Trust income and section 64 transfer valuation: taxable inclusion turns on divestment and only excess over market value

Income from assets transferred under a trust deed is discussed as taxable in the hands of the trustees where the settlor has completely divested the assets and liabilities, the trustees control the income, and the beneficiaries are determinate. The commentary also explains that a transfer to an HUF under section 64 is to be examined by reference to the difference between declared consideration and market value, so only the excess, if any, is relevant for inclusion and not the full value of the shares.

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Issues: (i) Whether the income arising from assets transferred to the trust was assessable in the hands of the settlor or in the hands of the trustees; (ii) whether the addition made under section 64 in respect of shares transferred to the HUF required to be sustained in full or restricted to the excess, if any, over market value.

Issue (i): Whether the income arising from assets transferred to the trust was assessable in the hands of the settlor or in the hands of the trustees.

Analysis: The trust deed effected complete divestment of the settled assets and liabilities. The income from the settled assets was received and controlled by the trustees, and the trust was treated as genuine in related proceedings, including the gift-tax assessment and the firm's assessment where the trust was recognised as a partner. The reasoning that the arrangement was a mere tax-evasion device was not accepted, but the income arising from the transferred assets was nevertheless held to belong to the trust. Since the beneficiaries were determinate, the income was assessable in the hands of the trustees and not in the hands of the settlor.

Conclusion: The trust income was rightly assessed in the hands of the trustees and excluded from the settlor's assessment.

Issue (ii): Whether the addition made under section 64 in respect of shares transferred to the HUF required to be sustained in full or restricted to the excess, if any, over market value.

Analysis: The direction of the first appellate authority to redetermine the market value of the shares was accepted in principle. The taxable addition under section 64 was held to depend only on the inadequacy, if any, in the consideration represented by the difference between the declared transfer value and the market value, and not on the entire value of the shares. The proportionate income relatable to the excess value alone was the proper subject of inclusion.

Conclusion: The addition under section 64 was confined to the excess value, if any, over market value, and the matter was sustained only to that extent.

Final Conclusion: The Revenue succeeded on the trust-income issue and succeeded only partly on the section 64 issue, resulting in a partial allowance of the appeals overall.

Ratio Decidendi: Income from assets validly and completely divested into a genuine trust is taxable in the hands of the trustees, and where transfer consideration is found inadequate, only the excess over market value can be brought to tax under the relevant anti-avoidance provision.

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