Backdrop
Tax implications concerning bonus shares have always been contentious and litigious. As early as in 1921 the issue as to whether the receipt of bonus shares constitutes a taxable income was dealt with in IRC vs. John Blott [1]. It was held that, on issuance of bonus shares nothing goes out of the coffers of the company and nothing gets into shareholder’s pocket hence issue of bonus shares is not taxable as dividend. Similar observations were also made in Mercantile Bank of India [2], Dalmia Investment Co. Ltd. [3] and in Madan Gopal Radhey Lal [4].
Section 56(2) – Does it alter the situation?
Section 56(2) provides that where an individual or HUF receives, from any person, any property other than immovable property without consideration, the aggregate fair market value of which exceeds fifty thousand rupees, the whole of the aggregate fair market value of such property[5] shall be taxable as income from other sources (‘IFOS’).
The aforesaid provision also applies to a firm or a company[6] (not being a company in which public are substantially interested) mutatis mutandis.
The dictionary [7] meaning of the term ‘receive’ or ‘to receive’ means to get by a transfer, as, to receive a gift, to receive a letter, or to receive money and involves an actual receipt’.
The expression ‘property[8]’ used in section 56(2) also includes shares and securities. Definition of ‘property[9]’ was amended[10] to provide that ‘property means the [ ] capital asset of the assessee’, which would mean that section 56(2)(vii)/(viia) will have application to the property which is in the nature of a capital asset of the recipient and not in the nature of stock-in-trade of such recipient.
Since allotment of bonus shares prima facie constitute a property received without consideration, an issue arises as to whether the fair market value thereof is taxable as income from other sources.
Analysis
A look back at the history reveals, that a deliberate attempt was made by the legislature around five decades back, when in the year 1964, sub-sections (2), (3) and (4) to section 45, were introduced to provide that a person to whom bonus shares have been allotted by the company, will be chargeable to tax under the head ‘Capital gains’ at the time of receipt thereof on the amount of fair market value of such bonus shares. However, such a scheme lasted for couple of years and in the year 1966 the said provisions were abolished, the effect of which was that for the assessment year 1966-67 or any subsequent year, capital gains in respect of bonus shares were to be computed only when the bonus shares have actually been sold or transferred.
In this article, the authors have discussed the underlying complexity stemming from the literal interpretation of the words used in the statute, with a belief that Taxing ‘Bonus shares’ in the hands of the recipient shareholder – is perhaps not the intent!’
Let us proceed to examine this in depth in the following facets:
- Principles of Double Taxation
- Purposive interpretation
- Meaning of the expression ‘consideration’
Principles of Double Taxation
Section 49(4) of the Act, provides that where the capital gain arises from transfer of property which has been subjected to tax under section 56(2)(vii)/(viia), the cost of acquisition of such property shall be the value which has already been subjected to tax under the said sections.
However, section 55(2)(aa)(iiia) states that for the purposes of section 48 and 49, the cost of acquisition in relation to the financial asset allotted to the assessee without any payment and on the basis of holding of any other financial asset (i.e. ‘Bonus’ shares/debentures etc.), shall be taken to be Nil.
Therefore, if the cost of the bonus shares is governed by section 55(2)(aa)(iiia) then by applying the provisions of section 56(2) their fair market value would be charged to tax twice[11], once at the time of receipt under section 56(2) and secondly at the time of sale (their cost being Nil).
Double taxation in itself is not something which is beyond the power of the Legislature to provide for, but the presumption is against such result[12]. This presumption ceases to have any application when the legislature expressly enacts a law that results in double taxation of the same income[13].
While it is agreeable that double taxation can be avoided if after taxing the bonus shares under section 56(2) the cost is determined under section 49(4) as against section 55(2)(aa)(iiia). But this solution would not be appropriate if section 55(2)(aa)(iiia) is more specific for bonus shares and should govern its cost in preference over section 49(4). It therefore needs to be examined as to which of these sections is specific and which is general. Further it deserves examination as to whether section 55(2)(aa)(iiia) would become redundant, if the bonus shares are to be governed by section 49(4) read with section 56(2).
A detailed analysis of section 55(2)(aa)(iiia) vis-à-vis section 49(4) r/w section 56(2) would reveal that the former is a narrower and more specific provision than the former, since it only covers ‘shares and securities’ (or ‘financial asset’ as is being referred to in that section) in its ambit, while on the other hand, the definition of ‘property’[14] in section 56(2) is very wide and covers immovable property, jewellery, drawings etc. besides shares and securities.
Cross-sectional analysis of section 49(4) and section 55(2)(aa)(iiia):
|
Section 49(4) / 56(2) |
Section 55(2)(aa)(iiia) |
Comment |
|
Applies to all properties mentioned in explanation to sec. 56 |
Applies only to shares and securities (i.e. Financial Asset or FA) |
Sec. 56(2) wider |
|
Sec. 56 covers shares and securities |
Sec. 55 also covers shares and securities |
Overlap |
|
Applies explicitly to only capital assets |
Applies only to capital assets by implication / context |
Overlap |
|
Applies whenever property is received without consideration or for inadequate consideration |
Applies only when FA received without consideration that too on the basis of already holding a FA |
Sec. 56(2) wider |
The rule[15] is that whenever there is a particular enactment and a general enactment in the same statute, and the latter, taken in its most comprehensive sense, would overrule the former, the particular enactment must be operative, and the general enactment must be taken to affect only the other parts of the statute to which it may properly apply[16].
Therefore, having treated the cost of acquisition to be Nil, it becomes important to avoid double taxation by interpreting the expression ‘share’ in the definition of the word ‘property’ and in the context of receipt without consideration to mean a share which is in commercial world warrants a consideration is however received without consideration. The expression ‘share’ therein should not include a bonus share for which no consideration is ever envisaged.
Further as the scope of section 56(2) r/w section 49(4) is wider and there is no conceivable situation wherein section 55(2)(aa)(iiia) can continue to apply, the latter would become redundant unless the scope of the former is restricted having regard to its object.
Purposive Approach to be adopted
The provisions of section 56(2)(v)/(vi)/(vii)/(viia), were introduced as a preventive measure, after the Gift Tax Act was repealed, to ensure that there is no seepage of tax revenue or misuse/abuse through the pretext of gifts and to prevent money laundering[17] [18]. These provisions should therefore not be applied in genuine cases following the principles enshrined by Supreme Court in Sati Oil Udyog[19].
The meaning of the expression ‘consideration’
The expression ‘consideration’ as appearing in section 56(2)(vii)/(viia) has neither been defined nor explained in the Income Tax Act. ‘Consideration’ in the ordinary sense means something in lieu of or exchange of[20] another and includes an inconvenience or detriment suffered[21]. The expression ‘consideration’ as is being referred to in section 56(2)(vii)/(viia) can thus be construed to include the fall in fair market value of the shares originally held by such shareholder (as a detriment) [Refer Mercantile Bank of India[22] and Dalmia Investment Co. Ltd.[23]]
Conclusion
In the considered view of the authors receipt of ‘Bonus’ shares does not result in any taxable income on account of the following reasons. Firstly, in substance bonus shares represent capitalization of the profits and primarily what shareholders receive is additional number of shares for the same amount of rights/interest in the company, secondly, if the words of the statute result in double taxation of the same income on construction but are capable of another reasonably open construction which will avoid that result, then the latter interpretation shall be chosen, thirdly, even if that was the so called intent, the legislature ought to have provided for same explicitly as was done in the past and lastly, the expression ‘consideration’ as is being referred to in section 56(2)(vii)/(viia) of the Act, would be construed to include not only the amount actually paid by the shareholder to company in acquiring such bonus shares but also the fall in fair market value of the shares originally held by such shareholder (as a detriment). Therefore, the author believes that the scope of expression ‘shares and securities’ appearing in section 56 received without consideration needs to be restricted to such shares and securities which otherwise command a price and the absence of price is driven by the ill motives of tax evasion and not extended to bonus shares which are by their very nature supposed to be without any outflow.
[1] (1921) 2 A.C. 171 (House of Lords)
[2] 4 ITR 239 (PC)
[3] (1964) 52 ITR 567
[4] 73 ITR 652 (SC)
[5] Section 56(2)(vii) of the Act
[6] Section 56(2)(viia) of the Act
[7] Advanced Law Lexicon Dictionary
[8] Clause (d)(ii) of Explanation to Section 56(2)(vii) of the Act
[9] Clause (d) of Explanation to Section 56(2)(vii) of the Act
[10] Finance Act, 2010 w.r.e.f 01-10-2009
[11] Assuming no change in FMV during the period between receipt and sale of bonus shares
[12] Laxmipat Singhania v. CIT 72 ITR 291 (SC) (3JB)
[13] Jain Bros. v. Union of India 1970 AIR 778 (SC)
[14] Explanation (d) to section 56(2)(vii) of the Act
[15] “Generalia specialibus non derogant” – Latin maxim
[16] India Fisheries (P.) Ltd. (1965) 57 ITR 331 (SC) and Saurashtra Cement & Chemical Industries Ltd (1980) 123 ITR 669 (Guj.)
[17] Finance Minister’s Speech – Union Budget 2004-05
[18] Memorandum Explaining the Finance Bill – Union Budget 2004-05
