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Slump sale

20 May 2013

Is it necessary to transfer ALL the assets & liabilities in case of Slump Sale ? I mean can the transaction still be qualified as Slump sale even if some of the assets are not taken over by the transferee company ?

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CA Shree Jain (Chartered Accountant) (1572 Points)
Replied 20 May 2013

Meaning of ‘slump sale’ :

In simple words, ‘slump sale’ is nothing but transfer of a whole or part of business concern as a going concern; lock, stock and barrel. As per S. 2(42C), introduced by the Finance Act, 1999, ‘slump sale’ means the transfer of one or more undertakings as a result of the sale for a lump sum consideration without values being assigned to the individual assets and liabilities in such sales. ‘Undertaking’ has the same meaning as in Explanation 1 to S. 2(19AA) defining ‘demerger’. Explanation 2 to S. 2(42C) clarifies that the determination of value of an asset or liability for the payment of stamp duty, registration fees, similar taxes, etc. shall not be regarded as assignment of values to individual assets and liabilities. Thus, if value is assigned to land for stamp duty purposes, the transaction will not cease to be a slump sale.

Meaning of ‘undertaking’ :

As per Explanation 1 to S. 2(19AA), ‘undertaking’ shall include any part of an undertaking or a unit or division of an undertaking or a business activity taken as a whole, but does not include individual assets or liabilities or any combination thereof not constituting a business activity.

Analysis of the above definitions :

1. The subject matter of slump sale shall be an undertaking of an assessee. ‘Undertaking’ is defined as per Explanation 1 to S. 2(19AA), which includes a division. S. 50B provides for computation of capital gains on slump sale of ‘undertaking or division’. The word ‘division’ is nowhere defined in the slump sale provisions. Thus, the significance of the word ‘division’ is not apparent. Also, it is not clear as to how a ‘division’ is distinct from an ‘undertaking’ and how important is that distinction for the purpose of S. 50B.

2. An ‘undertaking’ may be owned by a corporate entity or a non-corporate entity, including a professional firm. This is on account of the following :

(a) S. 50B refers to ‘assessee’ without any specific exclusion of a non-corporate entity.

(b) In the case of Industrial Machinery Associates v. CIT, [81 ITD 482 (Ahd.)], sale of entire business undertaking by a firm to a company as a going concern was held to be a slump sale.

(c) As per the Dictionary of Accounting, Oxford University Press, ‘undertaking’ is defined as ‘a body corporate, partnership or an unincorporated association carrying on trade or business with a view to making profit’.

3. Slump sale may be of a single undertaking or even more than one undertaking.

4. The undertaking has to be transferred as a result of sale. If an undertaking is transferred otherwise than by way of sale, say, by way of exchange, compulsory acquisition, extinguishment, inheritance by will, etc., the transaction may not be covered by S. 2(42C). This is because the definition of ‘transfer’ in S. 2(47) specifically lays down the different modes which shall be regarded as transfer. ‘Sale’ is just one of them. Slump sale is restricted only to ‘transfer . . . . . . as a result of sale’.

5. The consideration for transfer is a lump sum consideration. This consideration should be arrived at without assigning values to individual assets and liabilities.

6. The following is an illustrative list of cases where sale of an undertaking was held to be a slump sale :

(a) Land development business — CIT v. Mugneeram Bangur & Co., [57 ITR 299 (SC)]

(b) Sale of cement unit, which was transferred as a functional productive unit — Coromandel Fertilisers v. DCIT, [90 ITD 344 (Hyd.)]

7. Possibility of identification of price attributable to individual items (plant, machinery and dead stock) which are sold as part of slump sale, may not entitle a transaction to be qualified as slump sale — CIT v. Artex Manufacturing Co., [227 ITR 260 (SC)]. However, in case of slump sale which includes land/building where separate value is assigned to it under the relevant stamp duty legislation, the slump sale will not be adversely affected in the light of Explanation 2 to S. 2(42C).

Where the sale deed mentioned ‘sale deed in respect of sale of movable properties’ and separate prices were agreed for different assets, the transaction was not treated as a slump sale — Jayantilal Bhogilal Desai [130 ITR 655 (Guj.)]

8. An issue arises as to whether S. 50B applies to sale of an undertaking which has discontinued its business or is not a going concern at the time of sale. There are two views possible :

One, that there has to be sale of an undertaking as a going concern. This is evident from the following :

(a) When slump sale provisions were introduced, the Memorandum to the Finance Bill, 1999 provided that tax benefits to business reorganisations should be limited to transfer of business as a going concern and not to transfer of assets without business reorganisation.

(b) The definition of ‘undertaking’ is in the context of demerger. One of the conditions of demerger is that the transfer of the undertaking is on a going concern basis [S. 2(19AA)(vi)].

(c) S. 176(3A) of the Act requires that where a business is discontinued, ‘any sum’ received after discontinuance shall be taxable in the hands of the person who carried on the business as if the sum has been received prior to discontinuance.

(d) The Webster’s dictionary defines ‘undertaking’ as ‘something that is undertaken or a business work or project which one engages in or attempts, or an enterprise’.

(e) Dictionary of Accounting (above) uses the words ‘carrying on trade or business’.

The above-mentioned points clearly lay down that the ‘undertaking’ should be a going concern at the time of sale. However, in the absence of any specific provision in S. 50B restricting its applicability to an undertaking whose business is discontinued or which is no longer a going concern; the other view is also possible that the undertaking need not be a going concern. Since there is a provision that is specifically applicable in case of slump sale, this provision would override all other general provisions of the Act. Besides, where two views are possible, the benefit of doubt should be given to the assessee. Hence, the second view holding that slump sale provisions apply even to a discontinued business can be taken.

Transfer of assets without transfer of liabilities — whether slump sale :

Slump sale provisions do not apply where assets of an undertaking are transferred without transfer of liabilities. This is clear from the following :

1. Definition of ‘undertaking’ in Explanation to S. 2(19AA) : ‘include any part of an undertaking or a unit or division of an undertaking or a business activity taken as a whole,.’.

2. As per Explanation 1 to S. 50B, net worth is the difference between ‘aggregate value of total assets of the undertaking or division’ and ‘value of liabilities of such undertaking or division’.

3. Where price was fixed beforehand in respect of identifiable assets of the undertaking and no liability was transferred to the buyer, transfer of undertaking would not be regarded as a slump sale — Mahindra Sintered Products Ltd. v. DCIT, [95 ITD 380 (Mum.)]

4. Sale of chemical unit was not regarded as slump sale, because there was transfer of assets without transfer of liabilities. — Weikfield Products Co. (I) (P.) Ltd. v. DCIT, [71 TTJ 518 (Pune)]. The Tribunal observed that :

‘In our opinion, the transfer of a going concern means transfer by lock, stock and barrel, where nothing is left with the vendor. It includes not only the transfer of each asset, tangible or intangible, but also the transfer of each debt and liability including any obligation.’

5. In R. C. Cooper v. UOI, (1970) 40 Com Cas 325 (SC), it was observed that ‘undertaking relates to the entire business although there may be separate ingredients or items of work or assets in the undertaking. The undertaking will therefore be the entire integrated organisation consisting of all property, movable or immovable, and the totality of undertaking is one concept which is not divisible into components or ingredients.’

Taxability of gains arising on slump sale :

S. 50B provides the mechanism for computation of capital gains arising on slump sale. On a plain reading of the Section, some basic points which arise are :

1. S. 50B reads as ‘Special provision for computation of capital gains in case of slump sale’. Since slump sale is governed by a ‘special provision’, this Section overrides all other provisions of the Act.

2. Capital gains arising on transfer of an undertaking are deemed to be long-term capital gains. However, if the undertaking is ‘owned and held’ for not more than 36 months immediately before the date of transfer, gains shall be treated as short-term capital gains. It is important to note that Circular No. 779, dated 14-9-1999, issued at the time of introduction of S. 50B, has used the words ‘held’ instead of ‘owned and held’ used in the text of S. 50B. It is not clear whether this difference in terminology is of any significance.

Where an undertaking was acquired by an assessee under a will, and such an undertaking is transferred by him as a slump sale within a year, the undertaking will be classified as short-term or a long-term asset based on the period for which the previous owner ‘owned and held’ the undertaking [S. 49(1)(ii)].

3. Taxability arises in the year of transfer of the undertaking. The undertaking will be deemed to be transferred on execution of the agreement and registration thereof coupled with the handing over of possession of the undertaking to the transferee. However, if the year of the agreement of the undertaking and registration thereof and the year of its possession fall in two different previous years, then the previous year in which the possession of the undertaking is handed over to the transferee will be considered as the year of transfer.

4. Capital gains arising on slump sale are calculated as the difference between sale consideration and the net worth of the undertaking. Net worth is deemed to be the cost of acquisition and cost of improvement for S. 48 and S. 49 of the Act.

5. As per S. 50B, no indexation benefit is available on cost of acquisition, i.e., net worth.

6. In the year of transfer of the undertaking, the assessee has to furnish an accountant’s report in Form 3CEA along with the return of income indicating the computation of net worth arrived at and certifying that the figure of net worth has been correctly arrived at. Although the certification of computation is based on the information and explanations obtained by the accountant, the essence of the form is on reporting that the computation is ‘true and correct’ rather than ‘true and fair’.

7. In case of slump sale of more than one undertaking, the computation should be done separately for each undertaking. This is substantiated by Note 5 to Form 3CEA, which requires the computation of net worth of each undertaking to be indicated separately.

8. In case of slump sale in the nature of succession of a firm or a proprietary concern by a company, capital gains made on slump sale may be entitled to exemption u/s.47(xiii) and (xiv), respectively, provided the other conditions of these Sections are satisfied. In case of violation of conditions of S. 47(xiii) or (xiv) in any subsequent year, the benefit availed by the firm or the sole proprietor will be taxable in the hands of the successor company in the year in which the violation takes place as per S. 47A(3).

Besides, if the successor company violates the conditions of S. 47(xiii) or (xiv) by transferring that undertaking under a slump sale within three years of conversion, the undertaking will be classified as a short-term capital asset as per S. 50B. Then, the company would have to pay for the loss of tax benefit due to violation of conditions, as well as tax on the short-term capital gains arising on the slump sale.

9. Gains made by a foreign resident from the alienation of a permanent establishment or a fixed base in India by way of slump sale, shall be taxable in India as per S. 50B read with Article 13 (Capital Gains) of the UN/ OECD Model Convention on Double Taxation Avoidance Agreement.

‘Net Worth’:

When S. 50B was originally introduced, ‘net worth’ was defined as per the Sick Industrial Companies (Special Provisions) Act, 1985 to mean ‘the sum total of paid-up capital and free reserves’. In order to remove implemental difficulties, such as a non-corporate entity having no separate capital or reserves; non-application of the definition under SICA to non-corporate assesses, etc., the definition of net worth was amended retrospectively by Finance Act, 2000 w.e.f. A.Y. 2000-01. Now, net worth is defined in Explanation 1 to S. 50B as the difference between ‘the aggregate value of total assets of the undertaking or division’ and ‘the value of its liabilities as appearing in books of account’. This amendment has made it clear that the slump sale provisions apply to a non-corporate entity also.

The ‘aggregate value of total assets of the undertaking or division’ is the sum total of :

1. WDV as determined u/s.43(6)(c)(i)(C) in case of depreciable assets.

2. The book value in case of other assets.

It is important to note here that neither S. 50B, nor Form 3CEA lays down the date as on which the net worth is to be determined. In Coromandel Fertilisers v. DCIT, (90 ITD 344) the Hyderabad Tribunal has observed that ‘net worth of the undertaking on the date of transfer is deemed to be its cost of acquisition’.

The proviso to Explanation 1 to S. 50B explicitly lays down that ‘any change’ in value of assets on account of revaluation shall be ignored in determining net worth. Although it is not made clear whether revaluation refers to revaluation which might have taken place in the year of transfer only or even in the years prior to transfer, the use of the word ‘any change’ in the proviso tilts towards the view that revaluation of assets, even if done in the years prior to the transfer of the undertaking, shall have to be ignored for calculation of net worth.

The Act does not clearly lay down the mode of computation of capital gains where net worth of an undertaking is negative. In that case, two views are possible :

(a) One, net worth represents cost of acquisition and ‘cost’ cannot be negative. It can either be positive or zero. Further, S. 48 provides that capital gains shall be computed by ‘deducting’ cost of acquisition from the consideration. ‘Deduction’ means ‘reduction’; it cannot be an addition to the amount of consideration. Also, S. 50B being a special provision, overrides all other provisions for computation of capital gains. Hence, where net worth is negative, the cost of the undertaking should be taken as zero and capital gains will be equivalent to the sale consideration.

(b) The other view is that, in addition to the consideration, the transferee also pays for the excess of liabilities over the assets, which led to a negative net worth. Further, for the buyer, cost of purchase is the aggregate of amount paid to the seller plus the value of liabilities taken over, in excess of the assets. The total consideration for the buyer and the seller cannot be different. Hence, the negative net worth should be added to the sale consideration and capital gains should be higher than the sale consideration.

Currently, this issue has not been resolved. In my humble view, where the net worth is negative, the assessee receives consideration in cash as well as in kind by way of discharge of excess liabilities. Hence, the second view seems to be the better one.

Meaning of ‘net worth’, as defined in S. 50B is not consistent throughout the Act. For example, in case of demerger, Explanation to S. 49(2D) states that ‘net worth’ means the sum of paid-up capital and general reserves. Also, in demerger, only general reserves shall be included in net worth and no other reserves even if they are free reserves. For rationalisation of the Act, one of the important things is to bring about consistency in the meanings of various terms used therein.

Successor’s position in respect of claims of predecessor :

1. Where the predecessor is enjoying the benefits of S. 10A or S. 10B, the benefit for the unexpired period may be available to the successor, even though there is no specific provision for the same. The rationale being that these Sections provide for availability of the benefit qua ‘an undertaking’ and not qua ‘an assessee’. Just as in the case of amalgamation/demerger of an undertaking, where benefit is available to the amalgamated or the resulting company subsequent to re-organisation, in case of slump sale, too, the benefit is available to the successor for the unexpired period. This view is supported by the deletion of Ss.(9) and Ss.(9A) of both Sections w.e.f. A.Y. 2004-05.

2. Where the predecessor is denied deduction u/s.43B on the ground of non-payment of dues, and the dues are paid by the successor, the benefit of deduction u/s.43B should be available even to the successor. Although S. 43B applies qua ‘an assessee’, I believe that where an undertaking is transferred lock, stock and barrel, the benefits, claims, debts and contingencies of the undertaking are transferred with it.

3. Where claims for export incentives and cash assistance formed part of assets of the undertaking acquired by way of slump sale, and the amount of the claim was received by the successor, the amount so received was held to be capital receipts. This was because the claims for export incentives and cash assistance were actionable claims purchased by the assessee for a consideration ACIT v. HYT Engg. Co. (P.) Ltd., [92 ITD 202 (TM) (Pune)].

4. In the absence of any specific provisions for computation of WDV of assets acquired upon slump sale in the books of the successor, a view could be taken that apportionment of slump consideration on the basis of fair values of various assets is possible.

Cases :

Some general principles laid down by various cases are as follows :

1. Nature of S. 50B :

(a) Prospective, i.e., effective from A.Y. 2000-01 — Coromandel Fertilisers v. DCIT, (supra); Industrial Machinery Associates v. CIT, (supra); Salora International v. JCIT, [88 TTJ 53 (Del.)]

(b) Not clarificatory, not procedural, i.e., effective from A.Y. 2000-01 — Coromandel Fertilisers v. DCIT, (supra); L. H. Sugar Factories v. ACIT, [86 TTJ 1012 (Luc.)]

2. S. 50, in relation to depreciable assets, is applicable only in case of an itemised sale and not in case of slump sale, which is now covered by S. 50B. S. 50 and S. 50B are mutually exclusive — Coromandel Fertilisers v. DCIT, (supra); Salora International v. JCIT (supra).

3. Lump sum consideration received on slump sale cannot be attributed to various individual assets for determining capital gains in the hands of the seller of the undertaking — Doughty v. Taxes Commissioner, (1927) AC 327 (PC); CIT v. Mugneeram Bangur & Co., (supra); Indian Bank Ltd. v. CIT, [153 ITR 282 (Mad.)]; Syndicate Bank Ltd. v. ACIT, [155 ITR 681 (Kar.)].

4. Slump sale, though chargeable u/s.45, could not be taxed, since the cost of acquisition and date of acquisition of the undertaking cannot be ascertained. Reasons for introduction of S. 50B, as explained in the introduction above, laid down in : Coromandel Fertilisers v. DCIT, (supra); Syndicate Bank Ltd. v. ACIT (supra). Contrary view in PNB Finance Ltd. v. CIT, 252 ITR 491 (Del.)

5. In case of slump sale, the undertaking is a capital asset — Syndicate Bank Ltd. v. ACIT (supra).

6. Balancing charge u/s.41(2) is not applicable where there is a sale of the whole undertaking and the assessing officer does not have with him the actual cost, written down value and sale consideration of individual assets. — CIT v. Garden Silk Weaving Factory, [279 ITR 136 (Guj.)].

Trade-off between itemised sale and slump sale :

An assessee has to choose what is best suitable for him — an itemised sale or a slump sale. This is done by evaluating the advantages and disadvantages of slump sale.

Advantages :

If the undertaking is owned and held for more than 36 months, the long-term capital gains are taxable @ 20% (plus surcharge and education cess), even though there may be some assets held only for a few months. Further, long-term capital gains are eligible for deduction u/s.54EC and u/s.54F [ACIT v. Raka Food Products, 277 ITR 261 (Mad)]. Since S. 50B overrides the Sections which provide the mode of computation of capital gains on sale of an asset, S. 50C, providing for substitution of sale consideration of land/building by its value as per valuation of stamp valuation authority, is not applicable where land/building is part of the undertaking. Thus, the effective rate of long-term gains may turn out to be much lower than 20%.

Disadvantages :

No indexation benefit is available. Also, where the undertaking comprises plots of land acquired prior to 1-4-1981, whose value has appreciated, cost cannot be substituted by the FMV as on 1-4-1981. In case the undertaking is a short-term capital asset, capital gains made on slump sale are taxable at normal rates of tax, without availability of exemption.

Conclusion :

In view of the above provisions, an assessee may select what is most appropriate for him — an itemised sale or a slump sale, so as to minimise the capital gains tax liability. Where itemised sale is more beneficial, one can simply break up the sale consideration by assigning values to individual assets and liabilities. Since sale consideration of an undertaking is expected to be sizable, determining sale consideration appropriately can save huge tax liability.