Income Tax Appellate Tribunal (ITAT) Ahmedabad in a recent judgment, upheld the CIT(A) in treating the sale, purchase of shares by assessee as investment activity resulting in short term capital gain (STCG) against business income as held by Assessing Officer (AO).

ITAT also referred to few broad tests and guidelines to determine the true nature of  transactions involving sale, purchase of shares.

Case Details:
ITA No.1057/Ahd/2011 AY : 2006-07
ACIT (Appellants) vs Smt.Jayshree M. Patel (Respondent)
Date of Order: 23-10-2015

Brief Facts of the Case:
The only grievance of the Revenue was that the CIT(A) had erred in directing to treat Rs.14,11,723/- as short term capital gain (STCG) returned by the assessee instead of business income assessed by the AO. The ITAT observed that the assessee had purchased shares of only three companies, undertaken only 12 transactions in the year, had not used any borrowed funds and the frequency of the sales is not to that extent that would amount to business. Accordingly, ITAT concurred with CIT(A) and dismissed the appeal of the Revenue.

Guidelines/Tests to be applied:
To find out whether assessee is to be termed as involving in the trading of shares or is to be treated as an investor simplicitor, ITAT referred to certain broad principle and tests which are as under:

As laid down by ITAT Lucknow Bench in the case of Sarnath Infrastructure Pvt. Ltd. reported in 120 TTJ 216.

(1) What is the intention of the assessee at the time of purchase of the shares (or any other item). This can be found out from the treatment it gives to such purchase in its books of account. Whether it is treated stock-in-trade or investment. Whether shown in opening/closing stock or shown separately as investment or non-trading asset.

(2) Whether assessee has borrowed money to purchase and paid interest thereon? Normally, money is borrowed to purchase goods for the purpose of trade and not for investing in an asset for retaining.

(3) What is the frequency of such purchase and disposal in that particular item? If purchase and sale are frequent, or there are substantial transaction in that item, if would indicate trade. Habitual dealing in that particular item is indicative of intention of trade. Similarly, ratio between the purchases and sales and the holdings may show whether the assessee is trading or investing (high transactions and low holdings indicate trade whereas low transactions and high holdings indicate investment).

(4) Whether purchase and sale is for realizing profit or purchases are made for retention and appreciation its value? Former will indicate intention of trades and latter, an investment. In the case of shares whether intention was to enjoy dividend and not merely earn profit on sale and purchase of shares. A commercial motive is an essential ingredient of trade.

(5) How the value of the items has been taken in the balance sheet? If the items in question are valued at cost, it would indicate that they are investments or where they are valued at cost or market value or net realizable value (whichever is less), it will indicate that items in question are treated as stock-in-trade.

(6) How the company (assessee) is authorized in memorandum of association/articles of association? Whether for trade or for investment? If authorized only for trade, then whether there are separate resolutions of the board of directors to carry out investments in that commodity? And vice verse.

(7) It is for the assessee to adduce evidence to show that his holding is for investment or for trading and what distinction he has kept in the records or otherwise, between two types of holdings. If the assessee is able to discharge the primary onus and could prima facie show that particular item is held as investment (or say, stock-in-trade) then onus would shift to Revenue to prove that apparent is not real.

(8) The mere fact of credit of sale proceeds of shares ( or for that matter any other item in question) in a particular account or not so much frequency of sale and purchase will alone will not be sufficient to say that assessee was holding the shares (or the items in question) for investment.

(9) One has to find out what are the legal requisites for dealing as a trader in the items in question and whether the assessee is complying with them. Whether it is the argument of the assessee that it is violating those legal requirements, if it is claimed that it is dealing as a trader in that item? Whether it had such an intention (to carry on illegal business in that item) since beginning or when purchases were made?

(10) It is permissible as per CBDT’s Circular No. 4 of 2007 of 15 ^th June, 2007 that an assessee can have both portfolios, one for trading and other for investment provided it is maintaining separate account for each type, there are distinctive features for both and there is no intermingling of holdings in the two portfolios.

(11) Not one or two factors out of above alone will be sufficient to come to a definite conclusion but the cumulative effect of several factors has to be seen.”

Tests laid down by The Hon’ble Gujarat High Court in case of Pari Mangaldas Girdhardas vs. CIT reported in 1977 CTR 647

(a) The first test is whether the initial acquisition of the subject-matter of transaction was with the intention of dealing in the item, or with a view to finding an investment. If the transaction, since the inception, appears to be impressed with the character of a commercial transaction entered into with a view to earn profit, it would furnish a valuable guideline.

(b) The second test that is often applied is as to why and how and for what purpose the sale was effected subsequently.

(c) The third test, which is frequently applied, is as to how the assessee dealt with the subject-matter of transaction during the time the asset was the assessee. Has it been treated as stock-intrade, or has it been shown in the books of account and balance sheet as an investment. This inquiry, though relevant, is not conclusive.

(d) The fourth test is as to how the assessee himself has returned the income from such activities and how the Department has dealt with the same in the course of preceding and succeeding assessments. This factor, though not conclusive, can afford good and cogent evidence to judge the nature of the transaction and would be a relevant circumstance to be considered in the absence of any satisfactory explanation.

(e) The fifth test, normally applied in case of partnership firms and companies, is whether the deed of partnership or the memorandum of association, as the case may be, authorizes such an activity.

(f) The last but not the least, rather the most important test, is as to the volume, frequency, continuity and regularity of transaction of purchase and sale of the goods concerned. In a case where there is repetition and continuity, coupled with the magnitude of the transaction, bearing reasonable proposition to the strength of holding then an inference can readily be drawn that the activity is in the nature of business.

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