Loss on Reduction of Capital Invested in Shares of Co. is Eligible for Set Off Against Capital Gains | ITAT

Case Details: Tata Sons Ltd. vs. Principal Commissioner of Income-tax - [2024] 158 taxmann.com 601 (Mumbai-Trib.)

Judiciary and Counsel Details

• • Amit Shukla, Judicial Member & Gagan Goyal, Accountant Member
  • J.D. Mistri, Rohit Adalji & Ms Aastha Dhowan for the Appellant.
  • Ujjwalkumar Chavhan for the Respondent.

Facts of the Case

Assessee-Tata Sons had various equity shares of Tata Tele-Services Company Ltd (TTSL), a company engaged in the business of providing telecom services. TTSL had incurred substantial losses during its business, resulting in a large part of its paid-up share capital of TTSL being utilized to finance the loss. Accordingly, a “Scheme of Arrangement and Re-structuring” between TTSL and its shareholders was entered, which reduced the assessee’s shareholding to half. As a result of the reduction of capital, while furnishing the return of income, the assessee claimed such loss as long-term capital loss.

The Assessing Officer (AO) approved the claim made by the assessee. Nevertheless, the Principal Commissioner of Income-tax (PCIT) initiated revisional proceedings under section 263. The PCIT argued that, as no consideration had been received or accrued to the assessee through the reduction of capital, the computation mechanism outlined in section 48 failed.

Consequently, the PCIT rejected the permissibility of the long-term capital loss, contending that it constituted a notional loss. The aggrieved assessee filed an instant appeal to the Mumbai Tribunal.

ITAT Held

The Tribunal held that the Supreme Court, in the case of Kartikeya Sarabhai [1997] 94 Taxman 164 (SC), held that reduction of capital results in the reduction of the face value of shares, the share capital is reduced and the right to share in the distribution of the net assets upon liquidation is extinguished proportionately to the extent of reduction in the capital. Such reduction of the right of the capital asset would amount to a transfer within the meaning of that expression in section 2(47) of the Income Tax Act, 1961.

Thus, if the assessee’s right in the capital asset stands extinguished either upon amalgamation or by reduction of shares, it amounts to the transfer of shares within the meaning of 2(47) and therefore, computation of capital gains has to be made.

The contention that capital gain provisions should apply only to actual receipts also cannot be accepted for yet another reason because acceptance of that would lead to an incongruous and anomalous result, as will be seen presently. The acceptance of this view would mean that even in a case where a sum is received, howsoever negligible or insignificant it may be, it would result in the computation of capital gains or loss, as the case may be, but in a case where nothing is disbursed on liquidation of a company the extinction of rights, would result in total loss with no consequence.

In other words, when any amount, no matter how small, is received, the entire process of computing capital gains falls under consideration for the “Capital gains” category. This involves calculating income and treating losses according to the provisions of the Act. However, if there is no receipt, the complete extinguishment of rights should be recorded as a write-off without categorizing it as a loss resulting from the computation of capital gains under the Act. Such an interpretation could lead to inconsistent outcomes and should be avoided unless it contradicts the intended purpose of the provision or is not reasonably possible to reach that conclusion.

Accordingly, in view of the ratio and principle laid down by the courts, it was held by the tribunal that:

• The reduction of capital is the extinguishment of the right on the shares, and it amounts to transfer within the meaning and scope of section 2(47);
• The loss on reduction of shares is a capital loss and not a notional loss; and
• Even when assessee has not received any consideration on reduction of capital, but its investment has reduced to loss resulting in capital loss, while computing the capital gain, capital loss has to be allowed or set off against any other capital gain.