Bombay H.C : Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the assessee is entitled to deduction under s. 54E in respect of the capital gain arising on the transfer of a capital asset on which depreciation has been allowed and which is deemed as short-term capital gain under s. 50 of the IT Act, 1961 ?

High Court Of Bombay

CIT vs. ACE Builders (P) Ltd.

Sections 50, 54E

Asst. Year 1992-93

S. Radhakrishnan & J.P. Devadhar, JJ.

IT Appeal No. 1006 of 2000

7th March, 2005

Counsel Appeared

R.V. Desai with Mrs. S.V. Bharucha, for the Appellant : S.N. Inamdar, for the Respondent

JUDGMENT

J.P. Devadhar, J. :

This appeal filed under s. 260A of the Income-tax Act, 1961 (IT Act for short) by the CIT, Mumbai City-II, Mumbai, was admitted on the following substantial question of law :

“Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the assessee is entitled to deduction under s. 54E in respect of the capital gain arising on the transfer of a capital asset on which depreciation has been allowed and which is deemed as short-term capital gain under s. 50 of the IT Act, 1961 ?”

The assessment year relevant herein is asst. yr. 1992-93. The respondent (hereinafter referred to as ‘the assessee’) is a private limited company. The assessee was a partner in a firm called M/s D. Manekji & Associates. The said firm was dissolved in the year 1984 and the assessee was allotted a flat against the balance standing to its credit in the capital account with the firm. The assessee had shown the said flat as capital asset in its books of account and depreciation in respect thereto has been claimed from year to year. The cost of the gross block was Rs. 1,87,390 and depreciation upto 31st March, 1991 was Rs. 44,875. The resulting written down value as on 31st March, 1991 was Rs. 1,42,515. In the previous year relevant to the asst. yr. 1992-93, the assessee sold the said flat for a sum of Rs. 5,20,000. The net sale proceeds were invested in the units “UTI capital gains scheme” with a view to claim deductions under s. 54E of the IT Act and accordingly, in the return of income filed for the assessment year in question, the assessee declared ‘Nil’ income under the head ‘Income from capital gains’.

The AO, however, in his assessment order, held that since the entire block of building had ceased to exist on account of sale of the flat during the year, the written down value of the asset was liable to be taken as cost of acquisition under s. 50(2) of the IT Act. The AO further held that as the assessee had availed depreciation on the transferred long-term capital asset, the capital gain arising on transfer of such a long-term capital asset was liable to be treated under s. 50 of the IT Act, as capital gain arising out of a short-term capital asset and since the benefit under s. 54E of the IT Act is available only to the capital gain arising on transfer of a long-term capital asset, the assessee is not entitled to the exemption under s. 54E of the IT Act. In other words, the AO held that in view of s. 50 of the IT Act, the transfer of a long-term capital asset on which depreciation has been allowed was liable to be treated as capital gain arising out of a sale of a short-term capital asset and, therefore, the benefit under s. 54E of the IT Act was not available to the assessee. On appeal filed by the assessee, the CIT(A) held that s. 50 of the IT Act being a special provision for computation of capital gains in the case of depreciable asset, the AO has rightly computed capital gains under s. 50(2) of the IT Act and in view of the deeming provisions, the capital gains arising in the present case had to be treated as capital gain arising from the transfer of a short-term capital asset and, therefore, not exempted under s. 54E of the IT Act. On further appeal filed by the assessee, the Tribunal by the impugned order [reported as ACE Builders (P) Ltd. vs. Asstt. CIT (2001) 71 TTJ (Mumbai) 188—Ed.] held that the deeming fiction attached to s. 50 of the IT Act has to be restricted only for the method of computing the capital gain and cannot be read into while considering the case for non-changeability of capital gain. Accordingly, the Tribunal held that the assessee is entitled to the exemption under s. 54E of the IT Act. Hence this appeal is filed by the Revenue. Mr. R.V. Desai, learned senior advocate appearing on behalf of the Revenue submitted that s. 50 of the IT Act introduced w.e.f. 1st April, 1988 is a special provision for computation of capital gains in the case of depreciable assets. He submitted that the capital gains derived from the sale of depreciable assets are to be computed in the manner provided in s. 50 of the IT Act. He submitted that s. 50(2) of the IT Act clearly provides that the capital gain arising or accruing as a result of transfer of a depreciable long-term capital asset which forms a part of the block of asset, shall be deemed to be a capital gain arising or accruing from the transfer of short-term capital asset and, therefore, benefit under s. 54E which is restricted to capital gain arising or accruing on sale of a long-term capital asset is not available on such capital gains. Mr. Desai further submitted that the object of introducing s. 50 in the IT Act as explained by the Madras High Court in the case of M. Raghavan vs. Asstt. CIT (2004) 187 CTR (Mad) 134 : (2004) 266 ITR 145 (Mad) is not to allow multiple benefits to the assessee selling a depreciable asset. He submitted that in the present case, the capital asset sold was forming part of the block of assets and admittedly depreciation was availed on the said capital asset.

Therefore, the capital gain arising on such asset had to be computed under s. 50 and once s. 50 is applicable, in view of the fiction created therein, the capital gain is liable to be treated as short-term capital gain and consequently, benefit under s. 54E which is restricted to long-term capital gain would not be available. He submitted that the decision of the Gauhati High Court in the case of CIT vs. Assam Petroleum Industries (P) Ltd. (2003) 185 CTR (Gau) 71 : (2003) 262 ITR 587 (Gau), which is in favour of the assessee, is not in conformity with the aim and object of s. 50 of the IT Act. He submitted that by s. 50 of the IT Act, the legislature has converted a long-term capital asset on which depreciation has been availed into a short-term capital asset and, therefore, the benefit under s. 54E which is available only to the capital gains arising on sale or transfer of a long- term capital asset is not available to the assessee. Accordingly, Mr. Desai submitted that the substantial question of law raised in the appeal be answered in favour of the Revenue. Mr. S.N. Inamdar, learned counsel appearing on behalf of the assessee, submitted that s. 54E of the IT Act neither makes a distinction between ‘depreciable asset’ and ‘non-depreciable asset’. He submitted that s. 54E is not concerned with the computation of capital gains. The said exemption under s. 54E of the IT Act is granted if the net consideration received on sale of a long-term capital asset is invested in specified securities within the prescribed time, irrespective of the mode or manner of computing it. Accordingly, Mr. Inamdar submitted that irrespective of the fact that the capital gain arising on sale of long-term capital asset on which depreciation has been claimed is computed under s. 50 of the IT Act, the amounts so computed is entitled to the benefit under s. 54E of the IT Act on fulfilment of the conditions set out therein. In the present case, since the assessee had complied with the conditions set out in s. 54E of the IT Act, the assessee cannot be denied the benefit under the said section. Mr. Inamdar submitted that the capital gain arising on transfer of a capital asset is computed under s. 48 of the IT Act by deducting from the full value of consideration, the actual costs of the capital asset and any expenditure incurred in connection with such transfer. Sec. 49 of the IT Act allows cost of the previous owner (and consequently market value as on 1st April, 1981, if the capital asset was held by the previous owner before that date) to be substituted for the actual cost. Sec. 50 of the IT Act prescribes a modification to the provisions to s. 48 which granted a standard deduction as well as a further deduction in respect of long-term capital gains upto asst. yr. 199293. From asst. yr. 1993-94 onwards, benefit of indexation is also granted under s. 48 of the IT Act.

Thus, the benefits available under ss. 48 and 49 are curtailed or modified by s. 50 of IT Act which prescribes a different mode and manner of computing the capital gains in respect of the asset on which depreciation is allowed. Mr. Inamdar further submitted that by creating a fiction that “income received or accruing as a result of such transfer or transfers shall be deemed to be capital gains arising from transfer of short-term capital assets” in s. 50 of the IT Act, the legislature made it clear that the purpose of the fiction is merely to deem gains as short-term capital gains and not to deem the asset itself as short-term capital asset. In this connection, Mr. Inamdar strongly relied upon the decision of the Gauhati High Court in the case of CIT vs. Assam Petroleum Industries (P) Ltd. (supra). Mr. Inamdar further submitted that s. 50 of the IT Act expressly provides that the modifications prescribed therein are firstly, restricted only to computation of capital gains and secondly, limited only to ss. 48 and 49 of the IT Act. Accordingly, he submitted that the fiction created under s. 50 of the IT Act is limited to ss. 48 and 49 of the IT Act and cannot be extended to s. 54E of the IT Act. Mr. Inamdar further submitted that the scope and effect of s. 50 of the IT Act (as substituted with effect from 1st April, 1988) is very clearly brought out in paras 6.4 and 6.5 of CBDT Circular No. 469, dt. 23rd Sept., 1986, wherein it is clearly stated that s. 50 prescribes the manner in which the cost of acquisition in the case of depreciable asset may be computed for the purpose of determining the capital gains and that the income from such transfer shall be deemed to be short-term capital gains. Accordingly, Mr. Inamdar submitted that s. 50 does not convert long-term capital asset into a short- term capital asset as contended by the Revenue. Mr. Inamdar further submitted that in the present case, there is no dispute that the asset transferred is a long-term capital asset and that if the gain is to be taxed, it will be taxed as short-term capital gains but if the assessee invests the gain in any specified securities, then the assessee is exempt from paying the capital gains tax. He submitted that s. 54E of the IT Act should not be allowed to be clouded by the wording or fiction in s. 50 which is employed or created for a limited purpose. Relying upon the decision of the apex Court in the case of CIT vs. Canara Workshop (P) Ltd. (1986) 58 CTR (SC) 108 : (1986) 161 ITR 320 (SC), Mr. Inamdar submitted that s. 54E is an incentive and beneficial provision to encourage investment in desired channels. Accordingly, the counsel submitted that the question raised in the appeal be answered in favour of the assessee and against the Revenue.

Before dealing with the rival contentions, it would be appropriate to refer to the relevant provisions of the IT Act which deal with the taxability of the capital gains Sec. 2 of the IT Act defines various terms used in the IT Act. Sec. 2(14) defines “capital asset”, s. 2(29A) defines “long-term capital asset” and s. 2(29B) defines “long-term capital gain”. Similarly, s. 2(42A) defines “short-term capital asset” and s. 2(42B) defines “short-term capital gain”. Thus, each of the above terms used in various provisions of the IT Act have distinct meaning as defined under the Act. Sec. 45 of the IT Act (as it stood at the relevant time) states that any profits or gains arising from the transfer of a capital asset effected in the previous year, shall, save as otherwise provided in ss. 54, 54B, 54D and 54E, be chargeable to income-tax under the head “capital gains” and shall toe deemed to be the income of the previous year in which the transfer took place. Sec. 48(1)(a) of the IT Act (as it stood at the relevant time) states that while computing the income under the head “capital gains” the expenditure incurred wholly and exclusively in connection with such transfer and the cost of acquisition of the asset and the cost of any improvement thereto shall be deducted from the value of consideration. Sec. 48(1)(b) provides that where the capital gain arises from the transfer of a long-term capital asset, then, there shall be further deductions as specified in sub-s. (2) of s. 48 of the IT Act. Sec. 49 of the IT Act provides that in certain cases where the asset is acquired without incurring any cost, the cost of acquisition of such asset shall be deemed to be the cost for which the previous owner of the property acquired it, as increased by the cost of any improvement of the assets incurred or borne by the previous owner or the assessee, as the case may be. Sec. 50 is a special provision for computing the capital gains in the case of depreciable assets and the same being relevant for the purpose herein, is quoted herein below : “50. Special provision for computation of capital gains in case of depreciable assets.— Notwithstanding anything contained in cl. (42A) of s. 2, where the capital asset is an asset forming part of a block of assets in respect of which depreciation has been allowed under this Act or under the Indian IT Act, 1922 (11 of 1922), the provisions of ss. 48 and 49 shall be subject to the following modifications : (1) where the full value of the consideration received or accruing as a result of the transfer of the asset together with the full value of such consideration received or accruing as a result of the transfer of any other capital asset falling within the block of the assets during the previous year, exceeds the aggregate of the following amounts, namely : (i) expenditure incurred wholly and exclusively in connection with such transfer or transfers; (ii) the written down value of the block of assets at the beginning of the previous year; and (iii) the actual cost of any asset falling within the block of assets acquired during the previous year, such excess shall be deemed to be the capital gains arising from the transfer of short- term capital assets; (2) where any block of assets ceases to exist as such, for the reason that all the assets in that block are transferred during the previous year, the cost of acquisition of the block of assets shall be the written down, value of the block of assets at the beginning of the previous year, as increased by the actual cost of any asset falling within that block of assets, acquired by the assessee during the previous year and the income received or accruing as a result of such transfer or transfers shall be deemed to be the capital gains arising from the transfer of short-term capital assets.”

On perusal of the aforesaid provisions, it is seen that s. 45 is a charging section and ss. 48 and 49 are the machinery sections for computation of capital gains. However, s. 50 carves out an exception in respect of depreciable assets and provides that where depreciation has been claimed and allowed on the asset, then, the computation of capital gain on transfer of such asset under ss. 48 and 49 shall be as modified under s. 50. In other words, s. 50 provides a different method for computation of capital gain in the case of capital assets on which depreciation has been allowed.

Under the machinery sections, the capital gains are computed by deducting from the consideration received on transfer of a capital asset, the cost of acquisition, the cost of improvement and the expenditure incurred in connection with the transfer. The meaning of the expressions ‘cost of improvement’ and ‘cost of acquisition’ used in ss. 48 and 49 are given in s. 55. As the depreciable capital assets have also availed depreciation allowance under s. 32, s. 50 provides for a special procedure for computation of capital gains in the case of depreciable assets. Sec. 50(1) deals with the cases where any block of depreciable assets does not cease to exist on account of transfer and s. 50(2) deals with cases where the block of depreciable assets cease to exist in that block on account of transfer during the previous year. In the present case, on transfer of depreciable capital asset the entire block of assets has ceased to exist and, therefore, s. 50(2) is attracted. The effect of s. 50(2) is that where the consideration received on transfer of all the depreciable assets in the block exceeds the written down value of the block, then the excess is taxable as a deemed short-term capital gains. In other words, even though the entire block of assets transferred are long-term capital assets and the consideration received on such transfer exceeds the written down value, the said excess is liable to be treated as capital gain arising out of a short-term capital asset and taxed accordingly.

The question required to be considered in the present case is, whether the deeming fiction created under s. 50 is restricted to s. 50 only or is it applicable to s. 54E of the IT Act as well ? In other words, the question is, whether the long-term capital gain arises on transfer of a depreciable long-term capital asset, whether the assessee can be denied exemption under s. 54E merely because s. 50 provides that the computation of such capital gains should be done as if arising from the transfer of short-term capital asset ? Sec. 54E of the IT Act grants exemption from payment of capital gains tax, where the whole or part of the net consideration received from the transfer of a long- term capital asset is invested or deposited in a specified asset within a period of six months after the date of such transfer. In the present case, it is not in dispute that the assessee fulfils all the conditions set out in s. 54E to avail exemption, but the exemption is sought to be denied in view of fiction created under s. 50. In our opinion, the assessee cannot be denied exemption under s. 54E, because, firstly, there is nothing in s. 50 to suggest that the fiction created in s. 50 is not only restricted to ss. 48 and 49 but also applies to other provisions. On the contrary, s. 50 makes it explicitly clear that the deemed fiction created in sub-ss. (1) and (2) of s. 50 is restricted only to the mode of computation of capital gains contained in ss. 48 and 49. Secondly, it is well established in law that a fiction created by the legislature has to be confined to the purpose for which it is created. In this connection, we may refer to the decision of the apex Court in the case of State Bank of India vs. D. Hanumantha Rao 1998 (6) SCC 183. In that case, the service rules framed by the bank provided for granting extention of service to those appointed prior to 19th July, 1969. The respondent therein, who had joined the bank on 1st July, 1972 claimed extension of service because he was deemed to be appointed in the bank w.e.f. 26th Oct., 1965 for the purpose of seniority, pay and pension on account of his past service in the army as short service commissioned officer. In that context, the apex Court has held that the legal fiction created for the limited purpose of seniority, pay and pension cannot be extended for other purposes. Applying the ratio of the said judgment, we are of the opinion, that the fiction created under s. 50 is confined to the computation of capital gains only and cannot be extended beyond that. Thirdly, s. 54E does not make any distinction between depreciable asset and non-depreciable asset and, therefore, the exemption available to the depreciable asset under s. 54E cannot be denied by referring to the fiction created under s. 50. Sec. 54E specifically provides that where capital gain arising on transfer of a long-term capital asset is invested or deposited (whole or any part of the net consideration) in the specified assets, the assessee shall not be charged to capital gains. Therefore, the exemption under s. 54E of the IT Act cannot be denied to the assessee on account of the fiction created in s. 50.

It is true that s. 50 is enacted with the object of denying multiple benefits to the owners of depreciable assets. However, that restriction is limited to the computation of capital gains and not to the exemption provisions. In other words, where the long-term capital asset has availed depreciation, then the capital gain has to be computed in the manner prescribed under s. 50 and the capital gains tax will be charged as if such capital gain has arisen out of a short-term capital asset but if such capital gain is invested in the manner prescribed in s. 54E, then the capital gain shall not be charged under s. 45 of the IT Act. To put it simply, the benefit of s. 54E will be available to the assessee irrespective of the fact that the computation of capital gains is done either under ss. 48 and 49 or under s.

50. The contention of the Revenue that by amendment to s. 50, the long-term capital asset has been converted into a short-term capital asset is also without any merit. As stated hereinabove, the legal fiction created by the statute is to deem the capital gain as short-term capital gain and not to deem the asset as short-term capital asset. Therefore, it cannot be said that s. 50 converts long-term capital asset into a short-term capital asset. For all the aforesaid reasons, we concur with the decision of the Gauhati High Court in the case of CIT vs. Assam Petroleum Industries (supra) and hold that the Tribunal was justified in allowing the benefit of exemption under s. 54E of the IT Act to the assessee in respect of the capital gains arising on the transfer of a capital asset on which depreciation has been allowed. Accordingly, the appeal fails. The substantial question of law raised by the Revenue is answered in the affirmative, i.e., in favour of the assessee and against the Revenue. Appeal is disposed of in the above terms with no order as to costs.

[Citation : 281 ITR 210]

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