RELIANCE INDUSTRIAL INVESTMENT AND HOLDINGS LIMITED, MUMBAI V. DEPUTY COMMISSIONER OF INCOME TAX 3(3)(1), MUMBAI

ITA 1065/MUM/2022

AI Insights

The case revolves around the classification of certain financial instruments (ZOFCDs and FCDs) issued by Reliance Industrial Investment and Holdings Limited and their treatment under the Income-tax Act, 1961, specifically concerning the computation of book profit under section 115JB(2C). The PCIT had directed the AO to include the book value of these instruments as part of the 'transition amount' while computing the book profit, which the assessee contested. The Tribunal examined whether these instruments qualified as CFIs and whether their inclusion in the 'transition amount' was justified under the Act. After a detailed analysis, the Tribunal concluded that the instruments did not meet the criteria for CFIs and thus should not be included in the 'transition amount'.

• Counselvise Citation: [2023] 140 COUNSELVISE.COM (IT) 125929 (ITAT-MUMBAI)
• Duration Of Justice: 10 month(s) 16 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 28-03-2023
• Appeal Filed By: Assessee
• Order Result: Allowed
• Bench Allotted: D
• Next Hearing Date: 23-03-2023
• Assessment Year: 2017-2018
• Appeal Filed On: 12-05-2022
• Other Referred Cases: PCIT v. Ankit Metal & Power Ltd. [2019] 416 ITR 591
• Laws Referred To: Income-tax Act, 1961
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Keywords: Revision of order; Notional interest; Capital receipt
• Section: 131; 263; 143(3); 11A; 115JB; 250; 13

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL “D” BENCH, MUMBAI BEFORE SHRIAMIT SHUKLA, JM& SHRI S. RIFAUR RAHMAN, AM आयकरअपीलसं./ I.T.A. No.1065/Mum/2022 (निर्धारणवर्ा / Assessment Year: 2017-18) Reliance Industrial Investment and Holdings Limited. 9 th floor, Maker Chambers IV, 222Nariman Point, Mumbai-400 021 बिधम/ Vs. DCIT Cir – 3(3)(1), 6 th floor, Aayakar Bhavan, M. K. Road, Mumbai-400 020 स्थायीलेखासं./जीआइआरसं./PAN No.AAACR5053R (अपीलाथी/Appellant) : (प्रत्यथी / Respondent) अपीलाथीकीओरसे/ Appellant by : Shri Madhur Agrawal, Ld. AR प्रत्यथीकीओरसे/Respondentby : Shri Jayant Jhaveri, Ld. CIT- DR सुनवाईकीतारीख/ Date of Hearing : 30.11.2023 & 24.03.2023 घोषणाकीतारीख / Date of Pronouncement : 29.03.2023 आदेश / O R D E R Per Amit Shukla,Judicial Member: The aforesaid appeal has been filed by the Assessee against impugned order dated 17.03.2012, passed by Ld. Principal Commissioner of Income Tax, Mumbai-3 („PCIT/CIT‟) in his 2 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. revisionary u/s 263 of the Income-tax Act, 1961 („Act‟) for the AY 2017-18. 2. The core issue under appeal is whether, the instruments, viz., convertible debentures issued by the Assessee is required to be included in the „transition amount‟ u/s. 115JB (2C) of the Act while computing the book profit as directed by the PCIT vide its order under section 263. 3. The grounds of appeal raised by the Assessee against the order u/s 263 are reproduced as under: On the facts and in the circumstances of the case and in law, the CIT: “Validity of order: 1. erred in passing an order under section 263 of the Act directing the Assessing Officer („AO‟) to revise the assessment order dated 28th December 2019 passed under section 143(3) of the Act; 2. failed to appreciate that the order dated 28th December 2019 passed under section 143(3) of the Act is neither erroneous nor prejudicial to the interest of the revenue; 3. erred in directing the AO to make a fresh assessment applying the provisions of section 115JB(2C) of the Act correctly though said provisions are not applicable in respect of the Zero Coupon 3 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Unsecured Optionally Fully Convertible Debentures („ZOFCDs‟)/ Fully Convertible Unsecured Debentures („FCDs‟) Adjustment of „transition amount‟ under section 115JB(2C) 4. erred in holding that the amount of Rs. 15,824.47 crores being the book value of the ZOFCDs/ FCDs was required to be included in the „transition amount‟ under section 115JB(2C) and one-fifth of the same should be added to the book profit over a period of 5 years; 5. failed to appreciate that for an amount to be regarded as transition amount, it should have been „adjusted‟ in Other Equity on the convergence date and that the same would not cover the present case where the ZOFCDs and FCDs are merely reflected under the schedule of Other Equity but there has been no adjustment/ change in their value upon adoption of Ind AS; 6. failed to appreciate that the amount of Rs. 15,824.47 crores representing the book value of the ZOFCDs and FCDs is certainly not of a nature which will have a bearing on the profits of the appellant either in the impugned year or in any other year and hence cannot be considered as part of the transition amount in view of the Circular no. 2/2018 [F. No. 370142/15/2017- TPL] dated 15th February 2018; 7. erred in holding that the Zero Coupon Unsecured Optionally Fully Convertible Debentures of Rs. 5000 each aggregating to Rs. 441.57 crores („ZOFCDs‟) as well as the ZOFCDs of Rs. 10 each 4 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. aggregating to Rs. 15,103 crores and 0% Fully Convertible Unsecured Debentures of Rs. 100 each aggregating to Rs. 279.90 crores („FCDs‟) are mixed instruments having both, equity as well as debt component based on generic statements and understanding ignoring the correct classification of them being instruments entirely equity in nature as per the applicable Accounting standard; 8. failed to appreciate and ought to have held that the debentures in question did not satisfy the definition of „financial liability‟ as given in Ind AS 32 and that they were „instruments entirely equity in nature‟; 9. erred in concluding that all the above ZOFCDs/ FCDs aggregating to Rs. 15,824.47 crores were Compound Financial Instruments („CFIs‟), on the ground that the appellant had rightly admitted and noted the same in its Note 36.2 of Notes to financial statements of revised audited books of A.Y. 2017-18 dated 15.03.2019; 10. failed to appreciate that the disclosure of the subject debentures under the head „other equity‟, was in absence of GN at the time of finalization of original financial statements for FY 2016- 17, being the year of convergence and that the said Note was carried to the financial statements dated 15.03.2019 which were revised for the limited purpose of giving effect to the Scheme of Merger of various entities with the Appellant; 5 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 11. erred in rejecting the Independent Auditor‟s report dated 23rd April 2021, certifying that the instruments in question as „instruments entirely equity in nature‟ and also in rejecting the recasted financial statements signed by the Statutory Auditors, correcting the disclosure of the debentures in question under a specific head titled as „instruments entirely equity in nature‟ in the Balance Sheet, by holding that these are merely self-serving documents lacking the foundation of truth and they merely represent an after-thought; 12. erred in rejecting the appellant‟s reliance on the Guidance Note issued by the Institute of Chartered Accountants of India in July 2017 (para 8.2.17) in respect of instruments entirely equity in nature and the revised format for presentation of such instruments on the ground that it lacks genuineness and that terming the ZOFCDs/ FCDs as instruments purely equity in nature is misrepresentation of facts; 13. failed to appreciate that proposed additions are not within the spirit of the provisions of section 115JB(2C) as capital receipts can never be taxed as income and in any case, so called equity component of CFI is never tax deductible either under normal provisions or under section 115JB.” 4. After considering the entire gamut of facts, findings given in the impugned order as well as submissions made before us, it is seen that the main issue which is culled out from the order of Ld. 6 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. PCIT under section 263 of the Act reveals that the Ld. PCIT has arrived at the conclusion that all the financial instruments under consideration are „compound financial instruments‟ (herein after referred to as CFI) and therefore, the amount of Rs. 15,824.47 crores represented by these instruments is taxable as book profit under section 115JB(2C) of the Act. The action of the AO in not applying section 115JB(2C) of the Act to the “transition amount” has rendered the Assessment order erroneous in so far as it is prejudicial to the interest of the Revenue. Perusal of order under section 263 of the Act indicates that the Ld. PCIT has undertaken elaborate exercise on his own and accordingly, arrived at definitive view that the whole of amount of Rs. 15,824.47 crores is required to be included as „transition amount‟ for the purpose of computing the Book Profits of the Appellant for the subject Assessment Year. The Ld. PCIT thereafter had issued direction to the AO to apply the provisions of section 115JB(2C) of the Act and also to initiate appropriate penal proceedings. Keeping in view the nature of order, it is clear that the only issue which arises in the appeal is as to whether section 115JB(2C) of the Act applied to the amount of Rs. 7 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 15,824.47 crores represented by the instruments in question with PCIT already having arrived at the conclusion after making due inquiries and having concluded that section 115JB(2C) of the Act is applicable and addition of Rs. 15,824.47 crores is to be made. Thus, the order has become conclusive and binding on AO. Keeping in view the subject order and the nature of direction issued by the PCIT, the issue needs to be decided on merits at this stage itself. Therefore, we are disposing the appeal on merits as under. Brief Background 5. The assessee, had inter-alia, issued the following instruments, with an aggregate face value of Rs. 15824.47 crores, which are the subject matter of the present proceedings and were outstanding as on 31 March 2016: i) Zero-coupon Optionally Fully Convertible Debentures (“ZOFCDs”) aggregating to Rs 15,544.57 crores (comprising of Rs. 15,103 crores, issued during FY 2015-16; and Rs. 441.57crores issued on 30 June 1995); and ii) 0% Fully Convertible Debentures (“FCDs”) of Rs 279.90 crores, issued on 5 September 1996. 8 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 6. The details and issue of assessment of relevant instrument as on 1 st April 2016 are as under:- 9 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 7. All the above instruments were issued to M/s. Reliance Industries Limited, a subsidiary company. The aforesaid instruments were disclosed as a „liability‟ under the head “long term borrowings” in the financial statements up to the year ended 31.3.2016 in compliance with the accounting standards issued by the Institute of Chartered Accountants India [commonly known as Indian Generally Accepted Accounting Principles (“IGAAP”)] 8. The „Indian Accounting Standards‟ (Ind AS) became applicable to the Appellant Company from the FY 2016-17 as per the Companies (Indian Accounting Standards) Rules, 2015 (“Rules”). The Assessee, in the balance sheet for the year ending 31.3.2017, reflected the same under the schedule of „Other Equity‟ with the title 'Instrument Classified as Equity' in its audited financial statements. In this appeal, taxability of aforesaid instruments is in question, i.e. whether same is required to be included in the „transition amount‟ u/s. 115JB (2C) of the Act while computing the book profit? 10 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 8. Ld. PCIT in his order had made following observations while directing the AO to compute the income as to the additions u/s 115JB after applying the provision of section 2C correctly:- 5. After careful examination and analysis of the facts of the case, the law position and reply of the assessee company, the issue under consideration is decided as under: 5.1 On perusal of the entire submissions of assessee company, it is seen that the assessee company has at no point of time controverted or disputed the fact that, inter alia, 'equity component of compound financial instruments' forms 'other equity' which in turn becomes part of 'transition amount' within the meaning of provisions of Section 115JB(2C) of the IT Act. 5.2 The mainstay of assessee's entire argument in support of its contention as to why ZOFCD/FCD (shown in its books as on 31.03.2016) should not be included in 'transition amount' u/s 115JB(2C) is that, these instruments are not Compound financial instruments. In its submission, assessee has vehemently and repetitively argued that the said ZOFCD/FCD are the instruments, entirely equity in nature and for this reason, they cannot be treated as compound financial instruments and hence, there was no question of arriving at their 'equity component' (as they were not compound financial instrument in first place), for the purpose of computation of transition amount/book profit as per provisions of Sec 115JB (2C). 11 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 5.3 Before examining above claim of assessee, let us understand what is the meaning of the term Financial Instrument and Compound Financial Instrument. Under the earlier GAAP there were no guidance on Financial Instruments except for Accounting Standard 13 'Accounting for investments' and Accounting Standard 11 The Effects of Changes in Foreign Exchange Rates'. In order to comply with the Ind AS requirements, MCA notified following Ind AS to deal with accounting of Financial Instruments Ind AS 109 - Financial Instruments Ind AS 32 - Financial Instruments: Presentation Ind AS 107 - Financial Instruments: Disclosures The above Ind AS covers all the aspects of Financial Instruments and Compound Financial Instruments. Financial instruments is any contract that gives rise to a Financial Asset of one entity and a Financial liability or equity instrument of another entity. What are Compound Financial Instruments? Instruments which have features of both Financial Liability and Equity Instruments are called as "Compound Financial instruments". An example would be a bond or debenture that can be converted into shares, it doesn't matter whether the bondholders will ultimately opt for conversion. Thus, Bonds and debentures, which are purely debt instruments, get transformed into and assume the character of Compound 12 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Financial Instrument the moment the element of 'convertibility' gets attached to them. Hence, any optionally convertible bond and debenture wherein holder of the instrument has an option to convert (debt into equity), would essentially remain a Compound Financial Instrument irrespective of its classification and presentation in one's financial statements and any sort of clarification, disclaimer, revision, explanation etc in the notes to accounts that one may resort to. By whatever name called, Debt would remain debt instrument, equity would remain equity instrument and where there is an element of both debt and equity (such as in any Optionally Convertible instrument} it would remain a compound financial instrument. 5.4 in support of its contention that ZOFCDs are the instruments entirely equity in nature, assessee has mainly relied on • Ind AS 32 (especially Para 11, Para 16, Para 28 and Para 29) • Its classification and presentation of ZOFCD in revised financial for FY 2016-17 (after giving merger effect) at various places such as Note 11-Schedule of other equity- Instruments classified as equity', Change in other equity schedule and Note on Financial statements. • Absence of heading -Instruments entirely equity in nature, in the reporting format under Division II of Schedule 111 of the Companies Act 2013 : - reason for wrongly showing ZOFCDs under the head 'equity component of compound financial instrument 13 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. • Guidance Note issued by ICAI in July 2017- Para 8.2.17 in respect of instruments entirely equity in nature and the revised format providing for presentation of instruments entirely equity in nature, 5.5 Let us examine them one by one. 5.5.1 As mentioned by assessee itself in its submission, Paragraph 28 and 29 of Ind AS 32 provides guidance for determining whether a financial instrument is a "compound financial instrument". The same is extracted below: "28. The issuer of a non-derivative financial instrument shall evaluate the terms of the financial instrument to determine whether it contains both a liability and an equity component. Such components shall be classified separately as financial liabilities, financial assets, or equity instruments.. 29. An entity recognizes separately the components of a financial instrument that (a) creates a financial liability of the entity and (b) grants an option to the holder of the instrument to convert it into an equity instrument of the entity. For example, a bond or similar instrument convertible by the holder into a fixed number of ordinary shares of the entity is a compound financial instrument. From the perspective of the entity, such an instrument comprises two components: a financial liability (a contractual arrangement to deliver cash or another financial asset) and an equity instrument (a call option granting the holder the right, for a specified period of time, to convert it into a fixed 14 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. number of ordinary shares of the entity). The economic effect of issuing such an instrument is substantially the same as issuing simultaneously a debt instrument with an early settlement provision and warrants to purchase ordinary shares or issuing a debt instrument with detachable share purchase warrants. ( emphasis supplied ) In the present case, what is outstanding in the books of assessee company as on 31.03.2016 is ZOFCD / FCD, having terms as under: ZOFCDs of Rs. 441.57 crores- Zero Coupon Unsecured Optionally Fully Convertible Debentures of Rs. 5000 each aggregating to Rs. 441 57 lacs. Under this scheme the issuer and debenture holder has either option to convert debenture into equity or redeem at a premium of 5% of the face value of debenture. In the event of the option not being granted by the Company or debenture holders not exercising their option to convert, it may redeem the said Debentures in part or in full at any time during the tenure of the said Debentures but not later than 25 years commencing from the respective dates of allotment. Premium payable on Debentures redeemed during any financial year will become due at the end of the said financial year. As seen above, this is a mixed instrument having both equity as well as debt component and debenture holder has option to convert debt into equity. Therefore, the contention of the assessee that it is 15 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. an instrument entirely equity in the nature is not correct. It clearly falls under the category of Compound Financial Instruments. ZOFCDs of Rs. 15,103 crores : Zero Coupon Unsecured Optionaiiy Fully Convertible Debentures of Rs. 10 each aggregating to Rs. 15103 00 lacs Under this scheme the Issuer and the Debenture holder will have an option for early conversion at any time by giving one month notice. The conversion of the debentures will be based on higher of the book value or face value of equity shares as at March 31, 2015. The Company will redeem the outstanding debentures on expiry of 15 years from the respective date of allotments. The Company and the debenture holder may mutually agree for early redemption of the outstanding debentures on any date after expiry of 30 days from the respective date of allotments. In this case also the contention of the assessee that it is an instrument entirely equity in the nature is untenable. This clearly is a mixed instrument having both equity as well as debt component and debenture holder has option to convert debt into equity, it thus clearly falls under the category Compound Financial Instruments. FCDs of Rs, 279.90 crores : 0% Fully Convertible Unsecured Debentures of Rs. 100 each aggregating to Rs. 279.90 lacs Under this scheme the debentures are fully convertible into equity shares of the Company at any time after the expiry of 15 years but not later than 20 years from the respective date of 16 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. allotments, starting with 12.08.1996. The conversion of the debentures will be based on higher of the book value or face value of equity shares as at March 31, 2015.. In this case also the company enjoys the fund till allotment of equity shares i.e. for a long period of 15 years, This instrument too, like ZOFCDs above, has both equity and debl component and holder of the instrument has option to convert this debt into equity. Therefore, it cannot be classified as entirely in the nature of equity and it clearly falls under the category Compound Financial Instruments. Thus, it comes out emphatically that all the three instruments shown by the assesses company under the head ZOFCD / FCD amounting to Rs. 15824.47 crores were essentially OPTIONALLY FULLY CONVERTIBLE debt Instruments and hence were Compound Financial Instruments, as rightly admitted and noted by assessee company in its Note 36.2 of Notes to financial statements of revised audited books of A.Y. 2017-18 dated 15.03.2019. 5.5.2 Having arrived at this conclusion that these were Compound FinancialInstruments, the next logical question as regards applying provisionsof Sec 115JB(2C) would be, what is the quantum of the 'equity component'of these 'Compound Financial Instrument', which are outstanding in thebooks of assessee company as on convergence date. 17 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. The answer to this question has been given by the assessee company itself, not once but on multiple occasions and at several places in its Notes to accounts/ financial statements. As noted by assessee company in its Note 36.2 of Notes to financial statements of revised audited books of A.Y. 2017-18 dated 15.03.2019, the said ZOFCD/FCD of Rs. 15824.47 crores have been considered in entirety under the head of 'Other equity' and the same have been further qualified in Note I to Note 36.2 as under: 'Note I : All convertible issued by the company considered under other equity under the head Equity Component of Compound Financial Instruments' Thus, as per own admission and computation made by the assessee company, the said equity component of compound financial instruments in its books in the form of ZOFCD/FCD, has been arrived at Rs. 15824.47 crores. It is noteworthy that, though by its own admission, assessee has treated the entire ZOFCD and FCD amounting to 15824.47 Crores as the equity component of the said Compound Financial Instrument, it has conveniently omitted to add one fifth of the same to its book profit u/s 115JB(2C) of the IT Act. 5.5.3 As regards assessee's contention that it has had no option but to show it under the head 'equity component of compound financial instruments' due to absence of heading -instruments 18 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. entirely equity in nature, in the reporting format under Division II of Schedule III of the Companies Act 2013, it is stated that this appears to be an after-thought and contrived excuse. Had it been so, assessee could have given an explanatory note to this effect in its notes to accounts. But it has not done so. Nor has it explained as to what prevented it from adding any such clarificatory note in its notes to accounts. 5.5.4 Even the justification put forth in the form of Guidance Note issued by ICAI in July 2017- Para 8.2.17 in respect of instruments entirely equity in nature and the revised format providing for presentation of instruments entirely equity in nature, lacks genuineness as, had it been so, it would have made use of such revised format and incorporated it in its revised audit report and revised financial statements ( post amalgamation) dated 15 th Mar 2019 which has been prepared much after the release of said Guidance Note in July 2017. However the same has also not been done by the assessee. 5.5.5 The guidance note issued by !CAI in July 2017 has indeed provided such a classification, but it is applicable only to specific instruments which are purely of equity in nature such as compulsorily convertible debentures/ preference shares. As the name suggests, if the debentures are compulsorily convertible, there is no option with the holder of the instrument and hence it is to be treated as instruments entirely equity in nature. However, all the instruments under consideration in assessee's books are 19 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. optionally convertible and are therefore, compound financial instrument. To term them as instruments of purely equity in nature is nothing but misrepresentation of facts. Thus, the reliance of assessee company on Guidance Note issued by ICAI in July 2017, is misplaced and devoid of merit, 5.5.6 Even the recast/regrouped financials signed by the statutory auditor for FY 2016-17 and the independent auditor certificate confirming alternate manner of presentation, are merely self- serving documents lacking the foundation of truth and they merely represent an after-thought and excuse put forth to escape the lawful consequences under the provisions of IT Act. Hence, the same are rejected. 5.5.7 The contention of the assessee that the part of the ZOFCDs were redeemed during the year before 31.03.2017 is of no consequence since it does not have any bearing on calculation of amount of the transition amount as the adjustment is required to be made at the time of conversion to Ind AS i.e as on 1 st of April 2016. 5.6 In its submission, the assessee has made reference to CBDT Circular No. 24/2017 in support of its claim that the ZOFCD/FCD in its books are entirely equity in nature and hence were not includible in transition amount. However, suchreliance is misplaced as the said Q no 9 in CBDT's Circular No. 24/2017 dated 25/07/2017 has dealt with financial instruments such as Non convertible debentures and Interest free loan etc which are purely debt instruments which are indeed embedded part of any 20 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. compound financial instruments The question may not have specifically dealt instruments with nomenclature such as ZOFCD/FCD as in the case of assessee but claim of the assessee that the clarification given in the circular is not applicable to facts of this case, is misplaced. This is clear from the following paragraph. 5.7 As per CBDT's Circular(supra) items such as equity component of financial instruments -like Non-convertible Debenture, interest free loan (emphasis supplied) would be included in the transition amount. In the assessee's case the investments were zero coupon unsecured optionally fully convertible debentures (ZOFCD) . Zero coupon security by definition is a debt instrument which does not make interest payment. In other words, they are interest free and since the investments are "fully convertible", these debt instruments that can be converted into equity of the assessing company at a given time. Thus, this is an embedded put option that gives debenture/bond holders the right to convert into shares. The nomenclature 'Zero coupon'( the assessee had adopted itself), the clarification in CBDT Circular and the very fact that the auditors themselves have classified the instruments as both equity and debt instruments leave no room for doubts about the intrinsic nature of these instruments, which is "compound" i.e., having both equity and debt elements. The fact is that the assessee at its own sweet will tries to give colour to these instruments as when necessary, as per its convenience. For example, when it got hit by the section in another year, it filed a writ petition challenging the constitutional 21 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. validity of section 115JB(2C); which shows clearly that they had not classified these instruments in a manner suitable to them. So as an afterthought they tried to fit these instruments into such definition/classification so as to wriggle out of the ambit of the section 115JB(2C) as discussed above, undoubtedly and clearly these impugned instruments have both equity and debt (liability) components and are thus includible in the Transition Amount. 5.8 All over the world zero coupon bonds are debt instruments. As per definition debenture is a type of bond or other debt instruments which is the most common variety of bonds issued to the bond holders. Zero coupon bond simply means debt instruments payable at the end of a specific period without periodic interest paid to the debenture holder. Undoubtedly by definition and by nature these zero coupon fully optionally convertible debentures(ZOFCD) have both equity and debt components. Hence, 'compound' in nature. 5.9 These complexities as discussed above were never examined by the AOduring the assessment proceedings rendering the whole assessment order erroneous in so far as prejudicial to the interest of revenue in as much as it had failed to apply the provision of section 115JB(2C) 5.10 The assessee in last part of its reply has contended that the ZOFCDs are in the nature of capital and cannot be taxed under section 115JB. In this regard, it is important to note that Sec 115JB begins with 'non obstante' clause and it creates deeming fiction (of income) in relation to certain companies. Accordingly, the 22 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. computation under section 115JB is made as per certain adjustments provided in the section itself without going into the nature (as capital/revenue) of these specific items. Hence, the addition on account of transition amount is to be made as per the provisions of section 115JB((2C) of the Income-tax Act. Moreover, the case laws quoted by the assessee are not relevant to the issue under consideration as the provisions of section 115JB(2C) is effective from AY 2017-18 and the said case laws are distinguishable on facts. 5.11 In para 4 and 5 of the show cause notice, the provisions of the section 115JB(2C) have been discussed and it has also been explained as to how the amount of Rs. 15824.47 Crores was required to be included in the 'transition amount and how one fifth of the same should be added to book profit equally for over a period of 5 years. 9. Thus, in sum and substance, the findings and the order of Ld. PCIT can be summarized in the following manner:- i. Any optionally convertible bond or debenture, wherein holder of the instrument has an option to convert debt into equity would be a „Compound Financial Instrument‟ (CFI). 23 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. ii. As per the terms of the instruments, they have equity as well as debt component and the holder has an option to convert debt into equity, accordingly same are CFI iii. As per Note no 36.2 of the financial statements, assessee itself has categorized Zero coupon unsecured fully convertible debentures as Equity Component of CFI iv. The quantum of equity component, as per the Assessee‟s own admission, has been arrived at Rs. 15,824.47 crores (being entire value of the instruments in question). v. Equity component of CFI shall be considered as part of transition amount as per provisions of section 115JB(2C) of the Act. vi. The justification of the Appellant that it had no option but to show that ZOFCDs and FCDs as „equity component of compound financial instruments‟ under the heading of “Other Equity” lacks genuineness as before the revised financial statements were signed on 15.3.2019, the Guidance Note had already been issued by the ICAI. 24 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. vii. Guidance Note is applicable only to specific instruments such as compulsorily convertible debentures/preference shares. viii. The recasted/ regrouped financial statements and independent auditor‟s certificate are merely self-serving documents and hence, rejected. ix. Reliance placed by the Assessee on the CBDT Circular No. 24/2017 dated 25.07.2017 is misplaced as Q.No.9 which is relied upon by the assessee deals with financial instruments such as non convertible debenture, interest free loan etc are purely debt instruments and like the instrument issued by the assessee, equity component of CFI shall be treated as part of transition amount. x. Subsequent redemption of the instruments is of no consequence since it does not have any bearing on calculation of transition amount at the time of convergence to Ind AS. xi. Debenture is a type of bond or other debt instrument. All over the world, zero coupon bonds are debt instrument. Hence, 25 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. the instruments issued by the Assessee have both equity and debt components. xii. Accordingly, the AO was directed to make fresh assessment applying the provisions of Section 115JB(2C) correctly. 10. The contentions of the Assessee before us and also before the Ld. PCIT were as under:- i) The financial statements of the Appellant for the FY 2016-17 signed on 18.04.2017 were prepared for the first time as per the provisions of Ind AS. ii) During the year under consideration, various companies merged with the Appellant company, vide order of National Company Law Tribunal dated 2 nd November 2017, sanctioning scheme of merger with an appointed date of 1 st October 2016. Accordingly, to give effect to the scheme of merger, on 15.3.2019, the appellant revised the financial statements. iii) Thereafter, to give effect to the „Guidance Note on Division II – Ind AS Schedule III to the Companies Act, 2013‟ issued in July 2017 by the Institute of Chartered Accountants of India („ICAI‟) (hereinafter referred to as „the Guidance Note‟), the Appellant 26 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. recasted/ regrouped financial statements for FY 2016-17 on 28 th July, 2021, which were also audited by the statutory auditors. iv) The Appellant has made following classification and presentation of ZOFCDs and FCDs in original, revised (after giving merger effect) and recasted/ regrouped financial statements for FY 2016-17: Sr. No. Heading Presentation Reference 1. Main Head Other Equity Original Financials Other Equity Revised Financials Instruments entirely Equity in nature Recasted/ regrouped Financials 2. Sub-head Note 11 - Instrument classified as Equity Original Financials Note 11 - Instrument classified as Equity Revised Financials Note 11A - Instruments entirely Equity in nature Recasted/ regrouped Financials 3. Reconciliation of Profit and other equity between Ind AS and previous GAAP Foot note I to Note 36.2 - „all convertible issued by the Company considered under other equity under the head Equity component of compound financial instrument‟ Original Financials Foot note I to Note 36.2 Revised Financials 27 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. - „all convertible issued by the Company considered under other equity under the head Equity component of compound financial instrument‟ Foot note I to Note 36.2 - „all convertible instruments issued by the Company are in the nature of Instruments entirely equity in nature‟ Recasted/ regrouped Financials The above classification and presentation of ZOFCDs and FCDs were made as a result of adoption of Ind AS by the Assessee in FY 2016-17. 11. To understand the issue in hand, it is relevant to note that „Ind AS 32‟ is the relevant accounting standard setting out the principles of recognition and presentation of financial instruments. It classifies a financial instrument into 'financial liability', 'equity instrument' and „financial asset‟. An instrument which has both, the component of financial liability and equity, is termed as a 'compound financial instrument' [“CFI”]. As per the principles of „Ind AS 32‟, since the ZOFCDs and FCDs did not have any „financial 28 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. liability‟ component, it was regarded as equity instruments and, hence, the same were treated by the Assessee as 'instruments classified as equity'. 12. In addition to the compliance with Ind AS, companies had to present its Balance-sheet as per the format prescribed in Division II of Schedule III of the Companies Act, 2013. The format of Balance Sheet, for Ind As compliant companies, is bifurcated into „Assets‟ and „Equity and Liabilities‟. 13. Under the caption „Equity‟, it provides for two types of equity, i.e., (i) equity share capital; and (ii) other equity. The constituents of the Schedule of 'other equity' are as follows: a) Share application money pending allotment; b) Equity component of compound financial instruments; c) Reserve and surplus; d) Debt instrument through other comprehensive income; e) Equity instrument through other comprehensive income; f) Effective portion of Cash Flow Hedges; g) Revaluation Surplus; h) Exchange differences on translating the financial statements of a foreign operation; 29 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. i) Other items of Other Comprehensive Income (specify nature); and j) Money received against share warrants. 14. As per the provisions of section 115JB(2C) of the Act, which provides that the “book profit” of the year of convergence (being first year of adoption of „Ind AS)‟ shall be further increased/ decreased (as the case maybe) by 1/5 th of the transition amount for 5 assessment years, the term “transition amount” is defined as aggregate of the amounts adjusted in the “other equity” on the convergence date, with certain exceptions. 15. The questions raised before us in respect of the Grounds of Appeal can be summarized in the following way:- (i) Merely because the presentation of the Debentures (ZOFCDs and FCDs in question) is different under Ind-AS vis-à-vis that under IGAAP, whether taxing the said Debentures in the garb of „transition amount‟ would amount to taxing an item of capital nature not chargeable to tax u/s. 2(24) of the Act? (ii) Whether based on the terms of the instruments and provisions of Ind-AS 32, can the instruments under question be regarded as Compound Financial Instruments („CFI‟)? 30 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. (iii) If answer to above is Yes, then what would be the equity component of the CFI? (iv) Mere presentation of the instruments that are entirely equity in nature under the head „Other Equity‟ will form part of transition amount for the purpose of section 115JB(2C) of the Act? 16. One of the first submissions of the Ld. Counsel of the Assessee in respect of the above questions put forth before the Tribunal are as under: (i). Whether capital receipts can be taxed merely because of change of presentation of Debentures in the financial statements on account of adoption of Ind-AS? 17. Ld. Counsel submitted that by taxing the outstanding amount of ZOFCDs and FCDs, which is akin to principal amount of loan borrowed or amount of share capital itself, both of which are purely capital in nature, the Department has brought to tax an item which is not chargeable to tax u/s. 2(24) of the Act. This is impermissible. 18. He submitted that, when receipt is not in the character of “INCOME” as defined under section 2(24) of the Act, it cannot be included in the computation of book profit for the purpose of section 115JB of the Act. The issue of taxing the capital receipt has been dealt by the Calcutta High Court in case of PCIT v. Ankit 31 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Metal & Power Ltd. [2019] 416 ITR 591 wherein it was held that the subsidy granted by State Government for setting up new industry in the State, being non-taxable capital receipt, cannot form part of the book profits u/s.115JB of the Act as it does not fall within the definition of “income” u/s.2(24) of the Act. 19. Inaddition to above, the CBDT Circular No 24/2017, itself has excluded certain items which are capital in nature and which, on a strict interpretation, clearly falls within the definition of „transition amount‟. Two answers given in this circular are important to indicate the real scope of the section: “Question 7: Under Section 115 JB of the Act, transition amount has been defined as the amount or the aggregate of the amounts adjusted in the „Other Equity‟ (excluding capital reserve and securities premium reserve) on the convergence date. Whether changes in share application money on reclassification to „Other Equity‟ would form part of the Transition Amount? Answer: Share application money pending allotment which is reclassified to Other Equity on transition date shall not be considered for the purpose of computing transition Amount. ........... Question 9: How do we account for items such as equity component, if any, of financial instruments like Non-Convertible 32 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. debentures (NCDs), Interest free loan etc. included in other equity as per Ind AS for the computation of transition amount under MAT? Answer: Items such as equity component of financial instruments like NCD‟s, Interest free loan etc. would be included in the Transition Amount.” 20. Thus, it was submitted that clarifications given in the aforesaid circular itself shows that the „transition amount‟ should not include an item which is of capital in nature which has been merely „reclassified‟ to „other equity‟ on transition date. 21. Rationale of taxing an equity component of CFI is to neutralize excess deduction that will take place in the subsequent years in respect of notional interest on liability component that will be debited to profit and loss account. Since the instruments in question do not have a „liability component‟, there cannot be any charge to profit and loss account towards notional interest thereon. 22. In view of the foregoing facts and legal position, ld. Counsel for the Assessee submitted that the amount of Rs. 15,824.47 Crores does not form part of the „transition amount‟ as envisaged under section 115JB(2C) of the Act and thus 1/5th of the same should not be added to the book profit under section 115JB of the Act. 33 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 23. He submitted that, since the classification of ZOFCDs and FCDs as „Instruments entirely equity in nature‟ was duly carried out as per the requirements of the Companies Act and the Financial Statements were duly audited as required by the Companies Act as stated above, the tax authorities do not have the jurisdiction to question the classification of the said instruments in the said Financial Statements. For this connection, reliance was placed on the ratio of the decision of Hon‟ble Supreme Court in the case of Apollo Tyres Ltd. v. CIT (255 ITR 273) (2002). 24. Now we have to examine without prejudice, whether the instruments (ZOFCDs and FCDs) in question are CFI or not. At this juncture, the relevant provision of Ind-AS is required to be examined for classification of the instrument as a CFI. (i) Ind AS 32 provides for presentation of financial instruments as “equity instruments”, “financial asset” or as “financial liability”. Para 28 dealing with CFI states as under: “The issuer of a non-derivative financial instrument shall evaluate the terms of the financial instrument to determine whether it contains both a liability and an equity component. Such 34 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. components shall be classified separately as financial liabilities, financial assets or equity instruments in accordance with paragraph 15.” (ii) Para 29 of Ind AS 32 states that an entity recognises separately the components of a financial instrument that - (a) creates a financial liability of the entity and (b) grants an option only to the holder of the instrument to convert it into an equity instrument of the entity. For example, a bond or similar instrument convertible by the holder into a fixed number of ordinary shares of the entity is a compound financial instrument. From the perspective of the entity, such an instrument comprises two components: a financial liability (a contractual arrangement to deliver cash or another financial asset) and an equity instrument (a call option granting the holder the right, for a specified period of time, to convert it into a fixed number of ordinary shares of the entity). (iii) Para 15 of the said Ind AS states that the issuer of a financial instrument shall classify the instrument, or its component parts, on its initial recognition as a financial liability, a financial asset or an 35 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. equity instrument in accordance with the substance of the contractual arrangement and the definitions of financial liability, financial asset and equity instrument contained therein. (iv) Para 30 of Ind AS 32 provides that Classification of the liability and equity components of a convertible instrument is not revised as a result of any change in likelihood of conversion subsequently. Para 11 of Ind AS 32 contains the definition of the term “equity instruments” and “financial liability”. The same are reproduced as under: “An equity instrument is any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities.” Financial liability is defined as “any liability that is: (a) a contractual obligation: i) to deliver cash or another financial asset to another entity; or ii) to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the entity; or 36 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. (b) a contract that will or may be settled in the entity‟s own equity instruments and is: i) a non-derivative for which the entity is or may be obliged to deliver a variable number of the entity‟s own equity instruments; or ii) a derivative that will or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of the entity‟s own equity instruments. For this purpose, rights, options, or warrants to acquire a fixed number of the entity‟s own equity instruments for a fixed amount of any currency are equity instruments if the entity offers the rights, options, or warrants pro rata to all its existing owners of the same class of its own non-derivative equity instruments.” 25. It is seen from the above, to classify a financial instrument as a „compound financial instrument‟, dual conditions are required to be fulfilled, namely – a) there is creation of financial liability; and b) option for conversion is granted only to the holder. 26. We had called from the terms of ZOFCDs and FCDs. The terms of the ZOFCDs and FCDs in question as on the convergence date 37 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. are required to be examined in order to evaluate, whether these instruments are CFI in light of the above provisions of Ind-AS 32. These were as follows:- i. The instruments are for a fixed term; ii. The instruments do not carry any interest; iii. The instruments are convertible into fixed number of equity shares of Rs. 10 each of the Assessee, i.e., the Issuer (conversion rate is higher of face value or the book value as on 31 st March 2015); iv. The instruments can be converted at any time before the expiry of the term, either at a unilateral option of the Issuer or at the option of the holder of the Instrument, i.e., the Investor; v. The Issuer and the Investor may mutually agree for early redemption of the unconverted portion of the instruments, after expiry of 30 days from the date of allotment; vi. Since the instrument do not carry any interest, the Issuer has not made any interest payments. 38 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 27. The criterion to be considered by the Issuer for determining the classification of the instruments as „financial liability‟ at the time of their initial recognition is as below: i. Whether there is any contractual obligation to pay cash to the Investor?  As is seen from the above terms of the instruments, since the option to convert the instrument into equity, is not only available with the Investor but is also available with the Assessee Issuer, there is no obligation to pay cash by the Issuer to the Investor since the issuer can unconditionally avoid delivery of cash by converting into equity shares.  Further the condition for early redemption is only if the issuer and investor, both, agree for the same. Therefore, as the holder of the instrument does not have an unconditional right to call for redemption of investment, the issuer (Assessee) does not have an obligation to pay cash to the investor.  The fact that the parties may, at a subsequent point of time, mutually agree for redemption, does not make it the obligation 39 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. of the Assessee to pay cash as on the date when the instrument is issued or as on the date of convergence.  To determine the classification of the instrument for the purpose of transition to Ind AS, one has to see the position as on the date when Ind AS became applicable and not at the subsequent point of time.  Para 19 of Ind AS 32 explains the meaning of “no contractual obligation to deliver cash” as “if an entity does not have an unconditional right to avoid delivering cash or another financial asset to settle a contractual obligation, the obligation meets the definition of a financial liability.” From this it is clear that if the issuer has an unconditional right to avoid delivering cash, it cannot be classified as a financial liability. In the facts of the case of the Assessee, basis the terms of the Instruments, the issuer (Assessee) has an unconditional right to avoid payment of cash.Hence, this condition is resulting into negative for „financial liability‟. ii. Whether the instruments are convertible into variable number of equity shares? 40 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited.  As stated above, the instruments are convertible into fixed number of equity shares. Hence, this condition is also resulting into negative for „financial liability‟.  Thus, both the conditions required to classify a financial instrument as a financial liability are not fulfilled in the case of the instruments issued by the Appellant.  If a financial instrument has components of both „financial liability‟ and „equity‟, it would be regarded as a CFI as per para 28 and 29 of Ind AS 32. On the basis of the above fact pattern, the instruments issued by the Assessee, do not have any component of „financial liability‟. Hence, they cannot be regarded as CFI. 28. Paragraph 16 of Ind AS 32 which provides that a financial instrument is an equity instrument rather than a financial liability on fulfillment of certain conditions. Relevant extract is given below: “When an issuer applies the definitions in paragraph 11 to determine whether a financial instrument is an equity instrument rather than a financial liability, the instrument is an equity instrument if, and only if, both conditions (a) and (b) below are met. 41 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. (a) The instrument includes no contractual obligation: i. to deliver cash or another financial asset to another entity; or ii. to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the issuer. (b) If the instrument will or may be settled in the issuer‟s own equity instruments, it is: i. a non-derivative that includes no contractual obligation for the issuer to deliver a variable number of its own equity instruments; or ii. a derivative that will be settled only by the issuer exchanging a fixed amount of cash or another financial asset for a fixed number of its own equity instruments. 29. From the above, it is seen that there are two primary conditions to be satisfied to fall within the category of „Equity Instrument‟, they are – a) There is no obligation on the issuer to deliver cash or financial asset; and 42 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. b) The settlement will or may be in the fixed number of the issuer‟s own equity instruments. Both the above conditions are examined in the forgoing paras, which were negative for „financial liability‟ but positive for an „equity instrument‟. Hence, it was submitted that the instruments in question are nothing but „instruments entirely equity in nature‟. 30. Given the above submissions, the Ld. Counsel of the Assessee submitted that the ZOFCDs and FCDs cannot be classified as CFI as the same do not have a „liability‟ component, failing the dual condition to be classified as CFI, i.e., creation of financial liability and option for conversion is granted to the holder, based on the below criterion:  There is no obligation to pay cash by the Issuer to the Investor since the issuer can unconditionally avoid delivery of cash by converting into equity shares;  The instruments are convertible into fixed number of equity shares. 31. The Ld. Counsel before us further submitted that the accounting treatment of CFI is different than the instruments which 43 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. are entirely equity in nature. In case of a CFI, the relevant interest expenditure is required to be debited to the profit and loss account on the basis of the market rate of interest (and not the rate of interest at which the instrument is issued, i.e., coupon rate). In case of the Assessee, as there is no financial liability on account of the issue of the instrument, there is no debit of any interest expenditure in profit and loss account as is evident from the audited financial statements. This also shows that the instrument is not CFI and the example 9 to Ind AS 32 supports the same. (iv). Whether mere presentation of instruments which are instruments entirely equity in nature under the head „Other Equity‟ will form part of transition amount? 32. As per section 115JB(2C) of the Act, for the purpose of companies complying with Ind AS, the book profit in the year of convergence to Ind AS (i.e. FY 2016-17 in the instant case) and each of the following 4 previous years shall be increased or decreased by 1/5th of the 'transition amount'. 33. Instrument classified as equity does not come within any of the sub-categories of schedule 'Other Equity', as provided in 44 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Division II Schedule-III of the Companies Act, 2013. Only those sub-categories which are mentioned in Division II would form part of „Other Equity‟. Explanation (iii) to section 115JB(2C) of the Act defines „transition amount‟ as the amounts adjusted in the „Other Equity‟. Hence, as per a strict interpretation of section 115JB(2C) read with Companies Act, the „instrument entirely equity in nature‟ does not come within the ambit of „Other Equity‟ and, hence, cannot be treated as part of „transition amount‟. 34. It has been pointed out that from the perusal of the CBDT circular no.2/2018 [F.N0.370142/15/2017- TPL] dated 15th February 2018, it is clear that what is intended to be included in the term 'transition amount' is only adjustments which would otherwise have impact in the profitability of the assessee but on account of adoption of IND AS, the same are adjusted in “Other Equity” schedule and not Profit and Loss account. A transaction not having a bearing on Profit and Loss account was never intended to be covered by the amendment. 35. The Assessee company has presented the instruments in question under 'other equity' as there was no guidance at the time 45 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. of finalisation of the annual accounts, in April 2017, as to under which head would it be appropriate to show the 'instruments which are entirely equity in nature'. Meanwhile, the Institute of Chartered Accountants of India („ICAI‟) issued a „Guidance Note on Division II – Ind AS Schedule III to the Companies Act, 2013‟ in July 2017 to provide guidance for the preparation of financial statements in accordance with Ind AS. The said guidance note inter-alia provides that the instruments which are classified as „instruments entirely equity in nature' as per IND AS 32 and do not come within the schedule of 'equity share capital', can be presented in the balance- sheet, separate from schedule of 'equity share capital' and 'Other Equity', under a separate category titled 'Instrument entirely equity in nature' as shown below. 36. To give effect to the Guidance Note for 'Instruments entirely equity in nature', the Assessee re-casted/ regrouped financial statements, which were also audited by the statutory auditors. 46 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 37. Since the Assessee‟s financial statements were signed on 18.04.2017, in the absence of availability of Guidance Note at that time, the Assessee had no option but to show it under the head of „Other Equity‟ and under the said head, it was shown as „Instrument classified as Equity‟ Therefore, by virtue of such presentation and due to lack of guidance as to its presentation, these ZOFCDs and FCDs which are instruments entirely equity in nature, cannot form part of transition amount for the purpose of section 115JB(2C) of the Act. Contention Of the Revenue 38. The ld. CIT DR vide its rejoinder argued that the Assessee in Note 36.2 of the revised audited financial statements of AY 2017-18, had shown the equity component of CFI as Rs. 15824,47,15,000/. However, the assessee did not include 1/5th of the said amount in the book profit as transition amount under section 115JB(2C) of the Act. 39. On the analysis of the terms of the instrument, the Ld. DR submitted that the Assessee had paid interest on the debentures in the past and subsequently on its redemption, cash was paid 47 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. towards principal repayment, interest representing discount on debentures and premium paid on such debentures. Therefore, it was under contractual obligation to deliver cash. 40. The DR also argued that the terms and conditions of the instruments were revised on 05.10.2021 and made effective from 01.04.2016/ 01.04.2015 41. Another argument of the DR was that the financial statements signed on 18.04.2017 were revised to give effect to the scheme of merger and subsequently re-casted by the assessee company voluntarily. These voluntary re-casted financial cannot be relied upon since the provision of the section 131 of the Company's Act, 2013 is applicable to the assessee company and no approval from the Tribunal is obtained for revision and recasting of the financial. 42. The DR further argued that the conditions of para 16 of Ind AS 32 has not been fulfilled, i.e., the instrument can‟t be considered as equity instruments as neither the assessee company nor the debenture holder exercised the option of conversion of such debentures into equity shares of the assessee company. Moreover, here in this case all the debentures has been redeemed, which goes 48 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. to show that in substance it was never meant to be converted into equity. On these facts alone, it can be held that it is not an equity instrument. 43. Accordingly, the instruments being Compound Financial Instrument, Equity component of Compound Financial Instrument, i. e. Rs. 15824,47,15,000/- was to be included in the 'Transition amount' on convergence date and 1/ 5th of the transition amount was to be included in the Book Profit u/ s 115JB(2C) of the IT Act. He also referred to various observations of Ld. PCIT and heavily relied upon the same and submitted that he has clearly culled out how these ZFOCs are nothing but financial liability in the form of CFI falling within the definition of „transition amount‟. 44. The Assessee had filed a rejoinder before the Tribunal rebutting to the arguments of the DR which are as follows: 45. The Assessee in its original and revised audited financial statements had presented the said instruments under the schedule of „Other equity‟ with the title 'Instrument classified as Equity'. However, only in note no. 36.2 of notes to the accounts, relating to reconciliation of profit and other equity between IND AS and 49 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. previous GAAP, it has been mistakenly and inadvertently mentioned that “all convertibles issued by the company considered under the „other equity‟ under the head Equity component of Compound Financial Instruments”. 46. As explained above, the financial statements of the Assessee were recasted/ regrouped pursuant to Guidance note issued by the ICAI to make a correct disclosure in the balance sheet for the instruments that are entirely equity in nature separate from schedule of 'equity share capital' and 'Other Equity', under a separate category titled 'Instrument entirely equity in nature'. 47. Hence, the allegation of the Revenue that the Assessee has itself classified the instruments as Compound Financial Instrument („CFI‟) is patently incorrect and contrary to the records. The reference in note no. 36.2 was an inadvertent error as admitted by the Assessee and, in any case, the aforesaid footnote could not change the fact that the Assessee had classified the instruments in question as „Equity‟ and not as „CFI‟, in its financial statements, which were also audited by the statutory auditors and that such 50 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. audited annual accounts had also been adopted by the shareholders. 48. In view of the above, the submissions made by the DR that the Assessee had presented the instruments as CFI and hence shall be included in the transition amount as per section 115JB(2C) of the Act is factually not correct. 49. In addition to above, the Assessee also obtained an Independent Auditor‟s certificate, confirming that as per the terms of the Instruments in question, they have been rightly treated as in the nature of „instruments entirely equity in nature‟. The Independent Auditor also confirmed the alternate manner of presentation by the Assessee and stated that the same is in conformity with Guidance note issued by ICAI. 50. Further, the fact that the Assessee has not classified the instruments as CFI in the financial statements is evidenced by the very fact that the accounting treatment required to be given to instruments which are CFI as given in Example 9 of Ind As 32 has not been given by the Assessee. 51 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 51. The conclusion drawn by the Ld. DR on the analysis of the terms of the instruments are incorrect as it has been drawn on the basis of the historical terms and conditions of the aforesaid instruments at the time of their issue, subsequent to which the terms and conditions had been changed and as on the convergence date i.e. 1 st April, 2016, the rate of interest was 0% which was relevant for the purpose of classification of the said instrument. One has to see whether there is any contractual obligation to deliver cash in future and not basis past terms which are no longer valid. Accordingly, as on 01.04.2016, the Appellant had no contractual obligation to pay interest in respect of these instruments. Further, the observation of the Ld. DR that the interest represents discount, is factually incorrect since in the case of Appellant, the instruments were issued at par and were never issued at discount. 52. Moreover, the instruments redeemed during the year also included fresh debentures which were issued during the year in support of which a reconciliation of the amounts with the financial statements was submitted during the course of hearing. The ZOFCDs were redeemed at face value, hence there was no payment 52 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. of premium on redemption. Accordingly, there was neither any element of interest/ interest representing discount, nor any premium paid on redemption. 53. With regard to the contractual obligation to deliver cash in the form of principal/ premium, Ld. Counsel reiterated his submission that: a. since the option to convert the instrument into equity, is not only available with the Investor but is also available with the Assessee, there is no obligation to pay cash by the Issuer to the Investor since the issuer can unconditionally avoid delivery of cash by converting into equity shares; b. the condition for early redemption is only if the issuer and investor, both, agree for the same; c. as the holder of the instrument does not have an unconditional right to call for redemption of investment, the issuer (Assessee) does not have an obligation to pay cash to the investor; d. Consequently, the issuer (Assessee) has an unconditional right to avoid payment of cash. 53 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. e. Further, it is not in dispute that the settlement will or may be in the issuer‟s own equity instruments in a fixed number as per the terms and conditions of the instruments. Since both the conditions laid down as per Para 16 of Ind-AS 32 are satisfied cumulatively, the instruments in question are nothing but „instruments entirely equity in nature‟. f. The terms of the instrument were not modified on 05.10.2021 and made effective from 01.04.2016/ 01.04.2015. The terms were modified by passing board resolution at the meeting held on 14- 01-2016 and extracted copy of resolution was certified as „true copy‟ by the Company Secretary on 05-10-2021. g. Section 131 of the Companies Act is applied only when provisions of Section 129 or 134 of the Companies Act are not complied with. In the assessee‟s case, it is nobody‟ case that the financial statements do not comply with the provisions of section 129 or 134 of the Companies Act, 2013. The revised financial statements signed on 28-07-2021 were only for the limited purpose of indicating the alternate presentation of the same financial statements as per the Guidance note issued by the ICAI and to 54 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. make the point for the PCIT/AO to understand in the Income Tax proceedings. D E C I S I O N 54. We have heard both the parties, perused the relevant findings given in the impugned orders as well as documents and material referred to before us. The observations and findings of Ld. PCIT in the impugned order passed u/s 263 have already been discussed in detail in the foregoing paragraphs. The findings and reasoning of Ld. PCIT has to be tested, whether the assessment order passed by the AO accepting the computation of book profit is erroneous in so far as prejudicial to the interest of revenue. If both the conditions are satisfied, then Ld. PCIT‟s order setting aside the assessment order will stand. However, if the reasoning itself does not lead to conclusion that no adjustment of the book profit can be made u/s 115JB on facts and in law, then setting aside the assessment order may not be required as it will be neither erroneous nor prejudicial to the interest of revenue. Ld. PCIT has to point out not only there is an error in the assessment order but also it is prejudicial to the interest of revenue. Thus, the issue of applicability of section 55 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 115JB(2C) while computing the book profit needs to be examined on merits, because Ld. PCIT has arrived at the conclusion that assessee should have made adjustment on account of transition amount in section 115JB(2C). 55. The relevant provisions of sub-section (2C) read with explanation are as under:- Special provision for payment of tax by certain companies. 115JB. (1) Notwithstanding anything contained in any other provision of this Act, where in the case of an assessee, being a company, the income-tax, payable on the total income as computed under this Act in respect of any previous year relevant to the assessment year commencing on or after the 1st day of April, 2012, is less than eighteen and one-half per cent of its book profit, such book profit shall be deemed to be the total income of the assessee and the tax payable by the assessee on such total income shall be the amount of income-tax at the rate of eighteen and one-half per cent: ............. (2A) For a company whose financial statements are drawn up in compliance to the Indian Accounting Standards specified in Annexure to the Companies (Indian Accounting Standards) Rules, 2015, the book profit as computed in accordance with Explanation 1 to sub-section (2) shall be further— 56 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. ........... (2C) For a company referred to in sub-section (2A), the book profit of the year of convergence and each of the following four previous years, shall be further increased or decreased, as the case may be, by one-fifth of the transition amount: Provided that the book profit of the previous year in which the asset or investment referred to in sub-clauses (B) to (E) of clause (iii) of the Explanation is retired, disposed, realised or otherwise transferred, shall be increased or decreased, as the case may be, by the amount or the aggregate of the amounts referred to in the said sub-clauses relatable to such asset or investment: Provided further that the book profit of the previous year in which the foreign operation referred to in sub-clause (F) of clause (iii) of the Explanation is disposed or otherwise transferred, shall be increased or decreased, as the case may be, by the amount or the aggregate of the amounts referred to in the said sub-clause relatable to such foreign operations. Explanation.—For the purposes of this sub-section, the expression— (i) "year of convergence" means the previous year within which the convergence date falls; (ii) "convergence date" means the first day of the first Indian Accounting Standards reporting period as defined in the Indian Accounting Standards 101; 57 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. (iii) "transition amount" means the amount or the aggregate of the amounts adjusted in the other equity (excluding capital reserve and securities premium reserve) on the convergence date but not including the following:— (A) amount or aggregate of the amounts adjusted in the other comprehensive income on the convergence date which shall be subsequently re-classified to the profit or loss; (B) revaluation surplus for assets in accordance with the Indian Accounting Standards 16 and Indian Accounting Standards 38 adjusted on the convergence date; (C) gains or losses from investments in equity instruments designated at fair value through other comprehensive income in accordance with the Indian Accounting Standards 109 adjusted on the convergence date; (D) adjustments relating to items of property, plant and equipment and intangible assets recorded at fair value as deemed cost in accordance with paragraphs D5 and D7 of the Indian Accounting Standards 101 on the convergence date; (E) adjustments relating to investments in subsidiaries, joint ventures and associates recorded at fair value as deemed cost in accordance with paragraph D15 of the Indian Accounting Standards 101 on the convergence date; and 58 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. (F) adjustments relating to cumulative translation differences of a foreign operation in accordance with paragraph D13 of the Indian Accounting Standards 101 on the convergence date. 56. Ergo, a company whose financial statements are to be drawn in compliance to the Indian Accounting Standards specified in Annexure to the Companies (Indian Accounting Standards) Rules, 2015, the book profit of the year convergence, which means the first day of Indian Accounting Standards reporting period as defined in IAS 101, for each of the following four previous years, shall be further increased or decreased by one-fifth of the „transition amount‟. The „transition amount‟ has been defined as the amounts adjusted in the other equity (excluding capital reserve and securities premium reserve) on the convergence date. Certain exclusions for the „transition amount‟ have also been elaborated from clauses (A) to (F). Thus, the „transition amount‟ by its nomenclature presupposes that due to transition, certain items which otherwise would have impacted profit and loss account either not do or would do in such a manner so as to distort the book profits merely due to transition from one Accounting Standard to other, i.e., India GAAP to IAS. 59 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 57. The issue now which needs to be decided here is, whether the aggregate amount of the instruments issued by the assesseecompany falls under the ambit of „transition amount‟ as defined in section 115JB(2C); and if answer is „Yes‟, then one-fifth of the same would be taxable for the year under consideration, if „Not‟, then no adjustment is required to be made. 58. As on 31 st March 2016, the assessee had outstanding Zero Coupon Unsecured Optionally Fully Convertible Debentures amounting to Rs 15,544.57 Crores (Rs. 15,103 crores plus Rs. 441.57 crores) and Zero Coupon Unsecured Fully Convertible Debentures of Rs 279.90 crores totaling to Rs 15,824.47 crores issued to RIL - its holding company. (Hereinafter collectively referred to as Convertible Debentures), raised earlier and the same were disclosed as "long-term borrowings" in the audited financial statements as on 31-3-2016 as per the requirements of Indian GAAP. 59. Since „Ind AS‟ had become applicable to the assessee company with effect from financial year 2016-17, it made a transition to Ind AS. Accordingly, it prepared and presented its financial statements 60 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. from the financial year ending 31" March 2017 under Ind AS. Due to the requirement of presenting the comparative information for the previous financial reporting period commencing from 1" April 2015, as per Ind AS 101; first time adoption of Indian Accounting Standards, the assessee prepared its first Ind AS Balance Sheet as on 1 st April 2015. As per the requirement of Ind AS 101, for preparing this first Ind AS Balance Sheet, assessee reclassified items that it recognized in accordance with Indian GAAP as one type of asset, liability, or component of equity, as a different type of asset, liability, or component of equity in accordance with various applicable Ind ASs. 60. To comply with this requirement, assessee applied the requirements of Ind AS 32. Accordingly, it re-classified the Convertible Debentures of Rs. 15,824.47 crores, (which were presented as on 31 st March 2016 in Indian GAAP balance sheet as "Long term borrowings") as equity instrument in its first Ind AS balance sheet and presented them as "Instruments entirely Equity in nature". These Convertible Debentures were not reclassified as 61 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Compound Financial Instrument (another category covered under Ind AS 32) by the assessee. 61. To understand whether the ZCOCDs and OFCDs issued by the assessee company contained any terms and conditions of any financial liability as contemplated in Ind AS 32, the key terms of issue of the „optionally fully convertible debentures‟ outstanding as on 31 st March 2016 (after considering the modifications made to the original terms of issue of the various series of convertible debentures on or before 31st March 2016) needs to be understood. Same are summarised below:- •The convertible debentures had a fixed term. •The convertible debentures were convertible into fixed number of equity shares of Rs. 10 each of the issuer at the rate of higher of book value or face value as at 31 st March 2015. • The assessee or the debenture holder can opt for early conversion at any time by giving one-month notice. •The assessee can redeem the outstanding convertible debentures on expiry of the fixed term of the convertible debentures, if the 62 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. option for conversion into equity shares is not takenup by the end of the term. • The assessee and the debenture holder may mutually agree for early redemption of the outstanding debentures on any date after expiry of 30 days from the date of allotment. 62. Thus, the key terms of the issue of fully convertible debentures consist of conversion into equity shares of the company. This conversion will be based on higher of the book value or face value of the equity shares as at 31 st March 2015. 63. As a preface, we have to analyse the relevant provisions of the Companies Act 2013 and new accounting standards as laid down in Ind AS. First of all, section 129 of the Companies Act, 2013 provided that the financial statements shall give a true and fair view of the state of affairs of the company or companies, comply with the accounting standards notified under sec. 133 and shall be in the form or forms as may be provided for different class/classes of companies in Schedule III: Provided that the items contained in such financial statements shall be in accordance with the accounting standards. The Central Government by notification No. 63 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. GSR lll(E) dated 16 th February 2015, notified the companies (Indian Accounting Standards) Rules, 2015 ("Rules") with effect from 1 st April 2016 ("Ind AS"). 64. Ind AS 101: where for the first time adoption of Indian Accounting Standards is to be adopted, it provides:- Para 1:- The objective of this Ind AS is to ensure that an entity's first Ind AS financial statements, and its interim financial reports for part of the period covered by those financial statements, contain high quality information that: (a) is transparent for users and comparable over all periods presented; (b) provides a suitable starting point for accounting in accordance with Indian Accounting Standards (Ind ASs); and (c) can be generated at a cost that does not exceed the benefits. Para 2:- An entity shall apply this Ind AS in: (a) its first Ind AS financial statements; (b).............. Para 6:- An entity shall prepare and present an opening Ind AS Balance Sheet at the date of transition to Ind ASs. This is the starting point for its accounting in accordance with Ind ASs.............. Appendix A: Definition of the term "date of transition to Ind AS" 64 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. The beginning of the earliest period for which an entity presents full comparative information under Ind ASs in first Ind AS financial statements. Para 10:-.................. an entity shall, in its opening Ind AS Balance Sheet: (a)............; (b)............; (c) reclassify items that it recognised in accordance with previous GAAP as one type of asset, liability, or component of equity, but are a different type of asset, liability, or component of equity in accordance with Ind ASs; (d) apply Ind ASs in measuring all recognised assets and liabilities. 65. The „transition amount‟ as discussed above is defined as amount adjusted in „other equity‟ and the constituent of the Schedule of 'other equities' as per the Companies Act are as follows: a) Share application money pending allotment; b) Equity component of compound financial instruments; c) Reserve and surplus; d) Debt instrument through other comprehensive income; e) Equity instrument through other comprehensive income; f) Effective portion of Cash Flow Hedges; g) Revaluation Surplus; 65 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. h) Exchange differences on translating the financial statements of a foreign operation; i) Other items of Other Comprehensive Income (specify nature); and j) Money received against share warrants. 66. Concurrence between Assessee and DR is that the main issue is as to whether the instrument can be classified as Compound Financial Instrument (CFI) and equity component of it as per clause (b) above by application of Ind AS 32? The foundation of PCIT‟s order is also based on the characterization of said instrument as CFI or otherwise. 67. Ind AS 32 defines the financial instruments in the recognition and characterization of the instruments. The objective of this Standard is to establish principles for presenting financial instruments as liabilities or equity. It applies to the classification of financial instruments, from the perspective of the issuer, into financial assets, financial liabilities and equity instruments, etc. The following paragraphs define the scope of financial instruments:- 66 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Para 11:-A financial instrument is any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity. A financial asset is any asset that is: (a) cash; (b) an equity instrument of another entity; (c) a contractual right: (i) to receive cash or another financial asset from another entity; or (ii) ................... An equity instrument is any contract that evidences a residual interest in the assets of an entity after deducting all of its liabilities. A financial liability is any liability that is: (a) a contractual obligation: (i) to deliver cash or another financial asset to another entity; or (ii) to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the entity; or (b) a contract that will or may be settled in the entity's own equity instruments and is: (i) a non-derivative for which the entity is or may be obliged to deliver a variable number of the entity's own equity instruments; (ii) .................... 67 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Para 15:-The issuer of a financial instrument shall classify the instrument or its component parts, on initial recognition as a financial liability, a financial asset, or an equity instrument in accordance with the substance of the contractual arrangement and the definitions of a financial liability, a financial asset, and an equity instrument. Para 16:-When an issuer applies the definitions in paragraph 11 to determine whether a financial instrument is an equity instrument rather than a financial liability; the Instrument is an equity instrument if, and only if, both conditions (a) and (b) below are met. (a) The instrument includes no contractual obligation: (i) to deliver cash or another financial asset to another entity; or (ii)to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavourable to the issuer and (b) If the instrument will or may be settled in the issuer's own equity instruments, it is: (i) a non-derivative that includes no contractual obligation for the issuer to deliver a variable number of its own equity instruments; (ii) ................ Para 22:-................. a contract that will be settled by the entity (receiving or) delivering a fixednumber of its own equity instruments In exchange for a fixed amount of cash or another financial asset is an equity instrument. 68 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Compound financial instruments (Paras 28 to 32] Para 28:- The issuer of a non-derivative financial instrument shall evaluate the terms of the financial instrument to determine whether it contains both a liability and an equity component. Such components shall be classified separately as financial liabilities, financial assets, or equity instruments in accordance with paragraph 15. Para 29:-An entity recognises separately the components of a financial instrument that (a) creates a financial liability of the entity; and (b) grants an option to the holder of the instrument, to convert it into an equity instrument of the entity. For example, a bond or similar instrument convertible by the holder into a fixednumber of ordinary shares of the entity is a compound financial instrument. From the perspective of the entity, such an instrument comprises two components: 1) a financial liability (a contractual arrangement to deliver cash or another financial asset); and 2) an equity instrument (a call option granting the holder the right, for a specified period of time, to convert it into a fixed number of ordinary shares of the entity). 69 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. The economic effect of issuing such an instrument is substantially the same as issuing simultaneously a debt instrument with an early settlement provision and warrants to purchase ordinary shares or issuing a debt instrument with detachable share purchase warrants. Accordingly, in all cases, the entity presents the liability and equity components separately in its balance sheet. But here that in this case, the debentures are convertible at the option of not just the holder but even the issuer has the option to convert the debentures into equity instruments. Hence, the example provided here in para 29 may not fit in the current situation. Para 30:- Classification of the liability and equity components of a convertible instrument is not revised as a result of a change in the likelihood that a conversion option will be exercised, even when exercise of the option may appear to have become economically advantageous to some holders. Holders may not always act in the way that might be expected because, for example, the tax consequences resulting from conversion may differ among holders. Furthermore, the likelihood of conversion will change from time to time. The entity's contractual obligation to make future payments remains outstanding until it is extinguished through conversion, maturity of the instrument or some other transaction. 70 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Para 31:-Equity instruments are instruments that evidence a residual interest in the assessee of an entity after deducting all of its liabilities. Therefore, when theamount of a compound financial instrument is allocated to its equity and liability components, the equity component is assigned the residual amount after deducting from the fair value of the instrument as a whole the amount separately determined for the liability component. The value of any derivative features (such as a call option) embedded in the compound financial instrument other than the equity component (such as an equity conversion option) is included in the liability component. The sum of the carrying amounts assigned to the liability and equity components on initial recognition is always equal to the fair value that would be ascribed to the instrument as a whole. No gain or loss arises from initially recognising the components of the instrument separately, Para 32:- Under the approach described in paragraph 31, the issuer of a bond convertible into ordinary shares first determine the carrying amount of the liability component by measuring the fair value of a similar liability (including any embedded non-equity derivative features) that does not have an associated equity component. The carrying amount of the equity instrument represented by the option to convert the instrument into ordinary shares is then determined by deducting the fair value of the financial liability from the fair value of the compound financial instrument as a whole. 71 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Certain paras relating to compound financial instruments from Application Guidance Para AG 31:- A common form of compound financial instrument is a debt instrument with an embedded conversion option, such as a bond convertible into ordinary shares of the issuer, and without any other embedded derivative features. Paragraph 28 requires the issuer of such a financial instrument to present the liability component and the equity component separately in the balance sheet, as follows: (a) The issuer's obligation to make scheduled payments of interest and principal is afinancial liability that exists as long as the instrument is not converted. On initial recognition, the fair value of the liability component is the present value of the contractually determined stream of future cash flows discounted at the rate of interest applied at that time by the market to instruments of comparable credit status and providing substantially the same cash flows, on the same terms, but without the conversion option. (b) ............ Para AG 35:- An entity may amend the terms of a convertible instrument to induce early conversion, for example, by offering a more favourable conversion ratio or paying other additional consideration in the event of conversion before a specified date. The difference, at the 72 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. date the terms are amended, between the fair value of the consideration the holder receives on conversion of the instrument under the revised terms and the fair value of the consideration the holder would have received under the original terms is recognised as a loss in profit or loss. 68. As noted above, the company had to prepare the financial statements for the FY 2015-16 and at that time it was prepared under GAAP and OFCDs were disclosed in the balance sheet as on 31 st March 2016 as „long-term borrowings‟. Since,Ind AS 32 was made effective to the Companies Act 2016 for the financial year commencing from 1 st April 2015, the assessee company was required to prepare its opening Ind AS 32 balance sheet as on the date of transition, which is the beginning of the earlier period for which an entity presents fully comparative information under Ind AS 32. Whenever opening Ind AS 32 balance sheet is prepared, Ind AS 32 & 101 requires that in this opening balance sheet not only all the assets and liabilities should be recognized but also the classification should be in accordance with the requirements of Ind AS 32. With the classification of assets, liabilities, components of equity made as per the requirements of previous GAPP was different 73 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. from the one which is appropriate as per the requirementof Ind AS, then those should be classified so as to appropriate as per the Ind AS. In the balance sheet of the assessee company as on 31st March 2016 and the Indian GAPP, there were outstanding convertible debentures which were shown under „long term borrowings‟ in the in the component Ind AS balance sheet as on 1 st April 2015 and now the said debentures were required to recognize and classify as for the requirements of Ind AS 32. 69. Now whether the characteristic of the convertible debentures issued by the company falls within the scope and definition of „compounding financial instrument‟ as a provided in „Ind AS 32‟ as defined therein in various paras which have been incorporated by us supra. First of all, a convertible debenture is a contract that has mainly two characteristics;  firstly, it gives rise to the financial assets for the party which is the holder of the instrument, since it gives a contractual right to receive cash and other financial assets, for example, financial asset in the form of equity instrument of issuer in case of convertible option; and 74 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited.  secondly, it gives rise to financial liabilities or equity instrument to the issue of the convertible debentures depending upon the terms of the convertible debentures, is a financial instrument as per the definition provided under Ind AS 32. Ind AS 32 lays down the principles for presenting financial instruments as liabilities or equity from the perspective of the issuer which in the present case that is assessee. Thus, for presenting in the opening Ind AS 32 balance sheet and for the subsequent accounting of convertible debentures issued by the company, the principle laid down Ind AS 32 needs to be taken into account. 70. However, the requirement of Ind AS 32 about classification of financial instrumental is on initial recognition as per the substance of the contractual arrangement. It requires that the classification of a financial instrument or its component parts is to be made by the issuer as financial liability or equity instrument on initial recognition with the substance of the contractual arrangement and the definitions of a financial liability and an equity instrument. The term compounding financial instrument has not been independently defined under Ind AS 32. However, if there is such 75 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. financial instrument, the accounting standard requires that the issuer should first determine the liability component and then separate the liability component from the fair value of the entire financial instrument. One has to ascertain the liability component which is sine qua non for treating it as a „transition amount‟. The financial instrument if it is categorized as a compound financial instrument, then there has to be a liability component embedded in it. 71. Ergo, we have to see, whether in the present case, what constitute financial liability. Ostensibly, there are two situations in relation to financial instrument which can be reckoned as financial liability; firstly, there is a contractual obligation to make settlement either by monetary payment or by delivering any other financial asset; or secondly, the settlement has to be made by exchange of variable number of its own equity instruments. If we keep this definition as provided in Ind AS 32 incorporated (supra),then the instrument is an equity instrument for the issuer only if both the conditions as stated above are satisfied, i.e., there is no contractual obligation for the issuer to make settlement either by monetary 76 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. payment or by delivering any other financial assets and secondly, there is no contractual obligation for the issuer to make settlement by delivering variable numbers of its own equity instruments. 72. Here on facts of the present case, the convertible debentures can be converted into fixed number of equity shares either unilaterally by the investor or by the issuer without the consent or concurrence of the other party to the contract. In other words, the investors will exercise the option unilaterally to convert convertible debentures into equity shares in a situation where the fair value of the equity shares increases above the issue price of the convertible debentures at any time during the term of the convertible debentures. In second situation, the issuer will exercise the option unilaterally to controvert the convertible debentures into equity shares so as to avoid delivery of cash. The repayment in monetary terms by the issuer to the investor in respect of the convertible debentures upon the expiry of their term is contingent upon non- exercise of the option to convert the convertible debentures both by the investor and the issuer. This eventuality may not arise here in this case, since the option to convert is available not only with the 77 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. investor but also with the issuer and earlier redemption of the convertible debenture available to both, is not a unilateral option, but is subject to mutual agreement of both the investor and the issuer. This does not result in any vesting of right or foisting of any obligation unilaterally on any one or the other party to the contract. Accordingly, both have inferred to a conclusion that settlement of convertible debentures issued by the assessee will be through exchange of own equity instruments of the assessee company only and not by any financial liability as defined in Ind AS 32. This exchange, as per the terms, will be of a fixed number of equity shares. Accordingly, in the case of assessee, the criteria to classify the financial instrument of convertible debentures are not indicative of any compounding financial instrument albeit it is equity. 73. Now reiterating the same question, whether the convertible debentures under consideration before us can be classified as a „compound financial instrument‟ which has both a liability and an equity component. As specified under Ind AS 32, the liability 78 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. component of the convertible debentures is represented by the present value of the aggregate of the following future payments:- i) Principal repayment ii) Periodical interest payments. In the present case, the notional convertible debentures issued by the assessee, there is neither payment of interest component nor any kind of premium at the time of repayment. The repayment of principal in monetary terms will also not be there, as the settlement will be through issue of own equity instruments of the assessee company. Thus, the liability in monetary terms is „NIL‟ in the present case. Further when the entire financial instrument is classified as equity, there will be no charge on account of notional interest or any kind of financial liability in the statement of profit and loss during the entire tenure of such instrument after initial recognition in the financial accounts. It was for this precise reason; the assessee company has neither provided any interest cost or claimed any kind of financial liability in the profit and loss account. Thus, to summarise, the financial instrument under consideration here in this case, we find that; 79 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited.  firstly, there is no financial liability;  secondly, it cannot be classified as compound financial instrument;and  lastly, the settlement purely on account of allotting equity shares. 74. One of the key arguments on behalf of the revenue and also by the Ld. PCIT in his order is that, assessee company itself has classified is optionally convertible debentures into „other equity‟ which is as per the definition under the „transition amount‟ given in the Explanation gets covered. In order to understand the disclosure requirements of equity finds in the balance sheet which otherwise is called shareholder‟s fund consists of equity shares capital and other equity share. As far as equity share capital is concerned, it consists of various types of share capital issued by the company. As regards the other equity, these consist of various types of reserves which are available to the shareholders. In other words, the funds belongs to the share holders as per the new disclosure scheme, the shareholder has to be indicated how much funds are employed in the company. 80 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. 75. We have to understand the term „other equity‟ which is part of the shareholder funds. The „other equity‟ consists of various types of reserves like general reserve, capital reserve, security premium reserve and other reserve similar to the profit and loss attributableto the shareholders. Thus, the disclosure of the total funds available in the account of the shareholders is for thepurpose of valuation and to understand their stake in the company. Merely because the OFCD‟s in the balance sheet has been classified under the head „other equity‟ that does not reach to a conclusion that it is a financial instrument which can be classified as „transition amount‟. 76. Now to understand the term „transition amount‟, what the Explanation envisages that aggregate amount adjusted in the other equity on the convergence date and there are certain exclusions provided in the Explanation as incorporated (supra). Thus, on the date of convergence the company has to determine various comprehensive incomes on the date of convergence and make their adjustment in the other equity. The comprehensive income should be the in the nature of reserves or income. It can never be in the 81 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. form of a capital liability already recognized in the balance sheet, i.e., before the convergence date. The definition of transition amount itself excludes certain capital reserves, which is evident from the exceptions provided in the various clauses A to F in sub- clause (iii) of Explanation to sub-section 2C of section 115JB. These exclusions itself clarifies that certain reserves even though they are clearly part of the „other equity‟, since they are capital in nature, but are earmarked for other purposes which Companies Act has imposed certain restrictions for their utilization, are not treated part of transition amount. In a nut shell, not all the reserves forming part of other equity are „transition amount‟ as understood by the Revenue authorities. In the earlier part of the order, we have also referred to the CBDT circular number 24/2017 (supra), wherein CBDT has clarified vide question No. 7, which itself indicates that already recognized capital liability cannot be part of the transition amount. What should be the part of the „other equity‟, is, total comprehensive income determined on the date of convergence date based on adjustment determined as per the various accounting standards ofInd AS 101, 16, 38 and other similar adjustment as per 82 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. the other parts of Ind AS. This also includes certain adjustment based on the reports of financial instrument as per Ind AS 32. 77. In the accounting standard, Ind AS 32, the respective companies has to determine comprehensive income/loss based on composite instrument which has element of equity or financial liability. There are various types of financial instruments which are debt based or equity based instrument for which termsare different for the various types of instruments. On the date of convergence, the company has to determine the comprehensive income or loss based on the status of future financial assets or liability to the respective companies. Accordingly, the company has to recognize only the comprehensive income or loss in the „transition amount‟ and not the capital liability which has already recognized in the balance sheet of pre-convergence date. 78. The next issue is how to determine the financial gain or loss particularly of the debt financial instrument. First of all, one need to separate debt and equity from the above instrument and determine the impact of comprehensive income or loss in the equity portion and will impact their adjustment in the „other equity‟. This 83 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. will be done in accordance with Ind AS 32. The Ind AS 32 provides an example how to compute the fair value and liability assigned to equity bond. For the sake of ready reference, the same is reproduced as under:- An entity issues 2,000 convertible bonds at the start of year 1. The bonds have a three-year and are issued at par with a face value of currency unit [CD] 1,000 per bond, giving total proceeds of CU 20,00,000. Interest is payable annually in arrears at a nominal annual interest rate of 6 percent. Each bond is convertible at any time up to maturity onto 250 ordinary shares. When the bonds are issued, the prevailing market interest rate for similar debt without conversion option is 9 per cent. The liability component is measured first and the difference between the proceeds of the bond issue and the fair value of the liability is assigned to the equity component. The present value of the liability component is calculated using a discount rate of 9 per cent, the market interest rate for similar bonds having no conversion rights, as shown below: CU Present value of the principal CU 20,00,000 payable at the end of 3 years 15,44,367 Present value of the interest CU 1,20,000 payable annually in arrears for 3 years 3,03,755 84 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Total liability component 18,48,122 Equity component (by deduction) 1,51,878 Proceeds of the bond issue 20,00,000 The above illustrative example given in the IASB and the Ind AS 32 Appendix C-documents shows that the amount of CU 1,51,878 has been classified as equity component of the compound financial instrument on initial recognition. The liability component of CU 18,48,122 will have to equal CU 20,00,000 at the end of 3 years so that at the expiry of the term of the instrument, the same can be paid back to the investor. To this effect, the difference of CU 1,51,878 (CU 20,00,000 less 18,48,122) will have to be debited as notional interest in the statement of profit and loss during the remaining term of the compound financial instrument. 79. In case the financial instrument is classified as a compound financial instrument as covered in the illustrative example, then the accounting entries under Ind AS with respect to the data as per the said illustrative example, at the time of initial recognition of above convertible bonds in subsequent periods and at the time of redemption of bonds, will done in the following manner:- 85 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Sr. No Particulars Debit Credit A On Initial recognition: Bank Account 20,00,000 To Liability 18,48,122 To Equity component of Compound Financial Instrument 1,51,878 [Recognition of liability component at present value with 9% discounting factor] B At the end of Year 1: Interest Expenses Account 1,66,331 To Liability 1,66,331 [Booking of interest expenses on opening liability of Rs. 18,48,122 @9%] Interest payment at nominal rate Liability Account 1,20,000 To Bank 1,20,000 C At the end of Year 2: Interest Expenses Account 1,70,501 To Liability 1,70,501 Booking of interest expenses on opening liability of Rs. 18,94,453 @9%] Interest payment at nominal rate; Liability Account 1,20,000 To Bank 1,20,000 D At the end of Year 3: Interest Expenses Account 1,75,046 To Liability 1,75,046 [Booking of interest expenses on opening liability of Rs. 19,44,954 @9%] Interest payment at nominal rate and settlement of outstanding liability; Liability Account 21,20,000 86 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Accounting entries in respect of the Illustration no. 9 Sr. No. Particulars Debit Credit To Bank 21,20,000 [Nominal Interest amount of Rs. 1,20,000 and Principal amount -Rs.20,00,000] Working Transaction value PV Instrument value 20,00,000 15,44,367 Interest rate 6% Market rate 9% Nominal int Dis Factor PV Year 1 1,20,000 0.9174 1,10,092 Year 2 1,20,000 0.8417 1,01,002 Year 3 1,20,000 0.7722 92,662 3,60,000 3,03,755 Year Particulars Amount Opening Liability (PV) 18,48,122 1 Interest @ 9% 1,66,331 Payment (1,20,000) Liability at the end of year 1 18,94,453 2 Interest @ 9% 1,70,501 Payment (1,20,000) Liability at the end of year 2 19,44,954 3 Interest @ 9% 1,75,046 Payment 21,20,000 80. The aforesaid illustrative and the example as given in Ind AS 32 goes to illustrate as to what should be the „transition amount‟. In the above illustration, the value of Instrument/Debenture of Rs. 20 87 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. lakhs is not the financial liability but the value of Rs. 151,878/- is the value of compounding Income. If we apply the above example in the present case, then it is very difficult to fathom that how the entire optional convertible debentures can be classified and held as financial instrument, i.e., entire debenture is a financial liability so as to be classified under the head „transition amount‟, as held by Ld. PCIT in his order. We have reiterated many times in the earlier part of the order that only the component of financial liability element alone i.e., (financial liability or assets) which has to be taken as „transition amount‟. Ld. PCIT has completely erred in accounting principle while holding that the entire convertible debentures for sums aggregating to Rs.15544.57 crores is a „transition amount‟ which needs to be adjusted over the period of 5 years while computing the book profit. This finding itself vitiates the entire reasoning and the view taken by the Ld. PCIT. 81. If the above illustration is to be taken as a guideline to determine the „transition amount‟ which needs to be adjusted, then only the financial liability embedded in it alone can be treated as transition amount as per Ind AS 32. Here in this case, there was no 88 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. kind of any financial liability or any interest component which can be ascertained or determined on the said convertible debentures. As we have already held above that, since these Zero Coupon Optionally Convertible Debenture is purely in the nature of equity and there was no financial liability embedded it, neither any liability has been debited to profit and loss account, nor it has been recognized by the assessee company in financial accounts. There is nothing flowing from the terms or substance of the contract of Zero Coupon OFCD or OFCD where one can inferred that there was any kind of interest or coupon rate or premium payable by the Assessee Company which can be inferred under the meaning of „transition amount‟, which required to classified under Ind AS 32 and needs to be adjusted while computing the book profit us 115JB (2C). 82. In the present case, the assessee has classified various types of liabilities based on its understanding at the time of preparation of balance sheet for the relevant financial year which is in question before us are as under:- (Rs. In crores) Equity Fund 31.10.2017 31.03.2016 89 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Equity Shares 147.50 147.50 Other Equity 17704.36 16326.67 Total 17851.86 16474.17 In the statement of equity for the year ended 31 st March 2017 under the head „other equity‟, the assessee has taken optional convertible debentures and Zero Coupon unsecured fully convertible debenture of Rs. 10 each. Which are in the nature of capital liability or capital debt to the company until the same is not fully converted into Equity. There is no corresponding financial liability of such convertible debentures have been shown in the financial statement or in the profit and loss account. Though from the perusal of the financial statement, we find that assessee has shown debt/equity instruments through other comprehensive income which is though not the correct presentation of the debt instrument, because as stated above, the debt instrument has to be classified separately alongwith other capital liability on such instruments. Be that as it may, nothing turns out on such presentation as one thing which is clearly borne out from the financial accounts and facts of the case is that, in so far as Zero Coupon OFCDs and OFCDs in the case of 90 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. assessee did not have any kind of financial liability to classify it as Compounding Financial Instrument and in turn to quantify the same as transition amount. 83. We have already noted in the earlier part of our order that Zero Coupon OFCDs issued on 30 th June 1995 which was issued at par for Rs. 441.57 crores was converted into 72388770 equity shares in financial year 2020-21 and the total convergence was at par only. The Zero Coupon OFCDs issued in the year 2015 and 2016 issued for sums aggregating to Rs. 1510.30 crores, the entire ZOFCDs was redeemed in the financial year 2016-17 at par. Thus, even though it has been redeemed within the year in a very short span of a year, then also there is neither any interest component nor any financial liability in the form of compounding financial instruments or any kind of discounting factor which can be said to be applicable. Nor assessee has claimed in the financial account or treated it as financial liability. The fact that it was redeemed will not take away the character at the time of issuance of Zero coupon OFCDs as both the issuer and investors had understood that it would be converted into equity shares at par and that‟s the precise 91 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. reason no financial liability has been recognized on these instruments by the assessee. This aspect of this matter has already discussed in the earlier part of the order. 84. Now coming to the 0% fully unsecured debentures issued in the year 1996, they have been bought back by the company during the FY 2016-17 at par and the OFCDs have been cancelled. Even these OFCDs issued in year 1996 for the period of a decade, no financial liability or any interest cost has been taken into profit and loss account even for the purpose of disclosure under the Companies Act. 85. Accordingly, we entirely agree with submissions of the assessee made before us and hold that none of the OFCDs which has been shown in the balance sheet of the assessee under the head „Other Equity‟, there exist any kind of financial liability or interest liability in any manner which can be classified or determined as a „transition amount‟. We have already held above, that as per the definition of Transition amount, the capital reserves are eliminated while making adjustment in book profit, similarly, the CBDT has clarified to eliminate the capital liability like Share 92 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. Application Money, the composite Amount declared by the assessee has to readjusted to find the net composite amount by eliminating the capital liability, i.e., Convertible Debentures. As discussed in the above, there will not be any transition amount which requires any adjustment in the book profit as per section 115JB (2C) of the Act. It is important to note that as discussed herein above, the capital liability and financial liability are two different concepts and Ld Pr. CIT has confused with the above two concepts and treated the capital liability as disclosed by the assessee as part of Composite Income in the schedule to the Other Equity. Thus, we hold that no adjustment is required in the book profit u/s 115 JB (2C) by way of „transition amount‟ in the case of the assessee. Accordingly, the order of Ld. PCIT u/s 263 is reversed on merits and matter is decided in favour of the assessee. 86. Lastly, before us Ld. Counsel for the assessee has contended as noted in para 17 & 18 of this order that only those receipts which are chargeable to tax as income u/s 2(24) can be included in computation of book profits and capital receipts cannot be brought to tax in computing book profits. Since we have already held that no 93 I.T.A. No. 1065/Mum/2022 Reliance Industrial Investment and Holdings Limited. adjustment is required u/s 115JB (2C) by way of “transition amount”, no separate finding is warranted on this proposition of the assessee. 87. In the net result, the appeal filed by the assessee is allowed. Orders pronounced in the open court on 29 th March, 2023. Sd/- Sd/- (S. Rifaur Rahman) (Amit Shukla) Accountant Member Judicial Member मुंबई Mumbai;ददनांकDated : 29.03.2023 Dhananjay, Sr.PS आदेशकीप्रनिनिनिअग्रेनर्ि/Copy of the Order forwarded to : 1. अपीलाथी/ The Appellant 2. प्रत्यथी/ The Respondent 3. आयकरआयुक्त/ CIT- concerned 4. दवभागीयप्रदतदनदध, आयकरअपीलीयअदधकरण, मुंबई/ DR, ITAT, Mumbai 5. गार्डफाईल / Guard File आदेशधिुसधर/ BY ORDER, .उि/सहधयकिंजीकधर (Dy./Asstt.Registrar) आयकरअिीिीयअनर्करण, मुंबई/ ITAT, Mumbai