Case Law Details
Brief Facts of the Case and Question of Law
Brief Facts
The assessee claimed a loss of Rs. 111 per debenture on the sale of debentures of Jindal Iron and Steel Co (“JISCO”) to UTI. These assessee were shareholders of JISCO, which declared a right issue of secured redeemable non-convertible debentures (NCD) of Rs. 500/- each. The size of the issue was about Rs. 500 crores. The issue opened on 21.11.94 and closed on 19.12.94. Interest @10.5% was payable by JISCO on those debentures. To make the debenture issue attractive, JISCO fixed a detachable warrant (DW) with each debenture, the holder of which was eligible to apply for one share of JISCO within a specified period.
The salient features of the rights issue of NCD as approved by SEBI were as under:-
a) Each debenture was of face value of Rs. 500/-.
b) Every residential shareholder had to pay a sum of Rs. 111/- per debenture on making application and balance of `389/- per NCD was payable on allotment.
c) For non-residence/FI’s NR renounces will contribute a sum of Rs. 500/- each debenture on application.
d) If the company did not receive the minimum subscription of about 90% of the issue of NCD within sixty days from the closure of the issue the company had to refund the entire subscription amount received.
e) NCD with DW was offered to existing shareholders of the company whose names appeared in the register of a company on 31.10.94.
f) 23 debentures for every 100 equity shares held on 31.10.94 were to be issued.
Before the right issue, JISCO made certain arrangements with UTI in July 1994 according to which the allottees of NCDs could surrender all the NCDs to UTI after the application was made and UTI agreed to pay the balance allotment money (Rs. 389/- per NCD) to JISCO and secure the NCD registered in its name. The assessee and other promoter companies applied for NCDs as per their shareholding and made the payment of Rs. 111/- each NCD on application. However, all the said promoter companies (including the assessee) opted for the arrangement entered into between JISCO and the UTI – mentioned earlier. Therefore, when UTI paid the balance allotment money (Rs. 389/- per NCD) on behalf of assessee, and in exchange became debenture holder, the assessee was allotted the DWs. Subsequently the assessee claimed before the AO that by such arrangement it sold their NDCs to UTI as a result of which it incurred a loss of `111 each NCD and, was deductible as business loss.
Question of Law
- Whether forfeited application money can be claimed as business loss for investment business?
- Whether detachable warrants attached to convertible instruments can be said to have zero cost of acquisition?
Contention of the Assessee
The assessee highlighted that the assessee was Investment Company like other shareholders and that during the year all the said five companies came up with a private placement of Jindal’s preference shares and also subscribed to the right issue of NCD of JISCO. The assessee also subscribed to the equity issue of Jindal Vijaynagar Steel Ltd. (JVSL), a new company of the group floated during February 1995. It was highlighted that the face value of JISCO’s NCD was Rs. 500/- and each entitled the holder to a detachable warrant (DW). The face value of the share was Rs. 10/- but the premium payable was Rs. 190/-. The DW was a post-dated entitlement by which the holder could buy one JISCO share @ Rs. 200/- at a time to be determined by JISCO but not later than 60 months.
Secondly, the DWs were to be given to the holders only when the allotment money was paid. The DWs were to be listed and traded separately. The application money for this rights issue was Rs. 111/- per NCD and the allotment money was Rs. 389/- per NCD. The rights issue opened on 11.11.94. An arrangement with UTI, by JISCO was made in July, 1994 which was accepted by the former in September, 1994. In terms of the arrangement, NCD allottees could surrender the NCD to UTI which would pay the allotment money of Rs. 389/- per debenture to JISCO on behalf of subscribers. UTI accordingly paid the sum @ Rs. 389/- per NCD to JISCO on behalf of assessee. In turn the assessee transferred their NCDs to UTI, which were registered in the name of UTI. The assessee claimed the loss as business loss before AO. Since the assessee suffered loss on the sale of NCDs to UTI, the loss at the rate of Rs. 111/- per NCD was allowable according to them.
With respect to balance amounts paid by UTI, assessee submitted that UTI’s certificate that it made paid at Rs. 389/- per NCD to JISCO on behalf of the assessee, was not considered by the AO. In a sense, their stand was that only when the entire consideration for the NCDs was received by JISCO further course of action was followed. The materials were placed to show that DWs were given to the assesse when NCDs were fully paid up. As to the conclusion of the AO that the assessee never became the owner of NCD/DWs, it was submitted that the letter of allotment was in the name of the assessee; UTI made payment of allotment money to JISCO on behalf of the assessee and in turn the assessee transferred the NCDs in favour of UTI which was registered in UTI’s name and therefore the factual conclusions of the AO were wrong. The assessee denied that they were the beneficiaries of the transaction but it was UTI who became the owner of the NCDs of the face value of Rs. 500/- by paying Rs. 389/- only per NCD. UTI also received interest from JISCO at full value of Rs. 500/- each debenture. Moreover UTI was entitled to the full redemption money at Rs. 500/- per debenture on redemption though actually they had paid at Rs. 389/-. UTI earned a substantial annual gain of 256% on this transaction. It was urged that the assessee too benefited due to the arrangement because after losing Rs. 111/- on each debenture it became entitled to one dividend warrant which enabled it (the assessee) to own an equity share at Rs. 200/- though the market price of the share on that date was much higher. A chart indicating the gains by the assessee-companies was also furnished before the ITAT. The assessee argued that there was no camouflage in the transaction to evade tax.
Contention of the Revenue
The AO considered the assessee’s claim and observed that JISCO had given loans to some Mumbai based group companies and in turn these group companies invested in the placement of preference shares of all the said assesses/appellant companies. The AO therefore felt that it was JISCO’s own fund which was used in subscribing to its NCD issue in the name of assessee. The AO also held that all the assesse was not acting in their own capacity or taking market oriented decisions and were acting on behalf of JISCO. He further observed that the funds flowed into the assessee from JISCO which has flowed back to JISCO in the shape of application money for NCDs. Thus the assessee were merely conduits this transaction and, therefore, the loss claimed by it was not allowable.
The AO further observed that the agreement between JISCO and UTI was for the benefit of the promoter company only. He observed that there was no reference to this arrangement in the letter of offer though the arrangement with UTI was already reached before the offer dated 12.11.94. The AO also noted that the five assessee companies endorsed the allotment letters issued to them, in favour of UTI, which paid the allotment money and that there was no agreement between the UTI and the assessee for making the payment of allotment money on their behalf. Rather, the arrangement was between JISCO and UTI and the assessee could not take the benefit of such arrangement.
It was also submitted that the assessee never became owners of the fully paid NCDs and that they had paid Rs. 111/- as application money to acquire NCD; the DWs were received gratis. It was noted that the assessee applied for NCDs after the arrangement between JISCO and the UTI without any consideration and with the intention of incurring loss of Rs. 111/- on each NCD and that they had not fully paid for the NCDs. Therefore they were disentitled to the DWs, because in terms of the issue conditions, the DW was to be allotted only after the NCDs were fully paid. The NCDs were transferred to UTI immediately after the allotment and entirely according to the arrangement between JISCO and the UTI. Such transfer was an act of forfeiture of application money at Rs. 111/- per NCDs. The beneficiary of the transfer was not UTI but JISCO. Thus, the loss was deliberately incurred for the benefit of JISCO. As such, no loss arose to the assessee on transfer of the NCDs and, therefore, the question of allowing loss did not arise
The AO held the arrangement to be a colorable device to avoid future tax liability, by booking the losses. The AO concluded that all the five assesses – including the present assessee, were name lenders and the loss claimed by the assessee was not genuine. He, therefore, disallowed the loss.
Held by the High Court
The court considered the reasoning of the Revenue and held, firstly as the arrangement was in place with the UTI (which had to purchase the NCDs at Rs. 389/- per NCD), the assessee gave effect to it (the arrangement). UTI paid Rs. 389/- per debenture to JISCO and in turn the assessee transferred their NCDs in to UTI. Such transfers were also registered in the register of JISCO. Payment was made by UTI to JISCO on behalf of the assessee.
Secondly, it was held that the approved condition of the SEBI that on payment of full consideration the holder of the NCD will be entitled to one DW which in turn entitled the holder to apply for one equity share of JISCO. In its letter, JISCO had clearly confirmed that the DWs were given to the assessee only when it had received the full amount of NCDs either from the assessee, or from UTI – on its behalf.
Thirdly, dealing with the reasoning that the entire transaction was aimed at giving an undue advantage to JISCO, reference was made to a chart filed by the assessee, which indicated the extent to which the UTI had benefited from the transaction.
Fourthly, with respect to the deployment of funds, it was held that actually the payment of application money was made by the assessee from their funds. Much later, some companies close to JISCO had made advances to the assessee. The ITAT observed that even assuming that the assessee were indirectly provided funds by JISCO to invest in the rights issue of NCDs, there was no legal bar for doing so.
Lastly, dealing with the reasoning that the sale transaction between the assessee and UTI not being at arms’ length, since the NCDs were made over to UTI for Rs. 389/- when their face value was Rs. 500/-, the court held the ground to of no substance.
Therefore, it was held that the transaction of selling NCDs at the face value of Rs. 500/- to the UTI at Rs. 389/- per debenture was not a colourable device. It also noted that when JISCO came with the rights issue of NCDs, many other companies like Apollo Tyres, Usha Ispat Ltd., Dhunseri Tea Industries Ltd., and Sri Ram Industrial Enterprises, etc., had come out with similar rights issues with almost identical terms and conditions. In the case of Apollo Tyres, the buyback was done by JM Financial and Investment Consultancy Services Ltd. whereas in the case of Usha Ispat, Dhunseri Tea and Sri Ram Industrial Enterprises, the buy-back was by UTI, DSP Financial Consultancies Ltd. and Sri Ram Financial Services Ltd. respectively.
In the case of the assessee, the buy-back was by UTI which could not be influenced by the terms of either the assessee or JISCO. Consequently, it was held that the sum of Rs. 111/- per share had to be treated as business loss.
In view of the above discussion, we hold that the assessee companies suffered business loss on their sale and such loss was business loss that constituted allowable deduction. The question of law is consequently answered in favour of the assessee in all the cases.
The revenue’s appeals are therefore dismissed.
