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PETITIONER: ANARKALI SARABHAI,SHAHIBAG HOUSE, AHMEDABAD

       Vs.

RESPONDENT: COMMISSIONER OF INCOME TAX,AHMEDABAD

DATE OF JUDGMENT:       24/01/1997

BENCH: S.C. AGRAWAL, SUHAS C. SEN

ACT:

HEADNOTE:

JUDGMENT:                       J U D G M E N T SEN, J.      In this case the question of law is:      Whether, on  the facts  and in the circumstances of the      case, the  Tribunal was  justified in  holding that the      assessee was  liable to  pay tax  in respect of capital      gains on  receipt of the amount equal to the fact value      of the  preference shares of M/s. Universal Corporation      Pvt. Ltd.  on  the  company  redeeming  its  preference      shares?      The High Court answered the question in the affirmative and  against   the  assessee.   The  High  Court  granted  a certificate of  fitness for  appeal under Section 261 of the Income Tax  Act in  view of  the fact  that they had taken a view contrary  to the  view adopted by the Madras High Court on this question.      The facts of the case, as stated in the judgment of the High Court, are as under:-      "The assessee  is an individual and the assessment year      under reference is assessment year 1969-70, the year of      account being the calendar year 1968. The assessee held      297 redeemable  preference  shares  of  M/s.  Universal      Corporation  Private  Limited  a  company  incorporated      under the Companies Act (hereinafter referred to as the      "Company"). The  face value of such of these preference      shares was  Rs. 1,000/-  and, therefore, the total face      value  of  these  shares  came  to  Rs.2,97,000/-.  The      assessee had  purchased these shares for Rs.2,68,550/-.      The Company decided to redeem the preference shares and      the assessee  received Rs.2,97,000/-  face value of the      shares held  by her  in the year of account relevant to      the assessment  year under reference. Thus the value of      the shares  received by the assessee exceeded the value      which he  had paid for these shares by Rs.30,450/-. The      Income Tax  Officer, assessing  the assessee  sought to      tax this  amount of  difference as  capital gains under      Section 45 of the Act. The assessee resisted the action      proposed by  the Income  Tax Officer by contending that      redemption of  her preference  shares  by  the  Company      would not  amount to  transfer within  the  meaning  of

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    Section  2(47)   of  the   Act  and   consequently  the      difference between  the value  received by her from the      Company on redemption of shares and the price which she      had paid  for the  shares was  not exigible  to tax. In      other words,  according to  the assessee  even if there      was any  profit or  gain, as  a result of redemption on      shares by the Company, such profit or gain could not be      said to  have arisen  from the  transfer of  a  capital      asset. The  Income Tax  Office, however,  rejected  the      contentions  raised  on  behalf  of  the  assessee  and      brought capital  gains arising out of the redemption of      the shares to tax."      The Appellate  Assistant Commissioner  as well  as  the Tribunal upheld the view taken by the Income Tax Officer.      It has  been contended  by Mr.  G. Ganesh  appearing on behalf of  the  appellant  that  there  is  no  question  of applicability of  Section 45  of the  Income Tax Act in this case because  no ‘transfer’  of the  preference  shares  had taken place  because of  the redemption  of the  shares. The capital received  by the  Company had  been returned  to the shareholder. The  money was  not paid  by the Company to the shareholder because  of any sale, exchange or relinquishment of the capital asset or extinguishment of any right therein. Our attention  was invited  to the  definition of ‘transfer’ and it  was contended that redemption of shares did not come within the mischief of Section 2(47).      Sections 2(47)  and  45(1)  are  as      follows:-      "2(47). ‘transfer’,  in relation to      a capital asset, includes,-      (i)   the    sale,   exchange    or      relinquishment of the asset; or      (ii)  the   extinguishment  of  any      rights therein; or      (iii)  the  compulsory  acquisition      thereof under any law; or      (iv) in  a case  where the asset is      converted  by   the  owner  thereof      into, or  is  treated  by  him  as,      stock-in-trade   of    a   business      carried on  by him, such conversion      or treatment; or      (v) any  transaction involving  the      allowing of  the possession  of any      immovable property  to be  taken or      retained in  part performance  of a      contract of  the nature referred to      in section  53A of  the Transfer of      Property Act, 1882 (4 of 1882); or      (vi) any  transaction  (whether  by      way of  becoming a  member  of,  or      acquiring shares in, a co-operative      society,    company     or    other      association of persons or by way of      any agreement or any arrangement or      in  any  other  manner  whatsoever)      which    has    the    effect    of      transferring,   or   enabling   the      enjoyment   of,    any    immovable      property;      Explanation. -  For the purposes of      sub-clauses    (v)     and    (vi),      ‘immovable property’ shall have the      same meaning  as in  clause (d)  of      section 269UA;

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    order to  get this  amount the  assessee had to give up abandon or  surrender the shares held by her. The meaning of the word  ‘relinquish’ as  given in  Webster’s Comprehensive Dictionary, International  Edition 1984,  is "1. To give up; abandon; surrender.  2. To  cease to  demand;  renounce;  to relinquish a  claim. 3.  To let  go  (a  hold  or  something held)." The  assessee in  this case  has given up the shares and has  received in  lieu thereof  a sum of money. This, in our view,  comes clearly  within  the  mischief  of  Section 2(47)(i).      That apart,  in court  view the  transaction amounts to "sale".      Under the  provisions of  the Companies  Act, 1956  the share capital  of a  company limited by shares may be of two kinds -  (a) equity  share capital  and (b) preference share capital.  Section  85  of  the  Companies  Act  has  defined "preference share  capital" to  mean that  part of the share capital of  the company  which fulfils  both  the  following requirements:-      (a)  as   respects  dividends,   it      carries    or    will    carry    a      preferential right  to  be  pair  a      fixed   amount    or   an    amount      calculated at  a fixed  rate, which      may be   either  free of or subject      to income-tax; and      (b)  with  regard  to  capital,  it      carried or will carry, on a winding      up  or   repayment  of  capital,  a      preferential right to be repaid the      amount of  the capital  paid up  or      deemed  to   have  been   paid  up,      whether   or   not   there   is   a      preferential right  to the  payment      of either  or both of the following      amounts namely:-      (i) any  money remaining unpaid, in      respect of the amounts specified in      clause (a),  up to  the date of the      winding up or repayment of capital;      and      (ii) any  fixed premium  or premium      on any  fixed scale,  specified  in      the memorandum  or articles  of the      company.      Section 85(2)  of the Companies Act has defined "equity share capital"  to mean  "all share  capital  which  is  not preference share  capital." Section  80 of the Companies Act lays down  that a  company limited  by  shares  may,  if  so authorised by  its articles,  issue preference  share  which are, or at the option of the company are to be liable, to be redeemed. This  section, however,  lays down that preference shares must  not be  redeemed except  out of  profits of the company which  would otherwise  be available for dividend or out of  the proceeds of a fresh issue of shares made for the purposes of  the redemption.  They cannot be redeemed unless they are  fully  paid.  The  premium,  if  any,  payable  on redemption must have been provided for out of the profits of the company  or out  of the  company’s share premium account before they are redeemed.      There are  other provisions in Section 80 which are not necessary for  the purpose  of this  case. But, it has to be noted that  it has been specifically provided in sub-section (3) that  the redemption  of preference  shares shall not be treated as  reduction of  the amount of the authorised share

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capital. The  balance sheet  of the company which has issued redeemable preference  shares must  specify any  part of the issued capital  of the company that consists of such shares, the earliest and latest dates on which the company has power to redeem  them, whether  they must be redeemed in any event or are  liable to  be redeemed at the option of the company, and whether  any (and,  if so,  what) premium  is payable on redemption.      The other  provision of  the  Companies  Act  which  is important in  this connection  is Section  77  which  is  as under:-      "77. Restrictions  on  purchase  by      company, or  loans by  company  for      purchase, of its own or its holding      company’s shares.-      (1) No  company limited  by shares,      and no company limited by guarantee      and having  a share  capital, shall      have power  to buy  its own shares,      unless the  consequent reduction of      capital is  effected and sanctioned      in pursuance of sections 100 to 104      or of section 402      (2)    ...                      ...      ...      (3)    ...                      ...      ...      (4)    ...                      ...      ...      (5) Nothing  in this  section shall      affect the  right of  a company  to      redeem  any   shares  issued  under      Section    80    or    under    any      corresponding  provision   in   any      previous companies law."      This section  clearly implies  that redemption  of  its preference shares  by a  company would  have come within the bar of purchasing its own shares by a company. This specific provision of  sub-section (5)  was necessary to get over the bar. The  company redeemed  its preference  shares  only  by paying the  preference shareholders  the value of the shares and taking  back  the  preference  shares.  In  effect,  the company has  bought back  the  preference  shares  from  the shareholders. It  may have  been done  at a  date set by the terms of the issue. When a preference share is redeemed by a company, what  a shareholder  does in  effect is to sell the share to  the company,.  Such a  transaction is  nothing but sale of  the preference  shares by  the shareholders  to the company. That  is why  after  specifically  laying  down  in Section 77(1)  that no  company shall  have the power to buy its own  shares, it  was necessary to specify in sub-section (5) that  this provision  shall not  affect the  right of  a company to  redeem any  shares issued  under Section  80. If redemption of  preference shares  did not amount to sale, it would not  have been  necessary to specifically provide that the restriction  imposed upon a company in respect of buying its own shares will not apply to redemption of shares issued under Section 80.      Therefore, in my judgment, the redemption of preference shares by  the company  will squarely come within the phrase "sale, exchange or relinquishment of the asset".      There can  be no  dispute that  the shares  held  by  a member in  a company is movable property transferable in the manner  provided  in  the  Article  of  Association  of  the company. There can also be no dispute that the shares can be

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held by a member as stock-in-trade or capital assets. In the instant case,  the preference  shares were  held as  capital assets. The  excess amount  received by  the shareholder  on redemption of  these shares  will  have  to  be  treated  as capital gain in view of the provisions of Section 2(47) read with Section 45 of the Income Tax Act.      I shall  not refer to the various cases that were cited at the bar.      In the  case of  Commissioner of Income Tax, Gujarat v. R.M. Amin,  106 ITR  368, the  company went  into  voluntary liquidation. The  assessee  as  a  shareholder  received  an amount from the liquidator which was in excess of the amount that he  had paid  for those  shares. It was held that there was no  transfer of  any capital  asset within the mewing of Section 2(47)  of the  Income Tax.  Act. When  a shareholder receives  money  representing  totality  of  rights  in  the property. In  the third  case, there may be reduction of the exclusive interest  in the  totality of  the rights  of  the original owner into a joint or a share interest with others. An exclusive interest in property was a larger interest than a share  in that  property.  To  the  extent  to  which  the exclusive interest  was reduced to share interest, there was a transfer of property.      This again,  has no  bearing on  the  question  whether redemption  of   preference  shares  will  come  within  the mischief of Section 2(47) of the Income Tax Act.      The Bombay High Court in Sath Gwaldas Mathuradas Mohata Trust v. Commissioner of Income Tax, 165 ITR 620, dealt with the question  which has  now arisen  in this case. There the question was  whether the amount received by the assessee on redemption of  preference shares was liable to tax under the head "capital  gains". After  referring to the meaning given to "transfer"  by Section  2(47) of  the Income Tax Act, the Court held:      "Here, a  regular "sale" itself has      taken place.  That is  the ordinary      concept of  transfer.  The  company      paid the  price for  the redemption      of the  shares out  of its  fund to      the assessee  and  the  transaction      was clearly  a purchase. As rightly      observed by  the Tribunal,  if  the      company had  purchased  a  valuable      right,  the  assessee  had  sold  a      valuable  right.   "Relinquishment"      and "extinguishment"  which are not      in the  normal concept  of transfer      but are  included in the definition      by the extended meaning attached to      the word  are also attracted in the      transaction. The shares were assets      and they  were relinquished  by the      assessee and thus relinquishment of      assets did take place. The assessee      by virtue  of his being a holder of      redeemable  cumulative   preference      shares had  a right  in the profits      of the  company, if  and when made,      at  a  fixed  rate  of  percentage.      Quite   obviously,   this   was   a      valuable right  and this  right had      come to  an end  by  the  company’s      redemption  of  shares.  Thus,  the      transaction   also    amounted   to      "extinguishment"  of  right.  Under

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    the circumstances,  viewed from any      angle, there  is no escape from the      conclusion that  section 2(47)  was      attracted and  that the  amount  of      Rs.50,000 received  by the assessee      was liable  to be  taxed under  the      head "Capital gains".      The view  taken by  the Bombay  High Court accords with the view  taken by  the Gujarat  High Court  in the judgment under appeal.  In the  judgment under appeal, it was pointed out that  the genesis  of reduction or redemption of capital both involved  a return  of  capital  by  the  company.  The reduction of  share capital  or redemption  of shares  is an exception to  the rule  contained in  Section 77(1)  that no company limited  by shares  shall have  the power to buy its own shares.  When it  redeems its preference shares, what in effect and  substance, it  does is  to  purchase  preference shares. Reliance  was placed  on the passage from Buckley on the Companies Acts, 14th Edn., Vol. , at p. 181:      "Every return  of capital,  whether      to all  shareholders or  to one, is      pro  tanto   a  purchase   of   the      shareholder’s rights. It is illegal      as a  reduction of  capital, unless      it  be  made  under  the  statutory      authority, but  in the  latter case      is perfectly valid."      Reference   was    also   made   to      Pennington’s company Law, 4th Edn.,      p 192:      "The general rule is that a company      cannot issue  shares on  terms that      it shall  or may  redeem them at an      agreed  future  date,  because  the      redemption  would   amount   to   a      purchase by  the company of its own      shares, which is illegal."      We are  of the  view that  the High Court has come to a right decision  in this  case. The  redemption of preference shares in  the facts  of this case will squarely come within the meaning  of the phrase "sale, exchange or relinquishment of the asset".      We were  also referred  to a  decision of  Madras  High Court which  was a  case of  reduction of  share capital and also the  decision in  Commissioner of Income Tax, Bombay v. Rasiklal Maneklal (HUF), 177 IIR 198, which again was a case of amalgamation of two companies. In the facts of that case, it was  held that  there was  neither any  exchange nor  any relinquishment of  an asset  by the  assessee. Consequently, there was  no transfer  within the meaning of Section 12B of the Indian Income Tax Act, 1922.      The case of Vania Silk Mills P. Ltd. v. Commissioner of Income Tax,  191 ITR  647, is also not of any assistance for the purpose  of this  case. That  was a case where insurance money was  paid for  loss of machinery. It was held that the amount received  in replacement  of machinery  could not  be treated as  capital gain  because payment of insurance claim was not  in consideration for machinery taken over. This was not a  case of  extinguishment of  right in  the property on account of destruction or loss of asset.      Mr. Ganesh  also strenuously  argued that this is not a case where the extinguishment of any right in the preference shares had  taken place.  The preference  share itself stood extinguished  by   redemption.  Therefore,  clause  (ii)  of Section 2(47) could not be invoked in the facts of this case

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to bring  the surplus amount received by the assessee to tax as capital gains under Section 45 of the Income Tax Act.      In court  vies, the  case squarely  comes within clause (i) of  Section 2(47).  Therefore, it  is not  necessary  to express any opinion on the last contention of Mr. Ganesh.      The appeal  is dismissed.  The  judgment  under  appeal dated 18/22-8-1992  is affirmed.  There would be no order as to costs.