IMPORTANT POINTS
There is distinction between allotment and transfer of shares.
Liability to pay gift tax would be on the donor (shareholder) who exercises the option to renounce and not on the appellant-company.
Bonus shares therefore are merely a distribution of capitalized undivided profit.

JUDGMENT

S.H. Kapadia, J. —

1. Leave granted.

2. This civil appeal filed by the assessee seeks to challenge judgment and order passed by the Karnataka High Court dated 1.8.2007 in Gift Tax Appeal No. 2/02. In this civil appeal we are concerned with the assessment year 1987-88.

3. Two questions arise for determination in this civil appeal, which are as follows:

(i) Whether any “gift” arose in terms of Section 2(xii) of the Gift-tax Act, 1958 (“1958 Act”) on the allotment of rights issue by the appellant company to its shareholders vide Board’s Resolution dated 29.1.1986?

(ii) Whether there was any element of “gift” as defined under Section 2(xii) in the appellant issuing Bonus shares in the ratio of 1:23 in April/May, 1986?

Answer to Question No. 1:

4. On 29.1.1986 the appellant company, on the other shareholders not exercising the option given to them to take up the right shares issued by the appellant, allotted them to the seven investment companies, who were the shareholders in the appellant’s company. At this stage, it may be stated, that in all there were twenty-seven shareholders. Twenty shareholders did not subscribe to the rights issue and consequently the appellant-company allotted them to the remaining existing shareholders. The A.O. held that the said allotment by way of rights issue was without adequate consideration within the meaning of Section 4(1)(a) of the 1958 Act. He further held that the modus operandi was an attempt to evade taxes; that it was a colourable transaction and since the shares allotted were without adequate consideration, there was a deemed gift under Section 4(1) of the 1958 Act. Accordingly, the difference between the value of the shares on yield basis and the face value of Rs. 10/- at which the shares were allotted was sought to be brought to tax under the said section. Aggrieved by the decision of the A.O., the appellant carried the matter in appeal to CIT(A). It was held that the entire exercise undertaken by the appellant was to evade payment of wealth tax by the individual shareholders of the appellant-company. This finding was given by the CIT(A) on the ground that right shares were allotted because 20 existing shareholders out of 27 shareholders of the company did not subscribe for the rights. However, according to the CIT (A), gift tax proceedings had to be initiated by the Department not against the appellant company but it ought to have initiated gift tax proceedings against the existing shareholders who had renounced their rights. Having so held, the CIT(A) came to be conclusion that the entire exercise undertaken by the appellant was to avoid payment of wealth tax and, therefore, it was held that the company was liable to pay gift tax for transfer of the said shares to the seven investment companies. This decision of the CIT(A) stood reversed by the Tribunal which decided the appeal filed by the company against the Department. The Tribunal came to the conclusion that the allotment of rights by the appellant did not constitute “transfer” as it did not involve any existing property at the time of such allotment. According to the Tribunal, the seven investment companies made payment towards the face value of the shares and, consequently, it cannot be said that the contract was without consideration. It was further held that in this case there was no element of gift under Section 4(1)(a) as there was no transfer of property as defined under Section 2(xxiv) of the 1958 Act. Aggrieved by the decision of the Tribunal, the Department preferred Gift Tax Appeal No. 2/02, which, vide the impugned judgment, stood disposed of in favour of the Department, hence, this civil appeal.

5. Shri Soli J. Sorabjee, learned senior counsel appearing on behalf of the appellant, submitted that gift tax is not attracted on initial allotment of shares because there is no transfer of any existing movable property, namely, the shares. According to the learned counsel, till allotment is made, shares did not exist