Appreciation of investment

2013 PTD 116 INLAND REVENUE APPELLATE TRIBUNAL OF PAKISTAN Judicial Precedent

Ss.109(1)(a), 99, 67, 177, 122(1), 122(5) & Fourth Sched., Rr.6A & 5(b)Recharacterization of income and deductionsInsurance businessExemption of capital gains from sale of sharesCapital gainScopeAppreciation of investmentScopeTaxpayer provided services of general insurance in the spheres of fire, marine, motor as well as miscellaneous

Taxpayer's claim of exemption of capital gain under R.6A of the Fourth Schedule to the Income Tax Ordinance, 2001 was rejected on the ground that it was not a capital gain and was in fact "appreciation of investment" which was taxable under R.5(b) being actually an appreciation in value of shares as the taxpayer sold and simultaneously re-purchased the same shares of blue chip companies within 72 hours in a highly controlled manner with the help of an associate through a series of same day twin and simultaneous transactions on the ground that present case was a case of tax avoidance under S.109 of the Income Tax Ordinance, 2001 and was not a capital gain rather it was mere sum taken credit for the accounts for "appreciation of investments" and was liable to be recharacterized under S.109(1)(a) of the Income Tax Ordinance, 2001 read with R.5(a) and R.5(b) of the Fourth Schedule to the Income Tax Ordinance, 2001

Assessing Officer, further made addition under S.67 of the Income Tax Ordinance, 2001 being apportionment of expenses between Presumptive Tax Regime (PTR) and Normal Tax Regime (NTR)

First Appellate Authority confirmed the action of Assessing Officer in respect of capital gain re-characterized under S.109 of the Income Tax Ordinance, 2001 as revaluation gain and added the same under R.5(b) of the Fourth Schedule to the Income Tax Ordinance, 2001; and deleted the addition made under S.67 of the Income Tax Ordinance, 2001

Taxpayer contended that since it was engaged in business of General Insurance and S.99 read with R.5 of the Fourth Schedule of the Income Tax Ordinance, 2001 was applicable being special law; that capital gain on sale of shares was exempt under R.6A of the Fourth Schedule to the Income Tax Ordinance, 2001, that such capital gains had been taxed by invoking S.109 of the Income Tax Ordinance, 2001 by treating the actual realized gain as sum taken credit for in the account on account of appreciation read with Rr.5(a) and 5(b) of the Fourth Schedule to the Income Tax Ordinance, 2001

Validity

Transactions of sale and repurchase had taken place resulting in actual realization of capital gain which had accumulated over the years for the reason of increase in market prices of the shares over the taxpayer's cost of purchase

Veracity of such transactions had not been doubted by Taxation Officer in his order

Taxation Officer observed that all elements of the transactions existed including sale consideration, movement of funds, delivery of shares in CDC accounts, deduction of tax and Capital Value Tax on transactions

Tax avoidance could only be done where a taxpayer had more than one modes of carrying out a particular transaction which resulted in different tax liabilities for each mode

Increase in market value of investment held for sale could not be credited to reserve due to statutory requirement of Security and Exchange Commission of Pakistan (Insurance) Rules, 2000

Appreciations on account of market value on investment held for sale had been disclosed by taxpayer in its accounts by way of notes in past years

Until the appreciation in value of investment was credited to reserve account provision of R.5(b) of the Fourth Schedule to the Income Tax Ordinance, 2001 requiring such credit to be considered a part of taxable profit could not be invoked

Taxpayer had no option but to opt for sale of the investment to realized capital gain which although form part of the balance of profit under R.5 of the Fourth Schedule to the Income Tax Ordinance, 2001 but to exclude therefrom under the provision of R.6A of the Fourth Schedule to the Income Tax Ordinance, 2001

Revaluation of such investment was not possible under the statutory framework for issuance companies and it could not be substantiated that the taxpayer in order to avoid tax opted for realization of capital gain by selling the securities instead of revaluing such securities

Economic substance of appreciation, and realization of gain were different

Real benefit of appreciation could only be crystallized by selling the securities resulting into increase in distributable reserve which could be used for dividend payments whereas revaluation could only give rise to notional gains

Term "wash sale" carried a special meaning when viewed with reference to tax avoidance

Wash sale was the instrument used for crystallizing unrealized losses by sale of securities with the intent to offset such losses against taxable gains to reduce the tax liability, and in such a case there was a repurchase of the same securities to maintain the same investment portfolio

Transaction in the present case was for realization of gain which remained exempt in the year of the transaction but also subsequently up to the date

Law provided for exemption/exclusion under R.6A of the Fourth Schedule to the Income Tax Ordinance, 2001

Contention of Department that "avoidance of an anticipated tax" fell under the tax avoidance scheme could not be accepted as it would mean that all transactions which were covered by time-bound exemptions would fall under tax avoidance scheme and it would make exemption provided by law as redundant and all such transactions would become taxable before the exemption expires

Entire exercise done by the Taxation Officer was unlawful and the order passed by him was illegal and without jurisdiction which was annulled by the Appellate Tribunal and order of First Appellate Authority confirming the additions made was vacated.