Issue of
shares at less than Fair Market Value(FMV)- No Income Tax Implications for
investor.
Based on prevalent language of
Section 56(2)(viia), doubt is expressed in many circles that if unlisted company issues shares at less
than FMV to company or Firm, then excess of FMV over issue price will
be taxable in the hand of investors as Income from other sources.
I think that said apprehension
is not correct because if section 56(2)(viia) is interpreted in way as
mentioned afore-said, then it will lead to incongruity in application of other
explicit provisions of Income Tax Act.
Attempt is being made hereunder
to understand that how such interpretation of section 56(2)(viia) will lead to
inconsistency.
Analysis of Section 56(2)(viia)
Said section provides as
under:-
1.
When Firm or company, not being a company in
which public are substantially interest (Unlisted) receives
2.
Any shares of company, not being a company in
which public are substantially interest (Unlisted)
3.
Without consideration and FMV of such shares are
more than Rs. 50,000, then entire FMV will be taxable in the hands of Firm or
Company
4.
For a
consideration and where difference between consideration and FMV is more
than Rs. 50,000, then FMV less consideration will be taxable in the hands of firm
or company
The whole controversy revolves
around the use of words “Receives” in section 56(2)(viia). Since the word
“Receive” is not defined in the Act, one may argue that “Receive” means receipt
of shares on account of transfer by transferor or on account of fresh issue of
shares.
The apprehension on taxability
in the hands of Investor, when unlisted company issues shares at less than FMV
is blown out of proportion and it appears not to be intention of law to bring
within the ambit of taxation this aspect, analysed as under:-
The reasoning is as under:-
1. Section 56(2)(vii)
a)
Said section was introduced upon abolition of
Gift Tax Act and thereupon, the value of gift was made taxable in the hands of
Donee.
b)
Said section is applicable on Individual and HUF.
c)
Among other things, this section provides that
where individual/HUF receives any
Property (Shares & Securities
{listed and unlisted), jewellery, etc) without consideration or for
consideration, the FMV or FMV less consideration will be taxable in the hands
of Individual/HUF, as the case may be.
d)
In this section also, the words use is “Receive”
e)
Now consider that case where Listed company
comes with the Right Issue
i)
In case of listed shares, the FMV of shares is
prevailing Market Price as per rule 11U of Income Tax Rules
ii)
Right issue is generally less than FMV.
iii)
This implies that only Individual/HUF investor will be taxable
for difference between FMV and consideration. Moreover individual/HUF retail
investors do not have any say in pricing of right issue of listed companies
iv)
Company/firm will not be taxable, since section
56(2)(vii) covers only Individual and HUF and under section 56(2)(viia) where
company/firm is covered, no tax implication is called where shares of listed
company are involved.
v) Had
the intention of law is to bring right issue within the ambit of taxation in
the hands of Individual/HUF investor and to create such differentiation in
taxability between Individual/HUF and Company/firm, it could have provided the
same explicitly as provided in section 56(2)(viib), wherein upon issue of
shares by unlisted company at premium, excess consideration on allotment over
FMV of shares, will be taxable in the hands of Company.
f) If from afore-said, it can be concluded
that section 56(2)(vii) is not intended to tax the right issue in the hands of
individual/HUF investors on account of
use of words “Receive”, similar conclusion can be drawn that word
“Receive” used in section 56(2)(viia) is not intended to cover the fresh allotment
shares by company within its purview.
2. Bonus shares
a.
If words “receives” as used in section 56(2)(vii)
& 56(2)(viia) is interpreted to cover allotment of shares, then every bonus
shares will be taxable in the hands of investors as under:-
i)
In case of individual/HUF, value of bonus shares
issue by every company, whether listed or unlisted, will be taxable in the
hands of them.
ii)
In case of Company/firm, value of Bonus shares
issued by unlisted company will be taxable in the hands of them.
b.
As per Section 49(4), where assessee is subject
to tax u/s 56(2)(vii) or 56(2)(viia), then cost of acquisition of shares, in
the instant case, in the hands of assessee will be FMV of shares on the date of
receipt.
c.
Further as per section 55(2)(aa)(iiia), cost of
acquisition of bonus shares in the hands of investor will be NIL
d.
If words “receive” is interpreted to cover
allotment of shares, then further ambiguity will develop to determine the cost
if acquisition of bonus shares in the hands of investors as under:-
i) If cost of bonus shares is taken as per
section 49(4), then it will render section 55(2)(aa) (iiia) otiose. It would never have been intention of law to
make one section ineffective in interpretation of other section i.e 56(2)(viia)
ii)
If cost
of bonus shares is taken as per section 55(2)(iiia), then assessee will be
subject to double taxation, once at the time of receipt of bonus shares u/s
56(2)(vii)/(viia) and secondly at the time of sale of bonus shares, since cost
of bonus share is taken at NIL. Unless otherwise provided specifically,
sections cannot be interpreted to provide for double taxation of same income.
e.
Based on afore-said explanations, further
conclusion can be taken that words “Receive” used in section56(2)(viia) is not
intended to cover allotment of shares by company.
3. Issue of Bonus Shares to Preference
shareholders
a)
As per Section 2(22)(b) any issue of bonus
shares to preference shareholder is dividend, subject to Dividend Distribution
tax u/s 115O
b)
As per section 10(34), dividend income subjected
to dividend distribution tax u/s 115O is exempt in the hands of shareholders.
c)
Now if section 56(2)(vii)/(viia) is interpreted
to cover allotment of shares within its grab, then upon issue of bonus shares
to preference shares holders, its value will be taxable in their hands, whereas
10(34) exempt value of such bonus shares in the hands of investor
d)
Thus such interpretation of section
56(2)(vii)/(viia) will lead to direct conflict with explicit provision of
section 10(34).
From afore-said it can be
gathered that to cover allotment of shares at less than FMV within the purview
of section 56(2)(viia) will not only lead to double taxation on certain
occasion but will also cripple the utility of other express provision of the
Act
Thus in my view no tax implications are involve in the hands of investors
when company issues shares at less than FMV.
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