‘Deposits’ are not ‘loans and advances’

A number of corporates have fraudulently raised money in the guise of 'deposits' thereby avoiding the taxation applicability. To curb such a practice, a retrospective amendment to Section 2 (22) (e) to the Income Tax Act can be expected to include 'deposits' within the purview of 'loans and advances'

One of the most frequently asked question in terms of corporate funding is whether‘deposits’ are synonymous to ‘loans and advances’ and can the same be used interchangeably? This debate intensified when reference were made to Sections 295 and 370 under the Companies Act, 1956 (Act, 1956) and Section 2 (22) (e) under the Income Tax Act, 1961 (IT Act).

The controversy surrounding Section 370 under the Act, 1956 was put to rest when theCompanies (Amendment) Act, 1988, amended the section to include ‘deposits’ within its ambit; however the definition under Section 295 (pertaining to ‘loans’ to directors) continued to be neglected. This Section has now been replaced by Section 185 of the Companies Act, 2013 which failed to learn a lesson from the Act, 1956 and continues to carry forward the faulty trend.

With regard to Section 2 (22) (e) of the IT Act, a recent judgment was passed by the Income Tax Appellate Tribunal, Kolkata, in the matter of IFB Agro Industries Ltd Vs. Joint Commissioner of Income-tax which deals with this very pertinent question.
 

Facts of the case

In the present case, IFB Agro Industries (Appellant) received inter-corporate deposit (ICD) to the tune Rs11.20 crore from IFB Automotive Pvt Ltd (IFB), which was treated as deemed dividend u/s 2 (22) (e) of the IT Act by the Revenue. The Appellant contended that since Section 2 (22) (e) of the IT Act applies to only ‘loans and advances’, the ICD, not being in the nature of loan, will not come within its purview.

The Income Tax Appellate Tribunal, taking into view the explanation of ‘deposit’ contained u/s 269T and 269SS of the IT Act, held that ‘deposit’ and ‘loans’ were indeed two different and distinct terms and that if a section recognises only the term ‘loan’ then a deposit received by an assessee cannot be treated as a 'loan' for that section. Relevant extract of the said Order is reproduced below:

“Admittedly, the provisions of section 2(22)(e) of the Act refers to only ‘loans’ and ‘advances’ it does not talk of a ‘deposit’. The fact that the term ‘deposit’ cannot mean a ‘loan’ and that the two terms ‘loan’ and the term ‘deposit’ are two different distinct terms is evident from the explanation to section 269T as also section 269SS of the Act where both the terms are used. Further, the second proviso to section 269SS of the Act recognises the term ‘loan’ taken or ‘deposit’ accepted. Once it is an accepted fact that the terms ‘loan’ and ‘deposit’ are two distinct terms which has distinct meaning then if only the term ‘loan’ is used in a particular section the deposit received by an assessee cannot be treated as a ‘loan’ for that section. Here, we may also mention that in section 269T of the Act, the term ‘deposit’ has been explained vide various circular issued by CBDT. Thus, the view taken by the Ld. CIT(A) that the Intercorporate deposit is similar to the loan would no longer have legs to stand.”

Reference to other judgments

5. In reaching to the aforementioned judgment, reliance was placed on a number of other case laws which proves to one’s satisfaction that the two terms are distinguishable. Reference was made to the landmark judgment in the Durga Prasad Mandelia and Others vs. Registrar of Companies, Maharashtra which settled all controversies by pointing out the distinction between ‘deposits’ and ‘loans’ in the context of Section 370 of the Act, 1956. It contended that though the two terms ‘deposit’ and ‘loans’ may not be mutually exclusive, the intensions and circumstances of both the parties must be considered in each case to come to a conclusion. It also stated that:

“In other words, the word "loan" in section 370 must now be construed as dealing with loans not amounting to deposit, because, otherwise, if deposit of moneys with corporate bodies were to be treated as loans, then deposits within scheduled banks would also fall within the ambit of section 370 of the Companies Act.”

It is post this judgment in the Durga Prasad Mandelia case, that Section 370 of the Act, 1956 was amended by the Companies (Amendment) Act, 1988, to include ‘deposits’ into its ambit, thereby, clearly indication the distinction between ‘deposits’ and ‘loans and advances’.

5. Another judgment referred to was in the case of Housing & Urban Development Corporation Limited vs Jt. CIT (2006), in which a similar view was held. Here, the Special Bench contended that:

“The two expressions loans and deposits are to be taken different and the distinction can be summed up by stating that in the case of loan, the needy person approaches the lender for obtaining the loan therefrom. The loan is clearly lent at the terms stated by the lender. In the case of deposit, however, the depositor goes to the depositee for investing his money primarily with the intention of earning interest.”

5. In the case of Bombay Oil Industries Ltd reported in (2009) 28 SOT 383 (Bom), it was held that inter-corporate deposits were different from loans and advances and the same would not come within the purview of deemed dividend. A similar view was held in the case of Bombay Steam Navigation Company (1953)(P) Limited vs. CIT, wherein it was held that though a loan of money results in a debt but every debt does not involve a loan.

From the above judgments it becomes clear that it is the intension between the parties which demarcates the difference between ‘deposits’ and ‘loans and advances’. Under ‘loans and advances’ it is the borrower who approaches the lender for borrowing money, however, to be termed as ‘deposit’ it is the person advancing the money, who approaches the borrower.
 

What is the entire controversy surrounding Section 2 (22) (e) of the Income Tax Act, 1961?

To analyze the outcome of above case law of IFB Agro Industries Ltd, it is pertinent to first understand the applicability of Section 2 (22) (e) of the IT Act in context of our discussion above.

Section 2 (22) (e) of the IT Act defines the term ‘dividend’ to include within its ambit, the amounts paid by private limited companies, by way of loans and advances, to its shareholders holding 10% or more of the voting power or to a concern in which such a shareholder is a member or partner and has substantial interest.

Thus in essence, any ‘advance or loan’ made by a private company –

1. to a shareholder holding 10% or more of the equity capital of the company; or

2. to any ‘concern’ in which a shareholder holding 10% of the equity capital of the company, is a member or partner and holds ‘substantial interest’,

shall be ‘deemed dividend’ for the purpose of the IT Act.

After having discussed what the section tells us, the one thing that comes to mind is why this section is so disputed?

The reason is the consequence of falling within the purview of this section. If an amount given to the aforementioned persons is treated as ‘loans’ for the purposes of this section, such amounts, being ‘deemed dividend’, will attract income tax liability under the head ‘Income from other sources’ as per Section 56 of the IT Act and accordingly will be taxed @30%.

It is for this very reason that companies avoided coming within the purview of this section, and accordingly, the dispute that arose here was whether amounts extended, as above, would tantamount to ‘loans and advances’ or shall be treated as ‘deposits’ and accordingly would fall outside the purview of this Section.

In the shade various judicial pronouncements in this regard, a number of corporates have fraudulently raised money in the guise of ‘deposits’ thereby avoiding the taxation applicability of this Section. To curb such a practice, a retrospective amendment to Section 2 (22) (e) to the IT Act can be expected to include ‘deposits’ within the purview of ‘loans and advances’, in line with the amendment made to Section 370 of the Companies Act, 1956.
 

Relevance under Section 185 of the Companies Act, 2013

Section 185 of the Companies Act, 2013 (‘Act, 2013’), now enforced, corresponds to Section 295 of the Act, 1956 (which now stands inoperative). Section 185 of the Act, 2013 repeats the same flaw of Section 295 of the Act, 1956, by giving no reference to the effect that loans include deposits, thereby continuing the confusion between the two.

Section 185 provides the following provision relating to ‘Loans to Directors’:

“Save as otherwise provided in this Act, no company shall, directly or indirectly, advance any loan, including any loan represented by a book debt, to any of its directors or to any other person in whom the director is interested or give any guarantee or provide any security in connection with any loan taken by him or such other person”

The Section lays down that no loans can be advanced by a company to any of its directors as also to any person in whom the director is interested. The term ‘any person in whom the director is interested’ has been defined in the Section to mean,inter alia, a company in which a director is a director/ holds 25% voting rights/ where the Board is accustomed to act in accordance with the directions or instructions of the director.

A lot of apprehension is being expressed in connection to this Section. The questions being raised includes whether ‘inter-corporate deposits’ given to companies in which such directors are interested would also come within the purview of this Section and accordingly not permitted?

As per this Section, granting of loans to ‘anybody corporate whose Board of Directors is accustomed to act in accordance with the directions or instructions of the Board, or of any director or directors, of the lending company’, is prohibited. Given the above, this becomes a very potent question considering that it is a very common practice to advance money to companies within the same group, being holding/ subsidiary/ associate companies.

In light of the analysis in the above sections, and the various case laws to support the view, ‘loans’ cannot mean to include ‘deposit’. In the absence of any clarification from the Ministry, ‘inter-corporate deposits’ to holding / subsidiary / associate companies will not attract the provisions of this Section and therefore will continue to hold good.

The discussions above proves, time and again, that ‘deposits’ are not ’loans and advances’ and the provisions governing ‘loans and advances’ only cannot said to apply to ‘deposits’ as well. This fact has been well settled in law.

Once the Act, 2013 is fully enforced, the governing sections for deposits would be Sections 73 – 76 and the Rules made thereunder. However, as in Companies (Acceptance of Deposit) Rules, 1975, the draft Companies (Acceptance of Deposit) Rules, 2013 provides that amounts received by a company from any other company do not fall within the meaning of ‘deposit’. Accordingly, the provisions pertaining to inter-corporate deposits will not apply to such amounts given.

Section 372A of the Act, 1956 and the corresponding Section 186 of the Act, 2013 also provides for only inter-corporate loans. Therefore, in the absence of any other applicable provisions, such inter-corporate deposits remain un-governed.

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