Views expressed by smaller bench of a SC in case of Azadi Bachao Andolan on tax avoidance are binding on the HC

Views expressed by smaller bench of a Supreme Court in the case of Azadi Bachao Andolan on tax avoidance are binding on the High Courts because it has interpreted the decision of the larger bench in the case of McDowell & Company. Accordingly, the transactions was not a colourable transaction.

Recently, the Calcutta High Court in the case of Oberoi Hotels Pvt. Ltd. (ITA No. 13 of 2001) (Judgment date: 17 March 2011) held that since the decision of a two bench judge of a Supreme Court in the case of Union of India vs. Azadi Bachao Andolan (2003) 263 ITR 706 (SC) has interpreted the decision of a five bench judge of a Supreme Court in the case of M/s. McDowell & Company Ltd. v. Commercial Tax Officer (1985) 3 SCC 230 (SC) the views expressed in the decision of Azadi Bachao Andolan are binding on the High Courts even if it was rendered by smaller bench of the Supreme Court.

Accordingly, the High Court following the decision of the Supreme Court in the case of Azadi Bachao Andolan held that the transaction entered by the taxpayer cannot be considered as a colourable transaction and the taxpayer was eligible to set-off the short term capital loss against the long term capital gains.

Facts of the case

Shri Krishna Bottlers (Vijayawada) Pvt. Ltd. (M/s SKB) held a license from PepsiCo Inc. USA, for use of the trademark Pepsi cola, Lehar, Mirinda, etc. in relation to beverage products to be bottled, sold distributed and marketed in the some parts of the State of Andhra Pradesh.

The taxpayer decided to take over the M/s SKB with all of its assets and liabilities including the rights under the contract for using the trademark of PepsiCo Inc. through the group Company, M/s. Oberoi Plaza Pvt. Ltd., for the consideration of INR 87.8 million. However, due to various reasons, the taxpayer could not run the business of M/s. SKB and sold the shares of M/s SKB at an agreed price of INR 1.8 million resulting in a short term capital loss of INR 85.98 million. The taxpayer in its return of income set off such losses against the long term capital gains earned during the year.

However, the Assessing Officer (AO) observed that at the time of acquiring the shares, the taxpayer must have been aware of the necessity of making further investment in the business. Further, the period of one month was too short a time for taking such a major decision regarding disinvestment of shares of M/s. SKB at a huge loss of INR 85.98 million.

Accordingly, the AO held that the entire transaction was a colourable one and declined to allow the claim of the taxpayer towards short term capital loss against the long term capital gains.

The Commissioner of Income-tax (Appeal) and the Income-tax Appellate Tribunal (the Tribunal) allowed the claim of the taxpayer.

Tax department’s contentions

The tax department relied on the decision of the five judge bench of the Supreme Court in the case of M/s. McDowell & Company Ltd. and contended that the sale of shares by the taxpayer was a colourable transaction.

The subsequent two judge bench decision of the Supreme Court in the case of Azadi Bachao Andolan, should not be followed since the said decision was given by a bench consisting of two Judges whereas the earlier decision in M/s McDowell & Company Ltd. was given by a larger bench.

The tax department relied on the decision of the three judge bench of the Supreme Court in the case of Official Liquidator v. Dayanand and others (2008) 10 SCC 1 (SC) and contended that the decision in the case of Azadi Bachao Andolon was a ‘per incuriam’ (See Note-1)  decision.

Taxpayer’s contentions

The taxpayer contended that the subsequent decision of the Supreme Court in the case of Azadi Bachao Andolan had explained the real scope of the earlier decision in the case of M/s. McDowell & Company Ltd., decision in the case of Azadi Bachao Andolan should be followed

High Court’s ruling

There is no dispute with the proposition of law that if there are conflict of opinion between the two benches of the Supreme Court on a question of law, the one declared by the larger bench would prevail over the one pronounced by the other bench. But if a bench consisting of a smaller number of judges interprets a decision of a larger bench of the Supreme Court in a different way which may be apparently opposed to the one taken by the larger bench, a subsequent co-ordinate bench of the Supreme Court may refuse to follow the interpretation of the smaller bench on the ground that it proposed to follow the earlier view expressed by a larger bench.

But if the subsequent decision of the smaller bench explaining the larger bench is placed before a High Court, the High Court is bound to follow the decision of the smaller bench which interprets the decision of the larger bench. The High Court cannot make a different interpretation than the one made by the subsequent decision of the Supreme Court which is binding upon it.

However, the position would be different if the subsequent smaller bench of the Supreme Court takes a contrary view from the one taken by the earlier larger bench in ignorance. In that situation, the High Court is entitled to reject the view of the latter smaller bench of the Supreme Court as per incuriam.

In the present case, the subsequent decision of a smaller bench in the case of Azadi Bachao Andolan has taken note of the earlier decision in the case of M/s. McDowell & Company Ltd. and has interpreted the same. Therefore, it is not a case of passing decision in ignorance of a binding decision. Therefore, in this case, the view expressed by the smaller bench of the Supreme Court in the case of Azadi Bachao Andolan has to be accepted.

Since the decision in the case of Azadi Bachao Andolan is not held to be ‘per incuriam’ the decision of Supreme Court in the case of Dayanand and others is not applicable.

Even on merit, the reason given by the AO is not acceptable. It is not within the province of the AO to ignore an otherwise genuine transaction and to brand it as a colourable one on the ground that it was the duty of the company to invest further amount or it should have waited for a reasonable period.

Accordingly, the High Court held that the transaction entered by the taxpayer cannot be considered as a colourable transaction and the taxpayer was eligible to set-off the short term capital loss against the long term capital gains.

Our Comments

This is a welcome decision by the Calcutta High Court which has dealt with applicability of the smaller bench decision vis-a-vis larger bench decision. The High Court followed the decision of smaller bench of the Supreme Court in the case of Azadi Bachao Andolan since it had interpreted the decision of a larger bench in the case of McDowell & Company Ltd.

Recently the Supreme Court in the case of CIT v. Walfort Share & Stock Brokers P. Ltd. [2010] 326 ITR 1 (SC) and various other Courts (See Note-2) has followed the decision in the case of Azadi Bachao Andolan as against the decision of McDowell & Company Ltd.

The High Court held that the transaction of the taxpayer to set off short term capital losses is not a colourable transaction. Further, it is not within the province of the AO to ignore an otherwise genuine transaction and to brand it as a colourable one on the basis of some business decision not taken by the taxpayer.

Note-1

Per incuriam means a decision in which a binding decision or crucially relevant provisions of law have been ignored and which are contrary to the ultimate decision.

Note- 2

Porrits & Spencer (Asia) Ltd. v. CIT [2010] 231 CTR 294 (P&H)

CIT v. Akshay Textiles Trading Agencies (P.) Ltd. [2008] 167 Taxman 324 (Bom)

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