Facts of the Case

The appeals before the Delhi High Court involved a common question concerning the interpretation of Section 2(22)(e) of the Income-tax Act, 1961 relating to deemed dividend.

The assessees had received loans or advances from closely held companies in which certain common shareholders held substantial interest. In the lead case, Ankitech Pvt. Ltd. received advances amounting to ₹6,32,72,265/- from M/s Jackson Generators (P) Ltd. The Assessing Officer observed that the principal shareholders of the lending company also possessed substantial interest in the assessee company.

Based on this common shareholding pattern, the Assessing Officer treated the advances as deemed dividend under Section 2(22)(e) and added the amount to the income of the assessee company.

The assessees contended that they were not shareholders of the lending company and therefore the provisions of Section 2(22)(e) could not be invoked against them.

The Commissioner of Income Tax (Appeals) upheld the additions. However, the Income Tax Appellate Tribunal deleted the additions, holding that deemed dividend could not be assessed in the hands of a concern which was not a shareholder of the lender company.

The Revenue challenged the Tribunal’s orders before the Delhi High Court.

Issues Involved

  1. Whether loans or advances received by a concern from a company can be assessed as deemed dividend under Section 2(22)(e) of the Income-tax Act, 1961?
  2. Whether such deemed dividend can be taxed in the hands of the recipient concern when the concern itself is not a shareholder of the lending company?
  3. Whether the Income Tax Appellate Tribunal correctly interpreted the provisions of Section 2(22)(e)?
  4. Whether the addition made by the Assessing Officer under Section 2(22)(e) was legally sustainable?

Petitioner’s Arguments

The Revenue argued that:

  • Section 2(22)(e) creates a legal fiction treating certain loans and advances as deemed dividends.
  • The provision specifically covers payments made to concerns in which a shareholder having substantial interest is interested.
  • Since the common shareholders held substantial interest both in the lending company and the recipient concern, the amount advanced was liable to be treated as deemed dividend.
  • The legislative intent was to prevent avoidance of dividend distribution tax through indirect payments made to concerns controlled by shareholders.
  • Therefore, the recipient concern should be taxed on the amount received as deemed dividend.

 Respondent’s Arguments

The assessees contended that:

  • Section 2(22)(e) applies only where the recipient is a shareholder of the lending company.
  • The recipient concerns were not registered shareholders of the lending companies.
  • Dividend can legally be paid only to shareholders and not to non-shareholders.
  • The deeming fiction contained in Section 2(22)(e) cannot be extended beyond the specific purpose for which it was enacted.
  • Even if the amount qualifies as deemed dividend, it can be taxed only in the hands of the shareholder and not in the hands of a concern which merely received the funds.
  • The Tribunal correctly followed the Special Bench decision in ACIT v. Bhaumik Colour (P.) Ltd.

 Court Findings

The Delhi High Court dismissed the Revenue’s appeals and upheld the orders of the Income Tax Appellate Tribunal.

The Court held that:

  • Section 2(22)(e) creates a deeming fiction but does not alter the fundamental principle that dividend can be taxed only in the hands of a shareholder.
  • The recipient concern must itself be a shareholder of the lending company for taxation under the provision.
  • Where a concern receives a loan or advance but is not a shareholder of the lender company, the amount cannot be assessed as deemed dividend in its hands.
  • The expression “shareholder” used in Section 2(22)(e) must be given its ordinary legal meaning.
  • The legal fiction contained in the provision cannot be extended beyond its intended purpose.
  • The Court approved the reasoning adopted by the Special Bench of the Tribunal in ACIT v. Bhaumik Colour (P.) Ltd.
  • Consequently, additions made in the hands of non-shareholder concerns were unsustainable.

Accordingly, all appeals filed by the Revenue were dismissed.

 Important Clarification

The Delhi High Court clarified that:

  • A loan or advance may fall within the ambit of Section 2(22)(e).
  • However, taxation of such deemed dividend can arise only in the hands of a person who is a shareholder of the lending company.
  • A concern receiving the loan, without being a shareholder, cannot be taxed merely because common shareholders have substantial interest in that concern.
  • The deeming provision does not permit taxation in the hands of a non-shareholder recipient.

This judgment became a landmark precedent on the scope and applicability of Section 2(22)(e) of the Income-tax Act.

 Sections Involved

  • Section 2(22)(e), Income-tax Act, 1961
  • Section 2(32), Income-tax Act, 1961
  • Relevant provisions concerning deemed dividend taxation

Link to download the order -https://delhihighcourt.nic.in/app/case_number_pdf/2011:DHC:14219-DB/AKS11052011ITA9022010_102510.pdf

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