For accumulated profits u/s 2(22)(e), depreciation under Income-tax Act is to be deducted

For arriving at accumulated profits for deemed dividend u/s 2(22)(e), depreciation under Income-tax Act is to be deducted – ITAT

In a recent judgment, ITAT Chandigarh has held that for arriving at accumulated profits for deemed dividend u/s 2(22)(e), depreciation under Income-tax Act is to be deducted. Also, cancellation of agreement to sell need not on Stamp Paper and should be notarized.

ABCAUS Case Law Citation:
4612 (2025) (06) abcaus.in ITAT

Important Case Laws relied upon by Parties:
CIT Vs Creative Dying and Printing Pvt Ltd

In the instant case, the Revenue had challenged the order passed by the CIT(A) in deleting the addition made by the Assessing Officer (AO) with the aid of Section 2(22)(e) of the Income Tax Act, 1961 (the Act) as deemed dividend in the hands of the assessee.

The assessment was reopened by issuance of notice u/s 148 of the Act.  It revealed to the AO that assessee was a Director in a company.  He was having 82.2% shareholding.  The company had given a loan to the assessee.  The AO was of the view that Section 2(22)(e) was attracted to the assessee.

In response to the query of AO, it was contended by the assessee that the company was interested in acquiring the piece of land which was owned by the assessee.  An Agreement to Sell was executed and this sum was paid to assessee, however, later on deal was not materialized and it was cancelled.

Apart from the above, it was contended by the assessee that accumulated profit does not mean, profit as disclosed by the company’s balance sheet.  It is to be adjusted by the depreciation admissible under the Act and if this depreciation was being granted to the assessee, then the alleged accumulated profit was a negative figure and no deemed dividend would be considered in the hands of the assessee. 

However, AO while deciding the issue did not adjudicate this aspect, rather simply ignored it and did not accept the alternative contention that this was business transaction between the assessee and the company.  The AO rejected this contention and made the addition.

The CIT(A) deleted the addition holding that the Agreement to Sell in respect of the land had been entered between the company as a purchaser and assessee as seller. Thus, the payments received by assessee was in the nature of advance/share towards purchase of land, not as an advance as concluded by AO. The subsequent  cancellation also confirmed the nature of transactions that it was purely a commercial transaction, not the loan transactions.

The Tribunal observed that AO had rejected the contention of business transaction between the company and the assessee and the assessee, simply on suspecting the alleged cancellation of Agreement to Sell.  The AO had raised doubt about the manner of preparing the document for cancellation of Agreement on the back side of the Agreement itself.

The Tribunal opined that once the assessee has cancelled the Agreement with the buyer, then such writing can be made on the back side of the alleged Sale Agreement itself.  There is nothing unusual to this and it is not necessary such record should be on Stamp Paper and should be notarized.  It is a simplest transaction between the parties, if they do not want to continue with the Agreement, it could be cancelled in a simplistic manner by reducing it in writing which has been done in this case. 

The Tribunal further opined that the CIT(A) had appreciated this aspect and recorded a finding that transaction between the assessee and the company was of a business transaction and if amounts have been received in connection with some business transaction, then it will not fall within the ambit of deemed dividend.

The Tribunal further observed that also the AO failed to take cognizance of the depreciation as per Income Tax Act. The assessee had produced the details of depreciation as per Company’s Act as well as of Income Tax Act. The depreciation under the Company’s Act is at a lower amount than the depreciation under the Income Tax Act.  If the alleged accumulated profit in the balance sheet is adjusted with the depreciation, then there is an accumulated loss and no deemed dividend could be assumed by the AO. 

The Tribunal relied upon the judgment of the High Court wherein Hon’ble Court had held that for the purpose of arriving at the accumulated profits u/s 2(22)(e) of the Income-tax Act, it is necessary for deduction of depreciation as provided under the Income-tax Act for taxing any loan borrowed from the company, as deemed dividend.

Accordingly, the Tribunal held that there was no reason to interfere in the order of the CIT(A).  As a result, the appeal of the Revenue was dismissed.

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