1. Issue for
1.1 In computing
gains arising on the transfer of a long-term capital asset, S. 48 of the
Income-tax Act requires deduction of the indexed cost of acquisition of the
capital asset from the sale consideration. The indexed cost of acquisition is
computed by multiplying the cost of acquisition by the ratio of the cost
inflation index for the year of transfer to the cost inflation index for the
first year in which the asset was held by the assessee or for 1981-82, whichever
1.2 When a
capital asset is acquired by an assessee by gift, inheritance, partition of a
Hindu Undivided Family or under any of the other modes specified in S. 49(1), or
some other modes specified in certain clauses of S. 47, under Explanation 1 to
S. 2(42A), the period for which the asset was held by the earlier owner or in
the earlier form is also to be included as part of the holding period of the
assessee for determining whether the capital asset is a long-term capital asset
or a short-term capital asset.
where the capital asset became the property of the assessee on distribution on
partition of an HUF, under a gift or will, by succession, inheritance or
devolution, on distribution on dissolution of a firm prior to 1st April 1987, on
distribution of assets on liquidation of a company, under a transfer to a
revocable or irrevocable trust, or under transfers referred to in S. 47(iv),
(v), (vi), (via), (viaa), (vica) or (vicb), the cost of acquisition of the
previous owner is deemed to be the cost of acquisition of the assessee.
where a capital asset became the property of the assessee by any of the modes
specified in S. 49(1), and the capital asset was acquired by the previous owner
prior to 1st April 1981, the assessee is entitled to substitute the fair market
value of the asset as on 1st April 1981 for the actual cost.
1.5 The question
has arisen before the Tribunal in various cases as to how the indexed cost is to
be computed in cases where the capital asset became the property of the assessee
by any of the modes specified in S. 49(1) — whether the indexation is to be
considered from the year in which the asset was first acquired by the previous
owner, or from the year in which the asset was first acquired by the assessee.
While some Benches of the Tribunal have held that since the cost as well as the
period of holding of the previous owner are to be taken for computing the
capital gain, the indexation of cost is also to be taken from the first year of
holding of the previous owner, while one Bench of the Tribunal has taken a
contrary view that the indexation of cost is to be taken from the first year of
holding of the assessee, and not of the previous owner.
Kanungo’s case :
2.1 The issue had
arisen in the case of Deputy CIT v.
Kishore Kanungo, 102 ITD 437 (Mum.).
2.2 In this case,
the HUF of which the assessee was a coparcener had entered into an agreement in
March 1981 for acquisition of a flat for Rs.11.01 lakhs, which was under
construction. The construction of the flat was completed in 1988, when
possession of the flat was taken by the HUF. The HUF was partitioned in the
financial year 1991- 92, whereby the assessee and another coparcener became the
owners of the flat.
2.3 The assessee
claimed the fair market value as on 1st April 1981 of Rs.33.73 lakhs as the cost
of acquisition, and claimed cost indexation from that year, on the ground that
the asset was held by the previous owner (the HUF) prior to 1st April 1981.
2.4 The Assessing
Officer computed the capital gain by taking the cost of Rs.11.01 lakhs, and
granted indexation from the financial year 1991-92, the first year in which the
asset was held by the assessee himself. The Commissioner (Appeals) allowed the
assessee’s appeal, holding that the assessee was entitled to adopt the fair
market value as on 1st April 1981, since the previous owner (the HUF) had
acquired the asset on 16th March 1981, and that the assessee was entitled to
indexation from the date of acquisition of the property by the HUF and not from
the date of partition of the HUF.
2.5 Before the
Tribunal, on behalf of the Department, it was pointed out that the agreement
dated 16th March 1981 was for acquisition of a flat which was yet to be
constructed, that the construction commenced in 1978 and was completed in 1988.
It was submitted that the HUF was not the owner of the property as on 1st April
1981, because the property was not ready by that time and most of the payments
were made after that date. It was argued that cost indexation was only available
from the year of partition of the HUF, as S. 49 dealt only with cost of
acquisition and not the year from which indexation was allowable. It was also
argued that Explanation 1(b) to S. 2(42A) only applied for determination of
whether the asset was a short-term capital asset or a long-term capital asset,
and not for the purpose of indexation as per Explanation (iii) to S. 48.
2.6 On behalf of
the assessee, it was argued that the HUF acquired the property on 16th March
1981 as per the agreement. Alternatively, since shares in the Society were
allotted on 12th November 1981, that was the date of acquisition.
2.7 The Tribunal
held that the capital asset of the right to obtain title and possession of the
flat was different from the capital asset of the flat itself. Since the
construction of the flat was completed in 1988, it held that the HUF became the
owner of the flat from that year, and therefore the assessee was not entitled to
substitute the fair market value as on 1st April 1981 for the actual cost.
2.8 As regards
the cost indexation, the Tribunal held that in view of the express provisions of
Explanation (iii) to S. 48, the cost inflation index for the first year in which
the asset was held by the assessee was to be considered. In the opinion of the
Tribunal, this year was 1991-92, the year in which the partition of the HUF took
place. The Tribunal therefore held that cost indexation was available only from
the first year from which the asset was held by the assessee, not by the
Deogun’s case :
3.1 The issue
again came up for consideration before the Kolkata Bench of the Tribunal in the
case of Smt. Mina Deogun v. ITO, 19 SOT 183 (Kol.).
3.2 In this case,
the assessee’s father had acquired a property, in 1958. He expired in 1968,
whereupon the assessee’s mother became the owner of the property. The mother
expired in September 1999, resulting in the assessee and her three sisters
inheriting the property as co-owners. The property was sold during the previous
year relevant to assessment year 2004-05.
3.3 The assessee
substituted the fair market value of the property as at 1st April 1981 for the
cost of acquisition and claimed cost indexation from the financial year 1981-82.
The Assessing Officer, besides disputing the fair market value as on 1st April
1981, allowed cost indexation only from the financial year 1999-2000. The
Commissioner (Appeals) agreed with the Assessing Officer that cost inflation
index applicable to the financial year 1999-2000 was to be adopted as the base,
since in that year, the assessee first held the asset on the demise of her
3.4 Before the
Tribunal, on behalf of the assessee, it was pointed out that the assessee’s
mother was the owner of the property as on 1st April 1981, and that as per S.
2(42A), the assessee was deemed to have held the property since 1958 for
determining the period of holding. It was submitted that if S. 2(42A), S.
47(ii), S. 49(1)(iii)(a) and S. 55(2)(b)(ii) were cumulatively and harmoniously
read, then, in case of succession, the date of acquisition, the cost of
acquisition, and the period of holding were to be computed with reference to the
acquisition of the capital asset by the first previous owner, and therefore
different considerations could not apply for the purpose of applying the base
cost inflation index. It was argued that if the cost inflation index was adopted
with reference to the year of succession, while cost was taken as of 1st April
1981, it would lead to absurd results. Placing reliance on CIT v. Lakshmi
Machine Works, 290 ITR 667 (SC), it was argued that in interpreting the
words used in the formula contained in S. 48, a schematic interpretation should
be adopted, and not a literal interpretation.
3.5 The Tribunal
observed that if, for the purposes of determining the period of holding by the
assessee, the period for which the asset was held by the previous owner is
included, then different considerations could not be applied for the purpose of
S. 48. It noted that the scheme of taxation with respect to inherited assets was
that where an assessee sold an inherited capital asset, the capital gain was
computed with reference to the period of holding and the cost of acquisition
incurred by the previous owner, since inheritance or succession was not regarded
as a transfer.
3.6 According to
the Tribunal, a co-joint reading of the Memorandum explaining the Finance Bill,
1992 (when indexation of cost was introduced) and CBDT Circular No. 636, dated
31-8-1992, showed that indexation was to be allowed in respect of the period of
holding of the asset, and not in relation to the individuality of the assessee.
Intermediate transfers on account of succession were to be ignored.
3.7 The Tribunal
therefore held that the cost inflation index applicable to 1981-82 was to be
applied, and not the index applicable to 1998-99. The Tribunal also agreed with
the decisions of the Tribunal in the cases of Mrs. Pushpa Sofat v. ITO,
81 ITD 1 (Chd.) (SMC) and Deputy CIT v.
Smt. Meera Khera, 2 SOT 902 (Mum.),
where a similar view had been taken by other Benches.
4.1 The Kolkata
Bench of the Tribunal rightly considered the overall scheme of computation of
capital gains, of which cost indexation is a part. The very purpose of cost
indexation, as clarified by the Explanatory Memorandum to the Finance Bill,
1992, is that where an asset has been held for a long period of time, 75% of the
impact of inflation is to be neutralised while computing the capital gains.
4.2 In cases of
succession, etc., the intermediate transfers by gift, inheritance, partition of
HUF, etc. are ignored, since these are transfers without any consideration. For
all practical purposes, the ultimate owner is regarded as having held the asset
from the date of its first acquisition for a consideration by an earlier owner,
and his cost is also taken on the same basis. Under such circumstances, it could
certainly not be the intention of the Legislature to deny the benefit of
indexation for the period of holding by the previous owner.
4.3 Taking of
indexation from the date of receipt of gift, inheritance, etc. is therefore
illogical, and against the very scheme of computation of capital gains. It would
result in an absurd situation whereby the inflation neutralisation which was
available to a previous owner is denied to a subsequent owner for no rhyme or
reason, though the subsequent owner is regarded as having stepped into the shoes
of the previous owner for all other practical purposes of computation of capital
4.4 As held by
the Supreme Court in Lakshmi Machine Works’ case (supra) relating to the
computation of deduction u/s.80HHC, wherever a formula is prescribed, the
purpose and workability of the formula has to be seen. As held by the Supreme
Court, while interpreting the words used in the formula, a schematic
interpretation has to be resorted to, and not a literal interpretation, to
ensure that the results obtained from the application of the formula achieve the
intended objective, and are not absurd.
4.5 Applying the
ratio of this decision of the Supreme Court to the computation formula for
capital gains in cases of sale after receiving the asset by gift, succession,
partition of HUF, etc., the inescapable conclusion is that the cost indexation
has to be taken from the year of acquisition by the previous owner, and not from
the year of acquisition by the seller by gift, inheritance, partition of HUF,
the view taken by the Kolkata, Chandigarh and Mumbai (in Meera Khera’s case)
Benches of the Tribunal seems to be the better view of the matter.