The Supreme Court has ruled that where the shares of an amalgamating company, held as stock-in-trade, are substituted by shares of the amalgamated company pursuant to a scheme of amalgamation, and such shares are realisable in money and capable of definite valuation, the substitution gives rise to taxable business income within the meaning of Section 28 of the Income Tax Act.
The Court clarified that charge under Section 28 is attracted only upon the allotment of new shares, and at earlier stages namely, the appointed date or the date of court sanction, no such benefit accrues or is received. Thus, the receipt of shares of the amalgamated company in substitution of stock-in-trade can give rise to taxable business profits under Section 28.
The Court explained that Section 28 is of wide import and encompasses all profits and gains arising in the course of business, even when such profit is realised in kind. The statutory substitution of shares of the amalgamating company by shares of the amalgamated company is not a mere neutral replacement; where the new shares are freely marketable and possess a definite commercial value, the event constitutes a commercial realisation giving rise to taxable business income.
A Two-Judge Bench of Justice J.B. Pardiwala and Justice R. Mahadevan observed that Section 28 is a comprehensive charging provision with deliberately wide language. Unlike Section 45 (Capital Gains) of the Income Tax Act, it does not require a “transfer” to be triggered. It is sufficient if there is ‘income’ arising from the business, which can be realised in cash or in kind.
The Bench emphasized that for income to be taxable, it must be a real and presently realisable commercial profit. Hypothetical or illusory benefits cannot be taxed. The Bench established a fact-sensitive test to determine if a taxable event has occurred upon amalgamation for shares held as stock-in-trade, and explained that taxability arises if the following conditions are met: (i) the old stock-in-trade (shares in the amalgamating company) has ceased to exist; and (ii) the new shares received in the amalgamated company possess a definite and ascertainable value.
The Bench stated that the appellant (taxpayer) is in a position to immediately dispose of such shares and realise money, meaning the shares are freely tradable and not subject to restrictions like a lock-in period.
The Bench noted that the Income Tax Act deliberately provides an exemption under Section 47(vii) of the Income Tax Act for capital assets in an amalgamation, viewing it as a corporate restructuring. However, no such exemption exists for stock-in-trade under Section 28. To provide one judicially would open an avenue for tax evasion by allowing traders to convert unrealised profits into new shares without taxation.
The Bench accordingly affirmed the High Court’s judgment in principle, and remitted the matter to the Tribunal for a fresh adjudication to determine the factual questions, including whether the shares were held as stock-in-trade and whether the new shares received were freely realisable.
Briefly, the appellants, investment companies within the Jindal Group, held shares in Jindal Ferro Alloys Limited (JFAL) and Jindal Strips Limited (JSL) as part of their promoter holdings, which represented a controlling interest. These shares were reflected as ‘investments’ in their balance sheets. During the relevant previous year, JFAL was amalgamated with JSL under a scheme sanctioned by the High Courts of Andhra Pradesh and Punjab & Haryana. As per the scheme, shareholders of JFAL were allotted 45 shares of JSL for every 100 shares of JFAL they held.
While filing the return, the appellants claimed an exemption under Section 47(vii) of the Income Tax Act, treating the JFAL shares as capital assets. The AO treated the JFAL shares as stock-in-trade, denied the exemption under Section 47(vii), and taxed the value of the JSL shares received as business income. On appeal, the ITAT held that it was unnecessary to determine if the shares were stock-in-trade or capital assets because no profit accrues unless the shares are sold or transferred for consideration. The ITAT concluded that no ‘transfer’ had occurred.
The matter reached the High Court, which held that if the shares were held as stock-in-trade, the receipt of shares in the amalgamated company would result in the realisation of the value of a trading asset, and the profit would be taxable as business income under Section 28 of the Income Tax Act.
Appearances:
Senior Advocates Ajay Vohra and Kavita Jha, AOR Aniket Deepak Agrawal, along with Advocates Vaibhav Kulkarni, and Aabgina Chishti, for the Appellant/ Taxpayer
ASG Raghavendra P Shankar, AOR Raj Bahadur Yadav, along with Advocates Udai Khanna, Karan Lahiri, Vimla Sinha, Seema Bengani, Preeti Rani, and Digvijay Dam, for the Respondent/ Revenue
