The concept of Capital gains needs a thorough study and interpretation to understand and apply them practically. Hence, the issues on capital gains are mostly concept oriented and often vary on the interpretation between different cases. However, the following basic questions are to be answered before applying the provisions related to the capital gains:
- Whether the asset transferred was a capital asset?
- Whether the transfer was actually a transfer hit by provisions of Section 2(47) of Income tax Act, 1961 and not a transfer exempted u/s 47.
- What was the period of holding?
- What was the value of cost of acquisition?
- What kind of transfers can be exempted from capital gains?
These are the basic questions one must be ready to answer before the computation of the Capital Gains tax.
IMPORTANT ISSUES IN CAPITAL GAINS
Issue No: 1
What is the tax consequence if entire business is transferred as an undertaking, which consists of both depreciable and non-depreciable assets?
In such a situation the entire capital gain has to be treated as a long term capital gain. The provision of treating the gains aroused out of transfer of depreciable assets as short term is effective only when the entire assets are depreciable assets and not a mixture of both depreciable and non-depreciable assets. (CIT vs. Raka Food Products).
Issue No: 2
What is the eligibility criteria for a capital asset to be an “equity oriented fund” exempt from capital gains taxation u/s 10(38)?
For the purpose of section 10(38), “equity oriented fund” means a fund where the investible funds are invested by way of equity shares in domestic companies to the extent of more than 65% of the total proceeds of such fund which has been set up under a scheme of mutual funds u/s 10(23D).
Issue No: 3
Does Capital Gains attract on the shares received by the partner on the basis of the revalued net worth of the firm?
The amount of share received by the retiring partner on the revalued net worth of the firm, no capital gains would arise on such amount received. (CIT vs. Kunnamkukulam Mill Board).
Issue No: 4
Capital reduction by the companies and the amounts received by the company in this situation – Capital Gains Issues.
When the capital reduction is done by any company, the amount received by the shareholder as part of that consists two parts –
- Distribution attributable to accumulated profits – chargeable as deemed dividend u/s 2(22)(d) and
- Distribution attributable to capital – subject to the capital gains.
Hence, the amount attributable to the part of capital is only subjected to the capital gains.
Issue No: 5
Does amount received in the case of “Reverse Mortgage” attract Capital Gains?
A reverse mortgage is a scheme for benefit of senior citizens under which banks could take on properties from such persons and provide loans in lump-sum or in installments to provide a steady flow of cash for their needs. The transfer is thus not attracted by the provisions of Capital Gains as it is not covered as a transfer u/s 2(47).
Issue No: 6
Does the amount misappropriated by the power of attorney holder out of the sale consideration deductible as “expenses on transfer”?
Expenditure incurred wholly and exclusively in connection with the transfer alone can be claimed as deduction from the sale consideration. Hence, the amount misappropriated by the holder of power of attorney is not an eligible “expense on transfer” as it is not exclusively incurred on transfer or for the purpose of transfer.
Issue No: 7
What is the cost of acquisition of the shares obtained by the way of Sweat Equity?
The cost of acquisition of the specified securities or sweat equity shares is the amount of Fair Market Value which has been taken into the account while computing the value of perquisite u/s 17(2) of the employee.
Issue No: 8
Advance Money or Forfeited Amount in Capital Gains.
The advance money or the forfeited amount is to be reduced from the cost of acquisition when the actual transfer is made. The amount is to be reduced from the indexed cost of acquisition and not from the actual cost of acquisition.
Issue No: 9
Is sum paid by the assessee towards clearance of the mortgage created by the previous owner treated as “cost of acquisition”?
Yes, where a property, which was kept under mortgage by it’s previous owner is inherited by the assessee and the amount paid by the assessee for discharge of such mortgage is to be treated as the cost of acquisition of the asset and is deductible in computation of the capital gains.
Issue No: 10
Can Fair Market Value be taken as the cost of acquisition of the Bonus Shares, if they are issued prior to 01.04.1981?
Yes, the advantage of adopting the Fair Market Value as at 01.04.1981 is available only for the bonus shares which are issued prior to 01.04.1981 even though the cost of acquisition of such shares is actually “nil”. This option is not available for any other asset, for which the cost of acquisition is taken as nil, if not actually paid for.
Issue No: 11
Is conversion of debentures into shares regarded as actual transfer?
The bonds, debentures, debenture stock or deposit certificate which are converted to shares are not regarded as a transfer and hence not taxable as capital gains by virtue of section 47(x). However, if subsequently the shares are sold then the cost of acquisition would be the cost incurred to obtain the shares or debentures.
Issue No: 12
Can extension of time for acquiring new asset or depositing amount of capital gain be availed?
Yes, the benefit is only available in the case of compulsory acquisition and the compensation is not received as on the date of transfer. The extended time limit is calculated from the date of actual receipt of the compensation and not from the date of actual transfer.
Issue No: 13
What is the cost of acquisition in case of Slump Sale u/s 50B for the assets on which the whole or part of the expenditure has been allowed as deduction u/s 35AD?
le u/s 50B?d from the date of actual receipt of the compensation and not from the date of actual transfer.
In case of the assets on whose expenditure wholly or partially allowed as a deduction u/s 35AD are transferred by slump sale, the value of such assets shall be taken as NIL for the purpose of computation of “aggregate value of total assets”.
Issue No: 14
In case of transfer of purchased goodwill acquired prior to 01.04.1981, can Fair Market Value as at 01.04.1981 be adopted as cost of acquisition?
No. As regards to the purchased goodwill prior to 01.04.1981, the actual cost incurred will be taken as the cost of acquisition. There is no specific provision to adopt Fair Market Value as on 01.04.1981 even if goodwill was purchased before that date. However, indexation can be availed if the period of holding exceeds 36 months.
Issue No: 15
In what kind of situations, reference to valuation officer can be made?
The reference to the valuation officer is made in the following situations:-
- If the assessing officer is of the opinion that the value claimed by the assessee is less than the Fair Market Value as on the date of transfer.
- In any other case, if the assessing office is of the opinion that –
a.) The FMV of the asset exceeds the value of the asset as claimed by the assessee by more than 15% or Rs.25000/- (Rule 111AA) or,
b.) Having regard to the nature of the asset any other reasons to believe under necessary circumstances it is recommended to make the reference.
However, the assessing office may or may not consider the report of valuation officer for framing the assessment of the assessee.
Issue No: 16
Does the expenses incurred on modification of the existing house eligible for claiming deduction u/s 54?
No, only the amount incurred in acquisition or construction of the house is eligible. However, raising another floor on the existing house is also treated as a separate unit and hence regarded as the construction of new house and is deductible u/s 54. (CIT vs. P.V. Narasimhan)
Issue No: 17
Can the renunciation of right in having right shares by the existing shareholders be treated as “extinguishment of right”?
Non availment of rights cannot be treated as renunciation of rights. Renunciation is a positive act of extinguishment of right. In this case the assessee actually not availed such rights on the issue. Hence, it is not a capital asset and therefore cannot be considered as a transfer within the meaning of section 2(47). (CIT vs. Kodhay Distilleries Limited).
Capital Gains are a contextual taxation concept. Interpretation forms the blood line of the tax computation. Thorough analysis of the transaction and comprehensive understanding of the situation of transfer helps in understanding and arriving at the correct tax implications.