Assessee's Funds Reclassified as Gift Not Taxable: Tribunal Rules Against Income Tax Department

The Tribunal held that funds received by the assessee company, initially intended as share capital but later treated as a gift due to non-compliance with FEMA guidelines, could not be taxed as income. The Tribunal found that the funds did not constitute business income and were not received for consideration of shares. Relying on judicial precedents, the Tribunal allowed the appeal in favor of the assessee, ruling that the receipt of Rs. 3,46,33,388/- should not be taxed as income under the Income Tax Act.

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Issues Involved:
1. Treatment of money received by the assessee for issue of shares but not issued due to contravention of FEMA guidelines.
2. Whether the money received should be treated as a gift or income under the Income Tax Act, 1961.

Detailed Analysis:

Issue 1: Treatment of Money Received for Issue of Shares
The primary issue revolves around whether the money received by the assessee company for the issuance of shares, which could not be issued due to non-compliance with FEMA guidelines, should be treated as a gift or as income. The assessee company initially received funds from Alertpay Inc., Canada, for share capital. However, due to failure in issuing shares within the stipulated six months as per FEMA guidelines, the company considered the funds as a gift from Alertpay Inc., Canada, after consulting with a FEMA consultant. The AO contested this treatment, arguing that the funds should be treated as taxable income under Section 28(iv) read with Section 2(24)(ix) of the Income Tax Act.

Issue 2: Whether the Money Received Should be Treated as a Gift or Income
The assessee argued that the funds were a gift from Alertpay Inc., Canada, and not income. The CIT(A) upheld the AO's decision, stating that the appellant failed to provide sufficient evidence to prove the funds were a gift, such as a gift deed or relevant documentation from Alertpay Inc., Canada, authorizing the gift. The CIT(A) also noted inconsistencies in the appellant's claims, initially stating the funds were received without instructions and later claiming it was share capital from a brother.

Tribunal's Findings:
1. Original Intention and Compliance with FEMA: The Tribunal noted that the original intention of the assessee company was to receive the funds as share capital for issuing shares to the Canadian company. The failure to comply with FEMA regulations led to treating the funds as a gift, which was agreed upon by the remitter.

2. Board Resolutions and Documentation: The Tribunal examined the board resolutions and email communications between the assessee company and Alertpay Inc., Canada, which indicated that the remaining funds, after partial refund, were to be treated as a gift. The Tribunal found that the receipt of funds was not doubted by the revenue at any point.

3. Applicability of Section 28(iv) and Section 56: The Tribunal analyzed the applicability of Section 28(iv) and Section 56 of the Income Tax Act. It concluded that the funds were not received in the ordinary course of business and did not constitute a benefit arising from business operations. Therefore, Section 28(iv) was not applicable. Additionally, the Tribunal found that the provisions of Section 56(1) and Section 56(2)(viia) and (viib) were also not applicable as the funds were received from a non-resident and not for consideration of shares.

4. Judicial Precedents: The Tribunal referred to various judicial precedents, including the Hon'ble Supreme Court's decision in G.S. Homes & Hotels (P) Ltd vs DCIT and the Hon'ble Gujarat High Court's decision in Chetnaben B Seth, which supported the assessee's claim that the receipt of share capital should not be treated as business income.

Conclusion:
The Tribunal concluded that the funds received by the assessee company, initially intended for share capital but later treated as a gift due to non-compliance with FEMA, could not be taxed as income. The Tribunal allowed the appeal in favor of the assessee, holding that the receipt of Rs. 3,46,33,388/- could not be taxed as income under the Income Tax Act.

Order Pronounced on 30/08/2021.

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