Legislative competence to tax capital gains on transfers of agricultural land within municipal limits constrained; agricultural income remains untaxable in specified cases

Parliament lacks competence to tax profits from transfer of land used for agricultural purposes when the land is assessed to land revenue or subject to a local rate, even if situated within municipal limits or within a notified radius; that income remains agricultural income and not taxable as capital gains by mere amendment of the definition of capital asset. Where land is not so assessed or rated, being within municipal limits or notified distance removes its agricultural character and permits taxation. Buildings appurtenant to land are treated differently. The conclusions rely on construing definitions of capital asset and agricultural income together and, if required, applying the doctrine of reading down.

---

---

Issues: Whether Parliament is competent to levy capital gains tax on profits or gains arising from the transfer of agricultural land situated within the limits of a municipality (population not less than 10,000) or within a radius of eight kilometres thereof, where the land was being used for agricultural purposes at the time of transfer.

Analysis: The statutory framework involves the definition of "capital asset" in clause (14) of section 2 and the definition of "agricultural income" in clause (1) of section 2 of the Income-tax Act, 1961, as amended by the Finance Act, 1970 and the Taxation Laws (Amendment) Act, 1970. The Finance Act, 1970 amended the definition of "capital asset" to include certain agricultural lands within municipal limits or notified areas (up to 8 km). The Taxation Laws (Amendment) Act, 1970 amended the definition of "agricultural income" but placed the new proviso as a proviso to sub-clause (c). Read together, and having regard to the language and placement of proviso (ii), income derived from sale of land that is used for agricultural purposes and which is assessed to land revenue or subject to a local rate continues to fall within the definition of "agricultural income." Judicial precedent establishes that profits or gains from sale of an asset arise from the asset and can constitute "revenue derived from land." The legislative amendments did not, by their drafting and placement, convert such income into non-agricultural income in all cases; consequently mere inclusion of land within the definition of "capital asset" does not, without a corresponding and clear amendment excluding such income from the statutory definition of "agricultural income," vest Parliament with competence to tax that income under entry 82 of the Union List.

Conclusion: The profits and gains arising from the transfer of agricultural land that was being used for agricultural purposes at the time of transfer constitute "agricultural income" within the meaning of clause (1) of section 2 and therefore could not be taxed by Parliament as capital gains under the Income-tax Act, 1961; result in favour of the assessee.

Ratio Decidendi: Where land is used for agricultural purposes, profits or gains from its transfer are "agricultural income" under the statutory definition and cannot be subjected to central capital gains tax by treating the land as a "capital asset" unless the definition of "agricultural income" is unambiguously amended to exclude such income.

---