve to treat it as adjustment to book profit as per clause (j) to Explanation 1 u/s 115JB and levied the MAT on the same. ITAT has held in favour of taxpayer.
Facts
of the Scheme:
Object of the Scheme
With the object to bring 6 closely held
companies under one roof to achieve synergies and management focus, 5 companies
have been ultimately amalgamated into 1 company in two step court approved
scheme of arrangement. Under the first step, wholly owned subsidiaries who were
holding shares of Indiabulls Housing Finance along with land,got amalgamated
with its respective parent company. Under
the second step, two closely held companies of Maritime India Trust (a shareholder of assesseee) got
amalgamated into assesee company.
All assets, employees and liabilities
would vest with amalgamated company as a going concern as per the scheme. From
amongst the assets and liabilities transferred, it included share of listed
company Indiabulls Housing Finance which was purchased at Rs. 143 crores and
having FMV of Rs. 390 crores as on the appointed date.
Purchase Consideration
Purchase consideration have
been determined at only Rs. 2 lakhs (equivalent to paid up share capital of the
amalgamating company) which was
discharged through shares of the amalgamating company. HC allowed the
scheme without valuation report being placed
before it as ultimate shareholders of the companies remains the
same.
Appointed Date:
HC has approved
the scheme in May 2015 with effect from 01st August 2014 being the appointed date. It is worth noting the fact that shares of
Indabulls Housing Finance Ltd have been ultimately sold for Rs. 423 crores during
the period August
2014 to January
2015. i.e. much
before the scheme
was approved and such
fact have not been brought to notice of HC. This precisely was AO's contention
whereby he doubted the bonafides of the scheme. As specifically mentioned in the
scheme, transferor company is carrying out activities on behalf of amalgamating company
from the appointed
date till effective
date.
Accounting
Treatment:
In the scheme, it was clearly provided
that the amalgamating company to record
the transaction at fair market value as per purchase method being one of method
allowed under Accounting Standard 14,
“Accounting for Amalgamations” and difference between FMV of Net Assets and
consideration to be transferred to capital reserve. Here, it is interesting to note that assesee has discharged the
minimal
consideration and yet inflated the book value of
assets by Rs. 247 crores. Tax Treatment of Amalgamation:
If all assets and liabilities are transferred to
amalgamated company and at least 75% shareholders of amalgamating company
become shareholders of amalgamated company, transaction will qualify as “
amalgamation” as per section 2(1B) of the income tax Act and such transaction would not be regarded as transfer u/s 47(vi) of the Act thereby not subject to capital gains tax in the year of amalgamation. Further, there is no
condition tied to such exemption u/s 47(vi) as to requirement to hold
assets/maintain wos relationship vested through tax neutral amalgamation for a
specified period unlike applicable to asset transfer between
holding-subsidiary company u/s 47 (v) of the
Act.
It is worthwhile to note that section 2(1B) of the
Income tax Act nowhere prescribes the
condition on how accounting is to be carried out in the books of amalgamated
company. Therefore, even
if assets and
liabilities are fair
valued in the
books of amalgamated company, it remains
tax exempt transfer.
Importantly, section 2(1B) does not lay down any condition for adequacy
of the purchase consideration for being eligible to qualify as “amalgamation”. It only requires that consideration should be discharged in shares. While
stipulating that 75% of shareholders of amalgamating company
to be shareholders of
amalgamated company, there is no condition on share exchange ratio. Even if, negligible portion of shares were allotted it would fulfill
the condition.
Tax impact on subsequent
transfer of listed shares
As per section
2(42A) of the Act, Listed
equity shares would
be considered as Long term
capital assets if they
are hold for more than 12 months
and as per clause ( c ) to Explanation 1 (i) , period for which assets
are owned by amalgamating company would be included for such purpose.
As per section 49(1) if shares are
acquired through amalgamation which is not regarded as transfer u/s 47(vi), the
cost of previous owner would be cost of the assets in the hands of amalgamating
company.
As per section 10(38) of the Act as
applicable for AY 2015-16, Capital
Gain is exempt on sale of listed equity shares which were held for more than 12
months and Securities Transaction Tax (STT) is paid on its transfer.
However, such exemption is applicable only to computation of income as per
normal provisions. While Computing Book Profits
u/s 115JB for companies, such gain on transfer of shares as credited to profit and loss
account remain taxable under Minimum
Alternate Tax (MAT).
Contention
of Tax Department
Based on above tax laws, assessee has claimed exemption
on computation of capital gain of Rs. 280 Crores (being sales price less original
cost in the hands of amalgamating company) under normal provisions and offered to tax
under MAT an amount of Rs. 33 crores
which were credited to profit & Loss account
being difference between sales price and fair value.
Amalgamating companies were not liable for capital
gains tax as it is not transfer
and purchase consideration being nominal there
is loss in the books of account which
saved them from MAT. By this process, assessee
saved MAT on book profit of Rs.
247 Crores. Assessing officer has sought to add the same under MAT by
recharacterizing the same to
revaluation reserve on the ground that entire arrangement is colorable device.
Scheme was conceived with intention of
avoiding tax and crucial facts were concealed before High court Amalgamating
companies were never in active business pre and post amalgamation and shares
have been transferred before the approval of amalgamation.
There was no commercial rationale
for adopting purchase method of accounting as entities are under common control
AO relied on certain decision to
emphasize n Tax avoidance is not permitted including the Mcdowell & Co.
(SC]and Wipro (Kar HC) and hold that amount transferred to capital reserve
represents “revaluation reserve”
ITAT’s Observations
Scheme was conceived to achieve
operational efficiencies. Land owned by all the amalgamating companies have been
consolidated and it will result in synergies.
Cases relied by AO are not
applicable to the instant case.
AO could not bring any tangible material
on record to prove nature of scheme as sham. Purchase method was adopted as per
applicable accounting standard issued by ICAI
Accounting treatment is as per
applicable accounting standard, in conformity with provisions of
companies Act, Balance sheet have been
duly certified by auditors and approved by Board of Directors/Shareholders/ROC.
Revaluation reserve is the
one which gets credited on revaluing company’s own assets. However, in the
instant case, assessee has acquired the asset and recorded the fair market
value as its own cost of acquisition. Further, AS-13 does not allow revaluing investments
ITAT has allowed the appeal of assessee
in its favor and deleted the disallowance.
Other Aspects (Not considered in the decision)
Applicability of Anti Avoidance Provisions Section 56-IFOS- Recipient
perspective
Section
56 have been amended from time to time to act as anti -abuse provisions to
counter tax dodging exercise. It is
plausible to apply section 56(2)(viib) in the
given case as consideration received (being FMV of Net assets of amalgamating
company) for issuance of shares is higher than face value of shares issued
however there is no discussion on the same in ITAT
order . It can be argued to defend applicability of 56(2)(viib) that
there is no transfer under
court approved scheme
and it is statutory
vesting of assets and liabilities. Unlike section
56(2)(x), there is no exception for amalgamation which
is not regarded as transfer u/s 47(vi) of the Act in section
56(2)(viib).
Further, provision of section 56(2)(x)
of the Act which covers transfer after 01st April 2017 also provides exception
for amalgamation which is not regarded as transfer u/s 47(vi) of the Act.
Domestic Transfer Pricing
Domestic transfer pricing provisions as
contained in section 92BA of the act requiring transactions with related party
to be benchmarked based on arm’s Length Principle are not applicable to the
present case for following reasons.
Section
92BA of the Act , as applicable for FY 2014-15,
covers in its scope (1) expenditure for payment to related party and (2) transactions
with closely connected parties which has bearings on profits of eligible
business u/s 80-IA,IB,IC or 10AA,
etc. While there
have been divergent views on whether
expenditure covers loss or not, amalgamating company is still
not affected in the given
case as transaction is not regarded
as transfer therefore it does not result in eligible business
loss or capital loss.
Specific Anti-abuse provisions
under Capital Gain Chapter
Section 50CA, 50D of the Income-tax Act
dealing with upward revision to consideration in certain cases are not
applicable for transfer of listed shares. Even so, in the given case,
amalgamation is not regarded as transfer and hence such provisions are not applicable
from the viewpoint of amalgamating company.
General Anti Avoidance Rule
(GAAR)
Chapter -XA have been inserted to income
tax Act, 1961 wef 01st April 2018 whereby Tax department has power to
recharacterize the transaction if a step in or part of the arrangement is done
with the main purpose of tax benefit and it lacks commercial substance. However,
the same is not applicable in the instant case as transaction have been carried
out much before the provisions of chapter-XA have come into effect.
Purchase
method of accounting under AS-14
As per accounting
standard-14, for an amalgamation to be regarded as in the nature of merger, one
of the conditions, from amongst five, is to account all assets and liabilities
at their carrying value. Once this condition is not satisfied, it is considered
as amalgamation in the nature of purchase and it is to be accounted as per
purchase method. Under the purchase method, all asset and liabilities can be
accounted either at
their book value or consideration is
to be allocated
to individual identifiable
assets based on their fair
values at the date
of amalgamation. Therefore, purchase method of accounting does not allow to record assets at fair market value if it is not discharged
through consideration. Correct application of purchase method requires
consideration to be allocated in the proportion of fair value. Hence, in the
instant case, treatment given by assesee to record assets at Fair market
value on one hand and to create capital reserve
on the other hand seems not in conformity with accounting standard.
Impact
on Stamp duty
Courts have held that High court order
sanctioning the scheme of amalgamation is an instrument of conveyance as per
the Indian stamp Act, 1899 as definition of conveyance is inclusive definition.
Stamp duty
is applicable on the shares issued as
part of consideration to the shareholders of amalgamated company. Assessee has
in the instant case, by keeping the purchase consideration to a minimal amount
of Rs. 2 lakhs have saved on stamp duty as well.
Concluding
remarks
The instant case is classic example of
tax planning through court approved scheme where accounting treatment have been
made part of the scheme.
Assessee has
Ø by complying conditions of
amalgamation u/s 2(1B) achieved the transfer as tax neutral under normal
provisions.
Ø by keeping purchase consideration as
very negligible, saved MAT liability in the books of amalgamating company and
stamp duty on the transaction
Ø through use of purchase method of
accounting and by fair valuing investments, saved MAT in the amalgamated
companies books.
It is worthwhile to note that INDAS-103
“Business combinations” provides that amalgamation between commonly controlled
entities to be accounted for as per “ Pooling of Interest method ” only
implying that assets and liabilities are to be recorded at their carrying value
only and fair valuation is not permitted.
Section 232 of the companies Act, 2013
lays down that wef 15th Dec 2016, a certificate from statutory auditor is
required to be laid before NCLT confirming
that the accounting treatment proposed in the scheme is in conformity with
applicable accounting standard.
Further, with applicability of GAAR from
FY 2017-18, tax authorities are empowered to deal with such transaction with
more arms and ammunition specifically when it lacks commercial substance.
Considering developments in terms of
INDAS, Companies Act, 2013 and provisions of GAAR, taxpayer need to thoroughly scrutinize the transaction in order to sail through
tax authorities’ actions.
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