Delhi High Court Interpretes Rule 11UA For Determination FMV Of Shares U/S 56(2)(viib)

The Delhi High Court has held that it has interpreted Rule 11UA of the Income Tax Rules, 1962, for determining the fair market value (FMV) of shares under Section 56(2)(viib) of the Income Tax Act, 1961.

The bench of Justice Yashwant Varma and Justice Purushaindra Kumar Kaurav has observed that Section 56(2)(viib) postulates that the FMV of shares shall be the value determined in accordance with the methods as may be prescribed or as may be substantiated by the company to the satisfaction of the AO, whichever is higher. A perusal of Rule 11UA(2) would indicate that the assessee is enabled to determine the FMV of the unquoted equity shares either in accordance with the formula prescribed in clause (a) or on the basis of a report drawn by a merchant banker who may have determined the FMV as per the DCF Method.

The bench stated that the language of Rule 11UA(2) indubitably places a choice upon the assessee to either follow the route as prescribed in clause (a) or in the alternative to place for the consideration of the AO a valuation report drawn by a merchant banker as per the DCF method. However, as is manifest from a conjoint reading of Section 56(2)(viib) read along with Rule 11UA(2), the option and the choice stand vested solely in the hands of the assessee.

The assessee/appellant has instituted the present appeal, aggrieved by the judgment rendered by the Income Tax Appellate Tribunal. The ITAT has essentially upheld the additions made by the Assessing Officer in Assessment Year 2014–15 consequent to the rejection of the fair market value evaluation as submitted by the appellant as contemplated under Section 56(2)(viib) of the Income Tax Act, 1961, read along with Rule 11UA of the Income Tax Rules, 1962. The issue of valuation had arisen in the context of the appellant having allotted 3,15,000 equity shares of a face value of INR 10 each at a premium of INR 40 per share and for a total amount of INR 1,26,00,000.

For the purposes of valuation of the shares offered for subscription, the appellant placed reliance on a valuation report drawn by a merchant banker, M/s SPA Capital Advisors Ltd. The value of each share was pegged at INR 9.60. Consequent to the rejection of that report, the AO independently determined the value of each share to be INR 40.40 and thus quantified the disallowance under Section 56(2)(viib) at INR 1,27,26,000.

The principal grievance of the appellant is that even if the AO had deemed it fit to reject the valuation report drawn on the basis of the discounted cash flow method, it could not have substituted the means and the method of valuation of its own volition. It is this principal ground of challenge that was urged by the appeal.

The assessee contended that, in terms of Section 56(2)(viib), the option of choosing a method of valuation stands vested exclusively in the assessee. Even if a valuation as submitted were to be doubted, it would not be permissible for the respondents to adopt a method different from the one chosen by the assessee. The position would clearly flow from the language in which Section 56(2)(viib) stands couched, along with Rule 11UA. Rule 11UA(2), in unambiguous terms, employs the expression “at the option of the assessee,” and this is evidence of the choice of a valuation method being one placed in the hands of the assessee alone.

The department contended that Section 56(2)(viib) places the assessee under an obligation to submit a report depicting the FMV of shares, which can be duly substantiated to the satisfaction of the AO. Since the appellant, despite adequate opportunities having been provided, failed to establish the correctness of the valuation, the AO became entitled to undertake an independent exercise for the purposes of determining the FMV of the unquoted equity shares.

The court allowed the appeal and set aside the order of the ITAT. The matter shall, in consequence, be remitted to the AO, which shall undertake an exercise of valuation afresh in accordance with the DCF method.

The court accorded liberty to the AO to determine the FMV of the shares, bearing in mind the DCF Method, by having the same independently determined by a valuer appointed.

Counsel For Appellant: Sumit Lalchandani

Counsel For Respondent: Sanjay Kumar

Case Title: Agra Portfolio Pvt. Ltd. Versus Pr. Commissioner Of Income Tax

Citation: 2024 LiveLaw (Del) 415

Case No.: ITA 1385/2018

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