Interplay between 50 C /49(4) / 54 F

The deeming fiction created by Section 50C of the Income Tax Act, 1961 is one of the most perplexing and has generated a myriad of litigation. Section 50C creates deeming fiction which adopts stamp duty as full value of consideration for the purposes of Section 48 and applies when capital assets which are land or building or both are sold at a value less than the Stamp Valuation. The provision, albeit was contentious by itself, compounds in its complexity when interpreted with other provisions of the Income Tax Act, such as Section 54,54F and 54EC (for the purposes of this article they shall collectively be referred to as deduction provisions) and the contention can be boiled down to whether the deeming fiction created under this provision can permeate to the aforesaid provisions or not.

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Analysing the Scope of the fiction created under Section 50C

The deeming provision under Section 50C has to be interpreted through an integrated study of both the text and object of the provision. The Supreme Court in?Consolidated Coffee Ltd. & Another v. Coffee Board,?Bangalore [(1980) 3 SCC 358] laid down that the scope of a deeming provision ought to be a question as to with what object the legislature has made such a deeming provision. The object behind enactment of this deeming provision was laid down in?K.R. Palanisamy v. Union of India [ [2009] 180 Taxman 253 (Madras)] wherein the court held as follows:

“….It is obvious from the reading of the above provision and rather it is not disputed that the same is inserted to prevent large scale undervaluation of the real value of the property in the sale deed so as to defraud revenue the Government legitimately entitled to by pumping in black money. The impugned provision has been incorporated to check such evasion of tax by undervaluing the real properties.”

Additionally, it would also be pertinent to keep in mind the two golden principles of interpreting deeming provision:

1-????The Statutory Fiction needs to be brought to its natural logical conclusion[As per Chandrachud J in CIT v. Lokmat Newspapers (P.) Ltd. [2010] 189 Taxman 370 (Bombay)]; and

2-????Legal fictions are to be limited to the purpose for which it was created and should not be extended beyond that legitimate field. [ as per S.R Das J in Bengal Immunity Co. Ltd. v. State of Bihar?AIR 1955 SC 661]

The logical conclusion of Section 50C would be to apply the deeming provision in a manner wherein undervalued transactions that defraud the government of revenue are not permitted while the legitimate field of the provision is more subjective and would have to be framed by taking into consideration the principles of interpreting deeming fictions and the text of Section 50C.

Thus, the question as to the scope of the Section 50C ought to be determined by extending the scope of the provision to arrive at its natural conclusion of preventing undervalued transactions whilst maintain the delicate balance of not extending beyond its legitimate filed. This task is a complicated one and is also seemingly subjective, there may be different interpretations as to the leeway that can be given to a provision intended to prevent tax evasion before deciding it has extended beyond its legitimate filed of its operation.

There are also similar paradoxical complexities that arise if we consider the observation made in G.P Singh on “Principles of Statutory Interpretation”?wherein it was stated that there must be a liberal construction, in favour of the government, in interpreting provisions that prevent fraud upon the revenue, even in cases where the provision is general enough that it may apply to a variety of innocent transactions. However, even such liberal interpretations have to be limited by the general rule of construction of deeming provisions which states that a deeming provision has to be limited by the text of the provision and cannot override the charging section.

All the aforesaid must be borne in mind in interpreting the interplay between Section 50C with the exemption provisions of Sections 54, 54F and 54EC.?

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Judicial Decisions relating to the Interplay of the provisions:

This question is one that has created fervent debate across various courts in the country and it remains an issue in which the courts across the country are stanchly divided. The High Courts of Karnataka and Bombay seem to have held in favour of the revenue whereas tribunals in Jaipur, Delhi. Before analysing the arguments and legal principles involved, the various decisions favouring both the assessee and the revenue needs to be culled out and the ratios extrapolated.

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Decisions in Favour of the Revenue:

The two most important decisions in favour of the revenue are the judgements of the Karanataka and Bombay High Court.

The Bombay High Court in Jagdish C. Dhabalia & Ors v. Income Tax Officer [2019] 262 Taxman 453(Bom) while interpreting scope of section 50C vis-à-vis Section 54EC held that the deeming fiction created under Section 50C extends to full value of consideration in computing the deduction under Section 54EC. The rationale behind the judgement was that the court ought to give full effect to the deeming provision under the section and in doing so it ought not to boggle or wonder about the effect of giving such effect. The Court further held that the interpretation canvassed by the assessee would render Section 50C redundant as the assesses can invest the proceeds of such undervalued transactions into the specified assets mentioned in the exemption provisions so as to escape any liability from such undervalued transactions.

The second major decision is the decision of the Karnataka High Court in ?Gouli Mahadevappa v. Income Tax Officer [2013] 33 taxmann.com 47 (Karnataka) but however there are major doubts cast as to whether the judgement applies to scope of deeming fiction created under Section 50C or not. The substantial questions of law framed by the court relates as to whether registration value fixed by the state authorities under the Stamp Act would constitute as full value of consideration and the court had not made any observation on the interplay between this provision and Section 54F (but however the interplay was raised by the assessee in its appeal memo and the same was noted by the High Court). The ultimate conclusion however seems to support the contention of the assessee in this respect and it remains to be seem as to whether this decision can be quoted as an authoritative precedent with respect to the interplay between the provisions.

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Decision in Favour of the Assessee:

In Prakash Karnawat v.?ITO?[2011]?16 taxmann.com 357?(Jp.), the tribunal had the opportunity to adjudicate upon the interplay between Section 54EC and Section 50C and it held that the deeming fiction created under Section 50C would not extend to the exemption proceedings under section 54EC. In this regard, the tribunal held that Section 50C only gives an artificial meaning to the term “Full Value of Consideration”.?

The tribunal noted the definition of “Full Value of Consideration” laid down in?CIT?v.?Smt. Nilofer I Singh?[2009]?309 ITR 233??to hold that full value of consideration would only mean the consideration as per the sale deed. The Tribunal drew parallels to the interpretation of Section 50, which confers a similar deeming provision, given by the Bombay High Court in CIT?v.?ACE Builders?(?P.)?Ltd.?2005?144 Taxman 855?(Bom.) wherein it was held that section 50 will apply only for computation of capital gains and will not hamper or impede the application of exemption provisions contained subsequently.

However, the decision in CIT v. Smt. Nilofer I. Singh [2009] 176 Taxman 252 (Delhi) was made in relation to AY 1998-99 which would was prior to the enactment of Section 50C (the judgement was laid down when the section was in full force however) and thus the application of the aforesaid ratio Carte Blanche in the present 50C regime seems farfetched.

Subsequently, in Sunil Miglani v. DCIT, the Delhi Tribunal held that Section 54F was an exemption provision and has to be given applicability in itself and thus the deeming fiction created by Section 50C shall not extend to the same and a similar observation was made by the Kolkata Tribunal in Smt. Sabita Devi Agarwal vs. ITO, Ward [2019] 104 taxmann.com 12 (Kolkatta – Trib.) and the Visakhapatnam tribunal in Dy. CIT v. Dr. Chalasani Mallikarjuna Rao [2016] 75 taxmann.com 270/161 ITD 721 (Viasakhapatnam-ITAT).

In the context of Section 54, the Jaipur tribunal in Nand Lal Sharma v. ITO [2015] 61 taxmann.com 271 (Jaipur - Trib.) held in favour of the assessee by holding that the guideline value should not be taken for determining deduction under Section 54.

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Breaking down the contentions made

A conspectus of the aforesaid judgements clearly lays down that the crux of the matter is essentially a question as to whether the application of the deeming fiction in 50C to other exemption provisions would be within the legitimate filed or not. However, the interpretation of these provisions does give rise to additional questions of law that must be addressed whilst determining the scope of the provision.

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The deeming provision under Section 50C needs to be given full effect and taken to its natural conclusion:

The crux of the entire issue rests solely on whether application of Section 50C to the exemption provisions is justified. The general reasoning adopted in the decisions favouring the revenue is that there ought to be no impediments in giving full legal effect to the deeming provision and that the failure to apply Section 50C to the exemption provisions would lead to undervalued transactions escaping the wrath of the law and would negate the object behind enacting Section 50C. It would allow assesses to simply reinvest proceeds arising?out of undervalued transaction in order to escape the whip of the legislation.

However, the texts of the provisions do not adequately justify the aforesaid proposition. The text of Section 50C clearly states that the deeming fiction shall apply for the purposes of Section 48. The text of Section 48 begins with the words “The income chargeable under the head “Capital Gain” shall be computed….”. This must be borne in mind whilst reading the text of the three exemption provisions in the instant case.

Section 54F(1)(a) is specific in the terms used therein and it explicitly states that the “…the whole of such capital gain shall not be charged under Section 45” (italics added). A more or less verbatim reproduction of the same has been mentioned in both Section 45EC as well as Section 54 and it is quite clear that on a harmonious reading of the three provisions that it is abundantly clear that the intention of Section 50C was to apply the deeming fiction only to cases where the capital gain is chargeable to tax and the exemption provisions, in no clear terms, explicitly mentions that it shall not be chargeable to tax. The deeming fiction ought to be consistent with the text of the provision creating such fiction and thus its quite clear that a textual reading of the provisions presupposes an interpretation in favour of limiting the deeming provision. In any event, it would be apropos to mention the oft quoted but rarely followed principle that there are two or more possible interpretations to a provision, the one favouring the assessee must be adopted.

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The Exemption Provisions operate in a distinct sphere:

One universally adopted argument is that the exemption provisions operate as a code by itself and occupy a distinct sphere and thus the fiction created under Section 50C which is specifically restricted to the mode of computation under Section 48 cannot extent to the exemption provisions. Reliance in regards to the same was made with reference to the decision of the Bombay High Court in CIT v. ACE Builders [2005] 144 Taxman 855 (Bombay) wherein it held that a similar deeming provision,?Section 50, is limited to the computation of capital gains and does not extend to the exemption provisions. Almost every tribunal decision that has held in favour of the assessee has found force in this argument and had expressed the same as the reason for deciding in favour of the assessee but however the contrary view held was that the exemption provisions cannot be insulted while taking the deeming provision to its logical conclusion by giving it its full effect. Further, the mere fact that the exemption provisions operate as a separate code would not deter the courts from adopting a harmonious interpretation of the provisions but as aforesaid, the authors are of the opinion that a harmonious interpretation ought to limit and not expand the deeming fiction.

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Doctrine of Impossibility of?Performance:

Assesses in different forums have almost consistently adopted this defence against the application of legal fiction under Section 50C to the deduction provisions. ?The rationale of the Assesses is simple, how can the revenue expect the assessee to invest any amount in excess of the amount they have actually received. However, this argument by the assesses suffers from two major infirmities. Firstly, the purpose behind enacting Section 50C is to prevent undervalued transactions with the intention to defraud the government of revenue and thus the section proceeds on?presumption as to the Mala Fide character of the actual valuation of the transaction (a presumption that can be refuted either through this act or through the Stamp Act). However, at this juncture it must be mentioned that the judgement of the Madras High Court in Jagannathan Sailaja Chitta v. ITO, International Taxation [2019] 104 taxmann.com 131 has held that the application of Section 50C by itself does not presuppose the existence of any?mala fide intentions of the parties. Secondly this argument could be significantly diluted by the ratio of the Karanataka High Court in Gouli Mahadevappa wherein it was held that all amounts utilized towards the residential asset within the specified time period in the section, regardless of the source?could be deducted and thus there is no necessity that the amount actually received ought to be reutilised ergo potentially diluting the defence of impossibility of performance.?

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Interplay between Section 49, Section 50C and the exemption provisions

In cases where the amount realised from the sale of a capital asset covered under Section 50C is sold and reinvested so as to come under any of Section 54, 54F or 54EC there arises a question as to what could be the cost of acquisition of the particular asset. With the addition of Section 56(2)(x) a new dimension has been carved out in the existing controversy.

The question of the applicability of Section 50C to the exemption provisions seems to be subjective but there maybe a potential additional ground that the assesses can take in the event the respective court applies the deeming fiction to the exemption provisions. This is by placing reliance on another deeming fiction mentioned in Section 49 of the Income Tax Act.

Section 49(4) creates a legal fiction as to the cost of acquisition and states that the cost of acquisition for a capital asset that has been subject to tax under Section 56(2)(vii)(viia) or (x), the cost of acquisition shall be the cost that was taken for the purposes of the aforesaid clause. Section 56(2)(x) taxes the recipient for the difference between the value of the asset received and the stamp value of the same and in order to ensure that the same transaction does not get taxed for the third time during the future sale of the asset, Section 49 provides that the cost of acquisition should be taken as the value adjudged under Section 56(2)(x), which shall be the stamp in cases where the aforesaid valuation exceeds actual consideration by more than 50,000 or an amount equal to 5 or 10% of the actual consideration, depending upon the relevant financial year.

If the courts hold that application of Section 50C to the exemption provisions is justified in order to give full effect to the deeming provisiosn then the assesses can make an earnest contention that the court ought to also extend the deeming fiction in Section 49 to allow the assesses to adopt the cost of acquisiton for the puroses of Section 54 and 54F as the Stamp Value or for the purposes of Section 54EC, the fair market value subject to the conditions laid out in Section 56.

Let us take an illustration, supposing A has sold a house property for Rs 50,00,000/- and the stamp valuation of the same was Rs. 80,00,000/-. He reinvests the consideration, according to the conditions and time frame specified in Section 54 and purchases another house property for Rs 40,00,000/- and the stamp valuation of the same was Rs 80,00,000/-. Assuming the Assessing Officer herein is of the opinion that the Stamp Value has to be taken as the Full Value of consideration under Section 54 and makes an addition of Rs 30,00,000 to the Capital Gains of A, A should be allowed to adopt the stamp valuation of Rs 80,00,000 as the cost of acquisition instead of the actual cost of ?Rs 40,00,000/- .

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Thus if the courts were to hold that the deeming fiction under Section 50C were to apply to exemption provisions for computing full value of consideration then they must, with equal vigour, apply the deeming fiction under Section 49(4) for the cost of acquisition of such asset. This would both be beneficial to the assessee and would also prevent double taxation of the same amount. The recipient would still be liable to pay tax on the said amount under Section 56(2)(x) and is merely given protection from having to pay tax for the same transaction under the head Capital Gains as well. This rationale behind extending the deeming provision under Section?50C would more or less be applicable for extending the scope of the deeming provision in Section 49(4) as well and additionally, the principles of interpretation always seeks to avoid adopting the interpretation that would lead to double taxation and also adopt the interpretation more favourable to the assessee. Thus, assesses ought to allowed to adopt the deeming fiction created in Section 49(4) for the purposes of interpreting the exemption provisions as well. This would give bona fide assesses some redressal from the punitive effects of Section 50C.In