Valuation of unlisted shares should be on the basis of audited balance sheet

M/S SAGITARIUS SECURITIES PVT. LTD. VERSUS I.T.O.
CITATION: ITA NO. 6353/DEL/2018 [A.Y. 2014-15]
ITAT NEW DELHI BENCH
DATE: 05.01.2023

BRIEF FACTS

1. The peculiar facts of the case are that the appellant company was incorporated in the year 1995 and since then, till date, is not doing any business but is only engaged in providing accommodation entries, as admitted by the ld. counsel for the assessee before the Bench.

2. The more peculiar fact is that during the year, in spite of zero business activities, the assessee company issued 8 lakhs shares, each of face value of Rs. 10/- to two companies, namely, M/s Elecon Securities Pvt Ltd and M/s Ordinary Financial Services Pvt Ltd.

3. This transaction becomes more scarier when we find that this issue of 8 lakhs shares was in consideration of 60,000 shares received by the assessee from the two companies to whom shares were allotted. These two companies have allotted 60,000 shares for Rs. 6 crores with a staggering Rs. 1,000/- per share.

4. Since the assessee has received shares of value Rs. 6 crores each from M/s Elecon Securities Pvt Ltd and M/s Ordinary Financial Services Pvt Ltd., it valued its own shares at Rs. 75/- each, which comprises of face value of Rs. 10/- and premium of Rs. 65/-. This entire transaction is something called "res ipsa loquitor" – Facts speaking their own story.

5. When the Assessing Officer confronted the assessee to explain the issue of 60,000 shares at Rs. 75/- per share, the assessee justified it by submitting a valuation report as per Rule 11UA of the IT Rules.

6. The report filed by the assessee and the reply was not accepted by the Assessing Officer who was of the firm belief that the basis of the valuation being balance sheet as on 31.03.2014 was not adopted in the Annual General Meeting of the company and hence it was not as per Rule 11UA of the IT Rules and proceeded by valuing the shares as per IT Rules and determined the price at 65.6447 per share and made addition of the difference i.e. Rs. 75 minus Rs. 65/- = Rs. 1,49,60,000/-.

7. The assessee agitated the matter before the ld. CIT(A) but without any success.

8. Before ITAT the ld. counsel for the assessee not only reiterated what has been stated before the lower authorities, but also placed strong reliance on the decision of the co-ordinate bench at Chandigarh in the case of Electra Paper and Board Pvt Ltd ITA No. 222/Chd/20221 and also on the decision of the co-ordinate bench at Chennai in the case of Vaani Estates Pvt Ltd in ITA No. 1352/Chny/2018 supported by referring to the speech of the Hon'ble Finance Minister while making the amendment.

9. The ld. counsel for the assessee also referred to the Valuation Certificate, which is at page 51 of the Paper Book.

10. Per contra, the ld. DR strongly supported the findings of the Assessing Officer and vehemently stated that the Assessing Officer has rightly valued the shares as per the relevant rules of the IT Rules, rightly confirmed by the ld. CIT(A) and there is no error or infirmity.

11. The bone of contention is as to whether the assessee has valued the shares as per the balance sheet of the valuation date 31.03.2014 in consonance with Rule 11U/11UA of the IT Rules.

For the purposes of this Rule and Rule 11UA The balance sheet", in relation to any company, means,—

(i) for the purposes of sub-rule (2) of rule 11UA, the balance sheet of such company (including the notes annexed thereto and forming part of the accounts) as drawn up on the valuation date which has been audited by the auditor of the company appointed under section 224 of the Companies Act, 1956 (1 of 1956) and;

(ii) where the balance sheet on the valuation date is not drawn up, the balance sheet (including the notes annexed thereto and forming part of the accounts) drawn up as on a date immediately preceding the valuation date which has been approved and adopted in the annual general meeting of the shareholders of the company.

SECTION 11UA(2)(b) OF INCOME TAX ACT, 1961

Irrespective of above valuation, the fair market value of unquoted equity shares for the purposes of sub-clause (i) of clause (a) of Explanation to clause (viib) of sub-section (2) of section 56 shall be the value, on the valuation date, of such unquoted equity shares as determined in the following manner:

a) the fair market value of unquoted equity shares = (A-L) x PV PE

Where, A = book value of the assets in the balance-sheet as reduced by any amount of tax paid as deduction or collection at source or as advance tax payment as reduced by the amount of tax claimed as refund under the Income-tax Act and any amount shown in the balance-sheet as asset including the unamortised amount of deferred expenditure which does not represent the value of any asset;

L = book value of liabilities shown in the balance-sheet, but not including the following amounts, namely:

• the paid-up capital in respect of equity shares;
• the amount set apart for payment of dividends on preference shares and equity shares where such dividends have not been declared before the date of transfer at a general body meeting of the company;
• reserves and surplus, by whatever name called, even if the resulting figure is negative, other than those set apart towards depreciation;
• any amount representing provision for taxation, other than amount of tax paid as deduction or collection at source or as advance tax payment as reduced by the amount of tax claimed as refund under the Income-tax Act, to the extent of the excess over the tax payable with reference to the book profits in accordance with the law applicable thereto;
• any amount representing provisions made for meeting liabilities, other than ascertained liabilities;
• any amount representing contingent liabilities other than arrears of dividends payable in respect of cumulative preference shares;

PE = total amount of paid up equity share capital as shown in the balance-sheet;

PV = the paid up value of such equity shares;

b) the fair market value of the unquoted equity shares determined by a merchant banker as per the Discounted Free Cash Flow method.

12. A bare perusal of the aforementioned rule shows that Balance Sheet should be drawn on the valuation date, which is 31.03.2014 in the present case, which has been audited by the auditor of the company and if these two conditions are not satisfied, then the balance sheet drawn up as on the date immediately preceding the valuation date which has been approved and adopted in the Annual General Meeting of the share holders of the company, which would be 31.03.2013 in the present case.

13. For a company, it is impossible to get it accounts audited on 31st March and present the same for approval in the Annual General Meeting on March 31st .

14. The Chandigarh Bench of ITAT had the occasion to decide whether it would be justifiable to accept the unaudited balance sheet as on the valuation date when the same has been audited at a later date with no material variance in the financials.

15. But in the case in hand, when the Bench asked the ld. counsel for the assessee about the unaudited balance sheet as on 31.03.2014, the ld. counsel for the assessee could not reply and instead, referred to the certificate of the auditors, which is as under:

"TO WHOM IT MAY CONCERN"

This is to certify that the Fair Market Value of latch fully paid up Equity Share of M/s Sagitarius Securities Private Limited having registered office at 13/34 W.E.A. 4lh floor. Main Arya Samaj Road. Karol Bagh. New Delhi- 1100 05 as on 31stMarch, 2014 is Rs. 74.23 per share which is rounded off to Rs.75.00 per share. The above valuation has been made as per Rule 11UA of the Income tax Rules. 1962 and on the basis of Statements and documents furnished to us by the Company. The computation of Fair Market Value as on 31stMarch, 2014 as per Rule I 1 UA of the Income fax Rules. 1962 is attached."

16. The aforementioned certificate nowhere says that the valuer has considered the audited balance sheet as on 31.03.2014 which was approved and adopted in the Annual General meeting by the shareholders for the simple reason that it is practically impossible for any company to present the audited balance sheet of the F.Y. before the Annual General Meeting on the date of closing of the F.Y. i.e. 31st March. The certificate of the auditors is based on the statement anddocuments furnished by the company which is neither audited nor certified by the auditors.

17. On these peculiar facts, it would be a futile exercise to refer to the decisions relied upon by the ld. counsel for the assessee which are totally based upon different set of facts.

In fact, the reference to the speech of the Hon'ble Finance Minister goes against the assessee, in as much as, the Hon'ble Finance Minster had emphatically, inter alia, said:

"I propose a series of measures to deter the generation and use of unaccounted money.

To this end, I propose : Increasing the onus of proof on closely held companies for funds received from shares holders as well as taxing share premium in excess of fair market value."

18. This shows that even the Legislators put the onus of proof on the companies and in the case in hand, the assessee has miserably failed in discharging the onus.

19. The Assessing Officer found that the audited balance sheet of 31.03.2013 was approved by the shareholders in the Annual General Meeting and, accordingly, computed the fair market value of the shares as per the balance sheet as on 31.03.2013 which, in our considered opinion, is as per the provisions of the Act read with the relevant rules of the IT Rules and cannot be faulted with.

20. In the result, the appeal of the assessee in ITA No. 6353/DEL/2018 is dismissed.

CONCLUSION

Generally companies in which public are not substantially interested issue shares at a price more than Face Value of Shares or more than Fair Market Value of shares and keep the proceeds above normal value of shares in Share Premium Account. If company is unable to provide satisfactory proof or answer or proof of such high valuation made is not satisfactory in the view of AO, then the difference between the Issue Price and FMV is treated as Income of the Company. The FMV is calculated on the basis of Audited and adopted Balance Sheet and PL of the Company.