24 April EY Tax Alert. Mumbai Tribunal rules that itemized sale of assets with an intention to transfer entire undertaking is a slump sale

Transcription

1 24 April 2012 EY Tax Alert Mumbai Tribunal rules that itemized sale of assets with an intention to transfer entire undertaking is a slump sale

2 Executive summary This Tax Alert summarises a recent ruling of the Mumbai Income Tax Appellate Tribunal (Tribunal) in the case of Mahindra Engineering & Chemical Products Ltd. [1] (Taxpayer). The issue before the Tribunal was whether transfer of a business, where parties have assigned individual values to various assets is in the nature of slump sale to be taxed under the specific provision of Indian Tax Laws (ITL). Having regard to facts of the case, the Tribunal ruled that the intention of the parties was to transfer entire undertaking on lock-stock-barrel basis and, hence, in the nature of slump sale. The Tribunal further held that if regard be had to the principle of substance over form, neither the fact that individual values were assigned to the various assets in different documents of sale nor the manner in which the transaction was treated in books of account will alter the nature of transaction being slump sale. Background In case of an itemized sale of assets, each asset is sold for a separate value. For tax purposes, the profit/loss from each item is considered separately. As against that, in case of a slump sale, the entire undertaking is sold for a lump sum consideration without assigning values to individual assets and liabilities. Income, in such a case, is required to be computed on a global basis. [1] [ITA No. 2544/Mum/2010] Prior to insertion of the specific provision in the ITL, the Supreme Court [2] (SC) held that transfer of an undertaking as a going concern for lump sum consideration is not liable to capital gains tax for the reason that the cost of acquisition of the undertaking is not determinable or ascertainable. The SC also held that computational provisions form an integral part of the charging section and the charge fails if the computation mechanism fails. Where the business transfer was effected by assigning values to individual assets, the SC [3] regarded the sale as itemized sale of different assets. This was despite the fact that the document of sale mentioned the transaction as slump sale, although such price was found to be determined with respect to individual assets based on valuation report. Thus, assignment of values to individual assets was held to be determinative of the character of sale being an itemized sale. As a legislative response to Court rulings, the ITL was amended, with effect from 1 April 2000, to introduce specific provisions of computation of capital gains by providing that net worth of the undertaking represents cost of acquisition of the undertaking. The amended ITL also defines slump sale as a transfer of one or more undertakings as a result of sale for a lump sum consideration, without values being specified for individual assets or liabilities. The definition also clarifies that [2] PNB Finance Ltd v. CIT [(2008) 307 ITR 75(SC)]; Electrical Control Gear Mfg. Co (227 ITR 270)(SC) [3] Artex Manufacturing Co [(227 ITR 260)(SC)] determination of value of an asset or liability for the sole purpose of payment of stamp duty, registration fees or other similar taxes will not be regarded as assignment of values to the individual assets or liabilities. Prior to specific amendment made with effect from 1 April 2002, transfer of self-generated trademark or brand name associated with business was not chargeable to tax in the absence of determinable cost of acquisition thereof. Facts The Taxpayer is engaged in the business of (a) Sealants and Adhesives (S&A) and (b) cable jointing. During tax year , the Taxpayer sold/ transferred/ assigned intellectual property rights (IPR) (including trademarks), tangible assets and goodwill pertaining to S&A business for a consideration by way of nine separate agreements to a buyer. The transfer of each asset was for a separate consideration individually negotiated at arm's length price. The Taxpayer also entered into a non-compete agreement with the buyer. The Taxpayer offered to tax, consideration received towards goodwill and non-compete fees. However, the Taxpayer did not offer to tax consideration received towards IPR on an understanding that the same was a nonchargeable capital receipt. 2 EY Tax Alert

3 The Tax Authority held the transaction under reference as a slump sale by regarding the transfer as transfer of entire business. The Tax Authority, accordingly, applied the provisions of computation of income as applicable to a slump sale and assessed capital gains by including the consideration received towards IPR. The First Appellate Authority affirmed the Tax Authority s order. Being aggrieved, the Taxpayer filed appeal before the Tribunal. Taxpayer s contentions Since slump sale, by definition, requires that no individual values be assigned to the assets and liabilities, the present transaction cannot be regarded as slump sale. The transaction is of itemized sale with individual values being assigned to each asset under a separate agreement. The Taxpayer s intention was to sell individual assets only. Neither was the land transferred nor were the liabilities taken over by the buyer. Further, the sale transactions of individual assets were at arm s length with unrelated party. Tax Authority s contentions The nature of the transaction entered into by the Taxpayer for transfer of its S&A business is a slump sale since the transfer was of entire business including all tangible and intangible assets. Hence, the full consideration received on transfer is chargeable to tax in the hands of the Taxpayer in terms of specific provisions governing slump sale. Despite the specific request from the Tax Authority, the Taxpayer never revealed the basis for valuation of assets. Hence, the possibility of an agreed lump sum price artificially allocated to different assets cannot be ruled out. Tribunal s ruling The Tribunal ruled in favor of the Tax Authority and held that: The transactions entered into by the Taxpayer, when seen collectively, suggest that there is a transfer of entire business to the buyer. Hence, it is in the nature of slump sale. The term business denotes an abstract thing that includes physical adjuncts like plant and machinery and stock as well as the intangible elements like goodwill, IPRs etc. In the present case, transfer was not only of the manufacturing apparatus, but, the business as a whole. IPRs, along with goodwill and non-compete, were part and parcel of the same business. They were integral, indivisible components of a composite unit sold to the buyer. All the agreements read together revealed that what was sold by the Taxpayer was a running business as a going concern and not merely few assets. Reference to various terms in the agreements as well as Director s Report and Auditors Report reflected that the Taxpayer s intention was to transfer the entire business to the buyer on a lockstock-barrel basis and as a going concern. The Taxpayer did not retain any products or IPR relating to S&A business. In the commercial world, the transactions have to be seen and considered in totality by applying the principle of substance over form. The treatment given by the Taxpayer in its books of account or mode of an agreement entered into by the Taxpayer cannot alter the real character of the transactions. Mere circumstance that the land on which S&A business was carried on was not transferred is not decisive of the character of the sale. The Taxpayer did neither submit valuation report nor did he provide any basis for valuation of assets to support that values of individual assets were separately arrived at. The Taxpayer ought to have filed proper valuation report in support of its contention that the transaction was an itemized sale. The SC decisions [4] relied upon by the Taxpayer explaining the concept of slump sale on the basis of lump sum price for entire business are distinguishable, since they were in the context of different provisions of the ITL prior to the insertion of the specific provision in the ITL to tax slump sale transactions. [4] Artex Manufacturing Co [227 ITR 260 (SC)]; Electrical Control Gear Mfg Co. [227 ITR 270(SC)]; Mugneeram Banglu & Co. [(57 ITR 299)(SC)]; PNB Finance Ltd. [(307 ITR 75(SC)] 3 EY Tax Alert

4 Comments The present ruling appears to take a view where facts and circumstances of the case suggest that if the intention of the parties is to transfer the entire undertaking on lock-stock-barrel basis, then the transaction is in the nature of slump sale, regardless of separate agreements entered into by the parties or book treatment given by the seller. The present ruling, to the extent it applies the principles of substance over form in reading various agreements and deeds, appears to be inconsistent with a recent SC decision in the case of Vodafone International Holdings B.V. v. UOI [5] wherein the SC advocated a look at approach and not look through approach. [5] [(2012) 341 ITR 1(SC)] 4 EY Tax Alert

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