Taxation - Avoidance v/s Evasion

The Karnataka High Court has delivered an interesting judgment in the case of Bhoruka Engineering Services v/s Deputy Commissioner of Income Tax (IT). The issue involved was – does an arrangement of the Assessee to avoid the payment of tax contravene any statutory provision?

The Case

Bhoruka Steel Ltd had a mini steel plant in Bangalore for manufacture of billets and rolled products. The company became a sick industrial unit and a rehabilitation programme was formulated. The company had 37 acres of land in Bangalore. Out of this, 30 acres was proposed to be disposed of at a reserve price of Rs25 lakh per acre.

 The land was bought by a group company – Bhoruka Financial Services Ltd (BFSL). Later, the assessee and another group of individuals sold their 98.73 stake in BFSL on the Magadha Stock Exchange to real estate developer DLF after paying security transaction tax. BFSL claimed exemption from gain on sale of shares under Sec 10(38) of IT Act, 1961. BFSL had sold its all other assets (except land) before selling shares to DLF.

The assessing officer (AO) held that the sale of shares by the assessee was a colourable device. According to AO, as immovable property was transferred, the assessee was liable to pay short-term capital gain tax as the property had been sold within 36 months. The order of the AO was upheld both by the Commissioner of IT and the IT appellate Tribunal on appeal by the assessee. The assessee then approached the Karnataka High court (HC).

The HC in its judgment held that every tax payer is entitled to arrange his affairs so that his taxes are as low as possible and he is not bound to select the pattern that will replenish the treasury. If the taxpayer is in a position to carry a transaction in two alternative ways, one of which will result in liability to tax and the other of which will not, he is at liberty to choose the latter and to do so effectively in the absence of any specific tax avoidance provision. If BFSL had sold the property through execution of a sale deed and received the sale consideration, then BFSL ought to have paid capital gain tax. By resorting to tax planning, the assessee took advantage of the benefit in the law.

Tax avoidance means avoiding tax payment by complying with the provisions of the law but taking advantage of loopholes in law. On the other hand, tax evasion means avoiding payment of tax through illegal means or fraud.

(The write up is sourced from Capital Market Magazine)

Note: In addition to saving the capital gains tax, BFSL had also saved the stamp duty payable for registration of sale deed at the Sub-Registrar’s office. A very intelligent and ingenious tax saving methodology indeed!