2025 (12) TMI 404 - AT - Income Tax

Deduction for clearing encumbrances under s.48(1) allowed; SARFAESI payments excluded as diversion by overriding title

ITAT upheld the CIT(A)'s order allowing deduction under s.48(1) for amounts applied to clear encumbrances on the transferred immovable property. It ... LTCG - Disallowance of the expenditure claimed by the assessee in connection with transfer of immovable property - Deduction u/s 48(i) - property sold was encumbered under SARFAESI proceedings with both SBI and Axis Bank, and was also simultaneously subject to a rival claim of ownership - HELD THAT:- We are unable to concur with the AO, who, being of the view that the payment of Rs. 2 crore made by the assessee to the society, being a gratuitous payment, thus, was not allowable as a deduction. Accordingly, in terms of our aforesaid observations, we find no infirmity in the view taken by the CIT(A), who had allowed the assessee’s claim for deduction uphold his order to the said extent. The Ground of appeal raised by the revenue are dismissed. Payments made to Banks - whether the aforesaid amount paid by the purchasers of the property out of the sale consideration directly to the aforesaid banks to release the subject property from the mortgage of the bank and remove the encumbrance on the same, i.e., diversion of the funds to the banks based on their overriding title had rightly been reduced by the assessee from the sale consideration for computing the capital gains assessable in his hands? - HELD THAT:- As the sum as taken by the aforementioned banks, viz. (i). SBI; and (ii) Axis Bank Ltd. directly from the purchasers of the property, viz, M/s APSN Properties LLP & Ors., therefore, as per the principle of diversion of income by overriding title as the said banks had a superior tile over the subject mortgaged property based on the demand notices issued by them under Section 13(2) of the SARFASI Act, 2002; and further as per the real income theory, when no part of the sale consideration was either received or accrued to the assessee, therefore, drawing support from the aforesaid judicial pronouncements it can safely be concluded that the said amount could not have been assessed in the hands of the present assessee before us. We, thus, finding no infirmity in the order of the CIT(A), wherein he had based on a well-reasoned order, observed that the sum as directly by the purchaser of the subject property to, viz. (i) SBI and (ii) Axis Bank to clear mortgage /encumbrances on the title of the property that was provided to the said banks as collateral by the assessee as a guarantor for the loans raised by third-party companies in order to settle the title disputes of the rival claimant, was rightly claimed as a deductible by the assessee under section 48(1) of the Act, while computing the “Capital gains” on the sale of the subject properties, uphold his order. 1. ISSUES PRESENTED AND CONSIDERED 1.1 Whether the first appellate authority admitted and relied upon additional evidence in violation of Rule 46A of the Income-tax Rules, 1962. 1.2 Whether the sum of Rs. 2 crores paid to the rival claimant to title (Kothapeta Settibalija Ramamandiram Committee) is deductible in computing capital gains, either as not forming part of the assessee's sale consideration or as 'expenditure incurred wholly and exclusively in connection with the transfer' under section 48(i). 1.3 Whether the sum of Rs. 7 crores paid directly by the purchaser to secured creditor banks (SBI and Axis Bank) in discharge of loans of third-party companies, for which the assessee's property was mortgaged as collateral, is to be excluded from the assessee's taxable capital gains, on the basis of diversion of income by overriding title / real income theory and/or as expenditure in connection with transfer under section 48. 1.4 Consequentially, whether the deletion of the aggregate disallowance of Rs. 9 crores under section 48 by the first appellate authority was justified, and whether the supporting cross-objections required adjudication. 2. ISSUE-WISE DETAILED ANALYSIS Issue 1 - Alleged violation of Rule 46A by the first appellate authority Legal framework (as discussed) 2.1 The Revenue invoked Rule 46A, alleging that the appellate authority accepted additional evidence without affording the Assessing Officer an opportunity to rebut. Interpretation and reasoning 2.2 The Tribunal noted the specific finding of the appellate authority (para 4.2 of the appellate order) that all relied-upon documents (sale deed, MoU, SARFAESI notices, OTS correspondence, DRT and civil court orders, public notices, etc.) had been filed by the assessee before the Assessing Officer during assessment and formed part of the original record. 2.3 The Tribunal observed that the appellate authority's conclusions were primarily based on the registered sale deed and contemporaneous documentary evidence already on record. 2.4 On a pointed query by the Tribunal, the departmental representative could not identify any specific document that was (i) new/additional, and (ii) admitted at the back of the Assessing Officer in breach of Rule 46A. Conclusions 2.5 No contravention of Rule 46A was established; the allegation that additional evidence was improperly admitted was rejected. The ground challenging the procedure under Rule 46A was dismissed. Issue 2 - Deductibility / exclusion of Rs. 2 crores paid to Kothapeta Settibalija Ramamandiram Committee Legal framework (as discussed) 2.6 Section 48 mandates computation of capital gains by deducting from the 'full value of consideration' the 'expenditure incurred wholly and exclusively in connection with such transfer' and cost of acquisition/improvement. 2.7 The Tribunal relied on judicial precedents holding that payments made to perfect title, remove encumbrances, or settle rival claims so as to enable transfer, constitute expenditure 'wholly and exclusively in connection with the transfer' or part of cost of acquisition (including: Smt. A. Rita; CIT v. Shakuntla Kantilal; Gopee Nath Paul & Sons; Yogesh Patel). Interpretation and reasoning 2.8 The factual matrix established that: (a) The Committee had raised a rival ownership claim over the very property, issued public notices warning purchasers, and initiated proceedings before the DRT and civil court. (b) The DRT, by allowing S.A. Nos. 196 and 164 of 2015, had confirmed the Committee's right, title and interest in the property; appeals against these orders were pending before the DRAT. (c) The Committee had also filed a civil suit (O.S. No. 155 of 2013) seeking declaration of absolute ownership and injunction. 2.9 A tripartite Memorandum of Understanding dated 13.06.2019 was executed between the assessee, the Committee (Society), and the purchaser, under which: (a) The assessee agreed to execute the sale deed. (b) The Committee agreed to give up its title claims in all pending forums and record a Lok Adalat settlement. (c) The purchaser agreed to pay Rs. 2 crores directly to the Committee as part of the sale consideration. 2.10 Pursuant to the MoU, the registered sale deed dated 13.06.2019 was executed with: (a) The assessee as 'vendor of the first part', and (b) The Committee as 'vendor of the second part', and the Committee expressly relinquished its title in consideration of Rs. 2 crores paid directly by the purchaser. 2.11 The Tribunal drew two key inferences: (a) The very fact that the Committee joined as vendor conclusively showed it possessed an interest/right/title in the property which had to be conveyed; accordingly, the Rs. 2 crores represented consideration attributable to that interest, and to that extent could not be treated as the assessee's sale consideration at all. (b) Alternatively, even treating the full sale consideration as relatable to the assessee's transfer, the payment of Rs. 2 crores was absolutely necessary to remove a substantial encumbrance and clear the rival title, without which the sale could not have been effected. 2.12 Applying the cited precedents, the Tribunal held that any amount whose payment is indispensable to effect the transfer-such as to discharge a rival title or clear an encumbrance-qualifies as expenditure 'wholly and exclusively in connection with the transfer' under section 48(i). 2.13 The Assessing Officer's characterization of the payment as gratuitous or voluntary was rejected in view of the binding MoU, the registered sale deed, and the prior judicial and DRT findings recognising the Committee's rights and the subsisting dispute. Conclusions 2.14 The sum of Rs. 2 crores paid to the Committee: (a) Did not form part of the assessee's assessable 'full value of consideration', being attributable to another vendor's interest; and, in any event, (b) Constituted expenditure incurred wholly and exclusively in connection with the transfer for removal of an encumbrance and settlement of a rival title. 2.15 The disallowance of Rs. 2 crores under section 48 was rightly deleted by the appellate authority; the Revenue's grounds on this aspect were dismissed. Issue 3 - Tax treatment of Rs. 7 crores paid by purchaser directly to SBI and Axis Bank for release of mortgage created as collateral for third-party loans Legal framework (as discussed) 2.16 Section 48 requires deduction of expenditure 'incurred wholly and exclusively in connection with such transfer' from the 'full value of consideration received or accruing' as a result of the transfer. 2.17 The Tribunal examined the doctrines of: (a) Diversion of income by overriding title, as explained by the Supreme Court in CIT v. Sitaldas Tirathdas, and (b) Real income theory-only income that actually accrues or is received by the assessee can be taxed. 2.18 The Tribunal further relied on decisions holding that where a lender enforces a security given by an assessee as guarantor and directly appropriates sale proceeds of the secured asset, no capital gains arise in the hands of the guarantor/owner to the extent of such appropriation, as there is diversion of income at source by overriding title and absence of real accrual (including: CIT v. Smt. Thressiamma Abraham; Addl. CIT v. Glad Investments (P) Ltd.; Arka Properties (P) Ltd.; PCIT v. Rinki Shashikant Gandhi). Interpretation and reasoning 2.19 The relevant facts, as accepted, were: (a) The assessee executed guarantee agreements on 09.02.2011 and deposited title deeds of 10,164 sq. yards of land as collateral security for loans availed by two independent companies (Siva Sivani Surgical Cottons Pvt. Ltd. and Maddipoti Consultants Pvt. Ltd.) from SBI and Axis Bank; the loans were for the companies' purposes, not for any borrowing by the assessee. (b) The property was mortgaged (deposit of title deeds) separately to each bank over 5,082 sq. yards. (c) On default by the borrowing companies, both banks classified the accounts as NPAs, invoked section 13(2) of the SARFAESI Act against the assessee, and proceeded to put the property to public auction, issuing public auction notices. (d) Subsequently, the banks offered a One-Time Settlement, agreeing to accept Rs. 3.50 crores each to release their charge over the mortgaged property. 2.20 Under the MoU dated 13.06.2019 between the assessee, the Committee and the purchaser, it was agreed that out of the total sale consideration, the purchaser would directly pay Rs. 3.50 crores to SBI and Rs. 3.50 crores to Axis Bank for release of the mortgage and clearing of encumbrances, as a pre-condition to transfer. 2.21 In execution of the MoU and the registered sale deed, the purchaser paid: (a) Rs. 3.50 crores directly to SBI (SARB Branch, Visakhapatnam) by cheque, and (b) Rs. 3.50 crores directly to Axis Bank, Rajahmundry, so that the banks would release the title deeds and the property could be conveyed with clean title. 2.22 The Tribunal held that: (a) The banks, by virtue of the mortgage and SARFAESI proceedings (including section 13(2) notices and auction steps), had a superior and enforceable charge over the very asset being sold. (b) In view of the contractual obligations under the guarantee and mortgage, and the statutory enforcement under SARFAESI, the banks had an overriding title to the sale proceeds to the extent of Rs. 7 crores. (c) The purchaser's direct payment of Rs. 7 crores to the banks, in discharge of that overriding title, occurred before any such amount could accrue to or be received by the assessee. 2.23 On these facts, applying the doctrine of diversion of income by overriding title and real income theory, the Tribunal reasoned that: (a) No 'real income' in respect of Rs. 7 crores ever accrued or was received by the assessee as a result of the transfer; the amount was intercepted and appropriated by the lenders at source under their superior title. (b) Consequently, to that extent there was no 'full value of consideration received or accruing' to the assessee for purposes of section 48. 2.24 The Tribunal distinguished the line of authorities (including V.S.M.R. Jagdishchandran and Attili N. Rao) in which the encumbrance was created by the assessee himself to secure loans obtained for his own benefit and where the assessee had already enjoyed the corresponding funds; in those cases, discharge of such self-created mortgage was treated as neither cost of acquisition nor cost of improvement. 2.25 In the present matter, the Tribunal accepted the reasoning of decisions like Glad Investments, Thressiamma Abraham, Arka Properties, and Rinki Shashikant Gandhi, emphasising that: (a) The assessee had mortgaged the property only as guarantor/surety for third-party borrowings. (b) The assessee did not receive any loan or direct benefit corresponding to the encumbrance. (c) The lender's enforcement of security and appropriation of sale proceeds to the extent of the guaranteed liability resulted in diversion of income at source, leaving only the net balance (if any) as the assessee's real consideration. 2.26 On this basis, the Tribunal viewed the Rs. 7 crores as: (a) Not part of the assessee's 'full value of consideration received or accruing' for purposes of capital gains computation, by reason of overriding title and absence of real accrual; and (b) In substance, a necessary condition for release of the encumbered asset and completion of the transfer, falling within the ambit of expenditure 'in connection with' the transfer. Conclusions 2.27 The sum of Rs. 7 crores paid directly by the purchaser to SBI and Axis Bank: (a) Was diverted at source to the mortgagee banks by virtue of their overriding title over the mortgaged property and the binding guarantee/mortgage contracts; and (b) Did not accrue to or was not received by the assessee as real consideration from the transfer. 2.28 To that extent, no taxable capital gains could be computed in the assessee's hands; the disallowance of Rs. 7 crores by the Assessing Officer was unsustainable. The appellate authority's deletion of the disallowance was upheld and the Revenue's grounds on this issue were dismissed. Issue 4 - Overall deletion of Rs. 9 crores and fate of cross-objections Interpretation and reasoning 2.29 Having upheld: (a) The exclusion/deductibility of Rs. 2 crores paid to the rival claimant Committee; and (b) The exclusion/non-taxability of Rs. 7 crores paid directly to the banks under overriding title and as necessary for effecting the transfer, the Tribunal affirmed the appellate authority's conclusion that the aggregate Rs. 9 crores was properly excluded/deducted in computing capital gains under section 48. 2.30 Consequently, the Revenue's appeal, challenging the deletion of the Rs. 9 crores addition, was dismissed in entirety. 2.31 As the cross-objections merely supported the appellate order that had already been affirmed, they were rendered academic and were dismissed as not pressed. Conclusions 2.32 The computation of capital gains adopted by the appellate authority, allowing deduction/exclusion of Rs. 9 crores (Rs. 2 crores to the rival claimant plus Rs. 7 crores to the banks) under section 48, was confirmed. The Revenue's appeal failed, and the supporting cross-objections did not survive for substantive adjudication.