The Madras High Court has clarified that the character of a transaction (whether capital gains or business income) is determined by the cumulative effect of all facts and circumstances, not by a single abstract rule. The Court ruled that where a taxpayer holds an asset for a very long period without undertaking any development activity and maintains a clear distinction in its accounts between fixed/investment assets and stock-in-trade, then profit from the sale of the former is to be treated as capital gains.
The mere fact that a taxpayer is aware of the commercial potential of its asset and sells it at a favourable price does not, by itself, convert the transaction into an “adventure in the nature of trade”, explained the Court, while holding that the profit earned by the respondent (taxpayer – developer) from the sale of the land should be assessed under the head ‘Capital Gains’ and not as ‘Business Profits’.
The Division Bench comprising Dr. Justice Anita Sumanth and Justice Mummineni Sudheer Kumar observed that that the respondent clearly maintained two separate portfolios: one for fixed assets (including the subject freehold land) and another for inventories (land for development acquired post-amalgamation). The Bench, therefore, found no reason to integrate the two, as it would be contrary to the respondent’s accounting treatment and conduct.
The Bench noted that the respondent had not engaged in the regular business of purchasing and selling land. The subject land was held for decades and sold without any development, merely to take advantage of a boom in property prices. This was seen as the realization of a capital asset, not a business transaction.
Further, the Bench identified that the CIT(A) erred in concluding that the respondent was engaged in routine and regular sales of land, for which there was no supporting evidence. The CIT(A) also failed to note that the land sold was a fixed asset held for a long period without any development.
At the same time, the Bench found that CBDT Circular No. 4/2007, which distinguishes between shares held as investments and as stock-in-trade, was applicable by analogy. The circular supports the principle that a taxpayer can maintain two separate portfolios (investment and trading), leading to income being assessed under both ‘capital gains’ and ‘business income’.
Lastly, the Bench endorsed the findings of the ITAT, which correctly identified the matter as purely factual. The Bench said that the ITAT had rightly concluded that realizing a better price for a capital asset, without any further development or systematic activity, does not convert the transaction into a business or trade.
Briefly, the respondent, engaged in manufacturing, trading, and acting as an IATA-approved cargo and customs house agent, had also listed property development as a line of activity in its financials. It had sold 22.28 acres of land for a consideration of Rs. 10.02 Crores, and declared a sum of Rs. 9.87 Crores as profit from this sale and offered it to tax under the head ‘capital gains’.
The AO reopened the assessment, contending that the profit should be treated as ‘business income’ because property development was one of the respondent’s main activities. In the meantime, the respondent had amalgamated with Shaw Wallace Properties Limited (SWPL), a company primarily engaged in property development. Post-amalgamation, the respondent maintained two distinct portfolios. The subject land, held for over seven decades, was part of its ‘freehold assets’ (fixed assets). A separate inventory for ‘land for development’ and ‘apartments’ was created, which included assets that devolved upon it from SWPL.
Now, the dispute pertained to the land acquired many years ago as industrial land, when it was sold in the same state, without any development activity undertaken by the respondent. For AY 2003-04, the respondent’s treatment of profit from the sale of other properties as ‘capital gains’ was accepted by the AO after scrutiny. Also, for AY 2005-06, a similar claim was upheld by the Income Tax Appellate Tribunal (ITAT).
Appearances:
Advocate T. Ravikumar, for the Appellant
Advocate N.V. Balaji, for the Respondent
