1. The assessee, H. Holck Larsen, was a partner in the firm of Messrs. Larsen & Toubro, which, on the 7th of February, 1946, was converted into a private limited company. On such conversion the assessee was allotted 53,486 equity shares of Rs. 10 each, against his interest in the partnership firms. He purchased, in addition, 1,875 equity shares for cash consideration. In 1950, so we are informed, the company was converted into a public limited company and in course of time the assessee became the chairman of its board of directors.
2. From the 1st of April, 1947, to the end of March, 1954, the assessee acquired 1,994 shares of the company, all the which were offered by the company as right shares. During this period, the assessee sold 1,550 shares from his total holding. He was assessed for these years as an investor. He acquired further right shares and sold shares from his holding in the subsequent years ending 31st of March, 1958, and he was assessed for these years also as an investor. We understand that the Income-tax Officer has re-opened the assessments of 1957-58 and 1958-59 but with that we are not concerned here.
3. We are concerned in this reference with assessment years 1959-60 and 1960-61 which correspond to the accounting years ended the 31st of March, 1959, and the 31st of March, 1960, respectively. The Income-tax Officer took the view that the assessee was an investor till the 31st of March, 1954, but that from the financial year 1954-55 the assessee had purchased and sold shares of the company with frequency and had become a dealer. The profits realised by the assessee during the two assessment years on the transactions in the shares of M/s. Larsen Toubro Ltd. and of certain other companies was, therefore, brought to tax as a revenue receipt. This view was confirmed by the Appellate Assistant Commissioner and the Income-tax Appellate Tribunal. At the instance of the assessee the Tribunal has referred the following question for our opinion :
'Whether, on the facts and in the circumstances of the case, the assessee was a dealer in shares in the accounting periods relevant to the assessment years 1959-60 and 1960-61 ?'
4. Mr. Kolah, appearing for the assessee, contends that the intention of the assessee in selling the right shares and the rights which he had acquired after April, 1954, was not to made a profit by purchasing and selling those shares but his intention consisted of a complex of different motives. The assessee had to acquire the right shares or the rights in order to prevent a fall in the value of his investment and the sale of those shares and the renunciation of rights was calculated to achieve the same purpose. The dominant purpose behind the transactions was thus to nurse the investments and it was only incidental that the sales yielded a profit. Counsel further says that the sales were partially motivated by the consideration that the assessee had to keep his overdraft account within reasonable limits and he had to find money for acquiring the right shares offered from time to time. The assessee, therefore, continued to be an investor even after the dividing line drawn by the authorities.
5. On the other hand, Mr. Hajarnavis, who contends for the opposite view, says that though the assessee was originally an investor, he acquired the right shares for the purpose of trading in them, that these acquisitions were not mere accretions to the original holding but were made by the assessee for the purpose of making a profit by selling the right shares and by renouncing the right and that the dominant motive behind the post-1954 transactions was to make a profit by dealing in shares. Counsel says that the pattern of these transactions, their frequency and the fact that the acquisitions were made with the help of borrowed moneys show that the assessee had converted his investment shares into stock-in-trade. The character of the pre-1954 transactions cannot colour the option nor, says the learned counsel, would a trading transaction in the hope that thereby he will prevent a depreciation in the value of his original holding.
6. Whether transactions of sale and purchase of shares are trading transactions or whether they are in the nature of investment is a question of law. That position is well-settled. It is also clear that the problem whether a transaction is a trading transaction must be approached in the lights of the assessee's intention having regard to the legal requirements which are associated with the concept of trade and business (see Oriental Investment Co. Ltd. v. Commissioner of Income-tax and Ramnarian Sons (P.) Ltd. v. Commissioner of Income-tax). It must however be borne in mind that there is no formula of universal application for determining this question and every case has to be decided on its own facts. Very often, the course of transactions falls fairly on one side of the line or the other and the facts found by the Tribunal are susceptible of a clear inference. The border-line cases, however present difficulty, particularly when, as in this case, an assessee assessed as an investments into stock-in-trade.
7. The transactions of the assessee may be divided into two categories in order to concentrate attention on what is directly and immediately relevant for determining the question referred to us. The assessee held shares of M/s. Larsen and Toubro as well as of other companies and during the relevant period he had entered into transactions in shares of other companies are negligible and, therefore, the question whether the assessee is a dealer in shares had to be decided with reference, mainly, to the sales and purchases of the shares of M/s. Larsen and Toubro. That is the basis on which the taxing authorities proceeded. This, of course is not to forget the contention of the revenue that the assessee accepted, without demur, the finding that he was a dealer in the shares of other companies.
8. And let us deal with this last contention here and now. It is true that the assessee has been assessed as a dealer in those other shares and he made no grievance of that at any stage. But that circumstance, though not outside the scope of the present inquiry, cannot determine the true nature of the transactions now in issue. Incidentally, we may point out that the profit made by the assessee in the two assessment years in question by sale of other shares was assessed at Rs. 712 and Rs. 973, respectively.
9. On the 31st March, 1959, which is the end of the accounting year corresponding to the assessment year 1959-60, the assessee held shares of the value of Rs. 8,24,391 in M/s. Larsen & Toubro Ltd. During that accounting year, he sold 5,200 shares of M/s. Larsen & Toubro for Rs. 87,810 resulting, according to him, in a gain of Rs. 35,198. He renounced the rights in regard to the shares of M/s. Larsen & Toubro and realise Rs. 11,349. He had also sold shares of other companies for Rs. 3,613 yielding a profits of Rs. 712. The assessee showed these gains in his return as capital gains.
10. During the accounting year ended the 31st of March, 1960, for which the corresponding assessment year is 1960-61, the assessee sold 10,400 shares of M/s. Larsen & Toubro for Rs. 2,45,732 resulting, according to him, in a gain of Rs. 1,33,467. This amount and the sale of other shares was shown by the assessee as capital gains.
11. The following table shows the holding of the assessee in M/s. Larsen & Toubro and the sales effected by him from the beginning of the financial year 1945-46 to the end of the financial year 1953-54 :
----------------------------------------------------------------------Financial year No. of shares No. of sharesending purchased or soldacquired(1) (2) (3)----------------------------------------------------------------------31-3-1946 1,875 ------31-3-1947 53,486 ------31-3-1948 250 5031-3-1949 ----- ------31-3-1950 ----- 1,50031-3-1951 1,600 ------31-3-1952 ----- ------31-3-1953 ----- ------31-3-1954 144 ----------------------------------------------------------------------------
12. From out of the shares included in column two above, the last three acquisitions, namely, of 250 shares, 1,600 shares and 144 shares were of right shares. It may be recalled that 53,486 shares were allotted to the assessee against his interest in the partnership firm when that firm was converted into a private limited company, while 1,875 shares were purchased by him for cash consideration.
13. The following table shows the holding of the assessee in M/s. Larsen & Toubro from April 1, 1954, to 31st March, 1960, the shares sold by him during that period and the price realised by the sale :
----------------------------------------------------------------------Financial year No. of Value No. of Sale Priceending shares Rs. shares Rs.acquired sold(1) (2) (3) (4) (5)----------------------------------------------------------------------31-3-1955 ------ ------ 4,600 51,17331-3-1956 6,111 61,110 13,955 1,88,43331-3-1957 6,102 61,020 7,661 1,24,40631-3-1958 1,256 12,560 5,050 63,72131-3-1959 5,500 55,000 5,200 87,81031-3-1960 11,000 1,11,000 10,400 2,45,732----------------------------------------------------------------------
14. In the financial year 1954-55, though 4,600 shares are shown to have been sold, only 4,300 out of those were sold for consideration. The remaining 300 shares were gifted to a servant during the financial year 1959-60, though 10,400 shares were sold for a total consideration of Rs. 2,45,732, only 900 out of these have been identified (by an unconventional process) by reference to their distinctive numbers as being out of the shares which were purchased by the assessee after the 31st March, 1954. Those 900 shares were sold for Rs. 20,678.
15. Before considering the question referred for our opinion, we would like to state that though the assessment of previous years was completed and had become final, it was open to the tax authorities to inquire in the present proceedings as to what was the true nature of the transactions which figured in the earlier proceedings. The decision in the earlier proceedings. The decision in the earlier assessments that the assessee was an investor is not binding in assessment proceedings for subsequent years. In New Jehangir Vakil Mills Co. Ltd. v. Commissioner of Income-tax, it was held that the circumstances that in 1943 the assessee was held to be an investor did not estop the tax authorities from considering for the purpose of computation of the profits of the year 1944 as to when the trading activities of the assessee began. That was not tantamount to reopening the assessment of 1943, for, in matters of taxation, there is neither res judicata nor estoppel by record. Therefore, in the instant case the authorities were within their rights in inquiring whether the assessee had commenced his trading activities long before the two assessment years with which they were directly concerned.
16. Having considered the matter in all the aspects presented before us, we are of the opinion that for the two assessment years 1959-60 and 1960-61, the assessee was, what he always was, an investor. That he acquired the right shares and sold them at a profit or that he renounced the rights and made a profit is not sufficient to make him a dealer in shares if, otherwise, he was not a dealer. Normally, a trade is carried on with a view to profit, and transactions that yield profit are only too readily treated as trading transactions. However, the point of the matter is not whether a profit has resulted by the sale of shares, for that profit could be a gain in the capital by the realisation of an investment; or, a sale may yield no profit in the shape of a difference between the cost price and the selling price and yet the transaction could be a trading transaction if it appeared that the seller had sought his profits through other avenues.
17. The frequency of transactions and the fact that acquisitions were made with the help of borrowed funds are, undoubtedly, factors to be taken into account but they also are no more decisive of the true nature of the transaction than the circumstance that the transaction has in fact yielded a profit.
18. In G. Venkataswami Naidu & Co. v. Commissioner of Income-tax, the Supreme Court has cited, with approval, a passage from the judgment of Lord President Clyde in Balgownie Land Trust Ltd. v. Commissioner of Inland Revenue, to the following effect :
'.... a single plunge may be enough provided it is shown to the satisfaction of the court that the plunge is made in the waters of trade; but the sale of a piece of property - if that is all that is involved in the plunge - may easily fall short of anything in the nature of trade. Transactions of sale are characteristic of trade, but they are not necessarily distinctive of it; much depends on the circumstances.'
19. Mr. Hajarnavis placed strong reliance on the circumstances that the assessee had borrowed from his overdraft account for the purpose of acquiring the right shares, in support of the contention that the transactions are trading transactions. Apart from the fact no single circumstance has a special significance, there is nothing on the record to show to what extent or in what measure the overdraft account was utilised for acquiring right shares, nor indeed is there anything to show the gain which was likely to result or which in fact resulted to the assessee by paying interest on the borrowed funds. It must appear, if the fact of borrowing is to be ascribed so much importance, that the profit by the sale of shares was likely to be more than the interest payable on the borrowings.
20. For a proper understanding of the course of transactions in question, it is necessary to appreciate the implications of the issue of right shares. On the issue of such shares, the value of the old shares depreciates, because the assets of the company remain stationary, while the number of shares increases. It is elementary that a company will not offer right shares for anything higher that the market price for, were it otherwise, the shareholder will prefer to purchase the shares in the open market. Acquisition of right shares is the privilege of existing shareholders but a concomitant of this privilege is the depreciation in the value of the old holding. The depreciation consequent upon the issue of right shares cannot be worked out by the application of a mathematical formula because several factors act and react on the prices of shares. In some cases the depreciation may even be hypothetical because the increase of capital may open up new avenues to the company for making larger profits. But, it is in consideration of a consequential depreciation in the value of old shares that law gives to the existing shareholders the right to obtain the new shares or to renounce that right. Section 81 of the Companies Act, 1956, provides, to the extent it is material, that if a company proposes to increase its subscribed capital by allotment of further shares, such shares shall be offered to the existing shareholders of equity shares and the offer shall be deemed to include a right to renounce the shares. The right to receive the new shares is, to say, embedded in the old shares.
21. That is why in Miss Dhun Dadabhoy Kapadia v. Commissioner of Income-tax, the Supreme Court held that the net capital gain or loss to the assessee, who renounced her right to obtain the right shares, was the 'difference between the value of the capital asset and the cash in her hands after she had renounced her right and realised the cash value in respect of it, and the value of the capital asset including the right which she possessed just before these new shares were issued and before she realised any cash in respect of the right by renouncing it in favour of some other person'. Alternatively, the Supreme Court held that the capital gain made by the assessee would be 'represented only by the difference between the money realised on transfer of the right and the amount which she lost in the form of depreciation of her original shares in order to acquire that right'.
22. In the instant case, the assessee acquired the right shares and sold them and he also renounced some of the rights. The question which we have to consider is whether by indulging in these transactions the assessee was trading in shares or whether he entered into these transaction in the old capacity of an investor.
23. A shareholder may not want to acquire and retain the right shares for a variety of reasons, one of which could be that his financial capacity to acquire the new shares and retain them is unequal to the new demand. His intention, therefore, in acquiring such shares and selling them or in renouncing the rights may not necessarily be to trade therein but to sell increase the layout of his moneys in the same company and, therefore, he may acquire the right shares and sell them or renounce the rights.
24. When the right shares are offered to an existing shareholder, he has to act either by renouncing the rights or by acquiring the right shares. Either activity is directed at preventing an erosion of his capital, for it is axiomatic that if he did not act there would be a fall in the value of his capital.
25. The course of dealings in the case before us shows that the dominant motive of the assessee in acquiring and selling the new shares and in renouncing some of the rights was to prevent an inevitable erosion of his capital. If he had not acted in the manner he did, his original investment would have depreciated in value and, therefore, in a sense he entered into these transactions in order to 'nurse' his investments.
26. It is important to bear in mind, and that could be appreciated if one has regard to what we have stated above, that the right shares were not acquired by the assessee as a matter of free choice. He acquired those shares because if he did not do so, his capital would erode. But acquired those shares because if he did not do so, his capital would erode. But, he had to find so much more money in order to acquire the shares and it is not always prudent to permit the overdraft account to swell. What the assessee did was to acquire the right shares in order to prevent depreciation of his investment and he decided to sell right shares and to renounce some of rights as he had to find money to acquire the right shares issued from time to time. It is undoubtedly true that these transactions yielded a profit but it is wholly unrealistic to say that the transactions were dominated by a profit motive. Therefore, the gain which the assessee made cannot be brought to tax as a revenue receipt.
27. It is urged on behalf of the revenue that even assuming that the assessee was actuated by a desire to prevent an erosion of his capital, he had achieved that purpose when he acquired the right shares and he did not have to sell those shares for preventing a depreciation of his investment. The sale of the shares, according to the revenue, was effected merely with a view to making profits and for no other purpose. We are unable to accede to this contention. One of the important factors to be taken into account in matters of this nature is whether the first step was taken in the entire process of acquisition and sale with a view to trading or whether the first step was taken in order to protect an investment. The subsequent sale of what was acquired to protect an investment will not necessarily make the transaction a trading transaction. We are, therefore, unable to hold that the mere fact that right shares were subsequently sold impresses the transactions with the character of trade. Were it to appear that after acquiring the right shares for protecting his investment, the assessee had changed his intention and had decided to deal in the shares, the profits yielded by selling those shares would be a revenue receipt in the hands of the assessee. But in the absence of data showing any such change in the original intention of the assessee, neither the fact that the shares were sold or the rights were renounced nor the fact that such a sale or renunciation yielded a profit can affect the true nature of the transaction. The presumption is that the same state of fact continues and any one who wants to contend that the state of facts has undergone a change must discharge the burden of proving it.
28. The decision of the House of Lords in J. P. Harrison (Watford) v. Griffiths (H. M. Inspector of Taxes) on which the department relies cannot avail it because the transaction there was a trading transaction and what was held was that it did not cease to be a trading transaction merely because the assessee hoped thereby to obtain a fiscal advantage. If anything, we would like to draw attention to page 301 of the report where Lord Morris of Borth-y-Gest says that in judging as to the essential nature of a transaction, it is often relevant and of assistance to consider the objects and intentions which are the inspiration of the transaction. We have endeavoured to show how the true object and intention of the assessee was to prevent a depreciation in the value of his investment.
29. The table incorporated in the statement of the case shows, inter alia, the number of right shares which the assessee was entitled to receive as a shareholder and the number of shares actually acquired by him. In the assessment year 1956-57, the assessee was entitled to acquire 6,915 right shares but he acquired only 6,111 shares. In the assessment year, 1958-59, he was entitled to acquire 4,572 such shares but he acquired only 1,256. In 1959-60 which is the first of the two assessment years in question, he was entitled to acquire 7,441 shares but he acquired only 5,500. In 1960-61, which is the second year of assessment involved in the reference, he was entitled to acquire 12,402 shares but he acquired only 11,000. If the dominant intention of the assessee was to trade in the shares, he would have normally acquired all that the shares had a ready market and were saleable at a premium, as shown by the figures of profit which the sales yielded. The fact that the assessee denied to himself a clear opportunity to make a large profit does not bear out the theory that he wanted to convert his investment shares into stock-in-trade.
30. In coming to the conclusion that the assessee is a dealer in shares, the Tribunal was influenced by the circumstance that the assessee had sold his original holding also at a large profit. The sale of the old shares, however, is, rightly, not stressed before us. The form of the argument in this court was that if the matter had rested with the sale of old shares, the assessee could have been treated as an investor but the acquisition of right shares and their sale coupled with the renunciation of rights showed that he had turned a dealer in shares. We have dealt with this latter aspect at some length.
31. For these reasons, we hold that the assessee was not a dealer in shares in the accounting periods relevant to the assessment years 1959-60 and 1960-61 and answer the question referred to us in the negative.
32. The Commissioner will pay to the assessee the costs of this reference.