A Study on Deemed Dividend 2(22) Sub-clause (e): Loan or advance to shareholder

CA AMRESH VASHISHT Recasted from the study by Direct Taxes Committee of WIRC

Dividend is defined under section 2(22) of the Act. It goes without saying that the definition will find applicability wherever the term dividend is used in the Act unless the context otherwise requires. Supreme Court in the decision of Mysodet (237 ITR 35) held that since the Act has not provided for any other definition of the word "dividend" except as enumerated in s. 2(22), it should be construed that this definition would be applicable to all provisions which contain the term "dividend" in the Act. The definition is inclusive and not exhaustive. This was observed by Supreme Court in the decision of KantilalManilalv. CIT (41 ITR 275). Typically, the definition uses the term includes as opposed to means. Scope of inclusive definitions is not restricted and the ordinary meaning of the word dividend will also have to be read into the definition of dividend. Apart from the ordinary meaning of word dividend, the sub-clauses (a) to (e) of section 2(22) of the Act bring into the ambit of dividend certain distributions/ outflows which in the absence of such sub-clauses would have not been considered as dividend in the ordinary sense. In the case of Martin Burn Ltd. (136 ITR 805), Calcutta High Court observed that since under section 2(22) certain amounts are actually not distributed as are brought within the net of dividend for the purpose of taxability and hence, it must receive a strict construction. The word deemed has not been defined anywhere in the Act. Neither has the word been used in section 2(22)(e). Deemed dividend is therefore a legal fiction created wherein certain distributions/ outflows by companies are deemed to be dividends. Legal fictions are created only for a definite purpose and they are limited to the purpose for which they are created and cannot extend beyond their legitimate field. The legal fiction is of course to be carried to its logical conclusion, but that must be within the framework of the purpose for which it is created [State of Bombay vs. PandurangVinayakChaphalkar (1953) SCR 773].

Section 2(22) of the Income Tax Act, 1961: (22) (a) dividend includes

any distribution by a company of accumulated profits, whether capitalised or not, if such distribution entails the release by the company to its shareholders of all or any part of the assets of the company ;

(b)

(c)

(d)

(e)

any distribution to its shareholders by a company of debentures, debenture-stock, or deposit certificates in any form, whether with or without interest, and any distribution to its preference shareholders of shares by way of bonus, to the extent to which the company possesses accumulated profits , whether capitalised or not ; any distribution made to the shareholders of a company on its liquidation, to the extent to which the distribution is attributable to the accumulated profits of the company immediately before its liquidation, whether capitalised or not ; any distribution to its shareholders by a company on the reduction of its capital, to the extent to which the company possesses accumulated profits which arose after the end of the previous year ending next before the 1st day of April, 1933, whether such accumulated profits have been capitalised or not ; any payment by a company, not being a company in which the public are substantially interested, of any sum (whether as representing a part of the assets of the company or otherwise) made after the 31st day of May, 1987, by way of advance or loan to a shareholder, being a person who is the beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power, or to any concern in which such shareholder is a member or a partner and in which he has a substantial interest (hereafter in this clause referred to as the said concern) or any payment by any such company on behalf, or for the individual benefit, of any such shareholder, to the extent to which the company in either case possesses accumulated profits ; but dividend does not include a distribution made in accordance with sub-clause (c) or sub-clause (d) in respect of any share issued for full cash consideration, where the holder of the share is not entitled in the event of liquidation to participate in the surplus assets ; a distribution made in accordance with sub-clause (c) or sub-clause (d) in so far as such distribution is attributable to the capitalised profits of the company representing bonus shares allotted to its equity shareholders after the 31st day of March, 1964, and before the 1st day of April, 1965; any advance or loan made to a shareholder or the said concern by a company in the ordinary course of its business, where the lending of money is a substantial part of the business of the company ; any dividend paid by a company which is set off by the company against the whole or any part of any sum previously paid by it and treated as a dividend within the meaning of sub-clause (e), to the extent to which it is so set off; any payment made by a company on purchase of its own shares from a shareholder in accordance with the provisions of section 77A of the Companies Act, 1956 (1 of 1956); any distribution of shares pursuant to a demerger by the resulting company to the shareholders of the demerged company (whether or not there is a reduction of capital in the demerged company).] Explanation 1.The expression accumulated profits, wherever it occurs in this clause, shall not include capital gains arising before the 1st day of April, 1946, or after the 31st day of March, 1948, and before the 1st day of April, 1956.

(i)

(ia)

(ii)

(iii)

(iv) (v)

Explanation 2.The expression accumulated profits in sub-clauses (a), (b), (d) and (e), shall include all profits of the company up to the date of distribution or payment referred to in those sub-clauses, and in sub-clause (c) shall include all profits of the company up to the date of liquidation, but shall not, where the liquidation is consequent on the compulsory acquisition of its undertaking by the Government or a corporation owned or controlled by the Government under any law for the time being in force, include any profits of the company prior to three successive previous years immediately preceding the previous year in which such acquisition took place. Explanation 3.For the purposes of this clause, (a) Concern means a Hindu undivided family, or a firm or an association of persons or a body of individuals or a company ; a person shall be deemed to have a substantial interest in a concern, other than a company, if he is, at any time during the previous year, beneficially entitled to not less than twenty per cent of the income of such concern ; However here we hereby reproduced sub-clause of section 2(22)(e), as authentically studied and analysed by Direct Tax Committee of WIRC of ICAI .

(b)

Sub-clause (e): Loan or advance to shareholder

Sub-clause (e) of section 2(22) of the Act any payment by a company, not being a company in which the public are substantially interested, of any sum (whether as representing a part of the assets of the company or otherwise) made after the 31st day of May, 1987, by way of advance or loan to a shareholder, being a person who is the beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power, or to any concern in which such shareholder is a member or a partner and in which he has a substantial interest (hereafter in this clause referred to as the said concern) or any payment by any such company on behalf, or for the individual benefit, of any such shareholder, to the extent to which the company in either case possesses accumulated profits; Under the Income-tax Act, 1922, two categories of payment were considered as dividend viz. (a) any payment by way of advance or loan to a shareholder , or (b) any payment by any such company on behalf or for the individual benefit of a shareholder. This sub-clause is an excellent example of deeming fiction whereby the scope and ambit of the word dividend has been enlarged to bring within its cover loans granted by closely held companies to their shareholders. It is possible that the closely held companies can grant loans to their shareholders and in this manner they can make their funds available to the shareholders without trigger taxable event under any of the sub-clause (a) to (d). In order to have a check on similar transactions, the legislation widens the scope of the term dividend to include loans granted to shareholder by the closely held companies.

Since it is a deeming fiction, it would not be given a wider meaning than what it purports to do. The provisions would necessarily be accorded strict interpretation and the ambit of the fiction would not be pressed beyond its true limits. It is now a well settled law that the fiction is to be carried to its logical end however, at the same time, it can also not be expanded so as to include the facts which require substantial modification as compared to the facts to be captured as prescribed by the legislature. This sub-clause (e) has the effect of bringing to tax as dividend below referred types of payments made by a company: any payment of any sum (whether as representing a part of the assets of the company or otherwise) by way of advance or loan to a shareholder (extended to payment to concerns in which shareholder holds substantial interest); any payment on behalf of a shareholder; any payment for the individual benefit of a shareholder. Any of the above referred payments would be taxed under this sub-clause if following three conditions are fulfilled: The company not to be the one in which the Public are substantially interested within the meaning of Section 2(18); If the advance or loan is made after 31 May, 1987 to a shareholder who beneficially owns at least 10 per cent of the equity capital, or to a concern in which he is member / partner and is beneficially entitled to not less than 20% of income of the concern. The Company should possess accumulated profits at the time it makes the payment, the payment being deemed to be dividend only to the extent of such profits. A loan to a shareholder is deemed as dividend, irrespective of the purpose of the loan or period of the loan. Under this sub-clause the deemed dividend is to the extent of the entire accumulated profits and not merely a portion of such profits proportionate to the assessees shareholding in the capital of the company. If the accumulated profits are capitalized, they cannot be taken into account for the purposes of this sub-clause. Similarly, when an amount lent has already been considered fictionally to be dividend, the same amount when repaid and relent cannot again attract the fiction and be once again deemed to be dividend. Therefore, in considering the taxability of subsequent transactions, the accumulated profits should be notionally reduced by the amount of all loans and other benefits which were once deemed to be dividend. Further, in order to attract the application of this clause, the person should be a shareholder and he should beneficially own at least twenty per cent of the equity capital. A shareholder means a person in whose name the shares stand in the share register of the company; therefore, if a person is merely the beneficial owner of shares, without being the registered shareholder, this clause would not apply to him. Section also prescribes an exception to the above rule. Such exception applies where two cumulative conditions are satisfied Firstly, the loan should have been made by the company in the ordinary course of its business, and

Secondly, money lending should be a substantial part of the companys business. Further, the section also gives relief by providing that any subsequent dividend declared by the company and set-off against the loan or advance, which has been deemed as dividend under sub-clause (e), then to the extent of such set-off, it would not be again treated as dividend. That is to say, if the dividend is not so set off but is paid to the shareholder while the loan remains outstanding, the benefit of sub-cl (iii) cannot be obtained. Although there have been considerable amount of dispute in respect of purview and scope of this provision, there are certain principles, as mentioned above in respect of this sub-clause, which have got crystallised over a period of time at the test of Indian jurisprudence. We now deal with some of these principles in detail. Payment versus distribution - Sections 2(22)(a) to (d) refer to distribution whereas section 2(22)(e) refers to payment. Both the terms are not interchangeable and have subtle difference which was brought by Kerala High Court in the case of P. V. John (52 Taxman 221) wherein it was noted that distribution involves the idea of division among several persons whereas in payment there could be a single recipient. However subtle these differences may look, they have a bearing on the decision as to whether a certain payment is deemed dividend under section 2(22)(e). Supreme Court in the case of Punjab Distilling Industries Ltd. (57 ITR 1) has observed that for the purpose of section 2(22)(e), distribution could be physical / constructive by crediting the amount due to the shareholders in their respective accounts. Supreme Court in another decision in the case of KantilalManilal (41 ITR 275) has observed that distribution need not be in cash. In fact, Calcutta High Court in the case of M D Jindal (28 Taxmann 509) held that payment could also be in kind. Shareholder Under the Income Tax Act, 1922, every loan or advance to shareholders were considered as deemed dividend. However, under the Income Tax Act, 1961 for these very same payments an additional condition was introduced that the payment should be to a shareholder being a person who is the beneficial owner of shares and who has a substantial interest in the company i.e. a shareholding which carries not less than 20% of the voting power. This percentage of voting power was reduced from 20% to 10% with effect from 1st April, 1988 by the 1987 amendment. Shareholder has not been defined and in absence of specific definition it will only refer to registered shareholder. In the case of CIT vs. C.P. SarathyMudaliar 83 ITR 170 (SC), the provisions of section 2(6A)(e) of the Act, 1922, which was synonymous to section 2(22)(e) of the Income-tax Act, 1961, came up for consideration. In the said case, members of HUF acquired shares in a company with the fund of the family. Loans were granted to HUF and the question was whether the loans could be treated as dividend income of the family falling within section 2(6A)(e) of the Act, 1922. The apex Court held that only loans advanced to shareholders could be deemed to be dividends under section 2(6A)(e) of the Act; the HUF could not be considered to be a shareholder under section 2(6A)(e) of the Act and hence, loans given to the HUF will not be considered as loans advanced to "shareholder" of the company and could not, therefore, be deemed to be its income. The apex Court further held that when the Act speaks of shareholder it

refers to the registered shareholder. The aforesaid decision of the apex Court in the case of C.P. SarathyMudaliar (supra) has been reiterated by the apex Court in the case of RameshwarlalSanwarmal vs. CIT 122 ITR 1 (SC). It is clear from the aforesaid pronouncement of the Supreme Court that to attract the provisions of section 2(22)(e) the payment must be to a person who is a registered holder of shares. In the case of DCIT vs. National Travel Services 31 SOT 76 (Del), the Tribunal held that where a firm is only a beneficial owner of shares and the shares are registered in the names of the partners, the loan obtained by the firm from the company whose shares to the extent of 48.18 per cent are held by the partners of the firm, cannot be deemed as dividend in the hands of the firm. Similarly, in the case of Raj Kumar Singh & Co. vs. DCIT 52 TTJ 221 (All), the Tribunal held that Sec. 2(22)(e) can be invoked only in case of registered shareholder and not a beneficial shareholder . Shares, though belonging to the firm but registered in the name of partners, the firm cannot be made liable under s. 2(22)(e) in respect of loans obtained from the company. Additional requirement of beneficial ownership - The condition under the Income Tax Act, 1961 regarding the payee being a shareholder remains the same as it was under the Income-tax Act, 1922 and the condition that such shareholder should be beneficial owner of the shares and the percentage of voting power that such shareholder should hold has been prescribed as an additional condition under the present law. In the Act, the word "shareholder" is followed by the expression "being a person who is the beneficial owner of shares". This expression used in section 2(22)(e) both in the Act, and in the amended provisions with effect from 1st April, 1988 only qualifies the word "shareholder" and does not in any way alter the position that the shareholder has to be a registered shareholder. Therefore, decisions of the apex Court interpreting the term "shareholder" under the Income-tax Act, 1922 should be equally applicable under the present law also. These provisions also do not reduce the requirement of being a registered shareholder to a requirement of merely holding a beneficial interest in the shares without being a registered holder of shares. The expression "being a person who is the beneficial owner of shares" is therefore a further requirement before a shareholder can be said to fall within the parameters of section 2(22)(e) of the Act. In the Act, section 2(22)(e) imposes a further condition that the shareholder has also to be beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power. The expression "shareholder being a person who is the beneficial owner of shares" referred to in section 2(22)(e) refers to both a registered shareholder and beneficial shareholder. If a person is a registered shareholder but not the beneficial shareholder, then the provisions of section 2(22)(e) will not apply. Similarly if a person is a beneficial shareholder but not a registered shareholder then also the provisions of section 2(22)(e) will not apply. Mumbai ITAT Special Bench in the case of ACIT vs. BhaumikColour P. Ltd., 313 ITR (AT) 147 (Mumbai) [SB] has held that for the purpose of deemed dividend under section 2(22)(e) the shareholder must be both registered and beneficial shareholder.

In the case of Income Tax Officer vs. S SShetty 14 TTJ 71 (Bom), the Tribunal held that the loan advanced by a private company to HUF of which the members were directors in the company cannot be deemed as dividend in the hands of HUF as HUF was not a registered shareholder. Payment to concern in which such shareholder is a member or a partner with substantial interest included Until 1987, only payments to shareholders were deemed as dividend under sub-clause (e). However, with effect from 1st April, 1988, payment to any concern in which such shareholder is a member or a partner and in which he has a substantial interest was also included in deeming fiction of Section 2(22)(e). Explanation 3 to Section 2(22) declares that a person shall be deemed to have a substantial interest in a concern, other than a company, if he is, at any time during the previous year, beneficially entitled to not less than twenty per cent of the income of such concern. In relation to a company, section 2(32) defines the expression "person who has a substantial interest in the company", to mean a person who is the beneficial owner of shares, not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits, carrying not less than 20% of the voting power.

If the payment is to a concern, then such a person should also be a member or a partner in the said concern, holding substantial interest in the concern. In case the concern is a company, then he must be the owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) carrying not less than 20% of the voting power. If the concern is not a company, he must at any time during the previous year, be beneficially entitled to not less than 20% of the income of such concern. "Such shareholder" is the shareholder who is a registered and a beneficial holder of shares holding 10% voting power. Therefore, the expanded meaning of dividend as applied to payments to even non-shareholder would be applicable if all of the following conditions are fulfilled The person is a registered shareholder of the company The person is beneficially entitled to shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power of the company; The person is a member or partner in other concern The person has substantial interest in the concern referred to in clause (c) above. Taxable Person - Another important issue that comes up for consideration is in case where loan or advance is granted to a concern (where shareholder holds substantial interest), in whose hands the income would be brought to tax, whether in the hands of the concern or the share holder? In this regard, it may be mentioned that CBDT Circular No.495, dated September 22, 1987, 168 ITR (St.) 87 states that the deemed dividend would be taxed in the hands of a concern (nonshareholder) if the conditions mentioned in the section are satisfied. However, the matter has not

(a) (b)

(c) (d)

remained free from doubt and the judiciaries have, upon examination of the law, come to different conclusion. The issue came up for consideration before Mumbai ITAT (Special Bench) in case of ACIT vs. BhaumikColour P. Ltd. 313 ITR 146 (AT). The Special Bench held that the provisions of section 2(22)(e) do not spell out as to whether the income has to be taxed in the hands of the shareholder or the concern (non shareholder). It further observed that since the provisions are ambiguous, it is therefore necessary to examine the intention behind enacting the provisions of section 2(22)(e) of the Act. In furtherance it was stated that the intention behind the provisions of section 2(22)(e) is to tax dividend in the hands of shareholder. The deeming provisions as it applies to the case of loans or advances by a company to a concern in which its shareholder has substantial interest, is based on the presumption that the loan or advances would ultimately be made available to the shareholders of the company giving the loan or advance. The intention of the Legislature is therefore to tax dividend only in the hands of the shareholder and not in the hands of the concern and accordingly it held that deemed dividend under section 2(22)(e) of the Act can be assessed only in the hands of a shareholder of the lender company and not in the hands of any other person. Recently, Mumbai High Court, in its decision in case of CIT Vs. Universal Medicare Private Limited (324 ITR 263), approved the position taken by the Special Bench decision in case of ACIT vs. BhaumikColour P. Ltd. (supra) holding that the definition does not alter the legal position that dividend has to be taxed in the hands of the shareholder. It further observed that the effect of clause (e) of Section 2(22) is to broaden the ambit of the expression 'dividend' by including certain payments which the company has made by way of a loan or advance or payments made on behalf of or for the individual benefit of a shareholder and thereby it has to be taxed in the hands of shareholder. Rajasthan High Court has also, in case of CIT v. Hotel Hilltop (313 ITR 116), held that deemed dividend in relation to loan or advance granted to concern where shareholders has substantial interest would be taxable only in the hands of shareholder and not in the hands of the concern to which monies are loaned or advanced. Loan or Advance Taxability u/s. 2(22)(e) of the Act would be triggered only when the company grants loan to shareholder holding substantial interest or to concern in which such shareholder holds substantial interest. Usually attributes of a loan are that it involves the positive act of lending coupled with acceptance by the other side of the money as loan. It generally carries interest and there is an obligation of repayment. What triggers the liability under this fictional provision is the fulfillment of requisite conditions for taxability hereunder at any time during the relevant year under consideration. The moment that happens, the taxability triggers irreversibly. Hence, it would be an immaterial fact in this regard if the loans/advance obtained during the year under consideration has been paid back by the end of the relevant year, as was held by the Apex court in case of Sarada Vs. CIT (229 ITR 444). The Bombay High Court held in Walchand& Co. Ltd. vs. CIT (1975) 100 ITR 598 (Bom) and Walchand& Co. (P) Ltd. vs. CIT (1993) 204 ITR 146 (Bom) that even if the loan is repaid within a few days, it will still be caught in the mischief of section 2(22)(e) and the shareholder will have to pay tax. For instance a shareholder takes a loan of Rs. 5 lakhs from a company

which he returns after a week. He is saddled with liability of paying tax on Rs. 5 lakhs. But since the law explicitly demands it, there is no escape. As the Supreme Court observed in Smt. TarulataShyam vs. CIT (supra). "Once it is shown that the case of the assessee comes within the letter of the law, he must be taxed, however great the hardship may appear to the judicial mind to be. In the similar manner, Calcutta High Court in case of CIT Vs. BhagwatTewari (105 ITR 62) held that duration of the loan is immaterial whereby the loan/advance is availed for a short period of time has been held to be liable as deemed dividend under this sub-clause. In the case of ITO vs. Ajanta Cycle (P) Ltd. 99 TTJ 1159 (Chd), the Tribunal held that where shareholders were given huge deposits in the imprest account but there was no withdrawal indicating utilisation of those funds during the year under consideration, such funds was in fact a short-term loan and therefore this amount is liable to tax as deemed dividend in the hands of said shareholder. In the case of Dr. Shiv Kant Mishra vs. DCIT 118 ITD 347 (Luck), the Tribunal held that advance made by the company to the assessee director under a MoU whereby assessee was to purchase land and transfer a portion thereof under a lease to the company could not be regarded as a genuine transaction as no action has been taken either by the company or by the assessee either for getting lease deed executed in favour of the company after purchasing the land or returning the advance and the MoU is merely a colourable device whereby accumulated profits of the company have been transferred to the assessee as a loan for indefinite period and, therefore, advance given to the assessee constituted deemed dividend under s. 2(22)(e). In the case of ArdeeFinvest (P) Ltd. vs. DCIT ITAT, Delhi 70 TTJ (Del) 378: (2001) 79 ITD 547 (Del), it was held that receipt in the nature of share application money cannot be construed as loan or advance and therefore, it falls beyond the ken of s. 2(22)(e). Trade Advance - In its widest meaning the term advance may or may not include lending, however, since the term advance has been used in conjunction with the term loan, it should also get meaning akin to loan. Therefore, a reasonable interpretation of the term advance could mean such advance which carried with it an obligation of repayment. It is in this regard, the judiciaries have consistently taken a view that trade advances made for procuring / securing goods or services, it would not find foul of provisions of Section 2(22)(e). Trade advances which are in the nature of money transacted to give effect to a commercial transaction would not fall within the ambit of the provision of section 2(22)(e) of the Act. This view has been taken by Honble Delhi High Court in the case of CIT vs. Raj Kumar, 318 ITR 462 (Delhi). Similar view has been taken by the Mumbai High Court in the case of CIT vs. Nagindas M. Kapadia, 177 ITR 393 (Bom) in which it was held that advance received to purchase the material for the purpose of executing the job work entrusted to the assessee is a trade advance and will not fall within the ambit of section 2(22)(e). In the case of CIT vs. Ambassador Travels P. Ltd., 318 ITR 376 (Delhi), the Honble Delhi High Court has taken the view that the business transaction entered into by the assessee could not be treated as loans or advances within the meaning of section 2(22)(e). This decision was followed by the Delhi

High Court in the case of CIT vs. Creative Dyeing and Printing P. Ltd., 318 ITR 476 (Delhi). In this case, an advance by assessee, engaged in the business of a dyeing and printing of cloth to a sister concern having an ancillary unit of both the assessee and sister company striving for export and made international standard was not regarded to be deemed dividend under section 2(22)(e). In the case of ACIT vs. Global Agencies (P) Ltd. 87 TTJ 1086 (Del), Tribunal held that security deposit by exporters with assessee, buying agent of foreign principal in India to ensure quality of goods exported after securing clearance from the principal and linked with the endorsement of letter of credit cannot be treated as loan or advance for purposes of s. 2(22)(e). In the case of Subrata Roy Sahara vs. ACIT 109 ITD 1 (Luck) (TM), the Tribunal held that when loan granted to managing director by firm holding funds on behalf of company as collection agent, the loan was not held to be deemed dividend as there was no linkage that the funds were exclusively advanced out of the funds collected by the firm on behalf of the company. It was further held that the burden is on the Revenue to prove that the case fell within the mischief of deeming provisions. Further, in respect of similar issue the matter has been held in favour of assessee by the Mumbai ITAT in cases of Sri Satchidanand S. Pandit V. ITO [19 SOT 213 (Bom)] & NH Securities Ltd. V. DCIT [11 SOT 302 (Bom.)]. By following the said decision of NH Securities Ltd., the matter was again held in favour of the assessee in another recent decision of Mumbai ITAT in case of Sat PrakashGoyalVs ITO, Mumbai 2010-TIOL-633-ITAT-MUM. In the said case, it was held that it is to be seen that payments made by a company through a running account in discharge of its existing debts or against purchases or for availing services, such payments made in the ordinary course of business carried on by both the parties could not be treated as deemed dividend for the purpose of section 2(22)(e). The Tribunal further observed that deeming provisions of law contained in section 2(22)(e) apply only in such cases where the company pays to a related person an amount as advance or a loan as such and not in any other context. The law does not prohibit business transactions between related concerns, and, therefore, payments made in the ordinary course of business cannot be treated as loans and advances. In case of ACIT vs. Smt. Lakshmikutty Narayanan 105 ITD 558 (Cochin), Tribunal held that advance to assessee shareholder director having been made in the normal course of business transaction between assessee and company, same could not be treated as deemed dividend under s. 2(22)(e). In the case of DCIT vs. Lakra Brothers 106 TTJ (Chd) 250, it was held that Advances made during the ordinary course of business for business expediencies do not constitute loan for purposes of s. 2(22)(e) and cannot be taxed as deemed dividend. In the case of Sunil Chopra vs. DCIT, 26 SOT 95 (Del), it was held that in view of explanation of assessee, the director of company, that the amount of Rs. 30 lakhs was handed over to him under Board resolution as an imprest amount to enter into a transaction for benefit of company which was returned within a week when the transaction was not materialised, the same could not be treated as deemed dividend in the hands of the assessee. It may be mentioned that in a contrary decision of Madras High Court in case of CIT Vs. P. S. Abubucker (135 Taxman 77), where X, holding more than 10 per cent equity share capital in A

(Pvt.) Ltd, lets out a property to A (Pvt.) Ltd. under an agreement advance rent received from the company was held to be covered within the purview of this sub-clause, even if the amount was received under the lease agreement (not as a shareholder but as a landlord) or even if it has to be adjusted against future rent. Debit balance in running account - Loan or advance would include not only loan or advance made by a company to its shareholder but also the debit balance arising in a running account [CIT vs. Mrs. Maya B. Ramchand (1986) 53 CTR (Bom) 66: (1986) 162 ITR 460 (Bom), Sadhana Textiles Mills (P) Ltd. vs. CIT (1991) 188 ITR 318 (Bom)]. In CIT vs. P.K. Badiani (1970) 76 ITR 369 (Bom), the Bombay High Court, while dealing with the running account of the assessee with the company observed as under : "Now, the assessees account for 1st April, 1957 to 31st March, 1958, shows that there are credits as well as debits. What has to be ascertained is whether the debits are loans so that they can be deemed as dividends. The account is a mutual, open and current account. Every debit, i.e., every payment by the company to the assessee, may not be a loan. To be treated as a loan, every amount paid must make the company a creditor of the assessee for that amount. If, however, at the time when the payment is made, the company is already a debtor of the assessee, the payment would be merely a repayment by the company towards its already existing debit. It would be a loan by the company only if the payment exceeds the amount of its already existing debt and that too only to the extent of the excess." Just as every debit entry is not a loan to be treated as deemed dividend, every advance is also not deemed dividend. Bombay High Court, in case of CIT Vs. P. K. Badiani (76 ITR 369), held that when the company makes payment to the shareholder to whom it already owes sums and the sum owed is in excess of the payment made the question of considering the payment made to the shareholder as deemed dividend under the scope of this sub-clause does not arise. In other such decision of Bombay Tribunal in case of Extermpore Securities & Investments (P.) Ltd. V. DCIT (116 TTJ 525), tribunal has held that only the net amount and on the days when the credit is in excess has to be considered for the purpose of deemed dividend u/s of the IT Act and only that part of the amount which has been paid by the concern to discharge the liability of the assessee company in excess of what it is due to pay to the assessee company for its regular business transactions, is to be considered as deemed dividend u/s 2(22)(e) of the Act. As against this, inMiss P. Sarada vs. CIT (1998) 144 CTR (SC) 209: (1998) 229 ITR 444 (SC)a shareholder made withdrawal from the company. The debit balance was adjusted against credit balance in the account of another shareholder at the close of the previous year. The Supreme Court held that section 2(22)(e) was attracted as the first shareholder had actually taken a loan from the company. Further, in respect of similar facts before Madras High Court, in case of CIT Vs. K. Srinivasan (50 ITR 788), it has been held against the assessee where shareholder had a current account, debit balance/overdraft with the company and the amount was considered to be covered within the ambit of this sub-clause. Mere book entries do not trigger taxability - Mere book entries do not constitute payment by the company as held by the Madras High Court in CIT vs. Smt. Savithiri Sam (1998) 144 CTR (Mad) 17 : (1999) 236 ITR 1003 (Mad). In this case, on death of a shareholder, debit balance standing in his account was transferred to account of his wife. Department wanted to tax it as

deemed dividend. High Court held it could not be done so by observing: "It is difficult to introduce another fiction in respect of the words payment by the company by construing even a transfer entry as amounting to payment." In G.R. Govindarajulu Naidu vs. CIT (1973) 90 ITR 13 (Mad),call money was due from the assessee and the company debited the account of the assessee with Rs. 1,65,000, being the call money that was due. The question was whether the sum of Rs. 1,65,000 could be assessed as deemed dividend. The High Court held that it is only a book adjustment in companys accounts under which assessee became a debtor and company a creditor. Since there was no cash payment, provisions of section 2(6A)(e) of the Income-tax Act, 1922 corresponding to section 2(22)(e) could not apply in view of section 205(5) of the Companies Act, 1956, which provides that no dividend shall be payable except in cash, the only exception being fully paid bonus shares. In a recent decision of Mumbai ITAT in case of ShriBrij Securities (P.) Ltd. v. ITO 2009-TIOL720-ITAT-MUM, the Tribunal held that the transaction of purchase of car in the name of Director of the Company was in the ordinary course of business of the company. Obtaining loan for the car, repayment of the installment of loan, showing loan as secured liability and the car as an asset in the books of the company do not suggest that the transaction of the company with the Director was in a way arranged to give any benefit to the Director of the company, and accordingly the amount cannot be considered as deemed dividend in the hands of the assessee and hence deleted. If funds are embezzled or misappropriated by a shareholder and are debited to his account then it cannot be said that a loan or advance has been granted by the company and consequently the provisions of section 2(22)(e) will not apply. [CIT vs. G. Venkataraman (1975) 101 ITR 673 (Mad), CIT vs. G. Venkataraman (1978) 111 ITR 444 (Mad)]. Under an order of court- In a unique fact of the case before Gujarat High Court, in case of Ravindra D. Amin Vs. CIT (208 ITR 815), payment on behalf of shareholder was made which was in satisfaction of a consent decree under orders of the court. Such amount paid on behalf of the shareholder was then debited to shareholder account as loan in the books. In this regard such amount paid to the court was held to be deemed dividend under section 2(22)(e) of the Act. Deposits -Question may arise whether the amount given as deposits will be regarded to be the loans and advance for the purpose of section 2(22)(e) or not. The Legislature seems to have made a conscious distinction between the expression loan and deposit. The General Law also makes a clear distinction between the two. For example, under the Limitation Act, different limits have been set out for instituting suits for recovery of loan and deposit. The Chambers 20th Century Dictionary, New Edition 1983, defines a deposit as that which is deposited or put down; a sum of money paid to secure an article, service, etc., while it defines loan as anything lent, especially money at interest; the act of lending; the condition of being lent; an arrangement for lending. Thus, there is a marked distinction between a loan and a deposit. This distinction between the two expressions has been brought out in a Commentary by Chaturvedi&Pithisaria on page 5735 (Vol. V, 4thEdn.) in following words:

Deposit and Loan these two are not identical in meaning It is true that both in the case of a loan and in the case of a deposit there is a relationship of a debtor and a creditor between the party giving money and the party receiving money. But in the case of a deposit, the delivery of money is usually at the instance of the giver and it is for the benefit of the person who deposits the money the benefit normally being earning of interest from a party who customarily accepts deposits. Deposits could also be for safe-keeping or as a security for the performance of an obligation undertaken by the depositor. In the case of a loan, however, it is the borrower at whose instance and for whose needs the money is advanced. The borrowing is primarily for the benefit of the borrower although the person who lends the money may also stand to gain thereby by earning interest on the amount lent. Ordinarily, though not always, in the case of a deposit, it is the depositor who is the prime mover. While in the case of a loan, it is the borrower who is the prime mover. The other and more important distinction is in relation to the obligation to return the money so received. In the case of a deposit which is payable on demand, the deposit would become payable when a demand is made. In the case of a loan, however, the obligation to repay the amount arises immediately on receipt of the loan. It is possible that in case of deposits which are for a fixed period or loans which are for a fixed period, the point of repayment may arise in a different manner. But by and large, the transaction of a loan and the transaction of making a deposit are not always considered identical. Loan and deposit are not identical in meaning and cannot always be interchanged. Some loans may be deposits and some deposits may be loans. But all loans are not deposits or vice versa. The dividing line between a loan or deposit is undoubtedly thin: the two, however, are not synonymous Pennwalt India Ltd. v. Registrar of Companies [1987] 62 Comp, Cas. 112 (Bom); also see, Durga Prasad Mandlia v. Registrar of Companies [1987] 61 Comp. Cas. 479 (Bom.). The Honble Delhi High Court in the case of BaidyaNath Plastic Industries (P.) Ltd. vs ITO (1998) 230 ITR 522 (Del) has distinguished the expression deposit in contra-distinction to the term loan. The Honble High Court further held that when two interpretations are possible, the interpretation which took the assessee out of the clutches of the penal provisions must be preferred. In the case of Bombay Oil Industries Ltd. vs. DCIT 28 SOT 383 (Mum), the Tribunal held that inter corporate deposits are not deemed dividend under s. 2(22)(e) since they are different from loans and advances. Indirect loan or advance -It is important to note that the expression directly or indirectly is missing in Section 2(22)(e) of the Act and therefore it is possible to construe that indirect loans would not get covered. In case of NandlalKanoria v. CIT 122 ITR 405 (Cal) it was held that one cannot read section 2(22)(e) by importing the expression directly or indirectly in connection with the expression by way of advance or loan to a shareholder appearing therein. The Authority of Advance Rulings applied this ratio to a loan by a company to a sister concern ( both were subsidiaries of an ultimate common parent.( Madura Coats P Ltd )( 274 ITR 609) However, at the same time, if the transaction can be considered as colourable devices, the judiciaries may still consider it to be covered by the provisions of Section 2(22)(e). In the facts of one of the cases before the Supreme Court, in case of CIT v. L. AlagusunduramChettiar (252 ITR 893), loan / advance were made to a third party (an employee) for benefit of the shareholder. In nutshell, the issue before the Supreme Court was whether this provision be circumvented

merely by routing the loan to a director through an employee. The issue was held against the assessee considering the transaction to fall within the ambit of this sub-clause. Tax Treatment of Loan to Employee Shareholder Where the company grants loan to employee shareholder holding more than 10% of the voting power, the loan would be regarded as deemed dividend u/s. 2(22)(e) to the extent of accumulated profits. However, as discussed earlier, the deeming fiction has to be applied limited to the purpose for which it is enacted. Accordingly, Madras High Court in case of CIT vs. T. P. S. H. SelvaSaroja (244 ITR 671) observed that merely because of treatment as deemed dividend the shareholder does not become the owner of the money and he is expected to return the same. Therefore, in case where the loans are granted to employee, the imputed interest on such loan would be taxable as perquisite in the hands of the employee shareholder. Applicability of Tax Deduction at Source -In view of the clear provisions of section 194, provisions of tax deduction at source are applicable to deemed dividend and the company is bound to deduct tax whenever the payment made falls within the provisions of section 2(22)(e). In the case of Anz Reality (P) Ltd. vs. ITO ITAT, Jaipur 120 TTJ (Jp) 142 has held that Section 194 does not require TDS when payment is made to a non-shareholder. Section 194 expressly provides for deduction of tax only when payment is made to a shareholder.