Proportionate allocation of deemed dividend based on shareholding of borrowing company possible – HC

Proportionate allocation of deemed dividend based on shareholding of borrowing company may arise if there are two or more common shareholders in lending and borrowing company

ABCAUS Case Law Citation:
ABCAUS 2568 (2018) (10) HC

Important Case Laws Cited/relied upon by the parties:
ACIT Vs Bhaumik Colours Pvt. Ltd. (313 ITR 146)
CIT Vs Universal Medicare Pvt. Ltd. (324 ITR 263)
The Commissioner of Income Tax Vs. Impact Containers Pvt. Ltd. [(2014) 367 ITR 346 (Bom)]
The National Travel Services Vs Commissioner of Income Tax
Puneet Bhagat Vs Income Tax Officer
CIT vs. Madhukar Housing and Development Company
C.I.T. Vs Ankitech Pvt. Ltd. [340 ITR 14 (Del)]

Two identical appeals had been filed by the appellant assessee(s)

In the lead case, the assessee was a shareholder in two private limited companies (i.e company-I and company-II) holding 15% and 45% equity shares respectively in the said companies.

During the relevant Assessment Year the company-I (lender) had given a loan / advance to company-II (borrower) which was its sister concern.

Considering that the appellant was a registered as well as a beneficial shareholder of both companies, the Assessing Officer (Assessing Officer (AO), relying on the decision of the ITAT, treated this loan (along with interest) as a deemed dividend under Section 2(22)(e) of the Income Tax Act, 1961 (the Act) in the hands of the appellant on a protective basis.

The reason for the assessment on protective basis was because the loan in question was also treated as a deemed dividend in the hands of the borrower company company-II) and assessed as such on a substantive basis.

Commissioner of Income Tax (Appeals) deleted the addition made under Section 2(22)(e) of the Act on the ground that the loan was not received by the assessee but by the company-II.

The CIT(A) was further of the view that this addition of deemed dividend was already made on a substantive basis in the hands of company-II. For all these reasons, the CIT(A) set aside the order of the Assessing Officer (AO).

Being aggrieved by the Judgment and Order of the CIT(A), the revenue approached the ITAT. Before the Tribunal, it was the case of the assessee that the addition, if any, under Section 2(22)(e) should be proportionate to the shareholding of the assessee in the borrowing company.

The ITAT, relying upon the decision of the High Court allowed the appeal filed by the revenue. The ITAT also held that under the provisions of Section 2(22)(e) of the Act, two conditions were required to be fulfilled, namely, that the assessee  would have to have not less than 10 % of the voting power in the lending company and a substantial interest in the borrowing company. Since, both these conditions were satisfied, in absence of any provision for proportionate addition, nothing could be read into to the unambiguous language of Section 2(22)(e) of the Act.

Thus, aggrieved by this order of the ITAT that the assessee was before us under Section 260A of the Act.

The assessee submitted that the ITAT erred in converting the protective assessment into a substantive assessment by confirming the entire addition of deemed dividend in the hands of the assessee.

It was submitted that the ITAT ought to have remanded the protective assessment (in part) to the A.O. for the purposes of adjudicating whether and as to what extent the addition needs to be confirmed in the hands of the appellant assessee, as the shareholder was not the recipient of any loan or advance.

It was also contended that in any event, the addition, if any, under Section 2(22)(e), could be restricted only to the extent of the assessee’s proportionate shareholding in the borrowing company.

It was submitted that other than the appellant there were also other shareholders of in the borrower company, and therefore, it was highly unfair if the entire addition was made in the hands of the appellant assessee alone. It was pointed out that if there is no specific provision or a just mechanism to tax different shareholders with respect to their proportionate interest, the entire charging section fails and on this ground also the order impugned herein gives rise to a substantial question of law.

The Hon’ble High Court observed that the appellant was not only holding more than 10% shares but also having a substantial interest in the both companies. It was, in these facts, that the ITAT, after examining the definition of the word ‘dividend’ in Section 2(22)(e) as well as the ratio of the High Court came to a finding that since the assessees were shareholders holding more than 10% of the equity shares of the lending company and also having a substantial interest in the borrowing companies, the conditions as prescribed under Section 2(22)(e) were satisfied

The Hon’ble High Court opined that this issue as decided by the Tribunal did not gives rise to any substantial question of law.

Also, the Hon’ble High Court opined that the reasoning given by the ITAT that there cannot be any proportionate addition of deemed dividend taking into consideration the percentage of the shareholding in the borrowing company, did not give rise to any substantial question of law.

The Hon’ble High Court further observed that the Tribunal, in the factual matrix before it, held that Section 2(22)(e) of the Act does not postulate any such situation as there was only one shareholder that has a shareholding in the lending company as well as in the borrowing company. This being the case and purely factual in nature, ITAT was not incorrect in rejecting this argument of the assessee.

However, the Hon’ble High Court added that different considerations may arise if two or more shareholders are shareholders of the same lending company and the same borrowing company. In such a factual position it could possibly be argued that the addition ought to be made on a proportionate basis. However, this was not the issue in the instant case.

The appeal was accordingly dismissed

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