Compensation received by builder for default in agreement to sell land by seller was capital receipt-HC

Compensation received by builder for default in agreement to sell land by seller held as capital receipt as the land ultimately to be used as stock-in-trade was immobile and sterilised-HC

The instant appeal was filed by the Income Tax Department (Revenue) against the order of the ITAT in holding that the damages and compensation awarded to the assessee was capital receipts.

ABCAUS Case Law Citation:
ABCAUS 2317 (2018) (05) HC

Important Case Laws Cited/relied upon by the parties:
Universal Radiators Vs. Commissioner of Income Tax [1993] 201 ITR 800(SC)
Commissioner of Income Tax vs. Bombay Burmah Trading Corpn. [1986] 161 ITR 386 (SC)
Strong & Co. of Ramsey Ltd. v. Woodifield (Surveyor of Taxes) 5 TC 215

Compensation received held as capital receipt as the land was immobile and sterilised

The respondent assessee company was engaged in the business of real estate and had entered into a consortium agreement with its associates. This consortium entered into an agreement to sell with one Private Limited Company (Seller) for purchase of land.

The said seller defaulted in its commitment within the prescribed and extended time limit. Ultimately, upon parties resorted to the Dispute Settlement Arbitration and a settlement was arrived at and an award was made based upon the parties’ eventual settlement.

The amount received by the respondent assessee as a part of its entitlement as consortium was credited in its books of accounts as a capital stream.

However, the AO held that the amounts were revenue in nature as the land would have been part of the stock-in-trade and accordingly taxed it.

The CIT(A) rejected the assessee’s appeal

The ITAT after noticing the Supreme Court’s judgment held that in the facts of this case, the amount which was intended to be ultimately used as stock-in-trade purposes were immobile and sterilised, hence rendered non-offerable and therefore when received, as part of the arbitration award, fell into the capital stream. The Tribunal opined that the injury was caused to the profit making apparatus as the land which was profit making apparatus for the assessee was not supplied.

The Hon’ble High Court observed that the judgment of the Supreme Court relied ipob by the ITAT examined both situations first, where a direct link exists between the products or the ultimate purpose which the assessee intends to put the equivalent and second, expanding the amounts and what is the eventual income on one hand, and on the other hand, conclusions on the stock-in-trade as well.

The Supreme Court had held that if the stock-in-trade gets blocked and sterilised and no trading activity could be carried with it, then it ceased to be stock-in-trade, and any devaluation/surplus arising on such capital due to exchange rate would be capital and not revenue.

The Hon’ble High Court observed that similar observations had been made by the Supreme Court earlier by holding that if any payment was made for sterilization of the very source of profit-making apparatus of the assessee, or a capital asset, then that would also amount to a capital receipt in the hands of the recipient. It was clarified that the compensation received for immobilisation, sterilization, destruction or loss, total or partial of a capital asset would be capital receipt. If a sum represented profit in a new form then that was income but where the agreement related to the structure of assessee’s profit-making apparatus and affect the conduct of the business, the sums received for cancellation or variation of such agreement would be a capital receipt.

The High Court observed that in the instant case too, the purpose of the ultimate use of the assessee’s land when acquired was rendered irrelevant on account of the seller defaulting in its commitment. This rendered the amount expanded by the assessee immobile. The eventual receipt of the amounts determined as compensation/damages, therefore, clearly fell into the capital stream and not revenue.

The High Court dismissed the appeal of the Revenue holding that no question of law had arisen because the findings of the ITAT were well reasoned and based upon appreciation on the point of law.  

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