By TIOL News Service

MUMBAI, DEC 03, 2018: THE issue is - Whether conversion of Pvt Ltd Co into LLP, as per mandate of Sec 47 is transfer, liable to capital gains tax. YES is the answer of the ITAT.

Facts of the case   

The assessee-company, is an LLP engaged in generation of power. Its returns for the relevant AY declared income of about Rs 5.4 crores. It then filed revised returns, claiming set-off of brought forward losses of about Rs 5.7 crores and thus declared 'nil' income. On assessment, the AO observed that prior to becoming an LLP, the assessee was run by a private limited company. Also that in the period prior to the relevant AY, the assessee filed returns in the name of the old company & that the entire business, assets & liabilities of the erstwhile firm had been transferred to the assessee. The AO opined that as per Section 47A(4), the benefit availed by the company was to be deemed as the profits of the successor LLP. Hence the AO rejected the assessee's contention that capital gains were not taxable in the hands of the LLP and made an addition of about Rs 1.7 crores to the assessee's income u/s 47A(4). The AO also rejected the carry forward of depreciation loss of the erstwhile company. Deduction claimed u/s 80IA was denied too, on grounds that Audit Report in Form 10CCB was not filed with the returns. Thus the assessee's income was assessed at about Rs 7.5 crores. Later, the CIT(A) partly allowed the assessee's appeal.

On appeal, the Tribunal held that,

++ considering the mandate of Section 47(xiiib), it is discernible from a cursory glance of Sec 47, that the 'transfers' referred to in the said statutory provision would not be chargeable to income-tax under the head "Çapital gains" u/s 45 of the Act. In other words, though the transactions referred to u/s 47 are 'transfers', however, the same subject to cumulative satisfaction of the conditions contemplated in the respective sub-sections would fall beyond the sweep of chargeability to income-tax as "Capital gains" u/s 45 of the Act; thus the transaction involving conversion of a private limited company or unlisted public company to a LLP as contemplated in Sec. 47(xiiib) would though be a 'transfer', however, the same on cumulative satisfaction of conditions (a) to (f) of the proviso to Sec. 47(xiiib) would not be chargeable to 'capital gains' under Sec. 45 of the Act. It is found from a perusal of the 'memorandum' to the Finance Act 2010, explaining the purpose and intent behind the enactment of sub-section (xiiiib) to Sec 47, that prior to its insertion, the 'transfer' of assets on conversion of a company into a LLP attracted levy of "capital gains" tax. The legislature in all its wisdom had vide the Finance Act, 2010 made Sec. 47(xiiib) available on the statute, with the purpose that the transfer of assets on conversion of a company into a LLP in accordance with the Limited Liability Partnership Act, 2008, subject to fulfilment of the conditions contemplated therein, shall not be regarded as a 'transfer' for the purposes of Sec 45 of the Act;

++ Interestingly, it is found that as Sec. 5 of the Transfer of property Act, 1882 states that "to transfer property" is to perform such act, therefore the 'transfer' of the property by the company to the LLP as per Clause 6(b) of the 'Third Schedule' would in itself satisfy the requirement of Sec.1 of the Transfer of property Act, 1882. Be that as it may, the scope of the term "transfer" has to be read in context of the Income-tax Act, 1961, and cannot be narrowed down to that defined in the Transfer of Property Act, 1882. In this regard, it would also be relevant and pertinent to point out that unlike the conversion of a private limited company into a LLP, in the case of succession of a partnership firm by a company as per Part IX, there is only "vesting" of the property of the partnership firm in the company from the date of its registration as per Sec. 575 of the Companies Act, 1956. Hence it can safely be concluded that conversion of a company into a LLP in the present case, is differently placed as in comparison to succession of a partnership firm by a company under Part IX of the Companies Act, 1956. Thus, this court is unable to persuade itself to subscribe to the contention that on the conversion of the company into the assessee LLP no 'transfer' of capital assets was involved;

++ the transaction involving conversion of the private limited company to the assessee LLP de hors compliance of the conditions contemplated in the proviso to Sec. 47(xiiib), would thus involve 'transfer' of the capital assets. However, as the applicability of the provisions of Sec. 47A(4) to the facts of the case has been ousted, therefore, the 'deeming fiction' therein facilitating assessing of the profits and gains arising from the transfer of the capital assets in the hands of the transferee i.e the assessee LLP would also meet the same fate and thus, would not be principally applicable. In the backdrop of such facts, the issue involved in the present case boils down to the chargeability of the profits and gains arising from the 'transfer' of the capital assets in pursuance to conversion of a private limited company to the assessee LLP. Therefore, as per Sec. 45 r/w Section 5 of the Act, the profits or gains arising from the 'transfer' of the capital assets effected in the previous year shall be principally chargeable to income-tax under the head "Capital gains" in the hands of the 'transferor', as its income of the previous year in which the transfer took place. In the backdrop of such deliberations, the "Capital gains", if any, arising from the 'transfer' of the capital assets on conversion of the private limited company to the assessee LLP, de hors the applicability of Sec. 47A(4), could not have been principally brought to tax u/s 45 as "Capital gains" in the hands of the assessee LLP. Further, as per Sec. 170(1)(b) of the Act, a 'successor entity' which continues to carry on the business of the person who has been succeeded (hereinafter referred to as "predecessor") shall be liable to be assessed only in respect of the income of the previous year after the date of succession. However, such liability of a successor entity is subject to an exception carved out in Sec. 170(2), as per which, where the predecessor cannot be found, there the assessment of the income of the previous year in which the succession took place up to the date of succession, and of the previous year preceding that year shall be made on the successor in the like manner and to the same extent as it would have been made on the predecessor, and all the provisions of this Act shall, so far as may be, apply accordingly. In so far, the term "Income" is concerned, the same as per the Explanation to Sec. 170 includes any gain accruing from the transfer, in any manner whatsoever, of the business or profession as a result of the succession. Thus though the "Capital gains", if any, involved in the transfer of the capital assets on conversion of the private limited company to the assessee LLP, de hors applicability of Sec. 47A(4) to the facts of the case, would not be liable to be assessed in the hands of the assessee LLP as per Sec. 45 r.w Sec. 5 of the Act, however, the same would be subject to the liability of the assessee LLP (as a successor entity) under Sec. 170 of the Act;

++ regarding the need for filing audit report as a pre-requisite for claiming deduction u/s 80IA, it is seen that filing of an audit report is procedural and directory in nature, and the same could also be validly filed by an assessee at the appellate stage. Such view stands fortified by the judgment of the High Court of Madhya Pradesh in the case of CIT Vs. Medicaps Ltd., wherein the High Court while allowing the claim of deduction raised by the assessee u/s 80-IA(2), on the basis of the 'audit report' which was filed by the assessee for the first time during the course of the appellate proceedings. A similar view that filing of an 'audit report' is procedural and directory in nature, and the same could also be validly filed by the assessee at the appellate stage, had been taken by the High court of Gujarat in CIT vs. Gujarat Oil and Allied Industries and the High Court of Punjab & Haryana in CIT vs. Jaideep Industries. In so far, the admission of the 'additional evidence' by the CIT(A) is concerned, it is found that the High Court of Bombay in the case of Smt. Prabhavati S. Shah Vs.CIT, has held that if a documentary evidence is necessary to decide the controversy, the CIT(A) should admit it or call for it pursuant to its powers u/s 250(4) of the Act. It is found that in the case at hand, the CIT(A) observed that as the assessee remained under a bona fide belief that it was eligible to 'carry forward' and 'set off' the losses of the erstwhile company, was thus for such reason prevented by sufficient cause from producing the 'audit report' before the A.O within the meaning of sub-clauses (b) & (c) of sub-rule (1) of Rule 46A of the Income-tax Rules, 1962. In the backdrop of such facts, the CIT(A) after calling for the objections of the A.O had fairly exercised his discretion and admitted the 'audit report' filed by the assessee in 'Form 10CCB' before him as an 'additional evidence'. Hence the CIT(A) has rightly admitted the 'audit report' filed by the assessee in 'Form 10CCB' during the course of the appellate proceedings, and therein allowed the claim of deduction raised by the assessee under Sec. 80-IA, thus uphold the order in context of the issue under consideration.

(See 2018-TIOL-2312-ITAT-MUM)