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ABCAUS Excel for Chartered Accountants

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Chartered Accountants

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In the Income Tax Appellate Tribunal, Kolkata, Departmental Representative, during the course of proceedings in the Income Tax Appeal [ ABCAUS 775 (2015) (07) ITAT ] has explained the modus operandi of conversion of black money into white through the medium of shell companies.

He explained that the entire episode is completed through three levels.

In the first level, Company ‘A’ is incorporated on papers, which does not carry out any substantial business activity. Suppose, this company issues ten shares to another dummy company, say X with face value of Rs.1/- at a premium of Rs.49, raising its share capital to Rs.500/-. The sum of Rs.500/- standing on the liability side of the balance sheet of company A is equalized with Investment in shares of Company ‘B’, which is again a paper company, at a much higher price than its real worth. Company ‘B’, in turn, gets Rs.500/- and invests the same in the shares of another dummy private limited company ‘C’, again at a huge undeserving market price. This process goes on as the same amount of Rs.500 is rotated through various dummy companies eventually showing their capital and share premium at Rs.500/- represented by investment in shares of other dummy companies by equal amount of Rs.500/- subject to the deduction of certain expenses incurred or some petty income earned.

In the second level , a person, say Mr. Y, intending to convert his black money into white enters into a deal with company X, who is shareholder of company ‘A’. Company X sells its shares of Company A with the purchase price of Rs.500 at its real worth, say, Rs.6 per share. Mr. Y purchasing shares of company A for apparent consideration of Rs.6, pays Rs.494/- in cash and, thus, acquires all the shares of Company ‘A’ with apparent investment of Rs.6/- and real investment of Rs.500/-. Mr. Y retains these shares for a period exceeding one year.

In the third level, the operators who have created this web of dummy companies assist Mr. Y in selling the shares of company ‘A’ at Rs.500/- through fictious transactions entered into with Mr. Z. Mr. Y realizes Rs.500/- in cash and brings this amount into circulation. Profit of Rs.494/- [Rs.500(sales price) minus Rs.6 (apparent purchase price)] earned by Mr. Y is not chargeable to tax in terms of section 10(38) as it arises `from the transfer of a long-term capital asset, being an equity share in a company’. That is how, Mr. Y converts Rs. 494/- from black to white. The shares of company ‘A’ are sold through operators to Mr. Z, who is interested in purchasing share loss. Mr. Z treats the shares of company A either as his stock in trade or Investment, depending upon his requirement. If these shares purchased for an apparent consideration of Rs.500 are held by Mr. Z as stock in trade, then at the end of the year, he will value such stock in trade at market price, say at Rs.10. By doing so, he will show a loss of Rs.490 from the valuation of shares, which will be adjusted against his normal business income to this extent. If Mr. Z treats these shares as Investment, then the operator will help him in selling the shares at their market price of Rs.10. Loss from the sale of Investment, being loss under the head `Capital gain’, will be set off against any other capital gain genuinely earned by Mr. Z.

This is the entire mechanism by which Mr. Y, who purchased the shares of Company A has succeeded in converting his black money of Rs. 494 into white. In the same manner, Mr. Y1 and Mr. Y2 etc. convert their black money of Rs.494 into white by purchasing the shares of Company B and Company C etc. The end result is achieved by operators by routing the transactions of shares through several layers of companies, thereby giving colour of genuineness, which in reality is nothing but a camouflage

Facts of the Case:
Through these appeals, different assesses had challenged the  orders passed by the Commissioners of Income tax (CIT) u/s 263 of the Income-tax Act, 1961 in relation to the assessment years 2008-09 and 2009-10.

In the case of M/s Subhalakshmi Vanijya Pvt. Ltd, the CIT, on perusal of the assessment record, observed that the issue of share capital with huge share premium, was not properly examined by the Assessing Officer (AO). CIT opined that the AO failed to carry out proper investigation of the matter. He also took note of a racket under which a large number of companies were floated in identical manner apparently showing to have introduced share capital at a huge premium by rotating the unaccounted money. He observed that the AO ought to have conducted thorough enquiry into at least 2-3 layers to reach the source or the real investor. Considering the fact that issue of a share with a face value of Rs.10/- by the assessee company at a premium of Rs.490/- per share required thorough examination by the AO, which he failed to carry out, the CIT, after considering the objections of the assessee, came to hold that the assessment order was rendered erroneous and prejudicial to the interest of the Revenue. He, therefore, set aside the assessment order with a direction to the AO for making a fresh assessment after conducting independent, detailed and complete enquiries into the subscription to the share capital and premium introduced in this case and also the investments of Rs.8.80 crore allegedly made by the assessee in certain other such companies.

In M/s Ramshila Enterprises Pvt. Ltd This assessee filed its return declaring total income at Rs. Nil. The return was processed u/s 143(1). In this case also CIT set aside the assessment order on more or less the same reasoning as given in the case of M/s Subhlakshmi Vanijya Pvt. Ltd. and directed the AO to reframe the assessment fresh on the lines as directed by him in the case of M/s Subhlakshmi Vanijya Pvt. Ltd.

Facts and circumstances of the other companies in this batch of appeals are similar to above discussed two cases.

The Tribunal vide its judgment dated 30-07-2015 held that the proceedings u/s. 263 of the Act were valid and cannot held to be without jurisdiction.

Download ITAT Full Judgment Click Here >>

Modus Operandi of Conversion of Black Money into White through the Medium of Shell Companies illustrated during proceedings at ITAT | 31-07-2015 |

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