In a recent case1, the Hyderabad Bench of the Income Tax Appellate Tribunal (ITAT) upheld the applicability of Section 56(2)(viia) of the Income Tax Act (the Act) in the case of receipt of shares by an amalgamated company at less than Fair Market Value (FMV), pursuant to a scheme of amalgamation.

Brief facts of the case

The taxpayer is engaged in the business of investments. Pursuant to a scheme of amalgamation approved by the Gujarat High Court, 11 amalgamating companies merged with the taxpayer with effect from 01 April 2011 (AY 12-13). The amalgamating companies had identical shareholders and shareholding. Such shareholding and shareholders continued to remain the same in the amalgamated company post-amalgamation.

Considering the same, no separate valuation was obtained for determining the swap ratio for amalgamation. A 1:1 swap ratio was agreed as the ultimate group shareholding remained unchanged.

During scrutiny assessment, the Assessing Officer (AO) opined that the investment in shares which were previously held by the amalgamating company/companies (some of the amalgamating companies were holding equity shares in other amalgamating company as well as investments in quoted shares) have been transferred to the amalgamated company, by virtue of amalgamation, for a consideration less than FMV. Accordingly, the difference in consideration (to the extent lower than FMV) must be taxed under Section 56(2)(viia) of the Act.

The CIT(A) overruled the AO's decision by stating that 'receipt' of shares as employed in Section 56(2)(viia) occurs only on account of a transfer. Since amalgamation cannot be regarded as a transfer as per Section 47(vi) of the Act, the said case will not fall within the purview of Section 56(2)(viia) of the Act. The Revenue filed an appeal with the ITAT against the CIT(A)'s order.

Issue before the Tribunal

Whether Section 56(2)(viia) of the Act is applicable for receipt of shares (which were previously held by an amalgamating company) by an amalgamated company pursuant to a scheme of amalgamation.

Taxpayer's contentions

The taxpayer contended that Section 56(2)(viia) is not applicable in the instant case based on the arguments mentioned below:

  • Merger transactions are outside the purview of Section 56(2)(viia) of the Act
    • Section 56(2)(viia) of the Act was intended to be an anti-abuse provision and does not intend to tax a transaction which is not otherwise taxable under the Act. The Explanatory Memorandum to Finance Act 2010 clearly provided that Section 56(2)(viia) excludes transactions undertaken for business re-organizations, amalgamations, etc.
    • The newly introduced Section 56(2)(x), which is effective from 1 April 2017 subsumes Section 56(2)(viia) and has a wider scope. The transaction of amalgamation covered under Clause (vi) of Section 47 has been specifically excluded from the purview of Section 56(2)(x) of the Act. This also re-enforces the fact that the intent of the legislature was never to cover the business re-organization (such as tax-neutral amalgamation) within its scope.
  • The charging provision fails since there is no transfer of shares but statutory vesting of assets pursuant to a merger
    The merger involves transfer of a business undertaking due to a statutory vesting and hence, no separate consideration can be determined for the transfer of shares individually. In the absence of a specific consideration for each share received on amalgamation, the computation mechanism fails.
  • No change in the ultimate group ownership of the company
    For invoking Section 56(2)(viia), there should be real gains in the hands of the taxpayer so as to conclude that he has earned taxable income. In other words, there should be a betterment in the wealth position of the taxpayer by the merger transaction. Hence, Section 56(2)(viia) would not be applicable in the instant case, where there is neither increase nor decrease in wealth of shareholder.

Tax Authority's contentions

Section 56(2)(viia) has excluded certain transfers from its purview but has retained the transfer arising on amalgamation. Hence, the transfers pursuant to an amalgamation for a consideration less than FMV will be taxable under the head 'Income from Other Sources'.

Ahmedabad Tribunal's ruling

The Tribunal ruled in the favor of the Revenue basis the following:

  • It was observed that Section 56(2)(viia), being a specific charging provision, will override Section 47(vi) of the Act. Thus, the receipt of shares, although not a transfer under Section 47(vi), will be chargeable to taxes under Section 56(2)(viia)
  • Secondly, a bare reading of Section 56(2)(viia) makes it clear that the receipt of property at less than FMV is sufficient to invoke the provision. The language used in the section does not stipulate a transfer of shares. That apart, it cannot be denied that transfer of assets (shares) has actually taken place in view of the merger. Hence, the CIT(A) was not right in holding that Section 56(2)(viia) cannot be invoked. In the course, the Tribunal also upheld the distinction drawn by the AO against the favorable rulings2 quoted by the assessee in this regard.
  • Furthermore, the Tribunal observed that Section 56(2)(viia) has nothing to do with the shareholding patterns by the shareholding companies and amalgamated company. Hence, the CIT(A)'s conclusion that Section 56(2)(viia) cannot be invoked where the shareholders and shareholding were identical post the merger, does not hold good.
  • Lastly, a separate valuation of amalgamating companies was not undertaken to determine the consideration for the merger. Instead, shares of the amalgamated company were issued to the shareholders of the amalgamating company at face value, as a consideration for the merger. Thus, the amalgamated company had not paid consideration equivalent to the FMV of the assets received by it.

Our Comments
Intra-group mergers have a proclivity towards exchange ratios based on book values. A formal valuation is often not sought based on the rationale that the ultimate group shareholding remains unchanged post the merger. This ruling may thus bring such intra-group mergers under the scanner of the Revenue authorities. Thus, it becomes pertinent for taxpayers to back the valuations adopted even in case of intra-group mergers.

Having said that, Section 56(2)(x) of the Act which has substituted the erstwhile Section 56(2)(viia) has a broader scope of exclusions that covers transfers pursuant to amalgamation schemes. This reiterates the fact that Section 56, being an anti-abuse provision, has always intended to exclude genuine business transactions such as court-approved mergers from its purview. However, in the instant case, the Tribunal missed out on the essence of Section 56 by bringing the instant scheme within the ambit of such provisions.

Furthermore, Section 56(2)(x) will render the erstwhile Section 56(2)(viia) ineffective for schemes post 1 April 2017. However, earlier schemes may continue to be susceptible to scrutiny in the wake of the instant ruling.


1. Vertex Projects LLP [TS-224-ITAT-2023(HYD)]

2. Aamby Valley Ltd Vs. ACIT - (2019) 102 385, Dalmia Power Limited Vs. ACIT - (2019) 112 252 (SC)

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