MANI K.THOMAS V. THE COMMISSIONER OF GIFT TAX, TVM.

ITR/6/2000

AI Insights

The case revolves around the question of whether the transfer of shares among partners during the reconstitution of a partnership firm constitutes a taxable gift under the Gift Tax Act. The firm, 'Paragon Rubber Industries', underwent a change in partnership structure, introducing new partners and redistributing profit shares among all partners. The tax authorities viewed the reduction in profit share for existing partners as a gift to the new partners, thus taxable. However, the court found that the considerations provided by the new partners, including capital contributions and assuming liabilities, were adequate, negating the gift tax liability.

• Counselvise Citation: [2017] 140 COUNSELVISE.COM (IT) 726953 (HC-KERALA)
• Appeal Type: Others
• Pronouncement Date: 17-08-2017
• Assessment Year: misc
• Other Referred Cases: Commissioner of Gift Tax v. D.C.Shah and Ors, Sree Narayana Chandrika Trust v. Commissioner of Gift Tax, Kerala, Govindan v. Commissioner of Gift Tax, Commissioner of Gift Tax, Gujarat v. Chhotalal Mohanlal, D.C.Shah & others v. Commissioner of Gift Tax, Karnataka
• Laws Referred To: Gift Tax Act
• Result in Favour of: Others
• Court: HIGH COURT
• Department Lawyers: ANIL NAIR; P K R MENON
• Assessee Lawyers: M GOPIKRISHNAN NAMBIAR; P GOPINATH
• Keywords: Consideration; Exemption; Gift Tax; Tax liability; Transfer of shares
• Section: 16(1); 4; 154(3); 5(1)(xiv)

Judgement Text

"IN THE HIGH COURT OF KERALA AT ERNAKULAM PRESENT: THE HONOURABLE MR.JUSTICE P.R.RAMACHANDRA MENON & THE HONOURABLE MRS. JUSTICE SHIRCY V. THURSDAY, THE 17TH DAY OF AUGUST 2017/26TH SRAVANA, 1939 ITR.No. 6 of 2000 ( ) --------------------- AGAINST THE ORDER/JUDGMENT IN RA 9/1999 of I.T.A.TRIBUNAL,COCHIN BENCH DATED 26-11-1999 PETITIONER(S): ------------- MANI K.THOMAS C/O.M/S.PARAGON RUBBER INDUSTRIES, KOTTAYAM BY ADVS.SRI.M.GOPIKRISHNAN NAMBIAR SRI.P.GOPINATH SRI.K.JOHN MATHAI SRI.JOSON MANAVALAN SRI.KURYAN THOMAS SRI.PAULOSE C. ABRAHAM SRI.RAJA KANNAN RESPONDENT(S): -------------- THE COMMISSIONER OF GIFT TAX, TRIVANDRUM. BY ADVS. SRI.ANIL D. NAIR SRI.P.K.R.MENON,SR.COUNSEL, GOI(TAXES) SRI.GEORGE K. GEORGE, SC FOR IT THIS INCOME TAX REFERENCE HAVING BEEN FINALLY HEARD ON 17-08-2017, ALONG WITH ITR. 7/2000, ITR. 8/2000, THE COURT ON THE SAME DAY PASSED THE FOLLOWING: IAP P.R.RAMACHANDRA MENON & SHIRCY V., JJ ......................................... ITR.Nos.6 and 8 of 2000. ................................. Dated this the 17th day of August, 2017 (CASE REPORTABLE) J U D G M E N T P.R.RAMACHANDRA MENON , J Would the transfer of shares effected by some partners of the firm in favour of a newly inducted partner, virtually suffering a reduction in the share of profit; simultaneously facilitating extension/increase of profits to the incoming partner by itself will result in exigibility to tax under Sec.4 of the Gift Tax Act? If the additional contribution pumped in by the newly inducted partner, coupled with the liability undertaken to discharge the liabilities to financial institutions and other creditors and also the undertaking to work for the common good of the firm, besides offering personal guarantee in respect of various financial transactions could be taken as sufficient consideration for the purpose of the exemption under Section. 5(1)(xiv) of the Act? These are the main points to be answered by this Court in the reference made by the Tribunal, ITR.Nos.6 and 8 of 2000 2 at the instance of the assessees. 2. The sequence of events reveals that the assessees were doing business under the name and style as 'Paragon Rubber Industries' by constituting a partnership firm, wherein 4 partners were there. Later, by virtue of the partnership deed dated 1.11.1986, there was a change in the constitution of the firm and two more partners were brought in, virtually making the number of partners as 'six', instead of four. As a natural consequence, 25% of the share possessed by each of the partners came down, virtually suffering a reduction of 8.33%, which in turn was assigned in favour of the incoming partners. The reduction of shares to the said extent, according to the assessing authorities, amounted to 'gift' at the hands of the assessee in favour of the newly inducted partners and hence it was sought to be taxed by issuing proceedings under Secs.154(3) and 16(1) of the Gift Tax Act. 3. On receipt of the proceedings as above, return was filed by the assessees pointing out that there was no incidence of any gift and that there was no reduction in the contribution made by the existing partner, but for a reallocation of the ratio ITR.Nos.6 and 8 of 2000 3 for sharing the profits, which by itself would not attract any tax liability. The matter was heard elaborately by the Assessing Officer, when the judicial precedents, particularly the decisions rendered by this Court, the Karnataka High Court, the Madras High Court and also the Madhya Pradesh High Court were sought to be relied on from the part of the assessees. The contention raised by the assessees was rebutted from the part of the Department to the effect that the additional capital contribution made by the newly inducted partners was only to an extent of Rs.25,000/-, which was quite inadequate in all respects and further that the subsequent contribution made to an extent of 3.5 lakhs by newly inducted partner by name Sri.Vijoo Zacharia and another extent of 3.15 lakhs by the other partner by name Smt.Thara Thomas subsequently could not be considered for the purpose of deciding the issue. It was also pointed out that the said extent of consideration was quite inadequate, in so far as transfer of goodwill, which was of high value, in view of the extent of profit which was being generated for the past 5 years, which is at the rate of about Rs.4 lakhs per year. ITR.Nos.6 and 8 of 2000 4 4. Repelling the contention raised by the assessees the version of the revenue was accepted and it was accordingly, that Annexures A, B & C orders were passed by the Assessing Authority. This made the assessees to prefer statutory appeal before the Commissioner of appeals, who interdicted the assessment orders and held that no instance of tax was established and accordingly, the appeals were allowed. The orders passed by the Appellate Authority were subjected to challenge from the part of the Revenue by filing further appeal before the Tribunal. After considering the submissions made from both the sides the orders of the Appellate Authority were set aside and the assessment was sustained, upholding the exigibility to tax; however, ordering that 50% of the capital contribution made by the assessees alone would stand deducted for the purpose of calculation. The common order passed by the Tribunal in this regard is produced as 'Annexure E'. 5. On passing the above order, 3 of the assessees submitted reference applications as R.A.No.9(Coch)/1999, R.A.No.10(Coch)/1999 & R.A.No.11(Coch)/1999 in Gift Tax ITR.Nos.6 and 8 of 2000 5 Appeal Nos GTA.No.26(Coch)93, GTA.No.27(Coch)93 GTA.No.28(Coch)93, raising three questions to be referred for adjudication by this Court. After considering the point involved, the Tribunal redrafted the issue to be considered as a single question and referred the same to be answered by this Court in terms of Sec.26(1) of the Act. The question referred as above reads as follows: “Whether, on the facts and in the circumstances of the case, was the Tribunal justified in holding that there was gift by the assessee in favour of the incoming partners and if the answer to this question is in the affirmative, was the Tribunal justified in holding that the capital contribution and undertaking to discharge liabilities of the firm by the new partners at the time of their admission to the firm and the action of the new partners in actively working in the management and working of the firm constitute consideration for the surrender of shares by the assessee and the other partners and was the Tribunal still justified in holding that the said considerations are inadequate and that gift-tax is to be computed after allowing deduction of 50% of the capital contribution by the new partners from the estimated value of the gift by the assessees and the other three partners?”” It is in the said background, that the matter has been listed before this Court. Heard the learned counsel for the assessees as well as the learned Standing Counsel appearing for the revenue. 6. When the matter has came up for consideration before this Court on 26.07.2017, it was submitted across the ITR.Nos.6 and 8 of 2000 6 Bar that the assessee in ITR No.7/2000 had already bid farewell to this world and accordingly, the said matter was closed as abated. As such, only two matters remain (ITR Nos.6 and 8) and the merit involved is considered accordingly. 7. The learned counsel appearing for the assessees points out that the factual and legal position was sought to be asserted before the Tribunal with specific reference to the various rulings rendered by the different High Courts which of course have been adverted to by the Tribunal in the common order ie. Annexure E; but the same has not been properly appreciated with proper application of mind as discernible from the order itself. But for stating that the version of the assessees was not acceptable and that the stand of the Revenue that there was a taxable instance because of the reduction in the shares was sustainable, the Tribunal has not given any cogent reasoning with regard to the course pursued. Similarly, the verdicts sought to be relied on from the part of the assessees have not been correctly analysed or appreciated by the Tribunal and hence the challenge, by way of reference, to have it considered and answered by this Court. It is also ITR.Nos.6 and 8 of 2000 7 pointed out that, exactly similar issue had come up for consideration before the Apex Court and was answered in favour of the assessee, as per decision reported in Commissioner of Gift Tax v. D.C.Shah and Ors 249 ITR 518; which was followed by the subsequent ruling in Sree Narayana Chandrika Trust v. Commissioner of Gift Tax, Kerala (261 ITR 279) as well. Both the above decisions were referred to and relied on by a Division Bench of this Court in the ruling rendered and reported in Govindan v. Commissioner of Gift Tax (2004(2) KLT 834). 8. The learned Standing Counsel for the Revenue submits that, 'adequacy of consideration' is a question of fact and that the same has been considered by the Tribunal which is the ultimate Authority as per the statute and as such, nothing actually survives to be considered by this Court, treating it as a question of law to be answered in terms of Sec.26(1). It is also pointed out that, there is no dispute as to the 'goodwill value' worked out as Rs.9,60,000/-, more so, since the firm was consistently making profit at the rate of Rs.4.97 lakhs during the past 5 years before the reconstitution. Admittedly, ITR.Nos.6 and 8 of 2000 8 only a sum of 25,000/- was pumped in by the newly inducted partners at the time of reconstitution of the firm in the year 1986 and as such, this could not have been accepted as 'adequate consideration' to escape the assessment, treating it as eligible for exemption under Sec.5(1) of the Act. Learned Counsel further points out that the question stands already answered by a 'three member' Bench of the Supreme Court as per the decision reported in Commissioner of Gift Tax, gujarat v. Chhotalal Mohanlal (166 ITR 124) whereas the decisions sought to be relied on from the part of the assessees have been rendered by 'two member' Bench of the Apex Court and hence the former might be relied on, to have the issue answered by this Court. 9. There is no dispute with regard to the factual position and the matter requires to be considered only with regard to the question of law and the effect of the verdicts passed by the Supreme Court as per the decisions mentioned above. The question considered by the Apex Court in Commissioner of Gift Tax v. D.C.Shah and others (249 ITR 518), pursuant to the reference, was: ITR.Nos.6 and 8 of 2000 9 “whether on the facts and in the circumstance of the case the Tribunal was right in holding that there was a taxable gift by the assessee when his share profit in the firm was reduced from 19 paise to 14 paise and thus of his son Kiran D. Shah was increased from 9 paise to 14 paise”. Referring to the pleadings and proceedings, the Apex Court noted that there was no contention for the revenue that there was any reduction in the capital contribution of the assessees and a consequential increase in the capital contribution of his son, pursuant to the alteration in their shares of profit. It was accordingly held by the Bench that the fact that the share of one partner was decreased while that of another partner got correspondingly increased, would not lead to the inference that the former had gifted the difference to the latter. According to the Apex Court, the profit sharing ratio in a firm can vary for different reasons, among which, the willingness of the partners to devote time for the business of the firm is also one of the main factors. The Bench held that the gift of a portion of one partner’s share to another partner has to be established by evidence and that the onus in this regard lay only on the shoulders of the Revenue; which was held as not satisfied/discharged in the said case. Accordingly, the appeal ITR.Nos.6 and 8 of 2000 10 preferred at the instance of the Revenue was dismissed. 10. The Apex Court had occasion to consider the scope of the provision in a subsequent ruling as well, in 261 ITR 279 (cited supra). That was a case which originated from this Court. The matter was taken up before the Supreme Court at the instance of the assessee, a charitable Institution, who was a partner of the firm having 45% of shares. The reconstitution made a new partner to have entry with an additional capital contribution of Rs.25,000/- towards her share capital, which led to fixation of profit in favour of the new partner of the firm, resulting in reduction of share of the assessee to 30%. The reduction of the said extent from 45% to 30% was taken as 'gift' to the newly inducted partner, at the hands of the assessee. When the matter came up for consideration before the Tribunal it was held that no instance of gift exigible to tax was established. But on a reference, this Court took the view that the reduction in the share of profit of the assessee constituted a 'gift' exigible to tax, which was taken up by the assessee before the Apex Court. During the course of hearing, the law declared by the Supreme Court in 249 ITR 518 (cited ITR.Nos.6 and 8 of 2000 11 supra) was sought to be relied on from the part of the assessee and reference was made to other verdicts as well. 166 ITR 124 (cited supra) was sought to be relied on by the Revenue. After hearing both the sides, the Apex Court held that the Bench was unable to accept the contention that the transfer was for inadequate consideration so as to amount to a taxable gift within the meaning of Sec.4(1)(a) of the Gift Tax Act. The view expressed by the Bench in D.C.Shah & others v. Commissioner of Gift Tax, Karnataka (134 ITR 492) was relied on and accordingly, a verdict was passed in favour of the assessee and against the Revenue, virtually allowing the appeal and setting aside the verdict passed by this Court. 11. The above two decisions were sought to be relied on from the part of the assessee involved in 2004(2) KLT 834 (cited supra). The questions referred for consideration of this Court were: “(1). whether on facts and in the circumstances of the case, the Appellate Tribunal was justified in holding that the applicant was liable to gift-tax on surrender of his share on a reconstitution of the firm? (2). Whether there were materials for the Tribunal to come to the conclusion that the alleged gift made by the applicant was without consideration in money or money's worth within the meaning of the Gift Tax Act.” ITR.Nos.6 and 8 of 2000 12 After making a reference and extracting the relevant portions of the verdicts passed by the Apex Court in 249 ITR 518 and 261 ITR 279, the Bench held that there was no much pith or substance in the contention raised by the Revenue that unlike the case considered by the Apex Court in 261 ITR 279 (cited supra), (where an additional sum of capital of Rs.25000/- was pumped in by the incoming partner) no such instance was there since it was only a case of minor who had not effected any additional contribution of the capital; was not of much significance, in view of the relevant facts and figures born out by the record. It was held that, 'adequacy of consideration' was an aspect to be proved by the Revenue and that the Revenue had not proved any fact to show that there was a 'gift'. Accordingly, the challenge was upheld, answering question no.1 in the negative and against the Department. Similarly, question no.2 was also answered in the negative and against the Department, virtually disposing of the ITRs as aforesaid. 12. Coming to the law declared by the 'three member' Bench of the Supreme Court in 166 ITR 124 (cited supra) it is ITR.Nos.6 and 8 of 2000 13 true that there is a finding to the effect that the transfer of share effected by the father, in favour of the minor son, was part of the 'goodwill' and was exigible to tax in terms of the relevant provisions of the Statute. But in that case, the father retired from the partnership and all the shares were distributed among the minor sons who were inducted as partners. It was under such circumstances, that the Bench held that there was no consideration at all and hence the transaction virtually amounted to a 'gift' in terms of Section 2(xii) of Gift Tax Act, to be taxed under Sec.4(1)(a)of the statute. The scope of the said verdict was in fact considered by a subsequent 'two member' Bench of the Apex Court in 261 ITR 279 (cited supra) (equivalent citation is 2003(11)SCC 350). The reliance sought to be placed by the Revenue on the verdict in 166 ITR 124 was dealt with by the Apex Court and the circumstances under which the declaration was made as above was adverted to, which however was noted as quite different from the circumstances prevailing in Srinarayana Chandrika Trust's case dealt with in 261 ITR 279. The factual position, when the father retired and all his rights to share the profits were ITR.Nos.6 and 8 of 2000 14 transferred to the minor sons (who were inducted as incoming partners) would definitely include the transfer of 'goodwill' as well and so far as there was no consideration, it was a taxable gift under the Gift Tax Act. Unlike this the factual position involved in the relevant case (261 ITR 279) was considered and it was held that the Court was unable to accept the contention that the transaction in the case considered was for inadequate consideration so as to amount to a taxable gift within the meaning of Sec.4(1)(a) of the Gift Tax Act. Reliance was placed on the verdict passed by the Bench in 134 ITR 492 (cited supra) and such other rulings, holding that the Bench was of the view that, even assuming that there was a transfer of 12% of the share of profit (lost in favour of the incoming partner by the appellant assessee), it was not a situation of transfer for inadequate consideration, so as to amount to a taxable gift. It was accordingly, that question no.1 was answered against the Revenue and in favour of the assessee. By virtue of the said declaration, it was held as not necessary to answer the 2nd question. 13. On applying the law declared by the Apex Court to ITR.Nos.6 and 8 of 2000 15 the case in hand, it is to be noted that the newly inducted partners had made an additional capital contribution of Rs.25,000/- each, which was followed by bringing additional funds making the total contribution made by the newly inducted partner by name Vijoo Zacharia taking it to a total extent of 3.5 lakhs, while that of the other partner Thara Thomas was for a total of Rs.3.15 lakhs. That apart there is no dispute to the fact that the newly inducted partners had offered 'personal guarantee' in connection with the financial borrowings made on behalf of the firm and had also undertaken to share the losses by discharging the liabilities to the Banks/Financial Institutions/other creditors. It is also an admitted fact that the newly inducted partners had also undertaken to devote much of their time by working for the firm. It was accordingly, that new branches were opened at Bangalore and Hyderabad; in turn, developing the business. The specific case of the assessees was that the induction of the new partners was in the course of the business, to develop the business of the firm as aforesaid; which however was simply given a 'go-bye', while passing Annexure E verdict by the ITR.Nos.6 and 8 of 2000 16 Tribunal. We find that the stand taken by the Tribunal in Annexure E order is not correct or sustainable either on facts or in law, more so in view of the law declared by the Apex Court as mentioned above. In the said circumstances, we answer the questions referred by the Tribunal holding that the reduction of shares at the hands of the assessee at the time of reconstitution of the firm, to the extent the same has been transferred in favour of the newly inducted partners, is for adequate consideration and that it is not a 'gift' in terms of Sec. 4(1)(a) of The Gift Tax Act so as to suffer any tax liability. Answering the question as above, the matter is remitted to the Tribunal in terms of Sec.26(6) of the Act for further steps. Registry shall communicate the position to the Tribunal, as prescribed. Both the ITRs are disposed of as above. Sd/- P.R.RAMACHANDRA MENON JUDGE Sd/- SHIRCY V. JUDGE IAP "