The ITAT Ahmedabad has reaffirmed that the classification of income from share transactions as capital gains or business income hinges on the assessee’s intention, accounting treatment, and factual conduct - not on the source of funds or transaction volume. This ruling provides critical clarity for investors and taxpayers engaged in equity markets.
Background & Facts
The Dispute
The dispute centers on whether short-term and long-term capital gains arising from the sale of listed equity shares by an individual assessee should be taxed as business income or as capital gains. The Assessing Officer recharacterized gains of over Rs. 13.10 crores as business income, primarily on the ground that the assessee had utilized unsecured loans to purchase shares, which were repaid upon sale. The assessee contended that the shares were held as long-term investments, not as stock-in-trade.
Key Facts
The assessee is an individual engaged in the business of manufacturing corrugated boxes and trading in cloth through proprietary concerns: Dolphin Packaging and Dolphin Associates.
For A.Y. 2017-18, the assessee declared total income of Rs. 8,62,20,910/-, comprising Short Term Capital Gain (STCG) of Rs. 8,51,46,889/- and Long Term Capital Gain (LTCG) of Rs. 4,58,83,452/- from sale of listed equity shares.
The shares were held in a demat account and all transactions were delivery-based.
The investments were largely concentrated in a single scrip, Kushal Ltd., with no diversification or frequent trading.
The assessee had an opening capital balance of Rs. 1.39 crores and used business surplus and own funds for investments.
Some funds were borrowed, but these loans were repaid from sale proceeds and were not recurring or structured as trading finance.
The shares were consistently reflected as "investments" in audited financial statements and balance sheets.
No allegation was made by the Assessing Officer that the transactions were bogus, sham, or involved penny stocks.
The LTCG arose from shares held for more than 12 months.
Procedural History
20.12.2019: Assessment completed under section 143(3) by the Assessing Officer, treating STCG and LTCG as business income.
09.12.2019: Show cause notice issued proposing recharacterization of capital gains as business income.
13.12.2019: Assessee filed reply with demat statements, contract notes, bank statements, and financials.
21.08.2025: Ld. Commissioner of Income Tax (Appeals) deleted the addition of Rs. 13,10,30,341/-, holding that gains were correctly classified as capital gains.
25.03.2026: Hearing before ITAT Ahmedabad.
23.04.2026: ITAT pronounced order dismissing the Revenue’s appeal.
Relief Sought
The Revenue sought to restore the Assessing Officer’s order and reclassify the entire gain of Rs. 13,10,30,341/- as business income. The assessee sought confirmation of the CIT(A)’s order and protection of his right to claim exemption under section 10(38) for LTCG.
The Legal Issue
The central question was whether the character of income from share transactions can be changed from capital gains to business income solely on the basis of use of borrowed funds, or whether intention, holding period, accounting treatment, and transaction pattern must be the decisive factors.
Arguments Presented
For the Appellant (Revenue)
The Revenue contended that the assessee’s use of unsecured loans to purchase shares, followed by repayment from sale proceeds, indicated a systematic, profit-oriented activity akin to trading. It argued that the volume of transactions, concentration in a single scrip, and timing of purchases and sales suggested a trading intent. It relied on the principle that where funds are borrowed for speculative purposes and repaid from proceeds, the activity must be treated as business. It further argued that the CIT(A) erred in relying on CBDT Circular No. 6/2016 to protect LTCG, as the circular was not binding on the Assessing Officer.
For the Respondent (Assessee)
The assessee argued that the shares were consistently treated as investments in audited financial statements, held in demat form on delivery basis, and were not part of any organized trading setup. He cited jurisdictional High Court decisions in CIT vs. Bhanuprasad D. Trivedi (HUF), CIT vs. Gopal Purohit, and CIT vs. Rewashanker A. Kothari, which hold that borrowed funds alone cannot convert investment into trading. He emphasized that CBDT Circular No. 6/2016, para 3(b), mandates that where listed shares are held for over 12 months and treated as investments, the Assessing Officer cannot dispute the classification as capital gains. He further submitted that the Assessing Officer failed to conduct any objective analysis of intention, frequency, or holding period.
The Court's Analysis
The ITAT undertook a detailed review of the factual matrix and legal precedents. It noted that the genuineness of the transactions was not in dispute, and no allegation of sham or bogus deals was made by the Assessing Officer. The Tribunal emphasized that the Assessing Officer’s reliance on the use of borrowed funds was legally unsustainable.
"The mere utilization of borrowed funds, in absence of other indicators of business activity, does not alter the character of investment transactions."
The ITAT affirmed the CIT(A)’s application of the judicially settled tests for distinguishing investment from trading: (i) intention at the time of acquisition, (ii) holding period, (iii) frequency and volume of transactions, (iv) accounting treatment, and (v) existence of infrastructure for trading. The Tribunal found that all these factors favored the assessee.
It specifically highlighted that the shares were held for over 12 months in the case of LTCG, and were consistently reflected as investments in the books. This triggered the mandatory obligation under para 3(b) of CBDT Circular No. 6/2016, which states that where listed shares are held for more than 12 months and treated as investments, the Assessing Officer shall not dispute the characterization as capital gains.
The ITAT further observed that the Assessing Officer had not produced any evidence of repetitive trading, speculative activity, or organizational setup for share dealing. In contrast, the CIT(A) had meticulously analyzed each factor and recorded findings supported by documentary evidence. The Tribunal held that the Revenue had failed to controvert these findings.
It relied on the Gujarat High Court’s decision in CIT vs. Bhanuprasad D. Trivedi (HUF) and the Bombay High Court’s in CIT vs. Gopal Purohit, both of which hold that intention and accounting treatment are paramount. The ITAT concluded that the CIT(A)’s order was well-reasoned, legally sound, and factually grounded.
The Verdict
The Revenue’s appeal was dismissed. The ITAT upheld the order of the CIT(A) dated 21.08.2025, confirming that the STCG of Rs. 8,51,46,889/- and LTCG of Rs. 4,58,83,452/-, aggregating to Rs. 13,10,30,341/-, are correctly assessable as capital gains and not as business income. The exemption under section 10(38) for LTCG was affirmed. No costs were awarded.
What This Means For Similar Cases
Intention Trumps Funding Source
Practitioners must now argue that the source of funds - whether own capital or borrowed - is irrelevant unless accompanied by evidence of trading intent.
Taxpayers holding shares for over 12 months and reflecting them as investments in books are protected under CBDT Circular No. 6/2016.
Assessing Officers cannot rely on speculative presumptions; they must conduct a factual analysis of all five judicial tests.
Accounting Treatment Is Conclusive
Consistent classification of shares as "investments" in audited financial statements is a decisive factor.
Demat account statements and delivery-based transactions strengthen the investment claim.
Absence of trading infrastructure, such as dedicated terminals, research teams, or frequent turnover, supports the investment characterization.
CBDT Circular Is Binding
Para 3(b) of CBDT Circular No. 6/2016 is mandatory and binding on Assessing Officers.
Where LTCG arises from shares held over 12 months and treated as investments, reclassification as business income is legally impermissible.
Any attempt to override the circular without proving sham or fraudulent transactions will be set aside by appellate forums.
