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CRITICAL ISSUES

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CRITICAL ISSUES DIRECT TAXATION * There must exist books of accounts As per Section 2(12A) of Income Tax Act books includes ledgers, day books, cash books, accounts ... – PowerPoint PPT presentation

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Title: CRITICAL ISSUES


1
CRITICAL ISSUES
CRITICAL ISSUES IN TAXATION
DIRECT TAXATION
2
SECTION 56(2)(vii)
  • Exclusions
  • From any relative (In case of HUF any member
    thereof)
  • On the occasion of marriage of the individual.
  • Under a will or by way of inheritance
  • In contemplation of death of the payer
  • From any local authority as defined under section
    10(20)
  • From any fund or formation or university or other
    educational institution or hospital or other
    medical institution or any other trust or
    institution referred in Sec 10(23 c)
  • From any trust or institution u/s 12AA

receives
3
Critical Issues
  • Only Individual and HUF covered
  • Company and Firm covered u/s sec. 56(2)(viia).
  • Private trust/ AOP/ BOI/ co-operative society not
    covered.
  • Gift on occasion of marriage of individual can be
    accepted only by the individual who is getting
    married.
  • Gift received by parents/ guardians fully
    taxable Rajender mohanlal v. DCIT, ITAT- CHD
    affirmed by Punjab Haryana HC
  • Relative lineal ascendant or descendant (include
    maternal side as well as paternal side Sec. 3F
    of Hindu succession act)

4
ISSUES-Sec 56(2)(vii)
If trust is Determinate or Specific
Trust Than the money or property actually
belong to the beneficiary in the ratio or
specified in the trust deed If trust is
discretionary trust trustee can not give away
properties of the trust to beneficiaries and can
only use trust assets for the benefits of
beneficiaries. Specific Trust has many advantages

The consideration for the interest free loan is
the legal commitment and obligation to return the
money and no tax liability emerge.
5
SECTION 56(2)(vii)(a)
  • Exclusions
  • Transaction not regarded as transfer under
    Section 47
  • In Scheme of Amalgamation (transfer by the
    amalgamating company)
  • In a Demerger
  • Issue of shares by the resulting company in a
    scheme of demerger to the shares of demerged
    company
  • In a scheme of amalgamation (transfer by the
    shareholders)
  • Shares of predecessor co-operative bank in
    consideration of successor co-operative bank.

receives
from
Any person/persons
6
ISSUES-Sec 56(2)(vii)(a)
Bonus Shares The consideration is actually
reduction in value of original shares Right
Shares The shares are issued proportionately to
only existing shareholders. The price at which it
is issued could be any price and the same will be
FMV as per valuation principles. Preferential
Issue The shares have to be issued at FMV. The
Companies Act also require the shares to be
issued based on valuation. In case shares are
issued at a price less than Fair Market Value
(FMV) , the section may get attracted.
7
ISSUES-Sec 56(2)(vii)(a)
  • Warrants are not shares
  • Issuance of warrant will not attract Section
    56(2)(vii)(a)
  • When Warrants are subscribed/exercised shares
    have to be issued at FMV.
  • Issuance of bonds are not covered by section 56
    (2)(vii)(a)
  • Buying and selling of bonds/NCD/OCD/PCD/FCD will
    not be covered by the section
  • A company buying shares at a price less than FMV
    will be taxed.
  • A company selling shares at beyond FMV will not
    be taxable till cost plus index

8
ISSUES-Sec 56(2)(viiA)
Receipt of shares at the time of conversion may
not be treated as receipt of shares for lower
consideration as the conversion do not involve
Received from any person or persons at the date
of conversion.
This section shall not apply on trust even if the
beneficiary of the trust is a firm or a company
or individual or any other person This section
shall be applicable only if the receiver of the
shares is a company or a firm
9
ISSUES-Sec 56(2)(vii)(a)
Where the shares are distributed by a trust to
its beneficiaries who are companies/firms
Section 56(2)(vii)(a) will be applicable because
Section 56(2)(vii)(a) is talking of receipt of
shares and not purchase or transferor or
donor. Transferor or donor can be any person or
persons
Section 56(2)(vii)(a) will have no application
10
ISSUES-Sec 56(2)(vii)(a)
Company(Share) Consideration FMV
X(1000 Shares) 4001,0004,00,000 5,00,000
Y(500 Shares) NIL 20,000
Z(20 shares) 3,7502075,000 1,00,000
Company (Shares) Option A Option B Option C
X 1,00,000 1,00,000 1,00,000
Y 20,000 NIL NIL
Z 25,000 NIL 25,000
Taxability 1,45,000 1,00,000 1,25,000
Incorrect correct InCorrect
11
ISSUES-Sec 56(2)(vii)(a)
Adequate Consideration separately (Inadequat
e consideration FMV) gt 50000 --
separately Without Consideration , FMV gt 50000
separately AGGREGATE --- INCORRECT
12
SECTION 56(2)(vii)(b)
  • Exclusions
  • Consideration for issue of shares is received
  • By a venture capital undertaking from venture
    capital company or venture capital fund.
  • By a company from a class or classes of persons
    as be notified by the central government in this
    behalf.

receives
13
Valuation of shares Rule 11 UA
  • For Section 56(2)(vii) and Section 56(2)(viia)
  • Quoted Equity Shares
  • Transaction through recognised stock exchange
  • Transaction value as recorded in such stock
    exchange
  • Transaction through un-recognised stock exchange
  • FMV will be
  • The lowest price of such shares and securities on
    any recognised stock exchange on the valuation
    date.
  • If shares did not trade on the valuation date
    then the lowest of such shares on the recognized
    stock exchange on a date immediately preceding
    the valuation date when such shares were traded
    on such stock exchange.
  • Unquoted Equity Shares
  • FMV (Assets Liabilities) x Paid up value of
    such equity share
  • Total Amount of paid up equity share capital

14
Valuation of shares Rule 11 UA
For Section 56(2)(viib) Option 1 Same as
Section 56(2)(vii) / 56(2)(viia) Option 2- The
Fair market value of the unquoted equity shares
determined by a merchant banker or an accountant
as per the discounted cash flow
method. Accountant Any fellow CA who is not
auditor of the company under section 44AB or
statutory auditor whether he is in practice or
not. Treatment of Special / Capital/
Revaluation reserves Liability excludes
Reserves surplus by whatever name
called. DTL/ DTA Not included in asset
/ liability Contingent Liability - Exclude
other than arrears cumulative preference
share dividend
15
ISSUES-Sec 56(2)(ix)
  • This clause is inserted by Finance Act,2014
    w.e.f. 01-04-2015 (Assessment Year 2015-2016)
  • (ix) Any sum of money received as an advance or
    otherwise in the course of negotiation for
    transfer of capital asset if,
  • Such sum is forfeited AND
  • The negotiations do not result in transfer of
    such capital asset.
  • Consequent Amendment has been made in Sec 51
  • Such sum shall not be deducted from the cost for
    which the asset was acquired or the WDV or the
    FMV, as the case may, in computing the cost of
    acquisition.

16
ISSUES-Sec 56(2)(vix)
New Provision Amt. Forfeited 50,00,000 This
amt. shall be taxable under income from other
sources.
Amt. forfeited - 50,00,000 Original COA
10,00,000 Old Provision Amount forfeited is
deducted from COA , it becomes negative and no
treatment for 40,00,000 has been done.
  • In the hands of Buyer
  • The amt. forfeited would not be allowed as
    capital loss.
  • If the seller fails to honor the deal and refund
    back the advance received as well as
    compensation, such amt. would be treated as
    capital gain.
  • The Amt. forfeited by the seller shall not be
    allowed as deduction as revenue expense because
    it was for capital asset.

17
Section 14(A) Expenditure incurred in relation
to exempt income not includible in total income
No deduction shall be allowed in respect of
expenditure incurred by the assessee in relation
to income which does not form part of total
income under this act.
  • Rule 8D ( inserted vide notification S.O. 547 (E)
  • Sub Rule (1) Where AO is not satisfied with
  • Correctness of the claim of expenditure
  • Claim made by the assessee that no expense has
    been incurred.
  • He shall determine such expenditure in accordance
    with the provision of Sub Rule (2).

Expenditure directly related to exempt income
For interest paid not directly attributable to
any income (A x B / C) A Amt. of interest B
Avg. value of investment C Avg.of total Assets
0.5 of Average value of investment
Expenditure under Sub Rule (2) of 8D
18
Section 14(A)-Constitutional validity of
Provisions
19
Section 14(A)-Constitutional validity of
Provisions
20
Section 2(22)(e)- Deemed Dividend
  • Provision
  • Dividend includes
  • Any payment by a company not being a company in
    which the public are substantially interested of
    any sum by the way of advance or loan to

To the extent to which the company possesses
Accumulated Profits
21
Section 2(22)(e)- Deemed Dividend
Dividend under Section 2(22)(e) is taxable in the
hands of
Such dividends shall be taxable in the hands
of the shareholder normal tax rate u/s 56 of
I.T. Act, 1961. at Shall not required to pay
tax on such deemed dividend u/s 115 O of I.T.
Act. Note Where as dividend u/s 2(22) (a), (b),
(c), or (d) is exempt in the hands of shareholder
u/s 10 (34) , the company shall pay CDT on it u/s
115 O of the I. T. Act.
Shareholder
Company
22
Section 2(22)(e)- Deemed Dividend
Substantial Interest in a concern - as per
Explanation 3 of Sec2(22)(e)
  • ... if he is, at any time during the previous
    year, beneficially entitled to not less than 20
    of the income of such concern.
  • shares held by a shareholder in his own name and
    held as guardian to be considered.
  • Case law CIT vs. Sokkalal (T.P.S.H) 236 ITR 981
    (Mad.)(1999)
  • To determined the substantial interest of a
    person in a concern-share held by him/her in two
    different capacities, e.g. as individual and as
    HUF cannot be clubbed.
  • Case law CIT vs. Kunal Organics (P.0 Ltd. 164
    taxman 169 2007 (Ahd.)
  • Meaning of CONCERN As per Explanation 3 of
    sec 2(22)(e)
  • AOP
  • BOI
  • Company
  • HUF
  • Sole Proprietor
  • Firm

23
Section 2(22)(e)- Deemed Dividend
Following conditions are required to be fulfilled
for the availability of sec 2(22)(e)
  • Company- should be one in which the public are
    not substantially interested i.e. should be a
    closely held company.
  • Person- should be a shareholder having not less
    than 10 of voting power.
  • Payment- should be by way of advance or loan and
    made out of accumulated profits of the company.
  • In case loan or advance is to a concern,
    shareholder should have a substantial interest in
    that concern at any time .during the year

24
Section 2(22)(e)- Deemed Dividend
  • Where a loan is advanced to a shareholder, he/it
    Must be the registered as well as a beneficial
    owner of shares. However, where the shareholder
    is a beneficial holder but not the registered
    holder of shares, even then section 2(22) (e)
    would not attract to him.
  • Case law Rameshwarlal Sanwarmal vs. CIT 122 ITR
    1 1980 (SC)
  • Loan to HUF, where members are shareholders .
  • The Tribunal held that the loan advanced by a
    private company to HUF of which the members were
    directors in the company cannot be deemed as
    Dividend in the hands of HUF as HUF was not a
    registered shareholder.
  • ITO v. S.S. Shetty 14 TTJ 71 (Bom) also see
    Harish ChandGolechav. CIT 1981 132 ITR 0030
    (Raj).

25
Section 2(22)(e)- Deemed Dividend
Deemed Dividend u/s 2(22)(e) is taxable in the
hands of Ultimate Recipient of the loan amount...
  • Deemed dividend can be assessed only in hands of
    a person who is a shareholder of lender company
    and not in hands of a person other than a
    shareholder.
  • Deeming fiction of s. 2(22)(e) can be applied
    only in the hands of the shareholder and not the
    non-shareholder Section 2(22) of the Income-tax
    Act, 1961
  • Sadana Brothers Sales (P.) Ltd. v. Asstt. CIT
    2011 10 taxmann.com 122 (Indore - ITAT)
  • In the hands of Shareholders Taxable
  • In the hands of Concern Not taxable

Loan
10 or more voting power
Substantial interest
26
Section 2(22)(e)- Deemed Dividend
  • If loan amount lt Accumulated profits
  • then entire amount of loan is considered as
    deemed dividend.
  • If loan amountgt Accumulated Profit,
  • the amount of loan to the extent of entire
    Accumulated profits(and not to the extent of his
    share in Accumulated profits) will be treated as
    dividend.
  • Case law CIT v. Arati Debi 1978 111 ITR 277
    (Cal.)
  • Duration of loan is not material
  • Advance towards personal expenses shall be
    treated as deemed dividend
  • Loan made by company to the employees i.e.
    Managing Director assessable in the hands of
    shareholder
  • A loan in kind attract the provisions of deemed
    dividend-Any payment by a company of any sum
    representing a part of the assets by way of
    advance made by the company to the shareholder by
    the transfer of goods would come in to the
    provisions of sec. 2(22)(e).
  • Case law M.D. Jindal vs. CIT 164 ITR 028
    (Cal.)(1987)

27
Section 2(22)(e)- Deemed Dividend
  • When a Shareholder doing business with company
    always having debit balanextent of Accumulated
    profits to cover the debit balance, would be
    regarded as deemece, the amount would be regarded
    as loan by the company and to the d dividend u/s
    2(22)(e).
  • Repayment of an earlier loan could not be
    adjusted against advancement of fresh loan, which
    had been deemed to be dividend under section
    2(22)(e) of the Income-tax Act.
  • Provisions of Deemed Dividend shall not be
    applicable to loan received prior bearing
    substantial and beneficial interest in a concern.
  • Ravindra D. Amin v. Commissioner of Income
    tax1994 208 ITR 0815 Gujarat High Court
  • Amount credited to the account by way of
    interest of loan having opening balance can not
    be taxable as deemed dividend.
  • Sec 2(22)(e) covers only the amount received
    during the PY by way of loan/advances.

28
Section 2(22)(e)- Deemed Dividend
  • Repayment of loan or any other adjustment- e.g.
    Remuneration of shareholders credited to the loan
    a/c cannot be set off against loan .
  • Receipt in the nature of share application money
    cannot be construed as loan or advance and
    therefore, it falls beyond the Ken of S.
    2(22)(e).
  • Case Law Ardee Finvest (P) Ltd vs. DCIT ITAT
    - 70 TTJ (Del) 378
  • TDS shall be deducted by the company on such
    payments.
  • Amount given as advance for entering in to
    dealings through shareholder. Could not be
    treated as deemed dividend under sec 2(22)(e)
  • CIT V. Sunil Sethi 26 SOT 95 (ITAT-Del.) (2010)
  • Mere book entries do ot constitute payment by the
    company
  • CIT vs. Smt. Savithri Sam (1998) 144 CTR (Mad) 17
    (1999) 236 ITR 1003 (Mad.)
  • Deemed dividend assesses, if any, in the hands of
    the shareholders in the past AY should be
    deducted from the surplus while determining the
    accumulated profit in the hands of the company

29
Section 2(22)(e)- Deemed Dividend
Exceptions to the Section 2(22)(e)
  • Business Transactions are out of the scope of
    prov. Of sec. 2(22)(e)
  • But dividend does not include
  • any advance or loan made to a shareholder or the
    said concern by a company in the ordinary course
    of its business, where the lending of money is a
    substantial part of the business of the company.
  • Onus is on the assessee to prove the facts
  • Walchand Co. Ltd. V. CIT 100 ITR 598 (1975)
    (Bom.)
  • Trade advances given to the company will not
    attract 2(22)(e)
  • Inter Corporate Deposits are different from loans
    or advances would not come within preview of
    deemed dividend u/s 2(22).
  • Case law Bombay Oil Industries Ltd. V. Dy. CIT
    28 SOT 383 (Mum) (2009)

30
Section 2(22)(e)- Deemed Dividend
  • Non taxable accumulated capital gains-
    distributed to the shareholders of a company
    would not be dividend.
  • Tea Estate India P. Ltd. vs. CIT 103 ITR 0785
    (1976) (SC)
  • Accumulated profit does not include
  • Share Premium Account
  • Share forfeiture receipts
  • Capital reserve
  • Subsidy on capital Account
  • Therefore Dividend can be declared by the company
    only out of revenue reserves and not from the
    capital reserves.

31
Cash Credit (Section 68 of Income Tax Act
  • Any Sum
  • Found credited in the book of an assessee
    maintained for previous year
  • Assessee offers no explanation about the nature
    and scope
  • OR the explanation offered by him in not in the
    opinion of AO, satisfactory
  • MAY be charged to Income tax
  • As the income of the assessee of that previous
    year.

32
Cash Credit (Section 68 of Income Tax Act
  • Provided that where
  • Assessee is a company (closely held company)
  • And sum so credited consists share application,
    share capital, share premium or any such amount
  • Explanation offered by assessee company shall
    be deemed to be not satisfactory, unless
  • the person, being a resident in whose name such
    credit is recorded in the books of such company
    also offers an explanation about the nature and
    scope of such sum so credited, AND
  • Such explanation in the opinion of AO aforesaid
    has been found to be satisfactory.
  • Provided further that
  • first proviso shall not apply if the person in
    whose name the sum referred to therein is
    recorded is Venture capital fund or a Venture
    capital company referred in clause (23FB) of
    section 10.

33
Cash Credit (Section 68 of Income Tax Act
Finance Act insert two provisos, w.e.f.
01-04-2013 First Proviso .. Enlarge the onus of
closely held company and provides that if a
closely held company receives any share
application money or share capital or premium or
like, Income tax should also establish the SOURSE
OF SOURCE ( i.e. resident from whom such money
is received. Second Proviso provides that first
proviso will not apply if the receipt of such sum
is from VCF or VCC.
34
Cash Credit (Section 68 of Income Tax Act
  • There must exist books of accounts
  • As per Section 2(12A) of Income Tax Act books
    includes ledgers, day books, cash books, accounts
    books and other books.
  • In Central Bureau of Investigation v. V.C.
    Shukla 1998 3SCC 410, the Supreme Court has
    held that loose sheets or scraps of paper cannot
    be termed as book for they can be easily
    detached and replaced.
  • Books of accounts must be of assessee himself
  • Books of account of a partnership firm cannot be
    considered to be the books of account of the
    partner. Any cash credit shown therein cannot be
    brought to tax as income under Section 68 in the
    hands of the partners.

35
Cash Credit (Section 68 of Income Tax Act
  • Bank Pass book is not books of account for the
    purpose of Section 68.
  • if AO finds any unexplained transaction in the
    bank passbook of the assessee then same can be
    taxed as unexplained money under Section 69A of
    the act.
  • Additions in the Partners capital account
  • Issue whether firm is liable to explain and
    whether addition can be made to firms income in
    such case under Section 68 ?
  • In CIT v. Metachem Industries 2000 245 ITR
    160(MP), it has been held that where the
    assessee-firm had satisfactorily explained the
    credits standing in the name of its partners, the
    responsibility of the assessee stands discharged.
  • It is open to the A.O to undertake further
    investigation with regard to that individual who
    has deposited the amount.

36
Cash Credit (Section 68 of Income Tax Act
  • Provision applies to all credit entries
  • the language of section 68 shows that it is
    general in nature and applies to all entries in
    whomsoever name they may stand, that us whether
    in the name of the assessee, or a third party.
  • Whether in the revenue nature or capital nature.
  • Section does not make any distinction between
    commercial and non commercial transactions.
  • Burden of Proof
  • In order to discharge the onus, the assessee must
    prove the following
  • the identity of the creditor
  • The capacity of the creditor to advance money and
  • Genuineness of the transaction.
  • Recent Case CIT v. Oasis Hospitality Pvt Ltd.,
    333, ITR, 119, (Delhi HC,2011
  • In the comprehensive survey of the law,
    reiiterated that the initial onus is one the
    assessee to establish all three of these factors.
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