A brief description of Section 9B & 45(4) along with rule and guidelines (income tax provision on reconstitution of firm or AOP or BOI)

A brief description of Section 9B & 45(4) along with rule and guidelines (income tax provision on reconstitution of firm or AOP or BOI)

The finance act, 2021 introduced a taxation provision on reconstitution of firm, AOP, BOI (Not being a company or a co-operative society). Here, I try to produce the brief of these changes along with rules and guidelines issued by CBDT.   

 key note:-

• If Specified person receive capital assets or stocks in trade or both from specified entity in connection with reconstitution then profit and gains arising from such transfer liable to tax under hand of specified entity U/S 9(B)
• If Specified person receive capital assets or money or both from specified entity then in lieu of capital balance  then such profit and gains is also taxable in hands of specified entity U/S 45(4)

A. Applicability of Section 9B & 45(4)

1. Specified person receives capital assets or stock in trade or both from as specified entity

2. In connection with the reconstitution of such specified entity.

Explanation

Specified entity means firm, AOP, BOI (Not being a company or a co-operative society) 

Specified Person means a person who is

1. Partner of firm

2. Member of AOP or BOI (not being a company or a co-operative society), in any previous year.

 Reconstitution of the Specified person means where

1. one or more of its partners or members, as the case may be, of such specified entity ceases to be partners or members; or

2. one or more new partners or members, as the case may be, are admitted in such specified entity in such circumstances that one or more of the persons who were partners or members, as the case may be, of the specified entity, before the change, continue as partner or partners or member or members after the change; or

3. all the partners or members, as the case may be, of such specified entity continue with a change in their respective share or in the shares of some of them;

B. Then, the specified entity shall be deemed to have transferred such capital assets and stock in trade or both are received by specified person.

C. Any profit and gains arising from such deemed transfer of capital assets or stock in trade or both, as the case may be, by the specified entity shall be

• deemed to be income of such specified entity of the previous year in which such capital assets or stock in trade or both were received by specified person and 
• Chargeable to income tax as income of such specified entity under the head “Profit  and gains of business or profession” and under the head of  “Capital Gains, in accordance with the provisions of the act.

D. For the purpose of section 9B fair market value of the capital assets or stock in trade or both on the date of its receipt by the specified person shall be deemed to be full value  of consideration received or accruing as a result of such deemed transfer of the capital    assets or stock in trade of both by the specified entity.

E. where,

• a specified person receives
• during the previous year any money or capital asset or both
• from a specified entity in connection with the reconstitution of such specified entity,    

then any profits or gains arising from such receipt by the specified person shall be  chargeable to income-tax as income of such specified entity under the head “Capital gains” and shall be deemed to be the income of such specified entity of the previous year in which such money or capital asset or both were received by the specified person under section 45(4).

such profits or gains shall be determined in accordance with the following formula. 

A = B + C -D

Where,

A = income chargeable to income-tax under this subsection as income of the specified entity under the head “Capital gains”;

B = value of any money received by the specified person from the specified entity on the date of such receipt;

C = the amount of fair market value of the capital asset received by the specified person from the specified entity on the date of such receipt; and

D = the amount of balance in the capital account (represented in any manner) of the specified person in the books of account of the specified entity at the time of its reconstitution:

• if the value of “A” in the above formula is negative, its value shall be deemed to be zero.
• the balance in the capital account of the specified person in the books of account of the specified entity is to be calculated without taking into account the increase in the capital account of the specified person due to revaluation of any asset or due to self-generated goodwill or any other self-generated asset.
• “self-generated goodwill” and “self-generated asset” mean goodwill or asset, as the case may be, which has been acquired without incurring any cost for purchase or which has been generated during the course of the business or profession.

F. Method of determination of period of holding. (Rule 8AA)

In case of the amount which is chargeable to income-tax as income of specified entity under sub-_ section (4) of section 45 under the head – “Capital gains”, –

• the amount or a part of it shall be deemed to be from transfer of short term capital asset, if it is attributed to,-
• capital asset which is short term capital asset at the time of taxation of amount under sub-section (4) of section 45; or

                     (b) capital asset forming part of block of asset; or

                    (c) capital asset being self-generated asset and self-generated goodwill; and

• the amount or a part of it shall be deemed to be from transfer of long term capital asset or assets, if it is attributed to capital asset which is not covered by clause (i) and is long term capital asset at the time of taxation of amount under sub-section (4) of section 45.

G. Attribution of income taxable under sub-section (4) of section 45 to the capital assets remaining with the specified entity, under section 48. (Rule 8AB) 

48(iii) inserted vide finance act 2021 as

“in case of value of any money or capital asset received by a specified person from a specified entity referred to in subsection (4) of section 45, the amount chargeable to income-tax as income of such specified entity under that sub-section which is attributable to the capital asset being transferred by the specified entity, calculated in the prescribed manner”

For the purpose, Rule 8AB inserted by the income tax (Eighteenth  Amendment), Rule, 2021 w.e.f 02.07.2021.

a. Where,

• • the aggregate of the value of money and the fair market value of the capital asset received by the specified person from the specified entity,
  • in excess of the balance in his capital account,
  • chargeable to tax under sub-section (4) of section 45,
  • relates to revaluation of any capital asset or valuation of self-generated asset or self-generated goodwill, of the specified entity,
  • the amount attributable to the capital asset remaining with the specified entity for purpose of clause (iii) of section 48 shall be
  • the amount which bears to the amount charged under sub-section (4) of section 45 the same proportion as the increase in, or recognition of, value of that asset because of revaluation or valuation bears to the aggregate of increase in, or recognition of, value of all assets because of the revaluation or valuation.

b. Where,

• •  the aggregate of the value of money and the fair market value of the capital asset  received by the specified person from the specified entity,
  •  in excess of the balance in his capital account,
  •  charged to tax under sub-section (4) of section 45
  • does not relate to revaluation of any capital asset or valuation of self generated asset or self-generated goodwill, of the specified entity,
  •  the amount charged to tax under sub-section (4) of section 45
  •  shall not be attributed to any capital asset for the purposes of clause (iii) of section 48.

c. Where,

• • the aggregate of the value of money and the fair market value of the capital asset received by the specified person from the specified entity,
  •  in excess of the balance in his capital account,
  • charged to tax under sub-section (4) of section 45
  • relate only to the capital asset received by the specified person from the specified entity, -the amount charged to tax under sub-section (4) of section 45
  • shall not be attributed to any capital asset for the purposes of clause (iii) of section 48.

d. The specified entity shall furnish the details of amount attributed to capital assets remaining with the specified entity in form no. 5C electronically either under digital signature or though EVC by the person who is authorised to verify the return of income of the specified entity u/s 140.

e. Form 5C shall be furnished on or before the due date referred to in explanation 2 of section 139(1) for the assessment year in which amount is chargeable to tax U/S 45(4).  

f. The amount chargeable tax u/s 45(4) shall relate to revaluation of any capital assets or valuation of self-generated assets and self-generated goodwill, of the specified entity, if the revaluation is based on a valuation report obtained from registered valuer as specified in Rule 11U(G).

g. Revaluation of an assets or valuation of self-generated assets or self-generated goodwill does not entitle the specified entity for the depreciation on the increase in the value of that assets on account of its revaluation or recognition of the value of self-generated assets or self-generated good will due to its valuation.

H. According to the guidelines  issued by CBDT vide circular no. 14 of 2021 dt. 02^nd July 2021.

• it is clarified that rule 8AB of the Income Tax Rules, 1962 (here in after referred to as ” the Rules”) notified vide notification no. 76 dated 02.07.2021 also applies to capital assets forming part of block of assets.
•  Wherever the terms “capital asset” is appearing in the rule 8AB of the Rules, it refers to capital asset whose capital gains is computed under section 48 of the Act as well as capital asset forming part of block of assets.
• Further, wherever reference is made for the purposes of 2 section 48 of the Act, such reference may be deemed to include reference for the purposes of Section 43(6)(C)of the Act and section 50 of the Act.
• it is further clarified that, in case the capital asset remaining with the specified entity is forming part of a block of asset, the amount attributed to such capital asset under rule 8AB of the Rules shall be reduced from the full value of the consideration received or accruing as a result of subsequent transfer of such asset by the specified entity, and
• the net value of such consideration shall be considered for reduction from the written down value of such block under section 43(6)(C) the Act or for calculation of capital gains, as the case may be, under section 50 of the Act.