Company wins capital loss set-off case as ITAT overturns Section 263 revision order

The ITAT Mumbai ruled in favor of the assessee company regarding revision under Section 263 for computation of capital gains/losses. The case involved reduction of paid-up equity share capital under a scheme of arrangement where the company claimed long-term capital loss set-off. The PCIT had held the AO's assessment order erroneous and prejudicial to revenue interests. The ITAT held that capital reduction constitutes transfer under Section 2(47), resulting in legitimate capital loss even with nil consideration received. Following the Gujarat HC precedent in CIT vs. Jaykrishna Harivallabhdas, the tribunal concluded the AO correctly allowed the long-term capital loss set-off, setting aside the PCIT's Section 263 order.

---

---

Issues Involved:
1. Proceedings under Section 263 - Bad in Law
2. Computation of Income from Capital Gains
3. Cost of Acquisition of Remaining Shares

Summary:

1. Proceedings under Section 263 - Bad in Law:
The assessee contended that the Principal Commissioner of Income Tax (PCIT) erred in invoking Section 263, disregarding the specific inquiry on the computation of capital gains undertaken by the Assessing Officer (AO) during assessment proceedings. The assessee argued that the AO had consciously allowed the claim upon application of mind. The PCIT's order was challenged on the grounds that it was based on a different opinion and not on any suggestion from audit, making it bad in law and requiring quashing.

2. Computation of Income from Capital Gains:
The core issue was whether the AO was correct in allowing a long-term capital loss of Rs. 20,46,97,54,090/- due to the reduction of capital. The PCIT concluded that the Scheme of Arrangement and Reconstruction was not a case of reduction of capital and that the computation mechanism under Section 48 fails as there was no consideration received or accruing to the assessee. The PCIT ignored the Supreme Court's ruling in CIT v. D. P. Sandu Bros. Chembur P Ltd, which held that for Section 48 to apply, consideration should be capable of being determined.

3. Cost of Acquisition of Remaining Shares:
The PCIT failed to note the provisions of Section 55(2)(v)(b) and did not confirm that the cost of remaining shares would include the cost of the shares canceled on reduction. The PCIT's order was challenged on the grounds that it ignored the statutory provisions and judicial precedents supporting the assessee's claim.

Decision:
The Tribunal held that the reduction of capital is an extinguishment of rights in shares and amounts to a transfer within the meaning of Section 2(47). The loss on reduction of shares is a capital loss and not a notional loss. Even if no consideration was received on the reduction of capital, the investment's reduction to loss results in a capital loss, which should be allowed or set off against any other capital gain. The Tribunal relied on the Gujarat High Court's judgment in CIT vs. Jaykrishna Harivallabhdas, which held that even "nil" consideration should be treated as resulting in capital loss. The Tribunal set aside the PCIT's order under Section 263, holding that the AO had rightly allowed the computation of long-term capital loss to be set off against the capital gain shown by the assessee. The appeal of the assessee was allowed.

---