Income Tax Appellate Tribunal (ITAT) Delhi in a recent judgment has held that loan to concerns/companies are also contemplated in the section 2(22)(e) related to deemed dividend provided in these cases also all the conditions applying to individual shareholder are fulfilled. Thus, even if payment is made to a concern/company still the payment will be taxed as deemed dividend in the hands of shareholders of the receiver concern/companies.

Case Details:
ITA No. 3025-3026/Del/2015 ; AY: 2007-08
Puneet Bhagat/Sunita Bhagat (Appellant) vs Income-tax Officer, (Respondent)
Date of Order: 16-12-2015

Brief facts of the Case:
Shri Puneet Bhagat and Smt. Sunita Bhagat were both directors and shareholders with more than 20% shareholdings in two companies namely; in M/s Aesthete Exim Pvt. Ltd. and M/s Aesthete International Ltd. During the assessment proceedings of M/s Aesthete International for AY 2007-08, the Assessing Officer (AO) noticed that M/s Aesthete International had received Rs. 10 lacs from its sister concern M/s Aesthete Exim Pvt. Ltd. and this amount of loan was treated as deemed dividend u/s 2(22)(e) in the hands of M/s Aesthete International Ltd. However, the said addition was deleted by ld. CIT(A) observing that the it could be taxed only in the hands of share holder of lender company i.e. Shri Puneet Bhagat and Smt. Sunita Bhagat and not in the hands of company, which is not a registered share holder of the lender company. Consequently both the individual shareholders (Puneet Bhagat and Sunita Bhagat) were issued show cause as to why loan advanced to M/s Aesthete International Ltd. by M/s Aesthete Exim Pvt. Ltd. should not be treated as deemed dividend in their hands.

The appellants pointed out that no manner of computation for making the addition in their hands has been prescribed, either under the Income tax Act or in the rulings of Delhi High Court  in the case of Ankitech Pvt. Ltd.  Further, it was submitted that in the absence of any mechanism for computation of income in the hands of share holders, the charging provisions would also fail and no addition could be made in such a case. The assessee relied on the decision of the Supreme Court in the case of CIT Vs. B.C. Srinivasa Setty wherein it was held as under:

“..... the charging section and the computation provision together constitute an integrated code. When there is a case to which the computation provisions cannot apply at all it is evident that such a case was not intended to fall within the charging section....”

However, the AO treated the amount advanced as deemed dividend in the hands of individual directors by equally dividing the amount  and added Rs. 5 lacs each in the hands of the two director shareholders. CIT(A) also confirmed the additions made by the AO.

Thus the point for consideration before ITAT was whether the addition as deemed dividend in the hands of the two directors, was as per law or not.

Contentions of the appellant(s):
The main contention of the appellants were that had the loan was given to one shareholder, the same could be computed as per law but when the loan is given to a concern in which such shareholder is a partner or member, then for allocation of loan between the shareholders no mechanism has been provided in the Income Tax Act.

ITAT laid that the main ingredients of the section 2(22)(e) are as under:

I. Payment to individual shareholder:-
(A) The payment should be by a company (not being company in which public is substantially interested).
(B) The payment can be in cash or representing a part of the assets of the company.
(C) The payment should be in the nature of avance or loan to a shareholder who is holding at least 10% shares beneficially.
(D) The above payment to the extent of accumulated profits of the lender company would be treated as deemed dividend in the hands of shareholder qualifying the criteria of holding 10% beneficial holding of shares.

II. Payment to concerns:
In this case all the conditions of payments in case of individual shareholder noted above have to be fulfilled. Thus, even if payment is made to a concern still the payment to concern will be taxed as deemed dividend in the hands of such shareholder.

III. Payment is by such company on behalf or for individual benefit of such shareholder. Here also all the conditions contemplated in (I) above have to be fulfilled.

Thus the Tribunal held that the section clearly covers those cases where payment is to shareholder qualifying condition of beneficial holding of shares. The loan to concerns are also contemplated in the section itself and, therefore, it would be too technical to hold that legislature visualized only one shareholder in the concern.

Important Excerpt from ITAT Judgment:

Section 2(22)(e) reads as under:

“2(22)(e): dividend includes –
…..
(e) any payment by a company, not being a company in which the public are substantially interested, of any sum (whether as representing a part of the assets of the company or otherwise) [made after the 31st day of May 1987, by way of advance or loan to a shareholder, being a person who is the beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power, or to any concern in which such shareholder is a member or a partner and in which he has a substantial interest (herein in this clause referred to as the said concern)] or any payment by any such company on behalf, or for the individual benefit, of any such shareholder, to the extent to which the company in either case possesses accumulated profits.”

The section clearly states that the shareholder may be a member of the concern or a partner, which implies that the interest of the shareholder in the concern is to be determined with reference to the percentage of shareholding of the directors/ partners in the said concern. It is not necessary that in every case the detailed mechanism should be provided for computing the income and, if, by reasonable construction of the section, the income can be deduced then merely on the ground that specific provision has not been provided, it cannot be held that the computation provisions fails. It is well settled law that the construction which advances the object of legislation should be made and not the one which defeats the same. The percentage of shareholding in the concern to which loan is given, is the determining factor of the deemed dividend in case of shareholder. In the present case, since in M/s Aesthete International Ltd., Mr. Puneet Bhagat had 53.85 shareholding. Therefore, Rs. 5,38,500/- should have been assessed as dividend in the hands of Shri Puneet Bhagat and Rs. 4,61,100/- should have been taxed as deemed dividend in the hands of Mrs. Suneeta Bhagat. Since in case of Mr. Puneet Bhagat, this will lead to enhancement of income, I uphold the addition of Rs. 5 lakhs only in his case.

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