Holding

For unquoted shares, the proper valuation method is the profit‑earning method, and the principle of valuation is a question of law, but the Court will not disturb the existing valuation due to the delay and negligible tax impact.

Summary

The Commissioner of Gift Tax appealed against the Gujarat High Court’s order that upheld a valuation of 480 unquoted shares of an English private company using the break‑up method based on the 31 March 1963 balance sheet. The assessee had argued for an average break‑up value from the 1964 and 1965 balance sheets, while the revenue contended that the proper valuation method for unquoted shares is the profit‑earning method. The Supreme Court held that the correct principle of valuation for such shares is indeed the profit‑earning method and that the choice of valuation principle is a question of law, though parties may agree on a permissible method. However, because the case was over two and a half decades old and the tax difference would be minimal, the Court declined to revisit the valuation and left the Tribunal’s assessment undisturbed. The appeal was therefore disposed of without altering the tax liability.

Issues considered

Whether the appropriate method of valuing unquoted shares for gift tax purposes is the break‑up method or the profit‑earning method.
Whether the principle of valuation is a question of law and if parties may agree on a permissible method.
Whether the High Court’s adoption of the break‑up method was legally correct.
Whether the Tribunal’s valuation should be recomputed in light of the correct principle despite the lapse of time.

Legislation cited

Gift Tax Act, 1958s. 15(3)

Subjects

gift taxvaluation of sharesunquoted sharesprofit‑earning methodbreak‑up valueprinciple of valuationtax assessmentSupreme Court

Judgment

I COMMISSIONER OF GIFT TAX, GUJARAT
v.
A
> '
EXECUTORS & TRUSTEES OF THE ESTATE OF
LATE SH. AMBALAL SARABHAI, AHMEDABAD

DECEMBER 11, 1987 8

[S. NATARAJAN AND M.N. VENKATACHALIAH, JJ.]
'
,._ ,\..._ Gift Tax Act, 1958: Section 15(3)-Gift of shares-Correct-
Principles of valuation-Whether a question of law-Shares not quoted
on stock exchange-What is the method of valuation applicable to.
c
The assessee contended in the gift tax assessment proceedings that
the 480 shares in the English Company acquired as gift were not quoted
in the stock exchange, that their value be determined ou the average
break-up value indicated by the balance sheets of the Company as on
31.3.1964 and 31.3.1965, and that in view of the decision of the General [)
Body of the Company dated 4.10.1961 to increase its share capital by
issue of additional shares the value of the sh~res constituting the subject
matter of the gifts which were transferred "ex-right" would stand
depreciated.

The Gift Tax Officer valued the shares on the basis of the break· E
up value yielded by and deducible from the balance sheet as on
31.3.1964. The Appellate Assistant Commissioner dismissed the asses·
see's appeal.

In the further appeal before the Income-tax Appellate Tribunal,
the Tribunal, relying on the ratio laid down in the English Case, Lynall F
and another, v. Inland Revenue Commissioner, 83 l.T.R. 563 valued
the shares at Rs.450 each, said to represent the break-up value on the
basis of the balance sheet of 31.3.1963, holding that it could not take
into consideration any other document except the published informa-
tion, which was the aforesaid balance sheet.
G
The Tribunal stated a case and referred the matter to the High
Court, for its opinion. The High Court held that since the only informa·
lion which was available on the date of the gifts was in the form of the
balance sheet as of March 31, 1963, the Tribunal was right in taking the
same into consideration, for the purpose of arriving at the value of the
shares by the 'break-up' method. H
341
,
3-12 SUPREME COURT REPORTS [ 1988] 2 S.C.R.

A In the appeal to this Court it was contended on behalf of the
Revenue that the principle of valuation relied upon by the High Court
was erroneous, and that the case was covered by the decisions of this
Court in Commissioner of Wealth Tax, Assam v. Mahadeo Jalan &
Ors., 86 ITR 621 and Commissioner of Gift-Tax, Bombay v. Smt.
Kusumben D. Mahadevia, 122 ITR 38.
B
On behalf of the assessee it was urged that in view of the consensus
between the parties as to the basis of valuation, it was not now open to
the Revenue to urge the application of an altogether different principle.
j
Disposing of the appeal,
c HELD: !. The correct principle of valuation applicable to a
given case is a question of law. The parties can agree upon a principle
permissible and recognised by law. If two or more alternative principles
are equally valid and available it might be permissible for the parties to
agree upon one of the alternative modes of valuation in preference to
D another. [346G-HJ

In the instant case, the Revenue cannot be precluded from urging
the correct legal position. [347A]

2. When the shares in a public limited company are not quoted
E on the stock exchange, or are in a private limited company the
proper method of valuation to be adopted would be the profit earning
mrthod. [3-'6B-C]

Commissioner of Gift-Tax. Bombay v. Smt. Kusumben D. Maha-
devia, 122 ITR 38, relied upon.
F
Commissioner of Wealth Tax, Assam v. Mahadeo Jalan & Ors.,
86 ITR 62 i and Williams Jin Mc. Cathie v. Federal Commissioner of
Taxation, 69 C. L.R. I, referred to.

In the instant case, the view of the High Court as to the principle
G of valuation in determining the value of the kinds of shares concerned
cannot be held to be correct. As a logical consequence, the Tribunal ~
would have to go through, over again, the exercise of determination of
the value of the shares adopting the correct principle. But, having
regard to the fact that the matter is already two and a half decades old,
and that the magnitude of the mechanism for the re-fixation of the value
H of the gifts by adopting the somewhat intricate process inherent in the
COMMR. OFG!Ff TAX v. I.ATE SH AMBALAL [VENKATACHALIAll . .1 I .111

"profit method" of valuation, and the difference in the quantum of ta.,
1\
that might result in, do not bear a reasonable or sensible proportion.
the valuation is left undisturbed. [347 A-D l

CIVIL APPELLATE JURISDICTION: Civil Appeal No. 9X:'
(NT) of 1975.
B
From the Judgment and Order dated 10. 10. 1974 of the Gujarat
High Court in Gift Tax Reference No. I of 1973.

Dr. V. Gauri Shanker, K.C. Dua, C.V. Subha Rao and Miss A.
Subhashini for the Appellant.

T.A. Ramachandran, Sonet P. Mehta, D.N. Misra and Ms.
c
Sunita Narhari for the Respondent.

The Judgment of the Court was delivered by

VENKATACHALIAH, J. This appeal, by certificate, by the D
Commissioner of Income-Tax, Gujarat, directed against the order
dated, 10. 10. 1974 of the Gujarat High Court in Gift Tax Ref. No. I of
1973 raises a question touching the correct principles of valuation of
certain shares constituting the subject-matter of a gift, held in a com-
pany incorporated in the United Kingdom analogous to a private
limited company in India. E
2. Shri Ambalal Sarabhai, since deceased, held 480 shares in an
English Company M/s. Bakubhai & Ambalal Ltd., London, the share-
capital of which consisted of 2000 shares of£ JO each. On 17. 10. 1964,
under eight deeds of gift, the said Ambafal Sarabhai made gifts of the
said 480 ~hares to certain members of his family. In the proceedings of
F
the assessment to gift-tax respecting said gifts the question of the
proper basis for.determination of the value of the gifts having arisen,
the assessee contended that, as the shares were not quoted in the
stock-exchange, their value be determined on the average of break-up
value indicated by the balance-sheets of the Company as on 31.3. 1964
and 31.3.1965. The former figure was Rs.507 and the latter Rs.333 per G
share; the average of the two being Rs.420 per share.
~ The assessee also contended that in view of the decision of the
General Body of the company, dated, 4. 10.1961 to increase its share-
capital by issue of additional 2000 shares at£ 10 each, the value of the
shares constituting the subject-matter of the gifts which were transfer-
red "ex-right" would stand depreciated. H
344 SUPREME COURT REPORTS (1988) 2 S.C.R.

A The Gift Tax Officer did not accept the contentions of the asses-
see. He proceeded to value the shares at Rs.507 per share on the basis
of the break-up value yielded by and deducible from the balance-sheet
as on 31.3.1964. The Appellate Assistant Commissioner dismissed the
assessee's apperrl. In the further appeal before the Income Tax Appel-
late Tribunal, the Tribunal, placing reliance on what it considered to
B be the principles of valuation appropriate to such cases said to be
contained in Lynall & Anr. v. I.R.C. (H.L.), (83 ITR 563), valued the
shares at Rs.450 each said to represent the break-up value on the basis
of the balance-sheet of 31.3.1963. The Tribunal held that it could not
take into consideration any other document except the published inc
formation which, in this case, was the balance-sheet as on 31.3. 1963.
c 3. The Tribunal, at the instance of both the revenue and the
assessee stated a case and referred three questions of law for the ..iI
opinion of the High Court-the first two at the instance of the revenue
and the third at the instance of the assessee. The assessee, it must be
observed did not press the question referred at his instance and the
D High Court, accordingly, did not express any opinion on it. The two
questions referred for the opinion of the High Court at the instance of
the Revenue were:

"(I) Whether on the facts and in circumstances of the case.
the finding of the Tribunal based on the ratio of the
E case decided by the House of Lords in Lynall and
Another v. Inland Revenue Commissioner, (83 I.T.R.
563) and basing the valuation of the shares of
Bakubhai and Ambalal Ltd., London, on its balance
sheet as atJl.3.63 instead of 31.3.64 is bad in law?

F (2) Whether on the facts and in the circumstances of the
case, the Tribunal was right in law in accepting the
valuation of the shares as returned by the assessee and
deleting Rs.27,360 added by the Gift-Tax Officer
under Section 15(3) of the Act?"

G The High Court by its order, now under appeal, answered the J. •
questions against the revenue. It held:

"The only information which was available as on October,
17, 1964 was in the form of the balance-sheet as of March
31, 1963 and hence the Tribunal was right when it took into
H consideration for the purpose of arriving at the value of the
COMMR. OFGIFfTAX v. LATESH. AMBALAL (VENKATACHALIAH,l.I 345

,shares by. the break-up method, the balance sheet as of A
March 31, 1963 and not as the revenue was contending for · ·
the balance sheet as of March 31, 1964." · ·. '

4. Dr. Gauri Shanker, Learned Senior Counsel urged in support
of the appeal, that the entire exercise of valuation before the High
Court rested on a case which had no application to the matter; that the B
case was governed squarely by the pronouncements of this Court in
Commissioner of Wealth Tax, Assam v. Mahadeo Jalan & Ors., (86
ITR 621) and, more particularly, in Commissioner of Gift-Tax,
Bombay v. smt. Kusumben D. Mahadevia, (122 ITR 38) and that the
erroneous view of the High Court as to the principles of valuation
should, therefore, not remain uncorrected. c
5. Shri Ramchandran, learned senior counsel for the assessee, in

.. the· light of the aforesaid pronouncements to this court, found it
difficult to support the principles on which the determination of the
value of the shares proceeded before the authorities as well as before
the Tribunal and the High Court. He, however, invited our attention D
to the following observations of the High Court:

" ..... As a matter of fact it may be pointed out that before
the Tribunal it was common ground that the value of the
shares should be ascertained by following the break-up
value method and the only difference was as to with refer- E
ence to balance sheet of what date the total value of the
assets has to be ascertained ...... "

and urged that in view of the consensus between the parties as to the
basis of valuation it was not now open to the Revenue to turn around
and urge the application of an altogether different principle. F

6. We are afraid, the basis adopted by the High Court is clearly
unsustainable in the light of the pronouncements of this court referred
to earlier. The reference to and reliance upon the Lynall principle was
somewhat in-apposite and misplaced. That case principally dealt with
the impermissibility of reliance on classified information considered G
confidential. and privileged from disclosure. Pointing out the inadequ-
acy of the ''break-up-value" method this court in Mahadeo Jalan's c_ase
referred with approval to the following observations of Williams J in
Mc. Cathie v. Federal Commissioner's of Taxation (69 C.L.R. \):

" .... the real value of the shares ........... will depend H
346 SUPREME COURT REPORTS [!988] 2 S.C.R.

more on the profits which the company has been making
A
and should be capable of making, having regard to the
nature of its business than upon the amounts which the
shares would be likely to realise upon liquidation ...... "

In Kusumben's case referring to the principles of valuation relevant to
B the matter, this court said:

" ..... But where the shares in a public limited company
are not quoted on the stock exchange or the shares are in a
private-limited company the proper method of valuation to
be adopted would be the profit earning method. This
method may be applied by taking the dividends as reflect-
c ing the profit earning capacity of the company on a reason-
able commercial basis but if it is found that the dividends
do not correctly reflect the profit earning capacity because
only a small proportion of the profits is distributed by way
of dividends and a large amount of profits is systematically
.,
D accumulated in the form of reserves, the dividend method
of valuation may be rejected and the valuation may be
made by reference to the profits. The profit-earning
method takes into account the profits which the company
has been making and should be capable of making and the
valuation, according to this method is based on the average
E maintainable profits. Of course, for the purpose of such
valuation, the taxing authority is not bound by the figure of
1
profits shown in the profit and loss account because it is
possible that the amount of profits may have suffered di-
minution on account of unreasonable expenditure or the
directors having chosen to take away a part of the profits in
F the form of remuneration rather than dividends. The figure
of profits in such a case would have to be adjusted in order
to arrive at the real profit earning capacity of the company
,,

The view of the High Court cannot. therefore, be said to reflect
G the position in law correctly. ., .
7. The correct principle of valuation applicable to a given case is
a question of law. The parties can agree upon a principle permissible
under and recognised by law. If two or more alternative principles are
equally valid and available, it might be permissible for the parties to
H agree upon one of the alternative modes of valuation in preference to
COMMR. OFG!FfTAXv. LATESH. AMBALAL [VENKATACHALJAH,J.I 347

another. In this case, the revenue cannot be said to be precluded from A
urging the correct legal position. In the ultimate analysis. it requires to
be held that the view of the High Court as to the principle of valuation
in determining the value of the kind of shares concerned in this case
cannot be held to be correct. The first question of law referred for its
opinion would otherwise. require to be answered in the affirmative
and the second in the negative; both against the assessee. As a logical B
consequence, the Tribunal would have to go through. over again. the
exercise of determination of the value of the shares adopting the cor-
rect principle.

8. But the matter is already two and a half decades old. The gift
was in the year 1964. The total Gift-Tax as now assessed is Rs.5661. C
Upon a fresh determination o{ the value of the shares adopting the
somewhat intricate processes inherent in the 'profit-method' of valua-
tion the difference in the quantum of the tax might, perhaps. not be
substantial. The magnitude of the mechanism for refixation of the
value of the gifts and the difference in the quantum of the tax it might
result-in, do not bear a reasonable or sensible proportion. Having D
regard to the pecuniary involvement in the case which is obviously
small we think we should not expose the parties to a fresh round of
litigation.

In this view of the matter, we think appellant should be content
with the declaration of the law on the matter, without disturbing the E
valuation made by the Tribunal and approved by the High Court,
though the principle adopted is not supportable in law. We therefore
decline to interfere in the matter. The valuation is therefore left
undisturbed.

9. The appeal is disposed of accordingly. In the circumstances of F
the case, there will be no order as to costs.

N.P.V. Appeal disposed of.