Development arrangement can create stock-in-trade and split capital gains treatment between outright transfer and conversion-based taxation.

In a development arrangement, land retained for structured exploitation through a developer may acquire the character of stock-in-trade where the transaction is partly in the nature of trade, even without formal conversion. Consideration for land transferred outright remains chargeable as capital gains under section 45(1), while the portion represented by land converted into stock-in-trade is governed by section 45(2), with taxability linked to conversion and the later sale of the stock-in-trade. Tax on the relevant gains arises only when rights and consideration crystallise, and on these facts no capital gains arose before assessment year 2005-06.

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Issues: (i) Whether the development arrangement with the developer was a trading activity in respect of the land retained by the assessee, so as to attract conversion of capital asset into stock-in-trade; (ii) Whether the consideration received under the agreement and the subsequent conciliation deed was taxable as capital gains under section 45(1) or section 45(2), and in which year the taxability arose.

Issue (i): Whether the development arrangement with the developer was a trading activity in respect of the land retained by the assessee, so as to attract conversion of capital asset into stock-in-trade.

Analysis: The arrangement was entered into as part of a planned and structured development of the property through a developer, with the assessee and co-owner retaining control over the project while exploiting the development potential of the land. The transaction was not treated as a mere realisation of land value. The Tribunal held that the retained portion of the land, to the extent it continued with the assessee after the development arrangement, acquired the character of stock-in-trade, even though no formal conversion was required.

Conclusion: The arrangement was partly in the nature of trade, and the retained land was treated as stock-in-trade.

Issue (ii): Whether the consideration received under the agreement and the subsequent conciliation deed was taxable as capital gains under section 45(1) or section 45(2), and in which year the taxability arose.

Analysis: The original agreement and the later conciliation deed together determined the final consideration and the time when rights crystallised. The consideration attributable to the portion transferred outright for cash was held taxable as capital gains under section 45(1). The portion represented by the land converted into stock-in-trade was held taxable under section 45(2), with the capital gains computation arising on conversion and the charge deferred until actual sale of the corresponding stock-in-trade. On these facts, no capital gains arose before assessment year 2005-06.

Conclusion: Capital gains were held taxable partly under section 45(1) and partly under section 45(2), with no taxability prior to assessment year 2005-06.

Final Conclusion: The matter was remitted for recomputation of capital gains and business income in accordance with the Tribunal's findings, and the appeals succeeded only for statistical purposes.

Ratio Decidendi: In a development arrangement, the portion of land retained for exploitation in the assessee's business can be treated as stock-in-trade, while the portion transferred for consideration remains chargeable as capital gains, and taxation must follow the point at which rights and consideration crystallise.

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