ITAT Clash : Holding Period in Case of Conversion of Stock–in-Trade to Capital Asset

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Long term is tax free if sold through recognized stock exchange. Short term is taxed at lower rates of 15% . Stock-in-trade is taxed at higher rates than capital gains. Therefore, many tax payers are resorting to capital gains rather business income. Many convert their holding as stock in trade as capital asset and then sale.In all such cases of conversion of stoc-in-trade to capital asset , question of determination of nature of asset i.e whether short term or long term asset arises.

The controversy is

  1. whether the period of holding shares originally as stock in trade should also be taken for computing number of months of holding shares before being sold  orITAT-OpinionDiffrence150x150
  2. Whether the period of holding should  be computed only with respect to the date of conversion of stock in trade capital asset.

Like any other issue, there is clear opinion difference between different tribunal. In this article two deicison contradictory top each other are discussed.

In Lohia Metals P Ltd. 131 TTJ 472 (Trib. Chennai)

The assessee purchased shares before 31.03.2004 and  converted the shares from stock-in-trade to Capital Asset on 01.04.2004. Later assessee sold the shares and claimed exemption u/s. 10(38). The A.O denied exemption stating that  holding period shall begin only from date of conversion of stock-in-trade to capital asset and not for earlier period. The Hon’ble ITAT confirmed the order of AD holding that u/s. 2(42A) holding period of capital asset has only to be considered.

Excerpt of the relevant portion

In the case before us, no doubt the Assessee has transferred the capital asset which is not in dispute. But such capital asset came into existence only from 01.04.2004 before which it was merely a stock in trade and the same cannot be treated as capital asset as per the definition of capital asset. Therefore, the holding period prescribed in sec.2(42A) of the Act has also to be reckoned when the asset ie., shares became capital asset with effect from 01.4.2004. As pointed out by the Hon’ble Supreme Court in the case of Orissa State Warehousing vs. CIT (supra), only the language used in the statute is required to be considered while interpreting the fiscal statute which means that no words can be added to find out the intention, but at the same time no word can be ignored while interpreting Taxation Laws.

Contrary decision

Kalyani Exports & Investments Pvt Ltd 78 lTD 95 (Pune), where it was held that holding period from date of acquisition of stock-in-trade shall be considered.

Facts of the Case

  • The assessee is a company. It had acquired 68,740 shares of Bharat Forge Ltd. in March 1977 on the dissolution of a firm by name Kalyani Brothers, of which it was a partner. On 20-6-1981, bonus shares were issued in the ratio of 1 : 1. Thus the holding went up to 1,37,480 shares. Again in October 1989, another bonus issue was made in the same ratio and thus the holding went up to 2,74,960 shares. The assessee-company had initially declared the shares in its shares in its books of account as stock-in-trade. This position continued upto 30-6-1988. On 1-7-1988, the shares were converted into capital asset at the rate of Rs. 17 per share which was the price at which the shares had been originally purchased in 1977.
  • During the year relevant to the assessment year 1995-96, which is the year under appeal, the assessee sold shares and declared capital gains, and while adopting the cost of acquisition, exercised the option of adopting the fair market value of the shares as on 1-4-1981 in accordance with the provisions of section 55(2)(b)(i) of the Income-tax Act.
  • The Assessing Officer was of the view that the assessee was not entitled to substitute the fair market value as on 1-4-1981 because in his opinion the shares were not held as capital assets on that date. He took the view that both at the point of purchase and at the point of sale the asset should be a capital asset within the meaning of section 2(14). The assessee had no doubt sold a capital asset, but at the point of purchase it was stock-in-trade. Therefore, according to the Assessing Officer, the option of substituting the fair market value of the shares as on 1-4-1981 was not available to the assessee. He opined that the shares were converted into capital assets only on 1-7-1988 and that too at the price of Rs. 17 per share and therefore the cost of acquisition shall be taken at that rate only.

CIT(A) upheld the decision of A.O

There was opinion difference between Accountant Member and judicial Memebr on the issue whether the cost for computation of capital gains can be substituted with market price as on 01/04/1981 .

The matter was referred to Third Member who held as under by following Mumbai High Court Order in Keshavji Karsondas vs CIT ( 1994 ) 207 ITR 737 / 73 Taxman 571 ( Bom. ) which followed Gujarat High Court order in Ranchhodbhai Bhaijibhai Patel vs CIT ( 1971 ) 81 ITR 446 ( Guj. ).

20. In my view, the matter having been concluded by the judgment by the judgment of the Hon’ble Bombay High Court, which is the jurisdictional High Court, the contention of the assessee that the shares having been purchased in 1977 March, it must be allowed the option of the substituting the fair market value as on 1-4-1981, must be upheld. I am unable to appreciate the distinction sought to be made by the ld. Sr. DR on the ground that the decision cannot be applied to a case where the asset has become a capital asset by the act of assessee (say, by conversion, as in the present case) and it must be confined to a case where the asset has become a capital asset by legislative intervention. The true ratio of the decision is that there is only one point of acquisition of an asset and the cost on that date has to be reckoned, irrespective of the character of the asset at that point of time, be it capital asset within the meaning of section 2(14) or not. If that is the true ratio and I firmly believe it is – then the question whether it became a capital asset by the act of the assessee or by an amendment to the law is, in my humble opinion, irrelevant