FAQs based on Section 9B of the Income-tax Act, 1961

Section 9B of the Income-tax Act, 1961 is “Income on receipt of capital asset or stock in trade by specified person from specified entity”. The said section is a deeming provision to bring distribution of capital asset or stock in trade or both, on dissolution or reconstitution within the ambit of Income.

Section 9B of the Income-tax Act, 1961 was not proposed in the Finance Bill, 2021. It was later introduced in the Finance Act, 2021 (2021) 432 ITR (St) 52. Section 5 and section 16 of the Finance Act, 2021 introduced Section 9B of the Income-tax Act, 1961.

Therefore, as the same does not form part of “the Memorandum explaining the provisions of the Finance Bill, 2021” and as there were no Constitutional Assembly Debates while passing the Finance Bill, 2021, there is no literature explaining the intention of the Legislature. The Central Board of Direct taxes have prescribed guidelines under section 9B and section 45(4) of the Income-tax Act, 1961 vide Circular No. 14 of 2021 dated July 02, 2021.

Section 9B of the Income-tax Act, 1961 passes the test of Legislative competence, it is not violative of any Fundamental right guaranteed in Part III of the Constitution of India, nor does the provision infringe or is ultra vires any other provision of the Constitution. Therefore, Section 9B of the Income-tax Act, 1961 passes the test of Constitutional validity.

In the case of Sardar Baldev Singh v. CIT [1960] 40 ITR 605 (SC) it was held that the legislative competence to enact the section can be clearly upheld on the ground that it was to prevent evasion of income-tax and that would be enough to dispose of the argument that the section was an incompetent piece of legislation.

Section 9B of the Income-tax Act, 1961 introduced vide Finance Act, 2021 is effective from Assessment Year 2021-22 onwards i.e., the same is applicable to Finance Year 2020-21.

With respect to the retroactivity of the newly inserted provision, there is no bar on the Legislature to make retroactive amendments. The Hon’ble Supreme Court in the case of Chhotabhai Jethabhai Patel and Co. v. Union of India 1962 SCR Supl. (2)(1) has held that if a power to impose taxation has been conferred by a constitution, then the legislature could equally make the law retroactive and impose the duties from a date earlier than the date from which it was imposed.

Section 9B of the Income-tax Act, 1961 is applicable when a Specified Entity distributes Capital Assets or Stock-in-Trade or both to the specified person on dissolution or reconstitution of the Specified Entity.

Refer FAQ No. 135 of Taxmann’s Handbook on Taxation of Partnership Firms & Limited Liability Partnerships: Frequently Asked Questions, for “specified entity” and Question No. 136 for “specified person”.

No. Section 9B of the Income-tax Act, 1961 is only applicable on distribution of Capital Asset or Stock-in-Trade or both.

The Fair Market Value of the Capital Asset or Stock-in-Trade will be consideration received. Any profits and gains arising from such deemed transfer to the specified persons by the specified entity would be taxable in the hands of the specified entity under the head “Profits and gains of business or profession” or under the head “Capital gains”, as applicable.

As per section 2(22B) of the Income-tax Act, 1961, “fair market value”, in relation to a capital asset, means—

(i) The price that the capital asset would ordinarily fetch on sale in the open market on the relevant date; and

(ii) where the price referred to in sub-clause (i) is not ascertainable, such price as may be determined in accordance with the rules made under this Act.

Further, on perusal of the examples contained in the CBDT Circular 14 of 2021 dated July 02, 2021, considers the Fair Market Value as arrived under Rule 11U of the Income-tax Rules, 1962 for the purpose of determining Profits and Gains under section 9B of the Income-tax Act, 1961.

As per Explanation (ii) to section 9B of the Income-tax Act, 1961, “specified entity” means a firm or other association of persons or body of individuals (not being a company or a co-operative society.

As per Explanation (iii) to section 9B of the Income-tax Act, 1961, “specified person” means a person, who is a partner of a firm or member of other association of persons or body of individuals (not being a company or a co-operative society) in any previous year.

The CBDT vide Circular 14 of 2021 dated July 02, 2021 (2021) 436 ITR 25 (St.) has provided guideline for computation of profits and gains under section 9B of the Income-tax Act, 1961.

Section 9B of the Income-tax Act, 1961 is a deeming provision. Section 43CA, section 50C or section 56(2)(x)(b) of the Income-tax Act, 1961 are also deeming provisions. Therefore, in our view one deeming fiction cannot be applied to another.

In the case of Asstt. CIT v. Amartara (P.) Ltd. [2021] 128 taxmann.com 125 (Mum – Trib.) held that since case of assessee fell under scope of section 45(3) which itself is a deeming section and provided for deeming consideration to be adopted for computation of capital gains under section 48, section 50C could not be extended to compute deemed full value of consideration accruing as a result of such transfer for computation of capital gain.

In the case of Network Construction Company v. ACIT [2020] 185 ITD 318/119 taxmann.com 186 (Mum. – Trib.) it was held that provisions of section 50C of the Income-tax Act, 1961 will not operate where section 45(3) of the Act is operating.

Further, since the provisions of 9B of the Income-tax Act, 1961 invoke the Fair Market Value, the effect of the deeming provisions would be subsumed and there would be no tax leakage.

No. Section 9B of the Income-tax Act, 1961 is only applicable on reconstitution or dissolution of the specified entity. Therefore, if any capital asset or stock-in-trade is distributed in absence of reconstitution or dissolution of the specified entity, section 9B of the Income-tax Act, 1961.

There is no clarification to this effect.

Assuming a deeming provision has to be strictly, a “legal heir” is not within the definition of a specified person. Therefore, it is a debatable issue. Therefore, it can be argued that provision of section 9B of the Income-tax Act, 1961 may not be applicable when payments are made to legal heir. Judicial precedents need to throw light on the subject matter or the CBDT should provide a clarification.

As per section 9B of the Income-tax Act, 1961, the specified entity is liable to pay tax on the deemed transaction.

As per section 9B(2) of the Income-tax Act, 1961, the deemed transaction shall be chargeable to income-tax as income of such specified entity under the head “Profits and gains of business or profession” or under the head “Capital gains”, in accordance with the provisions of the Income-tax Act, 1961.

Therefore, since transfer of rural agricultural land is not a capital asset, distribution/deemed transfer of the same would not attract any Capital Gain Tax on the specified entity.

In the case of Premchand Jain v. Asstt. CIT [2020] 183 ITD 372/117 taxmann.com 370 (Jaipur – Trib) dealing with section 56(2)(vii)(b) of the Act has held that if the agricultural land does not fall in definition of capital asset, difference between district level value and sales consideration cannot be brought to tax. The same principle will apply.

As section 9B of the Income-tax Act, 1961 allows the Ld. Assessing Officer to assess the Firm the year subsequent to dissolution. Whereas, section 189(1) permits the Ld. Assessing Officer to assess a dissolved Firm as if it is not dissolved. Therefore, the application of section 189(1) of the Income-tax Act, 1961 is debatable.

As per section 9B(2) of the Income-tax Act, 1961, the deemed transaction shall be chargeable to income-tax as income of such specified entity under the head “Profits and gains of business or profession” or under the head “Capital gains”, in accordance with the provisions of the Income-tax Act, 1961.

Therefore, the expenses/deductions available under the head “Income from Business and Professions” should be allowed.

As per section 9B(2) of the Income-tax Act, 1961, the deemed transaction shall be chargeable to income-tax as income of such specified entity under the head “Profits and gains of business or profession” or under the head “Capital gains”, in accordance with the provisions of the Income-tax Act, 1961.

Hence the Computation mechanism for Capital Gains under the Income-tax Act, 1961 will be followed and statutory deductions will be allowed.

The Book value of the self-generated asset or self-generated goodwill is immaterial. In the event where on reconstitution or dissolution of a specified entity, a self-generated asset is distributed to a specified person, then the entire sum will be taxable as Capital Gains, taking the cost of acquisition as nil.

As per Rule 8AA of the Income-tax Rules, 1962, transfer of a self-generated asset or self-generated goodwill is deemed to be a Short-term Capital Asset for the purpose of computing Capital Gains under section 45(4) of the Income-tax Act, 1961. However, such a deeming provision does not exist, therefore the Capital Gains on transfer of self-generated asset or self-generated goodwill can be both, Long-term Capital Gain or Short-term Capital Gain.

Section 48(iii) of the Income-tax Act, 1961 allows deduction of the amount chargeable to income-tax as income of such specified entity on the value of any money or capital asset received by a specified person from a specified entity under section 45(4) of the Income-tax Act, 1961.

Therefore, the said provision does not apply to section 9B of the Income-tax Act, 1961.