Facts of the Case

The present batch of appeals arose out of a common order passed by the Income Tax Appellate Tribunal (ITAT) concerning the allowability of losses claimed by the assessees on transfer/sale of Non-Convertible Debentures (NCDs).

The assessees, being promoter/shareholders of Jindal Iron and Steel Company Ltd. (JISCO), subscribed to a rights issue of secured redeemable NCDs carrying detachable warrants (DWs). Under the issue structure, ₹111 per debenture was payable at the application stage, while the balance amount was payable at the allotment stage.

JISCO had entered into an arrangement with Unit Trust of India (UTI), whereby UTI agreed to pay the balance allotment amount on behalf of the subscribers and receive the NCDs, while the subscribers retained the detachable warrants.

The assessees claimed that on transfer of the NCDs to UTI at the agreed amount, they suffered business losses equivalent to the application money paid.

The Assessing Officer disallowed the claim, treating the arrangement as a colourable device intended to create artificial losses.

The ITAT allowed the loss as business loss.

The Revenue challenged the ITAT order before the Delhi High Court.

Issues Involved

  1. Whether the loss incurred on transfer/sale of NCDs to UTI was allowable as business loss under the Income Tax Act, 1961?
  2. Whether the transaction constituted a colourable device for tax avoidance?
  3. Whether the detachable warrants had an independent acquisition cost?
  4. Whether the assessee was entitled to carry forward such losses under Sections 72 and 80 read with Section 139(3)?

Petitioner’s Arguments (Revenue)

  • The Revenue argued that there was no genuine sale of NCDs by the assessees to UTI.
  • It was contended that the arrangement between JISCO and UTI was pre-planned and structured only to facilitate tax loss booking.
  • The Revenue asserted that the assessees were mere conduits for routing JISCO’s funds.
  • It was argued that the application money of ₹111 represented the cost of detachable warrants and not business loss.
  • Reliance was placed on McDowell & Co. Ltd. v. CTO (154 ITR 148 SC) to contend that colourable devices cannot be permitted for tax planning.

Respondent’s Arguments (Assessee)

  • The assessees contended that they were genuine allottees of the NCDs.
  • The transfer of NCDs to UTI was a commercial transaction undertaken under a valid funding arrangement.
  • The detachable warrants were issued without any separate consideration.
  • The loss suffered was genuine and arose in the ordinary course of business.
  • The transaction was commercially justified to ensure successful subscription of the rights issue 

Court Findings / Order

The Delhi High Court upheld the order of the ITAT and ruled in favour of the assessees.

  • The assessees had actually subscribed to the NCDs and the allotment was genuine.
  • The transfer of NCDs to UTI after allotment was a valid commercial transaction.
  • The detachable warrants were received without any independent acquisition cost.
  • The loss of ₹111 per debenture represented actual business loss.
  • The arrangement was not a sham or colourable device.
  • Commercial expediency and business necessity justified the transaction.

Accordingly, the Court held that the losses were allowable as business losses.

Important Clarification

  • The true legal effect of the transaction must be examined and not merely the accounting treatment.
  • A commercial transaction cannot be disregarded merely because it results in tax benefit.
  • Business losses arising from genuine transactions remain allowable.
  • Detachable warrants received without cost cannot alter the cost of acquisition of debentures.

Sections Involved

  • Section 28 – Profits and Gains of Business or Profession
  • Section 37 – General Business Expenditure
  • Section 72 – Carry Forward and Set Off of Business Losses
  • Section 80 – Submission of Return for Carry Forward of Losses
  • Section 139(3) – Return of Loss

Link to Download the Order https://delhihighcourt.nic.in/app/case_number_pdf/2015:DHC:2664-DB/SRB20032015ITA252001.pdf

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