SKP Tax Alert
The Central Board of Direct Taxes (CBDT)[1] grants a breather to the taxpayers by taking the transactions in the nature of trade advances out of the purview of dividend taxation
 

As per the Income Tax Act, 1961 (Act), the definition of dividend broadly includes any payment of ‘advance’ or ‘loan’ by a closely held company[2] to: 
  • A shareholder beneficially owning and holding shares, carrying at least 10% of the voting power in such company (Shareholder); or 
  • Any concern (Concern) in which the Shareholder has a substantial interest[3]
It may be noted that the definition of dividend also includes any payment by a closely held company on behalf, or for the individual benefit, of any Shareholder.
 
Taxation under the above provision is restricted to the extent the company possesses accumulated profits.
 
The above provision is not applicable to a company substantially engaged in the business of money lending.
 
Issue
There are situations when a company pays trade advance to a Shareholder/Concern in the course of commercial transactions entered between them. In these situations, an issue that arises is whether such trade advance transactions can lead to dividend taxation under the provision explained above.
 
CBDT clarification on the issue
In a recent CBDT Circular[4], it has been clarified that trade advances, which are in the nature of commercial transactions, would not fall within the ambit of word ‘advance’ used in the provision dealing with dividend taxation.
 
The CBDT Circular further mentions that appeals on this issue may not be filed by the revenue authorities and if appeals are already filed in Courts/Tribunals, these appeals may be withdrawn/not pressed upon.
 
While issuing this Circular, the CBDT has observed that there are decisions of the Courts[5] on this issue in favour of the taxpayers. Accordingly, the views taken by Courts have attained finality.
 
[1] The apex Direct Tax Administrative Body in India
[2] A company in which public are not substantially interested
[3] It covers the cases where a Shareholder is entitled to at least 20% of income of such concern (other than company) or Shareholder is beneficially owning shares carrying not less than 20% of the voting power of such concern (which is a company)
[4] CBDT Circular No. 19/2017 dated 12 June 2017
[5] CIT vs Creative Dyeing & Printing (P.) Ltd. [2009] 184 Taxman 483 (Del.); CIT vs Atul Engineering Udyog [2014] 51 taxmann.com 569 (All.) and CIT vs Amrik Singh [2015] 56 taxmann.com 460 (P&H)
 
SKP's Comments
The CBDT Circular clarifies that the grant of trade advances, which are in the nature of commercial transactions, would not be treated as ‘advance’ in the context of Dividend Taxation Provision (DTP) of the Act. This is a welcome clarification beneficial to the taxpayers and shall put to rest the ongoing litigation in this regard. 
 
It is also 
fair acknowledgement by the CBDT that DTP is not intended to operate in a manner that it prohibits any commercial transaction between a company and Shareholder/Concern.
 
While DTP applies to ‘loan’ and ‘advance’, the CBDT Circular is restricted to ‘trade advances’. It does not expressly discuss the position in respect of loans or non-trade advances given by a company to Shareholder/Concern out of commercial expediency. Ideally, going by the spirit behind the Circular, loan transactions carried out under commercial expediency should stand excluded from DTP. The Courts have consistently upheld this position, but the CBDT Circular has not thrown light on this aspect. 
 
As an example, the Circular refers to a transaction of security deposit where the Court held that DTP is not attracted if the deposit was given on account of a transaction arising in the ordinary course of business. While one may argue that DTP should not apply to deposits at all, it may also be possible to take a position that the term ‘trade advances’ in the CBDT Circular could cover any loan or advance provided in the ordinary course of business. 
 
However, this position could be debatable and for cases of loans, taxpayers may have to continue to rely upon existing court rulings to defend their positions regarding non-applicability of DTP.
SKP
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