The Supreme Court recently upheld the reopening of income-tax assessments against businessmen Chetan Sabharwal and Nitin Sabharwal, sons of former Chief Justice of India late YK Sabharwal, over share transactions involving a total consideration of ₹255 crore [Chetan Sabharwal v. ACIT, New Delhi].

A Bench of Justices JB Pardiwala and K Vinod Chandran dismissed four appeals filed by the brothers challenging a 2019 Delhi High Court judgment that had upheld the Income Tax (IT) Department’s decision to reopen their assessments.

The Court held that an investigation report pointing to the alleged overvaluation of shares constituted tangible material on the basis of which the Assessing Officer could form a reason to believe that income chargeable to tax had escaped assessment.

"The expression 'reason to believe' in Section 147 of the Act means cause or justification. The Assessing Officer must have tangible material having a rational connection or a live link with the formation of the belief... At the stage of the notice, the only question is whether there was relevant material on which a reasonable person could have formed the requisite belief, and the sufficiency of the reasons is not a justiciable issue," the Court ruled.

The case arose from share purchase agreements executed in October 2007 by the Sabharwal brothers and two other shareholders with GYS Real Estate Private Limited, a Fortis Group company.

Under the agreements, they sold equity shares in two companies - Pawan Impex Private Limited and SVIIT Software Private Limited, for a total consideration of ₹195 crore and ₹60 crore, respectively. Chetan and Nitin Sabharwal each held one-fourth share in the entities.

The brothers later claimed deductions under Section 54F of the IT Act after investing the sale proceeds into a Capital Gains Savings Bank Account and purchasing a residential property at Sikandara Road in New Delhi through a court auction in April 2010. The property was purchased for a total consideration of ₹61 crore.

The IT Department initially scrutinised the transactions and sought explanations and supporting documents from Chetan Sabharwal. It also issued notices to the two companies and the buyer company seeking information about the share transactions.

Chetan’s return for assessment year 2008-09 was subsequently accepted under Section 143(3) of the Act. The brothers’ returns for the relevant assessment years were also accepted without any adverse inference on the transactions.

However, after the original assessments were completed, the Investigation Unit at Noida, under the Director General of Income Tax (Investigation), Lucknow, conducted enquiries into the valuation of the shares.

The investigation report concluded, prima facie, that the shares had been substantially overvalued when compared with the cost of the underlying land and buildings. It also traced the source of the brothers’ investment in the Sikandra Road property to the proceeds from the share transactions.

On March 31, 2015, the IT Department issued notices under Section 148 of the Act seeking to reopen the brothers’ assessments for assessment years 2008-09 and 2009-10.

Challenging the notices, Senior Advocate Mukul Rohatgi, appearing for the Sabharwal brothers, argued that the department had acted on a mere change of opinion without establishing any failure on the assessees’ part to disclose material facts.

He also contended that the alleged overvaluation of shares could not, by itself, result in escapement of income in the hands of the sellers. Further, the transactions had already been examined during the original scrutiny assessments.

The Bench rejected the contention, noting that the investigation report surfaced only after the original assessments were completed.

"What came to light afresh, through the investigation report, was the conclusion that the shares... were overvalued when compared with the cost of their land and building... and that the major source of the investment in the property at Sikandara Road was the sale proceeds of those shares. That specific information was not available with the AO at the time of the original assessment nor was such information disclosed by the appellant in those proceedings" the Court held.

The Bench further explained that a plea of "change of opinion" requires an actual formation of opinion in the first instance.

In Nitin Sabharwal’s case, the returns were processed merely by way of an intimation under Section 143(1), which does not constitute an assessment order. Therefore, there was no occasion for the assessing officer to form an opinion in the first place.

In Chetan Sabharwal’s case, although scrutiny assessments had been conducted under Section 143(3), the Court found that the assessment orders did not reflect any opinion, either expressly or by necessary implication, on the valuation of the shares or the issues forming the basis of the reassessment.

The Court also considered the requirement under the first proviso to Section 147 of the Act, which restricts reopening an assessment beyond four years where a scrutiny assessment has been completed, unless the escapement of income is attributable to the assessee’s failure to disclose fully and truly all material facts necessary for the assessment.

It held that the investigation report provided prima facie grounds to believe that material facts relating to the transactions had not been fully and truly disclosed during the original assessment proceedings.

Holding that the investigation report provided tangible material with a rational connection to the belief that income had escaped assessment, the Supreme Court upheld the notices issued under Section 148 and dismissed the appeals.

[Read Judgment]