Share valuation report under rule 11UA cannot be negated if facts of the valuation are justifiable-ITAT

Facts of the Case:

  • M/s. Mais India Medical Devices Private Limited (“Assessee”) was incorporated on 01.03.2012 on the basis of a joint venture agreement entered into between a resident company M/s. Sysmech Industries LLP and a non-resident company M/s. Demas Company for Trading and Contracting.
  • While entering into the Joint Venture Agreement, Resident and Non-resident shareholder agreed to contribute to the project cost in the ratio of 60:40.
  • Assessee issued shares of Rs. 60 per share to non-resident shareholder as per the valuation of equity basis the DCF method, whereas shares were issued to the resident company at Rs 40 per share.
  • The Ld. Assessing Officer (AO) rejected the valuation of share and made addition in the hands of Assessee for allotment of shares to the resident Company u/s 56(2)(viib) of the Income Tax Act 1961 (“the Act”).
  • Aggrieved from the order passed by the AO, the Assessee preferred an appeal before the Ld. CIT(A), who passed the order in favor of Assessee. Against such order, the department preferred an appeal before the Hon’ble ITAT.

Contention of the Revenue:

  • The revenue contended that the Assessee was a loss-making entity and the DCF Method adopted for valuation of shares was not correct.
  • Also, the consideration received on issue of shares was more than its Fair Market Value (FMV), therefore, the security premium received by the Assessee should be liable to be treated as income under section 56(2)(viib) of the Act. The Ld CIT(A) with regards to this had erred in providing relief to the Assessee as it held that percentage increase in profits over next two years would justify the share premium received.
  • Further, it was submitted that the provisions of Section 56(2)(viib) of the Act could not be applied to the nonresident entity but that does not dilute the liability of the Assessee.

Contention of the Assessee:

  • The Assessee contended that the AO did not appreciate the fact that the valuation of the shares of the assessee is based on the prescribed method (DCF Method) under Rule 11UA(2)(b) of the Income Tax Rules, 1962 by a prescribed expert, i.e., Chartered Accountant, and the same could neither be varied nor disregarded by the Ld. AO for determination of fair market value for the purposes of section 56(2)(viib) of the Act.
  • Further, it stated there was a contradiction by the revenue wherein they had accepted the valuation given for the non-resident by the chartered account by an assessment order which was placed on records with regards to M/s. Sysmech Industries LLP wherein the resident Indian Company had also been assessed to tax u/s 56(2)(viia) of the Act for allegedly having purchased shares of present assessee company M/s. Mais India Medical Devices Private Limited for lower rates than markets value i.e., Rs. 59.99 and in this case rejected the valuation submitted by the Assessee.

Decision of the ITAT:

  • The ITAT held that, the Ld. AO passed its judgement without considering the main clause of the Joint Venture’s Agreement which explicitly provides that 60% of the project cost would be funded by the Indian company whereas 40% would be funded by the non-resident however their shareholding would remain at ratio of 50:50. The discounted factor was due to the difference in the shares of capital contribution to the project cost.
  • Further, ITAT relied on the judgement of Hon’ble Supreme Court of India in case of Duncan’s Industries Ltd. v. State of UP 2000 ECR 19, for passing its judgement, whereby, it was held that question of valuation is basically a question of fact. Where the law by virtue of Section 56(2)(viib) read with Rule 11UA(2)(b) provides that expert’s report is admissible as an evidence, then without discrediting it on facts, the valuation report prepared by the Chartered Accountant cannot be rejected. Basis this, the ITAT dismissed the appeal of the revenue.

Case Law: [2022] 139 taxmann.com 94 (Delhi – Trib.)

Raju Kumar, Tax Associate, SW India

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