Tax Insights

from India Tax & Regulatory Services

Capital gains not chargeable on

transfer of undertaking without
consideration by a wholly-owned
subsidiary to its holding company
under a scheme of arrangement

November 21, 2016

In brief
Recently, in the case of the A Limited, the taxpayer1, the Mumbai Income-tax Appellate Tribunal
(Tribunal) held that hive-off of telecom business by A Limited to its holding company, I Limited,
without any consideration pursuant to a scheme of arrangement under sections 391 to 394 of the
Companies Act, 1956 (Scheme), and duly approved by the jurisdictional High Courts (HCs), was not
subject to capital gains tax liability under section 45 of the Income-tax Act, 1961 (the Act).

In detail separate from the telecom exemption from capital gains

Facts
A Limited1 had a unified access
services license since
November 2006 for providing
telecom services in Bihar
(including Jharkhand). A
Limited became a wholly
owned subsidiary of I Limited
with effect from 28 February
2007. During financial year
(FY) 2009-10, A Limited and I
Limited had entered into a
Scheme whereby the following
steps were sought to be
undertaken:
(i) Transfer of telecom
business of A Limited to I
Limited without any
consideration; and
(ii) In A Limiteds books, the
revaluation of an investment
in C Limited, an asset
1
TS-608-ITAT-2016(Mumbai-Tribunal)
business of A Limited and
retained by A Limited. As a
result of such revaluation, a
business restructuring
reserve was created in A
Limiteds books.
The Scheme was duly
sanctioned by the jurisdictional
HCs in FY 2009-10 itself
without any modifications.
Revenues contentions
During the course of
assessment, the tax officer
(TO) had served a show cause
notice as to why such Scheme
should not be subjected to
capital gains tax under section
45 of the Act. The TO
contended that it was not a
demerger within the meaning
of the Act, and hence, A
Limited was not entitled to any
tax under section 47 of the Act.
The TO further observed that A
Limited was not entitled to the
exemption under section
47(iii) of the Act which, inter
alia, provided that a gift, per
se, was exempt from being
considered as transfer under
section 45 of the Act. This was
because the TO believed that
the full value of consideration
accruing to A Limited against
transfer of the telecom
business was the revalued
amount of the investment in C
Limited.
Further, the TO contended that
such transfer was a slump sale
within the meaning of section
50B read with section 2(42C)
of the Act. Consequently, the
TO computed short-term
capital gains considering the

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Tax Insights
revaluation of the investment in C
Limited as full value of the
consideration, and adopted it as
the cost of acquisition under
section 50B and determined the
short-term capital gain in the
hands of A Limited.
Consequently, the TO passed an
order against A Limited, which
was upheld by the Commissioner
of Income-tax (Appeals) [CIT(A)]
in the appeal filed by A Limited.
Subsequently, being aggrieved by
the CIT(A)s order, A Limited
filed an appeal before the
Mumbai Tribunal.
Taxpayers contentions
A Limited canvassed the
following contentions before
both, the lower authorities and
the Mumbai Tribunal:
(i) In absence of consideration,
the computation mechanism
under section 48 fails
Since A Limited never received
or accrued consideration, no
capital gains would arise in its
hands. A Limited relied upon
Supreme Court (SC) decisions
in B.C. Srinivasa Setty2 and in
PNB Finance Limited3 wherein
it was observed that the
cardinal principle of law was
that the charging section and
the computation provisions
together constituted an
integrated code. When there
was a case to which the
computation provisions could
not apply at all, it would imply
that such a case was not
intended to fall within the
scope of charging section
under section 45 of the Act.
Where one of the ingredients
for computing capital gains
was absent (consideration, in
this case), no capital gains
could have been levied due to
failure of the computation.
2 5
B.C. Srinivasa Setty (128 ITR 294)
3
PNB Finance Limited (307 ITR 75)
4 6
Shivakami Company P. Ltd. (159 ITR
71), CIT v. George Henderson & Co. (66
PwC
(ii) Full value of consideration
could not be imputed
No artificial value (revalued
amount of investment) could
have been imputed while
computing capital gains tax
liability under section 45 of
the Act. Various judicial
precedents4 were relied upon.
The taxpayer contended that
what could have been taxed in
the sellers hands was the real
gain that accrued from
transfer of the assets. Hence,
in absence of any sale
consideration, no notional
gain based on hypothetical
value could have been
imputed in the sellers hands.
Under the erstwhile section 52
of the Act, the TO could adopt
fair market value of the asset as
full value of consideration only
if there was evidence that the
taxpayer had received the
difference between the value
actually received and market
value of assets sold.
Therefore, capital gains tax was
always intended to tax the
taxpayers actual gain, and not
what the taxpayer might have
gained, had he transferred the
asset at fair market value. In
the present case, the business
restructuring reserve was
merely a notional reserve
created in its books on account
of revaluation of its
investment, and not an actual
consideration accruing to A
Limited.
(iii)Nexus of consideration with
transfer of capital asset
A Limited contended that
consideration/ receipts should
have accrued as a result of an
actual transfer of capital asset.
Therefore, consideration
should have had a nexus with
ITR 622), Bajnath Chaturbhuj (31 ITR 643
(Bom)), Amiantit International Holding
Limited, In re [322 ITR 678 (AAR)], Dana
Corporation, In re [(321 ITR 178) (AAR)]
the transfer. Revaluation of
investment and credit to
business restructuring reserve
were a result of the taxpayers
unilateral act. Relying upon the
SC decision in Vania Silk Mills
Private Limited5, it contended
that there was no nexus
between transfer of telecom
undertaking by A Limited and
revaluation of the investment
in C Limited, except that both
transactions were independent
transactions arising from the
scheme of arrangement.
(iv) Non-applicability of sections
50C and 50D
Since there was transfer of an
entire business undertaking,
and not of any land or
building, section 50C of the
Act could not be applied to
the present case.
Furthermore, section 50D
could not be made applicable
to the present case, since the
Scheme categorically stated
that the transfer would be
without any consideration,
and hence, the consideration
could not be said to be
indeterminate or not
ascertainable it was a case
of no consideration.
(v) Not a slump sale within the
meaning of section 50B
The transfer of telecom
undertaking was not a slump
sale, since the prerequisite of
a slump sale was that it
should have been as a result
of a sale, which was missing
in this case. Relying on
Sadanand S. Varde v. State of
Maharashtra6, the taxpayer
contended that a transfer of
property consequent to
Scheme of Arrangement
approved by HC could not
have been considered as sale.
Vania Silk Mills P Limitred [107 ITR 300
(SC)]
Sadanand S. Varde v. State of
Maharashtra (247 ITR 609)
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Tax Insights
(vi) Exemption under section
47(iii)
Voluntary transfer of property
by any person without any
consideration was regarded as
a gift. There was no
requirement that a gift had to
be made only between two
natural persons. The Act itself,
under section 56(2)(viia),
recognised the concept of gift
by one corporate to another.
Therefore, if a gift was
permitted by the
Memorandum of Association
of A Limited itself, exemption
under section 47(iii) of the Act
should have been available to A
Limited.
(vii) Exemption under section
47(v)
Since this was a case of transfer
by a wholly owned subsidiary
company to its Indian holding
company, it could not be
regarded as a transfer by virtue
of the specific exemption
granted under section 47 (v) of
the Act.
PwC
Tribunals ruling
The Mumbai Tribunal took
cognisance of the fact that the
transfer of telecom business of A
Limited was without any
consideration and the Scheme
specifically provided for the same.
Further, the jurisdictional HCs
had duly approved the Scheme
without any modifications.
Therefore, no consideration had
accrued to A Limited upon
transfer of its telecom business.
Further, it observed that in
absence of a specific enabling
provision in the Act, the TO did
not have any power to substitute
the consideration envisaged in the
Scheme, or to impute a notional
gain based upon a hypothetical
consideration. It therefore held
that it was unjust and
unwarranted to impute or assume
a notional consideration for
computation of capital gains tax.
Other contentions raised by A
Limited were also accepted by the
Mumbai Tribunal while ruling in
favour of A Limited. Accordingly,
it deleted the capital gains tax
liability sought to be levied by the
Revenue authorities.
The takeaways
Many legal facets are dealt with in
detail in this judgment, such as
permissibility of corporate gift,
impossibility of computation of
capital gains in absence of a
particular element, restriction on
the TOs powers to impute
hypothetical consideration,
inapplicability of section 50C of
the Act to a case of transfer of
undertaking as a whole versus
itemised transfer of land or
building, and inapplicability of
section 50D of the Act if there is
no consideration accruing to the
taxpayer. Therefore, this
judgment provides greater clarity
on various issues involved in any
corporate restructuring.
Lets talk
For a deeper discussion of how
this issue might affect your
business, please contact your
local PwC advisor.
Page 3
Tax Insights

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