S. 263 Can’t Be Invoked by Treating Court Approved Demerger as an Amalgamation: Madras HC Upholds Carry Forward of Losses

The Madras High Court has dismissed a tax appeal filed by the Income Tax Department holding that the Commissioner of Income Tax (CIT) wrongly invoked revisionary powers under Section 263 of the Income Tax Act by treating a court-approved demerger as an amalgamation. A Division Bench comprising Justice Dr. Anita Sumanth and Justice Mummineni Sudheer Kumar while affirming the order of the Income Tax Appellate Tribunal (ITAT) that had earlier set aside the CIT’s revision order observed that the conditions applicable to the carry forward of losses in amalgamations cannot be mechanically applied to demergers, especially when the statutory framework draws a clear distinction between the two. The case related to Assessment Year 2007–08. Eastman Exports Global Clothing Pvt. Ltd. had filed its return of income, which was assessed by the Assessing Officer on December 18, 2009. Subsequently, the Commissioner of Income Tax, Coimbatore, issued a show cause notice under Section 263 of the Act, proposing to revise the assessment on the ground that it was erroneous and prejudicial to the interests of the Revenue. The CIT questioned the allowability of carry forward of unabsorbed business losses and depreciation relating to three entities—Tangible Textiles Pvt. Ltd., Cotton Base Clothing India Pvt. Ltd., and Essorpe Mill Ltd.—whose manufacturing divisions had been transferred to Eastman Exports pursuant to schemes sanctioned by the Madras High Court. Proceeding on the assumption that the transaction amounted to an “amalgamation,” the CIT relied on Section 72A(2) of the Income Tax Act, which imposes conditions such as a minimum three-year existence of the amalgamating company for carry forward of losses and depreciation. As the transferor entities had not completed three years of existence, the CIT held that the assessment required revision and remitted the issue back to the Assessing Officer for fresh examination. Eastman Exports challenged the revision order before the ITAT, arguing that the CIT’s very foundation was flawed. The company pointed out that the arrangements sanctioned by the High Court were schemes of demerger under Section 2(19AA) of the Act, not amalgamations under Section 2(1B). Consequently, the applicable provision was Section 72A(4), which governs carry forward of losses in cases of demerger and does not prescribe any minimum period of existence for the demerged undertaking. Accepting this contention, the ITAT held that the CIT had travelled beyond the scope of the show cause notice and had ordered a roving and fishing enquiry without first establishing any error in the original assessment. The Tribunal therefore set aside the revision order. Dismissing the depaartment’s appeal, the High Court reiterated the settled legal position that for invoking Section 263, two conditions must be satisfied concurrently—the assessment order must be both erroneous and prejudicial to the interests of the Revenue. Relying on the Supreme Court’s ruling in Malabar Industrial Co. Ltd. v. CIT, the Bench emphasized that absence of either condition would render the exercise of revisionary power invalid. The Court noted that the Madras High Court itself had sanctioned the schemes of demerger through orders dated July 28, 2008, and September 15, 2009. Despite this, the CIT erroneously treated the transaction as an amalgamation. The Bench observed that this mischaracterisation went to the root of the matter, since Section 72A(2) applies only to amalgamations, while Section 72A(4), applicable to demergers, contains no condition regarding the minimum period of existence of the demerged company. The Court found that the assessee had clearly brought this distinction to the CIT’s notice in its reply to the show cause notice. Even so, the CIT failed to identify any specific error in the assessment order and merely directed a remand to the Assessing Officer, which the Court described as a “mere roving enquiry.” The High Court held that the arrangement between the parties was a demerger, not an amalgamation. Section 72A(4) governs carry forward of losses and depreciation in a demerger and does not impose the conditions found in Section 72A(2). The CIT failed to demonstrate how the original assessment was erroneous. In the absence of a demonstrable error, the jurisdiction under Section 263 could not be validly exercised. The Court dismissed the tax appeal without costs. Case Details Case Title: CIT Versus M/s Eastman Exports Global Clothing Pvt Ltd. Case No.: TCA No. 602 of 2013 Date: 02-12-2025 Counsel For Petitioner: P.E.R.Mangala Suvigaran Counsel For Respondent: T.Banusekar Click Here To Read Order Read More: Wrong SGST Payment Triggers Rs. 10.91 Lakh Refund Dispute: Delhi HC Sends Vodafone Idea to GSTAT

S. 263 Can’t Be Invoked by Treating Court Approved Demerger as an Amalgamation: Madras HC Upholds Carry Forward of Losses

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