ITAT Upholds ₹5.31 Crore Disallowance on Dividend Stripping u/s 94(7), Holds Provision Extends to Full Dividend, Not Merely Exempt Portion [Read Order]

In a recent ruling, the Income Tax Appellate Tribunal (ITAT), Ahmedabad Bench, has upheld a disallowance of ₹5.31 crore under Section 94(7) of the Income Tax Act, 1961, holding that the provision applies to the entire dividend received by the assessee and cannot be restricted to the exempt portion.

The Assessee, Punita Kalpesh Patel, filed the return for Assessment Year (AY) 2018-19, where she declared long-term capital gains from the sale of unlisted shares of Acculife Healthcare Pvt. Ltd., offset by short-term capital losses (STCL) of ₹380.74 crore from listed shares and equity-oriented mutual fund units.

The assessee received dividends of ₹4.70 crore from listed shares, with ₹10 lakh claimed as exempt under Section 10(34) and the balance taxed at 10% under Section 115BBDA.

During the assessment, the Assessing Officer (AO) observed that several transactions of shares satisfied the conditions under section 94(7): shares purchased within three months before and sold within three months after the dividend record date. Therefore, the AO disallowed the STCL to the extent of ₹5.31 crore. The Commissioner of Income Tax (Appeals) CIT(A) confirmed the addition, leading to the present appeal.

The appellant contended that Section 94(7) should apply only to exempt income of ₹10 lakh and not to the dividend already taxed under Section 115BBDA, and the disallowance must be correspondingly restricted. The assessee also challenged the computation of holding periods and submitted transaction-wise details to contend that only a small portion of the dividend, i.e., ₹32.76 lakh, met the statutory conditions.

The Revenue, on the other hand, argued that the statutory language of Section 94(7) refers to "dividend or income received or receivable" without any restriction to exempt dividends to prevent tax avoidance through dividend stripping. The Revenue placed reliance on the Supreme Court's decision in CIT v. Walfort Share & Stock Brokers Pvt. Ltd. (2010), which upheld the broad anti-avoidance intent behind Section 94(7).

READ MORE: Section 115BBDA ofIncome Tax Act Does not Apply to Domestic Company: ITAT deletes Addition

The bench comprising T.R. Senthil Kumar (Judicial Member) and Narendra Prasad Sinha (Accountant Member) dismissed the appeal, observing that the statutory language of Section 94(7) admits no distinction between exempt and taxable dividends.

The Tribunal observed that section 94(7) is designed to prevent tax avoidance arising from dividend stripping, and such avoidance can occur where a dividend is taxed at a concessional rate. Therefore, restricting it only to exempt dividends would undermine its purpose.

The bench further observed that the legislative history of the Finance Acts of 2001 and 2004, which introduced and extended the provision, made it clear that the disallowance was intended to operate irrespective of the tax treatment of the dividend.

The Tribunal also noted that the assessee's alternative computation of ₹32.76 lakh did not convincingly rebut the AO's detailed transaction-wise analysis and that the burden to establish non-applicability of Section 94(7) lay with the assessee, which had not been satisfactorily discharged. Therefore, the Tribunal upheld the disallowance of ₹5.31 crore and confirmed that Section 94(7) applies to the entire dividend received, not merely the exempt portion.

Accordingly, the appeal was dismissed.

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