By TIOL News Service

NEW DELHI, JAN 04, 2017: THE issue before the Apex Court is - Whether provisions of deemed dividend Section 2(22)(e) get attracted even if HUF itself is not the registered shareholder. YES is the verdict.

Facts of the case

The assessee is a HUF. It had received certain advances from M/s. G.S. Fertilizers (P) Ltd. which is the manufacturer and distributor of various grades of NPK Fertilizers and other agricultural inputs. In the audit report and annual return, it was found that the subscribed share capital of the Company was Rs 1,05,75,000/-. Out of this, 3,92,500 shares were subscribed by the assessee which represented 37.12% of the total shareholding of the Company. From this fact, the AO concluded that the assessee was both the registered shareholder of the Company and also the beneficial owner of shares, as it was holding more than 10% of voting power. On this basis, after noticing that the audited accounts of the Company was showing a balance of Rs 1,20,10,988/- as “Reserve & Surplus” as on 31st March, 2006, this amount was included in the income of the assessee as deemed dividend. And the CIT(A) concurred with the view of the AO. However, the Tribunal disfavoured the Revenue. But the High Court restored the addition made by the AO.

On appeal, the SC held that,

++ Section 2(22)(e) creates a fiction, thereby bringing any amount paid otherwise than as a dividend into the net of dividend under certain circumstances. It gives an artificial definition of 'dividend'. It does not take into account that dividend which is actually declared or received. The dividend taken note of by this provision is a deemed dividend and not a real dividend. Loan or payment made by the company to its shareholder is actually not a dividend. In fact, such a loan to a shareholder has to be returned by the shareholder to the company. It does not become income of the shareholder;

++ notwithstanding the same, for certain purposes, the Legislature has deemed such a loan or payment as 'dividend' and made it taxable at the hands of the said shareholder. It is, therefore, not in dispute that such a provision which is a deemed provision and fictionally creates certain kinds of receipts as dividends, is to be given strict interpretation. It follows that unless all the conditions contained in the said provision are fulfilled, the receipt cannot be deemed as dividends. Further, in case of doubt or where two views are possible, benefit shall accrue in favour of the assessee;

++ Explanation 3(a) defines "concern" to mean HUF or a firm or an association of persons or a body of individuals or a company. As per Explanation 3(b), a person shall be deemed to have a substantial interest in a HUF if he is, at any time during the previous year, beneficially entitled to not less than 20% of the income of such HUF;

++ in the instant case, the payment in question is made to the assessee which is a HUF. Shares are held by Gopal Kumar Sanei, who is Karta of this HUF. The said Karta is, undoubtedly, the member of HUF. He also has substantial interest in the assessee/HUF, being its Karta. It was not disputed that he was entitled to not less than 20% of the income of HUF. In view of the aforesaid position, provisions of Section 2(22)(e) of the Act get attracted and it is not even necessary to determine as to whether HUF can, in law, be beneficial shareholder or registered shareholder in a Company;

++ it is also found as a fact, from the audited annual return of the Company filed with ROC that the money towards shareholding in the Company was given by the assessee/HUF. Though, the share certificates were issued in the name of the Karta, Gopal Kumar Sanei, but in the annual returns, it is the HUF which was shown as registered and beneficial shareholder. In any case, it cannot be doubted that it is the beneficial shareholder. Even if we presume that it is not a registered shareholder, as per the provisions of Section 2(22)(e) of the Act, once the payment is received by the HUF and shareholder (Mr. Sanei, karta, in this case) is a member of the said HUF and he has substantial interest in the HUF, the payment made to the HUF shall constitute deemed dividend within the meaning of clause (e) of Section 2(22) of the Act. This is the effect of Explanation 3 to the said Section. Therefore, it is no gainsaying that since HUF itself is not the registered shareholder, the provisions of deemed dividend are not attracted. For this reason, judgment in C.P. Sarathy Mudaliar, relied upon by the counsel for the appellant, will have no application. That was a judgment rendered in the context of Section 2(6-A)(e) of the Income Tax Act, 1922 wherein there was no provision like Explanation 3.

(See - 2017-TIOL-02-SC-IT)