Commr. of Income Tax and Saurashtra vs Jesingbhai Investment Co. Ltd.

Chhatpar, J.—This is a reference by the Commissioner of Income Tax, stated to be u/s 66(1), Income Tax Act, but really u/s 108, Saurashtra Income Tax Ordinance, 1949, which is in force in this State. The two Sections are similar.

The opponent is a private limited Company, which was being assessed to income tax for the year 1949-50; the "previous year" is the calendar year of 1948. The Company deals inter alia in shares, stocks and securities. There is Anr. public limited company carrying on business at Kalol in the name of Navjivan Mills Ltd., having about 25 shareholders. This company held 5000 shares of the Bank of India Ltd., Bombay. In April 1948, the Bank of India Ltd., issued one bonus share of the face value of Rs. 50/- at a premium of Rs. 50/- for every three shares held by a shareholder in the Bank. The Company therefore became entitled to apply for 1666 2/3 shares out of the new issue. But the Company did not apply for the new issue of the shares, but transferred its right to apply for 1600 new shares of the Bank to its shareholders by a resolution, which states:

Resolved that this company having a holding of 5000 ordinary shares in the capital of the Bank of India Ltd., having now received an intimation from the said Bank that this company is entitled to get 1666 more ordinary shares on payment of Rs. 50/- as capital and Rs. 50/- as premium per each share and it is considered proper to invest in the said issue of the said Bank the funds of this Company to the extent of 66 shares only and to distribute the right of this company to the remaining 1600 shares of the said issue amongst the shareholders of this company in the proportion of the shares held by them in this company, it is hereby resolved that the funds of this company may be invested in the 66 shares out of the 1666 shares offered by the Bank of India Ltd., and the right to the remaining 1600 shares is hereby distributed amongst 800 shareholders of this company in the proportion of right to two shares of the Bank for, one ordinary share held in this company. The Managing Agents may take steps to intimate the share-holders to exercise the right if they should like to do so.

Six major shareholders in the Navjivan Mills Ltd., were Shantilal, Kantilal, Manibhai Mahindra, Vasantbhai and Pushpavati. Mahindra, Vasantbhai and Pushpavati transferred their light orally to Shantilal, Kantilal and Manibhai without any consideration. Shantilal, Kantilal and Manibhai consequently became entitled to apply for the new shares of'' the Bank of India both for their own right and the right which was given to the transferors by the above resolution. But they also did not exercise this right but transferred it to the opponent, the Assessee company. This transfer seems to have been made on 6-7-48, on which date the Assessee company applied for 1370 shares to the Bank of India Ltd., which allotted the shares to the Assessee company. The face value of each share was Rs. 50/- and as it was being issued at a premium of Rs. 50/- the Assessee company had to pay at the rate of Rs. 100/- for every share to the Bank of India Ltd., in all a sum of Rs. 1,37,000/- for 1370 shares was paid. These shares were sold by the Assessee company on 18-9-49 for a total price of Rs. 2,75,852/- 1300 shares being sold at the rate of Rs. 201-4-0 and 70 shares at the rate of Rs. 203-4-0. Thus, apparently the assesses company made a profit of Rs. 1,38,852/-.

But the right to apply for every new share of the Bank of India Ltd., was a tangible transferable right and had a market value apart from the ownership of shares held by any shareholder of the Bank of India. So any person, who was not a shareholder of the Bank, could purchase in the open market this right to apply for the new issue of shares. The market value of this right as the material time was Rs. 100/- per share. In short, the transferee of this right by paying an additional sum of Rs. 100/- to Bank of India Ltd., i.e. Rs. 50/- being the face value of each share and Rs. 50/- premium, could obtain one share of the Bank. The cost to him of one share would thus be Rs. 200/-. In the present case, the Assessee company had already obtained this right which had a market value as a gift. The value of this right was Rs. 1,37,000/- i.e. Rs. 100/- in respect of each of 1370 shares. This right or its value became either a capital asset or a stock-in-trade of the company. So the value of 1370 shares acquired by the company would be Rs. 1,37,000/- being the value of the right to obtain a share which was given as a gift to the company plus a similar amount paid by the company to the Bank for obtaining the shares, in all Rs. 2,74,000/-. The shares were actually sold for Rs. 2,75,852/-, the difference being Rs. 1852/-.

The question of law referred to this Court is

Whether on the facts and circumstances of the case, the profit which was liable to income tax on the sale of 1370 shares of the Bank of India Ltd., was Rs. 1852/- or Rs. 1,38,852/-?

The Income Tax Department held that the shares of the Bank of India sold by the Assessee company were the Assessee company''s stock-in-trade and that the excess realised by the Assessee company over Rs. 1,37,000/- was the business profit of the Assessee company and liable to income tax. The matter went to the Income Tax Appellate Tribunal, which while agreeing with the department that the shares held by the Assessee company were its stock-in-trade, did not agree that the excess over Rs. 1,37,000/- was the Assessee Company''s profit. In the opinion of the Tribunal the profit was only Rs. 1852/- on the basis that the company had acquired the right to obtain the shares of the Bank of India Ltd., Company, by a voluntary gift and as the right was tangible and had a market value which could be acquired by any person, who was not even a shareholder of the company, and as the value of this right was found by the Tribunal to be Rs. 100/- per share, the value of each share to the Assessee company was not Rs. 100/- which they had to pay to the Bank but in addition the value of this right which was in the neighbourhood of Rs. 100/- per share. Consequently the business profit would be the difference between Rs. 1,37,000/- plus Rs. 1,37,000/- and Rs. 2,75,852/- for which the shares were actually sold. The Tribunal relied upon the principle involved in taxation of profit which is that the profit is that which accrues between the period a stock-in-trade comes into the possession of the company and the date when it is sold.

The learned Advocate General, who appears for the applicant, has raised the following points:(1) That there was in fact no gift of the right to obtain shares of the Company by the three shareholders Shantilal, Kantilal and Manibhai;(2) That the gift if proved would be invalid, firstly because the right to apply for the shares could not be the subject-matter of a gift, although it is admitted that it could be made the subject-matter of a transfer, secondly that it was the gift of a right to acquire some moveable property in future; and thirdly such a gift would be invalid by virtue of Sections 123 and 124, T.P. Act;(3) The third point is based upon the contention of the Income Tax Department that the shares were acquired by the company in the ordinary course of business, and as in fact they were its stock-in-trade the apparent profit discussed above must be deemed to be the taxable gain under the Income Tax Ordinance.

The first two points raised by the learned Advocate General were objected to by Mr. Bhatt, the learned advocate for the opponent-Assessee company on the ground that it was not open to the applicant to raise these objections in these proceedings. These are questions of fact on the basis of which the reference has been made. They were not raised before the Income Tax Appellate Tribunal and cannot be therefore said to be questions arising out of the order of the Tribunal. His contention is that it was taken as granted that the gift was in fact made and he relies upon the following passage in the Tribunal''s order:

It may be noted here that there is no evidence about the transfer made by the three shareholders and by the other three shareholders to the Assessee company, besides making a statement. It has neither "been verified by the Tribunal that the shares were applied for by the Assessee company. ''As the facts are not in dispute, we have accepted them''.

We have considered this preliminary objection raised by the learned advocate for the opponent and we are of the opinion that it is well-founded. The order of the appellate Tribunal proceeds on the basis of the gift having been made, and the only dispute between the Income Tax Department and the Assessee company was whether in the circumstances the assessable profit was the apparent profit of Rs. 1,38,852/- without taking into account the value of the right to obtain shares given to the Assessee company by way of a gift or whether the assessible profit was only Rs. 1852/- taking into consideration the value of this right which has been found to be Rs. 1,37,000/- for 1370 shares. And indeed it seems to us that the Department could not have challenged the validity of the gift, the effect of which would be to question the ownership of the shares held by the company and consequently the liability to taxation at all. Besides the principally concerned party, the Bank of India Ltd., seems to have recognised the transfer and issued shares to the company accordingly. We therefore refuse to go into the first two questions relating to the factum and the validity of the gift raised toy the learned Advocate General and confine our decision to the third question, which is really the one referred to us for our decision.

The learned Advocate General contends that in assessing profits and gains u/s 10, it should be ruled out of consideration the manner in which the assassee company became owners of the shares. To the Assessee company the actual cost of acquisition was Rs. 1,37,000/- only and therefore whatever was realised by the sale over and above this figure must be considered as profit. He also further contends that the acquisition of the shares by the Company was in the ordinary course of business and the actual costs of shares must be taken into consideration without reference to any other factor. We are unable to agree with these contentions. We agree with the principle involved in taxing on which the Tribunal has proceeded that the profit is that which would accrue between the period a stock-in-trade comes into the possession of the Company and the date when it is sold. And we may refer to the oft-quoted dictum of Lord Halsbury in - ''Gresham Life Assurance Co. Ltd. v. Styles. (1891) 3 Tax Cas 185 at n. 188 (A) (H. L.) that

the word ''profit'' is to be understood in its natural and proper sense which no commercial man would misunderstand,

and which has been followed by the Privy Council in - AIR 1931 165 (Privy Council) .

In the present case the value of the stock-in-trade was not simply the amount of Rs. 1,37,000/- which the company paid to the Bank of India Ltd. They already had an asset in the shape of the right to acquire shares which was a transferable tangible right and had a market value. So that when the Company got this right, they had already possessed its equivalent in money as a preliminary asset to which they had to add Anr. Rs. 1,37,000/- for the purpose of acquisition of the shares of the Bank of India Ltd. Hence the real value of the shares at the material time was Rs. 2,74,000/-, We also repel the argument that the acquisition of the shares of the company was made in the ordinary course of business to the extent that the gift of the right to apply for the shares of the Bank could not be considered in ordinary course of business. It was casual and in the nature of a windfall. The case would be similar to that of a dealer who got a casual gift of a stock-in-trade which he subsequently sold. The taxable profit would be the excess of sale price over the market value of the stock-in-trade at the time of the gift and not the entire sale price. Or, to be more apt we may take the case of a goldsmith who has already gold in his possession and purchases a diamond and makes a gold diamond ring, which he sells. In determining the profit the value of the gold must be taken into consideration, although gold may have come into his possession as a gift. We therefore agree with the decision of the Tribunal and answer the question of law, set so us that on the facts and circumstances of the case the profit which was liable to income tax on the sale of 1370 shares of the Bank of India Ltd., was Rs. 1852 and not Rs. 1,38,852/-.

We may in conclusion make reference to a request made by the learned Advocate General that we should exercise our powers u/s 66(4) referring the case back to the appellate Tribunal regarding the question about the factum and the validity of the gift. But we do not feel that there is any justification for making such a reference. For the reasons already discussed above, the factum and the validity of the gift seem not to have been the subject-matter of the dispute before the appellate Tribunal.

The costs of the opponent of this reference shall be borne by the applicant, who will bear his own costs.

Baxi J.

I agree.