In a ruling that will help corporates planning to transfer capital assets to other companies at a cost price less than the market price, the Mumbai tax tribunal has held that tax cannot be levied on the capital gains that never accrued. The tribunal ruled against the income tax departments order that considered the difference between the transaction value and the prevailing market price as capital gains and levied tax on it.

This particular case involved shares transaction among two group companies of Essel at the cost price. The Mumbai Income Tax Appellate Tribunal (ITAT) held that the difference between the cost price and the prevailing market price cannot be construed as capital gains, if the shares were transferred at the cost price. In this case, the appellant is an investment company Rupee Finance & Management.

Under an MOU between the group companies, shares of a group company were transferred to another group company at a cost price. The cost price was less than the market price. The I-T department disregarded the transfer price and levied capital gains tax on the difference between market price and the cost price of shares. ITAT held that capital gains that never accrued in reality to a tax payer cannot be brought under capital gains tax. For computing capital gains, the transfer price of the capital asset is what the transferor actually receives for the assets that he transfers and it cannot include prevailing market price of asset which was never received by the taxpayer.

The tribunal observed that capital gain is to be computed as the difference between full value of consideration received or accruing as the result of the transfer of capital asset and not the fair value of capital asset so transferred.

The decision is significant as it will have a bearing on companies who for various reasons, transfer capital assets within the group companies at the cost price and not necessarily at the market price. For real estate, there are statutory provisions in the I-T Act in section 50C to regard the stamp duty value of the property as full value of consideration for computing capital gains unless the actual transfer value is more than such value.

This is an important ruling. So long as the transaction is bonafide and not a colourable device for tax avoidance, it would be only fair for the tax authorities not to dispute such transaction value to bring the difference between the cost price and market price to capital gains taxation, said Sanjay Sanghvi, tax director at law firm Khaitan & Co said.