Penny Stock LTCG Claims Cannot Be Rejected Without Cogent Evidence: ITAT Ahmedabad Rules in Favour of Assessee

Case Overview

ITO Vs Ice Worth Reality LLP (ITAT Ahmedabad)

The Income Tax Appellate Tribunal, Ahmedabad, recently pronounced its ruling on two Revenue-preferred appeals challenging separate appellate orders dated 24.09.2020 passed by the Commissioner of Income Tax (Appeals)-5, Ahmedabad. The appeals arose from assessment orders passed under Section 143(3) read with Section 147 of the Income Tax Act, 1961 for Assessment Year 2012-13, and separately under Section 143(3) for Assessment Year 2015-16. The Tribunal, after examining the factual matrix and applicable legal precedents, confirmed the deletion of additions made under Section 68 and Section 69C of the Income Tax Act, 1961, in both years under appeal.

ITA No. 566/Ahd/2020 — Assessment Year 2015-16: LTCG on Penny Stock Shares

Background and Share Transaction Details

The assessee is a Limited Liability Partnership engaged in civil contracting. The LLP came into existence upon conversion from Iceworth Realty (P) Ltd. Originally, Iceworth Realty (P) Ltd had acquired 39,61,270 shares of Conart Traders Pvt. Ltd. — 8,23,770 shares on 05.10.2011 and 31,37,500 shares on 31.03.2012 — at Rs. 20/- per share, aggregating to Rs. 7,92,25,400/-.

Subsequently, pursuant to an amalgamation scheme approved by the Hon'ble Mumbai High Court, three companies — Conart Traders (P) Ltd., Santoshima Tradelink (P) Ltd., and the listed entity Sunrise Asian Ltd. — were merged. As a consequence, the assessee received the equivalent quantity of 39,61,270 shares of Sunrise Asian Ltd.

The shares of Conart Traders (P) Ltd. were originally acquired through account payee cheques. These shares were dematerialised on 31.12.2013 into demat account no. 00075678 with DJS Stock & Shares Ltd., and were subsequently transferred to the demat account of Aarya Equity (I) Pvt. Ltd., Mumbai on 14.11.2014.

Sale of Shares and LTCG Claim

Out of the total holding, the assessee sold 12,15,840 shares through four SEBI-registered brokers:

1. Trade Bulls Securities (P.) Ltd., Ahmedabad
2. BMA Wealth Creators (P.) Ltd., Kolkata
3. Concept Securities Ltd., Surat
4. Arya Equity (I) Pvt. Ltd., Mumbai

The gross sale consideration received aggregated to Rs. 63,30,91,656/-, received entirely through cheques. All sale contracts were executed through the stock exchange and were subject to Securities Transaction Tax (STT). The assessee was not a promoter of the company whose shares were being sold. Accordingly, the Long Term Capital Gain was computed as under:

The assessee filed its Return of Income for AY 2015-16 claiming the above LTCG of Rs. 60,87,74,856/- as exempt under Section 10(38) of the Income Tax Act, 1961.

Assessing Officer's Action

The return was selected for complete scrutiny on grounds of suspicious share transactions involving penny stocks and the claim of LTCG exemption under Section 10(38). The Assessing Officer issued a show cause notice relying on:

• An Investigation Report of the Investigation Wing, Kolkata
• Statement of Shri Vipul Vidhur Bhatt, Director of Sunrise Asian Ltd.

The Assessing Officer alleged that the LTCG was pre-arranged and constituted a device for tax evasion. Consequently:

• Rs. 60,87,74,856/- was added as unexplained cash credit under Section 68 and taxed under Section 115BBE
• Rs. 3,04,38,743/- (representing 5% notional commission) was added as unexplained expenditure under Section 69C
• A total tax demand of Rs. 29,33,12,750/- was raised

Assessee's Response Before the Assessing Officer

The assessee submitted a detailed reply dated 04.12.2017, explaining that:

• Shares held in physical form were dematerialised only on 31.12.2013
• Sales were conducted through four registered brokers at different rates on different dates
• The assessee's name did not appear in any statement or investigation report
• A request was made to provide all statements and investigation reports, and to allow cross-examination of Shri Vipul Vidhur Bhatt

The Assessing Officer provided copies of Shri Vipul Vidhur Bhatt's statements but issued summons under Section 133(6) on 27.11.2017 and 06.12.2017, to which Shri Bhatt did not appear. The Assessing Officer proceeded with the additions despite the incomplete cross-examination process.

CIT(A)'s Findings — Deletion of Additions

Documentary Evidence Examined

The CIT(A) undertook a detailed examination of the documentation and noted the following key factual findings:

The CIT(A) made the following critical observations:

• The assessee was definitively a shareholder before 22.03.2013 as evidenced by the amalgamation petition filed before the Hon'ble Bombay High Court, which contained the name of Iceworth Reality (P) Ltd. as holder of 39,61,270 shares
• The amalgamation scheme was duly approved by the Hon'ble Mumbai High Court after considering the affidavit of the Regional Director and the report of the Official Liquidator dated 15.03.2013
• Only 12,15,840 shares were sold out of the total holding of 39,61,270 shares, with the balance 27,45,430 shares continuing to appear in the balance sheet as on 31.03.2015
• Payments for sale were received entirely through banking channels

Cross-Examination Issue — A Critical Legal Infirmity

The CIT(A) noted a fundamental procedural defect in the assessment: the Assessing Officer relied on the statement of Shri Vipul Vidhur Bhatt without completing the cross-examination process effectively. The following significant facts emerged:

"The appellant also submitted that the statement of Vipul Vidur Bhatt ought not to be relied unless the copy of statement is confronted and an opportunity to cross examine him was allowed."