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Supreme court It has put an end to the massive tax evasion that has been going on for decades, where land parcels, properties and redevelopment rights worth crores of rupees were diverted through partnership firms. Inspired by the stand of the apex court, the Income tax The (IT) department can now track past property deals as well.
The trick used so far was to own fixed asset assets in a partnership structure, revalue the assets at current market value, bring in new partners, who infused cash into the firm, and have the old partners reinvest the money coming in from their capital accounts. Took it back. Credit —- to the extent of their share in the profits of the firm — as allowed in a partnership.
no stamp duty, capital gain and income tax was paid as required in the normal sale and transfer of property. The partnership entity, through which money flows in and out, lets a new group of partners control the assets.
In a judgment last week, the top court had said that such revaluation would be taxable as a transfer in the hands of the surplus firm and would be subject to ‘capital gains tax’. Thus, with the firm facing a tax liability after revaluation, the old partners—the ultimate owners or ‘sellers’ of the assets—new partners (‘buyers’) joining the firm.
“This decision has deep implications. In real estate deals, especially when it comes to transfer of land and development rights, revaluation as a tool was used to circumvent liability. Revaluation as a means of saving tax has been in practice for decades. The court has unmasked such modus operandi.. All efforts by the IT department to plug these loopholes went in vain. Now, since the Supreme Court has ruled in favor of the tax department, the department will start looking into past transactions and reopen past assessments. This can spell trouble for the real estate industry and other matters of revaluation. Pradeep.
reconsider the law
Challenging the stand of the tax department, the assessee had contended that the amount credited on revaluation in the capital accounts of the partners was merely an estimate or a book entry. It also said that section 45(4) of the IT Act—dealing with tax on profits of a firm or association or body after transfer of capital asset—shall not apply unless the partnership firm concerned is dissolved Would have happened
The Supreme Court rejected it, turning the case in the tax office’s favor on the back of two words—“or otherwise”—that were introduced when the law was amended in ’87. As per section 45(4), “Profits or gains arising from the transfer of capital assets by way of distribution of capital assets on the dissolution of a firm or other association of persons or body of individuals (not being a company or a co-operative Committee) or otherwise, shall be chargeable to tax….”.
The apex court in its judgment said, “After a detailed analysis of section 45(4), it is observed and held that the word ‘otherwise’ used in section 45(4) widens not only cases of dissolution but also cases Transfer of property of existing partners of a partnership in favor of a retiring partner.”
“In 2021, the legislature attempted to plug this loophole and prescribed a formula-based method for incidence of tax restructuring to be handled by firms under section 45(4) of the IT Act. While applying this formula, any revaluation credit to the partners’ account was specifically required to be ignored for the purpose of ascertaining taxes. This SC judgment goes a step further and treats the event of revaluation of partnership firm’s assets as a taxable event in the hands of the partnership firm, holding that revaluation of partnership assets is a deemed transfer in favor of its own assets partners. This decision will have far-reaching implications,” said Ashish Mehta, partner, Khaitan & Co.
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