Simply paying share application money not entitle any applicant of shares to allotment of shares

IN THE ITAT AGRA BENCH

Peoples Heritage Hospital Ltd.

versus

Deputy Commissioner of Income-tax, Circle 1(4), Agra

IT Appeal No. 41 (Agra) of 2011

[Assessment year 2007-08]

JULY 27, 2012

ORDER

A.L. Gehlot, Accountant Member  

This is an appeal filed by the assessee against the order dated 20.10.2010 passed by the ld. CIT(A)-II, Agra for the Assessment Year 2007-08 on the following grounds :-

“1.  That with regards to the facts and circumstances of the case, the ld. A.O. and ld. CIT (Appeals)-II, Agra have erred in fact and law in denying the set off & carry forward business loss to the tune of Rs. 29,94,643/-

 2.  That with regards to the facts and circumstances of the case, the ld. A.O. and ld. CIT(Appeals)-II, Agra has wrongly interpreted the provisions of section 79 of th3 Income Tax Act while disallowing the set off & carries forward business loss.

 3.  That the assessment is bad in law and bad on facts.

 4.  That the assessee may be allowed to add, alter or amend any ground of appeal at the time of hearing of appeal.”

2. The brief facts of the case are that the assessee company is running Hospital under the name and style of M/s. Peoples Heritage Hospital Limited. During the assessment proceedings the position of share holder funds of the company noted by the Assessing officer (A.O.) is as under :-

3. The A.O. further noticed that during the year shares worth Rs. 74.30 lacs were issued/ allotted to the family members of Shri Hari Kishan Pippal, i.e. Hari Kishan himself, Mr. Anish Pippal, Ms. Benu Pippal, Ms. Geeta Pippal, Mrs. Ruchita Pippal, Mr. Parvesh Pippal, Mr. Rajesh Pippal & Mr. Rajesh Pippal meaning thereby the shares of Rs. 74.30 lacs were transferred to the Pippal family during the year. The control and management of the company was also transferred to Pippal family. The A.O. further noticed that at the time of acquisition of the company, the financial position of the company was as under :-

4. From the above financial position, the A.O. noticed that the company has incurred loss of Rs. 29,94,643/- in the Financial Year (F.Y.) 2004-05. The company has taken over by different group of people holding shares more than 51%. The company is not one, where public is substantially interested as defined in section 2(18) of the Act. The A.O. after considering the assessee’s reply, noticed that the assessee had tried to shift its onus on the Auditor and it is not understood how F.Y. 2006-07 is an exception to section 79 and in F.Y.2007-08 is not an exception under the same circumstances. On the contrary, the assessee has itself revised its return for the F.Y. 2007-08 and has not set off the remaining business losses in the computation after being pointed out during the assessment proceedings. The A.O. noticed that the reply of the assessee is self contradictory. The A.O. accordingly not allowed to carry forward the loss of Rs. 29,94,643/- in the year under consideration. It has also been noticed by the A.O. that the Auditor vide paragraph no.25B of the Audit Report has given false note about the contravention of section 79 of the Act. The A.O. accordingly disallowed the carry forward loss of Rs.29,94,643/-.

5. The CIT(A) confirmed the order of the A.O. as under :- (paragraph no.2.2)

“2.2 I have gone through the submissions made by the Ld. AR, it is undisputed fact that during the year share holding of the company has changed by more than 51 % and management and control of the appellant company has been passed on to Pippal family. As per the provisions of sec. 79 where a change in share holding has taken place in the previous year, in the case of company not being a company in which public are substantially interested then no loss incurred in any year prior to the previous year shall be carried forward and set off against the income of previous year unless on the last day of that previous year and on the last day of the previous year in which the loss was incurred, the shares of the company I carrying not less than 51% of the voting power were beneficially held by the same persons. The assessee is not covered by exceptions as provided by the two proviso in section 79 of the Act. The plea of the Ld. AR that 72.8% of total paid share capital was introduced by family of Shri Hari Kishan Pippal during FY 2004-05 and not during the year under consideration has no merit in it because that was simply share application money and no shares were allotted during that year. Simply paying the share application money does not entitle any applicant of shares to al1otment of shares unless and until the same are allotted by the company. A person who has only remitted share application money can claim no stake in the company. It is only after the shares have been allotted that an applicant who had remitted the money becomes a share holder and can participate in the affairs of the company as provided in the articles of association. The shares have been admittedly allotted during the year under consideration and more than 51% of share holding has changed. The provision of sec. 79 of the Act are clearly attracted in the appellant’s case. The action of the AO in disallowing the set off of claim of brought forward losses does not call for any interference, therefore, these grounds are dismissed.”

6. The assessee instead of putting his personal presence filed written submission. After hearing the ld. Departmental Representative and after going through the written submissions, we notice that issue to be examined in the case under consideration is carry forward and set off of loss under section 79 of the Act.

7. In the written submissions it is submitted that share application money was introduced during the F.Y. 2004-05 relevant to A.Y. 2005-06 which was 72.8% of the capital. Thus, the controlling interest were acquired by the family members of Hari Kishan Pippal during the F.Y. 2004-05 relevant to A.Y. 2005-06, only in the year business loss of Rs.29,94,643/- was incurred and carried forward. Therefore, it was submitted that the allegation of the A.O. that the intention of the assessee was to derive benefit from the loss making company is not correct in so far as loss was increased under the regime of the same management which was also in office in the year and the company made profit. The majority of funds in business also pertained to the family members of the same management. It is further submitted that share application money of Rs.74,30,000/- has been shown under the shareholder fund with share capital in the balance sheet as on 31.03.2006 and 31.03.2005. It is also submitted that purpose of share application money is allotment of shares. The allotment of share was delayed in the case of the assessee due to illness and untimely death of the legal advisor Shri Devendra Garg and his office was closed and documents were in his office. It is submitted that the factual position should be considered on account of the assessee’s case and change in the share holding pattern should be considered from F.Y. 2004-05 relevant to A.Y. 2005-06 only and not from F.Y. 2006-07 relevant to A.Y. 2007-08. It is further submitted that no amount in form of fresh capital was brought during the F.Y. 2006-07 relevant to A.Y. 2007-08. The assessee submitted that practically there is no change in the shareholding pattern. There is only an academic change on account of late allotment of shares. Therefore, this situation should be viewed as an exception to section 79 of the Act and, therefore, set off of loss may be allowed.

8. As stated above that the issue under consideration is pertaining to section 79 of the Act. Section 79 of the Act reads as under:-

“Carry forward and set off of losses in the case of certain companies.

79. Notwithstanding anything contained in this Chapter, where a change in shareholding has taken place in a previous year in the case of a company, not being a company in which the public are substantially interested, no loss incurred in any year prior to the previous year shall be carried forward and set off against the income of the previous year unless –

 (a)  on the last day of the previous year the shares of the company carrying not less than fifty-one per cent of the voting power were beneficially held by persons who beneficially held shares of the company carrying not less than fifty-one per cent of the voting power on the last day of the year or years in which the loss was incurred [***] :

 (b)  Omitted by Finance Act 1988 w.e.f. 01.04.1989.

[Provided that nothing contained in this section shall apply to a case where a change in the said voting power takes place in a previous year consequent upon the death of a shareholder or on account of transfer of shares by way of gift to any relative of the shareholder making such gift :]

[Provided further that nothing contained in this section shall apply to any change in the shareholding of an Indian company which is a subsidiary of a foreign company as a result of amalgamation or demerger of a foreign company subject to the condition that fifty-one per cent shareholders of the amalgamating or demerged foreign company continue to be the shareholders of the amalgamated or the resulting foreign company.]

9. Section 79 is an exception to the scheme enacted in Chapter VI for the carry forward and setting off of a loss incurred in any earlier year against the income of the relevant previous year. The provision was enacted in the IT Act, 1961, for the first time in order to deny that benefit to companies not being companies in which the public are substantially interested. On its plain terms, s. 79 provides that in the case of such companies, if a change in shareholding has taken place in a previous year, no loss incurred in any year prior to the previous year shall be carried forward or set off against the income of the previous year. Unless (a) both on the last day of the previous year and on the last day of the year or years in which the loss was incurred, the shares of the company carrying not less than 51 per cent of the voting power were beneficially held by the same persons. If the terms of c1ause (a) is satisfied, the disqualification suffered by a company, by reason of a change in the shareholding in the previous year, is removed, and the company is entitled to the benefit of the provisions in Chapter VI relating to the carry forward and set off of losses. The benefit is available notwithstanding the change in the shareholding in the previous year, if shares representing not less than 51 per cent of the voting power remain beneficially held by the same persons on the relevant dates. The object sought to be served by enacting s. 79 appears to be to discourage persons claiming a reduction of their tax liability on the profits earned in companies which had sustained losses in earlier years. It was not unusual for a group of persons to acquire a company, which had suffered losses in the earlier years, in the expectation that the company would earn substantial profits after such acquisition, and they would benefit by a reduction of the tax liability on those profits on a set off of losses carried forward from earlier years before the acquisition. The acquisition of a company in such a case would be effected by a change in its shareholding and the control over the company could be ensured by securing the beneficial ownership of shares carrying 51 per cent or more of the voting power. If the change in the shareholding did not result in holding voting power of 51 per cent or it was established that the shares of the company carrying not less than 51 per cent of the voting power were beneficially held by the same persons, both on the last day of the previous year as well as the last day of the year or years in which the loss was incurred, it could be presumed that there was no change in the control over the company and the disqualification imposed on the company because of the change in its shareholding would stand removed.

10. As regards the contention of the assessee in the written submission that 72.80% of total paid up share capital was introduced by the family member of Shri Hari Kishan Pippal during the F.Y. 2004-05 relevant to A.Y. 2005-06 and not in the year under consideration i.e. A.Y. 2007-08.This aspect of the matter has been dealt with by the CIT(A) in his order holding that 72.8% of total paid share capital was introduced by family of Shri Hari Kishan Pippal during FY 2004-05 and not during the year under consideration has no merit in it because that was simply share application money and no shares were allotted during that year. It was further held that simply paying the share application money does not entitle any applicant of shares to al1otment of shares unless and until the same are allotted by the company. A person who has only remitted share application money can claim no stake in the company. It is only after the shares have been allotted that an applicant who had remitted the money becomes a share holder and can participate in the affairs of the company as provided in the articles of association. The shares have been admittedly allotted during the year under consideration and more than 51% of share holding has changed. Even otherwise also, the view of the CIT(A) is correct. In this regard, the Hon’ble Gujarat High Court in the case of CIT v. Shri Subhlaxmi Mills Ltd. [1983] 143 ITR 863 (Guj.) wherein it was held that if section 79 of the Act was not invoked in A.Y. 1962-63, in which change in shareholding took place, the same could be invoked for A.Y. 1965-66 or later years. According to the Court, it is true that section 79 of the Act is part of machinery section and it has to be read with the provisions of section 72 of the Act, which in turn has to be read with the provisions of section 143(3) of the Act. However, looking to the scheme of carrying forward and setting off of business losses as set out in section 72 of the Act, it is obvious that in each A.Y. the A.O. concerned has to ascertain as to what is the amount of business loss which has been carried forward from the immediately previous A.Y. That being the case, if the condition of section 79 of the Act are otherwise satisfied and section 79 can be invoked, the question that has to be asked is – whether in the eye of the law so far as the A.Y. 1965-66 is concerned, there was any business loss validly carried forward from the immediate preceding A.Y. It is obvious that if the conditions of section 79 of the Act are otherwise satisfied, there could not have been any carrying forward and set off of the business losses incurred by the assessee-company prior to 1960-63 so far as the A.Ys. 1963-64 or 1964-65 was concerned and similarly each subsequent assessment year was concerned. The Court held that section 79 of the Act could be invoked in respect of AY 65-66 and 66-67 though these provisions were not invoked by the department in AY 62-63 where there was change in share holding of the Assessee Company and section 79 became applicable.

11. In the light of the above discussions, the admitted facts of the case under consideration are that during the year under consideration share holding of the company has changed by more than 51% and management and control of the company has been passed on to Pippal family. There is unabsorbed losses of Rs.29,94,643/- of A.Y. 2004-2005. The CIT(A) rejected the assessee’s contention that 72.8% of total paid share capital was introduced by family of Shri Hari Kishan Pippal during the F.Y. 2004-05and not during the year under consideration has no merit in its case because that was simply share application money and no shares were allotted during that year. The shares have been admittedly allotted during the year under consideration for the reasons whatever it may be. Therefore, after considering the totality of the facts of the case, we find that the provisions of section 79 of the Act is clearly applicable to the case under consideration and in the light of the said section 79, the A.O. has rightly disallowed the claim of set off of brought forward losses and the CIT(A) has rightly confirmed the order of the A.O. We confirm the order of the CIT(A).

12. In the result, appeal of the assessee is dismissed.