H. P. Ranina

Real-estate development has serious tax implications and litigation becomes inevitable as the Tax Department generally interprets facts to treat the transactions as an adventure in the nature of trade so that a larger amount of tax can be assessed.

With the real-estate market booming, landowners are tempted to go in for real-estate development with or without assistance from builders. This has serious tax implications because even if as a result of such business activity, higher profits are realised, the tax bite would be far more vicious than what it would be if the property were sold outright.

Under this option, the gains from the real-estate development would be taxable as business income attracting the normal rate of tax. On the other hand, in the case of an outright sale, a lower rate of tax applicable to long-term capital gains would be payable. Exemption provisions can be taken advantage of by investing the capital gains in notified bonds.

What is `business'?

As to what constitutes a business transaction is a moot question. Even a single transaction may constitute "business" under the definition of that word under Section 2(13). It is not essential that to constitute trade that there should be a series of transaction, both of purchase and of sale. A series of purchases followed by one bulk sale or a single bulk purchase followed by series of sales can constitute a trade. Even a single purchase followed by a single sale may be regarded as business. A single transaction of purchase and sale outside the assessee's line of business may constitute an adventure in the nature of trade even if the assessee does nothing to the article or commodity purchased before he sells it. If there is repetition and continuity, the assessee would be carrying on a business and, in that case, the question would hardly arise whether the activity is an adventure in nature of trade.

A transaction may be regarded as isolated although similar transaction may have taken place a fairly long time before. "A transaction does not require to be unique in the life experience of a businessman to be treated as isolated" (Per Lord Carmont, I.R. v. Reinhold 34 T.C. 389, 392). In an isolated transaction of acquisition of property, there is really no middle course open. It is either an adventure in the nature of trade or simply a case of sale and resale of a capital asset.

`Matter of impression'

The principles underlying the distinction between capital sales and an adventure in the nature of trade were examined by the Supreme Court in Venkataswami Naidu v. C.I.T. (35 I.T.R. 594; SC). As Lord Sands remarked, it is "a matter of impression" with the Court whether a particular transaction is in the nature of trade or not (IR v. Livingston — 11 T.C. 538,545). However, a single transaction will not be a trading adventure unless it bears clear indicia of "trade".

As Lord Clyde LP observed (Balgownie Land Trust ltd. v. I.R. 14 T.C. 684,691): "A single plunge may be enough provided it is shown to the satisfaction of the Court that the plunge is made in the waters of trade; but the sale of the piece of the property — if that is all that is involved in the plunge — may easily fall short of anything in the nature of trade. Transaction of sale are characteristic of trade but they are not necessarily distinctive of it; much depends on the circumstances."

Unless ex-facie the single transaction is commercial, the profit from it is more likely to be an accretion of capital and not yield any income. Where the purchase of any article or of any capital investment, for example, shares, securities of land, is made without the intention to resell at a profit, a resale under changed circumstances would only be a realisation of capital and would not impart the transaction with a business character (C.I.T. v. P.K.N. — 60 I.T.R. 65; SC).

Trade or adventure?

In C.I.T. v. Sairam (242 I.T.R.104), the Madras High Court held that there is no presumption in law that all agreements of purchase or actual purchase of movable property and any subsequent sale of movable property are to be regarded as adventure in the nature of trade. The intention of the assessee considered along with all other relevant circumstances will have to provide the answer to the question as to whether the transaction is one of investment or an adventure in the nature of trade.

In this case, the assessee-firm carried on business as cloth merchants in Madras. One of the partners, on behalf of the firm, entered into an agreement for purchase of land in Pune. Under the terms of that agreement the vendee could obtain a sale deed in his own name or in the name of his nominees. Several months after the date of that agreement, the owners of the land together with the assessee's partners, executed a deed of conveyance dated May 25, 1965. Under the deed, V, on behalf of the firm, was to receive Rs 41,115.62 out of the total consideration. The Assessing Officer treated the amount 115 as business income by treating this transaction as an adventure in the nature of trade.

On a reference, the Madras High Court held that the agreement entered into by the managing partner of the firm for the purchase of a plot of land was in Madras. There was nothing on record to show that even before entering into such an agreement, the assessee had intended to sell that plot to the person who bought it ultimately. The assessee had in the circumstances only made an investment in land and realised the profit from the investment after nearly a year from the date on which it had entered into an agreement to purchase the land. The Tribunal was, therefore, right in holding that the profit arising on the sale of vacant land in Pune should be treated as capital gains and not as profit from adventure in the nature of trade assessable under the head "Business".

The intent

In a decisive test which was laid down by the Allahabad High Court in C.I.T. v. Mohakampur Ice and Cold Storage (281 I.T.R. 354), it was held that to treat a transaction as an adventure in the nature of trade it is to be seen whether the property had been purchased or acquired by the assessee with the intention to sell the property to earn profit by entering into several transactions of sale, or to earn profit on its investment.

Needless to add, every court decision turns on the facts of each case. Therefore, litigation becomes inevitable as the Tax Department generally interprets facts to treat the transactions as an adventure in the nature of trade so that a larger amount of tax can be assessed.

(The author, a Mumbai-based advocate specialising in tax laws, can be contacted at ranina@bom2.vsnl.net.in)

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