With the globalisation of Indian economy, corporate structure for carrying on business has gained importance. In the case of private companies, share application amounts are often received in cash. The general perception it that receiving share application money does not trigger any adverse tax consequences for the company.

In this context, a ruling by the Jharkhand High Court assumes importance. The case involved a company which received share application money from 10 persons in cash for issue of shares. The tax officer levied penalty under Section 271 D of the Income-Tax Act, stating that receiving share application money in cash resulted in violation of Section 269 SS of the I-T Act.

Size of loan acceptance

Section 269 SS provides that no person shall accept from any other person any loan or deposit in excess of Rs 20,000 otherwise than by an account-payee cheque subject to certain exceptions. Section 271 D provides that if a person accepts any loan or deposit in contravention of Section 269 SS, he shall be liable to pay penalty of an amount equivalent to the loan taken or deposit so accepted.

The term "deposit" is explained in Section 269 SS to mean loan or deposit of money. Whereas, Section 269 T defines "loan or deposit" in a narrower sense, to mean any deposit of money which is repayable after notice or repayable after a period and in the case of a person other than company includes deposit of any nature. This definition should apply in the case of levy of penalty on repayment of loan or deposit. The company contended that the amount received towards share application money is neither loan nor deposit. In an appeal, the Appellate Commissioner struck down the penalty but in the second appeal the Tribunal upheld it, treating share application money as deposit.

The court's observations

The Jharkhand High Court observed that until the applications for issue of share are processed and shares are allotted or the amounts are refunded to the applicants, the amounts are clearly not loans repayable even without a demand by the lenders. The amounts are liable to be refunded to applicants once it is decided that shares were not to be allotted to them.

The HC relied on the decision of the Privy Council, wherein the meaning of "deposit" has been explained. The Council held that a deposit of money is not confined to a bailment of specific currency to be returned in specie. It does not necessarily involve creation of a trust, but may involve only the creation of relation of debtor and creditor, a loan under conditions. A deposit is not for a fixed term, but it does not seem to mean an immediate obligation of the receiver to repay it. Though the term deposit is something more than a mere loan, the term loan and deposit are not mutually exclusive as there are a number of common factors between the two.

Share application not loan

The court concluded that the share application amount received by the company cannot be considered as loan. However, it observed that money paid to a company as share application is a deposit or money in the company which is repayable by the company after the period of allotment of shares comes to an end or decision is taken regarding allotment of shares.

Relying on the ruling of the Council, the meaning of the term "deposit" explained in Section 269 T and the intent of introducing provisions of the Section to curb transactions in black money, the court finally held that the share application money received by the company partakes the character of deposit since it is repayable in specie on refusal to allot shares and is repayable if recalled by the applicant before the allotment of shares and the conclusion of the contract. Consequently, receipt of such money in contravention of Section 269 SS attracts penalty under Section 271 D of the ITA.

Argument in defence

A company can consider following arguments in its defence to distinguish this decision: This ruling should not apply in case amounts are received from the applicants who are subscribers to the MoA of the company as in that case there is no obligation on the company to repay the amount but to issue shares.

It is mandatory for subscribers to acquire shares as committed by them while signing the MoA of the company.

The share application money is not a deposit as the amount is received for a specific purpose of allotment of shares and is not a money-lending transaction.

Further, the prime obligation of the company is to issue shares and not repay the application money. The amount is repaid only in case where shares are not allotted, which is a consequential event in the process of share allotment.

The tax authorities will rely on this ruling for levying penalty under Section 271 D until a favourable ruling is pronounced. Therefore, private companies need to ensure that share application monies are received by an account-payee cheque only to avoid any penal consequences.

Jayesh Kariya
(The author is with Deloitte Haskins & Sells, Mumbai.)