Case Law Details
Management Structure & Systems Vs. ITO (ITAT Mumbai)
The assessee, engaged in management consultancy, offered profits of Rs. 1.03 crores earned by it on sale of shares as long-term and short-term “capital gains” depending on the period of holding. The AO took the view that as the assessee was regularly dealing in shares throughout the year, the assessee was engaged in the “business” of trading in shares and that the profits were asses sable as “business income“. This was confirmed by the CIT (A). On appeal by the assessee, HELD allowing the appeal:
(i) Though there is no fixed formula to determine whether the activity of purchasing and selling shares can be treated as a trading activity or as investment activity, certain guiding principles have been laid down in CBDT’s Circular No. 4/2007 dated 15.6.2007 (Given Below) as well as in Gopal Purohit 122 TTJ 87 (Mum) (affirmed in 228 CTR 582 (Bom)), Saranath Infrastructure 120 TTJ 216 (Luck) and other judgements. These principles of law have to be applied to the following facts:
(a) As per the books of account, the assessee has treated the entire investment in shares as an “investment” and not as “stock-in-trade”;
(b) The assessee is not a share broker nor he is having a registration with any Stock Exchange;
(c) Almost 83% of the capital gain is from shares that were held for a long period of time;
(d) There were no derivative transactions by the assessee;
(e) There were no transactions without delivery;
(f) The assessee used his own surplus funds for investing in shares and not borrowed any money;
(g) In the preceding years, the assessee consistently declared the gain/ profit on the sale of the shares as ‘Capital Gains’ and the same has been accepted by the A.O. Though the rule of res judicata is not applicable to income-tax proceedings, in the absence of change in facts, there should be consistency in the approach of the Revenue;
(h) The assessee received substantial dividend on the investments.
(ii) The intention of the assessee cannot be read from his mind but it reflects in his conduct and the way he treats the transactions. Considering the totality of the facts, the transactions of sale and purchase of shares cannot be treated to be trading in shares nor as an adventure in the nature of the trade but is assessable as ‘capital gain’.
Note: In J. M. Share & Stock Brokers (Summary given below) and Gopal Purohit 228 CTR 582 (Bom), the assessee had separate portfolios for trading and investment. See Also Sarnath Infrastructure 120 TTJ 216 (Luck) where the legal principles have been succinctly summarised.
___________________________________________________________
Distinction between shares held as stock-in-trade and shares held as investment – tests for such a distinction
INCOME TAX CIRCULAR NO. 4/2007, DATED 15-6-2007
The Income Tax Act, 1961 makes a distinction between a capital asset and a trading asset.
2. Capital asset is defined in Section 2(14) of the Act. Long-term capital assets and gains are dealt with under Section 2(29A) and Section 2(29B). Short-term capital assets and gains are dealt with under Section 2(42A) and Section 2(42B).
3. Trading asset is dealt with under Section 28 of the Act.
4. The Central Board of Direct Taxes (CBDT) through Instruction No.1827 dated August 31, 1989 had brought to the notice of the assessing officers that there is a distinction between shares held as investment (capital asset) and shares held as stock-in-trade (trading asset). In the light of a number of judicial decisions pronounced after the issue of the above instructions, it is proposed to update the above instructions for the information of assessees as well as for guidance of the assessing officers.
5. In the case of Commissioner of Income Tax (Central), Calcutta Vs Associated Industrial Development Company (P) Ltd (82 ITR 586), the Supreme Court observed that:
Whether a particular holding of shares is by way of investment or forms part of the stock-in-trade is a matter which is within the knowledge of the assessee who holds the shares and it should, in normal circumstances, be in a position to produce evidence from its records as to whether it has maintained any distinction between those shares which are its stock-in-trade and those which are held by way of investment.
6. In the case of Commissioner of Income Tax, Bombay Vs H. Holck Larsen (160 ITR 67), the Supreme Court observed :
The High Court, in our opinion, made a mistake in observing whether transactions of sale and purchase of shares were trading transactions or whether these were in the nature of investment was a question of law. This was a mixed question of law and fact.
7. The principles laid down by the Supreme Court in the above two cases afford adequate guidance to the assessing officers.
8. The Authority for Advance Rulings (AAR) (288 ITR 641), referring to the decisions of the Supreme Court in several cases, has culled out the following principles :-
(i) Where a company purchases and sells shares, it must be shown that they were held as stock-in-trade and that existence of the power to purchase and sell shares in the memorandum of association is not decisive of the nature of transaction;
(ii) the substantial nature of transactions, the manner of maintaining books of accounts, the magnitude of purchases and sales and the ratio between purchases and sales and the holding would furnish a good guide to determine the nature of transactions;
(iii) ordinarily the purchase and sale of shares with the motive of earning a profit, would result in the transaction being in the nature of trade/ adventure in the nature of trade; but where the object of the investment in shares of a company is to derive income by way of dividend etc. then the profits accruing by change in such investment (by sale of shares) will yield capital gain and not revenue receipt.
9. Dealing with the above three principles, the AAR has observed in the case of Fidelity group as under:-
We shall revert to the aforementioned principles. The first principle requires us to ascertain whether the purchase of shares by a FII in exercise of the power in the memorandum of association/trust deed was as stockin-trade as the mere existence of the power to purchase and sell shares will not by itself be decisive of the nature of transaction. We have to verify as to how the shares were valued/ held in the books of account i.e. whether they were valued as stock-in-trade at the end of the financial year for the purpose of arriving at business income or held as investment in capital assets. The second principle furnishes a guide for determining the nature of transaction by verifying whether there are substantial transactions, their magnitude, etc., maintenance of books of account and finding the ratio between purchases and sales. It will not be out of place to mention that regulation 18 of the SEBI Regulations enjoins upon every FII to keep and maintain books of account containing true and fair accounts relating to remittance of initial corpus of buying and selling and realising capital gains on investments and accounts of remittance to India for investment in India and realising capital gains on investment from such remittances. The third principle suggests that ordinarily purchases and sales of shares with the motive of realising profit would lead to inference of trade/ adventure in the nature of trade; where the object of the investment in shares of companies is to derive income by way of dividends etc., the transactions of purchases and sales of shares would yield capital gains and not business profits.
10. CBDT also wishes to emphasise that it is possible for a tax payer to have two portfolios, i.e., an investment portfolio comprising of securities which are to be treated as capital assets and a trading portfolio comprising of stock-in-trade which are to be treated as trading assets. Where an assessee has two portfolios, the assessee may have income under both heads i.e., capital gains as well as business income.
11. Assessing officers are advised that the above principles should guide them in determining whether, in a given case, the shares are held by the assessee as investment (and therefore giving rise to capital gains) or as stock-in-trade (and therefore giving rise to business profits). The assessing officers are further advised that no single principle would be decisive and the total effect of all the principles should be considered to determine whether, in a given case, the shares are held by the assessee as investment or stock-in-trade.
12. These instructions shall supplement the earlier Instruction no. 1827 dated August 31, 1989.
(F.No.149/287/2005-TPL)
___________________________________________________________
J. M. Share & Stock Brokers vs. JCIT (ITAT Mumbai)
Tests to distinguish shares held as “stock-in-trade” and as “investments”
Where the assessee was a stock broker but it was consistently following the practice of holding some shaes as ‘stock in trade’ and other shares as ‘investments’ and the question arose whether the profits on the sale of shares held as investments constituted a capital gain or business profits, HELD:
(i) The assessee had been consistent in its practice of treating some shares as stock and others as a capital asset. While the shares held as capital asset were valued at cost in the accounts, the shares held as stock-in-trade were valued at the lower of cost or market value;
(ii) There is no bar on a stock broker holding shares as an investment. The mere fact that the assessee is an expert in share trading does not mean that he cannot hold shares as a capital asset. The magnitude of the transaction does not change the nature of the transaction.
The clarification is very useful to practtioners
i want to know the supreme court judgment about use of two pan card in two different work