In the case of I.A. Hydro Energy (P) Ltd.[1] (Taxpayer), the issue before Himachal Pradesh (HP) High Court (HC) was applicability of angel tax provisions[2] on conversion of pre-existing unsecured loans into equity shares at premium and applicability of valuation method adopted by the Taxpayer for determining fair market value (FMV) of equity shares.
The Taxpayer, earlier being a partnership firm, had borrowed unsecured loans from partners. On conversion of firm into company, the unsecured loans were converted into share capital of the company. The Taxpayer determined FMV of shares as per discounted cashflow method (DCF). Tax authority rejected the method of valuation adopted by the taxpayer and determined FMV as per Net Asset Value (NAV) and made addition in the hands of the Taxpayer under angel tax provision.
The first appellate authority (FAA) deleted the addition and held that no money/consideration was received by the Taxpayer on issue of shares and the shares are allotted merely on account of conversion of outstanding loans received in earlier years. In absence of receipt of consideration, angel tax provision is not attracted. Furthermore, the source of such loans was accepted by Tax Authority to be satisfactorily explained. The FAA also upheld the DCF valuation method adopted by the Taxpayer. On further appeal by the tax authority, the Income Tax Appellate Tribunal (Tribunal), affirming FAA’s order, held that the tax authority did not bring out any material facts to show that such conversion of loans to equity shares was a ploy to defraud revenue of the tax on such transaction. The Tribunal also stated that the tax authority can only verify the method of valuation adopted by the Taxpayer and cannot substitute the same by a different method once the Taxpayer has exercised option for the DCF valuation method as permitted under the angel tax provision.
On further appeal by the Tax Authority, the HP HC upheld the Tribunal’s order and held that angel tax was not applicable in view of absence of receipt of consideration. It also held that the tax authority does not have jurisdiction to substitute NAV for assessing FMV of shares if the Taxpayer had DCF valuation method as permitted under the angel tax provision.
