1. The querist is an individual.
The querist along with other family members had promoted a company, ABC Ltd. The
said company is a public company, but its shares are not listed and are not
quoted on any recognised stock exchange. The querist owns a large number of
shares in the said company since 1974.
2. The said shares were sold as
part of an understanding with other family members during financial year ending
March, 2004. For computing long-term capital gains, indexed cost of acquisition
has to be deducted from the sale consideration. In the present case, as shares
have been acquired prior to 1-4-1981, the querist has an option to substitute
market value of unquoted shares as on the said date for cost of acquisition.
3. The querist has been advised
that though yield method of valuation is more appropriate for determination of
value of shares in a going concern, in view of decision of the Supreme Court in
Gautam Hari Singhania, 207 ITR 1 (SC), break-up value method of valuation of
shares is mandatory.
4. On the above facts, querist
seeks opinion as to what is the appropriate method for determination of market
value of unquoted equity shares for the purpose of computation of capital
5. In the case of the querist,
market value of unquoted equity shares has to be determined as on 1-4-1981. The
company was a going concern on the said date. Further, such valuation has to be
for the purpose of computation of capital gains under Income-tax Act, 1961.
Under the Act, no rules have been prescribed for determination of market value,
and therefore, commercial rules for determination of market value of shares will
have to be adopted.
6. The issue of valuation of
equity shares was considered in one of the earliest cases in CWT v. Mahadeo
Jalan, 86 ITR 621 (SC) and it was laid down as follows :
"An examination of the
various aspects of valuation of shares in a limited company would lead us to
the following conclusion :
(1) Where the shares in a
public limited company are quoted on the stock exchange and there are
dealings in them, the price prevailing on the valuation date is the value of
(2) Where the shares are of
a public limited company, which are not quoted on a stock exchange or of a
private limited company, the value is determined by reference to the
dividends, if any, reflecting the profit-earning capacity on a reasonable
com-mercial basis. But, where they do not, then the amount of yield on that
basis will determine the value of the shares. .........
(3) In the case of a private
limited company also, where the expenses are incurred out of proportion to
the commercial venture, they will be added back to the profits of the
company in computing the yield. In such companies, the restriction on share
transfers will also be taken into considera-tion, as earlier indicated, in
arriving at a valuation.
(4) Where the dividend yield
and earning method break down by reason of the company’s inability to earn
profits and declare dividends, if the set-back is temporary, then it is
perhaps possible to take the estimate of the value of the shares before
set-back and discount it by a percentage corresponding to the proportionate
fall in the price of quoted shares of companies which have suffered similar
(5) Where the company is
ripe for winding up, then the break-up value method determines what would be
realised by that process.
(6) As in Attorney-General
of Ceylon v. Mackie, a valuation by reference to the assets would be
justified, whereas in that case, the fluctuation of profits and uncertainty
of the conditions at the date of the valuation prevented any reasonable
estimation of prospective profits and dividends."
Therefore for a going
concern, yield method was held to be appropriate to determine its market
value and normally break-up value is adopted only where the company is ripe
7. In its subsequent
judgements in CGT v. Kusumben Mahadevia, 122 ITR 38 (SC), and CGT
v. Ambalal Sarabhai, 170 ITR 144 (SC) the Supreme Court reiterated the
above principles and held that if the company is a going concern, then only
yield method is appropriate method and break-up method cannot be adopted to
determine value of unquoted equity shares.
8. As regards judgement of
the Supreme Court in Gautam Hari Singhania, 207 ITR 1 (SC), it was rendered
in respect of years when rules for valuation of shares were prescribed under
Wealth Tax Rules. Judgement in Mahadeo Jalan, though it was rendered in
context of wealth tax, dealt with assessment years when no rules were
prescribed under Wealth Tax Act or Rules for determination of value of
shares. In Gautam Hari Singhania, for the relevant years, Wealth Tax Rules
prescribed break-up value method for valuation of shares under Rule 1D and
in the said circumstance, it was held that Rules are mandatory, and
therefore, unquoted equity shares have to be valued by break-up value
method. The Supreme Court distinguished the earlier three judgements in
Mahadeo Jalan, Kusumben Mahadevia and Ambalal Sarabhai, on the ground that
either no rules were prescribed for the relevant years or that in the later
two judgements, issue was under Gift Tax Act where also no rules were
prescribed. Therefore, principles laid down by the said three judgements,
being Mahadeo Jalan, Kusumben Mahadevia and Ambalal Sarabhai, that value of
unquoted equity shares in a company which is a going concern has to be
determined by yield method, has not been overruled.
9. In the case of the
querist, value of unquoted equity shares has to be determined for
computation of capital gains under Income tax Act and no method has been
prescribed under the Act or the Rules for such valuation. Further, the
company was a going concern, and therefore, in view of the three judgements
of the Supreme Court in Mahadeo Jalan, Kusumben Mahadevia and Ambalal
Sarabhai, yield method would be appropriate for determination of market
value of shares in ABC Ltd. as on 1-4-1981. The issue was considered in a
recent judgement in Wg. Cmdr. A. G. Mathews v. CGT, (2004) 134 Taxman
236 (Ker.). In the said case, the Kerala High Court, after considering all
the judgements, held that as no rules similar to Rule 1D of Wealth Tax Act
were prescribed under Gift Tax Act at the relevant time, valuation has to be
carried out by yield method and not by break-up value method.
10. In view of the above discussion, the querist
can determine market value of unquoted equity shares in ABC Ltd. by yield method
for determination of capital gains.