Lending of shares cannot be construed as transfer within the definition of “transfer” giving rise to capital gains tax
Section 2(47) of Income-tax Act (“the Act”) defines transfer, which, inter alia includes sale, exchange, relinquishment of the asset or extinguishment of any rights therein. In the case of Phulchand Sons Investments Pvt. Ltd. v. ACIT (ITA No.293/Mum/2009) the Mumbai Bench of Income Tax Appellate Tribunal (“the Tribunal”) observed that the assessee had undertaken a loan transaction and not sale of shares during the subject assessment year. The revenue authorities were unable to bring any evidence on record to establish that the assessee had engaged in a sale transaction and not a loan transaction. Accordingly, the Tribunal held that lending of shares is not a ‘transfer’ within the meaning of section 2(47) of the Act, and hence, is not taxable. Facts
Classic Credit Ltd. (“CCL”), had sold 1.5 million Global Trust Bank (“GTB”) shares on 20 November, 2000 and a further o.6 million GTB shares on 27 December, 2000 in the market. To meet the delivery of shares, it requested the assessee for lending of 2 million GTB shares. The assessee allowed the shares to be lent as part of lending of shares after taking a deposit of INR 1.5 million and based on CCL’s written request credited the shares to the demat account of the broker of CCL directly. In its tax return for AY 2000-01, the assessee treated the transactions as lending of shares and the value of shares was shown in the Balance Sheet as investment.
The Commissioner of Income Tax (“CIT”) by invoking the provisions of section 263 of the Act, was of the opinion that the transaction resulted in sale of 2 million GTB shares and capital gains thereon was required to be computed for AY 2000-01. Accordingly, he directed the Assessing Officer (“AO”) to compute the capital gains. Consequently, the AO examined the issue and held that the lending of shares is a colourable transaction, and that the assessee had sold the shares to a third party. Capital gains was computed accordingly, based on the sale consideration amounts executed by CCL. Against the order of the AO, the assessee preferred an appeal before the Commissioner of Income Tax (Appeals) (“CIT(A)”). The CIT(A) upheld the order of the AO and confirmed the additions so made.
Against the order of the CIT(A), the assessee preferred an appeal before the Tribunal.
• The assessee had purchased the shares for the purpose of investment in earlier years. The beneficial interest of the shares lent remained with the assessee and the right of ownership and title of the shares vested with the assessee and hence the same was shown in the Balance Sheet as on 31 March, 2001. All the beneficial interest, such as dividend, rights, bonus, etc. declared during the period of lending also accrued to the assessee.
• On request of CCL by letters dated 24 November, 2000 and 27 November, 2000, the assessee lent and CCL borrowed 2 million shares of GTB. CCL had sold the shares first in the market and for delivery of the shares, they borrowed the bulk shares from the assessee.
• Lending and borrowing of shares is a widely prevalent practice in the stock market. In order to improve the liquidity in the stock market and facilitate the timely settlement of transactions in securities, a securities lending scheme has been framed by the Securities and Exchange Board of India (See Note- 1).
• The Central Board of Direct Taxes (“CBDT”) has also dealt with the taxation issue of lending of shares in its Circular No. 751 dated 10 February, 1997 and explained whether such lending of shares under the securities lending scheme will amount to transfer? The CBDT clarified that the transaction of lending of shares of some distinctive numbers and receiving back shares of some other numbers is not a case of “exchange” of assets within the meaning of “transfer” as defined in section 2(47) of the Act. “Exchange” necessarily involves exchange of two different assets. Accordingly, the transaction of lending of shares or any other security under the securities lending scheme would not result in a taxable transfer within the meaning of section 2(47) of the Act.
• The lending was for a short period; however, due to unforeseen financial setbacks suffered by Ketan Parekh group (CCL was part of the Ketan Parekh group) the assessee could not recover the shares on the due date. The assessee, as owner of the shares, and by virtue of Law of Contract and the Companies Act, 1956 had all the rights which a beneficial owner of the shares had.
• The shares were subsequently sold by the assessee company in A.Y. 2003-04 and the income arising thereon was offered to tax under the head ‘Capital Gains’.
• The CIT(A) observed that the transaction was a bogus transaction and the company CCL was brought in as a special purpose vehicle to undertake sale of GTB shares.
• The transaction was not a loan transaction as the stock lending was supposed to be observed in letter and spirit of the CBDT circular No. 751 and the guidelines therein, which were not followed by the assessee.
• The shares were not lent through any approved intermediary and there was no agreement to prove that the shares were lent.
• The CIT(A) also pointed out that the shares were transferred to the demat account of the broker directly and not to the account of the CCL, which was supposed to have received the shares.
• As the sequence of events indicate, the sale was made by CCL through the broker. The sale details placed on record before the AO were regarding sale of 2.1 millions shares of GTB by CCL, which was accounted for in the books of CCL. The transactions of CCL, which were recorded in CCL’s books of account, had been treated as transactions of the assessee without establishing that the said transaction was that of the assessee.
• The correspondence between the assessee and CCL did not indicate that it was the assessee who undertook the whole exercise by just giving shares as a loan and transferring the shares to the demat account. The Revenue did not brought on record how it helps the assessee in avoiding capital gains.
• Based on the wordings of Circular 751, the meaning of the expression “exchange” necessarily involves exchange of two different assets and at no stage, the lender or the borrower intended to “exchange” different assets. Hence, the transaction of lending of shares under the security lending scheme would not result in a ‘transfer’.
• The sequence of events indicate that this was only a lending transaction and not a case of sale of shares. In view of the confirmations / submissions on record it cannot be stated that the assessee had sold the shares through a “special purpose vehicle” of CCL, which is an independent company transacting on its own. Also, the Revenue was unable to bring any evidence on record to establish that the assessee was engaged in a sale transaction and not in a loan transaction.
• In view of these facts, there was no basis for Revenue’s contention that the assessee had sold, rather than lent, shares in the year under examination.
Section 47(xv) provides for a specific exemption from capital gains tax on lending of securities made under the Securities Lending Scheme of SEBI. Though the lending of shares in this case was a private / bilateral transaction and was not in accordance with the Securities Lending Scheme, 1997, the Tribunal held that lending of shares is not a taxable transfer within the meaning of section 2(47) of the Act in the hands of the lender.
Note- 1: - The SEBI Board approved the Securities Lending Scheme in its Board meeting held on 30 January, 1997 and notified the same vide its Press Release (Ref No. PR 19/97) dated 7 February, 1997. The scheme came into operation with effect from 6 February, 1997.