Liability to tax premium on redemption of preference shares arose when the same was actually received

Enzen Global Solutions Pvt. Ltd Vs ITO (ITAT Bangalore)

Conclusion: While holding that the premium on redemption of preference shares was exigible to tax under the head ‘Income from Capital Gains’, the ITAT held that the revenue authorities were not justified in making the additions to the assessee’s income on the ground of notional premium receivable on preference shares.

Held: Assessee invested an amount in the preference shares of a Private Limited Company. In its income tax return, assessee declared an amount being the premium accrued on the redemption of preference shares under the head “Income from other sources”. Assessee filed a revised return of income, reducing the amount of premium offered to tax. Assessee contended that only the premium actually received by it on redemption, was liable to be taxed at the time of redemption of preference shares under the head “Capital Gains”. AO opined that the preference shares issued to assessee contained features of both an equity and a debt instrument, since the amount of dividend payable to the preference shareholders/assessee was fixed from the beginning. AO ruled that since assessee was entitled to a fixed rate of premium/ dividend on the cumulative preference shares issued to it, the said shares were akin to a debt instrument. Hence,  AO held that the taxability of the premium accrued to the assessee did not depend upon its receipt by the assessee. Accordingly, AO passed an order, taxing the premium on preference shares accrued to assessee, under the head ‘Income from Other Sources’. It was held that assessee was only a preference shareholder and a debtor of the company issuing redeemable preference shares and was entitled to claim the redemption premium as a matter of right. The payment of redemption premium could be only out of profits of the company or out of reserves. Even if one were to be regarded the premium as akin to dividend, the assessee could not claim dividend as a matter of right and it is for the directors of the Company to declare dividend which need to be approved by the shareholders in an Annual General Meeting (AGM). It was only when assessee had a right to receive periodic payments can it be said that income had accrued to an assessee under the mercantile system of accounting.In the case of preference shares, such an inference could not be drawn and the repayment of the face value of the preference shares as well as the premium on redemption was uncertain. In such circumstances, the action of the Revenue authorities in making the impugned additions could not be sustained. Therefore, the income brought to tax by the Revenue authorities could not be sustained and the said addition was directed to be deleted.

FULL TEXT OF THE ORDER OF ITAT BANGALORE

ITA No.2332/Bang/2019 is an appeal by the assessee while ITA No.2550/Bang/2019 is an appeal by the Revenue. Both these appeals are directed against the Order dated 17.09.2019 of CIT(A) – 2, Bengaluru, to Assessment Year 2016-17.

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