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PETITIONER: MISS DHUN DADABHOY KAPADIA

       Vs.

RESPONDENT: COMMISSIONER OF INCOME-TAX, BOMBAY

DATE OF JUDGMENT: 31/10/1966

BENCH: BHARGAVA, VISHISHTHA BENCH: BHARGAVA, VISHISHTHA SHAH, J.C. RAMASWAMI, V.

CITATION:  1967 AIR  614            1967 SCR  (2)   1  CITATOR INFO :  RF         1966 SC 368  (16)  RF         1986 SC1695  (32)

ACT: Income-tax Act (11 of 1922), s. 12B(2)-Renouncement of right shares    for money value-Depreciation in value of  original shares-Capital gain how calculated.

HEADNOTE: The  assessee was holding ’as an investment 710 shares in  a company.  She  became  entitled to receive  710  new  shares issued by the company, with an option to renounce them.  She renounced her right to receive     the  new shares by,  sale in   the   open   market  and  realised   a   sum   of   Rs. 45,262.50.Income-Tax officer  sought  to  tax  the  entire amount    as a capital gain. Immediatelybefore      the renouncement,  the old share, were valued at Rs. 253.00  per share.  After renouncement the price of the old shares  fell to Rs. 198.75as a result of which, the assessee suffered a capital  loss of about Rs. 38,000.  ’Me assessee  claimed  a set  off  of  this  loss against the  capital  gain  of  Rs. 45,262.50.   The  plea  was  rejected  by   the   Income-tax Authorities, the Appellate Tribunal and the High Court. In appeal to this Court, HELD  : The claim of the assessee that her net capital  gain was  not represented by Rs. 45,262.50 was correct.  The  net capital gain could only be properly computed after deducting the  sum which approximately represented the  loss  incurred simultaneously,  by the assessee, in her original  asset  of 710  old  shares as a result of the  depreciation  in  their value. [4 E, H] In  working  out capital gain or loss, the  principles  that have  to  be  applied are those which  an  ordinary  man  of business  will  resort to when making  computation  for  his business  purposes,  or which are a part of  the  commercial practice. [5 G] Immediately before the assessee, renounced her right to take the new shares, the capital asset she possessed consisted of her  old 710 shares valued at Rs. 253.00 per share plus  the right  to  take the new 710 shares. After  renouncement  her

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capital assets were 710 old shares valued at Rs. 198,75  per share  together with the sum of Rs.  45,262.50.  Therefore., the  value of the capital asset after renouncement would  be Rs.  710 x 198.75 plus Rs. 45,262.50 while the value of  the asset,  immediately before renouncement, would be Rs. 710  x 253.00, there being no cash value, at the time of the  right to  receive the new shares, to be taken into  account;  and, the net capital gain of the assessee would be the difference between the two. [4 C-G] Alternatively,  at the time of the issue of new  shares  the assesee possessed 710 shares and the right to obtain the new shares allotted.  When she sold that right and realised  Rs. 45,262.50, she capitalized that right and converted it  into money.   A concomitant of the acquisition of the, right  was the  depreciation  in the value of the old shares,  and  the depreciation,  is, in a commercial sense, the value  of  the right  which she subsequently transferred.  The net  capital gain  by  her  would, therefore, be resented,  only  by  the difference between the money realised on transfer the right, and the amount which she lost in the form of depreciation of her original shares in order to acquire that right. [5 A-E] 2 C.I.T,. Bihar v. Dalmia Investment Co. Ltd. [1964] 7  S.C.R. 210 followed.

JUDGMENT: CIVIL APPELLATE JURISDICTION : Civil Appeal No. 757 of 1965. Appeal from the judgment and order dated August 24/25,  1962 of  the Bombay High Court in Income-tax Reference No. 12  of 1961. R.   J. Kolah and O. C. Mathur, for the appellant. S.   K. Aiyar and R. N. Sachthey, for the respondent. S.   T. Desai, O. C. Mathur, for interveners. The Judgment of the Court was delivered by Bhargava, J. This appeal by certificate granted by the  High Court  of Bombay under section 66A(2) of the Indian  Income- tax  Act,  1922 (hereinafter referred to as  "the  Act")  is directed  against the answer returned by the High  Court  to the  following  question referred to it  by  the  Income-tax Appellate Tribunal under s. 66(1) of the Act:-               "Whether  having regard to the  provisions  of               section  12B(ii), the assessee is entitled  to               claim  a deduction from the full value of  the               consideration  of Rs. 45.262.50  nP.  received               for  the capital asset, the sum of Rs.  37,630               or any similar sum?" The case arose out of proceedings for assessment of the  ap- pellant  for the assessment year 1957-58, the  corresponding previous  year  being  the  financial  year  1956-57.    The appellant  was holding 710 ordinary shares of the Tata  Iron and  Steel  Company Ltd. (hereinafter referred  to  as  "the Company"), which she had inherited some  time prior  to  Ist January, 1954, as an investment.It was    admitted   that she was not a dealer in shares. Under aspecial   resolution passed at an Extraordinary General Meetingof the  Company on 12th March, 1956, the appellant, as holderof     710 ordinary  shares, became entitled to purchase  new  ordinary shares issued in the ratio of one new ordinary share for one existing  ordinary  share as held on 26th April,  1956.   In pursuance  of  this resolution, an; offer was  made  to  the appellant  by the Company by its circular letter dated  15th May,  1956,  that  she  was, in  terms  of  the  resolution, entitled to apply for 710 new ordinary shares to be paid for

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at the rate of Rs. 105 per new ordinary share.  This payment was  to represent Rs. 75 as the face value of the share  and Rs. 30 as premium.  She was also given the option of  either taking  the  shares  wholly or partly,  or  renouncing  them either  wholly or partly, in favour of any other  person  or persons.  The appellant chose to- renounce her right to  all the  710  ordinary  shares  instead  of  taking  the  shares herself,  and when renouncing the shares, she sold  them  in the open market on 12th June, 1956, as a result 3 of  which she actually realised a sum of Rs.  45,262/50  nP. It  was common ground before the Income-tax  authorities  as well as the Tribunal that this amount received by her was  a capital  gain and the whole of this amount was sought to  be taxed as capital gain received by the appellant.  On  behalf of  the appellant, the, plea was that, on the issue  of  the new  ordinary shares, the value of her old  ordinary  shares depreciated,  because  the assets of  the  Company  remained stationary, while the number of shares increased.  It was in consideration of this depreciation in her original  holdings that she was given the right to purchase these new  ordinary shares,  or to renounce them in favour of some other  person and make up the loss which she would suffer on her  original shares.   The  Board of Directors of the  Native  Stock  and Share  Association  Ltd. had passed a  resolution  that  the transactions in these shares were to be cum-right up to  and including Ist June, 1956, and were to be ex-rights from  4th June,  1956,  onwards.  The intervening days,  2nd  and  3rd June,   being  official  holidays,  there  were  to  be   no transactions on those days.  The market quotation of the old Tata  ordinary  shares was Rs. 253 per share on I  st  June, 1956,  and fell to Rs. 198/75 nP on 4th June,  1956.   There was  thus, a fall in the market quotation of old  shares  of Rs. 54/25P per share.  It was claimed by the appellant that, as  a  result of this depreciation in the price of  her  old ordinary shares, she suffered a capital loss in those shares to the extent of Rs. 37,630, and she was entitled to set off this loss against the capital gain of Rs. 45,262/ 50P  which she  realised on selling her right to take the new  ordinary shares.  In the alternative, the case was put forward on the basis  that the right to receive these new  ordinary  shares was  a right which was embedded in her old ordinary  shares, and   consequently,  when  she  realised  the  sum  of   Rs. 45,262/50P by selling her right, the capital gain should  be computed after deducting from this amount realised the value of the embedded right which became liquidated.  The value of that right, according to the appellant, should be calculated in  accordance  with the principles of Accountancy  as  laid down by various authors on the subject to be applied in such situations.  Even if this principle be accepted, the  amount taxable  as  capital  gain in her hands  would  have  to  be reduced by at least a sum of Rs. 37,630, if not more.   This plea put forward on behalf of the appellant was rejected  by the  Income-tax  Authorities as well as  by  the  Income-tax Appellate Tribunal.  Thereupon, the question, reproduced  by us above, was referred to the High Court by the Tribunal and the High Court also answered it against the appellant.   The appellant  has,  therefore, come up to this  Court  in  this appeal. In order to answer the question referred to the High Court, it  appears to us that the nature of the transaction,  which resulted 4 in this receipt of Rs. 45.262/50P by the appellant, must  be analysed  and  properly understood.  The amount, it  is  the

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agreed case of the parties, was a capital gain.  The capital asset which the appellant originally possessed consisted  of 710  ordinary  shares of the Company.  There was  already  a provision that, if the Company issued any new shares,  every holder  of  old shares would be entitled to such  number  of ordinary  shares  as the Board may, by  resolution,  decide. This  right  was possessed by the appellant because  of  her ownership of the old 710 ordinary shares, and when the Board of Directors of the Company passed a resolution for issue of new  shares,  this  right of the appellant  matured  to  the extent  that she became entitled to receive 710 new  shares. This right could be exercised by her by actually  purchasing those shares at the prescribed rate, or by renouncing  those shares  in favour of another person and  obtaining  monetary gain in that transaction.  At the time, therefore, when  the appellant renounced her right to take these new shares,  the capital asset which she actually possessed consisted of  her old  710 shares plus this right to take 710 new shares.   At the  time of her transaction, her old shares were valued  at Rs.  253  per  share,  so that  the  capital  asset  in  her possession  can  be  treated to be the  cash  value  of  710 multiplied  by Rs. 253 of the old shares plus this right  to obtain new shares.  After she had transferred this right  to obtain  new  shares, the capital assets that came  into  her hands  were the 710 old shares, which became valued  at  Rs. 198/75P per share, together with the sum of Rs.  45,262/50P. The  net  capital gain or loss to  the  appellant  obviously would  be  the difference between the value of  the  capital asset and the cash in her hands after she had renounced  her right and realised the cash value in respect of it, and  the value  of  the capital asset including the right  which  she possessed before those new shares were issued and before she realised  any cash in respect of the right by renouncing  it in favour of some other person.  As we have indicated above, the value of the capital asset, after renouncement, would be 710  multiplied by Rs. 198/75P plus the sum of  Rs.  45,262/ 50P,  while the value of the asset, immediately  before  the renouncement,  would  be 710 multiplied by  Rs.  253,  there being  no cash value at that time of the right to  be  taken into  account.   Thus,  the capital gain or  loss  would  be worked out at Rs. 45,262/50P after deducting from it the sum worked  out at 710 multiplied by the difference between  Rs. 253  and  Rs. 198/75P.  This last amount comes to  a  little more than the sum of Rs. 37,630 which the appellant  claimed should  be  deducted from Rs. 45,262/50P  in  computing  her capital  gain.   The claim made by the  appellant  was  thus clearly  justified, because the net capital gain by  her  in the  transaction,  which consisted of issue  of  new  shares together  with her renouncement of the right to receive  new shares  and make some money thereby, could only be  properly computed in the manner indicated by us above. 5 In  the  alternative, the case can be  examined  in  another aspect.   At  the  time  of the issue  of  new  shares,  the appellant  possessed  710 old shares and she  also  got  the right to obtain 710 new shares.  When she sold this right to obtain   710  new  shares  and  realised  the  sum  of   Rs. 45,262/50P, she capitalised that right and converted it into money.   The value of the right may be measured  by  setting off  against the appreciation in the face value of  the  new shares the depreciation in the old shares, and consequently, to  the  extent  of the depreciation in  the  value  of  her original  shares, she must be deemed to have invested  money in  acquisition  of this new right.  A  concomitant  of  the acquisition  of  the newright was the  depreciation  in  the

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value  of  the old shares, and the depreciation  may,  in  a commercial  sense,  be deemed to be the value of  the  right which  she subsequently transferred.  The capital gain  made by  her  would,  therefore,  be  represented  only  by   the difference  between  the money realised on transfer  of  the right,  and  the  amount  which she  lost  in  the  form  of depreciation of her original shares in order to acquire that right.  Looked at in this manner also, it is clear that  the net  capital gain by her would be represented by the  amount realised  by her on transferring the right to  ’receive  new shares, after deducting therefrom the amount of depreciation in  the  value  of  her original  ’shares,  being  the  loss incurred  by her in her capital asset in the transaction  in which  she  acquired the right for which  she  realised  the cash.  This method of looking at the transaction also  leads to  the  same  conclusion which we  have  indicated  in  the preceding paragraph. The view that we have taken finds support from the principle laid down by this Court for valuation of bonus shares issued by  a company to holders of original shares in the  case  of Commissioner  of income-tax, Bihar v. Dalmia Investment  Co. Ltd.(1) The High Court, in dealing with this question, had expressed the  view  that  principles  of  Accountancy  applicable  to valuation  of such right to receive new shares issued  by  a company  are not applicable when computation has to be  made for  purposes of taxation; but we are unable to accept  this proposition.   In  working  out capital gain  or  loss,  the principles  that  have to be applied are those which  are  a part of the commercial practice or which an ordinary man  of business  will  resort to when making  computation  for  his business  purposes.  The principles of accounting  indicated by us above are clearly the principles that must be  applied in  order to find out the net capital gain or  loss  arising out  of  a  transaction  of the nature  with  which  we  are concerned.   The application of those  principles  indicates that the claim of the appellant that the net capital gain by her is not represented by the whole amount of Rs. 45,262/50P realised by her on renouncement of her right to (1)  [1964]7S.C.R.210;521.T.R.567. 6 receive the new shares was correct and that the net  capital gain  can only be properly computed after deducting the  sum of  Rs.  37,630  which approximately   represents  the  loss incurred  simultaneously  by the appellant in  her  original asset  of 710 old shares as a result of the depreciation  in their value.  The question referred to the High Court  must, therefore,  be  answered in favour of  the  appellant.   The appeal is, consequently, allowed, the answer returned by the High Court is set aside, and the question is answered in the affirmative.  The appellant will be entitled to her costs in this Court as well as in the High Court. V.P.S. Appeal allowed. 7