1. This is a reference at the instance of the assessee under Section 256(1) of the I.T. Act, 1961, by the Income-tax Appellate Tribunal, Indore, stating the case and referring the same to us for our opinion on the following questions :
"(1) Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that an order of assessment passed by the Income-tax Officer without following the procedure Under Section 144B was erroneous and prejudicial to the interest of the Revenue giving rise to the jurisdiction of the Commissioner of Income-tax Under Section 263 of the I.T. Act, 1961 ?
(2) Whether, on the facts and in the circumstances of the case, the order of assessment computing the capital loss and directing the set-off against capital gains in future, could be held to be erroneous and prejudicial to the interests of the Revenue giving rise to the jurisdiction of the Commissioner of Income-tax ? and (3) Whether, on the facts and in the circumstances of the case, the Tribunal was right in maintaining the impugned order passed by the CIT Under Section 263 of the Income-tax Act, 1961 ?"
2. The case as stated by the Tribunal is as follows :
The assessee, an individual, returned an income of Rs. 17,354 for the assessment year 1973-74. The ITO computed the income at Rs. 1,19,760. The variation between the income returned and income assessed was more than Rs. 1,00,000. The ITO admittedly did not comply with the provisions of section 144b of the i.t. act, which enjoined him to forward a draft of the proposed assessment order to the assessee and invite objections, if any.
3. The assessee had claimed a business loss of Rs. 1,00,899 which included a loss of Rs. 98,000, being the cost price of 980 shares in Vigbore Company Ltd. The assessee had claimed that the said company had gone into liquidation and there was no hope of getting any amount from the liquidator. The ITO disallowed the claim of the assessee as a business loss but he computed Rs. 99,875 as capital loss and directed that this long-term capital loss could be carried forward for set off against long-term capital gains in future years.
4. The CIT, Bhopal, exercising his revisional powers under Section 263(1) of the I.T. Act, served a notice on the assessee stating therein that the assessment order passed by the ITO was erroneous in so far as it was prejudicial to the interests of the Revenue and directed the assessee to show cause why suitable remedial orders may not be passed. According to the Commissioner the order passed by the ITO was erroneous in so far as it was prejudicial to the interests of the Revenue because, firstly, the ITO did not comply with the provisions of Section 144B of the Act and, secondly, since there was no transfer of capital assets by the assessee, there could be no capital loss and the allowance of the capital loss by the ITO was not correct. The assessee raised two grounds before the Commissioner. First was that the order passed by the ITO without the approval of the IAC under Section 144B of the Act was ab initio wrong, illegal and invalid and it required to be quashed. Secondly, the loss of Rs. 98,000 on the 980 shares in Vigbore Co. Ltd. allowed by the ITO was fully covered under the provisions of Section 45 read with Section 2(47) of the I.T. Act, as there was an extinguishment of the rights in the shares. On these two grounds the assessee prayed that the notice under Section 263 of the Act be withdrawn.
5. The Commissioner rejected the objections raised by the assessee and set aside the assessment order directing the ITO to make a fresh assessment in accordance with law after giving a reasonable opportunity of being heard to the assessee.
6. The assessee appealed against the order of the Commissioner before the Income-tax Appellate Tribunal. In this appeal two contentions were made. First was that the assessment order itself was invalid inasmuch as the mandatory provisions of Section 144B had not been complied with and the order of the Commissioner could not validate the same. Second contention was that the ITO's order in computing the capital loss and directing a set-
off against capital gains in future years was proper. The Tribunal did not accept these contentions and dismissed the appeal. It was held by the Tribunal that inasmuch as there was a non-compliance by the ITO of the procedure laid down under Section 144B of the Act, the assessment order could be challenged as a nullity and "there is always risk to the Revenue that such an objection can be taken at any time and, therefore, certainly it is in the interests of the Revenue that this irregularity be cured". Thus, according to the Tribunal, the order of the ITO was erroneous in so far as it was prejudicial to the interests of the Revenue and the Commissioner was justified in exercising his jurisdiction under Section 263 of the Act. On the second issue about the allowance of the capital loss, the Tribunal referred to the argument advanced by the assessee's counsel about the extended definition of the word "transfer" in Section 2(47) of the Act and observed thus :
"There is force in this contention, but still it would have to be verified as to whether the assessee's right to recover the compensation for holding these shares had been totally extinguished."
7. The Tribunal was of the opinion that the facts brought before the ITO did not indicate that the assessee's right to any amount of compensation had been completely extinguished and, therefore, this question could be decided only after further enquiry. Thus the Tribunal upheld the order of the Commissioner setting aside the assessment and directing the ITO to make a fresh assessment according to law after giving a reasonable opportunity to the assessee.
8. Shri Choudhary, learned counsel for the assessee, raised two contentions before us First was that the Commissioner had no jurisdiction to set aside the assessment which, though erroneous due to non-compliance with Section 144B of the Act, was not prejudicial to the interests of the Revenue. Second was that the Commissioner ought to have quashed the assessment as being invalid and non est. He cited a Supreme Court decision under the Tamil Nadu Sales Tax Act to support his second argument that the Commissioner had the power to quash an invalid order (Thvl. Bombay Ammonia Pvt. Ltd. v. State Of Tamil Nadu. [1976] 37 STC 517 (SC)). That case is not in point because the language of Section 32 of the Tamil Nadu Sales Tax Act (reproduced in the cited case) is quite different. The Deputy Commissioner's power of revision under Section 32 of the Tamil Nadu Sales Tax Act is not circumscribed by any condition as it is under Section 263(1) of the I.T. Act.
9. Taking the second argument first, we are of the view that this contention is manifestly inconsistent with the first argument. If as Shri Choudhary contended, the Commissioner had no jurisdiction to take action under Section 263(1) of the Act, because according to him the assessment was not prejudicial to the interests of the Revenue, then by the same logic he had no jurisdiction to quash the order as well. It could not be logically contended that though the Commissioner had no jurisdiction to set aside the assessment, he had jurisdiction to quash it while acting under Section 263(1) of the Act.
10. Besides the argument, that the assessment order was totally invalid or non est on account of non-compliance with the procedure laid down under Section 144B of the Act, is not correct. There was no jurisdictional error even though the procedure under Section 144B of the Act was not complied with. The scheme of Section 144B of the Act clearly envisages that the jurisdiction to pass an order even when there is a variance of rupees one lakh and more between the income returned and the income assessed, is with the ITO, though Section 144B provides for a machinery for the service of a draft order on the assessee and a consultation with, a superior officer. This is only a procedural matter not involving jurisdiction and, therefore, if there is a non-compliance or an irregular compliance with this provision, it is only a procedural irregularity which can be cured by directing the ITO. to frame an assessment after following the correct procedure. The Madhya Pradesh High Court in Banarsidas Bhanoi and Sons v. CIT [1981] 129 ITR 488, has considered this question and held that non-compliance with the provisions of Section 144B of the Act is only a procedural irregularity and no question of jurisdiction is involved in such cases.
11. However, the first argument, viz., that an assessment order without compliance with the procedure laid down in Section 144B of the Act is erroneous but not prejudicial to the interests o{ the Revenue conferring revisional jurisdiction on the Commissioner under Section 263(1) of the Act has force. Under Section 263(1) two pre-requisites must be present before the Commissioner can exercise the revisional jurisdiction conferred on him. First is that the order passed by the ITO must be erroneous. Second is that the error must be such that it is prejudicial to the interests of the Revenue. If the order is erroneous but it is not prejudicial to the interests of the Revenue, the Commissioner cannot exercise the revisional jurisdiction under Section 263(1) of the Act. It was an admitted position that the order passed by the ITO was erroneous because it was incumbent on him to follow the procedure under Section 144B of the Act. The scheme of Section 144B, however, clearly indicates that the procedure prescribed therein is to safeguard the interests of the assessee so that he may be aware of the proposed order and raise objections within time against the additions proposed to be made. On such objections being made, the matter is referred to the IAC for opinion. If the assessment is framed without the service of a draft order on the assessee and inviting his objections as provided under Section 144B of the Act, the assessment may prejudice the assessee inasmuch as he is deprived of an opportunity to raise an objection against the variance. There cannot be any prejudice to the Revenue on account of the ITO's failure to follow the procedure prescribed under Section 144B, and unless the prejudice to the interests of the Revenue is shown, the jurisdiction under Section 263(1) cannot be exercised by the Commissioner, even though the order is erroneous. The argument that such an order may possibly be challenged in appeal by the assessee, and for this reason it is prejudicial to the interests of the Revenue, has no merit. Section 263(1) clearly contemplates that the order of assessment itself should be prejudicial to the interests of the Revenue and this prejudice has to be proved by reference to the assessment order only. It cannot be argued that there is some possibility of the assessment order being challenged or revised in appeal and, therefore, on account of this contingency the order becomes prejudicial to the interests of the Revenue.
12. In the present case the non-compliance with Section 144B of the Act did not cause any prejudice to the Revenue because the ITO made the assessment at a figure which was much higher than the income returned, thus benefiting the Revenue and not causing prejudice to its interest. We, therefore, hold that the Tribunal was not right in holding that the order of assessment passed by the ITO without following the procedure under Section 144B was erroneous in so far as it was prejudicial to the interests of the Revenue giving rise to the jurisdiction of the Commissioner under Section 263 of the I.T.
Act, 1961. Thus question No. (1) is answered in the negative and against the department.
13. With regard to question No. (2), the facts have been stated earlier. The ITO while rejecting assessee's claim in respect of the amount in question as business loss, treated the same as a capital loss and directed that the same could be set off against capital gains of the future assessment years. The Commissioner was of the opinion that the liquidation of the company in which the assessee had 980 shares did not amount to a "transfer" of the capital assets and, therefore, there could not be any allowance of capital loss. The contention of the assessee before the Tribunal was that the liquidation of the company in question resulted in the extinguishment of the assets of the assessee and thus it was a case of transfer within the meaning assigned to it under Section 2(47) of the I.T. Act. This contention was not fully upheld by the Tribunal which while referring to this argument observed as follows :
"There is force in this contention but still it would have to be verified as to whether the assessee's right to recover the compensation for holding these shares had been totally extinguished."
14. Shri Choudhary, learned counsel for the assessee, contended that the Commissioner had erred in holding that there was no transfer as a result of the liquidation of the company in which the assessee had its shares. He also contended that the Tribunal had reversed this finding of the Commissioner and held that the liquidation of the company resulted in an extin-quishment of the assessee's rights in the capital assets and amounted to a "transfer". According to Shri Choudhary the Tribunal after recording this finding ought to have set aside the Commissioner's order and not raised a new issue about the quantification of the loss. According to him the department did not raise this issue about the quantum of loss, nor had sought a reference against the finding of the Tribunal that the extinguishment of the assessee's rights amounted to a transfer of capital assets.
15. It is clear that if the liquidation of the company in which the assessee had 980 shares did not amount to a "transfer" for computing a capital loss or gain, the order was prejudicial to the interests of the Revenue and the Commissioner had jurisdiction to set aside the order and pass such further order as he deemed necessary. If the Tribunal had come to a definite conclusion that in this case the liquidation of the company automatically amounted to a "transfer" inasmuch as there was an extinguishment of the assessee's rights in the shares held by him in Vigbore Co. Ltd., then the Commissioner's order was liable to be set aside. The reason being, that in the wake of such a finding by the Tribunal the assessment order could not be considered to be erroneous and prejudicial to the interests of the Revenue, so as to confer jurisdiction on the Commissioner to pass an order under Section 263(1) of the Act. However, we are of the opinion that the Tribunal did not record any such categorical finding that the liquidation of the company automatically resulted in an extinguishment of the assessee's rights in the capital assets, viz., the shares held by him. We have reproduced the relevant portion of the Tribunal's order above. It is clear that while observing that there was force in the argument of the assessee's learned counsel, the Tribunal was of the view that the question whether the rights to the shares held by the assessee in Vigbore Co. Ltd. had been completely extinguished or not, was yet to be determined and, therefore, it could not be said whether there was in fact any capital loss.
16. Thus, according to us, the Tribunal did not in clear terms disagree with the finding of the Commissioner that the liquidation of the company in which the assessee had shares did not result in a transfer of capital assets within the meaning of Section 2(47) of the I.T. Act, 1961. The Tribunal merely made a tentative observation that the contention of the assessee had some force, but this observation could not be treated as a finding that the liquidation of the company, Vigbore Co. Ltd., amounted to an extinguishment of the rights of the assessee and, therefore, a transfer within the meaning of Section 2(47) of the Act. Indeed, the question was left open advisedly. In CIT v. R. M. Amin [1977] 106 ITR 368, their Lordships of the Supreme Court considered the scope of the definition of the word "transfer" under Section 2(47) of the I.T, Act. The facts in R. M. Amin's case were somewhat similar and the statement of law made therein applies to the facts of the case under reference. The Supreme Court was of the view that the observations in CIT v. Madurai Mills Co. [1973] 89 ITR 45 (SC) reproduced below, made with reference to the provisions of the 1922 act as amended in 1956, held the field under the Act of 1961 also (p. 373 of 106 ITR) :
"When a shareholder receives money representing his share on distribution of the net assets of the company in liquidation, he receives that money in satisfaction of the right which belonged to him by virtue of his holding the shares and not by operation of any transaction which amounts to sale, exchange, relinquishment or transfer."
17. It was noted by their Lordships in the cited case that but for the express provision in Sub-section (2) of Section 46 of the I.T. Act, 1961, any money received by a shareholder on the liquidation of a company could not be charged to capital gains at all. According to the Supreme Court there is no transfer of a capital asset within the meaning of Section 2(47) of the Act in a case where the company in which the assessee holds shares is liquidated.
18. In the light of the discussion above we hold that on the facts and in the circumstances of the case, the order of assessment computing the capital loss and directing a set-off against capital gains in future can be held to be erroneous and prejudicial to the interests of the Revenue giving rise to the jurisdiction of the Commissioner. The answer is in the affirmative and against the assessee.
19. Question No. (3) is consequential to questions Nos. (1) and (2). Since we have answered question No. (2) in favour of the Revenue, question No. (3) is also answered in the affirmative, in favour of the Revenue and against the assessee.
20. There will be no order as to costs of this reference.