Sumeet Taneja vs Commissioner of Income Tax and Another

Rajive Bhalla, J.

Civil Misc. No. 31322-CII of 2012

Prayer in this application is to implead the legal representatives of Harbir Singh Khurana, who is stated to have passed away on 1st July, 2011. In view of averments in the application and the arguments addressed by counsel for the appellants, the application is allowed, and legal representatives mentioned in para 2 of the application are impleaded as appellants in place of Harbir Singh Khurana, deceased.

The amended memorandum of parties is taken on record.

IT Appeal No. 293 of 2012

By way of this order, we shall decide IT Appeal Nos. 293 and 294 of 2012, as they relate to the same transaction and involve adjudication of the same questions. Facts are being taken from IT Appeal No. 294 of 2012.

The appellants, challenge orders dt. 26th Dec, 2008 (Annex. A-1), 14th Oct., 2009 (Annex. A-2) and 8th June, 2012 (Annex. A-3), passed by the AO, CIT(A) and the Tribunal, Chandigarh Bench-''B'', Chandigarh, respectively, for the asst. yr. 2006-07.

The appellant-Harbir Singh Khurana (since deceased), admittedly purchased 47,500 equity shares of M/s. Excel Callnet (P) Ltd., @ Rs. 10 each on 28th March, 2002, i.e., for Rs. 4,75,000. The aforesaid shares were sold in May, 2005 to M/s. Pugmarks Interweb (P) Ltd. by way of a share-purchase agreement, dt. 26th May, 2005. The appellant filed his return of income for the asst. yr. 2006-07 disclosing an income from short-term capital gain of Rs. 2,10,900 and income from long-term capital gain of Rs. 38,40,000, besides income from other sources. The case was selected for scrutiny and notice was issued under s. 143(2) of the IT Act, 1961 (hereinafter referred to as the Act''). The AO, after considering the entire matter including replies filed and documents placed on record, by the appellant, held that income from long-term capital gain shall be treated as business income of the assessee under s. 28(va) of the Act. The AO, in essence, negatived the appellant''s plea that the sale of shares, was a mere transfer of shareholdings and not a transfer or purchase of business activities of the assessee. The appellant filed an appeal, which was dismissed by the CIT(A), on 14th Oct., 2009. The appellant, thereafter, filed an appeal before the Tribunal, which was also dismissed.

Counsel for the appellant submits that the impugned orders are illegal and void as IT authorities have ignored the Explanation added to s. 2(14) of the Act, introduced with retrospective effect to clarify that "property" includes any rights in or relation to an Indian company including right of management or control or any other rights whatsoever. The Explanation clearly places the disputed transaction, within s. 2(14) and, therefore, cannot be treated as a business transaction or income from business, so as to place it within s. 28(va) of the Act. The findings recorded by authorities, to the contrary, are based upon a misreading of the sale-purchase agreement and primary reliance upon the non-compete clause to hold that the sale purchase agreement is a transfer of business and not a mere sale of equity shares. It is argued that the approach of the respondents is clearly illegal and void and gives rise to the following substantial questions of law:

(i) Whether in facts and circumstances of the case, the action of the learned authorities below have erred in holding that the sale of the equity shares as stock-in-trade does not fall within the ambit of s. 2(14) of the IT Act despite the express ''Explanation'' added by the legislature in the said section vide the Finance Act, 2012 with retrospective effect?

(ii) Whether in facts and circumstances of the case, the learned authorities below have erred in holding that amount received for sale of shares is on account of non-compete covenants contained in art. 8 of the sale-purchase agreement by ignoring the fact that the same has been received on account of transfer of shares and no consideration whatsoever has been paid towards the said non-compete covenant and the price settled between the parties was only the marked price of the shares?

(iii) Whether in facts and circumstances of the case, the authorities below erred in ignoring the fact that the assessee was not doing any business in the company, he was merely drawing a salary and it was the company, Excel Callnet (P) Ltd. which was doing the business of call centers, hence the sale of shares could not fall within the ambit of s. 28(va)?

(iv) Whether in facts and circumstances of the case, the action of the authorities below, the impugned orders Annexs. A-1 to A-3 are legally sustainable in the eyes of law?

Counsel for the Revenue submits that findings of fact recorded by the AO, affirmed by the CIT(A) and the Tribunal, do not give rise to any substantial question of law much less the questions of law framed by the appellant. A perusal of the agreement leaves no manner of doubt that the transaction involves sale of the entire business as is not a simple transfer of shares. The AO, the CIT(A) as well as the Tribunal have examined each and every clause of the agreement and have only, thereafter, recorded findings of fact that amount received by the appellant would be included in his business income.

As regards the Explanation of s. 2(14) of the Act, it is argued that the said Explanation does not apply to the appellant as the matter in dispute pertains to the asst. yr. 2006-07.

We have heard counsel for the parties, perused the impugned orders as well as the substantial questions of law.

The AO, after perusal of the agreement recorded a finding of fact that the agreement, though, classified as an agreement for purchase of shares envisages purchase of business or rather purchase of business assets. The AO has referred to various clauses of the agreement, that transfer all pervasive control of business from the assessee to the purchaser, to the complete and absolute exclusion of the assessee. The AO has also referred to a non-compete clause in the agreement while holding against the assessee. The findings so recorded, have been affirmed by the CIT(A) as well as by the Tribunal. It would, therefore, be necessary to reproduce a relevant extract from the order passed by the Tribunal, but before doing so, it would be appropriate to point out that the essential dispute in the present case is whether transfer of shares by the assessee is transfer of a capital asset within the meaning of s. 2(14) of the Act or a transfer of business that falls within the ambit of s. 28(va) of the Act. A relevant extract from the order passed by the Tribunal reads as follows:

The only issue arising in the present appeal is in respect of the treatment of the amount received on sale of equity shares of the private limited company held by the assessee, which were transferred during the year under consideration. The plea of the assessee in respect of the said transaction is that it is a mere sale and purchase of investment held by the assessee and consequently gain arising on the said transaction is to be assessed under the head Income from capital gains''.

After recording as above, the Tribunal proceeded to narrate the facts, which we need not to reproduce, referred to arts. 2, 3, 4.2, 4.3, 5 and 6 of the agreement, which relate to transfer of shares, a non-compete clause that restrains the assessee from day to day management of the company, a clause requiring the assessee to hand over responsibilities to the purchaser including employee data base, customer support etc., and other relevant factors held that the agreement has all the attributes of a transfer of business. A relevant extract reads as follows: 16. Taking into consideration the entirety of facts and circumstances of the case and agreement entered into between the parties as referred to by us in the paras hereinabove, it is apparent that the transaction in question was in the nature of purchase of business by the incoming company. The transaction entered into between the assessee before us as shareholder of M/s. Excel Callnet (P) Ltd. and the managing director of M/s. Pugmarks Interweb (P) Ltd. was not merely for the transfer of shares of the company but was in fact transfer of management of the company to the purchaser with a rider of non-interference by the sellers who were the directors of the company. Reference is made to the art. 2.1 of the agreement dt. 26th March, 2005 wherein the seller i.e., the assessee before us was refrained from day to day management of the business from the date of the agreement. In addition, the seller i.e. the shareholders of the company were to hand over the employee database, products database, customer support, new client proposals in pipeline. other prospects and customer''s database, payment recovery and customer, management case, contract, verbal commitments, banking information, software/licences and any other property that was acquired under the tenure of the sellers working with the company. Because of the complexity of the handing over operation by the seller i.e. the shareholders of the company to the managing director of the new company. The parties entered into agreement on 26th March, 2005 and had completed the process on 24th July, 2005. If it was mere sale of the investment by way of shareholding by the assessee then the said exercise was not required. Even the sale consideration agreed upon between the parties including the consideration on account of non-compete covenant was paid in installment over a period of time. Further the transfer of shares in effect translated into renunciation of management by the seller directors in favour of the purchaser which is apparent from art. 5.1.1. of the agreement which enunciated the delivery of effective resignation in writing by the directors as part of the activities of the completion. The next point under consideration is the non-compete covenants agreed upon between the parties. As per art. 8 under which art. 8.4 clearly stated the seller agree not to engage in any call centre, business process outsourcing or IT enabled services business in the States of Chandigarh, Punjab, Haryana or Himachal Pradesh within a radius of 100 kms. from Chandigarh for a period of 2 years from the date of this agreement. Further non-compete covenants imposed as restriction upon the seller directors to directly or indirectly solicit a business that the company has done since its inception without prior written permission of the company. Under art. 8.10 there was renunciation of brand equity of the company by the seller will not take advantage of the brand equity of the company by using any names, logos, trademarks, partnerships, affiliations, names etc. As per para 8.11 the sellers cannot use domains that contain the word Excel and would not use or claim the domain name www.excel.netom. Article 9 of the agreement further refers to non solicitation of employees covenant whereby the seller will not directly or indirectly solicit, hire employee, induce or attempt to induce any present or future employee of the company or the purchaser.

In view thereof we are in agreement with the orders of the authorities below that the transaction in question was not mere transfer of capital asset within the meaning of s. 2(14) of the Act but was in fact transfer of business as it was the assessee who was prevented from doing business.

A perusal of ss. 2(14) and 28(va) of the Act including the Explanation to s. 2(14) relied by the appellant does not enable us to record an opinion contrary to the opinion recorded by the AO, affirmed by the CIT(A) and the Tribunal. The mere fact that the agreement contains a non-compete clause, payment in respect whereof may not be chargeable to tax in accordance with the aforesaid provisions, does not enable us to hold that the agreement between the assessee and the purchaser is anything other than a transfer of the business of the assessee. A cursory perusal of the agreement between the assessee and the purchaser leads to a singular conclusion that the agreement is not an innocent transfer of shareholdings that would place it within s. 2(14) of the Act r/w the Explanation but a transfer of the business with all pervasive control being entrusted to the purchaser to the complete and absolute exclusion of the seller whether as a shareholder or for its management and control. The findings recorded by authorities under the Act that transfer of shares, evidences, a transfer of business, in our considered opinion are based upon a correct factual interpretation or the clauses of the agreement. The impugned orders do not suffer from any error of law or give rise to any substantial question of law as would require interference. As a consequence, the appeal is dismissed with no order as to costs.