Deemed dividend can’t be taxed in the hands of Partnership firm not having shares in company

Deemed dividend to be taxed in the hands of individual shareholder and not in the hands of Partnership Firm in which he is partner

ABCAUS Case Law Citation
ABCAUS 3638 (2023) (01) HC

In the instant case, the assessee had challenged the order passed by the Income Tax Appellate Tribunal (ITAT/Tribunal) confirming taxation of deemed dividend u/s 2(22)(e) of the Income Tax Act 1961 (the Act) in the hands of Partnership firm and not the individual shareholder.

The question of law framed was as to whether the deemed dividend paid should be taxed in the hands of the Individual Director shareholder or in the hands of the appellant firm of which he was a partner?

The appellant assessee was a Partnership Firm. The said Firm had four partners one of whom had contributed 20% of the shares of the Firm. The said partner was also a director and substantial shareholder of a Limited company.

The said company gave a unsecured loan to the Partnership Firm. The Assessing Officer (AO) treated the unsecured loan as  a deemed dividend in the hands of the Firm and added it to the income of the Firm invoking Section 2(22)(e) of the Act.

The CIT(A) allowed the assessee’s appeal and held that in terms of Section 2(22)(e) of the Act, the amount could be treated as deemed dividend only in the hands of shareholder since he is the beneficial owner of the shares in the said company.

On Revenue’s appeal, the ITAT by the impugned order remanded the matter to the CIT(A) on the ground that it was  not clear whether deemed dividend should be taxed in the hands of the assessee or in the hands of the firm.

However, the Hon’ble High Court opined that a plain reading of the section 2(22)(e) indicates that the taxing of the deemed dividend has to be in the hands of the shareholder. 

The Hon’ble High Court observed that in the present case,  admittedly the partner of the firm held the shares in his individual capacity. On the other hand the Firm, did not hold any shares in the company.

The Hon’ble High Court opined that the CIT(A) was right in his conclusion.

The Hon’ble High Court stated that since the plain reading of  Section 2(22)(e) of the Act makes it clear that the deemed dividend is to be taxed in the hands of  individual  shareholder  and not an entity which does not hold shares, the question of remanding the matter to the CIT(A) did not arise.

Accordingly, the question framed was answered in favour of the Assessee and against the Department by holding that the deemed dividend should be taxed in the hands of individual Director of the company and not in the hands of the Appellant Partnership Firm.

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