ITAT Mumbai Rules in Favour of Category III AIF: Gains from Securities Held as Capital Assets, Unit Premium Not Taxable

 The Mumbai Income-tax Appellate Tribunal (ITAT) in the case of 360 One has delivered a significant ruling in favour of a SEBI-registered Category III Alternative Investment Fund (AIF), holding that income from securities transactions must be treated as capital gains (not business income) when consistently reported as such. The Tribunal further ruled that unit premium arising from NAV-based issuances does not constitute taxable income, provided the valuation methodology is duly substantiated.

Background

• The taxpayer was an irrevocable determinate trust registered as a Category III AIF under the SEBI (Alternative Investment Funds) Regulations, 2012.

• In its income tax return, the taxpayer classified income from transactions in shares and securities as capital gains.

• The Assessing Officer (AO) sought to reclassify these gains as business income, citing the frequency and volume of transactions.

• Additionally, the AO treated the amount credited to the ‘unit premium reserve’ as income from other sources, arguing that no independent valuation report was furnished to justify the premium at which units were issued.

• The Commissioner of Income Tax (Appeals) [CIT(A)] deleted both additions, observing that the AO had not provided any cogent basis for recharacterising the gains, especially given the taxpayer’s consistent treatment across years. On the unit premium issue, the CIT(A) noted that the AO had failed to point out any specific defect in the Net Asset Value (NAV) computation.

• The Revenue appealed the CIT(A)’s decision before the ITAT.

Tribunal’s Findings

• Consistency in treatment: The Tribunal noted that the taxpayer had consistently treated gains from securities transactions as capital gains in prior years, and the Department had accepted that position. In the absence of any cogent contrary material, the principle of consistency was held to be binding.

• Reliance on CBDT Circular No. 6/2016: The Tribunal relied on the CBDT Circular, which clarifies that if a taxpayer opts to treat listed shares or securities as capital assets (and not stock-in-trade), the AO should not dispute the characterisation as capital gains, particularly when such treatment is consistently maintained across assessment years.

• Unit premium reserve addition unsustainable: The taxpayer had furnished investor details, KYC documents, contribution agreements, and NAV workings. Since the AO could not identify any specific defect in the NAV computation or disprove the genuineness of the transactions, the addition under ‘income from other sources’ was held to be unsustainable.

Key Takeaway

The ruling reinforces two important principles:

1. Consistency in the tax treatment of securities transactions, when accepted by the tax department in earlier years, carries significant evidentiary weight and cannot be disregarded without valid reasons.

2. Additions relating to unit premium or NAV-based issuances cannot be sustained where the taxpayer substantiates the valuation methodology with proper documentation, even in the absence of a separate valuation report.

3.