Shareholder Loan Treated as Deemed Dividend u/s 2(22)(e): ITAT Restricts Addition to Company’s Accumulated Profits [Read Order]

The Mumbai bench of Income Tax Appellate Tribunal (ITAT) restricted the addition of ₹88.26 lakh to companies' accumulated profits on the ground that loan of the shareholder was treated as a deemed dividend under section 2(22)(e).

The assessee, Shri Jigar Kishor Mehta, was a substantial shareholder in M/s Purvi Gems & Jewellery India Pvt. Ltd. During assessment proceedings, the Assessing Officer (AO) observed that the assessee had received loans aggregating to ₹88.26 lakh from the said company. Considering the assessee’s substantial shareholding and the nature of the advance, the AO treated the amount as a deemed dividend under section 2(22)(e) of the Income-tax Act, 1961, and added it to the assessee’s income in the order passed under section 143(3) of the Act.

Before the CIT(A), the assessee produced the ledger account and annual report of the company and contended that any addition on account of deemed dividend should be restricted to the accumulated profits of the company. The CIT(A) agreed in principle and directed the AO to re-quantify the deemed dividend based on the available accumulated profits.

The assessee contended that although the loan was from a company in which he held a substantial interest, the addition cannot exceed the accumulated profits of the lending company as on the date of the transaction.

It was argued that the AO erred in treating the entire loan amount as a deemed dividend without computing the extent of accumulated profits. The assessee, therefore, requested that the addition be restricted to the accumulated profits available on the date corresponding to the peak loan balance.

The Department supported the action of the AO, maintaining that the loan advanced to the assessee, being a shareholder holding a substantial interest, clearly falls within the ambit of section 2(22)(e). The Revenue contended that the assessee had indeed received the benefit of funds from the company and that the entire loan should be treated as a deemed dividend in accordance with the AO’s order.

It was further submitted that the CIT(A)’s direction to recompute based on accumulated profits was already a fair and balanced view, requiring no further interference.

The ITAT observed that the Assessing Officer had treated the entire loan amount of ₹88.26 lakh advanced by M/s Purvi Gems & Jewellery India Pvt. Ltd. to the assessee as a deemed dividend under section 2(22)(e). The Tribunal noted that both the assessee and the CIT(A) had accepted that the addition, if any, must be restricted to the extent of accumulated profits of the company on the relevant date.

Referring to the intent of section 2(22)(e), the Tribunal emphasised that the provision aims to prevent misuse of corporate structures by major shareholders for drawing out profits in the guise of loans, while at the same time ensuring that only accumulated profits are subjected to tax as deemed dividends.

The ITAT found that the CIT(A)’s direction to the AO to recompute the deemed dividend strictly based on the company’s accumulated profits was consistent with judicial precedents, including the ruling of the Hon’ble Bombay High Court. Accordingly, the Tribunal upheld the CIT(A)’s direction and further instructed the AO to consider the accumulated profits as on the date of the peak loan balance while restricting the addition.

Since the assessee was not aggrieved by this direction and had only sought quantification based on accumulated profits, the two-member bench comprising Raj Kumar Chauhan (Judicial Member) and Om Prakash Kant (Accountant Member) partly allowed the appeal, thereby remanding the matter to the AO for limited verification and recomputation.

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