Cancellation Compensation Paid to Facilitate Higher-Priced Share Sale Allowable as LTCG Deduction: ITAT Deletes ₹7.84 Crore Addition [Read Order]

The Income Tax Appellate Tribunal (ITAT) Pune has held that compensation paid for cancellation of earlier share sale agreements to facilitate a subsequent higher-priced transaction constitutes an allowable deduction while computing Long Term Capital Gains (LTCG). The Tribunal consequently upheld the deletion of an addition of ₹7.84 crore made by the Assessing Officer.

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The assessee Somnath Vaijnath Sakre engaged in the business of manufacturing plastic water tanks and milk cans under the name M/s Shree Maruti Udyog had sold 3,50,000 equity shares of Lord Ganesh Minerals Pvt. Ltd. to KSL Holding Pvt. Ltd. for ₹21.87 crore.

While computing LTCG, the assessee claimed deduction of ₹7.84 crore as selling expenses, representing compensation paid to Nilesh Steel & Alloys Pvt. Ltd. and Dhanlaxmi TMT Bars Pvt. Ltd. for cancellation of prior agreements for sale of the same shares.

The Revenue alleged that the cancellation agreements were merely colourable devices adopted to minimise tax liability. It was contended that the agreements were unregistered, insufficient stamp duty had been paid, and the parties had settled the matter privately instead of pursuing legal proceedings before a court.

The Assessing Officer disallowed the claim and treated the compensation amount as part of taxable LTCG. Although the CIT(A) deleted the addition, the matter reached the Tribunal in the second round of litigation.

However, the assessee argued that the compensation was paid strictly in accordance with contractual obligations contained in the original agreements. It was submitted that the assessee could not obtain the required consent from other shareholders for transfer of shares and was therefore contractually liable to compensate the original purchasers.

Further, the assessee stated that the subsequent sale at ₹625 per share, as against the earlier agreed price of ₹305 per share, resulted in substantially higher profits despite payment of compensation.

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The Tribunal observed that there was no legal requirement mandating registration of agreements for sale of shares. It further noted that both recipient companies were established business entities assessed to tax and had disclosed the compensation receipts in their returns while paying taxes thereon.

The Bench comprising R. K. Panda and Astha Chandra held that the compensation payment represented a prudent commercial decision taken to facilitate a higher-value transaction and that the Assessing Officer could not sit on the chair of the businessman to question such business expediency.

Accordingly, the Tribunal upheld the order of the CIT(A) deleting the addition of ₹7.84 crore and dismissed the Revenue appeal.

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