Capital gain characterization for demutualisation shares: treated as long term where holding includes original membership and acquisition equals original card cost.

For shares allotted on demutualisation/corporatisation the applicable demutualisation rules determine both cost and holding period: the cost of acquisition is the original cost of the membership card (not the written down value) and the period of holding includes the period of original membership; accordingly gains on subsequent sale are characterised as long term capital gains, producing the operative effect that assessment must treat the receipts as long term and adopt original membership cost as acquisition cost.

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Issues: (i) Whether gain on sale of shares allotted on demutualisation/corporatisation is to be assessed as long-term capital gain or short-term capital gain; (ii) Whether the cost of acquisition of such shares is to be taken at the original cost of the membership card (and period of holding reckoned from original membership) or at the written down value of the membership card.

Issue (i): Whether the capital gain arising on sale of shares allotted pursuant to demutualisation/corporatisation is long-term or short-term.

Analysis: The tribunal applied the Coordinate Bench third-member decision holding that demutualisation-specific rules govern characterization. The precedent interprets the statutory provision concerning period of holding to include the period of original membership, thereby affecting classification of the gain.

Conclusion: The capital gain is long-term; this issue is decided in favour of the assessee.

Issue (ii): Whether cost of acquisition of shares allotted on demutualisation is the original cost of the membership card or the written down value of the membership card.

Analysis: The tribunal found that the statutory mechanism for demutualisation applies to determine cost of acquisition and that assessment records and earlier returns established the original cost of the membership card. The tribunal followed the binding third-member authority which holds that the original cost of the membership card is the cost of acquisition of the shares and that period of holding is reckoned from original membership.

Conclusion: The cost of acquisition is the original cost of the membership card and not the written down value; this issue is decided in favour of the assessee.

Final Conclusion: The assessee's appeal is allowed on the substantive issues, resulting in re-characterisation of the gains as long-term and adoption of the original membership card cost as the cost of acquisition for the shares.

Ratio Decidendi: For shares allotted on demutualisation/corporatisation, the cost of acquisition is the original cost of the membership card and the period of holding includes the period of original membership, resulting in characterization of gains as long-term under the applicable provisions of the Income-tax Act, 1961.

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