In the present age of globalization, it is often seen that HUF as an entity is required to promote a company for the purpose of its own business or other activities. The question which arises is whether a HUF can become a shareholder in a company or whether it can become subscriber to the Memorandum of Association of a company for the purpose of promoting a company.
In this regard, it may be noted that Section 12 of the Companies Act,1956 dealing with the Modes of forming incorporated company reads as follows:
Section 12. Mode of forming incorporated company.-
(1) Any seven or more persons, or where the company to be formed will be a private company, any two or more persons, associated for any lawful purpose may, by subscribing their names to a memorandum of association and otherwise complying with the requirements of this Act in respect of registration, form an incorporated company, with or without limited liability.
Thus, it is important to refer to the meaning of the word person. Though the income-tax Act, 1961 defines the word Person in Section 2(31) of the Act which is as follows:
‘Person’ includes –
- an individual,
- a Hindu undivided family,
- a company,
- a firm,
- an association of persons or a body of individuals, whether incorporated or not,
- a local authority, and
- every artificial juridical person, not falling within any of the preceding sub-clauses;
However, unfortunately, the Companies Act, 1956 is silent on the matter. We may therefore have to refer to the definition as given in the General Clauses Act, 1897.
Section 3(42) of the General Clauses Act, 1897 defines the word person as follows:-
(42) “person” shall include any company or association or body of individuals, whether incorporated or not:
The definition as given above is an inclusive definition and not an exclusive definition and therefore it follows that the word person is of wide import.
Though Companies Act, 1956 doesn’t directly refer to the HUF becoming shareholder or promoting a company, however Section 11 of the Companies Act, 1956 dealing with the Prohibition of Association and partnership exceeding certain number unless it is registered as a company refers to HUF in a negative way. Section 11(3) of the Companies Act, 1956. is as follows :
Section 11. Prohibition of Associations and Partnerships Exceeding certain number :-
No company, association or partnership consisting of more than ten persons shall be formed for the purpose of carrying on the business of banking, unless it is registered as a company under this Acts or is formed in pursuance of some other Indian law.
No company, association or partnership consisting of more than twenty persons shall be formed for the purpose of carrying on any other business that has fof its object the acquisition of gain by the company, association or partnership, or by the individual members thereof, unless it is registered as a. company under this Act, or is formed in pursuance of some otherIndian law.
This section shall not apply to a joint family as such carrying on a business; and where a business is carried on by two or more joint families, in computing the number of persons for the purposes of sub-sections (1) and (2), minor members of such families shall be excluded.
Every member of a company, association or partnership carrying on business in contravention of this section shall be personally liable for all liabilities incurred in such business.
Every person who is a member of a company, association or partnership formed in contravention of this section shall be punishable with fine which may extend to one thousand rupees.
Moreover, Section 430 of the Companies Act,1956 dealing with contributories in case of death of a member is as follows:
Section- 430 : Contributories in case of Death of Member.-
If a contributory dies either before or after he has been placed on the list of contributories, his legal representatives shall be liable in a due course of administration, to contribute to the assets of the company in discharge of his liability, and shall be contributoriesaccordingly.
If the legal representatives make default in paying any money ordered -to be paid by them, proceedings may be taken for administering the estate of the deceased contributory and compelling payment there out of the money due.
For the purposes of this section, where the deceased contributory was a member of a Hindu joint family governed by the Mitakashra School of Hindu Law, his legal representatives shall be deemed to include the surviving coparceners.
On a combined reading of Section 11, 12 and 430 of the Companies Act,1956, it follows that HUf can very well become a shareholder as well as a subscriber to a Memorandum of Association. In such cases, it is generally the Karta who is registered as a Member and the beneficial ownership lies with the HUF. Moreover, We have seen in earlier Chapter that a HUF can open Demat account and this itself is a corroboration of the fact that HUF can hold shares in its name. However, in all these cases the registered shareholder remains the Karta of the HUF and HUF as such cannot become registered shareholder. This is in view of the decision of the Apex Court in the case of CIT vs C.P. Sarathy Mudaliar, (1972) 4 SCC 531, at page 535 [=(1972) 83 ITR 170] wherein it was held that it is well-, settled that an HUF cannot be a shareholder of a company. The shareholder of a company is the individual who is registered as the shareholder in the books of the company.
However it may be noted that even inspite of the fact that the Karta is the jerson whose name is entered in the register of members as a shareholder, but the beneficial ownership in such case lies with the HUF and thus the dividend income if any even though received by Karta in his individual name is to be treated as income belonging to the HUF. See Constitution bench judgement in the case of Kishanchand Lunidasing Bajaj vs Commissioner of Income-tax (1966) 60 ITR 500.
In case a company is being promoted by a HUF, it is better to file Form No I as specified in Section 187-C of the Companies Act, 1956 with the
Registrar of Companies to establish that the HUF is the beneficial owner. The said form has to be filed within 30 days from the date on which a
person becomes a beneficial owner.
HUF-concept of Deemed Dividend
Another Concept which is related to the shareholding of, HUF is the concept of the deemed dividend as per the provisions of Section 2(22) of the Income-tax Act, 1961. We have seen that it is the karta who is the registered owner of the shares which beneficially may belong to the family. In such a case a question arises whether deemed dividend income can be assessed in the hands of HUF in respect of loan given by a Company to the Karta who is the registered shareholder.
Similarly in the above case, if the loan is advanced to the HUF when the shares are registered in the name of Karta but the beneficial ownership lies with the family, the concept of deemed dividend in the hands of HUF will come into play. See the decision of Apex Court in the case of CIT vs Rameshwarlal Sanwarmal (1971) 82 ITR 628(SC). However, an opposite view was taken in the case of CIT vs C.P.Sarathy Mudaliar (1972) 83 1TR 170(SC) where the Apex Court held that it is well settled that a HUF cannot he a shareholder of a Company. The shareholder of the Company is the individual who is registered as a shareholder in the books of the Company. The HUF cannot be registered as a shareholder in the books of the Company. It further went to hold that the provisions of Section 2(6A) (e) of the 1922 Act gives an artificial definition of dividend and the same must receive a strict construction and in the light of said reasoning, it was held that loan given to HUF even where the beneficial ownership. of shares lies with it and the shares are registered in the name of Karta cannot be assessed as Deemed dividend in the hands of HUF. The said divergence or anomaly in the decisions when pointed out before the Apex Court in the case of Rameshwarlal Sanwarmal vs CIT(1980) 122 ITR 1 (SC), the Apex Court held that there was no conflict between the decision of 82 ITR 628(SC) and 83 ITR 170(SC) referred to hereinabove. This was in view of the fact that the Court had not been called upon to decide the question whether on a proper construction of Section 2(6A) (e) of 1922 Act, a loan advanced to the beneficial owner of shares would be liable to be included as Deemed dividend or not. Finally in 122 ITR it was held that the loan to HUF in such cases was not liable to be included as deemed dividend in the hands of HUF.
On the basis of above reasoning, it is thus clear that even though the Karta may not be the beneficial owner of the shares, but in view of his being registered owner of shares, any loan given by the Company to the Karta would be liable to be treated as Deemed dividend in the hands of Karta provided other conditions as specified in the Section 2(22) (e) are met.