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Loss incurred on sale of shares is speculation loss

AIT News Network

NEW DELHI. Vide a significant ruling AIT-2006-77-ITAT Income Tax Appellate Tribunal has ruled that loss incurred on sale of shares is speculation loss and Explanation to section 73 of Income Tax Act would be applicable when the assessee is an investment company.

The Facts: The assessee’s business was finance and leasing. It was incorporated with the object of buying and selling of shares and other financial activities. Return of income was filed on 28.11.1996 on a total loss of Rs. 6,65,220/-. The said loss was classified to be carried forward in accordance with provisions of section 72 of the Income-Tax Act. During the year, the assessee company dealt with shares of one company only .

The break up of income as per audited accounts for the year ending 31.3.1996 was as under:

Income

Dividend income

Rs. 13,73,200

Earning from purchase and sale of shares

12,68,257

26,41,457

Expenditure

Interest

32,96,966

Other administrative expenses

9,711

33,06,677

Net Loss

6,65,220

The AO computed the income as under:

Dividend income to be taxed separately under the head “Other Sources”

13,73,200

Loss under the head “income from business / profession”

20,38,420

The borrowed funds of Rs. 4,08,97,170/- was mostly utilised for the purchase of shares of shares and was blocked against shares held as stock-in-trade amounting to Rs. 3,16,90,626/-. Since borrowed funds were utilised in trading in shares, the AO held that the interest amounting to Rs. 32,96,966/- has to be adjusted against the business income (i.e., trading in shares) only. The AO thought to invoke explanation to section 73 on the ground that main source of income is trading in shares. He rejected the contention of the assessee that main source of income of the assessee is dividend income i.e., income from other sources because business income is Rs. 12,68,257; dividend income is Rs. 13,73,200, and thus dividend income is more, and hence explanation to section 73 cannot be invoked. Therefore, the loss in trading in shares cannot be treated as speculation loss, which mean that it is an ordinary business loss which can be set off against the normal income under the head “other sources”. In the assessment the Assessing Officer treated the loss of Rs. 20,38,420/- as speculation loss and taxed the dividend income of Rs. 13,73,200/- separately.

The Ruling:

· Explanation to section 73 would be applicable when the assessee is an investment company

· A case will not fall under the exception merely by the head under which income was finally assessed but by composition of gross total income as given in order.

· It is the abosolute figures of the loss or income either under the head ‘business’ or under the head ‘other sources’ without ‘sign’ which should be taken for comparison. The word “chargeable” used in explanation to section 73 would refer to chargeability to tax under the Act. This would only mean that loss may not be charged to tax directly in the current year. But by adjustment against other business income in that year or in following years, it reduces the other income on which tax is levied. Hence negative, income i.e. loss is as equally chargeable to tax as positive income. Hence, we have to consider absolute figure to determine as to whether an assessee company’s gross total income consists of mainly of income chargeable to tax under “business” head or under other four heads described in explanation to section 73.

· It is only the absolute figures which are to be taken into consideration for comparison to decide whether explanation can be applied or not. Therefore, in the present case, where loss due to trading in shares has greater figure than the figure of income from dividend, the explanation to section 73 is rightly invoked.

· If the whole of the business is that of sale and purchase of shares still, the provision of explanation would be applicable.

· If the assessee is dealing in the shares of one company only still the explanation can be invoked.

· Even if loss is on account of falling value of stock, it is still in the nature of loss incurred from that business.

· If the assessee’s income is mainly from dealing in shares and if the case does not fall in either of the two exceptions, explanation to section 73 will be invoked and loss arising from trading in shares will be treated as speculative. Section 28(2) is invoked when transaction/s is/are treated as speculative u/s 43(5). Whereas explanation to section 73 is invoked to decide whether loss from trading in shares can be deemed to be speculative. Section 28(2) comes into operation after holding the transaction as speculative i.e. it is posterior consideration whereas explanation to section 73 is for deciding speculative nature of loss i.e. it is an ‘interior’ consideration.

· No part of the interest expenditure is allowable to be allocated to dividend income because assessee is holding shares as stock-in-trade and therefore entire interest expenditure is allowable u/s 36(1)(iii).

· It is no longer necessary for the assessing officer to establish for invoking explanation to section, that assessee is manipulating to reduce its taxable income by trading in shares and incurring losses.

( Click here for full text of ruling AIT-2006-77-ITAT )