Telangana High Court Sets Aside GAAR Order Against EKGE Retail, Allows ₹49.32 Cr. Capital Loss Set-Off

The Telangana High Court on 13 October set aside the Income Tax Department's directions invoking the General Anti-Avoidance Rule (GAAR) against EKGE Retail LLP, allowing it to set off a short-term capital loss of Rs. 49.32 crore against long-term capital gains from a business sale.

A Division Bench comprising Acting Chief Justice P. Sam Koshy and Justice Narsing Rao Nandikonda allowed EKGE Retail's writ petition challenging the GAAR directions dated 23 February 2022. It held:

“...the Revenue has failed to establish the existence of an 'arrangement' within the meaning of Section 102(1) of the Act, has failed to establish that the main purpose of the petitioner's transactions was the obtaining of a tax benefit within the meaning of Section 96(1) of the Act, and has failed to bring the case within either clause (b) or clause (d) thereof...”

The case arose from the sale of the business operated under the “Mebaz” brand to Vedant Fashions Pvt. Ltd. in June 2017 for approximately Rs. 210.46 crore. After meeting its liabilities, the business had a substantial surplus available for investment.

EKGE Retail's predecessor invested part of the surplus in shares of listed companies, including shares purchased before bonus issues and sold after the bonus shares were allotted. These transactions resulted in a short-term capital loss of Rs. 49.32 crore, which the company sought to set off against long-term capital gains of approximately Rs. 175.91 crore arising from the business sale.

The Income Tax Department alleged that the share transactions had been structured to generate a short-term capital loss and reduce the tax payable on the long-term capital gains. In February 2022, the GAAR approving panel classified the transactions as an impermissible avoidance arrangement under the Income Tax Act.

The Court observed that the shares had been purchased and sold through recognised stock exchanges at prevailing market prices in transparent, arm's-length transactions. Since the prices depended on market movements and the company could not identify its counterparties, the resulting gains or losses could not have been predetermined.

It held that the Revenue had to establish that obtaining a tax benefit was the main purpose of the arrangement and that at least one of the additional statutory conditions for invoking GAAR was satisfied. The mere availability of a tax benefit did not establish that the transactions were primarily intended to avoid tax.

Further, the Bench noted that the company continued to hold listed shares worth approximately Rs. 49.07 crore after investing the surplus from the business sale. This was inconsistent with the allegation that its sole objective was to manufacture a capital loss. It also observed that a search conducted at the company's premises in November 2018 had yielded no incriminating material.

Relying on Section 70(2) of the Income Tax Act, the judges held that a short-term capital loss could be set off against short-term or long-term capital gains arising in the same year. The Revenue had failed to establish that the company had misused the provision or satisfied the statutory conditions for invoking GAAR.

Accordingly, the High Court set aside the GAAR directions and allowed the Rs. 49.32 crore loss to be set off against the long-term capital gains.

EKGE Retail LLP- Senior Counsel Lakshmikumaran Sridharan

Income Tax Department- Senior Standing Counsel B. Sapna Reddy