AMITY UNIVERSITY

Masters of Finance and Control Prof. Santosh Kumari

[CORPORATE TAX PLANNING]

Corporate tax planning module seeks to enabling the students to make use of legitimate tax shelters, deductions, exceptions, rebates and allowances; with the ultimate aim of minimizing the corporate tax liability.

PREFACE

This Corporate tax planning module seeks to enabling the students to make use of legitimate tax shelters, deductions, exceptions, rebates and allowances; with the ultimate aim of minimizing the corporate tax liability. To give an overview of wealth tax provisions pertaining to companies (from a users perspective).To create an awareness of VAT and how the scheme is going to have an impact on the existing sales tax system

The book is designed for use in graduate & post graduate courses for self study for students and for the faculty as well. An attempt has been made to relate theory to practice to make it understandable easily for students.

Each chapter is having various illustrations relating to each topic covered and followed by numerous questions and multiple choice questions also, which are designed to reinforce concepts & procedure presented in the body of chapter.

I wish to express my sincere thanks to many of the authors who have received due acknowledgements, without whom, this module would not have been completed.

I have taken every possible effort to remove the errors either of principle or of printing. Even then, if the reader comes across any error, he/she is requested to point out the same to me.

I hope that many students will find this module interesting & helpful. Further suggestion for the improvement of the module is solicited.

Santosh Kumari

CORPORATE TAX PLANNING

Course Objective:

At the end of this course, the students should be able to demonstrate an understanding of the tax provisions enabling them to make use of legitimate tax shelters, deductions, exceptions, rebates and allowances; with the ultimate aim of minimizing the corporate tax liability.
To give an overview of wealth tax provisions pertaining to companies (from a users perspective). To create an awareness of VAT and how the scheme is going to have an impact on the existing sales tax system

Course Contents: Module I: Basic Concepts Introduction to Income Tax Act, 1961, Residential Status, Exempted Incomes of Companies. An overview of various provisions of Business & profession & Capital gains applicable to companies
Module II: Assessment of Companies

Computation of taxable income, MAT , Set off & carry forward of losses in companies, Deductions from Gross total income applicable to companies, Tax planning with reference to new projects/expansions/rehabilitation plans including mergers, amalgamation or de-mergers of companies, Concept of avoidance of double taxation.

Module III: Wealth Tax

An overview of wealth tax provisions to the extent applicable to companies

Module IV: Indirect Taxation An overview of Sales Tax, (VAT) Text & References:

Text: Corporate Tax Planning & Business Tax Procedure,Dr. Vinod K. Singhania & Monica Singhania, Taxmman Publication, New Delhi. Direct taxes law & practices, Singhania V.K. & Singhania Kapil, Taxmann Publication, New Delhi.
References:

Corporate Tax Planning, Lakhotia, R.N. & Lakhotia, Vision books Students guide to Income Tax, Singhania, V.K., Taxmann International dictionary of taxation by Indian Tax Institute, 1st Edition.

Sl.No.

Topics

Page No.

1. 2. 3. 4. 5. 6. 7. 8.

Syllabus Module I : Basic Concepts

3 5 49 248 316

Module ll : Assessment of Companies Module lll : Wealth Tax Module IV : Indirect Taxation Case Studies ITR-7 for Companies References : Books & Videos

Module I : Basic Concepts

BASIC CONCEPTS
ASSESSMENT YEAR
"Assessment year" means the period starting from April 1 and ending on March 31 of the next year. Income of previous year of an assessee is taxed during the next following assessment year at the rates prescribed by the relevant Finance Act.

PREVIOUS YEAR
Income earned in a year is taxable in the next year. The year in which income is earned is known as previous year and the next year in which income is taxable is known as assessment year. Previous year is the financial year immediately preceding the assessment year. All assessees are required to follow financial year (ie, April 1 to March 31) as the previous year. This uniform previous year has to be followed for all sources of income.

PREVIOUS YEAR IN THE CASE OF NEWLY SET-UP BUSINESS/PROFESSION

In the case of a newly set-up business/profession or in the case of a new source of income, the previous year is determined as follows The first previous year commences on the date of setting up of the business/profession (or, as the case may be, the date on which the source of income newly comes into existence) and ends on the immediately following March 31. Thus, in the case of a newly set-up business/profession or new source of income, the first previous year is a period of 12 months or less than 12 months. It can never exceed 12 months. The second and subsequent previous years are always financial years. The second and subsequent previous years are always of 12 months each (ie, April to March).

CONNECTION BETWEEN PREVIOUS YEAR AND ASSESSMENT YEAR

Rule - Income of a previous year is taxable in the immediately following assessment year. Exception - In the following cases income of previous year is taxable in the previous year itself a. b. c. d. e. income of non-resident from shipping; income of persons leaving India either permanently or for a long period of time; income of bodies formed for short duration; income of a person trying to alienate his assets with a view to avoiding payment of tax; and income of a discontinued business.

In these cases, income of a previous year may be taxed as the income of the assessment year immediately preceding the normal assessment year.

PERSON
The term person includes: a. b. c. d. e. f. g. 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 categories.

These are seven categories of persons chargeable to tax under the Act. The aforesaid definition is inclusive and not exhaustive.

ASSESSEE
"Assessee" means a person by whom income-tax or any other sum of money is payable Under the Act. It includes every person in respect of whom any proceeding under the Act has been taken for the assessment of his income or loss or the amount of refund due to him. It also includes a person who is assessable in respect of income or loss of another person or who is deemed to be an assessee, or an assessee in default under any provision of the Act.

INCOME
As generally understood- Income is a periodical monetary return with some sort of regularity. It may be recurring in nature. It may be broadly defined as the true increase in the amount of wealth, which comes to a person during a fixed period of time. Extended meaning given under section 2(24) - Under section 2(24), the term "income" specifically includes the following: 1. 2. 3. 4. 5. 6. 7. 8. 9. Profits and gains Dividend Voluntary contributions received by a trust Perquisites in the hands of employee Any special allowance or benefit City compensatory allowance/dearness allowance Any benefit or perquisite to a director Any benefit or perquisite to a representative assessee Any sum chargeable under sections 28, 41 and 59

10. Capital gains 11. Insurance profit 12. Banking income of a co-operative society 13. Winnings from lottery 14. Employees' contribution towards provident fund 15. Amount received under keyman insurance policy 16. Amount exceeding Rs. 50,000 by way of gift received by an individual or a Hindu undivided family.

GROSS TOTAL INCOME (GTI)

As per section 14, income of a person is computed under the following five heads: 1. 2. 3. 4. 5. Salaries Income from house property. Profits and gains of business or profession. Capital gains. Income from other sources.

The aggregate income under these heads is termed as "gross total income".

RESIDENTIAL STATUS ROUNDING OFF

The taxable income and tax liability shall be rounded-off to the nearest multiple of ten rupees.

EXEMPETION VS.DEDUCTION
If an income is exempt from tax, it is not included in the computation of income. Exemption can never exceed the amount of income. Deduction is generally given from income chargeable to tax .Deduction can be less than or equal to or more than amount of income. If amount deductible is more than the amount of income, the resulting amount will be taken as loss.

CAPITAL RECEIPTS VS. REVENUE RECIEPTS

Receipts are of two types - Capital receipts and revenue receipts. Capital receipts are exempt from tax unless they are expressly taxable. For instance, capital gains are taxable under section 45 even if they are capital receipts. On the other hand, revenue receipts are taxable, unless they are expressly exempt from tax. For instance, income exempt under section 10.

METHOD OF ACCOUNTING
Income chargeable under the head "Profits and gains of business or profession" or "Income

from other sources" is to be computed in accordance with the method of accounting regularly employed by the assessee. In other cases, method of maintaining books of account is irrelevant.

TYPES OF ACCOUNTING METHODS

Mainly there are two types of accounting methods - Mercantile system and cash system. Mercantile system- Under mercantile system, income and expenditure are recorded at the time occurrence during the previous year. Cash system - Under cash system of accounting, revenue and expenses are recorded only when received or paid.

TAX RATES
Tax rates (including surcharge, education cess and secondary and higher education cess) are given in Appendix 1.

RESIDENTIAL STATUS TYPES

For different tax payers residential status is as followsIndividuals/Hindu undivided family-

o Resident in India

Ordinarily resident Not-ordinarily resident

o Non-resident in India Others o Resident in India o Non- resident in India

SIGNIFICANCE OF RESIDENTIAL STATUS

In the case of non resident, Indian income is taxable but foreign is not chargeable to tax.In the case of resident but not ordinarily resident, Indian income is taxable but foreign income is taxable only in 2 cases. In the case of resident (or resident and ordinarily resident) Indian income as well as foreign income is chargeable to tax.

RESIDENTIAL STATUS OF AN INDIVIUAL

The tables given below summarize the rule of residence for the assessment year 2009-10 : Resident and ordinarily Resident (1) Must satisfy at least one of the basic conditions and both of the additional conditions Resident but not ordinarily Resident (2) (3) Non- resident

Must satisfy at least one of Must satisfy none of the the basic conditions and one basic conditions or none of the additional conditions

BASIC CONDITIONS AT A GLANCE

In the case of an Indian citizen who leaves India during the previous year for the purpose of employment (or as a member of the crew of an Indian ship ) (1) (2) (3) In the case of an Indian citizen or a person of Indian origin ( who is abroad ) who comes on a visit to India during the previous year In the case of an individual [ other than that mentioned in columns (1) and (2)]

a. Presence of at least 182 days in India during the

a. Presence of at least 182 days in India during the

a. Presence of at least 182 days in India during the

previous year 2008-09 b. Non- functional

previous year 2008-09 b. Non - functional

previous year 2008-09 b. Presence of at least 60 days in India during the previous year 2008-09 and 365 days during 4 years immediately preceding the relevant previous year (i.e., during April 1,2004 and March 31,2008).

ADDITIONAL CONDITIONS AT AGLANCE

Taxpayers other than an individual

Control and management of the affairs of the taxpayers are

Wholly in India Hindu undivided family Firm Association of persons Indian company Non-Indian company Any other person except an individual Resident

Wholly outside India Non-resident

Partly in India and partly outside India Resident

Resident Resident

Non-resident Non-resident

Resident Resident

Resident Resident

Resident Non-resident

Resident Non-resident

Resident

Non-resident

Resident

i.

Resident in India in at least 2 out of 10 years immediately preceding the relevant previous year

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ii.
Notes:

[ or must satisfy at least one of the basic conditions, in 2 out of 10 immediately preceding previous years (i.e., 1998-99 to 2007-08)]. Presence of at least 730 days in India during 7 years immediately preceding the relevant previous year (i.e., during April 1, 2001 and March 31, 2008).

1. A resident Hindu undivided family is either ordinarily resident or not ordinarily resident .A resident Hindu undivided family is ordinarily resident in India if karta or manager of the family (including successive kartas ) satisfies the following two conditions as laid down by section 6(6)(b) : (a) he has been resident in India in at least 2 out of 1 0 previous years immediately preceding the relevant previous year; and (b) he has been present in India for a period of 730 days or more during 7 years immediately preceding the previous year. If karta or manager of resident Hindu undivided family does not satisfy the two additional conditions, the family is treated as resident but not ordinarily resident in India. 2. In order to determine the residential status of the aforesaid taxpayers, the residential status of the karta of the family (except as stated in 1 supra), partners of the firm, members of the association, directors of the company, etc., is not relevant. For instance, it is possible that partners of a firm are resident in India but the firm is controlled from a place outside India and, consequently, the firm is a non-resident in India.

INDIAN INCOME AND FOREIGN INCOME-WHEN TAXABLE/NOT TAXABLE

In order to understand the relation between residential status and tax liability, one must understand the meaning of "Indian income" and "foreign income". Indian income - Any of the following three is an Indian income 1. If income is received (or deemed to be received) in India during the previous year and at the same time it accrues (or arises or is deemed to accrue or arise) in India during the previous year. 2. If income is received (or deemed to be received) in India during the previous year but it accrues (or arises) outside India during the previous year. 3. If income is received outside India during the previous year but it accrues (or arises or is deemed to accrue or arise) in India during the previous year. Foreign income - If the following two conditions are satisfied, then such income is "foreign income"

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1. Income is not received (or not deemed to be received) in India; and 2. Income does not accrue or arise (or does not deemed to accrue or arise) in India. Indian income - Indian income is always taxable in India irrespective of the residential status of the taxpayer. Foreign income - Foreign income is taxable in the hands of resident (in case of a firm, an association of persons, a joint stock company and every other person) or resident and ordinarily resident (in case of an individual and a Hindu undivided family) in India. Foreign income is not taxable in the hands of non-resident in India. In the hands of resident but not ordinarily resident taxpayer, foreign income is taxable only if it is (a) business income and business is controlled wholly or partly from India, or (b) professional come from a profession which is set up in India. In any other case, foreign income is not taxable the hands of resident but not ordinarily resident taxpayers.

RECEIPT OF INCOME IN INDIA

Income is received in India; it is always chargeable to tax. The "receipt" of income refers to the fir st occasion when the recipient gets the money under his control. Once an amount is received income, any remittance or transmission of the amount to another place does not result in receip t" at the other place.

INCOME DEEMED TO BE RECEIVED IN INDIA

The Act enumerates the following as income deemed to be received in India: Interest credited to recognized provident fund account of an employee in excess of 9.5 per cent. Excess contribution of employer in the case of recognized provident fund (i.e., the amount contributed in excess of 12 per cent of salary). Transfer balance. Contribution by the Central Government or any other employer to the account of an employee under a notified pension scheme referred to in section 80CCD. Tax deducted at source. Deemed profit under section 41.

ACCRUAL OF INCOME
Income accrued in India is chargeable to tax in all cases irrespective of residential status of an assessee. The words "accrue" and "arise" are used in contradistinction to the word "receive". Income is said to be received when it reaches the assessee when the right to receive the income becomes vested in the assessee, it is said to accrue or arise.

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INCOME DEEMED TO ACCRUE OR ARISE IN INDIA

In some cases, income is deemed to accrue or arise in India under section 9 even though it may actually accrue or arise outside India. The cases enumerated by section 9 are given below Income from business connection in India. Income from any property, asset or source of income in India Capital gain on transfer of a capital asset situated in India. Income from salary if service is rendered in India Income from salary (not being perquisite/allowance) if service is rendered outside India (provided the employer is Government of India and the employee is a citizen of India) Dividend paid by the Indian company (this point does not have much practical utility. Normally in the hands of the shareholders, dividend from an Indian company is exempt from tax, as an Indian company has to pay dividend tax). Interest, royalty or technical fees received from the Government of India. Interest, royalty or technical fees received from a resident (except when the payment pertains to business carried on by the payer outside India).

RESIDENTIAL STATUS AND TAX INCIDENCE

RESIDENTIAL STATUS OF A COMPANY [SEC.6 (3)]

An Indian company is always resident in India. A foreign company is resident in India only if, during the previous year, control and management of its affairs is situated wholly in India. In other words, a foreign company is treated as non resident if during the previous year , control and management of its affairs is either wholly or partly situated out of India. The table given below highlights the same proposition-

Resident or non-resident Place of control An Indian A company company other than an Indian company

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Control and management of the affairs of a company [for meaning see para 28.1] is Wholly in India Resident Resident

Wholly outside India

Resident

Non-resident

Partly in India or partly outside India Resident Non-resident

Note- A Company can never be ordinarily or not-ordinarily resident in India.

Control and management

28.1 In determining residential status of a company, the following broad propositions should be kept in view : Meaning of control and management The term control and management refers to head and brain which directs affairs of policy, finance, disposal of profits and vital things concerning the management of a company. The place of incorporation of the company may not be the place where control liesControl is not necessarily situated in the country in which the company is registered. A company may be resident in more than one country- Under the tax laws a company may have more than one residence. The mere fact that a company is also resident in a foreign country , would not necessarily displace its residence in India. Central control and management lies where meetings of board of directors are held- Usually control and management of a companys affairs is situated at the place where meetings of board of directors are held. Moreover, control and management referred to in section 6 is central control and management and not the carrying on of day to day business of servants, employees or agents.

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Place of doing business may be different from place of control of business- The whole of business may be done outside India and yet the control and management of that business may be wholly within India. In order to determine the residence of a company, the real test to be applied is, where does the controlling and directing power function, or where is its head and brain. Control is different from share holding control- Control does not mean share holding control. In the case of a subsidiary company managed by its local board of directors, it is difficult to establish that control and management of its affairs vests at the place where the parent company resides. A non-Indian companys de facto control must be in India for residential India-In order to hold that a non-Indian company is resident in India during any previous year, it must be established that such companys de facto is in India. Although central management and control has sometimes been stated in the form head, seat and directing power the question depends on the facts of the management and not on the physical situation of the thing that is managed. A company is managed by the board of directors and if the meetings of the board of directors are held within India, it may be said that the control and management is situated here. Partial control from outside India -control and management does not mean carrying o a day to day business. Even a partial control outside India is sufficient to hold a foreign company as a non-resident.

CASE STUDY

XYZ ltd. is registered in Srilanka and is a subsidiary of an Indian company. The business of the company is stevedoring in Srilanka. The meetings of the board of directors and general meeting of share holders are held in Bombay. The affairs of the assessee-company are looked after by two mangers under two power of attorney which confer upon them the widest power and authority. The directors retain complete control over the matter delegated to the managers and from time to time give direction to the mangers as to how things should be done and managed. Discuss whether under these circumstances the control and management of XYZ ltd is situated wholly in India and the company is resident in India within the meaning of section 6. A company registered outside India is treated as resident in India only if during the previous year. Control and management of its affairs is situated wholly in India. In construing the expression control and management it is necessary to bear in mind the distinction between doing business and control and management of business. Business and whole of it may be done outside India and yet the control and management of that business may be wholly situated within India. In the given problem the business of the assessee company is done in Srilanka.

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However, it is entirely irrelevant where the business is done and where the income has been earned. What is relevant and material is from which place has that business control and management? Control and management referred to in section 6 is capital control and management. The control and the management contemplated by this section is not the carrying on of day-to-day business by servants, employs or agents. The real test to be applied is where is the controlling and directing power, or rather, where does the controlling and directing power function, or, to put in a different language there is always a seat of powers or the head and brain and what has got to be ascertained is: where is this seat of power or the head and brain? A business organization has got to work through servants and agents, but it is not the servants and agents that constitute the seat of power or the controlling and directing power. It is that authority to which the servant employs and agents are subject, it is that authority, which controls and manages them which is the central authority, and it is at the place where the central authority concerns, the control and management is situated.

In the given problem, it is entirely unacceptable that the control and management is situated at Srilanka where its affairs are carried on and they are carried on by people living there appointed by the company with large power of management. To mangers under two powers of attorney look after all the affairs of the assessee- company in Srilanka. However, it is equally clear from the given facts that the central controls and management has been kept in Bombay and has been exercised by the directors in Bombay. Therefore control and management of the assessee company is situated wholly in India- Narottam and Pereira ltd v. CIT [1953] 23 ITR 454(bom.)

INCIDENCE OF TAX [SEC.5]

Pg.66-67

Indian income and foreign income

29. Under the act, incidence of tax on a tax pair depends on his residential status and also on the placed and time of accrual or receipt of income. 29.1 In order to understand the relationship between residential status and tax liability, one must understand the meaning of Indian income and foreign income. Indian income- any of the following three is Indian income1. If income is received (or deemed to be received) in India during the previous year and at the same time it accrues (or arises or is deemed to accrue or arise) in India during the previous year. 2. If income is received (or deemed to be received) in India during the previous year but it accrues (or arises) outside India during the previous year.

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3. If income is received outside India during the previous year but it accrues (or arises or is deemed to accrue or arise in India during the previous year. Foreign income- if the following two conditions are satisfied, then such income is foreign income a. Income is not received (or not deemed to be received) in India ; and b. Income does not accrue (or arise or does not deemed to accrue or arise) in India

Incidence of tax
29.2 Tax incidence is as follows-

Resident in India

Non-resident in India

Indian income Foreign income

Taxable in India Taxable in India

Taxable in India Not taxable in India

CONCLUSIONS 29.3 The following broad conclusions can be drawn1. Indian Income- Indian income is always taxable in India irrespective of the residential status of the tax payer. 2. Foreign Income Foreign income is taxable in hands of resident in India. Foreign income is not taxable in hands of non-resident in India.

RECEIPT OF INCOME

30. Income received in India is taxable in all cases irrespective of residential status of the assessee. The following points are worth mentioning in this respect:

RECEIPT VS. REMITTANCE

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30.1 the receipt of income refers to the first occasion when the receipt gets the money under his control .Once an amount is received as income , any remittance or transmission of the amount to another place does not result in receipt at other place-Keshav Mills Ltd. v.CIT[1953]23ITR 230(SC).for instance ,an assessee, after receiving an income outside India, cannot be said to have received the same again when he brings or remits the same to India. The position will remain the same if income is received outside India by an agent of the assessee (may be a bank or some other person) who later on remits the same to India. Income after the first receipt merely moves as a remittance of money. The same income cannot be received by the person twice, once outside India and once within India.

ACCTUAL VS. DEEMED RECEIPT

30.2 It is not necessary that income should be actually received in India in order to attract tax liability. An income deemed to be received in India, in the previous year ,is also included in the taxable income of the assessee. The act enumerates that the following as income deemed to be received in India: Annual accretion (i.e., interest in excess of 9.5 per cent )to the credit balance of an employee in the case of recognised provident fund. Excess contribution of employer (i.e. in excess of 12 per cent) in the case of recognised provident fund. Contribution made by the central government or any other employer in the previous year, to the account of an employee under a notified pension scheme referred to in section 80CCD. Transfer balance. Tax deducted at source. Deemed profit under section 41.

CASH V. KIND

30.3 It is not necessary that income should be received in cash. Income may be received in cash or in kind. For instance, value of a free residential house provided to an employee i taxable as salary in the hands of the employees though the income tax is not received in cash.

RECEIPT V. ACCRUAL
Pg.67-68

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30.4 Receipt is not the sole test of chargeability to tax. If an income is not taxable on receipt basis it may be taxable on accrual basis.

ACCRUAL OF INCOME

31. Income accruing in India is chargeable to tax in all cases irrespective of residential status of the assessee. The words accrues and arises are used in contradistinction to the word receive. Income is said to be received when it reaches the assessee : when the right to receive the income become vested in the assessee, it is said to accrue or arise.

INCOME THAT IS EXEMPT FROM TAX

In the following cases income is exempt from tax, as it does not form part of total income.The burden of proving that a particular item of income falls within this section is on the assessee.

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Agriculture income Payments received from family income by a member of a HUF Share of profit from a firm Interest received by a non-resident from prescribed securities Interest received by a person who is resident outside India on amounts credited in the "Non-resident (External) Account" " Leave travel concession provided by an employer to his Indian citizen employee Remuneration received by foreign diplomats of all categories Salary received by a foreign citizen as an employee of a foreign enterprise provided his stay in India does not exceed 90 days Salary received by a non-resident foreign citizen as a member of ship's crew provided his does not total stay in India does not exceed 90 days. Remuneration received by an employee, being a foreign national, of a foreign Government deputed in India for training in a Government establishment or public sector undertaking. Tax paid on behalf of foreign companies Tax paid by Government or an Indian concern in the case of a nonresident/foreign company Income arising to notified foreign companies from services provided in or outside. India in project connected with the security of India. Foreign allowance granted by the Government of India to its employees posted abroad Remuneration received from a foreign Government by an individual who is in India in connection with any sponsored co-operative technical assistance programme Income of the family members of such employee Remuneration/fees received by non-resident consultants and their foreign

10(1) 10(2) 10(2A) 10(4) 10(4) 10(5)

10(6) 10(6)(vi)

10(6)(viii)

10(6)(xi) 10(6A)

10(6B) 10(6C) 10(6C)

10(7)

10(8)

10(9)

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employees Death-cum-retirement gratuity

10(8A)(8B)9

10(10) Commuted value of pension and any payment received by way of commutation of pension by an individual out of annuity plan of LIC or any other insurer from a fund set up by that corporation or insurer. Leave salary Retrenchment compensation Compensation received by victims of Bhopal gas leak disaster Compensation from the Central Government or a State Government or a local Authority received by an individual or is legal hire on account of any disaster. 10(10BC) Compensation received from a public sector company at the time of voluntary retirement or separation Tax on perquisite paid by employer Any sum (including bonus) on life insurance policy (not being a Keyman insurance policy) Any amount from provident fund paid to retiring employee Amount from an approved superannuation fund to legal heirs of the employee House rent allowance subject to certain limits Special allowance granted to an employee Interest from certain exempted securities Payment made by an Indian company, engaged in the business of operation of an aircraft, to acquire an aircraft on lease from a foreign Government or foreign enterprise if a few condition are satisfied. Scholarship granted to meet the cost of education Daily allowance of a Member of Parliament or State Legislature (entire amount is exempt), and any other allowance subject to 10(11) 10(13) 10(13A) 10(14) 10(15) 10(10C) 10(10CC) 10(D) 10(10AA) 10(10B) 10(10BB)

10(10A)

10(15A)

10(16)

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certain conditions. Rewards given by the Central or State Government for literary, scientific or artistic work or attainment or for service for alleviating the distress of the poor, the weak and the ailing, or for proficiency in sports and games or gallantry awards approved by the Government. Pension and family pension of gallantry award winners Family pension received by family members of armed forces Notional property income of any one palace occupied by a former ruler Income of local authorities Any income of housing boards constituted in India for planning, development or improvement of cities, towns or villages Any income of an approved scientific research association Income of specified non-agencies (Ie., PTI and UNI) for the assessment years 1994-95 to 2008-09 . Any income (other than interest on securities, income from property, income received for rendering any specific services and income by way of interest or dividends) of approved professional bodies. Any income received by any person on behalf of any Regimental Fund or non-public fund established by the armed forces of the Union for the welfare of the past and present members of such forces or their dependents. Income of funds established for the welfare of employees Any income of the pension fund set up by LIC or any other insurer approved by the Controller of Insurance or Insurance Regulatory and Development Authority. Any income (other than business income) of a trust or a society approved by Khadi and Village Industries Commission Income of an authority whether known as Khadi and Village Industries Board or by any other name for the development of Khadi and Village Industries.

10(17)

10(17A)

10(18) 10(19) 10(19A) 10(20) 10(20A)

10(21) 10(22B)

10(23A)

10(23AA)

10(23AAA) 10(23AAB)

10(23B)

10(23BB)

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Income arising to any body or authority established, constituted or appointed under any enactment for the administration of public, religious or charitable trusts or endowments or societies for religious or charitable purposes. Income of the European Economic Community derived in India by way of interest, dividends or capital gains in certain cases under the European Community International Institutional Partners Scheme, 1993. Any income of SAARC Fund for Regional Projects Any income of Secretariat of Asian Organisation of Supreme Audit Institutions Income of Insurance Regulatory Authority

10(23BBA)

10(23BBB)

10(23BBC) 10(23BBD) 10(23BBE)

Income of North Eastern Dev. Fin. Corp. to the extent of 60 per cent for assessment year 2007-08. Income of the Central Electricity Regulatory Commission (applicable from the assessment year 2008-09)

10(23BBF)

10(23BBG) Income received by any person on behalf of specified national funds, approved public charitable institutions, educational institute and hospital. Income of a Mutual Fund set up by a public sector bank or public financial institution. Income of investor protection fund Income of Credit Guarantee Funds Trust for Small Industries Income of Investor Protection Fund by way of contributions from commodity exchange and the members thereof (applicable from the assessment year 2008-09). Income by way of dividend or long-term capital gain of venture capital fund/undertaking. Income of venture capital fund/venture capital company Income by way of interest on securities, property income and income from other sources of a registered trade union or an association of registered trade unions 10(23FB) 10(24) 10(23EA) 10(23EB) 10(23C) 10(23D)

10(23EC) 10(23FA)

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Any income received by a person on behalf of statutory provident fund, recognised provident fund, approved superannuation fund, approved gratuity fund and approved coal-mines provident fund Income of Employees' State Insurance Fund Income of a member of a scheduled tribe, residing in Nagaland, Manipur, Tripura, Arunachal Pradesh, Mizoram and Ladakh from any source arising by reason of his employm e nt therein and income b y wa y of dividend and interest on securities. Income of a Sikkimese individual which accrues or arise to him/her from any source in the State of Sikkim or income from dividend/interest on securities from anywhere in the world (exemption not available to a Sikkimese woman who, on or after April 1, 2008, marries a non-Sikkimese individual).

10(25)

10(25A)

10(26)

10(26AAA) Income of an agricultural produce market committee or board constituted for the purpose of regulating the marketing of agricultural produce (applicable from the assessment year 2009-10). Any income of a statutory corporation or of a body/institution, financed by the Government formed for promoting the interest of scheduled castes/tribes. Income of National Minorities Development and Finance Corporation Income of ex-serviceman corporations. Income of a co-operative society formed for promoting interest of members of scheduled castes/tribes. Income of certain Commodity Boards/Authorities Subsidy from the Tea Board for replanting or replacement of tea bushes or for rejuvenation or consolidation of areas used for cultivation of tea in India. Subsidy received by planters Income of a minor child up to Rs. 1,500 in respect of each minor child whose income is includible under section 64(1 A). Capital gains on transfer of US 64 Dividend on or after April 1, 2003 from domestic companies 10(33) 10(34) 10(26B)

10(26AAB)

10(26BB) 10(26BBB) 10(27)

10(29A) 10(30) 10(31) 10(32)

24

Interest on units of a Mutual Fund on or after April 1, 2003 Capital gains on transfer of listed equity shares Capital gains on compensation received on compulsory acquisition of urban agricultural land Long-term capital gains on transfer of securities not chargeable to tax in cases covered by transaction tax Income of an international sporting event Grant received by subsidiary company from holding company Capital gain in the above case Income of notified non-profit body/authority Any amount received by an individual as a loan (either in lump sum or installment) in a transaction of reverse mortgage. Any income received by any person for, or on behalf of the New Pension System Trust Voluntary contribution received by an electoral trust if a few conditions are satisfied.

10(35) 10(36) 10(37)

10(38) 10(39) 10(40) 10(41) 10(42) 10(43)

10(44)

NE W UN DE RT AK IN GS IN SE Z (SE CT IO N 10 A) CO ND ITI ON S
It must begi

13B

n manufacture or production in free trade zone or electronic hardware technology park or software technology park or a special economic zone within specified time. The industrial undertaking should not have been formed by the splitting up or reconstruction of a business already in existence. The industrial undertaking should not have been formed by the transfer of a new business of machinery or plant previously used for any purpose [there are two exceptions like 20 per cent old machinery and imported old machinery].

25

10, 11

PROFITS AND GAINS OF BUSINESS AND PROFESSION

Income from a business or profession is calculated on the basis of method of accounting regularly employed by the assessed.

If the assesses has adopted mercantile system of accounting, then income is calculated on accrual basis as well as admissible expenses are deducted on accrual basis. If the assesses has adopted cash system of accounting income is calculated on receipt basis. Admissible expenses will be deducted only on payment basis.

Section 30 to 37 covers expenses, which are expressly allowed as deduction while computing business income. Sections 40, 40A and 43B cover expenses which are not deductible.

Deductions is allowed in respect of rent, rates, taxes, land revenue, repairs and insurance for premises used for the purpose of business or profession is deductible. Rent of building is not deductible is building is owned by the assesses. Capital expenditure on repair is not deductive.

The expenditure incurred on current repairs (not being capital expenditure) and insurance in respect of plant, machinery and furniture used for business purposes is allowable as deduction.

1. 2. 3. 4.

Asset must be owned by the assesses. It must be used for the purpose of business or profession. It should be used during the relevant previous year. Depreciation is available on tangible as well a intangible assets.

26

If the above conditions are satisfied, depreciation is available whether(or not) the assessee has claimed the deduction for depreciation in computing his total income. Written down value of the block of assets on the last day of the previous year X rate of depreciation. Block of assets- A group of assets falling within a class of assets comprising a. Tangible assets, being buildings, machinery, plant of furniture; b. Intangible assets, being know-how, patents, copyrights, trademarks, licenses, franchises or any other business or commercial rights of similar nature, in respect of which the same percentage of depreciation is prescribed. Written down value of the block of assets Written down value for the assessment year2009-10 will be determined as under:

1. Find out the depreciated value of the block April 1, 2008. 2. To this value add actual cost of the asset (falling in the block) acquired during the previous year 2008-09. 3. From the resultant figure, deduct money received/receivable(together with scrap value ) in respect of that asset(falling within the block of assets ) which is sold. Discarded, demolished or destroyed during previous year 2008-09. The resulting figure(if positive) is written down value of the block of assets on the March 31, 2009. Rate of depreciation A taxpayer may have 13 different blocks of assets for the purpose of computing depreciation. Nature of asset Building- Residential buildings Buildings Office, Factory, godowns of buildings which are not mainly used for residential purpose. Buildings Buildings for installing machinery and plant forming part of water supply project or water treatment system; and temporary erections such as wooden structures. Furniture Any furniture/fittings including electrical fittings Plant and machinery Any plant or machinery [not covered by block 6,7,8,9,10,11 or 12 ]motor cars (other than those used in a business of running them on hire) Plant and machinery Ocean-going ships, vessels ordinarily operating on inland waters including speed boats. Plant and machinery Buses, lorries and taxies used in the business of running them on hire. Rate 5% 10%

1. 2. 3.

4. 5.

100% 10%

15% 20% 30%

6. 7.

27

8. Plant and machinery Aeroplanes, commercial vehical(certain specified) and life saving medical equipment 9. Plant and machinery containers made of glass or plastic used as refills new commercial vehicle (certain specified) 10. Plant and machinery computers including computer software and new commercial vehicle (certain specified) 11. Plant and machinery Energy saving devices; renewal energy devices; rollers in flour milk, sugar works and steel industry 12. Plant and machinery Air pollution control equipments; water pollution control equipments; solid waste control equipments, recycling and resource recovery systems; etc. 13. Intangible assets (acquired after March 31, 1998) Know-how, patents, copyrights, trade marks, licenses, franchises and any other business or commercial rights of similar nature.

40% 50% 60% 80%

100%

25%

Exception One No depreciation is admissible where written down value has been reduced to zero though the block of assets does not cease to exist on the last day of the previous year. Exception two If a block of assets ceases to exist or if all assets of the block have been transferred and the block of assts is empty on the last day of the previous year, no depreciation is admissible in such case. Exception three If any asset falling within a block of assets is acquired by the assessee during the previous year and it is put to use for the purposes of business of profession for a period of less than 180 days in that previous year, the deduction in respect of such asset shall be restricted to 50 per cent of the amount calculated at the percentage prescribed in the case of block of asset comprising such asset. Exception four In the case of transfer of depreciable assets because of succession, amalgamation business reorganization of demerger in the previous year, depreciation is first calculated as if there is no transfer of depreciable assets and the quantum of depreciation so calculated shall be apportioned between the predecessor and successor in the ratio of number of days for which the assets are used by them during the previous year.

Additional : To claim additional depreciation the following conditions should be satisfied 1. The assessee must be engaged in manufacture/production of any article or thing. 2. New plant and machinery should be acquired and installed after March 31, 2005. 3. It Should be an eligible plant and machinery. Additional depreciation is not available in the case of ships, aircrafts, second hand assets, assets installed in office/residence / guest house, office appliances, road transport vehicles and those assets which are qualified by 100 percent deduction in the first year itself under any provision of the Act.

28

Amount of additional deprecation allowance In case the above three conditions are satisfied, additional depreciation shall be available @ 20 percent of the actual cost of new plant and machinery. if, however the asset is put to use for less than 180 days in the year in which it is acquired, the rate of additional depreciations will be 10 percent. 1. Depreciation allowance of the previous year is first deductible from the income chargeable under the head profit and gains of business or profession. 2. If depreciation allowance is not fully deductible under the head Profits and gains of business of profession because of absence or inadequacy of profits, it is deductible from income chargeable under other heads of income[except income under the head Salaries] for the same assessment year(s) by the same assessee. No time-limit is fixed for the purpose of carrying forward of unabsorbed depreciation. 1. Revenue expenditure on scientific research is deductible in the year in which the expenditure is incurred, if such research relates to the business. Revenue expenses(other than expenditure on providing perquisites to employess) incurred before the commencement of business (But within three years immediately before commencement of business) on scientific research related to the business are deductible (to the extent approved by prescribed authority ) in the previous year in which the business is commenced. 2. Capital expenditure(not being cost of land) on scientific research related to the business of taxpayer is fully deductible in the year in which the expenditure is incurred. In such case, depreciation is not deductible. 3. Contribution to approved scientific research association, approved university/college/other institutions is deductible at the rate of 125 percent of actual contribution. 4. Contribution to an approved national lab, university, IIT specified person is deductible at the rate of 125 percent of the contribution if such contribution is given for an approved research programme. 5. Expenditure on approved in-house research and development facilities of a company is qualified for deduction at the rate of 150 percent of the expenditure, if a few conditions are satisfied. One of the conditions is that the company should be engaged in the manufacture or production of any article or thing except those specified in the Eleventh Schedule. Moreover, no deduction is available in the case of cost of land and building. cost of building can be claimed as deduction under point 2 given above. The following conditions should be satisfied 1. The expenditure is capital in nature. 2. It is incurred for acquiring any right to operate telecommunication services. 3. the expenditure is incurred either before the commencement of business or thereafter at any time during any previous year. 4. The payment for the above has been actually made to obtain licence.

29

Amount of deduction The payment will be allowed as deduction in equal installments over the period starting from the year in which such payment has been made and ending in the year in which the licence comes to an end. It may be noted that the deduction starts from the year in which actual payment of expenditure is made irrespective of the accounting regularly employed by the assessee.Where deduction is claimed and allowed under section 35ABB, no deduction will be available in respect of the same expenditure under section 32. The following conditions should be satisfied 1. The taxpayer should be in the business of setting up and operating a cold chain facility or setting up and operating a warehousing facility for storage of agricultural produce. Alternatively an Indian company should be engaged in the approved business of laying and operating a cross country natural gas or crude or petroleum oil pipeline network for distribution, including storage facilities being an integral part of such network. 2. The aforesaid activities should commence on or after April 1, 2009. However, this date is April 1, 2007 in the case of lying and operating a cross- country natural gas pipeline network for distribution or storage. 3. The aforesaid business should be a new business (i.e., not set up by splitting up, o reconstruction of. of an existing business ). If the aforesaid, 100 percent of the capital expenditure is deductible in the year in which the expenditure is incurred. However, expenditure incurred on the acquisition of any land or goodwill or financial instrument is not eligible for any deduction under section 35AD. Expenditure incurred prior to the commencement of operation, wholly and exclusively, for the pupose of any specified business, shall be allowed as deduction during the previous year in which the assessee commences the operation of his specified business, if the amount is capitalized in the books of account of the assessee on the date of commencement of operation. If operation of the business of laying and operating a cross-country natural gas distribution network is commenced during April 1, 2007 and March 31, 2009, the capital expenditure(not being for acquiring land or good will or financial instrument ) incurred before April 1, 2009 (to the extent not allowed as deduction under any section earlier) will be allowed as additional deduction under section 35AD for the assessment year 2010-11. Certain preliminary expenses are deductible under section 35D. Deduction under section 35D is available in case of an Indian company or a resident non- corporate assessee. Onefifth of the qualifying expenditure is allowable as deduction in each of the five successive years beginning with the year in which the business commences, or as the case may be, the previous year in which extension of the undertaking is completed or the new unit commences production or operation. The expenditure is allowed as deduction in five successive years in five equal installments. The first instalment is deductible in the previous year in which amalgamation or demerger

30

takes place. No deduction shall be allowed in respect of the above expenditure under any other provision of the Act. One fifth of the amount so paid shall be deducted in computing the profits and gains of the business for that previous year. And the balance shall be deducted in equal instalment for each of the four immediately succeeding previous years. This rule is applicable even if the scheme of voluntary retirement has been framed in accordance with guidelines prescribed under section 10(10C). Premium paid in respect of insurance against risk of damage or destruction of stock or stores, used for the purposes of business or profession, is allowable as deduction. Premia paid by employer(by any mode other than case ) for insurance on the health of his emoployees in accordance with the scheme framed by the General Insurance Corporation and approved by the Central Government or any other insurer and approved by IRDA, is deductible. Allowable as deduction if not otherwise payable as profit or dividend. Deduction is available on payment basis. Where, however, payment is made after the end of the previous year but on or before the due date of furnishing return of income, deduction is available on accrual basis. Allowable as deduction subject to fulfillment of three conditions: 1. The assess must have borrowed money. 2. The money so borrowed must have been used for the purpose of business. 3. Interest is paid or payable on such borrowing. Discount is the difference between amount received and the amount payable on redemption/maturity by the issuing company. It is allowed as deduction on pro rata basis having regard to the period of life of such bond. Period of life of the bond means the period commencing from the date of issue of the bond and ending on the date of the maturity or redemption of such bond. Allowable as deduction subject to the limits laid down for the purpose of recognized provident fund (RPF) or approving superannuation fund. Employers contribution towards an approved gratuity fund created by him exclusively for the benefit of his employees under an irrevocable trust is allowable as deduction. Any sum received by the taxpayer as contribution from his employees towards provident fund or any welfare fund of such employees shall be allowed as deduction only if such sum in credited by the taxpayer to the employees account in the relevant fund on or before the due date. Bad debt written off in the books of account is deductible. However, the following conditions should be satisfied 1. Debt must be incidental to the business or profession of the assessee. 2. Debt must have been taken into account in computing assessable income.

31

Adjustment at the time of recovery where debt ultimately recovered is less that the difference between the amount of debt and bad debt allowed as deduction, such deficiency will be deductible in the previous year in which the ultimate recovery is made provided such deficiencies is written off in the books of account. Conversely, where the debt ultimately recovered is more that the difference between the debt and the amount of bad deducted, such excess amount will be chargeable to tax in the year of recovery. Amount deductible in respect of provision for bad and doubtful debts In the case of a In case of public scheduled bank financial institution, [other than a state financial foreign bank]and a corporation, State non-scheduled bank industrial investment corporation 7.5 percent of such 5 percent of such Total income income (Computed before income this deduction and amount deductible under sections 80C to 80U) Aggregate average 10 percent of such ______ advances made by advances rural

In the case of a foreign bank

5 percent of such income

_______

Revenue expenditure is fully allowable as deduction. If, however, such expenditure is of capital nature, One-fifth of such expenditure is allowable as deduction for the previous year in which it was incurred and the balance is deductible in equal installments in the next four years. Non-corporate assessee cannot claim this deduction[deduction may be claimed by a noncorporate assess under section 32 and 37(1) if the relevant conditions are satisfied]. It is deductible Section 37(1) is a residuary section. To avail deduction, the following conditions should be satisfied 1. 2. 3. 4. 5. 6. 7. The expenditure should not be of the nature described under sections 30 to 36. It should not be in the nature of capital expenditure of the assessee. It should not be personal expenditure of the assessee. It should have been incurred in the previous year. It should be in respect of business carried on by the assessee. It should have been expended wholly and exclusively for the purpose of such business. It should not have been incurred for any purpose, which is an offence or is prohibited by any law.

If the following three conditions are satisfied, the assessee (i.e. the payer) is supposed to

32

deduct tax at source (TDS) under section 195 1. The amount paid is interest, royalty, fees for technical services or other sum. 2. The aforesaid amount is chargeable to tax under the Act in the hands of the recipient. 3. The aforesaid amount is paid/payable (a)outside India to any person; or (b) in India to a non-resident. If the above three conditions are satisfied, the assessee (the payer) is supposed to deduct tax at source and deposit the same with the Government within the time-limit specified by section 200(1) [generally this time-limit is seven days from the end of the month in which tax is deducted . In some cases, time limits is different]. If tax is deductible but it is not deducted, the expenditure is not allowable as deduction. If tax is deducted and it is deposited with the Government in the same financial year, this disallowance is not applicable. If tax is deducted but it is deposited in the next year after the due date under section 200(1), then it will be disallowed for the current year. The amount which is disallowed during the current year, will be payment of interest, commission/brokerage, rent, fees for technical/ professional services, royalty to a resident contractors/sub-contractors. If tax is deductible but not actually deducted, the payment will be disallowed. If tax is deductible (and it is so deducted) in the month of march but it is not deposited on or before the due date of submission of return of income, it will be disallowed. If tax is deductible (and it is so deducted) before March 1 of the financial year but it is not deposited on or before the end of the financial year, it will be disallowed. The amount which is disallowed during the current year, will be allowed as deduction in the year in which tax is deposited. These are not deductible. Any fine, interest, penalty, etc., in respect of these taxes are also not deductible. It is not deductible if tax is not deducted at source and it is not paid to the Government. The employer provides non-monetary perquisite to employees. Tax on non-monerary perquisites is paid by the employer. The tax so paid by the employer is not taxable in the hands of employees by virtue of section 10(10CC). while calculating income of the employer, the tax paid by the employer on non-monetary perquisites is not deductible. Salary and interest paid/payable by a firm to its partners are deductible only if conditions of sections 184 and 40(b)are satisfied. One of the conditions is that these payments should be permitted by the partnership deed. Rate of interest cannot be more than 12 percent (excess interest will be disallowed in the hands of firm). Salary and remuneration to partners cannot exceed a specified percentage of book profit if the aggregate payment exceeds Rs. 1,50,000(excess payment if any shall be disallowed). Maximum remuneration to partners which is deductible is as follows On the first Rs. 3 lakh of book profit (or in the case of loss): Rs. 1,50,000 or 90 percent of book profit whichever is more.

33

On the balance of book profit: 60 percent of book profit. Not deductible. Any expenditure incurred by an assessee in respect of which payment has been made to specified persons(e.g., relatives, inter-connected concerns) is liable to be disallowed in computing business profit to the extent such expenditure is considered to be excessive or unreasonable, having regard to the fair market value of goods or services or facilities, etc. If the following conditions are satisfied, payment is not deductible 1. The assessee incurs any expenditure, which is otherwise deductible under the other provisions of the Act for computing business/profession income(e.g., expenditure for purchase of raw material, trading goods, expenditure on salary, etc.). The amount of expenditure exceeds Rs. 20,000. 2. A payment (or aggregate of payments made to a person in a day) in respect of the above expenditure exceeds Rs. 20,000. 3. The payment mentioned above is made otherwise than by an account payee cheque or an account payee demand draft (it is made in case or by a bearer cheque or by a crossed cheque or by a crossed demand draft). If all the above conditions are satisfied , 100 percent of such payment will be disallowed. However, the limit of Rs. 20,000 has been increased to Rs. 35,000 in the case of payment made for plying hiring or leasing goods carriages. Not deductible. Employers contribution towards non-statutory fund (like unrecognized provident fund) is not deductible. Disallowance under section 43B is applicable only if the taxpayer maintains boos of account on the basis of mercantile system of accounting. The provisions of section 43B are given below General rule certain expenses are deductible on payment basis the following expenses (which are otherwise deductible under the other provisions of the Income-tax Act) are deductible on payment basis a. Any sum payable by way of tax, duty, cess of fee (by whatever name called under any law for the time being in force); b. Any sum payable by an employer by way of contribution to provident fund or superannuation fund or any other fund for the welfare of employees;

34

c. Any sum payable as bonus or commission to employees for services rendered; d. Any sum payable by an employer by way of contribution to provident fund or superannuation fund or any loan or borrowing from a public financial institution (i.e., ICICI, IFCI, IDBI,LIC and UTI) or a state financial corporation or a state industrial investment corporation; e. Interest on any loan or advance taken from a scheduled bank including a co-operative bank; and f. Any sum payable by an employer in lieu of leave at the credit of his employee. The above expenses are deductible in the year in which payments are deductible in accrual basis if the payment is actually made on or before the due date of submission of return of income. 1. In any of the earlier year a deduction was allowed to the respect of loss, expenditure(revenue or capital expenditure ) or trading liability incurred by the assessee. 2. During the current previous year, the taxpayer a. Has obtained a refund of such trading liability (it may be in case or any other manner); or b. Has obtained some benefit in respect of such trading liability by way of remission or cessation thereof(remission or cessation for this purpose includes unilateral act of the assessee by way of writing-off of such liability in his books of account ). If the above two conditions are satisfied, the amount obtained by such person (or the value of benefit accruing to the taxpayer) shall be deemed to be profits and gains of business or profession and accordingly, chargeable to tax as the income of that previous year. Different taxpayers A person carrying on profession A person carrying on profession A person covered under section 44AD, 44AE, 44AF, 44BB or 44BBB When they are covered by the provisions of compulsory audit under section 44AB If the total sales, turnover or gross receipt in business for the previous year(s) relevant to the assessment year exceed or exceeds Rs. 40lakh. If his gross receipts in profession for the previous year(s) relevant to the assessment year exceeds Rs. 10 lakh. If such person claims that the profits and gains from the business are lower than the profits and gains computed under these sections (irrespective of his turnover).

Section 44AD is applicable if the taxpayer is in the business of civil construction or supply of abour for civil construction and the turnover does not exceed Rs.40 lakh. Income is computed an estimated basis at the rate of 8 percent of turnover. The rate of 8 percent is comprehensive [i.e., no further deduction is allowed under any other section except remuneration and interest

35

on partners]. Section 44AE is applicable, if the taxpayer is engaged in the business of plying, hiring an dleasing goods carriages and he/it does not own more than 10 goods carriages at time during the previous year. In such a case, income would be calculated on estimated basis at the rate of Rs. 3,500 (for heavy goods vehicle)/ Rs. 3,150 (for light goods vehicle) for every month (or part of a month) during which the goods carriage is owned by the taxpayer. No further deduction is allowed under by other section except remuneration and interest to partners. The amount of Rs. 3,500 per month/Rs. 3,150 per month will be increased to Rs. 5,000 per month/ Rs. 4,500 per month with efect from the assessment year 2011-12. Scheme for computing profits and gains of retail traders provides for computing income on astimated basis @ 5 percent. Rate of 5 percent is comprehensive [i.e., no further deduction is flowed under any other section except remuneration and interest to partners]. However, from the assessment year 2011-12, this provision would be incorporated in section 44AD and it will be applicable in the case of any business carried on by incorporated in section 44AD and it will be applicable in the case of any business carries on by an individual, Hindu undivided family or a partnership firm (other than limited liability firm). The rate of estimated income will be 8 percent.

CAPITAL GAINS
Income under the head Capital gains is chargeable to tax if the following conditions are satisfied There is a capital asset. It is transferred during the previous year. Capital gain is generated because of transfer. Capital gain is not exempt from tax.

The expression capital asset means property of any kind held by an assessee, whether or not connected with his business or profession. However, the following are not capital assets Any stock-in-trade, consumable stores or raw materials held for the purposes of business or profession. Personal effects. Agricultural land in a rural area in India. A few gold bonds and special bearer bonds (this point does not have any practical utility). Gold Deposit Bonds issued under Gold Deposit Scheme, 1999.

Any movable property (including wearing apparel and furniture) held for personal use of the owner or for the use of any member of his family dependent upon him, is not a Capital asset for the purpose of income under the head Capital gains. However, the following are not Personal effects(in other words, the following are capital assets) even if these are for

36

personal use jewelry, archaeological collections, paintings, sculptures, or any work of art. They should not be situated in (i) any area within the jurisdiction of a municipality or a cantonment board having a population of 10,000 or more; or (ii) in any areas specified by the Government outside the local limit of a municipality but within 8 kilometers. There are two types of capital assets-shot-term and long-term. A period of holding is more than 6 months, the capital asset is long-term, otherwise it is short-term. However, in the following cases, the capital asset held for more than 12 months is treated as long term capital assets-any share in any company, Government securities, listed debentures, unites of UTI/mutual fund are zero coupon bonds. Capital gains arises on transfer of a capital assets. If the asset transferred is not a capital asset, capital gains will arise. Transfer includes sale, exchange or relinquishment of the asset; or t extinguishment of any right therein; or the compulsory acquisition thereof under any la however, the following are not treated as transfer(in other words, in the following cases, the is no capital gain )1. Distribution of assets in kind by a company to its share holders on its liquidation. 2. Any distribution of capital assets in kind by a Hindu undivided family to its members at the tin of total or partial partition. 3. Any transfer of capital asset under a gift or a will or an irrevocable trust (exception gift of ESC shares is chargeable to tax). 4. Transfer of capital asset between holding company and its 100 per cent subsidiary compare if the transferee-company. 5. Transfer of capital asset in the scheme of amalgamation/demerger, if the transfereecompany is an Indian company. 6. Transfer of shares in amalgamating company/demerger company in lieu of allotment shares in amalgamated company/resulting company in the above case. 7. Transfer of capital asset in a scheme of amalgamation of a banking company with a banking institution. 8. Transfer of shares in an Indian company held by a foreign company to another foreign company in a scheme of amalgamation /demerger of the two foreign companies, if a few conditions a satisfied. 9. The transfer of a capital asset by a non- resident of foreign currency convertible bonds or Globe Depository Receipts to another non-resident if the transfer is made outside India and if a f conditions are satisfied. 10. Transfer of any work of art, archaeological, scientific or art collection, book, manuscripts, drawing, painting, photograph or print to the government or a university or the Nation Museum, National Art Gallery, National Archives or any other notified public Museum institution. 11. Any transfer by way of conversion of bonds or debentures, debenture-stock or deposit certificate in any form, of a company into shares or debentures of that company. 12. Land transferred by a sick industrial company, if a few conditions are satisfied.

37

13. Transfer of capital assets at the time of conversion of a firm/sole proprietary concern in company if a few conditions are satisfied. 14. Any transfer involved in a scheme for lending of any securities, if a few conditions are satisfying. 15. Any transfer of capital asset in a reverse mortgage. COMPUTATION OF CAPITAL GAINS Short term capital gains It arises on transfer of short-term capital asset and it is calculated as follows Full value of consideration minus cost of acquisition minus cost of improvement minus expenditure pertaining to transfer incurred by the transferor. Long term capital gains It arises on transfer of long-term capital asset it is calculated as follows Full value of consideration minus indexed cost of acquisition minus indexed cost of improvement minus expenditure pertaining to transfer incurred by the transferor. However, in the following cases the benefit of indexation is not available ever if the capital as is long-term capital asset Bonds or debentures, but other than capital indexed bonds issued by the government Depreciable Assets. Slump Sale. Units/GDR/securities given in sections 115AB, 115AC, 115ACA and 115AD. Shares and debentures in Indian acquired by a non-resident in foreign currency, if a few conditions are satisfied.

1. 2. 3. 4. 5.

It does not include any expenditure on improvement incurred before April 1, 1981.

Cost of Improvement How to convert cost of acquisition into indexed cost of acquisition

Cost of acquisition x Cost inflation index (CII) of the year in which the capital asset is transferred CII of the year in which the asset was first held by the assessee.

Cost inflation index for different previous years

38

1981-82 1982-83 1983-84 1984-85 1985-86 1986-87 1987-88

100 109 116 125 133 140 150

1988-89 1989-90 1990-91 1991-92 1992-93 1993-94 1994-95

161 172 182 199 223 244 259

1995-96 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02

281 305 331 351 389 406 426

2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10

447 463 480 497 519 551 582 632

Indexed cost of Improvement

Cost of improvement x Cost inflation index (CII) of the year in which the capital asset is transferred CII of the year in which improvement took place.

In the following cases capital gain is exempt under section 10 -

1.Transfer of units of US64.

2.Compulsory acquisition of urban agricultural land in India owned by an individual or HUF, if land was used for agricultural purposes by the owner (for any of his parents) during 2 years immediately prior to acquisition.

3.Long-term capital gains on transfer of shares/units, if securities transaction tax is applicable. Special mode of computation When cost of asset to the previous owner is taken into consideration.

39

When an assessee acquired capital asset by any mode given in section 49, then at the time of its transfer, cost of acquisition to the previous owner is taken as cost of acquisition.

Acquisition mode given under section 49- In the following cases, cost of acquisition of asset to previous owner is considered 1. Acquisition of a property by a member at the time of partition of Hindu Undivided Family. 2. Acquisition of a property by gift/will or by succession inheritance, etc.

3. Acquiring a capital asset by a holding company from its 100 per cent subsidiary company or vice versa, if the transferee-company is an Indian company.

4. Acquisition of a property in a scheme of amalgamation, if the transferee-company is an Indian company. Special points The following are special points

1.The benefit of indexation is available from the year in which the current owner first acquired property.

2.To determine whether the asset is short-term or long-term, the period of holding by the previous owner is also considered.

If the Capital Asset was acquired by the assessee (or by the previous owner in the cases given above) before April 1, 1981, the fair market value of the capital asset on April 1, 1981 can taken (at the option of the assessee) as cost of acquisition.

Special points- the following are special points

1. This rule is optional. The assessee may or may not adopt the fair market value on April 1, 1981 as cost of acquisition.

40

2. The option is not available in the case of transfer of following capital assets depreciable assets, goodwill of a business, trade-mark/brand name associated with a business, right to manufacture/produce an article, right to carry on business, route permits and loom hours. If a depreciable assets is transferred , capital gain (loss) shall be calculated only in two case

a. When the written down value of the block of assets on the last day of the previous year becomes zero. b. When the block of assets becomes empty on the last day of the previous year.

Only in these two cases, capital gain (loss) arises on the transfer of a depreciable asset. Cost of acquisition in such case will be the depreciated value of the block of assets on the first day of the previous year plus actual cost of assets (falling in the same block of assets) acquired at any time during the previous year .

Other points capital gain or loss, which arises on transfer of depreciable assets, is always taken as short-term capital gain or loss.

At the time of negotiating transfer of a capital asset, the transferor has forfeited any advance money. It is forfeited because the purchaser could not pay the balance consideration within the stipulated period (or it may be forfeited because of any other non-performance). The advance money so forfeited is deductible from cost of acquisition for calculating capital gain when the asset is ultimately transferred.

Fair Market Value on April 1,1981 If capital is converted into stock-in-trade during a previous year relevant to the assessment year 198586(or any subsequent year), the following special rules are applicable

1. It will be assumed that capital asset is transferred in the year in which conversion taken place. 2. Fair market value of the asset on the date of conversion will be taken as full value of consideration. 3. However, capital gain will not be taxable in the year of conversion. It will be taxable in the year in which stock-in-trade is transferred.

41

Transfer of capital Assets to a firm by way of capital contribution by a partner- It is treated as transfer. The amount recorded in the books of account is taken as full value of consideration.

Distribution of a capital assets by a firm to partners at the time of dissolution- It is treated as transfer. Capital gain is taxable in the hands of the firm. Fair market value of the asset on the date of distribution is taken as full value of consideration.

Compulsory acquisition of a Capital asset- Initial compensation taken as full value of consideration. Capital gains is chargeable to tax in the year in which thie indial compensation is first received. Indexation benefit is however, available up to the year in which the asset is compulsorily acquired.

When additional compensation is received If a court/Tribunal/authority enhances compensation it will be taxable in the year in which enhanced compendation or additional compensation is received. For this purpose cost of acquisition and cost of improvement are taken as nil However, litigation expenses or incidental expenditure for obtaining additional compensation is deductible.

Capital gain on transfer of shares/debentures in the hands of non-residents-If a non-resident acquires shares in, or debentures of an, an Indian Compnay by utilizing foreign currency, the gain will be calculated in the same foreign currency, which was initially utilized in acquiring shares/debentures. After calculating capital gain in foreign currency, it will be converted into Indian Currency. This rule is not optional, it is compulsory. The benefit of indexation is not available.

In the case of transfer of self-generated goodwill of a business right to manufacture/produce an article/thing or right to carry on business the cost of acquisition and cost of improvement are taken as nil. In the case of transfer of self-generated assets being tenancy right route permit, loom hours, trade name or brand name, cost of acquisition is taken as nil. In these cases the option of adopting fair market value on April 1, 1981 is not available. On transfer of any other self-generated asset, capital gain is always zero.

42

If capital asset being goodwill of a business, right to manufacture/produce an article/ thing or right to carry on business, is purchased, then at the time of its transfer, cost of improvement is taken as nil.

If bonus shares were allotted before April 1, 1981 cost of acquisition is the fair market value on April 1,1981. If bonus shares are allotted after April 1, 1981, cost of acquisition is taken as zero.

Amount realized by an existing shareholder by selling rights entitlement (i.e.,right to acquire additional shares in the company at a pre-determined price) is taxable in the year of transfer of the right entitlement. Cost of acquisition of right entitlement is always taken as zero and the capital gain is deemed as short-term capital gain. Conversion is not taken as transfer. Cost of acquisition of debentures/bonds will become cost of acquisition of shares. TO find out whether shares are short-term or long-term capital asset, the period of holding shall be counted from the date of allotment of share. The benefit of indexation is available from the date of allotment of shares.

The cost of acquisition and period of holding any security in demat form shall be determined on the basis of first-in-first-out (FIFO) method. See para 216.

See para 198.

See para 206.

It is taxable on the year in which compensation is received. The amount of compensation will be taken as full value of consideration. However this rule is applicable only when insurance compensation is received because of damage to or destruction of an y capital asset because of-

a. Flood typhoon, hurricane, cyclone, earthquake or other convulsion of nature: b. Riot or civil disturbance; c. Accidental fire explosion;

43

d. Action by an enemy or action taken in combating an enwmy.

If insurance compensation is received in respect of a capital asset because of any other reason, it is not chargeable to tax. If sweat equity shares are allotted during 1999-2000 or on after April 1, 2009, cost of acquisition

Is fair market value on the date of exercise of option. If shares are allotted during April 1, 2007 and march 31, 2009 the fair market value on the date of vesting of option will be cost of acquisition. If shares are allotted before April 1, 2007(Not being during 1999-2000), cost of acquisition will be the amount actually by the employee. See para222.

If the sale consideration is less than the value adopted (or assessable) by stamp duty authority for the purpose of collecting stamp duty, stamp duty value shall be taken as full value of consideration. The transeferor before the stamp duty authorities can challenge stamp duty valuation alternatively it can be challenged before the Assessing officer.

Aggregate amount of exemption cannot exceed the quantum of capital gain

Who can claim exemption

An individual or a Hindu undivided family

Which specific asset is A residential house property (lon-term) eligible for exemption Which asset the taxpayer Residential house property. should acquire to get the benefit of exemption What is time limit for Purchase: 1 year backward or 2 years forward construction: acquiring the new asset 3 years forward How much is exempt Investment in the new asset or capital gain whichever is lower. The new asset should not be transferred within 3 years from the date of acquisition of the new asset.

44

Who can claim exemption

Individual.

Which specific asset is Agricultural land if it was used by the individual or his eligible for exemption parents for agricultural purpose during at least 2 years immediately prior to transfer. Which asset the taxpayer Agricultural land (may be in rural area or urban area). should acquire to get the benefit of exemption What is time limit for 2 year forward. acquiring the new asset How much is exempt Investment in the new asset or Capital gain, whichever is lower. The new asset should not be transferred within 3 years from the date of acquisition of the new asset.

Who can claim exemption

Any Taxpayer.

Which specific asset is Land o building forming part of an industrial undertaking eligible for exemption which is compulsorily acquired by the government and which is used during 2 years for industrial purposes prior to its acquisition. Which asset the taxpayer Land or building for industrial purposes. should acquire to get the benefit of exemption What is time limit for 3 years forward acquiring the new asset How much is exempt Investment in the new asset or Capital gain, whichever is lower. The new asset should not be transferred within 3 years from the date of acquisition of the new asset.

Who can claim exemption

Any taxpayer

Which specific asset is Any long-term capital asset transferred after march 31,2000. eligible for exemption

45

Which asset the taxpayer Bonds of National Highways Authority of India or Rural should acquire to get the Electrification corporation. Maximum investment in one benefit of exemption financial year is Rs. 50 lakh. What is time limit for 6 months forward. acquiring the new asset How much is exempt Investment in the new asset or Capital gain, whichever is lower. The new asset should not be transferred within 3 years. Moreover, the new asset should not be converted into money or any loan or advance should not be taken on the security of the new asset within 3 years from the date of acquisition of the new asset. An individual or a HUF.

Who can claim exemption

Which specific asset is Any long term capital asset (other than a residential house eligible for exemption property ) provided on the date of transfer the taxpayer does not own more than own residential house property (except the new house property given below) Which asset the taxpayer A residential house property should acquire to get the benefit of exemption What is time limit for Purchase:1 years back ward or 2 year forward construction 3 acquiring the new asset years forward How much is exempt

Who can claim exemption

Any taxpayer .

Which specific asset is Land, building, plant or machinery in order to shift an eligible for exemption industrial undertaking from urban area to rural area. Which asset the taxpayer Land, building, plant or machinery in order to shift should acquire to get the undertaking to rural area. benefit of exemption What is time limit for 1 year backward or 3 years forward acquiring the new asset How much is exempt Investment in the new asset or capital gain whichever is lower. The new asset should not be transferred within 3

46

years from the date of its acquisition.

Who can claim exemption

Any taxpayer

Which specific asset is Land, building, plant or machinery in order to shift an eligible for exemption industrial undertaking from urban area to special economic zone. Which asset the taxpayer Land, building, plant or machinery in order to shift should acquire to get the undertaking to any special economic zone. benefit of exemption What is time limit for 1 year backward or 3 years forward acquiring the new asset How much is exempt Investment in the new asset or capital gain whichever is lower. The new asset should not be transferred within 3 years from the date of its acquisition.

Long term capital gains are taxable under section 112 at the rate of 20 percent. The following points should be noted

1. No deduction is available from long-term capital gains under section 80C to 80U. 2. The benefit of exemption limit is available only in the case of a resident individual or a resident Hindu undivided family. 3. In the case of listed security, any unit of UTI/ mutual fund or zero coupon bonds, if indexation benefit is not taken, capital gains will be taxable at the option of the taxpayer at the rate of 10 percent. Securities Transaction tax is applicable it is taxable at the rate of 15 percent under section 111A. deduction is available from such short-term capital gains under sections 80C to 80U. The benefit of exemption limit is available only in the case of a resident individual or a residential Hindu undivided family. Other short term capital gains Taxable just like revenue Income.

MULTIPLE CHOICE QUESTIONS

47

Q1. The following are Indian companies a. b. c. d. an institution declared by the board to be a company under section 2(17); a company established under an act by parliament; Both of the above; None of the above

Q2.an Indian company can never be a non domestic company a. b. True False India

Q3. A company registered in the UK and makes arrangement for payment of dividend in is not a domestic company a. True b false

Q4.a private limited company can never be a company in which the public are substantially interested a. b. True false

Q5. An ltd company is a private limited industrial company in which 40% shares are held by LIC of India. The company is actually controlled by X and his family members who hold 60% shares. A ltd is not a company in which the public are substantially interested A. true B. false

Q.6. An Indian company is said to be resident in India ifa. Control and management of the affairs of accompany is situated wholly in India; b. Control and management of the affairs of a company is situated outside India; c. Control and management of the affairs of a company is situated partly in India and partly in India; d. All of the above.

48

Q7. X ltd., a foreign company manages its affairs partly from India and partly outside India. X ltd. is said to bea. b. c. d. Resident in India; Non-resident in India; Resident and ordinarily resident; Resident but not ordinarily resident.

Q8. In the case of an Indian company, the following incomes are chargeable to taxa. b. c. d. e. Income earned outside India and received outside India; Income earned in India and received in India; Income earned in India but received outside India; Income outside India and received in India; All of the above.

Q9. A Ltd. is a foreign company. It is wholly controlled from UK. It generates income in the UK. However income is deposited by it in the London branch of State Bank of India. Out of which generally 40 per cent is remitted to India. Out of which, generally 40 per cent is remitted to India for the purpose of meeting out operating expenses of its branch situated in Bangalore. Income of A Ltd. deposited in the London branch of state State Bank of India and later on remitted to India is chargeable to tax in Indiaa. True: b. false

49

50

MODULE II : ASSESSMENT OF COMPANIES

SET OFF AND CARRY FORWARD OF LOSSES

A loss can be set off within the same head of income in the financial year subject to the following exceptions 1. Speculative business losses can be set off only against speculative business income. 2. Any loss, computed in respect of any specified business referred to in section 35AD shall not be set off except against profits and gains, if any, of any other specified business. 3. Long-term capital loss can be set off only against long-term capital gains. 4. Long from the activity of owing and maintaining race horses can be set off only against any other income from the activity of owning and maintaining race horses. 5. A loss cannot be set off against winnings from lotteries, betting gambling etc.

Loss under one head of income can be set off against income under any other head of income in the Same financial year subject to the following exception

1. Speculative business losses cannot be set off against any other income. 2. Loss computed in respect of any specified business referred to in section 35AD cannot be set off against any other income. 3. Losses under the head Capital gain cannot be set off against income under other heads of income. 4. Loss from the activity of owning and maintaninigf race horses against any other income. 5. Loss from a business/profession cannot be set off against salary income. 6. A loss cannot be set off against winning from lotteries, betting, gambling etc.

Only the following losses can be carried forward to subsequent year by the person who has incurred loss

1. 2. 3. 4.

House property loss. Loss from business/profession. Loss under the head Capital gains Loss from the activity of owning and maintaining race horses.

51

In the subsequent year, brought forward house property loss can be set off only against income under the head Income from house property. Carry forward is possible only for 8 years.

In the subsequent year, brought forward speculative business loss can be set off only against speculative business income. Carry forward is possible only for 4 years. Moreover income-tax return of the year in which loss is incurred should be submitted on or before the due date of submission of return of income.

Such brought forward loss can be set off in the subsequent year only against income from such business. Carry forward is possible without any time-limit. Moreover, income-tax return of the year in which loss is incurred should be submitted on or before the due date of submission of return of income .

In the subsequent year ,it can e set off against any income except income from salary. Carry forward is possible without any time-limit.

In the subsequent year, it can be set off only against business income. Carry forward is possible only for 8 years. Moreover, income-tax return of the year in which loss in incurred should be submitted on or before the due date of submission of return of income.

Brought forward long-term capital loss can be set off only against long-term capital gains in the subsequent years. Brought forward short-term capital loss can be set off against any capital gain short term of long-term. Carry forward is possible only for 8 years. Moreover, Income tax return of the in which loss in incurred should be submitted on or before the due date of submission of return of income.

See para 200.

PERMISSIBLE DEDUCTIONS FROM GROSS TOTAL INCOME AND TAX LIABILITY

52

These deductions are available from gross total income. Aggregate amount of deductions under section 80C to 80U cannot exceed (gross total income minus short-term capital gain under section 111A minus any long-term capital gain). Deduction under section 80-IA to 80U is admissible in respect of net income computer under the provisions of the Act (i.e. income arrived at at after deducting permissible deductions and adjusting current or brought forward losses.) Deduction under section 80-IA, 80-IAB, 80-IB, 80-IC and 80-ID is not available if return of income is not submitted on or before the due date of submission of return of income. Deduction in respect of profits and gains shall not be allowed under any provisions of section 10A or Section 10AA or section 10B or section 10BA or under section 80H to 80RRB, if a deduction in respect of same amount under any of the aforesaid section has been allowed in the same assessment year. The aggregate deductions under these provisions shall not exceed the profits and gains of the undertaking or units or enterprise or eligible business, as the case may be. No deductions under the above provisions shall be allowed if the deduction has not been claimed in the return of income. For the purpose of claiming deduction under section 35AD or under Chapter VI-A (i.e., Sections 80C to 80U), the transfer price of goods and services between the undertaking (i.e., unit or enterprise eligible for these deductions)has not been claimed in the return of income. Deduction under section 80C is available only to an individual or a Hindu undivided family. Deduction is available on the basis of specified qualifying investments/contributions/deposits/ payments (hereinafter referred to as gross qualifying amount) made by the taxpayer d uring the previous year. Such investment deposit etc. can be made out of taxable income or otherwise. Amount deductible under section 80C cannot be more than Rs. 1lakh. The maximum amount deductible under sections 80C, 80CCC and 80CCD cannot exceed Rs. 1 Lakh

1. Life insurance premium [subject to a maximum of 20% of sum assured] 2. Payment in respect of non-commutable deferred annuity 3. Any sum deducted from salary payable to a government employee for the purpose of securing him a deferred annuity (subject to a maximum of 20% of salary) 4. Contribution (not being repayment of loan) towards statutory provident fund and recognized provident fund. 5. Contribution (not being repayment of loan) towards 15-year public provident fund 6. Contribution towards an approved superannuation fund . 7. Subscription to National saving certificates, VIII Issue. 8. Contribution for participating in the Unit-Linked Insurance plane (ULIP) of unit trust of India 9. Contribution for participating in Unit-Linked Insurance plane (ULIP) of LIC Mutual Fund. 10. Payment for notified annuity plane if LIC or any other insurer. 11. Subscription towards notified units of Mutual Fund or UTI 12. Contribution to notified pension fund set up by mutual fund or UTI

53

13. Any Sum paid (including accrued interest) as subscription to home loan Account Scheme on the National Housing Bank or contribution to any notified pension fund set up by the national Housing Bank. 14. Any sum paid as subscription to any scheme of a. Public sector company engaged in providing long-term finance for purchase/construction on residential house in India (i.e., public deposit scheme of HUDCO ) b. Housing board constituted in India for the purpose of planning development or improvemer of cities/towns 15. Any sum paid as tuition fees (not including any payment towards development fees/ donation payment of similar nature ) whether at the time of admission or otherwise to any university college/educational institution in Indi for full time education of any two children of the assesse. 16. Any payment paid the cost of purchase/construction of a residential property (including repayment of loan taken from government bank co-operative bank, LIC, National Housing Bank, Assessees employer where such employer is public compay/public sector company university/co-operative society ) 17. Amount invested in approved debentures of, and equity shares in a public company engage in infrastructure including power sector or units of a mutual fund proceeds which are utilized for the developing maintaining etc., of a new infrastructure facility. 18. Amount deposited as term deposite for a period of 5 years or more in accordance with a schem framed by the Government. 19. Subscription to any notified bonds of National Bank for Agriculture and Rural Development. (NABARD). 20. Amount deposited under senior citizens saving scheme. 21. Amount deposited in five-year time deposit scheme in post office. Notes I. Interest on NSC will be chargeable to the basis of annual accrual Moreover, the accrue interest for the first 5 years is deemed as re-investment and the same is entitled for deduction under section 80C. Investment/deposits are qualified on payment basis.

II.

Amount paid or deposited under an annuity plan of the LIC of India or any other insurer from receiving pensions, is deductible in the hands of an individual. Amount should be paid or deposited out of income chargeable to tax. Deduction cannot exceed Rs. 1 lakh. Moreover, the aggregate deduction under section 80C, 80CCC and 80CCD cannot exceed Rs.1,00,000.

1. Employees contribution to the notified pension scheme is deductible in the year in which contribution is made. However, no deduction is available in respect of employees contribution which is in excess of 10 percent of the salary of the employee. If contribution is

54

2.

3. 4.

5. 1.

made by a person (other than an employee) no deduction is available in respect of his contribution, which is I exees of 10 percent of his gross total income. Contribution by the employer to the notified pension scheme is deductible in the hands of the concerned employee in the year in which contribution is made. However no deduction is available in respect of employers contribution, which is in excess of 10 percent of the salary of the employee. The aggregate amount of defuction under section 80C, 80CC and 80CCD cannot exceed Rs. 1,00,000. The amounts standing to the credit of the assessee in the pension account for which a deduction has already been claimed by him, and accretions to such account, shall be taxed as income in the year in which such amounts are received by the assessee (or his nominee) on closure of the account or his opting out of the said scheme or on receipt of pension from the annuity plan. If, however, the amount of pension received from the pension account is used for purchasing an annuity plan in the same previous year, then it will be exempt from tax. Salary includes dearness allowance, it the terms of employment so provide, but excludes all other allowances and perquisites. Deduction is available in respect of medi-claim insurance premium (health insurance premium) paid by an individual/Hindu undivided family out of income chargeable to tax. The premium should not be paid in cash.

2. Amount deductible is as follows Premium paid by an individual Premium paid by HUF

Parents of the Individual spouse and Any member individual whether On whose life premium dependent children of family dependent or not should be paid Rs. Maximum deductible amount 15,000 Rs. 15,000 Rs. 15,000

Additional amount which is deductible when policy is take on 5,000 the health of a senior citizen

5,000

5,000

A resident taxpayer (being an individual/Hindu undivided family) can claim deduction under section 80DD if he/it has incurred an expenditure for the medical treatment (including nursing ),

55

training and rehabilitation of a dependent related (being a person with a disability). Deduction can also be claimed if the taxpayer has paid or deposited under any approved scheme of LIC (or any other insurer) or UTI for the maintenance of such dependent relative. A fixed dedication of Rs. 50,000 is available. A higher deduction of Rs. 1 Lakh is available if such dependent relative is suffering from a severe disability. Deduction under this section is available regardless of actual expenditure.

1. A resident taxpayer (being an individual/HUF) can claim deduction under section 80DDB if he/it has actually incurred expenditure for the medical treatment of a specified disease or ailment as prescribed by the Board.

2. Expenditure should be incurred for medical treatment of the assessee himself or wholly/ mainly dependent husband/ wife, children, parents, brothers and sisters of the individual (any member of the family in the case of HUF).

3. The assessee shall have to submit a certificate in the prescribed form a specialist, as may be prescribed, working in a Government hospital. Rs. 40,000 or the expenditure actually incurred, which ever is lower [Rs. 60,000 or actual expenditure, which ever is lower in case of a senior citizen].

Deduction under this section shall be reduced by the amount received, if any under insurance from an insurer, or reimbursed by an employer, for the medical treatment of the person referred to above.

If loan is taken by an individual for any study (i.e., any study after passing senior secondary examination or its equivalent ) from a bank, financial institution or an approved charitable institution, interest is deductible(no monetary ceiling) for the year in which the assessee starts paying interest on loan and subsequent 7 years or until interest is paid in full. Interest is deductible if loan is taken for pursuing his own higher education or for the higher education of his relatives (i.e., spouse, children or any student for whom the individual is the legal guardian). However, interest is paid out of his income chargeable to tax.

Any taxpayer can claim this deduction. Donation to the following is deductible from gross total income (the amount is given in the last column)

56

Done

Maximum

Deduction(as a% of net qualifying amount) (3) 100 50 50 100 100 100 50 50 50 100 100 100 100 100 100 100 100 100 100 100

(1) a. National Defence Fund b. Jawaharlal Nehru Memorial Fund c. Prime ministers Drought Relief Fund d. Prime Ministers National Relief Fund

(2) NA NA NA NA

e. Prime Ministers Armenia Earthquake Relief NA Fund NA f. Africa (Public Contributions-India) Fund g. National Childrens Fund h. Indira Gandhi Memorial Trust i. Rajiv Gandhi Foundation j. National Foundation for Communal Harmony k. An Approved university/educational institution l. Maharashtra chief Ministers Relief Fund NA NA NA NA NA NA

m. Any fund set up set up by the Government of Gujarat for providing relief to victims of NA earthquake in Gujarat NA n. Zila Saksharta Samiti o. National Blood Transfusion Council and state Council for Blood Transfusion p. Fund set up by a state Government for the medical relief to the poor q. Central Welfare Fund of the Army and Air Force and the Indian naval Benevolent Fund r. Andhra Pradesh chiefs ministers cyclone Relief fund s. National illness fund NA NA NA NA NA

t. Chief Ministers Relief Fund or Lieutenant NA

57

Governors Relief Fund u. National Sports fund or national cultural Fund 100 or Fund for Technology Development and NA Application given v. Any other fund any institution which satisfies As 50 below conditions mentioned in section 80G(5) w. Government or any local authority to be utilized for any charitable purpose other than the purpose of promoting family planning x. Any authority constituted in India by (or under)any law enacted either for the purpose of dealing with and satisfying the need for housing accommodation or for the purpose of planning, development or improvement of cities, town and villages, or for both As given 50 below

As given 50 below

given y. Any corporation specified in section 10(26BB) As 50 below for promoting interest of minority community z. Government or any approved local authority, institution or association to be utilized for the purpose of promoting family planning aa. Indian Olympic association or to an institute notified by the central government for the development of infrastructure for sports and games in India (only donation by a company) bb. Any trust institution or fund to which section 80G (5C)applies for providing relief victims of earthquake in Gujarat cc. National trust for welfare of persons with Autism cerebral palsy, mental Retardation and multiple Disabilities As given 100 below As given 100 below

NA

100

NA

100

given 50 dd. Any notified temple, mosque, gurdwara, church As below or other place (for renovation or repair)

Maximum Amount where the aggregate of the sums mentioned in (v),(w)(x)(y)(z)(aa)(dd) supra exceeds 10 per cent of the adjusted gross total income, then the amount in excess of excess of 10 per cent of the adjusted gross total income will be ignored while computing the aggregate of the sums in respect of which deduction is to be allowed.

58

Gross total incomes minus the following is adjusted gross total income

a. b. c. d. e.

Amount deductible under section 80C to 80U (but not section 80G); Such incomes on which income-tax is not payable; Long-term capital gains; Short-term capital gain which is taxable under section 111A at the rate of 15 per cent and Incomes referred to in section 115A, 115AB, 115AC or 115AD.

1. The taxpayer is an individual. 2. The taxpayer is a self-employed person. Alternatively, the taxpayer is an employee but he does not get house rent allowance from the employer at any time during the previous year. 3. The following persons should not own any residential accommodation at the place where the taxpayer resides, performs the duties of his office, or employment or carries on his business or profession a. The taxpayer; b. His/her spouse; c. His/her minor child (including minor step child and minor adopted child); and d. The Hindu undivided family of which the taxpayer is a member . 4. If the taxpayer owns a residential accommodation at a place other the place noted above, then in respect of that house the concession in respect of self-occupied property is not claimed by him. 5. The taxpayer files a declaration in form no. 10BA regarding the expenditure incurred by him towards payment of rent. The amount deductible under section 80GG is the least of the following a. Rs. 2,000 per month; b. 25 per cent of total income; or c. The excess of actual rent paid over 10 per cent of total income. total income for this purpose gross total income minus long-term capital gains, short term capital gains under section 11A, deductions under section 80C to 80U (not being section 80GG) and income under section 115A.

An assessee (other than an assessee whose gross total income includes income chargeable under the head profits and gains of business or profession) is entitled to deduction in the computation of his total income in respect of payment /donations for scientific research or rural development .

59

While computing the total income of an assessee (including an Indian company), any sum contributed during previous year to any political party and/or an electoral trust shall qualify for deduction. However the deduction is not available to a local authority and every artificial juridical person wholly or partly funded by the Government.

Section 80-IA covers the following cases Case 1. Case 2. Case 3. Case 4. Case 5. Case 6. Provision of infrastructure facility. Telecommunication services. Industrial parks. Power generation, transmission and distribution or sub substantial renovation and modernization of existing distribution lines. Undertaking set up for reconstruction of a power unit. A cross-country natural gas distribution network.

AN Indian company can claim this deduction if the following conditions are satisfied 1. It should provide infrastructure facility. The enterprise must carry on the business of (a) developing for (b) maintaining and operating or (c) developing, maintaining and operating any infrastructure facility. 2. The should be an agreement with the central government. 3. It should start operation on or after April 1, 1995. 4. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited Amount of deduction 100 per cent of the profit is deductible for 10 years . the deduction commences from the initial assessment year. What is initial assessment year Intial assessment year, for this purpose , means the assessment year specified by the assessee at his option to be the initial year. But it should not fall beyond the fifteenth of assessment year starting from the previous year. But it should not fall beyond the fifteenth and maintaining the infrastructure facility.

Twentieth if the infrastructure facility is a highway project including housing or other activities being an internal part of the highway project and road including tool road a bridge or

60

a rail system a water treatment system irigation project ,sanitation and sewerage system or solid waste management system.

However, the benefit of deduction is available only for 10 consecutive assessment years falling within a period of fifteenth assessment years beginning with the assessment year in which an assessee begins operating and maintaining infrastructure facility.

Infrastructure facility It meansa. A road including toll road, a bridge or a rail system; b. A highway project including housing or other activities being an intergral part of the highway project; c. A water supply project water treatment system irrigation project, sanitation and sewerage system or solid waste management system; and d. A port airport, inland waterway or inland port or navigational channel in the sea. The following conditions should be satisfied

1. It should be a new under taking. 2. It should not be formed by transfer of old plant and machinery. 3. The under taking should be engaged in providing telecommunication services. It should start providing telecommunication services (whether or cellular including radio paging domestic satellite service or network of turnking broadband network and internet services and electronic data inter-change service) at any time after March 31, 1995 but before March 31, 2005 Domestic satellite for this purpose means a satellite owned and operated by an Indian Company for providing telecommunication service. 4. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Return of income should be audited. Amount of deduction 100 per cent of the profit is deductible in the first 5 years and 30 percent of the profit is deductible in the next 5 years. Deduction start from the initial assessment year Initial assessment year means the assessment year specified by the assessee at his option to be the initial year not falling beyond the fifteenth assessment year starting from the previous year in which the undertaking begins providing telecommunication services.

61

The following conditions should be satisfied

1. It develops, develops and operates or maintains and operates an industrial park or a special economic zone. 2. The industrial park must start operating during April 1, 2006 and March 31, 2011 or the special economic zone must start operating during April 1, 1997 and March 31, 2005. 3. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction If all the aforesaid conditions are satisfied 100 percent of profit is deductible for 10 years commencing from the initial assessment year. Initial assessment year means the assessment year specified by the assessee at his option to be the initial year not falling beyond the fifteenth assessment year starting from the previous year in which the undertaking begins providing telecommunication services. the following conditions should be satisfied-

1. It should be a new undertaking. It should not be formed by transfer of old plant and machinery. 2. the undertaking mush be set up in any part of India for the generation or generation and distribution of power during April 1, 1993 and March 31, 2011. Alternatively, the undertaking should start transmission or distribution at any time between April 1, 1999 and March 31, 2011 Alternatively, it undertakes substantial renovation and modernization of the existing transmissions/ distribution lines between April 1, 2004 and March 31, 2011. 3. deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Book of account should be audited. Amount of deduction If all the aforesaid conditions are satisfied, 100 per cent of the profit is deductible for 10 years commencing from the initial assessment year. Initial assessment year means the assessment year starting from the previous year in which the undertaking generates power or commences transmission or distribution of power.

Twentieth if the infrastructure facility is a highway project including housing or other activities being an integral part of the highway project and road including tool road, a bridge or

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a rail system, a water supply project water treatment system, irrigation project, sanitation and sewerage system or solid waste management system.

The following conditions should be satisfied

1. It should be owned by an Indian company and set up for reconstruction or revival of a power generating plant. 2. It should be formed before November 30, 2005 with majority equity participation by public sector companies for the purposes of enforcing the security interest of the lenders to the company owning the power generating plant and such Indian company is notified before December 31, 2005 by the Central Government. 3. Such undertaking beings to generate or transmit or distribute power before March 31, 2011. 4. Deduction should be claimed in the return of income. Return of income should be submitted. Amount of deduction See Case 1.

1. The undertaking is owned by an Indian company or by a consortium of such companies or by an authority or a board or a statutory corporation. 2. the undertaking has been approved by the petroleum and Natural Gas Regulatory Board and notified by the Central Government. 3. One-third of its total pipeline capacity is available for use on common carrier basis by any person other than the assessee or an associated person. 4. it starts functioning on or after April 1, 2007. 5. It fulfils such other conditions as many be prescribed. 6. the undertaking should not be formed by way of reconstruction or splitting up or by transfer to a new business of old plant and machinery (subject to certain exceptions). 7. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction 100 per deduction will be available for 10 consecutive assessment years out of 15 years beginning from the year in which an undertaking lays and begins to operate the cross-country natural gas distribution network. the following conditions should be satisfied

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1. the taxpayer is a developer of a special economic zone. 2. the gross total income of the taxpayer includes profits and gains derived by an undertaking from any business of developing a special economic zone. 3. Such special economic zone is notified on or after April 1, 2005. 4. Deduction should be claimed in the return of income. return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction 100 percent deduction is available in respect of the aforesaid profit . Deduction is available for 10 consecutive assessment years. The deduction may be claimed, at the option of the taxpayer for any 10 consecutive assessment years out of 15 years beginning from the year in which the special economic zone has been notified by the Central government.

section 80-IB covers the following cases

Case1 Case2 Case3 Case4 Case5 Case6 Case7 -

Business of an industrial undertaking Operation of ship. Hotels Industrial research. Production of mineral Oil. Developing and building housing projects. the business of processing preservation and packaging of fruits or vegetables or integrated handling, storage, and transportation of food grain units. Case8 - Multiple theatres Case9 - Convention centre. Case10 - Operation and maintain a hospital in rural area. Case11 - Hospital located in certain areas. The following conditions should be satisfied

1. it should be a new undertaking. it should not be formed by transfer of old plant and machinery. 2. It should manufacture or produce articles other than non-priority sector items given in the Eleventh Schedule. This condition is however not applicable in the case of small scale industrial undertaking or an undertaking in a backward state.

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3. Manufacture of production should be started within a stipulated time-limit- small scale industrial undertaking during April 1, 1991 and March 31, 2002 industrial undertaking in a backward State during April 1, 1993 and March 31, 2004 in the case of State of Jammu & Kashmir during April 1, 1993 and march 31, 2012 industrial undertaking in a backward state during October 1, 1994 and March 31, 2004 cold chain Facility during April 1, 1999 and March 31, 2004. 4. it should employ 10 workers (where manufacturing process is carried on with the aid of power) or 20 workers(where manufacturing process is carried on without the aid of Power). 5. deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction If the above conditions are satisfied 00 percent of the profit is deductible for the first 5 years and 30 percent (25percent in the case of non-corporate assessee) is deductible for the next 5 years. In the case of asmall scale industrial undertaking deduction is available at the rate of 30 percent (25 percent in the case of noncorporate assessee) for first 10 years. Tax holiday period is 10 years (12 years in the case of a co-operative society).However in the case of an industrial undertaking in a Category B backward district 100 percent tax holiday is available for first 3years and for remaining period of tax holiday the partial deduction of 25 or 30 percent is available. Deduction commences from the previous year in which the industrial undertaking begins to manufacture or produce articles or things, or to operate its cold storage plan or plants. the following conditions should be satisfied

1. A ship should be owned by an Indian company and ve wholly used for the purpose of the business carried on by the assessee. 2. It should not have prior to its acquisitions by the Indian company, been owned and used in Indian territorial waters by a person resident in India. 3. It should be brought into use after march 31, 1991 but before April 1, 1995. 4. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income.. Bok of account should be audited. Amount of deduction 30 percent of profit is deductible for first 10 years. The period of deduction commences from the initial assessment year i.e., THE YEAR IN WHICH THE SHIP IS FIRST BROUGHT INTO USE. The following conditions should be satisfied

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1. The business of the hotel is not formed by the splitting up, or the reconstructing of a business already in existence or by the transfer to a new business of a building previously used as a hotel or of any machinery or plant previously used for any purpose. 2. The business of the hotel is owned and carried on by an Indian Company with a pais up capital of Rs. 5,00,000 or more. 3. The hotel starts functioning (at a place other than Calcutta, Chennai, Delhi and Mumbai) at any time during April 1, 1997 and March 2001. 4. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction If the above conditions are satisfied 30 percent of profit is deductible for the first 10 years . However in the case of an approved hotel located hotel located in hilly area or rural area or a place of pilgrimage or in a notified area the quantum of deduction is 50 per cent for first 10 years. the following conditions should be satisfied

1. the taxpayer is a company registered in India. 2. Such company has scientific and industrial research and development as its main object. 3. it is for the time being approved b the prescribed authority (i.e., Secretary Department of Scientific and Industrial Research). 4. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction 100 percent of profit is deductible. Deduction is available for a period of first 5 years if the prescribed authority approves the company at any time before April 1, 1999. However. if the prescribed authority approves the company ager March 31, 2000 but before April 1, 2007 deduction is available for a period of first 10 years.

The following condition should be satisfied 1. it should be a new undertaking it should not be formed by transfer of machinery of plant previously used for nay purpose.

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2. the undertaking should be located anywhere in India. 3. It should commence production of mineral oil after march 31, 1997 or refining of mineral oil during October 1, 1998 and March 31. 2012 or production of natural gas (in a specified blocks) on or after April 1, 2009. 4. Deduction should be claimed in the return of income. Books of account should be audited. Amount of deduction 100 percent profit is deductible for the first 7 years. the following conditions should be satisfied

1. the project should be approved by a local authority before March 31, 2008. 2. the size of the plot of land is a minimum of one acre. 3. the undertaking commences development and construction of the housing project after September 30, 1998. and it should complete construction within 4 years from the end of the financial year in which the housing project is first approved or before April 1, 2008 whichever is later. 4. the built-up area of the shops and other commercial establishment included in the housing project shall not exceed 5 per cent of the aggregate built-up area of the housing project or 2,000 sq.ft., whichever I less. 5. the built up area of each residential unit should not be more than 1,500sq ft. (1,000sq.ft. in the cities of Delhi and Mumbai and any are within 25 kilometers). 6. Not more than I residential unit should be allotted to the same person. if allotted is an individual, no other residential unit I the housing project should be allotted to the individual;, his/ser spouse minor children, Hindu undivided family, etc. 7. Deduction should be claimed in the return of income return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction 100 percent of the profit of the housing project is deductible.

An undertaking deriving profit from the business of processing preservation and packaging of fruits or vegetables or meat or meat products or poultry/ marine/ dairy products or from the integrated business of handling, storage and transportation of food grains is qualified for deduction at ht rate of 100 percent of the profit for the first 5 years and 30 percent (25 percent in the case of non-corporate assessee) for the next 5 years. Deduction should be claimed in the return of income. Books of account should be audited. the following conditions should be satisfied

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1. Such multiplex theatre is constructed at any time during April 1,2002 and march 31, 2005. 2. The business of the multiplex theatre is not formed by the splitting up or the reconstruction, of a business already in existence or by the transfer to a new business of any building or of my machinery or of plant previously used for any purposes. 3. Such multiplex theatre is not located at a place within the municipal jutisdiction of Kolkata Chennai, Delhi or Mumbai. 4. Deduction should be claimed in the return of income. Return of income should be audited. Amount of deduction 50 percent of profit is deductible for first 5 years. the following conditions should be satisfied

1. such convention centre is constructed at any time during April 1, 2002 and march 31, 2005. 2. The convention centre is not formed by the splitting up, or the reconstruction, of a business already in existence or by the transfer to a new business of any building or of any machinery or plant previously used for any purpose. 3. Deduction should be claimed in the return of income. Return of Income should be submitted on or before the due date of submission of return of income. Books of account should be audited.

Amount of deduction -50 percent of profit is deductible for first 5 years. the following conditions should be satisfied-

1. The assessee owns an undertaking deriving profits from the business of operating and maintaining a hospital in a rural area. 2. Such hospital is constructed at any time during October 1, 2004 and ending on March 31, 2008, for this purpose a hospital shall be deemed to have been constructed on the date on which a completion certificate in respect of such construction is issued by the concerned local authority. 3. The hospital has at least 100 beds for patients. 4. the construction of the hospital is in accordance with the regulations, for the time being in force of the local authority.

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5. Deduction should be claimed in the return of income. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited.

Amount of deduction - 100 percent profil is deductible for the first 5 years. If a few conditions are satisfied, 100 percent profit is deductible for the first 5 years if hospital is situated any where in Inda (bibut other than excluded area i.e., delhi, Mumbai, Kolkata, Chennai. Hyderaba, Bangalore, Ahmedabad, Faridabad, Gurgaon, Ghaziabad, Gautam Budh Nagar, Gandhi Nagar or Sikandrabad. the Hospital should sstart functioning during April 1, 2008 and March 31, 2013. Deduction should be claimed in thereturn of icome. Return of income should be submitted on or before the due date of submission of return of income. books of account should ve audited. the following conditions should be satisfied

1. the industrial undertaking is not formed by splitting up, or the reconstruction of a business already in existence. 2. the industrial undertaking should be set up in Sikkim, Himachal Pradesh, Uttaranchal or in North Eastern State. 3. It should manufacture any article but other than those given in the thirteenth Schedule if it is situated in the industrial zone of the relevant state. in other remaining are, it can manufacture any article given in the Fourteenth schedule. 4. Deduction is available in the case of new industrial undertaking or in the case of completion of substantial expansion of an existing undertaking. these activities should take place in the case of Sikkim during December 23, 2002 and March 31, 2007 in the case of Himachal Pradesh or Uttaranchal during January 7, 2003 and March 31, 2012 and North Eastern State during December 24, 1997 and March 31, 2007. 5. Deduction should be claimed in the return of income. Return of income should be submitted on or before the dure date of sub mission of return of income. Books of account shuld be audited. Amount of deduction 100 percent deduction is available for the first 10 years [however, in the case of Himachal Pradesh or Uttaranchal it is 100 per cent for the first 5 years and 30 percent (25 percent in the case of non-corporate assessee)for the next 5 years.]

The following conditions should be satisfied

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1. the taxpayer is engaged in the business of hotel located in a specified area. alternatively, the taxpayer is engaged in the business of building owning and operatin a convention centre located in specified area 2. the aforesaid business is a new business. It is not formed by the splitting up, or the reconstruction of a business already in existence. It should not be formed by the transfer to a new business of machinery or plant previously used for nay purpose. 3. Deduction should be claimed in the return of icome. Return of income should be submitted on or before the due date of submission of return of income. Books of account should be audited. Amount of deduction 100 percent profit is deductible for the first 5 years. Specified area 2/3/4 star hotel or convention centre in NCR construction should be completed and hotel or convention centre should start functioning during April 1, 2007 and March 31, 2010. Deduction is also available in the case of 2/3/4 star hotel at a world heritage site chamoli Raisen Gaya Bhopal panchmahal kamrup Goalpara nagao north Goa south Goa, Darjeeling and Nilgiri. in the case of world heritage site the hotel should be constructed and started functioning during April 1, 2008 and March 31, 2013. the following condition should be satisfied -

1. The taxpayer begins manufacture or production of goods or undertakes substantial expansion during April 1, 2007 and March 31, 2017 Alternatively the taxpayer has begun to ptovied eligible sevices during April 1, 2007 and March 31, 2017. 2. Deduction under this section is not available in respect of manufacture or production of tambacco pan maslala, plastic, carry bags or less than 20 microns or goods produced by petroleum 3. the aforesaid activity takes place in any North-Eastern States. 4. The aforesaid business is not formed by the splitting up or the reconstruction of a business already in existence. it is nor formed by the transfer to a new business of machinery or plant previously used for any purpose. 5. Deducation should be claimed in the return of income should be submitted on or before the due date of submission of return of icome. Books of account should be audited. Amount of deduction 100 percent profit is deductible for first 10 years.

the following conditions should be satisfied

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1. the taxpayer is in the business of collection processing or treation of bio-degradable waste for generating power or producing bio-fertilizers, bio-pesticides or other biological agents or for producing bio-gas or making pellets or briquettes for fuel or organic manure. 2. Deduction should be claimed in the return of income. Amount of deduction 100 percent profit from the above activity is deductible for first 5 years.

the following conditions should be satisfied 1. the taxpayer is an Indian Company. 2. Income of the taxpayer includes any profits and gains derived from any industrial undertaking engaged in the manufacture or production of article or thing. 3. the industrial undertaking is not formed by splitting up of reconstruction of an existing undertaking or amalgamation with another industrial undertaking. 4. A report from a charterd accountant in form No. 01DA should be taken 5. Deduction should be claimed in the return of income.

Amount of deduction - the amount of deduction is equal to 30 percent of additional wages (i.e. wages paid to new regular workmen in excess of 100 workmen wmployed during the year) paid the new regular workmen employeement is provided. No deduction is however, available if the increasing number of reqular woekmen employed during the year is less than 10 per cent of th sexisting number of workmen employed in the undertakin as on the last day of a preceding year. ta scheduled bank/foreign bank having an offshore banking uit in aspecia; economic zone ; or a unit of International financial services center can claim deduction under section 80 LA if a few conditions are satisfied Amount of deductions 100 per cent of the aforesaid income for 5 year.

the whole of the amount of the profits attributable to specified activities in the case of a co-operation society is allowable as deducting the following conditions should be satisfied

1- the taxpayer is an individual resident in India. 2- he is an author or joint author

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3- the book authored by him is work of literary, artistic or scientific nature however the books shall not include brochures, commentaries, diaries, guides journals magazines, newspaper amphles text books for schools tracts and other publications of similar nature by what ever name called. 4- the gross total income of the taxpayer includes the following a. royalty or copyright fees (payable in jump sum or otherwise ) in respect of aforesaid book (it also includes advance payment which is not returnable ); and 5- the taxpayer shall have to obtain a certificate in form no. 10CCD from the person responsible or paying the income. 6- deduction should be claimed in the return Amount of deduction the amount of royalty is deductible up to Rs. 3 Lakh Moreover for calculating deduction under section 80QDB if rate of royalty is more than 15 percent , the excess amount shall be ignored.

The following conditions should be satisfied

1. 2. 3. 4.

The taxpayer is an individual and resident in India. He is a patentee (he may be a co-owner of patent). He is in receipt of any income by way of royalty in respect of patent, which is registered. The taxpayer shall have to obtain a certificate in Form No. 10CCE from the person responsible for paying the income. 5. Where the eligible income is earned outside India deduction is not available unless such income is brought into India in convertible foreign exchange on or before September 30 of the assessment year. A certificate of foreign inward remittance should be taken in form No. 10H from a prescribed authority (i.e., RBI or an authorized bank). 6. Deduction should be claimed in the return of income . Amount of deduction the amount of royalty is deductible up to Rs. 3 lakh.

The following conditions should be satisfied

1. The taxpayer is an individual. 2. He is resident in India.

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3. The taxpayer suffers 40 percent or more than 40 per cent if any disability (i.e., blindness, low vision, leprosy-cured, hearing impairment, loco motor disability, mental retardation, mental illness). 4. The taxpayer shall have to furnish a copy of the certificate issued by the medical authority. Amount of deduction fixed deduction of Rs. 50,000 is available. A higher deduction of Rs. 1 lakh is allowed in respect of a person with severe disability (i.e., having disability of 80 percent or above.)

TAX PLANNING, TAX MANAGEMENT, TAX AVOIDANCE AND TAX EVASION

1. Over the last eight decades, since the introduction of income-tax, it has been observed that there is a constant struggle between taxpayer and tax collectors, the former trying to reduce (if not negate) their tax liability, and the latter seriously struggling to plug in the loopholes in the statute. 2. To understand the meaning of tax planning, tax avoidance and tax evasion, one can go through the following casesCase1 X is an individual for the assessment year 2010-11 his gross total income is Rs. 12,40000 tax on Rs. 12,40,000 is Rs 2,84,280. to reduce his tax liability there of will be reduced to Rs. 11,70,000 and Rs. 2,62,650 respectively. As the tax liability has been reduced within the legal framework it is tax planning Case2 X Ltd. is a chemical manufacturing company. it has a factory in Haryana near Delhi border. withing th factory campus a piece of land of 2000 square metere is lying unutilized. the company wants to start a new unit ot manufacture computer components. if this manufacturing unit is started in the existing factory campus, deduction under section 80IB, the company starts the new unit a village near jammu. the company has two option. under one of the options deduction under section 80-IB is not available. However, this deduction is available under the other option. TO get the benefit of deduction under section 80-IB the new unit has been started in jammu & Kashmir. As the tax liability has been reduced to get benefit of deduction available under the income-tax, it is tax planning. Case3 Suppose in Case2, the process of manufacturing actually takes place in Haryana. to get the benefit of deduction under section 80-IB, the company takes a factory building on rent in a villagein jammu and only on paper it is shown that the new manufacturing unit is situated in a village near jammu. as the company wants to reduce the tax liability by making incorrect statement about the location of manufacturing process it is tax evasion.

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Case4 If Rs. 50,000 is gifted by a husband to his wife, income generated therefrom is taxable in the hands of husband under the clubbing provisions of section 64(i) section 64(1) is not applicable if gift is made by same person out of the funds ofhis hindu undivided family in capacity as karta of the family. If gifts is made by karta of the family to his wife, clubbing provisions can e avoided and ultimate tax liability will be reduced, however the tax liability will be reduced by taking the help of a loophole in the law bur within the legal framework. it is tax avoidance. 3. Tax planning can be defined as an arrangement of ones financial and economic affairs by taking complete legitimate benefit of all deductions exemptions, allowances and rebates so that tax liability reduces to minimum essential features of tax planning it comprises arrangements by which tax laws are fully complied. all legal obligations and transactions (both individually and as a whole) are met. Transactions donot take the form of colourable devices there is not intention to deceit the legal spirit behind the tax law. 4. the line of demarcation between tax planning and tax avoidance is very thin and blurred. the English courts about eight decades ago recognized the right of a taxpayer to resort to the legal method of tax avoidance. it is well settled that it is unconstitutional for the government to attempt payment outside the legal framework as he renders himself liable for prosecutions as a tax evader. tax avoidance is reducing or negating tax liability in legally permissible ways and has legal sanction Essential features of tax avoidance are as under Legitimate arrangement affairs in such a way so as to minimize tax liability. Avoidance of tax is not tax evasion and carries not public disgrace with it. an act valid in law cannot treated as fictitious merly on the basis of some underlying motive supposedly resulting in lower payment of tax to authorities. there is not element of mala fide motive involved in tax avoidance. Over an over again the courts have said that there is nothing sinister in so arranfing ones affairs as to keep taxes as low as possible. tax avoidance is ound law and certainly not bad morality for any body to so arrange his affairs in such a way that the brunt of taxation is the minimum. this can be done within the legal framework even by taking help of loopholes in the law. if on account of lacuna in the law or orherwise the assessee is able to avoid a payment of tax within the letter of law, it cannot be said that the action is void because it is intended to save payment of tax so long as the law exists in its present form the taxpayer is entitled to take its advantage. The above meaning of tax avoidance has also now acquired the judicial blessings of the supreme court of India in Union of India v. Azadi Bachoo Andolan[2003]263 ITR 706/132 Taxman 373,whichreversed the findings in its earlier judgment in McDowell & co. Ltd. v.

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CTO[1985]154 ITR 148/122 Taxman 11 as legally incorrect. If a court finds that not withstanding a series of legal steps taken by as an assessee in case the intended legal result has not been achieved, the court might be justified in overlooking the intermediate steps but it would not be permissible for the court to treat the intervening legal steps as fictitious based upon some hypothetical assessment of the real motive of the assessee the court must deal with what is tangible in an objective manner. In other words, an act which is otherwise valid in law cannot be treated as fictitious merely on the basis of some underlying motive supposedly resulting in some economic detriment or prejudice to the national interests. A transaction or arrangement which is perfectly permissible under law and has the effect of reducing the tax burden of the assesse. should not be looked upon with disfavor. 5. All methods by which tax liability is illegally avoided are termed as tax evasion. An assessee guilty of tax evasion may be punished under the relevant laws. Tax evasion may involve stating an untrue statement knowingly submitting misleading document, suppression of facts not maintaining proper accounts of income earned (if required under law) omission of material facts on assessment. All such procedures and methods are required by the statute before complying with the said abidance by making false statement would be within the ambit of tax evasion. 6. A Person may plan his finances in such a manner strictly within the four corners of the taxing statute that his tax liability is minimized or made nil. if this is done and as observed strictly in accordance with an taking advantage of the provisions contained in the Act, by no stretch of imagination can it be said that payment of tax has been evaded for. in the contest of payment of tax evasion necessarily means to try illegally to avoid paying tax CIT v Sri Abhaynanda Rath Family Benefit Trust [2002 ]123 Taxman 81 (Ori) 7. Tax management involves the procedures of compliance with the statutory provision of law the following are the board area of distinction between tax planning and tax management. Tax planning the objective of tax planning is to reduce the tax liability to the minimum. tax planning is futuristic in its approach, tax planning is very wide in its coverage and includes tax management . the benefits arising from tax planning are substantial particularly in the long term, Tax management 1. the objective of tax management is to comply with the provision of law. 2. tax management relates to past , present and future 3. tax management has a limited scope . 4. As a result of effective tax management penalty penal interest prosecution etc, can be avoided.

1.

2. 3.

4.

8. The following are the broad areas of distinction the two: Tax avoidance

Tax evasion

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1. Any planning of tax which aims at reducing or negating tax liability in legally recognized permissible ways, can be termed as an instance of tax avoidance. 2. tax avoidance takes into account the loop holes of law. 3. tax avoidance is tax hedging with in the framework of law . 4. Tax avoidance has legal sanction 5. Tax avoidance is intentional tax planning before the actual tax liability arises.

1. All methods by which tax liability is illegally avoided is termed as tax evasion. 2. tax evasion is an attempt to evade tax liability with the help of unfair means/method. 3. Tax evasion is tax omission 4. tax evasion is unlawful and an assessee guilty of tax evasion may be punisher under the relevant laws. 5. tax evasion is international attempt to avoid payment of tax after the liability to tax has arisen.

COMPANY [SEC 2(17)]

16.

Under section 2(17) the expression company is defined to mean the following: a. any Indian company b. Anybody corporate incorporated under the laws of a foreign country; or . c. Any institution, association or a body which is assessed/assessable as a company for any assessment year commencing on or before April 1, 1970; or d. Dandy institution, association or a body, whether incorporated or not and whether Indian or non-Indian, which is declared by general or special order of the central board of direct taxes to be a company.

INDIAN COMPANY [SEC2 (26)]

17. An Indian company means a company formed and registered under the companies act, 1956. Besides, it includes the following: a. a company formed and registered under the law relating to companies formerly in force in any part of India other than the state of Jammu and Kashmir and the union territories specified in (e) infra b. a corporation established by or under a central, state or provincial Act; c. any institution, association or body which is declared by the board to be a company under section 2(17) d. a Company formed and registered under any law in force in the state of Jammu and Kashmir; e. a company formed and registered under any law for the time being in force in the union territories of dada and nagar haveli, goa, Daman Diu and Pondicherry

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. 18. domestic company means an Indian company or any other company which in respect of its income liable to tax under the act ,has made prescribed arrangements for the declaration and payment of dividends within India in accordance with section 194. In other words, the definition of domestic company is made of two limbs, viz (1) it is an Indian company, and (2) it is any other company which in respect of its income liable to tax under the income tax act, has made the prescribed arrangements for declaration and payments within India, of dividends payable out of such income. In other words if a company is an Indian company it will automatically be considered as a domestic company. In case of any other company, in order to become the domestic company it is essential that the said other company may have made the prescribed arrangement for the declaration and payments within India of dividends out of such income. The second limb of the definition of the domestic company may even apply to the foreign companies.

The condition regarding the arrangements to be made for declaration and payment of dividends in India is required to be fulfilled by companies other than the Indian companies.

DOMESTIC COMPANY 18.1 Three requirements are to be satisfied cumulatively by a company before it can be said to be a company which has made the necessary arrangements for declaration and payment of dividends in India, within the meaning of section 194. 1. The share register of the company for all shareholders should be regularly maintained at its principal place of business in India, in respect of any assessment year, atleast from April 1 of the relevant assessment year. 2. The general meeting for passing of accounts of the relevant previous year and for declaring dividends in respect thereof should be held only at a place within India. 3. The dividends declared, if any, should be payable only within India to all shareholders.

FOREIGN COMPANY

19. Foreign company means a company which is not a domestic company.

INDUSTRIAL COMPANY

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20. Industrial company means a company which is mainly engaged in the business of generation or distribution of electricity or any other form of power or in the construction of ships or in the manufacture or processing of goods or in mining. A company is deemed to be mainly engaged in the business of generation or distribution of electricity or any other form of power or in construction of ships or in the manufacture or processing of goods or in mining, if the income attributable to nay in or more of the aforesaid activities, included in its total income of the previous year is not less than 51% of such total income. However, the board defines industrial company as:

a. a company which is mainly engaged in the business of generation or distribution of electricity or any other form of power or in the construction of ships or in the manufacture or processing of goods or in the mining, even if its total income from such activities is less than 51% of its total income; and

B. a company which even though not mainly so engaged, derives in any year 51% or more of its income from such activities.

20.1 The following activities are held as manufacture or processing of goods on the basis of judicial pronouncements:

Book publishing Mixing different types of tea to arrive at a desired blend Manufacture and selling of carpets but having a major source of income from sale of import entitlement Production of cinematographic films Tailoring clothes Conversion of computer cash vouchers, invoices, etc, into balance sheet, stock accounted. Sorting out.washing,drying and blending wool Undergoing a change in a commodity as result a new and distinct commodity emerges.

COMPANY IN WHICH ARE PUBLIC ARE SUBSTANTIALLY INTERESTED 21. A company registered as a company in which public is substantially interested in the following cases where:

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1. Owned by government/RBI- a company owned by government or the reserve bam or in which not less than 40% shares are held by the government or the reserve bank or a corporation owned by the reserve bank.

2. Section 25 companies- a company registered under section 25 of the companys act 1956 namely companies for promotion of commerce, art, science, religion, charity and prohibiting the payment of any dividends to its members.

3. A company without share capital- a company having no share capital and declared by the central board of direct taxes to be a company in which public are substantially interested.

4. Nidhi or mutual benefit society- a company which carries on as its principal business the business of acceptance of deposits from its members and which is declared by the central government under section 620A of the companies act to be a nidhi or mutual benefit society.

5. Company owned by a cooperative society- a company in which shares carrying not less than 50%of the voting power having been allotted unconditionally to or acquired unconditionally by and are throughout the relevant previous year held by one or more cooperative society.

6. Listed companies- a company which is not a private company and its equity shares as on last date of the last previous year have been listed on a recognised stock exchange in India.

7. Public limited company owned by government and/ or a widely held company- a company which is not a private company and its shares carrying 50% of the voting power have been allotted unconditionally to, or acquired unconditionally by and were throughout the relevant previous year beneficially held by

I) the government company ii) A statutory corporation

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iii) A company in which the public are substantially interested or any wholly owned subsidiary company.

21.1 If a company is composed mostly of family members owning lions share in share capital, the onus to prove that it is a company in which public are substantially interested will be on the assessee.

INVESTMENT COMPANY

22. Investment company means a company whose gross total on come consists mainly of income which is chargeable under the heads income from the house property, capital gains and income from other sources.

WIDELY HELD COMPANY

23. A Company in which public are substantially interested is known as widely held company.

CLOSELY HELD COMPANY

24. A Company in which public are not substantially interested is known as closely held company.

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MULTIPLE CHOICE QUESTIONS

Q1. An Indian company is said to be resident in India ife. Control and management of the affairs of accompany is situated wholly in India; f. Control and management of the affairs of a company is situated outside India; g. Control and management of the affairs of a company is situated partly in India and partly in India; h. All of the above. Q2. X ltd., a foreign company manages its affairs partly from India and partly outside India. X ltd. is said to bee. f. g. h. Resident in India; Non-resident in India; Resident and ordinarily resident; Resident but not ordinarily resident.

Q3. In the case of an Indian company, the following incomes are chargeable to taxf. g. h. i. j. Income earned outside India and received outside India; Income earned in India and received in India; Income earned in India but received outside India; Income outside India and received in India; All of the above.

Q4. A Ltd. is a foreign company. It is wholly controlled from UK. It generates income in the UK. However income is deposited by it in the London branch of State Bank of India. Out of which generally 40 per cent is remitted to India. Out of which, generally 40 per cent is remitted to India for the purpose of meeting out operating expenses of its branch situated in Bangalore. Income of A Ltd. deposited in the London branch of state State Bank of India and later on remitted to India is chargeable to tax in Indiab. True: b. false

CARRY FORWARD AND SET-OFF OF LOSSES IN THE CASES OF CERTAIN COMPANIES [SEC. 79]
40. In the case of companies in which the public are not substantially interested, loss will not be carried forward and set off unless the shares of the company carrying not less than 51 per cent of the voting power were beneficially held by the same person(s) both on the last day of the previous year in which brought forward loss is sought to be set off. Section 79 is applicable if the following conditions are satisfied-

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Condition 1: the taxpayer is a company in which the public are not substantially interested. Condition 2: the persons beneficially holding 51 per cent of the voting power on the following two dates are different: a) On the last day of the previous year in which the loss was incurred; b) On the last day of the previous year in which the company wants to set off the brought forward loss. If the above two conditions are not satisfied, brought forward loss cannot be set off. If, however, after change in its shareholding, the assessee becomes a 100 per cent subsidiary of a company in which the public are substantially interested, then the provisions of section 79 would not be applicable- classis shares & stock broking services ltd v. CIT[2007] 11 SOT 377 (Mum.).

EXCEPTIONS
40.1 The aforesaid rule of section 79 is not applicable in the following cases-

TRANSFER BY GIFTS TO RELATIVE

40.1-1 where a change in the voting power takes place in a previous year consequent upon the death of a shareholder or on account of shares by way of gifts to any relative of the shareholder making such gifts, the aforesaid restriction contained under section 79 will not be apply.

CARRY FORWARD OF DEPRECIATION, CAPITAL EXPENDITURE ETC 40.1-2 The provisions of section 79 discussed in para 40 are applicable only in the case of carry
forward of losses. As carry forward of unabsorbed depreciation allowance, capital expenditure on scientific research or family planning stands on altogether different footings, their carry forward and set off are not governed by section 79.

AMALGAMATION/ DEMERGER OF FOREIGN HOLDING COMPANY:

40.1-3 section 79 shall not only apply to any changes in the shareholding of the Indian company which is subsidiary of a foreign company arising as a results of amalgamation or demerger of the foreign company subject to the condition that 51 per cent of the shareholders of the amalgamation or demerged foreign company continue to remain the shareholders of the amalgamated or the resulting foreign company. CASE STUDIES:

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40.P1 X and Y are two shareholders of Z Ltd., a closely held company. X holds 55 per cent share capital. On January 30, 2009, X transfers his shares to A. Z Ltd. Wants to set off brought forward loss of Rs. 4,00,000 ( business loss: Rs. 1,00,000; unadjusted depreciation : Rs. 3,00,000) of the previous year 2007-08 against the income of previous year 2008-09 (i.e., Rs. 9 lakh). Can it do so? Answer: Z Ltd is a company in which the public are not substantially interested and in which shareholders having 51 per cent voting right on march 31, 2009 are not the same. Consequently, section 70 is applicable. Unadjusted depreciation can be set off but not brought forward loss. Income of previous year 2008-09 will be Rs.6 lakh (i.e., Rs. 9 lakh - Rs. 3 lakh). CASE STUDY: 40.P2 XYZ(P) Ltd. Is a company which was started on April 1, 1999 and in which there are only equity shares. The shares are held throughout by X,Y and Z equally. The company has made losses/profits in the past as under and the same have been accepted in the income-tax assessments: Assessment Year Business loss Rs. Unabsorbed depreciation Rs. Total Rs.

2005-06 Nil 30,00,000 30,00,000 2006-07 Nil 18,00,000 18,00,000 2007-08 9,50,000 8,70,000 18,20,000 Total 9,50,000 56,70,000 66,20,000 During the previous year ended March 31, 2008, transferred his shares to P and during the previous year ended March 31, 2009; Y transferred his shares to Q. During the previous year ended March 31, 2008, the company made a profit of Rs. 12,00,000 ( before debiting Rs. 6,00,000 for depreciation) and during the previous yr ended March 31, 2009, the company made a profit of Rs. 80,00,000 (before debiting Rs. 5,00,000 for depreciation). Compute the taxable income of the company for the assessment year 2009-10. Workings should form part of your answer.

ANSWER: X, Y and Z are three shareholders in XYZ (P) Ltd. The shareholding pattern of the company on March 31, 2007, March 31, 2008 and March 31, 2009 are as follows: March 31, 2007 March 31, 2008 March 31, 2009 X 33.33% Y 33.33% 33.33% Z 33.33% 33.33% 33.33% P 33.33% 33.33% Q 33.33%

As evident from the data given above, shareholders having at least 51% of the voting power on the March 31, 2007 and March 31, 2008 are the same. Consequently, the restriction imposed by section 70 is not applicable. Income for the assessment year 2008-09 will be determined as under:

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Business profit 12,00,000 Less: Current depreciation 6,00,000 Balance 6.00,000 Less: Brought forward business loss of the assessment year 2007-08 6,00,000 Net income nil The assessee can carry forward the unabsorbed depreciation (i.e., Rs. 3, 50,000 of earlier years. Shareholders holding 5 per cent of the voting right on march 31, 2007 and march 31, 2009 are not applicable and business loss of the assessment year. Consequently, the restriction imposed by section 79 is applicable and business loss of the assessment year 2009-10. However, in the given problem unabsorbed depreciation of Rs. 56,70,000 pertaining to the assessment year 2007-08 and earlier years can be set off against the income of the assessment year 2009-10, as section 79 is not applicable in the case of carry forward of unabsorbed depreciation. Consequently, income of the assessment year 200910 will be determined as under: Rs. Business profit 80,00,000 Less: current depreciation 5,00,000 75,00,000 Less: unabsorbed depreciation 56,70,000 Net income 18,30,000 The unadjusted business loss of Rs. 3,50,000 cannot be set off against the above income, as per section 79 provisions are applicable. CASE STUDY: 40.P3 suppose in problem 40-P2, Y and Q are relatives and shares are transferred by Y to Q by way of gift during the previous year ending March 31, 2009. ANSWER; Section 79 is if not applicable if shareholding changes due to death of shareholder or gift of shares to a relative. Consequently, brought forward business loss of Rs. 3,50,000 can be set off against the income of Rs. 18,30,000 [ net income of the assessment year 2009-10; Rs. 14,80,000 (i.e., Rs. 18,30,000- Rs. 3,50,000]. . TAXABLE INCOME- HOW COMPUTED 41. It is determined as followsa) First ascertain income under the different heads of income. b) Income of other persons may be included in the income of the company under sections 60 and 61. c) Current and brought forward losses should be adjusted according to the provisions of sections 70 to 80. Provisions of sections 79 regarding set off and carry forward of losses of closing held companies are given in para 40. d) The total of income computed under different heads is the gross total income.

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e) From the gross total income so computed, the following deductions are permissible under sections 80C to 80USection Nature of deduction 80G Donations to charitable institutions and funds 80GGA Donations for scientific research or rural development 80GGB Contribution to political parties 80-IA Profits and gains from industrial undertaking engaged in infrastructure, etc. 80-IAB Profits and gains by an undertaking or enterprise engaged in development of Special Economic Zone. 80-IB Profits and gains from certain industrial undertakings other than infrastructure development undertakings 80-IC Profits and gains of certain undertakings in certain States 80-ID Profits of hotels and convention centres 80-IE Profits of undertaking in North Eastern States 80-JJA Profits from the business of collecting and processing of bio-degradable waste 80-JJAA Employment of new workmen 80-LA Income of Offshore Banking Units f) The resulting sum is net income.

TAX LIABILITY- HOW COMPUTED

42. tax liability of a company is calculated as follows Computation 1- under normal provisions Step 1- Find out taxable income under normal provisions. Step 2- Find out income tax at the rate of 30 per cent (40 per cent in the case of a foreign company) of income computed under (1) supra. There is no exception limit. Step 3- Add surcharge at the rate of 10 per cent of (2) [2.5 per cent in the case of a foreign company], if net income exceeds Rs. 1 crore. Computation 2- under minimum alternate tax Step 8- Find out book profits.

Step 9- Find out 15 per cent (10 per cent for the assessment years 2007-10) of book profits.

Step 10- Add surcharge at the rate of 10 per cent [2.5 per cent in the case of foreign company] of (9), if book profits exceed Rs. 1 crore. Step 11- Find out (9) + (10) Step 12- Add education cess at the rate of 2 per cent of (11) and secondary and higher education cess at the rate of 1 per cent of (11). Step 13- Find out (11) + (12)

Step 4- find out (2) + (3) Step 5- Add education cess at the rate of 2 per cent of (4) and secondary and higher education cess at the rate of 1 per cent of (4). Step 6- Deduct tax rebate or tax credit under sections 86, 90, 90A and 91

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Step 7- find out (4) + (5) (6) [it cannot be less than zero] Tax liability of a company is (7) or (13), whichever is more.

MINIMUM ALTERNATE TAX [SEC. 115JB]

43. These provisions are as followsFind out the normal tax liability ignoring provisions of minimum alternate tax[ step 7in the given under para 42]. Find out book profits [see para 43.2] Find out minimum alternate tax [step 13 of the table given under para 42]. If tax computed at the step 7 is more than ( or equal to) tax computed at step 13. The provisions of minimum alternate tax are not applicable.

WHEN APPLICABLE
43.1 If tax computed the step 7 is less than tax computed at step 13, the provisions of minimum alternate tax are applicable as follows1. It will be assumed that book profits of the company is taxable income. 2. 15 per cent of book profits [+ surcharge + education cess + secondary and higher education cess] is tax liability of the company [i.e., step 13 in the table given under para 42]. 3. Tax computed at step 13 is the minimum alternate tax which the company is liable to pay. 4. The extra tax which the company has to pay because of minimum alternate tax [i.e., step 13 minus step 7] will be available for tax credit under section 115AA. Tax credit (i.e., step 13 minus step 7) can be set off against future tax liability of the company subject to a few conditions. However, tax credit is available only in that year which tax computed at step 7 is more than tax computed at step 13 [for provisions of tax credit, see para 43.5].

BOOK PROFIT
43.2 net profits as per profits and loss account (after adjustments) is book profit.

ASSESSING OFFICERS POWER TO ALTER NET PROFIT

43.2-1 Only in the following two cases, the Assessing Officer can rewrite the profit and loss accountI. If profit and loss account is not prepared according to the Companies Act- if it is discovered that the profit and loss account is not drawn up in accordance with the provisions of Part 2 and 3 of the schedule to the companies act, the assessing officer can recalculate the net profit. If there is no allegation of fraud or misrepresentation but

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II.

only o difference of opinion as to the account or in the balance sheet, the provisions of section 115JB do not empower the Assessing Officer to disturb the profits as shown by the assessee. If accounting policies, accounting standards at rates or method of depreciation are different- the accounting policies, the accounting standard adopted for preparing such accounts, the method and rates of depreciation which have been adopted for preparation of profit and loss account of computing book profit under section 115JB. Some companies follow an accounting year under the Companies Act which is different from financial year (i.e., previous year ending March 31) under the incometax Act. These companies generally prepare two sets of accounts- one for the Companies Act and another for the income-tax act. Different accounting policies/standards, method or rate of depreciation are adopted in two sets of account so that higher profits is reported to shareholders and lower profit is disclosed to tax authorities. To curb the aforesaid practice, it has been provided that accounting policies, accounting standards, depreciation method and rates of depreciation for two sets of account shall be the same. In case it is not so, the Assessing Officer can recalculate net profit after adopting the same accounting policies, accounting standards and depreciation methods and rates which have been adopted for reporting profits to shareholders.

ADJUSTMENTS TO NET PROFIT TO CONVERT IT INTO BOOK PROFIT

43.2-2 Net profits as shown in profits and loss account shall be adjusted as follows-

Barring the adjustment given below, no other adjustment is permitted by law. None of the adjustment given below provides foe the increase or decrease of the book profits by extraordinary items- Gulf Oil Corpn. Ltd v. CIT[2008] 111 ITD 124(Hyd.).

Likewise, none of the adjustments given below provides for adjustment in respect of expenses on prior period/ extraordinary items, which are business expenditure, but have been shown separately in profits and loss account due to specific requirement of Accounting Standards prescribed by the Institute of Chartered Accountant of India- CIT v. Khaitan Chemicals and Fertilizers Ltd.[2008] 175 Taxman 195(delhi)

POSITIVE ADJUSTMENTS- net profits as shown in profits and loss account (prepared in accordance with the provisions of Part 2 and 3 of the Sixth Schedule to the Companies Act) is to be increased by the following amounts if debited to the profits and loss account:

87

88

Amount to be added back if debited to profit and loss account 1. Income-tax paid or payable and the provisions therefore.

Comments Income-tax, interest under the income-tax Act, dividend tax under section 115-O, distribution tax under section 115R including surcharge, education cess and secondary and higher education cess if debited to profits and loss account shall be added back. No adjustment is required in respect of the following taxes (including interest, penalty, fine, surcharge etc.)- Securities transaction tax, fringe benefit tax, wealth tax, indirect taxes. Moreover, no adjustment is required in respect of penalty/fine under the Income-tax Act. No adjustment is required in respect of reserve created under section 35AC with effect from the assessment year 2003-2004.

2. Amounts carried to any reserves, by whatever name called. 3. Amount or amounts set aside to provisions made for meeting liabilities, other than ascertained liabilities. 4. Amount by way of provision for losses of subsidiary companies. 5. Amount or amounts of dividends paid or proposed. 6. Amount of expenditure relatable to any exempt income (if such income is not subject to minimum alternate tax) 7. The amount of depreciation. 8. Amount of deferred tax and the provisions therefore and the amount set aside as provision for diminution in the value of any asset

Expenses pertaining to income given under point10 below, if debited to profit and loss account, shall be added back. Inserted with retrospective effect from the assessment year 2001-02

NEGATIVE ADJUSTMENTS- Net profits as shown in the profit and loss account is to be reduced by the following amounts: Amounts to be deducted from net profits 9. Amount withdrawn from reserves or provisions, if any such amount is credited to profit and loss account 10. Income exempt from tax Comments See para.2-2d43.2-2a

The following income, if credited to profit and loss account shall be deducteda) Long-term capital gain exempt under section 10(38) for the assessment years 2005-06 & 2006-07; b) Income exempt under section 10(23G) up to the assessment year 2004-05; c) Income exempt under other clauses of

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11. Depreciation (other than because of revaluation of assets) debited to profit and loss account 12. Amount withdrawn from revaluation reserve credited to profit and loss account to the extent it does not exceed the amount of depreciation on account of revaluation of assets. 13. Amount of loss brought forward or unabsorbed depreciation, whichever is less, as per books of account 14. Amount of profit eligible for deduction under sections 80HHC, 80HHE & 80HHF 15. Profits of sick industrial unit 16. The amount of deferred tax, if any such amount is credited to profit & loss account

section 10; d) Income exempt under sections 10A & 10B up to the assessment year 2007-08 e) Income exempt under section 11 & 12. The above incomes are not subject to minimum alternate tax. Moreover, there is no minimum alternate (a) in respect of income arising after march 31, 2005 from special economic zone to a developer or entrepreneur, and (b) income of shipping companies subject to the provisions of tonnage income. See para43.2-2d

See para43.2-d

See para43.3-2c

This adjustment does not have any practical utility now-a-days. See para43.3-2c Inserted with the effect from the assessment year 2001-02

RESERVES CREDITED TO PROFITS AND LOSS ACCOUNT

43.2-2a The amount withdrawn from reserves and credited to profit and loss account shall be reduced as followsa) The amount withdrawn from any reserve created before April 1, 1997 otherwise than by way of debit to profit and loss account, shall not be reduced from the book profits; and b) The amount withdrawn from any reserves or provisions created on or after April 1, 1997, which are credited to profit and loss account, shall not be reduced from the book profits, unless the book profits were increased by the amount transferred to such reserves or provisions in the year of creation of such reserves (out of which the said amount was withdrawn).

BROUGHT FORWARD LOSS/ DEPRECIATION

43.2-2b section 115JB provides that in computing book profit, the amount of loss brought forward or unabsorbed depreciation, whichever is less as per books of account, shall be reduced from net profit.

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Adjustment only when there is unadjusted loss before depreciation as well as unabsorbed depreciation pertaining to earlier years- For this purpose, loss does not include depreciation and, therefore, in case where an assessee has shown profit in a year, but after adjustment of depreciation, it results in loss, no adjustment in book profit is allowed. In other words, where a company does not have both brought forward losses (before depreciation) and unabsorbed depreciation but has only one of them, nothing is deductible, since one of the two figures is nil. The table below highlights the above provisions-

Case 1 Case 2 Case 3 Case 4 Case 5

Brought forward loss before depreciation as per books of account -40 -30 -25 0 +5

Brought forward depreciation as per books of account -10 -40 0 -10 -70

Brought forward loss after depreciation as per books of account -50 -70 -25 -10 -65

Amount to be deducted from net profit to convert it into book profits 10 30 0 0 0

Consolidated loss and depreciation for earlier years in totality to be considered- The reference to the amount of brought forward loss or unabsorbed depreciation, whichever is less shows the intention of the legislature for considering one consolidated figure of brought forward loss or unabsorbed depreciation for the earlier years in totality and not on year to year basisAmline Textiles Pvt. Ltd. V. ITO [2009] 27 SOT 155(Mum). Adjustment is required even if deduction is not permissible under the income-tax Act In arriving at book profit, lower of amount of brought forward loss or unabsorbed depreciation which is appearing in books of account of assessee has allowed, irrespective of the fact whether or not the same is allowable under other provisions of the income-tax Act- Fascel Ltd. V. ITO[2008] 117 TTJ (Ahd.) 891.

PROFIT OF SICK INDUSTRIAL UNDERTAKING

43.2-2c Profits of the sick industrial undertaking is not subject to the provisions of minimum alternate tax. Consequently if such profit appears in the profit and loss account, it shall be deducted from net profit to find out book profit. This adjustment is required only in respect of the amount of profits of sick industrial company for the assessment yeara. Commencing from the assessment year relevant to the previous year in which the said company has become a sick industrial company under section 17(1) of the Sick Industrial Companies (special Provisions) Act, 1985; and

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b. Ending with the assessment year during which the entire net worth (i.e., paid-up capital plus free reserves) of such company becomes equal to or exceeds the accumulated losses. Free reserves for this purpose means all reserves created out of the profits and share premium account but does not include reserves credited out of revaluation of assets, write back of depreciation provisions and amalgamation.

DEPRECIATION
43.2-2d Depreciation debited to profit and loss account shall be added back. However, depreciation (not being depreciation which arises because of revaluation of assets) shall be deducted. The cumulative impact of the addition and deducted is that book profit will be increased by depreciation (pertaining to revaluation of assets). Some relief is available if there is a withdrawal from the revaluation reserve account and it appears on the credit side of the profit and loss account. Provisions illustrated- Profit and loss account of 5 companies are given below(Rs. In lakhs) Debit side Purchase Depreciation (normal) Depreciation (because of revaluation) Other expenses A 37 6 4 B 37 6 4 C 37 6 4 D 37 6 4 E 37 6 0 Credit side Sales Withdrawal from reserve (1) Withdrawal from reserve (2) Withdrawal from revaluation reserve A 90 10 9 B 90 10 9 C 90 10 9 D 90 10 9 E 90 10 9

11

11

Net profit

57 61 58 68 72 109 113 110 120 120

109 113 110 120 120

Reserve (1) was initially created on January 3, 1998 by debiting profit and loss account. However, reserve (2) was initially created on April 2, 1990 without debiting profit and loss account. Computation of book profitAdjustment A no. 57 (7) 10 B 61 10 C 58 10 D 68 10 E 72 6

Net profit as per P&L account Add: depreciation debited to P&L account (totalnormal as well as extra because of revaluation)

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(Rs. 6 lakh + 4 lakh) Less: withdrawal from reserve which was initially created by debiting P&L account Less: depreciation (normal) Less: withdrawal from revaluation reserve to the extent it does not exceed revaluation depreciation Book profit

(9) (11) (12)

10 6 0 51

10 6 4 51

10 6 1 51

10 6 4 58

10 6 0 62

OTHER POINTS
43.2-3 One should also keep in view the following points1. The Assessing Officer while computing the income under section115JB has only the power of examining whether the books of account are certified by the authorities under the Companies Act as having been properly maintained in accordance with the Companies Act. The Assessing Officer thereafter has the limited power of making increases and reductions as provided in para43.2-2. To put it differently, the assessing Officer does not have the jurisdiction to go behind the net profit shown in the profit and loss account except to the extent given in paras 43.2-1 and 43.2-2. 2. Provisions for gratuity on the basis of actuarial calculations is an ascertained liability. 3. If the sum is debited to profit and loss account under the provisions of the companies Act, it will be added to compute book profit, even if the same is disallowed under section 37 or under any other provision of the Income-tax Act. 4. Amount (debenture redemption reserve) set apart to redeem debentures cannot be added to net profit of the assessee to compute book profits. 5. Capital profit credited to profit and loss account is part of book profit, even if it is exempt under section 54EC. 6. Provision for liability to pay wealth-tax cannot be added back t net profit for computing book profit. 7. For purpose of computing book profits no adjustment can be made by way of reduction of interest on borrowed capital, which is not debited in profit and loss account. 8. No addition for the purpose of computation of total income of the assessee under section 115JB can be made with regard to share of loss from a firm which is debited to profit and loss account. 9. Where entire income by way of interest on zero coupon bonds has not accrued to the assessee during relevant previous year, notional income by way of interest on zero coupon bonds is not liable to be included while computing book profits as per section 115JB. 10. Loss on sale of car/trucks debited to P&L A/c cannot be added back. 11. Provision made by an assessee-leasing company for lease equalization charges in its books of account as per guidance note issued by ICAI cannot be regarded as an amount transferred to reserves- GE Capital Transportation Financial Services Ltd. V.CIT[2007] 17 sot 173 (delhi), Goodwill India Ltd v. CIT[2008] 114 ITD 665(delhi).

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MINIMUM INCOME AND TAX

(as a % of book profit) Assessment year 2009-10 If book profit does not exceed Rs. 1 If book profit exceeds Rs. 1 crore crore IT SC EC SHEC Total IT SC EC SHEC Total 10 0.2 0.1 10.30 10 1 0.22 0.11 11.33 10 0.2 0.1 10.30 10 0.25 0.205 0.1025 10.5575

Domestic company Foreign company

Note If book profit of a company exceeds Rs. 1 crore, the minimum alternate tax cannot exceed the following: (Rs. 10 lakh + book profit Rs. 1 crore) + EC + SHEC

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Domestic company Foreign company

Assessment year 2010-11 If book profit does not exceed If book profit exceeds Rs. 1 crore Rs. 1 crore IT SC EC SHEC Total IT SC EC SHEC total 15 0.3 0.15 15.45 15 1.5 0.33 0.165 16.995 15 0.3 0.15 15.45 15 0.375 0.3075 0.15375 15.83625

Note If book profit of accompany for the assessment year 2010-11 exceeds Rs. 1 crore, the minimum alternate tax cannot exceed the following: (Rs. 15 lakh + book profit Rs. 1 crore) + EC +SHEC.

REPORT FROM A CHARTERED ACCOUNTANT

43.4 Every company to which section 115JB applies, shall furnish a report (in form no. 29B) from a chartered accountant certifying that the book profit has been computed in accordance with the provisions of section 115JB.

CARRY FORWARD AND SET-OFF TAX CREDIT

43.5 The amount of tax credit under section 115JAA shall be carried forward and set-off subject to the following propositions1. No interest is payable in respect of tax credit. 2. Tax credit shall be allowed to set off in future year in which tax becomes payable on the total income computed in accordance with the provisions other than section 115JB. In other words, it can be set off in the year when tax computed under normal provisions (i.e., Step 7, para42) is more than minimum alternate tax (i.e., Step 13, para42). 3. Set off in respect of brought forward tax credit will be allowed for any assessment year to the extent ofa. Tax computed on total income under normal provision (i.e., Step 7); minus b. 15 per cent* (plus surcharge +EC+SHEC) of book profit. (i.e., Step 13). It may be noted that set off is not allowed in the year in which tax computed under (a) supra is lower than (b) supra. 4. Carry forward shall not be allowed beyond the period given below:

* 10 per cent for the assessment year 2007-08 to 2009-10.

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Section

115JA 115JA 115JA 115JA 115JB 115JB 115JB 115JB 115JB 115JB

Minimum alternate tax paid in the following assessment year 1997-98 1998-99 1999-00 2000-01 2001-02 to 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11

Time-limit for carry forward of MAT credit 5 years 5 years 5 years 5 years nil 10 years 10 years 10 years 10 years 10 years

Last assessment year for adjustment of MAT credit 2002-03 2003-04 2004-05 2005-06 No carry forward 2016-17 2017-18 2018-19 2019-20 2020-21

5. There is no other condition to claim the benefits of set-off of tax credit. For instance, there is no provision for submission of return of income within the time-limit prescribed by section 139, or for payment of tax in tax in time. Tax credit is allowed even if tax was paid late. Moreover, there is no provision that the Assessing Officer should determine the tax credit which shall be carried forward.

CASE STUDY
43.5-1 the following case study is given to have a better understanding of the provisions of the minimum alternate tax discussed above. Assessment years 2006-07 670 120 56.38 2007-08 750 150 84.15 2008-09 1200.97 420.46 123.70 2009-10 171.55 (-)40 17.67 (Rs. In thousand) 2010-11 925.95 435.73 143.06 2011-12 356.18 186.28 55.03 2012-13 925.95 648.16 143.06

Book profits taxable income (ignoring ction 115JB) Tax on (1) @ 15% (7.5% for e assessment year 2006-07) (+ C+ EC+ SHEC) Tax on (2) @ 30% +SC+EC+SHEC) whether tax credit is available up to which year) amount of credit which is vailable[i.e.,(3)+(4)] cumulative credit for being set f whether brought forward tax edit can be set off during the

40.39 Yes 2016-17 15.99 15.99 NA

50.49 Yes 2017-18 33.66 49.65 NA

129.93 No Nil 49.65 Yes

Nil Yes 2019-20 17.67 61.09 NA

134.64 Yes 8.42 69.51 NA

57.56 No NA 69.51 Yes

200.28 No NA 66.98 Yes

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urrent year [only if (4) is more an (3)] maximum amount which can e set off during the current year .e., the excess of (4) over (3), ubject to maximum of (7)] 0. credit which is lapsed 1. how much can be carried rward [i.e.,(7)-(9)-(10)] 2. tax payable for the current ear

NA

NA

6.23

NA

NA

2.53

57.22

NA 15.99 56.38

NA 49.65 84.15

Nil 43.42 123.7

NA 61.09 17.67

NA 69.51 143.06

Nil 66.98 55.03

Nil 9.76 143.06

VARIATION IN TAX CREDIT IN CERTAIN CASES

43.5-2 sub section (6) of section 115JJA discusses the case where one has to adjust tax credit pursuant to certain orders. Adjustment in tax credit has to be made if tax payable is increased or decreased because of any order under the following provisionsa. b. c. d. e. f. g. h. Order of assessment/intimation under section 143(1) or 143(3); Reassessment order under section 147; Rectification order under section 154 or 155; Order of settlement commission under section 245D(4); Order of deputy commissioner (appeals) or commissioner (appeals) under section 250; Order of appellate tribunal under section 254; Courts order of the commissioner under section 260 or 262; and Revisionary order of the commissioner under section 263 or 264;

If as a result of an order under the above provisions, the amount of tax credit allowed under section 115JAA shall be increased or reduced accordingly.

HINTS OF TAX PLANNING

43.6 The following broad propositions should be kept in view in order to minimize tax incidence under section 115JB At what point of time a revenue is recognized in profit and loss account is not free from doubt. Generally, the amount of revenue arising on transaction is determined by agreement between parties involved in the transaction. In the case of uncertainty, however, the broad propositions mentioned in AS-9 issued by the Institute of Chartered Accountants of India should be followed. As far as possible, depreciation should be calculated on the basis of written down value method for accounting purposes. If, for the purpose of maintaining books of account, depreciation is not charged on the basis of written down value method, depreciation method may be changed.

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Any profit (or loss) arising on the sale of fixed asset is credited (or debited) in profit and loss account. Since any surplus/deficiency arising on sale of depreciation asset is not treated as separate income/loss for tax purposes, it is advisable that as far as possible depreciable asset should be sold at profit only in that year in which the company incurs loss on account of sale of another depreciable asset. This will nullify the effect of section 115JB on computation of tax liability. As a measure to reduce book profit, goodwill, appearing in balance sheet, may be written off. As a measure to reduce the impact of section 115JB on computation of tax incidence, expenditure on acquisition of patent rights or copy rights, preliminary expenses and expenditure on prospecting etc., for certain minerals should be amortized for accounting purposes according to provisions of section 32,35A,35D and 35E. If income-tax paid/payable is shown on the debit side and income-tax refund appears on the credit of the profit and loss account, then net profit will be increased by the amount of incometax paid/payable without adjusting income-tax refund. In such a case it is advisable that income-tax refund should be credited to income-tax reserve account. This account can be utilized for payment of income-tax during the year. Any surplus or deficiency at the end of the year may be credited or charged to profit and loss account.

It may be noted that in respect of the following amounts debited to profit and loss account, no adjustment is required under section 115JB: a. b. c. d. e. Any penalty or fine paid or payable under the Income-tax Act; Any tax, penalty or interest paid or payable under the Wealth-tax Act; Any tax, penalty or interest paid or payable under the Gift-tax Act; or Any tax, penalty or interest paid or payable under the Companies (profits) Surtax Act; and Any tax or duty which is not allowed as deduction while calculating taxable income by virtue of section 43B. f. Securities transaction tax; g. Banking cash transaction tax; and h. Fringe benefit tax. The aforesaid sums are not added to net profit in order to compute book profit for the purpose of section 115JB, through some of these expenses are not allowed as deducted while calculating/determining taxable income. Arrears of depreciation not provided in books in earlier years may be provided in the current year. Depreciation can be provided in books of account at rates higher than those specified in Schedule 14 to Companies Act. Extra depreciation (pertaining to earlier years) arising because of a bona fide change in depreciation method can be debited to profit and loss account for computing book profit. Refund of tax not credited to profit and loss account is an allowable deduction in computing book profits. The court refuted the argument of the revenue that such expenditure would be

98

capital in nature after amendment to section 32. The court found such argument as unworthy, perhaps for the reason that section 32 has no relevance as far as determination of book profits goes. This judgment thus provides a good tax planning method and, thus, an assessee can charge off software costs in accounts even while it resorts to depreciation claim in tax computation after taking disallowance first. Before the statutory auditor, the assessee can take the contention that the software in used has a short span of life and further it needs updating from time to time.

TAX PLANNING DEVICES THROUGH CASE STUDIES

43.6-1 The following case studies are given for better understanding of minimum alternate tax. 43.6-1aP1 X ltd. Is engaged in the business of manufacture of garments. Sale proceeds of goods (domestic sale) Sale proceeds of goods (export sale) Amount withdrawn from general reserve (reserve was created in 1996-97 by debiting P&LA/c) Amount withdrawn from revaluation reserve Total Less: expenses Depreciation (normal) Depreciation (extra depreciation because of revaluation) Salary and wages Fringe benefit tax Income-tax Outstanding customs duty (not paid as yet) Proposed dividend Consultation fees paid to a tax expert Other expenses Net profit For tax purpose the company wants to claim the following: Deduction under section 80-IB (30 per cent of 14,56,000). Depreciation under section 32 (Rs. 5,36,000) The company wants to set off the following losses/allowances: For accounting purposes Rs. Brought forward loss of 2001-02 14,80,000 4,00,000 Unabsorbed depreciation 70,000 Compute the net income and tax liability of X Ltd for the assessment year 2009-10 assuming that X ltd gets a deemed long-term capital gain of Rs. 60,000 under section 54D(2) which is not credited in profit and loss account. For tax purpose Rs. Rs. 22,23,900 5,76,100 2.00.000 1,50,000 31,50,000 6,16,000 2,70,000 2,10,000 10,000 3,50,000 17,500 60,000 21,000 1,39,000 14,56,500

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Net profit as per P&L A/c Add: Excess depreciation [i.e., Rs. 6,16,000 + Rs. 2,70,000 Rs. 5,36,000] Fringe benefit tax Income-tax Customs duty which is not paid Proposed dividend Total Less: amount withdrawn from reserve (i.e., Rs. 2,00,000 + Rs. 1,50,000) Business income Less: unabsorbed loss Business income Long term capital gain Gross total income Less: deductions under section 80-IB [30% of Rs. 4,14,000] Net income (rounded off) Tax liability (under normal provisions) [20% of Rs. 60,000 + 30% of Rs. 2,89,800 plus 3% of tax as cess] Book profit Net profit Add: Depreciation [i.e., Rs. 6,16,000 + Rs. 2,70,000] Fringe benefit tax Income-tax Proposed dividend Less: Amount withdrawn from general reserve Unabsorbed depreciation Depreciation (normal) Amount withdrawn from revaluation reserve to the extent it does not exceed extra depreciation because of revaluation Book profit Tax liability (10.3% of book profit)

14,56,000 3,50,000 10,000 3,50,000 17,5000 60,000 22,44,000 3,50,000 18,94,000 14,80,000 4,14,000 60,000 4,74,000 1,24,200 349,800 1,01,910 14,56,500 8,86,000 Nil 3,50,00 60,000 (-)2,00,000 (-)70,000 (-)6,16,000 (-)1,50,000

17,16,500 1,76,800 Ltd will pay Rs. 1,76,800 as tax for the assessment year 2009-10 as per section 115JB. Tax credit is however, available in respect excess tax (i.e., Rs. 74,890) under section 115JB.

SECTION 80-IA AND 80-IB, DEDUCTION

43.6-1b the projected profit and loss accounts of X Ltd (which are under the same management) for the previous year 2008-09 are given below: X Ltd. Cost of goods sold Depreciation @15.3% on Rs. 10,00,000 Other expenses Rs. 45,00,000 1,53,000 2,00,300 16,46,700 Sale Rs. 65,00,000

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Net profit 65,00,000 65,00,000 The company has set up an industrial undertaking in a notified industrial park and qualified for 100 per cent deduction under section 80-IA. Written down value of plant and machinery for income-tax purpose is Rs. 12,50,000. Y Ltd. Cost of goods sold Depreciation @ 13.91% of Rs. 14,30,000 Net profit Rs. 61,00,000 1,98,913 24,21,000 Sale Profit on sale of a plot of land (long-term capital gain determined under section 48) Rs. 86,00,000 1,20,000

87,20,000 87,20,000 Y Ltd is not entitled to any deductions under section 80-IA. Written down value of assets for incometax purpose is Rs. 18,76,670. X Ltd Rs. 16,46,700 1,53,000 (-)1,87,500 16,12,000 16,12,200 16,12,200 Nil 16,46,700 Y Ltd Rs. 24,21,087 1,98,913 (-)2,81,500 (-)1,20,000 22,18,500 1,20,000 23,38,500 23,38,500 24,21,087

Net profit Add: depreciation Less: depreciation under section 32 Less: long term capital gain Business income Long term capital gain Dividends Gross total income Less: deduction under section 80-IA Net income Book profit

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Computation of tax under normal provisions Tax on net income (30% of Rs. 22,18,500+ 20% of Rs. 1,20,000) Add: surcharge Tax and surcharge Add: Education cess (2% of tax and surcharge) Add: Secondary and higher education cess (1% of tax and surcharge) Tax (a) (rounded off) Computation of tax under section 115JB 10% of book profit Add: surcharge Tax and surcharge Add: Education cess (2% of tax and surcharge) Add: Secondary and higher education cess (1% of tax and surcharge) Tax (b) Tax liability [(a) or (b) whichever is more] (rounded off)

Nil Nil Nil Nil 1,64,670 1,64,670 3,293 1,647 1,69,610 1,69,610

6,89,550 6,89,550 13,791 6,896 7,10,240 2,42,109 2,42,109 4,842 2,421 2,49,370 7,10,240

Tax planning hints- If the following steps are taken, tax liability can be reduced1. X Ltd. Should take over the business of Y Ltd. 2. As per Circular No. 2/89, dated March 7, 1989, a company is permitted to charge depreciation at rates higher than the rates contained in Schedule XIV to the Companies Act, if it is on the basis of a bona fide technological evaluation. X Ltd., after take over of Y Ltd., should provide depreciation in books at the rate of 20 per cent. After taking these steps, profit and loss account of X Ltd. Will be as under : Cost of goods sold Depreciation -20% of Rs. 10,00,000 -20% of Rs. 14,30,000 Other expenses Net profit Rs. 1,06,00,000 Sale Long-term capital gain 2,00,000 2,86,000 2,00,300 39,33,700 1,52,20,000 Rs. 1,51,00,000 1,20,000

1,52,20,000

Rs.

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Tax computation Net profit Less: long term capital gain Add: Depreciation Less: Depreciation under section 32 Business income Long-term capital gain Gross total income Less: Deduction under section 80-IA Net income Book profit Computation of tax ignoring provisions of section 115JB Tax on net income (30% of Rs.22,18,500+20% of Rs.1,20,000) Add: Surcharge Tax and surcharge Add: Education cess (2% of tax and surcharge) Add: Secondary and higher education cess (1% of tax and surcharge) Tax liability (rounded off) Computation of tax under section 115JB 10% of book profit of Rs.39,33,700 Add: Surcharge @ 10% Tax and surcharge Add: Education cess (2% of tax and surcharge) Add: Secondary and higher education cess (1% of tax and surcharge) Tax liability (rounded off) 39,33,700 (-)1,20,000 4,86,000 (-)4,69,000 38,30,700 1,20,000 39,50,700 16,12,200 23,38,500 39,33,700 6,89,550 Nil 6,89,550 13,791 6,896 7,10,240 3,93,370 3,93,370 7,867 3,934 4,05,170

Chart showing tax liability If section 115JB is not applicable Rs. Tax liability X Ltd. Nil Tax liability Y Ltd. 7,10,240 Total 7,10,240 Tax liability of X Ltd. after it takes over 7,10,240 Y ltd. Tax savings Nil If section 115JB is applicable Rs. 1,69,610 7,10,240 8,79,850 7,10,240 1,69,610

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DIVIDEND TAX
44. The provisions of sections 115-O,115P and 115Q are given below.

BASIS OF CHARGE[SEC.115-O1]
44.1 A separate and additional charge has been created by section 115-O(1).It is subject to the following propositions1. Tax on distributed profits is in addition to income-tax chargeable in respect of total income. 2. Only a domestic company (not a foreign company) is liable for above tax.However, this tax is not applicable in respect amount declared, distributed or paid by way of dividend by a developer/enterprise after March 31,2005 provided such dividend is distributed out of current income from a special economic zone. 3. Any amount declared, distributed or paid by a domestic company by way of dividend shall be charged to dividend tax. 4. It is applicable whether the dividend is interim or otherwise. 5. It is applicable only if such dividend is declared, distributed or paid on or after June 1,1997 but before April 1,2002 or after March 31,2003. 6. It is applicable whether such dividend is paid out of current profit or accumulated profits. 7. Dividend distributed on or after April 1,2005 out of income generated from special economic zone is not subject to dividend tax.

WHAT IS DIVIDEND
44.2 Dividend declared, distributed or paid on or after June 1, 1997 but before April 1,2002 or after March 31,2003 is subject to dividend tax. For the purpose of section 115-O the expression dividend shall have the same meaning as is given to dividend under section 2(22), but it shall not include subclause (e) of section 2(22).

NATURE OF TAX
44.3 The levy of additional tax is in addition to normal tax payable by a company. This additional tax incidence cannot be avoided even if no income tax is payable by a domestic company on its total income computed under the provisions of the Act. Moreover, brought forward MAT credit under section 115JAA cannot be adjusted against the additional tax on dividend.

RATE OF DIVIDEND TAX

44.4 The amount of dividend tax is as follows-

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Dividend Surcharge(as Education Secondary Total(as tax(as a a % of cess(as% & higher a % of % of dividend) of education dividend) dividend) dividend) cess(as % of dividend) April 1,2001 to May 31,2001 June 1,2001 to March 31,2002 April 1,2002 to March 31,2003 April 1,2003 to March 31,2004 April 1,2004 to March 31,2005 April 1,2005 to March 31,2007 From April 1,2007 20 10 NA 12.5 12.5 12.5 15 0.40 0.20 NA 0.3125 0.3125 1.25 1.5 0.25625 0.275 0.33 0.165 20.40 10.20 NA 12.8125 13.06875 14.025 16.995

Additional tax under section 115-O per se is not violative of the provisions of the Constitution. It is for the Union to impose income-tax upon the assessee. Similarly it has power to impose additional tax too.On a grammatical construction of this section it would appear that the tax is levied on the company and not on the shareholder. A tea company is liable to pay tax at the prescribed rate on 40 per cent of total net income. If there is any additional tax it would pay that in the same manner and in the same proportion- Jayshree Tea & Industries Ltd. V. Union of India[2006] 285 ITR 506/205 CTR (Cal.) 370.\

MITIGATING THE CASCADING EFFECT OF DIVIDEND DISTRIBUTION TAX

44.5 Section 115-O relates to tax on distributed profits of domestic companies.It provides that tax on distributed profits at the rate of 15 per cent (+SC+EC+SHEC, effective rate 16.995 per cent) shall be levied on any amount declared, distributed or paid by a domestic company to its shareholders by way of dividends. With a view to help domestic companies to efficiently structure their business, it has been decided to mitigate the cascading effect of dividend distribution tax up to one level with effect from April 1,2008 shall be-

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16.995 per cent of [dividend declared, distributed or paid by the assesseecompany (being a domestic company) minus the dividend received during the same financial year by the assessee-company from its subsidiary company if a few conditions are satisfied]

Dividend received by the assessee-company from its subsidiary company shall deducted only if the following conditions are satisfieda. The subsidiary has paid tax under section 115-O on such dividend; b. The assessee-company is not a subsidiary of any other company; and

be

c. The same amount of dividend is not taken into account for reduction more than once. For the aforesaid purposes, a company shall be a subsidiary of another company, if such other company holds more than half in nominal value of the equity share capital of the company.

CASE STUDY
The table given below highlights the impact of amendmentWhether the assessee company is subsidiary of any other company (domestic or foreign) No No No No No Yes No Date of declaratio n, distributio n or payment of dividend April 20, 2009 April 20, 2009 April 20, 2009 April 20, 2009 April 20, 2009 April 20, 2009 April 20, Amount of dividend declared, distributed or paid. Rs. Dividend received by the assessee company from its subsidiary company Rs. 4,00,000 4,00,000 4,00,000 4,00,000 4,00,000 4,00,000 (a) Whether Subsidiary company has paid dividend tax u/s 115-O Date of receipt of dividend from subsidiary company (date of declaration or distribution of dividend is not relevant) April 10, 2009 Dec 10, 2009 Dec 10, 2009 March 31, 2009 April 1, 2010 April 1, 2009 April 1, 2010 Whether relief provided by the amendme nt is available Dividend tax being 16,995 Per cent of the amount given belowRs. 16,00,000 16,00,000 20,00,000 20,00,000 20,00,000 20,00,000 9,00,000

ssessee mpany ing a mestic mpany

Ltd.

20,00,000 20,00,000 20,00,000 20,00,000 20,00,000 20,00,000 20,00,000

Yes Yes No Yes Yes yes Yes

Yes Yes No No* No* No Yes

Ltd.

Ltd.

Ltd.

Ltd.

Ltd.

L td.

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2009

400,000 (b) 6,00,000 (c) 7,00,000 20,00,000

No Yes Yes

May 1, 2009 March 31, 2010 Dec. 10, 2009

No Yes Yes Nil

Ltd.

Yes

April 20, 2009

*Dividend received from the subsidiary during the same financial year is considered.

WHEN THE ADDITIONAL TAX SHOULD BE PAID

44.6 The tax on distributed profit shall be paid within 14 days from the date ofa. declaration of any dividend ; or b. distribution of any dividend ; or c. payment of any dividend, whichever is the earliest. Who is liable to pay tax The principal officer of the domestic company and the company shall be liable to pay the aforesaid tax.

DIVIDEND TAX IS FINAL LEVY

44.7 Tax on dividend paid by a domestic company shall be taken as the final tax payment in respect of the amount declared, distributed or paid as dividend. In respect of tax so paid, no credit is available to the company paying tax, or the recipient of dividend or to any other person. By virtue of section 10(33) or 10(34), dividend income (in respect of which tax is charged under section 115-O) will be exempt in the hands of recipient. Where in terms of an agreement, the assessee advances an interest-free loan to a borrower at his request on the conditions that the loan amount should be utilized for purchasing LML shares, and that dividend income as and when received by borrower should be paid to the assessee to extent of 50 per cent, dividend income is not exempt in hands of the assessee under section 115-O but it is assessable as business income- Rasoi Trading & Agencies (P.) Ltd. V. ITO[2006] 8 SOT 426/101 ITD 399 (Mum.).

DIVIDEND TAX IS NOT DEDUCTIBLE

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44.8 The company (or the shareholders) cannot claim any deduction from taxable income in respect of dividend tax levied under section 115-O. Moreover, no deduction is available from the tax on dividend under any provision.

INTEREST FOR NON-PAYMENT OF TAX [SEC. 115P]

44.9 If the company or the principal officer fails to pay the whole or any part of dividend tax within the specified time-limit, then it or he shall be liable to interest in addition to dividend tax as followsRate of interest 1 per cent per month or part thereof

Amount on which interest chargeable

Amount of tax as reduced by the amount paid within the time-limit Interest is chargeable for the period commencing from the next date after the last date of payment and ending on the date of actual payment

Period for which interest is payable

WHEN COMPANY IS DEEMED TO BE IN DEFAULT [SEC. 115Q]

44.10 In case a domestic company or principal officer of a domestic company does not pay tax on distributed profits within the specified time-limit, then he or it shall be deemed to be an assessee in default in respect of the amount of tax payable by him or it. Consequently, all provisions regarding collection and recovery of tax contained in the Act would apply.

PENALTY UNDER SECTION 271C

44.11 Section 271C has been amended with effect from June 1,1997 to provide that if any person fails to comply with the provisions of section 115-O, he shall be liable to pay as penalty a sum equal to the amount of tax which he has failed to pay. The penalty is, however, not applicable, if the assessee proves that there was reasonable cause for failure.

PROSECUTION
44.12 If a person fails to pay to the credit of the Central Government the tax payable by him, as required by or under the provisions of section 115-O, he shall be punishable with rigorous imprisonment for a term which shall not be less than three months but which may extend to seven years and with fine.

Income distribution in respect of equity oriented mutual fund or US64 Income distribution in respect of

Up to March 31,2007 Nil No separate rate, see

Up to April 1,2007 Nil 25%

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money market mutual fund or liquid fund

rate given below

Income distribution in respect of any other mutual fundWhen the unit holder is an individual or a hindu undivided family. When the unit holder is any other person.

12.5% 20%

12.5% 20%

However, no person will be punishable if he proves that there was a reasonable cause for the default/failure.

JUDICIAL RULINGS
44.13 The following judicial rulings shall be kept in view1. Section 115-O(1) is a specific provision overriding, in case of conflict, general provisions. This provision is applicable whether shares are held as investment or stock-in-trade. 2. Dividend tax paid by company under section 115-O cannot be regarded as tax paid by shareholders. Tax on income distributed to unit holders [secs 115R,115S and 115T] 45. The provisions of sections 115R, 115S and 115T are given below: 1. The income distributed to a unit holder of the Unit Trust of India or a Mutual Fund shall be charged to tax under section 115R at the rate given below:

Note : The above rates will be increased by surcharge and education cess and (from April 1,2007) also by secondary and higher education cess. It is payable by the Unit Trust of India or the Mutual Fund, as the case may be. 2.The tax under section 115R shall not be chargeable in respect of any income distributed to the unit holders of the Unit scheme, 1964 of the Unit Trust of India or any other open-ended (and from June 1, 2006, even close ended) equity oriented fund in respect of income distributed under such schemes, For this purpose, equity oriented fund is such fund where the investible funds are invested by way of equity shares in domestic companies to the extent of more than 65 per cent of the total proceeds of such fund.

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3.The recipient of income will not be chargeable to tax whether the income comes under (1) or (2) supra. 4.The person responsible for making the payment of income distributed by the UTI or a Mutual Fund itself, as the case may be, shall be liable to pay the tax to the credit of the Central Government within 14 days from the date of distribution or payment of such income, whichever is earlier. 5.No deduction under any other provision of the Act shall be allowed to the Unit Trust of India or to a Mutual Fund in respect of the income which has been charged to the a foresaid tax. 6.If the person or UTI or Mutual Fund liable to make the payment fails to so pay the tax to the credit of the Central Government, he or it shall be liable to pay simple interest at the rate of 1 per cent every month or part thereof on such amount of tax which has not been paid or was nat paid in time. 7.If the person or UTI or Mutual Fund liable to make the payment fails to so pay the tax to the credit of the Central Government, he or it shall be deemed to be an assessee in default in respect of the amount of tax payable and all the provisions of the Act for the collection and recovery of income-tax shall apply. 8.The person responsible for making payment of the income distributed by the Unit Trust of India or the Mutual Fund and the Unit Trust of India or the Mutual Fund, as the case may be, shall be liable to file a statement of distributed income in Form no. 63 (for UTI) or Form No. 63A (for mutual fund), giving details of income distributed to unit holders, tax paid thereon and other relevant details. The statement should be submitted on or before September 15 giving details of amount distributed during the immediately preceding previous year.

TAX ON INCOME RECEIVED FROM VENTURE CAPITAL COMPANIES AND VENTURE CAPITAL FUNDS[SEC. 115U]

46. The provision of section 115U are given below1.Any income received by a person out of investments made in a venture capital company or venture capital fund shall be chargeable to income-tax in the same manner as if it were the income received by such person had he made investments directly in the venture capital undertaking. 2.The person responsible for making payment of the income on behalf of a venture capital company or a venture capital fund and the venture capital company or venture capital fund shall furnish a statement of distribution of income in Form no. 64.The statement of distributed income shall be furnished by the 30th November ( of the financial year, following the previous year during which such

110

income is distributed).It shall be submitted to the Chief Commissioner or Commissioner of Incometax, within whose jurisdiction, the principal office of the Venture Capital Company or the Venture Capital Fund, as the case may be is situated. 3.The income paid by the venture capital company company and the venture capital fund shall be deemed to be of the same nature and in the same proportion in the hands of the person receiving such income as it had been received by, or had accrued to, the venture capital company or the venture capital fund, as the case may be, during the previous year. 4.The provisions of Chapter XII-D or Chapter XII-E or Chapter XVII-B shall not apply to the income paid by a venture capital company or venture capital fund.

CASE STUDIES
47-P1 XYZ Ltd., a company in which the public are substantially interested, submits the following particulars for the previous year ending March 31,2009. Determine its tax liability for the assessment year 2009-10 on the assumption that dividend distributed for the year 2009-10 is Rs. 420000 (date of distribution May 10, 2009).

Rs. Profit from manufacturing activity in India [set up in 1970] Dividends from an Indian company Dividends from a foreign company on shares allotted to it in consideration of transfer of technical know-how Royalty from the Nepal Government for use of its patents Royalty from an Indian company in respect of transfer of technical know-how Short-term gain on sale of shares Short-term loss on sale of fund Long-term gain on sale of building (sale proceeds: Rs.150000, indexed cost of acquisition: Rs.112400) Long-term loss on sale of shares (sale price: Rs.28000, indexed cost: Rs.58000) 30000 15000 12000 37600 250000 150000 860000 300000 600000

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Short-term gain on sale of machine (sale proceeds: Rs.200000, cost of acquisition 60000 per section 50: Rs.140000) Brought forward business loss Unabsorbed depreciation 150000 100000

as

Business income Less: Brought forward business loss and unabsorbed depreciation Capital gains Short-term capital gains on sale of shares Less: Short term loss on sale of land Long-term capital gains in respect of sale of building Less: Long-tem loss on sale of shares Short-term gain on sale of machine [deemed as short-term by virtue of sec. 50] Income from other sources Dividend Royalty Gross total income(a) Less: Deduction Net income Tax on Rs.1323000 @30% plus tax on Rs.7600@20% Add: Surcharge Tax and surcharge Add: Education Cess @2% Add: Secondary and higher education cess @1%

860000 600000 260000

15000 12000 37600 30000 7600 3000

60000

600000 400000 1000000 1330600 Nil 1330600 398420 Nil 398420 7968 3984

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Tax liability

410370

Besides, XYZ Ltd. will pay Rs. 71379 (i.e., Rs. 420000 X 16.995%) as dividend tax in respect of dividend distributed on May 10, 2009. 47-P2 XYZ Ltd., a domestic company in which public are sustantially interested, manufactures textiles. For the year ending March 31,2009, P& L Account showed net profits of Rs. 30 lakh on a turnover of Rs. 3 crore.This included the following debits to the P & L Account:

1.Dividends amounting to Rs. 4 lakh paid to the shareholders for the accounting year 2008-09. 2.Interest amounting to Rs. 18000, paid on the loan taken for the payment of companys income-tax liability. 3.Interest amounting to Rs. 35000, paid on the loan taken, to make donation to an approved charity. 4.Rs. 50000 spent by managing director on his visit to : Canada to buy machinery and finalise a collaboration agreement of a new independent undertaking proposed to be set up (cement factory) : Rs. 20000 [machine will be purchased in the next year, approximate cost would be Rs. 800000, expected profit of the next year is Rs. 2500000] USA to study market for importing yarn : Rs. 30000 5.Managing directors wife accompanied her husband Rs.20000 was contributed by the company towards her foreign trip expenses and the Canadian collaborator paid Rs. 15000 to her towards expenses. 6.Company incurred Rs. 27500 as entertainment expenditure. 7.Company incurred expenditure of Rs. 430000 as follows : advertisement in newspaper : Rs. 350000 advertisement in souvenir of a political party : Rs. 65000 guest house at factory : Rs. 15000 8.Rs. 15000 paid to legal advisors in respect of proceedings before income-tax authorities. 9.Penalty of Rs. 10000 for importing yarn in contravention of import regulations. 10.Bill amounting to Rs. 42500 for purchase of raw material is paid in cash on April 20, 2008 (being a day when banks were open) 11.Another bill of Rs. 46500 for purchase of raw material is paid in cash on June 10, 2008 (when banks were closed on account of strike). Compute the taxable income of the company for the assessment year 2009-10.

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Net profit as per P & L Account Add : Inadmissible expense Dividends Interest on loan to pay income-tax [not deductible under section 37(1)] Interest on loan to pay donation not allowableMadhav Prasad Jatia v. CIT[1979] 118 ITR 200 (SC) Travelling expenditure Expenditure to study market for importing yarn Wifes expenditure not allowable Souvenir advertisement expenditure not allowable under section37(2B) Legal expenses (now fully deductible) Penalty for infraction of law is not allowable Payment of Rs. 42500 in cash [100% of Rs. 42500 is disallowed] Gross Total Income Less : Deduction under section 80C to 80U Net income

3000000

400000 18000

35000 20000 20000 65000 10000 42500 3610500 Nil 3610500

47-P3 X (P.) Ltd. is engaged in the manufacture of engineering goods.The profit and loss of the company for the year ending March 31, 2009 shows a net profit of Rs. 30 lakh (before tax).The company gives you the following information :

1.Surplus on sale of building Rs. 2 lakh has been credited to profit and loss account.This building was purchased on July 1, 2005 for Rs. 4 lakh and was sold on September 30, 2008 for Rs. 6 lakh.No depreciation was provided in the books of the company although the same was claimed and allowed in earlier years in the income-tax assessments of the company @ 5 per cent.The building was let out to employees of the company for their residence.

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2.The managing director has spent Rs. 36000 during his visit to UK and USA.This visit was for studying the market for engineering goods in foreign countries but no orders could be booked during his visit. 3.The company has given donation of Rs. 2 lakh to scientific research association approved under section 35(1)(ii) and Rs. 100000 to an approved charitable trust. 4.The company has a guest house at its factory at Nasik.Expenditure on maintenance of guest house : Rs. 5000 and on messing of customers visiting the factory Rs. 5000 have been included in miscellaneous expenses. 5.Miscellaneous income includes dividend of Rs. 29750 from a foreign company.The shares in the foreign company were allotted in consideration of supply of technical know how under a collaboration agreement approved by the Central Government.Dividend distributed for the financial year 2008-09 is Rs. 40000. 6.The profit and loss account has been debited with Rs. 200000 for depreciation which has been worked out on straight line basis.The figures of written down value of asset as per income-tax records and rates of depreciation are given below : Assets WDV April 1,2008 (Rs. in lakh) 8 Rate of depreciation (in percentage) 5

Building (excluding the building let out to employees and sold during the year)

Machinery Motors cars Furniture

10 1 0.67

15 25 10

The factory worked for 300 days in first shift and for 200 days in second shift. 7.The company has set up a new industrial undertaking at Nasik for production of engineering goods.This unit started production on July 1, 2005 and worked on single shift basis.For this purpose, fresh capital of Rs. 10 lakh was called from members and their relatives.The company has spent Rs. 10000 for the purpose of setting up this new unit.This expenditure has not been debited to profit and loss account but appears in the balance sheet under the head Preliminary expenses.Other particulars about this unit are as under : Cost of new building constructed during 2000 : Rs. 2 lakh Cost of new machinery installed during 2000 : Rs. 10 lakh

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Capital employed in the unit after adjustment of liabilities : Rs. 12 lakh Profit of the unit during 2008-09 : Rs. 200000.This is included in the figure of net profit as per profit and loss account. No separate books are maintained for this unit. 8.The company earns a short-term capital gain of Rs. 440000. 9.The company has suffered losses in earlier years.The figures of losses and unabsorbed depreciation of earlier years as per income-tax assessment are as under

2005-06 Particulars (Rs. Lakh) Long term capital loss on 0.81 sale of land Short-term capital loss Business loss Unabsorbed depreciation (for tax purposes) Unabsorbed depreciation (for accounting purposes) You are required to : 2.00 3.50

2006-07 (Rs. Lakh) -

2007-08 (Rs. Lakh) 1.665

2008-09 (Rs. Lakh) -

3.00 1.00 7.50

3.00 -

4.00 -

0.70

0.30

0.05

0.10

a. compute the total income of the company b. give your reasons, in brief, for any adjustments that you make in your computations.

Rs. Profit as per profit and loss account Add : Inadmissible expenses Donation to charitable trust Contribution to scientific research association 100000 3000000

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(taken separately) Depreciation (taken separately)

200000 200000 500000 3500000 Less:

Expenses not already deducted Depreciation [see Note 1] Contribution to an approved scientific research association (1.25 of Rs. 2 lakh) Amortisation of preliminary expenses (i.e., 1/5 of Rs. 10000) 250000 2000 451717 3048283 Less: Incomes taxable separately Surplus on sale of building Dividend from foreign company 200000 29750 229750 2818533 199717

Less: Brought forward losses Business loss of the assessment years 2005-06 to 2008-09 Unabsorbed depreciation of the assessment years 2005-06 to 2007-08 1100000 2100000 718533 Business income Short-term capital gains Less: Brought forward short term capital loss 440000 300000 140000 Less: Brought forward long-term capital loss (cannot be set off against short-term capital gain) 140000 1000000

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Income from other sources Dividend from foreign company Gross total income Less: Deductions Under section 80-IB [i.e., 30% of Rs. 2 lakh] Under section 80G in respect of donation Amount of donation Qualifying donation [i.e., 10% of (Rs. 888283-Rs. 60000)] Amount deductible (i.e., 50% of Rs. 82828) Net income (rounded off) Notes : 82828 41414 101414 786870 100000 60000 29750 888283

1.Amount of depreciation is computed as under : Actual cost of building on July 1, 2006 Less:Depreciation of the previous year 2006-07 (i.e., 5% of Rs. 4 lakh) WDV on April 1, 2007 Less:Depreciation of the previous year 2007-08 (i.e., 5% of Rs.3.80 lakh) WDV as on April 1, 2008 Computation of depreciation: 400000 20000 380000 19000 361000

Block of assets

Building

Plant & Machinery 15% Rs.

Furniture

Rate of depreciation

5% Rs.

10% Rs.

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Depreciated value on April 1, 2008

1161000 (Rs.800000+Rs. 361000)

1100000

66667

Add: Cost of assets acquired during the previous year

Nil 1161000

Nil 1100000

Nil 66667

Less: Sale proceeds of assets sold during the year

600000 561000

Nil 1100000 165000 935000

Nil 66667 6667 60000

Written down value Less: Depreciation of 2008-09

28050 532950

Depreciated value on April 1, 2009

47-P4 Profit and loss account of X Ltd., a public limited company, discloses a net profit of Rs. 6 lakh for the year ending March 31, 2009.From scrutiny of records the following position emerged :

1.Workmen and staff welfare expenditure debited in profit and loss account includes a sum of Rs. 50000 being the cost of construction of a primary school exclusively for the benefit of children of employees. 2.A sum of Rs. 20000 was debited in profit and loss account, being penalty by way of 1 per cent reduction in selling price imposed by the purchaser for non-fulfilment of delivery conditions of contract of sale due to factors beyond the control of the company. 3.General manager was paid a monthly salary of Rs. 8500 and was provided with perquisite of the total value of Rs. 20000 during the previous year.

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4.Foreign technician (appointment approved by the Central Government) covered under section 10(6)(viia) who has come for the first time for production of sophisticated products of the company, was paid salary of Rs. 1.50 lakh and perquisites Rs. 26000 per annum. 5.Guest house expenses of Rs. 40000 was debited to profit and loss account. 6.Interest account includes payment of Rs. 25000 in respect of funds borrowed separately for acquisition of machinery. 7.Company received remuneration of Rs. 1 lakh for supply of know-how in the installation of machinery in pursuance of an agreement which is eligible for deduction at the rate of 10 per cent under section 80-O. 8.Managing director incurred expenses on his foreign tour for promotion of sales outside India Rs. 60000 debited to profit and loss account. 9.During the year one machinery (rate of depreciation : 15 per cent ) was sold for Rs. 22000.Its original cost and written down value on income-tax basis as on April 1, 2008 were Rs. 30000 and Rs. 2000 respectively and the surplus was credited to capital reserve account.

Compute the taxable income of the company for the assessment year 2009-10 after taking the following into account:

1.Depreciation on all assets including all additions made during the year on straight line basis charged to profit and loss account amounted to Rs.2 lakh. 2. Depreciated value of assets on April 1, 2008 is as follows : Plant and machinery : Rs.2000000 (rate of depreciation : 15 per cent), building : Rs.605000 (rate of depreciation : 10 per cent). 3. Plant and machinery additions during the year amounted to Rs.80000 (assume normal depreciation at 15 per cent on 3 shifts working, date of installation: April 10, 2008). 4. Plant and machinery (solar power generating system) additions during the year amounted to Rs.1.20lakh (assume normal depreciation at 100 per cent and 3 shifts working, date of installation: April 10, 2008).

Indicate the reasons for the particular treatment given by you to the different items.

Profit as per profit & loss account

600000

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Add: Cost of school building being capital expenditure hence disallowed Depreciation written off (separately considered) 50000 200000 850000 Less: Depreciation on all assets [see Note 2] [i.e., Rs.65500+Rs. 308700+ Rs.120000+Rs. 16000] Business income Any other income Gross total income Less: Deduction Net income 510200 339800 Nil 339800 Nil 339800

Notes: 1. Penalty of Rs.20000 is an expenditure incidental to business. 2. Depreciation is calculated as under: Block of assets Building 10% Rate of depreciation Rs. Depreciated value on April 1, 2008 Add : Cost of assets acquired during the year 605000 50000 655000 Less : Sale proceeds of assets sold during the year Written down value 655000 Plant & Machinery 15% Rs. 2000000 80000 2080000 22000 2058000 120000 120000 120000 Plant & Machinery 100% Rs.

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Amount of normal depreciation Amount of additional depreciation (20% of Rs.80000)

65500 -

308700 16000

120000 -

47-P5 X Ltd. is a wholly owned subsidiary of a foreign company of the same name. It sets up a new plant for manufacture of drugs in India, for which the machinery and equipment was given free of cost by the foreign company. It incurred a sum of Rs.2lakh towards transportation to India and Rs.1lakh towards installation of the machinery and equipment. What is the actual cost on which X Ltd. can claim depreciation? The actual cost for the purpose of depreciation in the hands of the Indian company will be the written down value in the hands of the foreign company adjusted in the manner specified in Explanation 2 to section 43(1).The cost of transportation and installation charges shall be added to the actual cost for purposes of depreciation- Ciba of India Ltd. v. CIT [1993] 202 ITR 1 (Bom.).

47-P6 Discuss the following:

1. In the course of the assessment of a finance company, newly incorporated, the Assessing Officer found on enquiry that shares of the company had been issued in the names of non-existent persons. He, therefore, proceeded to assess the amounts credited to the accounts of these shareholders as income from undisclosed sources. The companys contention is that the amounts received constituted capital receipts and that it could not have earned any undisclosed income at the inception itself. How far these arguments are valid? 2. X Ltd., a dealer in machinery entered into a contract with A Ltd. to supply a textile machinery for Rs.13lakh before December 31, 2008.Since the manufacture of said machinery was stopped, it could not supply the same. Dispute arose between the two parties, X Ltd. paid Rs.75000 by way of damages. It claimed it as a business loss. The Assessing Officer proposes to disallow the claim on the ground that the transaction amounted to settlement of a contract otherwise than by actual delivery, according to him it is speculation loss. Examine the rival contentions. 3. A Ltd. entered into an agreement with B Ltd. for a lease of the land owned by it at Rs.100 per sq. yard. The lease was for a period of 15 years. B Ltd. was required, under the terms of the lease, to construct a building on the land at a cost not less than Rs.10lakh. At the end of the lease period, the building was to be surrendered to A Ltd. free of cost. In terms of the agreement, B Ltd. constructed a building at the cost of Rs.10lakh and used it for the purpose of its business. The written down value of

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the building at the end of the lease period was Rs.75000, which the Assessing Officer assessed as a revenue receipt in the hands of A Ltd. on reversion of the property to it. Is it correct? 4. G Ltd., a manufacturing company, was marketing its products through another company M Ltd., which enjoyed the sole distribution rights. It was decided to amalgamate M Ltd. with G Ltd. itself. A sum of Rs.50000 was incurred by way of legal expenses in connection with the amalgamation which was claimed by G Ltd. as revenue expenditure for the assessment year 2009-10.Is the claim justified? 5. The factory of a company was under lock-out for a period of 200 days during the previous year. The Assessing Officer proposes to disallow 50 per cent of the depreciation on the plant and machinery on the ground that the machinery was used for the purpose of business for less than 182 days. Is the action of the Assessing Officer justified? Point-wise answer is as follows: 1. Under section 68, it is clear that the Assessing Officer has jurisdiction to make inquiries with regard to the nature and source of a sum credited in the books of account of an assessee and it would be immaterial as to whether the amount so credited is given the color of a lone or a sum representing the sale proceeds or even receipt of share application money. The use of the words any sum found credited in the books in section 68 indicates that the said section is very widely worded and an Assessing Officer is not precluded from making an enquiry as to the true nature and source there of even if the same is credited as receipt of share application money. The assessee represent that it has issued share on the receipt of share application money and the amount so received has been credited in the books of account of the company. The Assessing Officer would be entitled to enquire, and it would indeed be his duty to do so, whether the alleged share holders do in fact exist or not. If the shareholders exist then, possibly, no further enquiry need to be made. But if the Assessing Officer finds that the alleged share holders do not exist then in effect, it would mean that there is no valid issuance of share capital. Share can not be issued in the names of non existing persons. The use of the words may be charged in section 68 clearly indicates that the Assessing Officer would then have the jurisdiction, if the facts so warrant, to treat such a credit to be the income of the assessee. If share holders are identified and it is established that they have investing money in the purchase of shares then the amount received by the company would be regarded as capital receipt but if, on the other hand, the assessee offers no explanation at all or the explanation offered is not satisfactory, then the provision of section 68 may be invoked CIT v. Sophia Finance Limited [1993] 70 Taxman 69 (Delhi). 2. The payment can not be treated as speculative laws as it is made by way of damages or compensation see CIT v. Shantilal (P.) Ltd [1983] 144 ITR 57 (SC). 3. On the assumptions that the business of the assessee is not to deal in immovable property and rent is not unreasonably low, the value of building can not be treated as revenue receipt CIT v. Elphinstone Dye Works (P.) Ltd [1971] 82 ITR 634 (Bom.).

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4. The expenditure on amalgamation is deductible in five years in five equal installments under section 35 DD. 5. The limitation of 50 per cent of depreciation for plan and machinery used for a period of less then 180days applies only in respect of an asset falling within a block which is acquired during the previous year. Assuming the assets on which depreciation has been claimed are old assets, full depreciation is allowable and, therefore, the action of the Assessing Officer is not justified.

47-P7 X Textiles (Pvt.) Ltd. furnishes the following information in respect of its business for the period April 1, 2008 to March 31, 2009 and requests your help in computing its total income. Your answer should give detailed workings:

P & L APPROPRIATION A/C Rs. General reserve 800000 Net profit carried down from P&L A/c Cash assistance received from Government against exports Duty drawback against exports 800000 300000 300000 800000 Rs. 200000

LAND A/C Balance b/f (being cost of land purchased in 1989-90) Excess carried to capital reserve 50000 1050000 105000 1000000 Sale 105000

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PLANT & MACHINERY A/C Rs. Balance b/f Excess carried to capital reserve 12,00,000 24,00,000 12,00,000 Depreciation Sale 4,00,000 20,00,000 __ 24,00,000 Rs.

ACQUISTION OF KNOW-HOW A/C Amount paid to laboratory owned by the government 3,00,000 3,00,000 _ 3,00,000 Balance c/f 3,00,000

INVESTMENT DEPOSIT A/C Amount paid to 3,00,000 3,00,000 Balance c/f 3,00,000 3,00,000

Further details are as under which are revealed on your enquiry: 1. Salaries &wages account includes (i) a sum of Rs.1lakh paid towards the hospitalization & surgery charges of the managing director, (ii) contribution to the recognized provident fund paid by cheque on December 25, 2009:Rs.1lakh 2. Export turnover : Rs.120 lakh. Total turnover: Rs.3oo lakh. Loss from business brought forward from financial year 2007-08: Rs.8lakh

Rs.

Net Profit as per P&L A/c Add: Cash assistance received from government against exports

2,00,000 3,00,000

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[Sec.28(iiib)] Duty drawback against exports Depreciation [see note 1] Contribution to the recognized provident fund [see note 2] 3,00,000 4,00,000 1,00,000_ 13,00,000 Less: Depreciation technical know-how[25%of Rs.3,00,000] Profits & gains of business or profession Capital gain Short term[see Note3] Long-term[see Note4] Total Less:Brought forward business loss Gross total income Less:Deduction Net income(rounded off) Rs. 8,00,000 (-)21,53,488_ 8,00,000 20,25,000 8,00,000 12,25,000 Nil 12,25,000 75,000_ 12,25,000

Notes: 1.Depreciation: Depreciated value of the block on April1,2008 Add: Cost of assets purchased during the previous year 12,00,000 _ Nil

12,00,000 Less: Sale proceeds of asset sold during the previous year(subject to maximum of Rs.12,00,000) Written down value Depreciation 12,00,000 Nil Nil

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2.Contribution towards recognized provident fund-By virtue of section 43B,contribution to recognized provident fund should be paid on or before the due date for submission of return of income. Since in this case aforesaid conditions are not satisfied, contribution to recognized provident fund is not deductible. 3.Short term capital gain Sale proceeds of depreciable assets Less: Cost of acquisition (Sec.50) -Depreciated value on the first day of the previous year -Cost of assets purchased during the year Short term capital gain 4.Long term capital gain Sale proceeds of land Less:Indexed cost of acquisition (i.e.Rs.10,00,000*582/172) Capital loss (It has been assumed that land was a long term capital asset.) 5.It has been assumed that amount paid towards hospitalization/surgery charges are not hit by provisions of section 40A(2).Under this section, the Assessing Officer has the discretion to disallow such part of expenses as he considers excessive or unreasonable. The aforesaid expenditure is in the interest of company so that the service of managing director is available to the company. 47-P8 Your advice is sought on the correctness or otherwise of the following claims for the previous year ending March 31,2009: 1. An assessee-company wrote off an amount of Rs.1,00,000 to profit & loss account, representing the value of plant missing on physical verification & claimed it as a revenue loss. 2. A Ltd. resident company, having a branch in USA, earned profits outside India. When the profits were subsequently remitted into India , it incurred loss due to exchange fluctuations which was claimed as a trading loss. 3. The Articles of Association of N Ltd., provided for the payment of commission to its managing director, based on profits of the company ,so long as he held that office. The management of the company was taken over by the G& Co. who persuaded the managing director to retire on payment of 10,50,000 33,83,721 (-)23,33,721 Nil 12,00,000 8,00,000 Rs. 12,00,000 Rs. 20,00,000

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compensation of Rs.5 lakh, for termination of his right to receive the commission. The Assessing Officer proposes to tax the compensation as salary or alternatively as capital gain. 4. A Ltd. is amalgamated with B Ltd.On account of remission of debt ,a surplus of Rs.2lakh has arisen in the hands of B Ltd.which has directly been transferred to capital reserves. Is surplus taxable in the hands of B Ltd.? 5. A Ltd. , a non resident company, was carrying on business in India through a branch which was taken over by an Indian company B ltd., with effect from July 31,2008.BLtd. filed returns of income for the period from April1,2008 to July 31,2008, as well as for the period August 1,2008 to March 31,2008.Does the Assessing Officer have jurisdiction to make the assessment of A Ltd. in the hands of B Ltd., the Indian company, for the period ended July 31,2008?

1. As the loss is capital loss, it cannot be claimed as deduction under Section 28 under the head profits & gains of business or profession. Moreover , the amount cannot be reduced from the block of assets as the plant & machinery were neither discarded, demolished nor destroyed during the previous year. 2. As the revenue profit is held outside India, any loss due to change in fluctuations incurred while remitting such profit is deductible as revenue loss. 3. When the management of N Ltd. is taken over by G&Co., the latter company becomes the employer of recipient of compensation. Consequently, compensation for loss of office is taxable in the hands of the recipients profits in lieu of salary under Section 17(3) read with section 15.Even if it is assumed that G&Co. is not employer of the payee, such compensation is taxable as business i ncome under section 28(ii). 4. It is chargeable to tax in the hands of B Ltd. by virtue of section 41(1). 5.Section 170(2) can be invoked in the case of successor of the business when the professor cannot be found. In this case, it cannot be said that A Ltd. cannot be found & even if B Ltd. had filed the return, the legal position cannot be altered in any way. I f an assessment is to be made on the successor company, it must be done in the accordance with the provisions of law & when the predecessor company is available & can be assessed for assessment, no proceedings can be taken against the successor company under section 170(2).

47-P9 Developers Ltd. is a company engaged in the development of property. The shares issued by it carry the right of occupancy in buildings constructed by it in proportion to the holding. For the construction of the office complex, the company collected new refundable deposits from its shareholders,& leased them floor space proportionately to the shares held. The premises were let out by the shareholders who receive rental income. The company also collected amounts towards

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maintenance charges from each shareholder in respect of the premises let out by them. On the following issues your advice is sought: 1. Are the non refundable deposits taxable in the companys hands & what is the basis for computing the income of the company? 2. Discuss the taxability or otherwise of the maintenance charges collected? 3. Are the shareholders assessable on the rental income received by them and if so, how?

1. The non refundable receipt is a trading receipt , as it is related to the trading activity of the company. the cost of construction should be deducted from the aforesaid trading receipt. The profits shall accrue in the year in which the transaction regarding completion of building & allotment of space is completed. 2. The lump sum receipts received from the shareholders in respect of maintenance of building is taxable under section 28. 3. The shareholders shall be treated as owners in respect of the part of the building leased to them by virtue of section 27(iii) &, consequently, chargeable to tax in respect of the rental income under section 22.

47-P10 XYZ Ltd. is a company running a textile mill. During 2008-09, it had made a net loss of Rs.12,75,000 after providing Rs. 4,50,000 for depreciation which is the same as admissible for income tax purposes. Scrutiny of its accounts reveals following debits for expenditure under various heads. Compute the companys income giving the reasons for allowance or disallowance of each of the items: 1. The company has taken overdraft facility from a bank for payment of income tax and surtax. I t was found that an interest amount of Rs. 17,000 has been paid to the bank on this overdraft. 2. An amount of Rs. 50,000 described as penalty was paid to Export Promotion Council by the company during the year. It was explained that the payment was on account of shortfall in export performance undertaken at the time of import of Egyptian cotton & that the company found that the penalty was less than the loss which the company would have otherwise incurred if the full export, as undertaken, had been made. 3. The company had paid Rs. 1,00,000 as fine to Customs Department for having imported larger quantity than what was authorized by the import licence by tampering with the licence documents. The assessee was able to redeem the entire stocks by payment of this fine & was , in fact, able to make a profit even after the payment of fine on these imports.

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4. Managing Director of the company was given a salary of Rs.7,500 per month besides house rent allowance of Rs. 500 per month. It was ascertained that he was given medical reimbursement of Rs. 8,000 7 free use of companys car for personal purposes evaluated at Rs.6,700 for the whole year. 5. Gratuity of Rs. 35,000 was paid to the window of an executive director who died in office after service with the company for 25 years. His last pay was Rs.3000 per month. The company had a gratuity scheme for its employees but the executive director was not covered by it. However, the board of directors sanctioned the amount as an extra gratia payment of the gratuity by calculating the amount in the same manner as for other employees. 6. The company had raised foreign loans carrying interest & the rupee equivalent of the loan had been brought to India for the use in its business for working capital. A part of the loan was repaid but, during the year, there was a revaluation of the foreign currency. The liability on the outstanding loan, which increased in terms of rupees to the extent of Rs. 1,51,500 was debited to P&L A/c. 7. The company had debited Rs.6,000 in advertisement account. Payment was made after March 1,2009 to a Bombay representative of Radio Ceylon for advertising the companys products. The payment was made by crossed cheque drawn on a bank of Bombay. 8. The company had debited a sum of Rs.22,000 as a bad debt by writing off this amount due from one C, a cotton merchant to whom this advance was made for the purchase of cotton. C was absconding & did nit make any delivery against the order. He could not be traced. Rs. Net Adjustments Add: Interest on overdraft taken to pay income tax & surtax Add: Fine paid to Customs Department for tampering with the licence documents & importing larger quantity than authorized Gross Total Income Less:Deduction Loss to be carried forward (+)1,00,000 (-)11,58,000 --____ (-)11,58,000 (+)17,000

Notes: 1. Penalty of Rs.50,000 ( paid to export promotion council) was not given for infraction of any law but for its failure to export specified quantity as per the licence.The payment is, therefore, made wholly in the course of carrying on business. It is deductible from business income.

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2. Tampering with the licence documents & thereby importing larger quantity than authorized quantity, amounts to an illegal activity. Any fine payable for such illegal activity for infringement of law in course of carrying out lawful business is not allowable. The fact that is in lieu of confiscation of goods could not save the disallowance. 3. Ex gratia payment of gratuity to the widow of an executive director is an allowable business expenditure. 4. The loss of Rs.1,51,500 on account of increased liability of outstanding foreign loan as a result of revaluation of foreign currency is an allowable business loss, since the amount of loan was brought to India for the purpose of working capital usage. 5. Loss due to writing off of advance of Rs.22,000 is allowable as a business loss even if it is wrongly described as bad debt. 47-P11 X Ltd. is engaged in the business of manufacture of goods in India for domestic market. The audited profit & loss account for the year ending March 31,2009 is as follows: Rs. Cost of goods sold Office expenses Salary to employees Expenditure on scientific research Bad Debts Entertainment expenses Advertisement expenditure Travelling expenses Interest Advance Fringe Benefit Tax Income & wealth taxes Sales tax, excise duty & customs duty Municipal tax of quarters 1,76,000 84,000 10,000 57,000 2,27,000 3,20,000 82,000 30,000 86,400 13,78,100 1,30,000 12,80,000 Sales Rent of quarters near to workers Rent of commercial property given on rent to a foreign bank Sale proceeds of gold (not being stock in trade) Amount charged from persons using guest house of company 10,000 2,60,000 1,30,000 60,000 Rs. 42,70,500

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given to workers Municipal tax of comm-ercial property Repairs of workers quarters Repairs of commercial property given on rent Repairs of factory Insurance Land revenue of workers quarters Land revenue of comer-cial building Depreciation Other expenses Net profit

16,000

12,000 12,000

7,000 10,000 36,000

2,000

6,000 1,86,000 1,10,710 4,72,290 47,30,500 ________ 47,30,500

Other information: 1. Cost of goods sold includes the following: a. goods of Rs.3,80,000 purchased on May 10,2008 from B Ltd. in which Mrs.X holds 70% equity capital (Mrs.X does not any share in X Ltd.,but X holds 25% share capital in X Ltd.,similar goods were purchased on May 11,2008 from market for Rs.2,68,000) (out of Rs.3,80,000, Rs.3,50,000 is paid by an account payee cheque & Rs.30,000 is paid in cash); b. goods purchased from Y Ltd. of Rs.90,000 which is paid by a bearer cheque. 2. Out of salary to employees of Rs.12,80,000 a. Rs.30,000 is employees contribution to recognized provident fund , Rs.17,500 of which is credited in the employees account in the relevant fund before the due date; b. Rs.28,600 is bonus which is paid on September 13,2009; c. Rs.36,000 is commission which is paid on September 13,2009; d. Rs.10,000 is incentive to workers which is paid on December 1,2009;

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e. Rs.40,000 is paid outside India on which tax is not deducted at source; f. Rs.6,100 being capital expenditure for promoting family planning amongst employees; and g. Rs.30,000 being entertainment allowance given to employees. 3. Expenditure on scientific research, includes Rs.30,000, being cost of land & Rs.16,000 paid to an approved National Laboratory foe undertaking scientific research under an approved programme. 4. Entertainment expenses include the following: a. expense at a five-star hotel:Rs.14,000 b. expenses on providing food/beverages to employees in office ,factory or other place of their work:Rs.6,000 c. expenses(directly paid to catering service) on providing food/beverages to employees during working hours in place other than place of work : Rs.8,000(i.e., Rs.47 per day for 6 employees for 20 days plus Rs.10 per day for 4 employees for 59 days); d. club bills for entertaining customers:Rs.9,000; e. entertainment expenditure incurred outside India:Rs.4,700(permission of RBI has been taken). 5. Advertisement expenditure includes the following: a. expenditure incurred outside India:Rs.46,000 (permitted by RBI to the extent of Rs.31,800); b. articles presented by way of advertisement (60 articles cost of each being Rs.900,36 articles cost of each being Rs.1,700); c. Rs.16,000 being cost of advertisement which appeared in a newspaper owned by a political party; d. Rs.11,400 being capital expenditure on advertisement; e. Rs.22,000 paid in cash; f. Rs.7,000 paid to a concern in which X has substantial interest (amount is excessive to the extent of Rs.2,400). 6. Travelling expenses include the following: a. Rs.1,60,000 being expenditure incurred on foreign tour,Rs.9,000 out of which is incurred in Indian currency & Rs.1,51,000 in foreign currency (Rs.1,40,000 permitted by RBI under foreign exchange regulations) for a visit of 8 days to Germany, out of 8 days 2 days are utilized by X for attending personal work; b. Rs.40,000 being expenditure on air fare in India by a sales manager (who is otherwise entitled for a first class rail travel); c. Rs.6,000 incurred for purchasing a machine for factory (machine is yet to put to use); d. Rs.58,000 being hotel expenses as follows: (i) 4 days visit to Madras: Rs.16,000; (ii) 3 days visit to Bombay: Rs.6,000; (iii 17 days visit to Bangalore: Rs.32,000 7. Out of rs.82,000(being interest) Rs.60,000 is payable outside India(no tax is deducted at source) & Rs.15,000 is payable to IDBI(amount is paid on December 6,2009).

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8. Taxes debited to P&L A/c have been paid as follows(evidence of payment is submitted along with the return of income): a. income/wealth-tax on May 31,2009; b. sales tax, excise duty & custom duty:Rs.1,70,000 on March 31,2009 & Rs.6,000 on December 10,2009; c. municipal tax(workers quarters) on June 30,2009; d. municipal tax(commercial building) on June 30,2009. 9.Out of insurance of Rs.36,000, Rs.6,000 is fire insurance premium of workers quarters(paid on April 10,2009) & Rs.4,000 is fire insurance premium of commercial building(paid on April 10,2009). 10. land revenue of Rs.8,000 is paid on September 10,2009. Evidence of payment is submitted along with the return of income. 11. Other expenses include the following: a. repairs of guest house: Rs.6,000; b. cost of facilities provided in the guest house: Rs.41,200; c. cost of maintaining a holiday home for the benefit of 140 employees of the company: Rs.30,000; d. amount not deductible under section 37(1): Rs.4,000.

12. Indexed cost of acquisition of gold; Rs.2,41,000. Determine the amount of net income of X Ltd. for the assessment year 2009-10. Rs. Net profit as per P&L A/c Adjustment Advance fringe benefit tax Income-tax & wealth-tax Excess cost of purchasing goods from B Ltd. in cash [not allowed under section 40A(2)] +)94,000 Payment of Rs.30,000 to B Ltd. in cash [no adjustment is required as Rs.94,000 paid to B Ltd. is disallowed under section 40A(2)] Payment of Rs.90,000 by bearer cheque [i.e.100% of Rs.90,000] ----(+)90,000 ( (+)30,000 (+)86,400 4,72,290

134

Employees contribution to provident fund (treated as income) Amount credited to employees provident fund before due date Commission paid after September 30,2009 (not allowed by virtue of section 43B) Salary paid outside India on which tax is not deducted at source [not allowed by virtue of section 40(a)] Capital expenditure on family planning (one-fifth of such expend-iture is deductible in 5 years) Cost of land (not deductible under section 35) Payment to an approved National Laboratory (amount deductible is Rs.1.25 of Rs.16,000) Entertainment expenses [now fully deductible under section 37(1)] Advertisement expenses incurred outside India to the extent not per-mitted by RBI (now fully deductible) Advertisement appeared in a newspaper owned by a political party Articles presented of Rs.1,000 per article (now fully deductible) Advertisement expenses exceeding Rs.20,000 paid in cash [ 100% is disallowed under section 40A(3)] Advertisement expenses paid to a relative [to the extent it is excessive] Capital expenditure on advertisement Travelling expenses incurred outside India [amount deductible is 6/8*(Rs.1,60,000) i.e., Rs.1,20,000;amount not deductible is Rs.1,60,000 - Rs.1,20,000] Expenditure on air fare for inland travel(fully deductible) Capital expenditure on traveling(not deductible)

(+)30,000 (+)17,500

(+)36,000

(+)40,000

(+)4,880 (+)30,000

(-)4,000 ----

----(+)16,000 ----

(+)22,000

(+)2,400 (+)11,400

(+)40,000 ---(+)6,000

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Hotel expenses(fully deductible) Interest payable outside India on which tax is not deducted at source Interest payable to IDBI paid after due date of furnishing of return Sales tax,etc., paid after due date of furnishing of return Municipal tax of commercial property given on rent Repairs of commercial property given on rent Fire insurance of commercial property given on rent Land revenue of workers quarters paid before the due date of furnishing of return(deductible) Land revenue of commercial property given on rent(not deductible) Repairs of guest house (deductible under section 30) Cost Of providing different facilities in the guest house(now it is fully deductible) Amount not deductible under section 37(1) Rent of quarters given to workers [treated as business receipt as quarters are generally given to workers for running the business smoothly] Rent of a property given to a foreign bank(it is taxable as a house property income) Sale proceeds of gold(it is taxable under section 45) Income under the head Profits and gains of business or profession (a) Income from house property Gross annual value (being rent of commercial property) Less: Municipal tax(not deductible as not paid during the previ-

----

(+)60,000 (+)15,000 (+)6,000 (+)12,000 (+)7,000 (+)4,000

---(+)6,000 ----

----(+)4,000

-----

(-)1,30,000 (-)2,60,000

7,13,870

1,30,000

136

-ous year) Net annual value Less: Deductions Standard deduction(30% of Rs.1,30,000) Income from property (b)

Nil 1,30,000

39,000 91,000

Capital Gain Sale proceeds of gold Less:Indexed cost of acquisition Long term capital gain (c) Gross Total income [(a)+(b)+(c)] Less:Deductions under section 80C to 80U Net Income 2,60,000 2,41,000 19,000 (-)8,23,870 Nil 8,23,870

47-P12 XYZ Ltd., a company mainly engaged in the business of manufacturing, shows a profit of Rs.7,86,000 after debiting the following: Rs. 1. Payment of gratuity voluntarily & on account of commercial ex-pediency to an employee who died abroad while on companys bu-siness tour 2. Fees paid to an architect for valuation of buildings of the assessee 3. Compensation paid to a director on termination of his service 4. Lump sum consideration paid for obtaining a licence in respect of a technical information from a foreign company to improve quality of products 5. Payments made to eliminate underbidding for the purpose of keeping up 4,80,000 27,900 12,500 1,30,000

137

remunerative prices 6. Interest on unpaid purchase price of a business asset 7. Expenses incurred to eliminate a drain under statutory obligation 8. Expenses paid to management consultant for preparation & formul-ation of budgeting formats 9. Expenditure incurred on foreign tours to attend business conferen-ces 10. Payment of income-tax in foreign countries 11. Payment in advance for a new telephone connection under OYT scheme 12. Travelling expenses of a director with the object of negotiating a collaboration with foreign manufacturers for initiation of new line of business 13. Payment in annual installment for a period o 20 years under an ap-proved agreement to a foreign collaborator for technical know- how & for right to manufacture & sell products in India 14. Betterment charges paid under a Town Planning Scheme 15. Expenditure incurred for repairing a property taken on lease 16. Legal expenses incurred in connection with issue of capital 17. Expenses incurred for registration of a trademark 18. Shares issued at par to employees to further its interest(difference between market price & par value is debited to P&L A/c, 7 claimed as revenue expenditure) 19. Insurance premium paid against consequential loss policy 20. Anticipated loss under forward contract for purchase of raw mater-ials as a result of decrease in market price

65,000 14,000 1,47,000

34,000

18,700 82,000

15,000

80,000

1,80,000 12,000 4,000 32,750 11,150

66,750 38,000

1,20,780

138

21. Loss on account of non-recovery against a bill due to dishonesty & negligence of employees 22. Loss caused by depreciation of investment in securities 23. Loss caused of non recovery of tax paid by the assessee as a statutory agent of a non resident 24. Initial expenditure on installation of fluorescent tube lights 25. Payment of salary to a foreign technician approved by Govern-ment 26. Expenditure on accommodation at the place where the factory is situated for directors & officers 27. Lunch at five star hotel where 4 representatives of suppliers were taken to lunch & purchase manager & secretary of the company accompanied them 28. Payment of State Electricity Board for providing service lines 29. Payment in respect of income-tax proceedings --a. payment for preparation of return of income b. payment for filing income-tax appeals/ reference(the recipient is not an employee of the company) c. payment of salary @ Rs.9,000 per month to an employee for deal-ing with income-tax matters d. payment to a tax consultant (not being an employee) @Rs.500 per month for advising company in connection with different obligations / liabilities under the Act 30. Loss on account of non-recovery of advance given to 100% subsidiary company engaged in business of financing subsidiary companies 31. Payment of advance fringe benefit tax 1,06,000 20,000 6,000 6,000 11,000 1,08,000 3,800 19,000 40,000 1,07,000 8,300 800 36,000 17,210

139

Determine the taxable income of the company for the assessment year 2009-10.

Net Profit as per P&L A/c Add: Inadmissible expenses 1. Payment of gratuity on account of commercial expediency is deductible even if there is no express contract or there is no past practice, as it will enge-nder confidence of employees in management 2. Fee for valuation of buildings is deductible if valuation is required in the co-urse of carrying on business(i.e., for computing insurable value, for ascertaini-ng amount of security offered); however, valuation is made for the purpose of selling of building it is not deductible 3. Compensation paid to a director is deductible if service is terminated in the interest of business of the assessee 4. Depreciation is deductible @ 25% 5. Payment made to eliminate underbidding to keep remunerative prices is deductible as it is a revenue expenditure 6. In the case of existing business interest paid on unpaid purchase price of business asset is deductible as revenue expenditure 7. Expenses incurred to eliminate a drain is capital expenditure 8. Payment made to a management consultant for devising formats for budgeting is deductible as it is incurred for improvement & rationalization of administration of assessees business 9. Expenditure incurred for keeping abreast of least techniques & developm-ents in business is deductible 10. Income-tax is not deductible ; however , the assessee can claim double taxation relief in respect of doubly taxed income

7,86,000

---

---

--3,60,000

---

--1,47,000

---

---

82,000

140

11. OYT advance money is allowable as deduction in the year of payment 12. Expenditure incurred in connection with initiation of anew venture is a capital expenditure ; it is, therefore, not deductible under section 37(1) [it may be capitalized] 13. Payment of annual installment for technical know-how is a revenue expenditure 14. Betterment charges are capital expenditure 15. Expenditure on repairs of leased property is deductible 16. Legal expenditure incurred for issue of capital is not deductible 17. Expenditure on registration of trade mark is a revenue expenditure 18. Premium foregone by a company while issuing shares is not a

---

80,000

--12,000 --32,750

---

Rs. trading transaction; hence it is not deductible 19. Amount paid to insure business against loss of profits is deductible 20. Anticipated loss in a forward contract is not deductible 21. Loss on account of negligence or dishonesty of employees is deductible 22. Loss on account of depreciation of investment in securities is a capital loss 23. Loss on account of non recovery of tax paid by the assessee as a statutory agent is not deductible 24. Expenditure incurred initially on installation of fluorescent tube lights is a capital expenditure 25. Payment of salary to a foreign technician is deductible 26. Expenditure on accommodation for directors & officers at the --800 8,300 17,210 --66,750 --1,20,780

141

place where the factory is situated is expenditure on maintenance of a guest house[now it is deductible under section 37(1)] 27. Expenditure on lunch for representatives of suppliers, purchase manager & secretary is entertainment expenditure; it is, however ful-ly allowed as a deduction under section 37(1) 28. Payment to State Electricity Board for providing service lines is a revenue expenditure because it is incurred to increase the income of the company 29. Expenditure on income-tax proceedings is not disallowed under section 40A(12) 30. Loss on account of non-recovery of advances relates to carrying on business; as business of the 100%subsidiary company relates to financing of subsidiary companies & is allowable as deduction 31. Advance fringe benefit tax (not deductible) Net Income --20,000 17,33,590 ---------

47- P13 Profit & Loss Account of X Ltd.for the year ending March 31,2009 is given below--Rs. Expenditure for earning agr-icultural income Income tax, dividend tax & in-terest pertaining to these taxes Penalty & fine under the Inco-me tax Act Excise duty Wealth-tax, fringe benefit tax 42,000 19,20,000 2,13,000 40,000 Gross profit Agricultural income Dividend for Indian companies Dividend for foreign companies Long-term capital ga-in on transfer of gold 72,000 3,00,000 4,00,000 Rs. 71,83,000 9,00,000

142

& service tax Depreciation Depreciation(pertaining to rev-aluation of assets) Statutory reserve(created on the direction of Supreme Court) Provision for bad & doubtful debts Provision for deferred tax Salary Other expenses Net profit

2,90,000 7,80,000

Long-term capital ga-in on transfer of equity shares(securities transa-

70,000

-ction tax is applicable) Short-term capital gain

2,70,000

5,00,000

on transfer of equity sh-ares(securities transact-

50,000 72,000 11,20,000 14,20,000 28,32,000

-ion tax is applicable) Withdrawal from reval-uation reserve account Withdrawal from gener-al reserve Withdrawal from capit-al reserve(which was not created by debiting P&L A/c) Interest on units of mutual funds

92,000

72,000

42,000

10,000

8,000 93,49,000

93,49,000

Other information -----1. Depreciation under section 32 is Rs5,50,000. Besides, the company eligible for an additional depreciation of Rs.15,000. 2. Statutory reserve was created under the direction of Supreme Court given under its judgment dated July1,2008. 3. Provision for bad & doubtful debts pertains to a debtor who is not traceable. In the accounting year 2009-10, it is written off.

143

4. Salary includes payment of Rs.4,00,000 to an employee without deducting tax at source. The company does not have an employee who is non resident. 5. Out of excise duty debited to P&L A/c ,Rs.50,000 is disputed & not paid so far. 6. During the previous year 2008-09, a company paid an outstanding sales tax of Rs.59,000 for the accounting year 1999-2000. 7. Other expenses include Rs.4,00,000 being capital expenditure for acquiring a licence. 8. X Ltd. is a public limited company & its shares are not quoted in any stock exchange in India. However, shares of X Ltd. are quoted in Hong Kong stock exchange. 9. The company is eligible for deduction under section 80-IB at the rate of 30%. 10. For Income- tax purposes, the company wants to claim brought forward business loss of Rs.24,00,000(previous year 2007-08), unadjusted depreciation of Rs.43,000(previous year 19992000),long term capital loss of Rs.8,000(previous year 2006-07). 11. For accounting purposes, the company wants to claim deduction of accumulated loss of Rs.44,000 out of which Rs.10,000 is on account of depreciation. 12. On March 31,2007, there were 4 shareholders in the company-A(60%), B(10%), C(8%) & D(22%).On April 1,2007, A transfers his entire shares to his friend E for a consideration of Rs.40crore.On March 10,2008,E transfers his entire shares to Reserve Bank of India. There is no other change in the shareholding pattern.

Find out the taxable income & tax liability thereon for the assessment year 2009-10.

Computation of Income----Rs. Net profit as per P&L A/c Add: Expenditure for earning agricultural income Add: Income tax, dividend tax & interest pertaining to these taxes Add: Penalty & fine under the Income tax act Add: Wealth-tax, fringe benefit tax & service tax 28,32,000 40,000 2,13,000 42,000 2,90,000

144

Add: Depreciation(Rs.7,80,000+Rs.70,000) Add: Statutory reserve Provision for bad & doubtful debts Add: Provision for deferred tax Less: Agricultural income Less: Dividend from Indian companies Less: Dividend for foreign companies Less: Long-term capital gain on transfer of gold Less: Long-term capital gain on transfer of equity shares Less: Short-term capital gain on transfer of equity shares Less: Withdrawal from revaluation reserve account Less: Withdrawal from general reserve Less: Withdrawal from capital reserve Less: Interest on units of mutual funds Less: Depreciation under section 32(Rs.5,50,000+Rs.15,000) Add: Unpaid excise duty Less: Sales tax for the previous year 1999-2000(earlier disallowed under section 43B) Add: Capital expenditure for acquiring a licence Less: Depreciation on licence under section 32(being 25% of Rs.4,00,000) Business Income Capital gains(long term:Rs.72,000+ short term: Rs.92,000) Income from other sources (dividend from foreign companies)

8,50,000 5,00,000 50,000 72,000 (-)9,00,000 (-)4,00,000 (-)3,00,000 (-) 72,000 (-)2,70,000 (-) 92,000 (-) 72,000 (-) 42,000 (-) 10,000 (-) 8,000 Add

(-)5,65,000 50,000

(-) 59,000 4,00,000

(-)1,00,000 24,49,000

1,64,000 3,00,000

145

Adjustment of losses: Section 79 is not applicable, as X Ltd.is a company in which the public are substantially interested (not less than 40% shares owned by RBI). Consequently, brought forward losses can be adjusted as follows----

Income before Adjusting brought forward losses Rs. Business income Capital gains Income from other sources 24,49,000 1,64,000 3,00,000

Brought forward losses Rs. 24,43,000 8,000

Income after adju-stment Rs. 6,000 1,56,000 3,00,000

Gross total income Less: deduction under section 80-IB (30% of Rs.6,000) Net income Tax(20% of Rs.64,000, 15% of Rs.92,000,30% of Rs.3,04,200) Add: Education cess & second-ary and higher education cess @3% Tax liability under normal provision

4,62,000

1,800 4,60,200

1,17,860

3,536

1,21,400

Computation of book profit---

146

Rs. Net profit as per P&L A/c Add: Income-tax dividend tax & interest Add: Transfer to statutory reserve Add: Expenditure for earning tax-free income Add: Entire depreciation (Rs.7,80,000 + Rs.70,000) Add: Provision for deferred tax Add: Provision for bad & doubtful debts Less: Withdrawal from general reserve Less: Income exempt from tax (Rs.9,00,000 + Rs.4,00,000 + Rs.8,000) Less: Depreciation Less: Withdrawal from revaluation reserve to the extent it does not exceed depreciation pertaining to revaluation Less: Loss or depreciation brought forward, whichever is lower(i.e.,Rs.34,000 or Rs.10,000, whichever is lower) Book profit Minimum alternate tax(i.e. 10% of Rs.23,47,000 + 3% education cess) 2,41,740 (-)10,000 23,47,000 (-)70,000 (-)13,08,000 (-)7,80,000 8,50,000 72,000 50,000 (-) 42,000 28,32,000 2,13,000 5,00,000 40,000

The company will have to pay Rs.2,41,740 as tax for the assessment year 2009-10.

147

TAX PLANNING WITH REFERENCE TO A NEW BUSINESS- LOCATION OF A BUSINESS

LOCATION OF NEW BUSINESS

57. Many factors affect location of a business. The following tax incentives are available under the act:1. 2. 3. 4. 5. 6. 7. 8. 9. 10. Under section 10A in the case of a newly established industrial undertakings in free trade zones . Under section 10AA in the case of newly established unites in special economic zone Under section 10B in the case of a newly established hundred percent export oriented undertakings Under section 10BA in respect of artistic hand made wooden articles under section 80-IA in respect of profits and gains from industrial undertaking or enterprises engaged in infrastructure development, etc. Under section 80-IAB in respect of profits and gains by an undertaking or enterprise engaged in development of special economic zone . Under section 80-IB in respect of profits and gains from certain industrial undertakings other than infrastructure development undertakings . Under section 80-IC in respect of profits and gains of certain undertakings in certain special category of states . Under section 80-ID in respect of profits and gains of hotels and convention centre in NCR. Under section 80-IE in respect of profits and gains of certain undertakings in North eastern states .

MULTIPLE CHOICE QUESTIONS

148

Q1. Under section 10A, an Indian company having non-resident shareholders cannot claim any deduction-

a. True b. False

Q2. Only a company ( not a limited liability partnership) can claim deduction under sections 10A,10AA and 10B-

a. True b. False

Q3. A Government company cannot claim any deduction under sections 10A,10AA and 10B-

a. True b. False

Q4. A limited liability partnership owns an infrastructure facility. It can claim Deduction under section 80-IA

a. True b. False

Q5. Only an industrial undertaking can claim deduction under section 80-IB. A company owning a hospital in a rural area cannot claim the same

149

a. True b. False

Q6. A company owning the following hotels can claim deduction under section 80-ID

a. b. c. d. e.

A 5 star hotel in Jaipur , A 4 star hotel in Gurgaon , A 3 star hotel in Mumbai All of the above None of the above

Q7. For the purpose of section 280-IE, Tripura is a north eastern state-

a. True b. False

Q8. A company is qualified to claim deduction under section 80-IB, By mistake the deduction was not claimed in the return of income. However, the company claims the same before the Assessing Officer at the time of the assessment under section 143(3)-

a. b. c. d.

Deduction will be allowed by the Assessing Officer, Deduction will not be allowed by the Assessing Officer , Deduction will be allowed by the Assessing Officer, if the Commissioner of the Income tax permits, Deduction will be allowed by the Assessing Officer , if it permitted by the Chief Commissioner.

150

TAX PLANNING WITH REFERENCE TO NEW BUSINESS NATURE OF NEW BUSINESS

NATURE OF NEW BUSINESS

69. Many incentives are available under the act which are directly co-related in the nature of business. Some of these incentives are as follows :-

i. ii. iii. iv. v. vi. vii. viii. ix. x. xi.

Newly established industrial undertaking in free trade zones ( Sec. 10A ) Exemption in the case of units in special economic zones ( Sec. 10AA ) Newly established hundred percent export-oriented undertakings ( Sec. 10B) Export of artistic handmade wooden articles ( Sec. 10BA) Tea development account ( Sec. 33AB) Telecommunication services ( Sec. 35ABB) Special provision for deduction in the case of business for prospecting for mineral oil ( Sec. 42 and 44BB) Special provisions for computing profits and gains for business of civil construction ( Sec. 44AD) Special provisions in the case of business of plying , hiring , or leasing goods carriages ( Sec. 44AE) Special provisions for computing profits and gains of retail business ( Sec. 44AF) Profits and gains from industrial undertakings engaged in infrastructure, etc ( Sec. 80-IA) Profits and gains by an undertaking or enterprise engaged in development of Special economic zone ( Sec. 80-IAB) Profits and gains from certain industrial undertakings other than infrastructure Development undertakings ( Sec. 80-IB) Profits and gains of certain undertakings in certain special category of states ( Sec. 80-IC) Deduction in respect of employment of new workmen ( Sec. 80JJAA) Tonnage Tax Scheme ( Secs, 115V to 115VZC)

xii.

xiii.

xiv.

xv. xvi.

151

70. An Assessee can claim deduction under section 33AB as follows :-

TEA/COFFEE/RUBBER DEVELOPMENT ACCOUNT [ SEC 33AB]

CONDITIONS

70.1 The assessee must satisfy the following conditions :Condition one Condition two Condition three Condition four The assessee must be engaged in tea, coffee or rubber plantation It must make a deposit in special account The deposit should be made within specified time limit The accounts of the assessee should be audited

Engaged in tea/coffee/rubber plantation- it must be engaged in the business of growing and manufacturing tea or coffee or rubber in India. Deposit- it must make the following deposit (hereinafter referred to as special discount) a) Deposit with national bank for agriculture and rural development (hereinafter referred to as NABARD) any amount in an account maintained by the assessee with that bank in accordance with and for the purpose specified in a scheme approved by the tea board or coffee board or rubber board. b) Deposit any amount in the deposit account opened by the assessee in accordance with, and for the purposes specified in, a scheme framed by the tea board or coffee board or rubber board with the previous approval of the central government . Time limit- the aforesaid amount shall be deposited within 6 months from the end of the previous year or before the due date of furnishing the return of income, whichever is earlier . Audit- The accounts of taxpayer should be audited by a chartered accountant and the report of the auditor in Form no. 3AC is to be filed along with the return of the relevant assessment year . In cases where the accounts of the taxpayer are required to be audited under any other law, e.g., under the companies act, it would be sufficient if the accounts are audited under that law and the

152

audit report as per the law is furnished with the return along with a further report in Form no.3AC for the purposes of this provision.

AMOUNT OF DEDUCTION

70.2 The amount of deduction is :-

a) a sum equal to amounts deposited in special account b) 40 percent of the profit of such business computed under the head profits and gains of business or profession before making any deduction under section 33AB and before adjusting brought forward business loss under section 72,

Whichever is less.

The following points should also be kept in mind :

1) where any deduction is claimed under this section, no deduction shall be allowed in respect of such amount in any other previous year . 2) where a deduction is claimed and allowed under this section to an association of persons or body of individual, no deduction shall be allowed to any member of the association or body in respect of the same deposit . 3) any excess deposit in special account made during a previous year is not treated as deposit made in the next year or any other year .

AMOUNT CAN BE WITHDRAWN FOR THE PURPOSE OF THE SCHEME

70.3 The amount standing to the credit of the special account may be withdrawn only for the purpose specified in approved scheme. Except in the circumstances mentioned in Para 70.4, if the amount released from the special account in a year is not utilised in the same previous year for the purpose for which it is released, the amount not so utilised will be treated as taxable profits of that year and taxed accordingly.

153

Case Study

70/3-P1. X Ltd. is engaged in the business of growing and manufacturing tea in India. During the previous year 2007-2008, it deposits Rs. 100 Lakh in the special account and claims the same as deduction under section 33AB (i.e. 40 percent of the business profit: Rs 250 Lakh). During 2008-09, the company withdraws Rs. 35 lakh from the :special account which is utilised as follows-

a. Rs 25 lakhs on December 31, 2008 for the purpose of the scheme framed by the tea board; and b. Rs 4 lakh for other purpose on January 27, 2009.

Rs 6 lakh is not utilised up to march 31, 2009. Find out the amount chargeable to tax for the assessment year 2009-10.

.
For the assessment year 2009-10. Rs 10 lakh is treated as business income (i.e. Rs 4 lakh , being the amount misutilised by the company plus Rs 6 lakh, being the amount which is not utilised by the company during 2008-09). Out of Rs 10 lakh, 40%(i.e. Rs 4 lakh) is taken as non-agricultural income and 60% (i.e. Rs 6 lakh) is deemed as agricultural income.

CONSEQUENCES IN THE CASE OF CLOSURE OF BUSINESS

70.4 Apart from the purposes specified in the approved scheme, the amount standing to the credit of the special account may be allowed to be withdrawn in the following circumstances: When the amount can be withdrawn and it is treated as taxable profit When the amount can be withdrawn and it is not treated as income

154

1. Closure of business 2. Dissolution of business

1. Death of the taxpayer 2. Partition of Hindu undivided family 3. Liquidation of company

Where an amount is withdrawn because of closure of business or because of dissolution of firm, the amount withdrawn will be treated as taxable profit and taxed accordingly on the basis as if the business was continuing or the firm had not been dissolved . In all other cases, viz, death of the taxpayer, partition of Hindu undivided family and liquidation of the company, the amounts withdrawn on closure of account because of the occurrence of any of these events will not be included in the taxable income even though the amounts have not been utilised for any of the purposes specified in scheme.

WITHDRAWAL FROM THE SPECIAL ACCOUNT CANNOT BE UTILISED FOR CERTAIN PURPOSES

70.5 The amount withdrawn from the special account cannot be utilised for the purpose of purchase of any machinery or plant to be installed in any office premises or residential accommodation including guest houses; any office appliance (other than computers);any other plant or machinery which either is installed in an undertaking producing low priority items specified in the eleventh schedule in the income tax act or is an item of plant or machinery entitled to 100 percent write off by way of depreciation or for any other reason in any one year .

CONSEQUENCES IF THE NEW ASSET IS TRANSFERRED WITHIN 8 YEARS

70.6 The deduction allowed under this section shall be withdrawn if the asset acquired out of the money withdrawn from the special account is sold or otherwise transferred. These provisions are given below-

To whom it is transferred

Transfer within 8 year from the end of the previous year in which the asset is acquired Deduction will not be withdrawn

Transfer after 8 year

Transfer to the Central Government , a State Government

Deduction will not be withdrawn

155

, a local authority , a statutory corporation or a government company Transfer in a scheme of succession of a firm by company [ see note] Transfer in any other case Deduction will not be withdrawn Deduction will be withdrawn Deduction will not be withdrawn Deduction will not be withdrawn

Note: Transfer in a scheme of succession of a firm by company should satisfy the following points-

a. the scheme continues to apply to the company in the manner applicable to the firm,

b. the successor company takes over all the properties and liabilities of the firm, and

c. all the shareholders of the company were partners of the firm before the Succession.

CASE STUDY

70.6-P1 Find out the tax consequences in the following cases-

1. business profit of X ltd, a tea growing and manufacturing company , is Rs 70 lakh for the assessment year 2008-09. It deposits Rs 25 lakh in the special account for claiming deduction under section 33AB. It wants to claim set-off of brought forward business loss of Rs 12,00,000.

2.By withdrawing Rs 20 lakh on January 20,2009 from the special account , X ltd, purchases a non- depreciable asset for Rs 18 lakh according to the scheme framed by the tea board, the remaining amount of Rs 2 lakh is not utilised up to March 31,2009.

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3. The asset which is purchased for Rs 18 lakh is sold to Y for Rs 31 lakh on December 3,2011.

.
1. Amount deductible for the assessment year 2008-09 is a. Rs 28 lakh ( i.e. 40% of Rs 70 lakh); or b. Rs 25 lakh (being the deposit in the special account) whichever is lower.

Rs 25 lakh is, therefore, deductible under section 33AB. Taxable income of Xltd shall be determined as under ( Rs in lakhs) Business income Less: deduction under section 33AB 70 25 __ Net income 45

As per rule 8, 40% of Rs 45 lakh is taken as non- agricultural income which is chargeable to tax and the balance 60% is treated as agricultural income which is Not taxable

Non- agricultural income[ i.e. 40% of Rs 45 lakh ] Less: Brought forward loss

18 12 __

Net income

2. Rs 2 lakh being the amount not utilised up to March 31, 2009 will be business income( 40% of which will be taxable as non- agricultural income) for the assessment year 2009-10.

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3. The new asset is transferred within eight years from march 31, 2009. Consequently, the taxable income for the assessment year 2012-13 (i.e. previous year 2011-12 in which the asset is transferred) will be determined as followsRs

Business income [ 40% of which is taxable as non- agricultural income]

18,00,000

Short term capital gain (i.e. Rs 31 lakh Rs 18 lakh )

13.00.000

DOUBLE DEDUCTION NOT PERMISSIBLE

70.7 Where any amount standing to the credit of the assessee in the special account is utilised by the assessee for the purpose of any expenditure in accordance with the scheme , such expenditure shall not be allowed in computing the income chargeable under the head profits and gains of business or profession.

TELECOM LICENSE FEES [ SEC. 35ABB ]

71. The provisions of section 35ABB are given below:

CONDITIONS

71.1 Deduction under section 35 ABB is available if the following conditions are satisfied-

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Condition one Condition two Condition three Condition four

The expenditure is capital in nature It is incurred for acquiring any right to operate telecommunication services The expenditure is incurred either before the commencement of business or there-after at any time during any previous year The payment for which has actually been made to obtain license

If all the above conditions are satisfied, then one can claim deduction under section 35ABB. If however, these conditions are not satisfied , then deduction under section 35ABB is not available [ one may claim deduction under section 37(1) ].

AMOUNT OF DEDUCTION

71.2 The payment will be allowed as deduction in equal instalments over the period starting from the year in which such payment has been made and ending in this year in which the license comes to an end . it may be noted that the deduction starts from the year in which the liability for the expenditure is incurred according to the method of accounting regularly employed by the assessee.

PROFIT OR LOSS ON SALE OF TELECOM LICENSE

71.3 Any profit or loss on sale of telecom license is taken into consideration while computing business income. The relevant rules are given below. In the table given below, WDV is the written down of value (i.e. the expenditure incurred remaining unallowed) on the first of the previous year in which telecom license is transferred-

Different situations

Tax treatment

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1. Entire telecom license is transferred 1.1 When sale consideration is less than WDV 1.2 When sale consideration is more than WDV WDV minus sale consideration is allowed as deduction under section 35ABB in the year of sale . The excess of sale consideration over WDV is taxable as business income in the year of sale (subject to rules given below in notes)

2. When a part of telecom license is Transferred 2.1 When sale consideration is less than WDV 2.2 When sale consideration is more than WDV WDV minus sale consideration will be allowed as deduction over the unexpired period. Same tax treatment as is given in 1.2

Notes-

1. In situations 1.2 and 2.2, the amount taxable as business income cannot exceed deduction allowed under section 35ABB in the earlier years, 2. The aforesaid amount is taxable whether (or not) business is in existence. 3. In respect of the same expenditure, no further deduction will be allowed under section 35ABB.

CONSEQUENCES IN THE CASE OF AMALGAMATION OR DEMERGER

71.4 Where, under the scheme of amalgamation, a telecom license is transferred by the amalgamating company to the amalgamated company (being an Indian company) or by a demerged company to a resulting company (being a Indian company), then deduction will not be available under section 35ABB to the amalgamating or demerged company. However, the provisions of section 35ABB continue to apply to the amalgamated company or resulting company, as these would have applied to the amalgamating or demerged company if the latter had not transferred the license.

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DEPRECIATION UNDER SECTION 32 NOT AVAILABLE

71.5 Where a deduction for any previous year is claimed and allowed under section 35ABB , then no deduction of the same expenditure shall be allowed under section 32 for the same previous year or any subsequent previous year.

CASE STUDIES

71-P1 X ltd, a company providing telecommunications service, obtains a telecom license on April 20, 2008 for a period of 10 years which ends on march 31, 2018 (license fee being Rs 18 lakh). Find out the amount of deduction under section 35ABB if-

a. the entire amount is paid on may 6, 2008; or b. the entire amount is paid on April 1, 2009; c. the entire amount is paid in three equal instalments on April 30, 2008, April 30, 2009 and April 30, 2010.

.
Situation (a) The payment of Rs 18 lakh is deductible in 10 instalments over a period of 10 years from the previous years 2008-09 to 2017-18( the amount deductible each year being Rs 1.8 lakh).

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Situation (b) The payment is deductible in 9 years starting from the year of payment, i.e. the previous year 2009-10 and ending with the previous year 2017-18 ( the amount deductible each year being Rs 2 lakh).

Situation (c) The entire payment is made in three instalments. Deduction under section 35ABB is available as under

First instalment

Second instalment

Third instalment

Total

April 30,2008 10 years (200809 to 2017-18 Rs 6 lakh

April 30,2009 9 years (20092010 to 201718) Rs 6 lakh

April 30, 2010 8 years (2010-11 to 2017-18) Rs 6 lakh

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Rs

Rs

Rs

Rs

60,000 60,000 60,000 Date of payment

66,667 66,667

75,000

60,000 1,26,667 2,01,667

Period during which deduction is available

Amount of payment

Amount deductible in previous year 2008-09 2009-10 2010-11 to 2017-18

71-P2 X ltd, a company which provides telecom services, acquires a telecom license on April 5, 2008 for a period of 15 years which ends on March 31, 2023( license fees being Rs 15 lakh paid on May 6 , 2008 ). The license is transferred by X ltd on December 20 , 2010 for (a) Rs 6,92,000, (b) Rs 13,70,000 or (c) Rs 15,60,000. Compute the amount chargeable to tax

.
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Cost of license which is paid on may 6,2008 Less: Amount written off during the previous years 2008-09 and 2009-10 Written down value of telecom license on April 1,2010

15,00,000

2,00,000 13,00,000

Tax treatment when telecom license is transferred on December 20, 2010

Sale consideration

Rs 6.92 lakh Rs 6.92.000 13,00,000

Rs 13.70 lakh Rs 13,70,000 13,00,000

Rs 15.60 lakh Rs 15,60,000 13,00,000

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(-) 6,08,000

70,000

2,60,000

6,08,000

Sale proceeds Less: written down value on April 1,2010 70,000 2,00,000

Surplus Amount deductible during the previous year 201011 under section 35ABB(2)

6,92,000 15,00,000 (-) 8,08,000

13,70,000 15,00,000 (-) 1,30,000

15,60,000 15,00,000 (+) 60,000

Amount chargeable to tax during the previous year 2010-11 as notional business income, it cannot exceed the amount of deduction claimed in earlier years under section 35ABB

Short term capital gains

Sale proceeds Less: Cost of acquisition

Short term capital gain/loss

Note: it can be seen from the above data that where the telecom license is transferred for Rs 6.92 lakh, the taxpayer can claim short-term capital loss of Rs 8.08 lakh, apart from claiming deduction under section 35ABB. To avoid deduction, it is suggested to the government that a suitable amendment should be made in section 35ABB incorporating the following-

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Where a deduction is allowed in respect of capital expenditure under section 35ABB, no deduction shall be allowed in respect of said expenditure under any other provision of the act in any year.

71-P3 Suppose in the above problem X ltd transfers a part (40%) of telecom license for (a) Rs 6,80,000 or (b) Rs 18,90,000 on may 6,2010. Compute the amount chargeable to tax.

.
sale consideration Rs 6.8 lakh Rs 13,00,000 6,80,000 6,20,000 47.692 Rs 18.90 lakh Rs 13,00,000 18,90,000 (-)5,90,000 Written down value on April 1, 2010 Less: Sale proceeds on transfer of 40% telecom license

Remaining written down value Deduction under section 35ABB for remaining 13 years Amount taxable as business income for the previous year 201011( subject to the maximum of deduction allowed under)

2,00,000

6,80,000 6,00,000 80,000

18,90,000 6,00,000 12,90,000

Short term capital gain

Sale proceeds Less : cost of acquisition of 40% license

Short term capital gain

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EXPENDITURE ON SPECIFIED BUSINESS [ SEC. 35AD ]

72. Section 35AD has been inserted ( with effect from the assessment year 2010-11) to provide for investment linked tax incentive.

CONDITIONS

72.1 The following conditions should be satisfied to avail of the benefit of deduction under section 35AD-

SPECIFIED BUSINESS

72.1-1 Deduction under section 35AD is available only in the case of a specified business given below-

Specified business

Who should own the business Any person

Approval (if any)

Setting up and operating a cold chain facility[ see note 1] Setting up and operating a warehousing facility for storage of agricultural produce Laying and operating a cross- country natural gas or crude or petroleum oil

Not required

Date of commencement of business On or after April 1, 2009 On or after April1,2009

Any person

Not required

An Indian company or a consortium of Indian companies or an

Should be approved by petroleum and

-On or after April 1, 2007, in the case of laying and operating

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pipeline network for distribution, including storage facilities being an integral part of such network

authority/Board/corpor ation established under any central or state act

natural gas regulatory board and notified by the central government [ see note 2 ]

a cross- country natural gas pipeline network for distribution or storage -In other cases, on or after April1. 2009

Note 1: Cold chain facility means a chain of facilities for storage or transportation of agricultural and forest produce, meat and meat products, poultry, marine and dairy products , products of horticulture, floriculture and apiculture and processed food items under scientifically controlled conditions including refrigeration and other facilities necessary for the preservation of such procedure. .

Note2: This business should make not less than one third of its total pipeline capacity available for use on common carrier basis by any person other than the assessee or an associated person. Associated person is a person who participates in the management of the assessee, holds at least 26 percent voting power in the assessee, appoints more than half of the board of directors or who guarantees not less than 10 percent of the total borrowing of the assessee.

SPECIFIED BUSINESS SHOULD BE NEW BUSINESS

71.1-2 The specified business should not be set up by splitting up, or the reconstruction, of a business already in existence. Moreover, it should not be set up by the transfer of old plant and machinery.

20 percent old machinery is permitted- If the value of the transferred assets does not exceed 20 percent of the total value of machinery or plant used in the business, this condition is deemed to have been satisfied.

Second-hand imported machinery is treated as new- Any new machinery or plant which was used outside India by any person (other than the assessee) shall not be regarded as machinery or plant previously used for the purpose, if the following conditions are fulfilled-

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1. Such machinery or plant was not, at any time previous to the date of the installation by the assessee, used in India. 2. Such machinery or plant is imported into India from any country outside India. 3. No deduction on account of depreciation in respect of such machinery or plant has been allowed or is allowable under the act in computing the total income of any person for any period prior to the date of the installation of the machinery or plant by the assessee.

AUDIT OF BOOKS OF ACCOUNT

72.1-3 Books of account of the assessee should be audited.

AMOUNT OF DEDUCTION

72.2 100 percent of capital expenditure incurred wholly or exclusively for the purpose of specified business carried on by an assessee is deductible in the previous year in which the expenditure is incurred . however, this is subject to the following two propositions-

1. Expenditure incurred on the acquisition of any land or goodwill or financial instrument is not eligible for any deduction under section 35AD. 2. Expenditure incurred prior to the commencement of operation, wholly and exclusively, for the purpose of any specified business, shall be allowed as deduction during the previous year in which the assessee commences the operation of his specified business, if the amount is capitalised in the books of account of the assessee on the date of commencement of operation. 3. If operation of the business of laying and operating a cross county natural gas distribution network is commenced during April 1,2007 and march 31,2009, the capital expenditure ( not being for acquiring land or goodwill or financial instrument) incurred before April 1,2009( to the extent not allowed as deduction under any section earlier) will be allowed as additional deduction under section 35AD for the assessment year 201011

CONSEQUENCES OF CLAIMING DEDUCTION UNDER SECTION 35AD

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72.3 The following consequences should be noted-

1. The assessee shall not be allowed any deduction in respect of the specified business under the provisions of Chapter VIA under sections 80HH to 80RRB.

2. No deduction in respect of the expenditure in respect of which deduction has been claimed shall be allowed to the assessee under any other provisions of the Income Tax act

3. Any sum received or receivable on account of any capital asset, in respect of which deduction has been allowed under section 35AD, being demolished, destroyed, discarded or transferred shall be treated as income of the assessee and chargeable to income tax under the head Profits and gains of business and profession.

4. Any loss computed in respect of the specified business shall not be set off except against profits and gains , if any, of any other specified business. To the extent the loss is unabsorbed, the same will be carried forward for set off against profits and gains from any specified business in the following assessment year and so on.

5. If the assessee owns two units one of them qualifies for deduction under section 35AD and the other one is not eligible for the same and there is inter-unit transfer of goods or services between the two units , then for the purpose of section 35AD calculation will be made as if such transactions are made at the market value.

COMPUTING BUSINESS PROFITS ON PRESUMPTIVE BASIS [ SEC.44AD ]

73. The provisions are given below-

FROM THE ASSESSMENT YEAR 2011-12

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73.1 The present sections 44AD and 44AF will be omitted from the assessment year 2011-12. A new section 44AD has been incorporated to provide for special provisions for computing business profit on presumptive basis from the assessment year 2011-12. The new section will be applicable to any business (whether it is retail trading or civil construction or any other business).

CONDITIONS

73.1-1 The provisions of section 44AD will be applicable only if the following conditions are satisfied-

1. Eligible assessee- The assessee should be an eligible assessee. Eligible assessee for this purpose is an individual, a Hindu undivided family or a partnership firm(not being a limited liability firm).

2. Has not claimed some deductions The assessee has not claimed any deduction under section 10A, 10AA,10B,10BA,80HH to 80RRB in the relevant assessment year.

3. Eligible business- The assessee should be engaged in any business except the business of playing, hiring or leasing goods carriages referred to in section 44AE.

4. Turnover- Total turnover /gross receipt in the previous year of the eligible business should not exceed Rs. 40 lakh.

CONSEQUENCES OF THE ABOVE CONDITIONS ARE SATISFIED

73.2-2 If the above conditions are satisfied, the income from the eligible business is estimated at 8 percent of the gross receipt or total turnover. The following points should be noted-

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1. The assessee can voluntarily declare a higher income in his return.

2. All deductions under sections 30 to 38, including depreciation and unabsorbed depreciation , are deemed to have been already allowed and no further deduction is allowed under these sections . however, in the case of a firm, the normal deduction in respect of salary and interest to partners under sections 40(b) shall be allowed . the written down value is calculated , where necessary, as if depreciation as applicable has been allowed . moreover, it will be assumed that disallowance , if any, under sections 40,40A and 43B has been considered while calculating the estimated income@ 8 percent.

3. An assessee opting for the above scheme shall be exempted from payment of advance tax related to such business.

4. An assessee opting for the above scheme shall be exempted from maintenance of books of account related to such business as required under section 44AA.

IS IT POSSIBLE TO DECLARE LOWER INCOME

73.1-3 A taxpayer can declare his income to be lower than the deemed profits and gains as stated above. The following consequences are applicable if the taxpayer declares his income which is lower than the deemed profits and gains as stated above-

1. The taxpayer will have to maintain the books of account as per section 44AA(irrespective of income or turnover) if his total income exceeds the exemption limit.

2. The taxpayer will have to get his books of account audited under section 44AB(irrespective of turnover) if his total income exceeds the exemption limit.

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PROVISIONS APPLICABLE UP TO THE ASSESSMENT YEAR 2010-11

73.2 These provisions are given below-

WHO IS COVERED BY THE SCHEME OF SECTION 44D

73.2-1 Section 44AD is applicable only if the following conditions are satisfied-

Condition 1

Condition 2 Condition 3

The taxpayer may be an individual , HUF,AOP, BOI, firm , company, cooperative society or any other person. He oor it may be a resident or a non-resident. The taxpayer is engaged in the business of civil construction or supply of labour for civil construction work Gross receipts from the above business do not exceed Rs 40 lakh .Gross receipts are the amount received from the clients for the contract and will not include the value of material by the client.

Notes1 What is civil construction- General meaning- The business of civil construction is broadly classified in three categories, developer, builder, and contractor. A developer purchases land or rights therein and entrusts the work of actual construction to a contractor and sells the constructed flats. A builder is actively involved in the activity if construction and sale of flats. A contractor is engaged only in the construction. The provisions of section 44AD do not apply to a developer , as he is not involved in civil construction. It applies to builders and contractors. 2. Civil construction as defined in the act- The expression civil construction includes the construction(or repair) of buildings, dams , bridges or other structures , or of roads or canals . It also includes the execution of any other work contract. It thus includes work related to electrical fittings, plumbing job, landscaping work etc. The taxpayer may be contractor or sub- contractor.

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3. Interior decorator Section 44AD has no application for computing income of an interior decorator as the business of interior decoration does not come under the business of civil construction.

CONSEQUENCES IF SECTION 44AD IS APPLICABLE

73.2-2. If the aforesaid three conditions are satisfied then section 44AD is applicable. The following are the consequences if section 44AD is applicable:

Income to be calculated on estimated basis @8 percent- The income from the above mentioned is estimated at 8 percent of the gross receipts paid to a taxpayer. A taxpayer can voluntarily declare a higher income is his return. Rate of 8 percent is comprehensive All deductions under sections 30 to 38 including depreciation, are deemed to have been already allowed and no further deduction is allowed under these sections. However, in the case of a firm, the normal deduction in respect of salary and interest to partners under section 40(b) shall be allowed. The written down value is calculated, where necessary , as if depreciation as applicable has been allowed. Moreover, it will be assumed that disallowance, if any, under sections 40,40A and 43B has been considered while calculating the estimated income @ 8 percent.

After calculating income in accordance with the aforesaid provisions, one has to follow the following steps-

Step 1

Step 2 Step 3 Step 4

The income as calculated above will be aggregated with income of the assessee from any other business or under other heads of income in accordance with the normal provisions of the income tax act. The brought forward business losses and other losses shall be deducted according to the normal provisions of the income tax act. All deductions permissible under sections 80C to 80U shall be allowed Tax on net income shall be calculated according to the normal provisions and rebate under section 88E shall be allowed.

Provisions for maintenance of books of account/ compulsory audit- Not applicable- The following privileges are available to a taxpayer who declares his income from the aforesaid business at the rate of 8 percent of gross receipts( or at higher rate)-

Privilege 1 Privilege 2

He is not required to maintain books of account according to the provisions of section 44A in respect of the aforesaid business. He is not required to get his books of account audited under section 44AB

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in respect of the aforesaid business.

It may be noted that the above privileges are available only in respect of the aforesaid business. Even such an assessee has to comply with the requirements of both sections 44AA and 44AB in respect of his business which are not covered by this scheme. Provisions illustrated- A person has gross receipts of Rs 30 lakh from civil construction business and of Rs 25 lakh from trading in scrap Although his total gross receipts are Rs 55 lakh, he will not be required to have his accounts audited, since his gross receipts after excluding those from the business of civil construction are still less than Rs 40 lakh, the limit provided in section 44AB. While computing income of assessee under section 44AD, the Assessing Officer does not have power to assess anything in excess of returned income if returned income is more than 8 percent of total receipt/sale consideration-Abhi developers vs. ITO[2007] 12 SOT 444(Ahd.)

Is it possible to declare lower income- A taxpayer can declare his income to be lower than the deemed profits and gains as stated above. The following consequences are applicable if the taxpayer declares his income which is lower than the deemed profits and gains as stated above-

Consequence 1 Consequence 2

The taxpayer will have to maintain the books of account as per section 44AA(irrespective of income or turnover) The taxpayer will have to get his books of account audited under section 44AB ( irrespective of turnover)/

CASE STUDY

73.2-P1 X & co. a firm is engaged in the business of civil construction (turnover of 2008-09 being Rs 37,80,000). It wants to claim the following deduction-

Rs.

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Salary and interest to partners[as permitted by section 40(b) Salary to employees Depreciation Cost of material used Other expenses Total Net profit [ Rs 37,80,000 minus Rs 37,55,000]

60,000 4,90,000 2,70,000 25,90,000 3,45,000 37,55,000 25.000

Determine the net income of X & co. for the assessment year 2009-10 assuming that (a) taxable income from other business is Rs 1,90,000 ,(b) long term capital gain is Rs 40,000 and (c) the firm is eligible for a deduction of Rs 5000 under section 80G.

Rs. Income from the business of civil construction[ 8% of Rs 37,80,000] Less: expenses Salary/interest paid to partners as permitted by section 40(b) Other expenses[ except salary/interest to partners in the case of a no other expenditure is deductible ] Income from civil construction Other business income Profits and gains from business or profession Nil 2,42,000 1,90,000 4,32,000 60,000 3,02,000

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Capital gains Gross total income Less: Deductions under sections 80C to 80U Net income

40,000 4,72,000 5,000 4,67,400

TRANSPORT OPERATORS [ SEC. 44AE ]

74. The provisions of section 44Ae are given below-

WHO IS COVERED BY THE SCHEME OF SECTION 44AE

74.1 Section 44AE is applicable only if the following conditions are satisfied-

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Condition 1

Condition 2 Condition 3

The taxpayer may be an individual, HUF,AOP,BOI,firm, company, cooperative society or any other person. He or it may be a resident or a non-resident. Taxpayer is engaged in the business of plying, hiring or leasing goods carriages. The taxpayer owns not more than 10 goods carriages at any time during the previous year. For this purpose, a taxpayer, who is in possession of a goods carriage, whether taken on hire purchase or on instalments and for which the whole or part of the amount payable is still due, shall be deemed to be the owner of such goods carriage.

CONSEQUENCES IF SECTION 44AE IS APPLICABLE

74.2 If the aforesaid conditions are satisfied then section 44AE is applicable. The following are the consequences if the section 44AE is applicable:

INCOME TO BE CALCULATED ON ESTIMATED BASIS

74.2-1 Income from the aforesaid business shall be calculated as follows-

Type of goods carriage Heavy goods vehicle

Estimated income Rs 3500 for every month (or part of a month) during which the goods carriage is owned by the taxpayer. Rs 3150 for every month (or part of a month) during which the goods carriage is owned by the taxpayer

Other than heavy goods vehicle

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Notes:
Goods on carriage- Goods carriage means any motor vehicle constructed or adapted for use solely for the carriage of goods, or any motor vehicle not so constructed or adapted when used for the carriage of goods. Heavy goods vehicle- Heavy goods vehicle means any goods carriage the gross vehicle weight of which, or a tractor or a road-roller the unladen weight of either of which exceeds 12,000 kilograms. Ownership is the criteria- Income on the aforesaid basis is calculated for the period during which the goods carriage is owned by the taxpayer (not on the basis of the period during which the goods carriage is put to use). For instance, income of a taxpayer who is engaged in the aforesaid business and ho purchases a heavy goods vehicle on may 16, 2008( the goods carriage is put to use on June 12, 2008) shall be Rs 38,500(i.e. Rs 3500 for 11 months ). Hire declaration of income possible- A taxpayer can claim his income from the aforesaid business at a higher amount then that specified in the table above.

ESTIMATED INCOME IS COMPREHENSIVE

74.2-2 All deductions under sections 30 to 38 including depreciation, are deemed to have been already allowed and no further deduction is allowed under these sections. However, in the case of a firm, the normal deduction in respect of salary and interest to partners under section 40(b) shall be allowed . The written down value is calculated, where necessary, as if depreciation as applicable has been allowed. These provisions are similar to the provisions of section 44AD[ see para 73.2-2]

BOOKS AND AUDIT

74.2-3 These provisions are similar to the provision contained in section 44AD [ see Para 73.2-2]

LOWER INCOME

74.2-4 These provisions are similar to the provisions contained in section 44AD[ see Para 73.2-2]

OTHER POINTS

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74.3 The following points should be noted-

Section 44AE does not permit an assessee to apply provisions of section 44AE in case of some lorries and to go for the regular assessment on the basis of books of account in respect of repairing lorries.. Where the Assessing Officer has applied provisions of section 44AE for estimating the assessees income from truck plying, he is not justified in making addition separately on account of sale proceeds of scrap because the receipt from scrap is not a separate source of income.

CASE STUDY

74-P1 X ltd is engaged in the business of carriage of goods . On April 1,2008, it owns 10 trucks (6 out of which are heavy good vehicles). On may 6,2008, one of the heavy goods vehicles is sold by X ltd to purchase a light goods vehicle on may 10,2008 which is put to use only from June 17,2008.

Find out the net income of Xltd for the assessment year 2009-10 taking into consideration the following data-

Rs Freight collected Less: Operational expenses Depreciation as per section 32 1,90,000 6,40,000 8,90,000

Other office expenses Net profit Other business/non-business income

15,000 45,000 70,000

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.
Income shall be computed under section 44AE as followsType of carriage Period during which trucks are owned Number of months (including a part of month) (3) 12 2 12 11 Rate per month Amount (1) x (3) x (4)

(1) 4 Light goods vehicles 1 Heavy goods vehicles 5 Heavy goods vehicles 1 Light goods vehicles Total

(2) April 1,2008 to march 31,2008 April 1,2008 to may 6,2008 April 1,2008 to march 31,2008 May 10,2008 to march 31,2008

(4) 3150 3500 3500 3150

(5) 1,51,200 7,000 2,10,000 34,650 4,02,850

Computation of incomeRs Income from carriage of goods Other incomes Net income 4,02,850 70,000 4,72,850

RETAIL TRADERS [ SEC.44AF]

75. The provisions of section 44 AF are given below-

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WHO IS COVERED BY THE SCHEME OF SECTION 44AF

75.1 Section 44AF is applicable only if the following conditions are satisfied-

Condition 1 Condition 2 Condition 3

The taxpayer may be an individual, HUF, AOP. BOI, FORM, Co-operative society or any other person. He or it may be a resident or a non-resident. The taxpayer is engaged in the business of retail trade in any gods or merchandise. Total turnover from the above business does not exceed Rs 40 lakh

CONSEQUENCES

75.2 If the aforesaid three conditions are satisfied then section 44AF is applicable. The following are the consequences if section 44AF is applicable:

INCOME TO BE CALCULATED ON ESTIMATED BASIS @5 PERCENT

75.2-1 The income from the above mentioned business is estimated at 5 percent of the total turnover. A taxpayer can voluntarily declare a higher income in his return .

RATE OF 5 PERCENT IS COMPREHENSIVE

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75.2-2 All deductions under sections 30 to 38 including depreciation, are deemed to have been already allowed and no further deduction is allowed under these sections. However, in the case of a firm, the normal deduction in respect of salary and interest to partners under section 40(b) shall be allowed. The written down value is calculated , where necessary, as if depreciation as applicable has been allowed. These provisions are similar to section 44AD [ see Para 73.2-2 ]

BOOKS AND AUDIT

75.2-3 These previsions are similar to section 44AD [ see Para 73.2-2 ]

LOWER INCOME

75.2-4 These provisions are similar to section 44AD [ see Para 73.2-2 ]

CASE STUDIES

75.P1 Find out the net income in the case of X (32 years) and Y ( 28 years) (both are retail traders at Delhi) from the following data for the assessment year 2009-10.

X (Rs) 40,00,000 36,00,000 10,000 3,20,000

Y (Rs) 60,00,000 54,00,000 15,000 4,80,000

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70,000 2,15,000 30,000 Sales turnover Less: Cost of goods sold Depreciation Other expenses

1,05,000 2,30,000 60,000

Business income Other income Public provident contribution

In the case of X, income shall be computed under section 44AF as his turnover does not exceed Rs 40 lakh. In the case of Y, however, the normal provisions of the act will be applicable-

Business income [ 5% of Rs 40 lakh in case of X] Other incomes Gross total income Less: deduction under section 80C Net income Tax Add: surcharge (not applicable if net income does

X (Rs) 2,00,000 2,15,000 4,15,000 30,000 3,85,000 32,000 32,000 640 320 32,960

Y (Rs) 1,05,000 2,30,000 3,35,000 60,000 2,75,000 12,500 12,500 250 125 12,880

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Not exceed Rs 10 lakh ) Tax and surcharge Add: Education cess ( 2% of tax and surcharge ) Add: Secondary and higher education ( 1% of tax and surcharge ) Tax liability

EMPLOYMENT OF NEW WORKMEN [ SEC 80JJAA ]

76. Section 80JJAA provides deduction in respect of employment of new workmen.

CONDITIONS
76.1 The following conditions should be satisfied to avail deduction under section 80JJAACondition 1 Condition 2 The taxpayer is an Indian company. Income of the taxpayer includes any profits and gains derived from any industrial undertaking engaged in the manufacture or production of article or thing. The industrial undertaking is not formed by splitting up or reconstruction of an existing undertaking or amalgamation with another industrial undertaking. The assessee furnishes along with the return of income the report of a chartered accountant in Form No. 10DA.

Condition 3

Condition 4

AMOUNT OF DEDUCTION

76.2 The amount of deduction is equal to 30 percent of additional wages paid to the new regular workmen employed by the assessee in the previous year. The deduction is available for three assessment years including the assessment year relevant for the previous year in which such employment is provided. Meaning of workman- For the aforesaid purpose, workman means any person employed in any industry to do any manual , unskilled , technical, clerical or supervisory work but does not include the following-

185

a. A person who is in Air force, military or Navy , or who is in Police service; or b. A person who is employed in managerial or administrative capacity; or c. A person who is employed in a supervisory capacity and draws wages exceeding Rs 1,600 per month. Meaning of regular workman- For the aforesaid purpose, regular workman does not include the following a. A casual workman; or b. A workman employed for contract labour; or c. Any other workman employed for a period of less than 300 days during the previous year.

Meaning of additional wages For the aforesaid purpose additional wages has been defined as followsIn the case of new undertaking It means the wages paid to new regular workmen in excess of 100 workmen employed during the year In the case of an existing undertaking It means the wages paid to new regular workmen in excess of 100 workmen employed during the year. Additional wages shall be nil if the increase in number of regular workmen employed during the year is less than 10 percent of the existing number of workmen employed in the undertaking as on the last day of the preceding year.

POINTS TO BE NOTED
76.3 The following points should be notedFor the above purpose, every employee is not a workman and every workman is not a regular workman. Deduction under section 80JJAA is available for three assessment years only. For the first time it is available in the year in which new regular workmen are employed and then it is available in the next two assessment years. Deduction is, however, available only if the relevant conditions are satisfied.

186

Deduction is available under section 80JJAA on the basis of number of workmen and regular workmen. Hereinafter all employees in an undertaking are grouped in the following categories ( the categorization has been done only for the purpose of discussing the impact of section 80JJAA)Category A Nature of employment Employees employed in managerial or administrative capacity. It also includes employees employed in supervisory capacity and drawing salary exceeding Rs 1,600 per month. It includes casual workmen and workmen employed through contract labour( but not coming under category A) Other workmen ( not coming under categories A and B ) if employed for less than 300 days during the previous year. Other workmen ( not coming under categories A and B ) if employed for 300 days or more than 300 days during the previous year.

B C D

Regular workmen are those employees who come under Category D. Employees under Categories B,C and D are workmen. In other words Categories B and C employees are workmen but they are not regular workmen. Deduction under section 80JJAA in the case of a new undertaking is available as follows1. First find out whether number of workmen (i.e. category B+C+D) employed during the previous year is more than 100. 2. If yes, then find out wages paid to new regular workmen (i.e, category D) in excess of 100 workmen employed during the year. 3. 30 percent of the wages determined in (2) (supra) is the amount of deduction under section 80JJAA. Deduction under section 80JJAA in the case of an existing undertaking is available as follows1. First find out whether number of workmen (i.e. category B+C+D) employed during the previous year is more than 100. 2. If yes, then find out number of regular workmen(i.e. category D) newly employed during the year and whether it is equal to or more than 10 percent of the existing number of workmen (i.e. B+C+D) employed in the undertaking on the last day of the preceding year. 3. If yes, then find out wages paid to new regular workmen (i.e. category D) in excess of 100 workmen employed during the year. 4. 30 percent of the wages determined in (3) (supra) is the amount of deduction under section 80JJAA.

CASE STUDIES

76-P1 X ltd is an Indian company. It owns an industrial undertaking which starts production on April 1,2008. On the same day, it appoints 94 casual workmen. On may 1,2008, it appoints 10 regular workmen ( salary being Rs 3000 per month). Find out the amount of deduction under section 80 JJAA for the assessment year 2009-10.

The industrial undertaking is a new industrial undertaking. No deduction is admissible under section 80JJAA in respect of employment of initial 100 workmen( casual and /or regular coming under category B,C or D) . 30

187

percent of wages [payable to new regular workmen (i.e. Category D) in excess of initial 100 workmen would be the amount o deduction under section 80JJAA.

94 casual workmen appointed on April 1,2008 6 regular workmen appointed on May 1,2008 4 regular workmen appointed on May 1,2008

No deduction under section 80JJAA No deduction under section 80JJA Deduction would be available under section 80JJAA

Therefore, the amount deductible is Rs 39,600 (30% of Rs 3000 x 11 months x 4 regular workmen). Besides wages payable to all 104 workmen would be deductible under section 37(1).

76-P2 X ltd is an Indian company. It owns an industrial undertaking which started production during 2007-08. On march 31,2008, it has 89 workmen out of which 20 casual workmen. On June 1,2008, the company appoints 30 regular workmen (i.e. category D) ( wages being Rs 2700 per month). Find out the amount of deduction under section 80JJAA for the assessment year 2009-10.

X ltd owns an existing industrial undertaking. 30% of wages payable to newly appointed regular workmen (i.e. category D) in excess of initial 100 workmen would be the amount of deduction under section 80JJAA. No deduction is, however, available if number of newly appointed regular workmen is lower than 10% of the strength of workmen as on the last day of the preceding year. In this case, the company has 89 workmen on March 31,2008. 10% of it comes to 8.9. in other words , deduction under section 80JJAAis not available if number of newly appointed regular workmen(i.e. category D) is 8 or less than 8( such number should be 9 or more than 9). In this case, the company has appointed 30 regular workmen during the previous year 2008-09. Therefore, deduction is available under section 80JJAA. However, no deduction is available in respect of wages payable of initial 100 workmen.

89 workmen as on April 1,2008 11 regular workmen appointed on June 1,2008 19 regular workmen appointed on June 1,2008

No deduction under section 80JJAA No deduction under section 80JJAA Deduction would be available under section 80JJAA

188

Therefore, the amount deductible is Rs 1,53,900 (30% of Rs 2700 x 10 months x 19 regular workmen). Besides, wages payable to all 119 workmen would be deductible under section 37(1).

76-P3 X ltd is an Indian company. It starts a new industrial undertaking on May 1,2008. On the same date, it appoints 6 managerial personnel ( category A). Besides on the same date, it appoints the following workers( salary being Rs 2,100 per month per person)-

Situation oneSituation two-

95 workmen coming under Category D 110 workmen coming under Category D.

Situation three- 400 workmen coming under Category D. Situation four97 workmen coming under Category B.

Situation five- 125 workmen coming under section Category B Situation six370 workmen coming under Category B.

Situation seven- 225 workmen coming under Category D, 30 workmen coming under Category D( with effect from June 1,2008) and 40 workmen coming under Category C ( with effect from August 1, 2008). Situation eight- 230 workmen coming under Category B, 35 workmen coming under Category B( with effect from June 1, 2008) and 42 workmen coming under Category B ( with effect from August 1, 2008). Situation nine- 235 workmen coming under Category B, 36 workmen coming under Category D ( with effect from June 1, 2008) and 47 workmen coming under Category C ( with effect from August 1, 2008).

No of employees No. of workmen ( category B+C+D) No. of workmen minus initial 100 workmen (p) Out of (p) above how many of them are regular workmen ( category D)

One 101 95

Two 116 110 10

Three 406 400

Four 103 97

Five 131 125

Six 376 370

Seven Eight Nine 301 313 324 295 307 318 Differen t Situatio ns

Nil

300

Nil

25

270

195

207

208

Nil

10

300

Nil

Nil

Nil

155

Nil

36

Situatio

189

n one- No deduction is available under section 80 JJAA as the number of workmen ( categories B+C+D) does not exceed 100 during the year. This rule os applicable even if total number of employees ( categories A+B+C+D) exceeds 100.

Situation two and three As the number of workmen exceeds 100, deduction is available under section 80JJAA as followsSituation two Salary payable to new regular workmen in excess of 100 workmen ( 2100 x 10 x 11 months, Rs 2100 x 300 x 11 months) (a) Amount of deduction under section 80JJAA[ 30% of (a) ] Situation three

Rs 2,31,000 Rs 69,300

Rs 69,30,000 Rs 20,79,000

Situation four- As the number of workmen does not exceed 100, deduction is not available under section 80JJAA.

Situation five and six- The number of workmen exceeds 100. However, no deduction is available under section 80JJAA, as number of regular workmen in excess 100 workmen is zero

Situation seven, eight and nine- Deduction is available under section 80JJAA as followsSituation seven After excluding initial 100 workmen how many of them are regular workmen ( category D) Salary payable to the above workmen ( Rs 2100 x 125 x 11 months + Rs 2100 x 30 x 10 months, Rs 2100 x 36 x 10 months) (a) Amount of deduction under section 80JJAA[ 30% of (a) ] Situation eight Situation nine

155

Nil

36

Rs 35,17,500 Rs 10,55,250

Nil Nil

Rs 7,56,000 Rs 2,26,800

Note- In all the aforesaid situations, salary payable to all employees ( categories A,B,C and D) is deductible under section 37. Deduction under section 80 JJAA, as computed above, is in addition to deduction available under section 37.

190

76-P4 X ltd is an Indian company . it owns an industrial undertaking (date of commencement being July 1,2007. On march 31,2008, it has 414 employees ( category A 25; category B 36; category D 353). During the previous year 2008-09, it gives employment to the following persons ( salary being Rs 2200 per month per person except in case of Category A)

Managerial personnel ( category A) Casual workmen ( category B) Other workmen ( category D) ( employed with effect from May 1, 2008) Other workmen ( category C) employed with effect from December 1, 2008) Number of new employees employed during the financial year 2008-09

Situation one ( no of employees) 2 10 37 19 68

Situation two (no of employees) 4 18 40 25 87

Find out the amount of deduction under section 80JJAA for the assessment year 2009-10.

Situation one Number of workmen as on march 31,2008( category B+D, category A employees are not workmen) 10% of above Minimum number of regular workmen which should be newly employed during the previous year 2008-09 to get the benefit of deduction under section 80JJAA Number of regular workmen actually employed during the financial year 2008-09 ( category D) Whether deduction is available under section 80JJAA 389 38.9

Situation two 389 38.9

39 37 No

39 40 Yes

In situation two, the amount of deduction will be as follows :

Salary payable to newly employed regular workmen

191

during the Financial year 2008-09 Amount deductible under section 80JJAA ( 30% of Rs 9,68,000 )

Rs 9,68,000

Rs 2,90,000

Note; Salary payable to all employees ( categories A,B,C and D) is deductible under section 37. Deduction under section 80JJAA, as computed above, is in addition to the deduction available under section 37.

76-P5 X ltd is an Indian company. It owns an industrial undertaking (date of commencement being November 2,2007). On March 31,2008 , it has 94 employees (category A:1, category B:39,category D:54). Net profit as per profit and loss account for the year ending March 31,2009 is Rs 7,86,000. It has been calculated after debiting salary payable to all employees including the following employees which have been newly employed during the previous year 2008-09 (salary being Rs 3000 per month per person)-

Managerial personnel ( Category A) Casual workmen( Category B) (employed with effect from May 1,2008) Other workmen (Category D) ( employed with effect from June 1,2008) Other workmen ( Category C) ( employed with effect from December 1,2008) Number of new employees employed during the financial year 2008-09

Situation one ( No. of employees) Nil 3 7 25 122

Situation two ( No. of employees) Nil 4 15 26 131

Find out the income chargeable to tax for the assessment year 2009-10.

Situation one

Situation two

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Number of workmen as on March 31,2008( Category B+D. Category A employees are not workmen) 10% of above Minimum number of regular workmen which should be newly employed during the previous year 2008-09 to get the benefit of deduction under section 80JJAA Number of regular workmen actually employed during the financial year 2008-09 ( category D) Whether deduction is available under section 80JJAA Number of regular workmen actually employed during the financial year 2008-09 (Category D) after excluding initial 100 workmen ( old workmen 39+54 = 93, casual workmen employed from may 1,2008:4, total workmen as on May 1,2008:97,3 out of 15 Category D workmen employed on June 1,2008 to make the total 100 initial workmen) Computation of income Net profit as per profit and loss account Any other income Gross total income Less: deduction under section 80JJAA ( 30% of Rs 3000 x 12 x 10 ) Net income

93 9.3

93 9.3

10 7 No

10 15 Yes

Rs 7,86,000 Nil 7,86,000 Nil 7,86,000

12 Rs 7,86,000 Nil 7,86,000 1,08,000 6,78,000

TONNAGE TAX SCHEME [ SECTIONS 115V TO 115VZC ]

77. To make the Indian shipping industry more competitive , a tonnage tax scheme for taxation of shipping profits has been introduced. Many maritime nations have introduced tonnage based taxation. Some of the basic features of tonnage tax scheme are as follows:-

It is a scheme of presumptive taxation whereby the notional income arising from the operation of a ship is determined based on the tonnage of the ship. The notional income is taxed at the normal corporate rate applicable for the year. Tax is payable even if there is a loss in an year. A company may opt for the scheme[Form No. 65] and once such option is exercised, there is a lock-inperiod of 10 years . if a company opts out, it is debarred from re-entry for 10 years. Since this is a preferential regime of taxation, certain conditions like creation of reserves, training, etc, are required to be met.

193

A company may be expelled in certain circumstances.

SALIENT FEATURES

77.1 The salient features of the scheme which is applicable from the assessment year 2005-06 are as follows:

A company owning at least one qualifying ship may join. A qualifying ship is one with a minimum tonnage of 15 tons and having a valid certificate. The company has to opt for the scheme within 3 months, i.e. any time between October 1,2004 to December 31,2004 by making an application in the prescribed form to the concerned Joint Commissioner who may pass an appropriate order. A new company can make application within three months of the date of its incorporation or the date on which it became a qualifying company, as the case may be. Certain types of ships like fishing vessels, pleasure crafts, harbour and river ferries etc, are excluded in terms of section 115VD which gives details of as to what ships will qualify for the scheme. The business of operating qualifying ships is to be considered a separate business and separate accounts are to be maintained . Section 115VG gives the manner on computation of the daily tonnage income as follows-

Qualifying ship having net tonnage Up to 1,000 Exceeding 1,000 but not more than 10,000 Exceeding 10,000 but not more than 25,000 Exceeding 25,000

Amount of daily tonnage income Rs 46 for each 100 tons Rs 460 plus Rs 35 for each 100 tons exceeding 1,000 tons Rs 3,610 plus Rs 28 for each 100 tons exceeding 10,000 tons Rs 7,810 plus Rs 19 for each 100 tons exceeding 25,000 tons

The daily tonnage income shall be multiplied by the number of days the ship operated. The resulting amount would be the annual tonnage income for the ship. A company owning at least one ship may charter in ships subject to certain limits for the purpose of operation. Relevant shipping income, which replaces the actual income from the operations, is defined in section 115VI. Section 115VJ gives the treatment of common costs.

194

Provisions illustrated- Suppose a tonnage tax company operates only one qualifying ship throughout the previous year 2008-09. The ship has a net tonnage of 25,000 tons and the corporation tax rate for that year is 30.9 percent . Tonnage tax liability of such company would be calculated as follow:

Daily profit For the first 1,000 tons For 1,001 to 10,000 tons For remaining 15,000 tons Total

Rs 460 3,150 4,200 7,810

Notional annual profit: Rs 7810 x 365 days Tonnage tax: Rs 28,50,650 x 30.9% Rs 28,50,650 Rs 8,80,851

A company opting for the scheme is not allowed any set-off nor is any depreciation allowed. However, both loss and depreciation are deemed to have been allowed and notional adjustments are made against the relevant shipping income. Although depreciation is not allowed, it is necessary to bifurcate the qualifying ships and non-qualifying ships at the time a company joins the scheme. Section 115VK lays down the method for allocating the written down value amongst qualifying and non-qualifying ships. Any income from transfer of qualifying assets is treated in the same manner as for any other business asset in terms of section 115VN.

Provisions illustrated The WDV of the existing block under section 32 is Rs 70 crore. This comprises three qualifying assets (Q) and two non- qualifying assets (NQ). The book WDV of each of the qualifying and the non- qualifying assets is identified as under as the first step:

(Rs in crore) Assets 30 20 30 Book WDW

Q1 Q2 Q3

80

195

NQ1 NQ2

15 5

20

Book WDV of all the existing qualifying assets is Rs 80 crores and that for the non- qualifying is Rs 20 crores. Thus, the ratio of book WDV of qualified assets to that of non-qualifying assets is 4:1. In the final step, the existing WDV of the common block, which is Rs 70 crore, is to be calculated in this ratio of qualifying block and non-qualifying blocks. Accordingly, WDV of qualifying block would be Rs 56 crore and that of non- qualifying block would be Rs 14 crore

The profits from the business of operating qualifying ships will not be taken into consideration for the purpose of MAT as per section 115VO. Section 115VP relates to method and time of opting for tonnage tax scheme. A qualifying company may opt for the tonnage for the tonnage tax scheme by making an application to the Joint Commissioner having jurisdiction over the company in Form No. 65 and manner prescribed in rule 11P. The initial period in which a company will be able to opt for the scheme will be for the period of three months starting from October 1,2004 and ending on December 31,2004. After the end of the initial period, only those companies are incorporated after the initial period or which become qualifying companies after the initial period for the first time (in case of existing companies) shall be able to opt for the scheme. In such cases, however, the application for exercising the option will have to be made within three months of the date of the incorporation or, as the case maybe, the date on which the company became a qualifying company. Section 115VQ lays down that once a company opts for the scheme, the option remains in force for 10 years except in certain circumstances. Section 115VS provides for the circumstances in which the tonnage tax company is prohibited from opting for the scheme. Such prohibition is for a period of 10 years. Sections 115VT,115VY,115VS and 115VW lay down the conditions for the applicability of the scheme. In terms of section 115VT, a tonnage tax company has to create a reserve of at least 20 percent of its book profits to be utilized for the purpose of acquisition of new ships. As per section 115VU a tonnage tax company has to comply with a minimum training requirement in accordance with the guidelines to be issued by the DG( Shipping). The company will be expelled if the training requirements are not met for 5 consecutive years. Section 115VV lays down that every company which has opted for tonnage tax scheme, not more than 49 percent of the net tonnage of the qualifying ships operated by it during any previous year shall be chartered in. In terms of section 115VW, maintenance of separate books of account and the audit of the same is compulsory for a company opting for the scheme. Section 115VX lays down the details regarding valid certificate which indicates the net tonnage of ships. Sections 115VY and 115VZ provide for the contingencies of amalgamation and demerger. Section 115VZB enjoins upon a company not to abuse the preferential tax regime and section 115VZC provides for expulsion of a company in case of above.

MULTIPLE CHOICE QUESTIONS

Q1. A limited liability partnership cannot claim deduction available under section 33ABa. True b. False

196

Q2. A Ltd. is an Indian company . It is controlled by X and his family members. Shares of the company are not listed. It can claim deduction under section 35ABa. True b. False Q3. A limited liability partnership cannot avail the benefit of section 44AD for the assessment year 2010-11 a. True b. False Q4. A limited liability partnership cannot avail the benefit of section 44AD for the assessment year 2011-12 a. True b. False Q5. X ltd. is a company in which the public are substantially interested . it is in the business of plying, hiring and leasing goods carriages. It does not own more than 10 trucks. Since it is a company, section 44AE is not applicable a. True b. False Q6. Deduction under section 80JJAA is available in the following casesa. Indian company b. Foreign company c. Limited liability company d. All of above e. None of above Q7. Tonnage tax scheme is applicable in the following cases a. Foreign shipping company b. Indian shipping company c. limited liability partnership in shipping industry d. All of above e. None of above Q8. A qualifying ship(net tonnage: 11,000) operates for 365 days during the previous year 2008-09. Its notional annual profit from ship under the tonnage tax scheme is a. Rs 1,80,665 b. Rs 1,84,690 c. Rs 1,40,525 d. None of above

197

TAX PLANNING WITH REFERENCE TO NEW BUSINESS - FORM OF ORGANISATION

86. among other considerations(like requirement of finance ,personal liability of owner ,level of operation, quantum of profit, specified requirement of technical expertise),tax incentives play important role while comparing tax liability under different organisation forms.

WHETHER SOLE PROPRIETORSHIP IS A BETTER ALTERNATIVE 87. Aggregate amount of tax liability on firm and partners is generally higher that of the case when the same amount of income is generated through sole proprietorship. One should therefore consider the possibility of converting firms into sole proprietorships. The same is evident from the case studies given below:

CASE 1 NO. OF PARTNERS Profit sharing ratio 3 equal

CASE 2 4 equal

CASE 3 8 equal

Capital contri. Of partners Profit of previous year 09-10 Other income of each partner Life insurance premium paid by Each partner Tax on firm

10,00,000 6,00,000 60,000

15,00,000 12,00,000 50,000

80,00,000 60,00,000 60,000

80,000

50,000

90,000

----------------------------------------------------------

198

Income of firm Less: salary *rs 10500 per month ** rs 14625 per month *** Rs 32400 per month Interest

6,00,000

12,00,000

6000000

3,78,000*

7,02,000*

3114000*

1,20,000

1,80,000

9,60,000

----------------------------------------------------------

Net income Tax on firm Tax liability of each partner(a)

1,02,000 31,518 10,506

3,18,000 98,262 24,566

1926000 5,95,134 74,392

----------------------------------------------------------

Tax on partners Salary Interest Income from other sources 1,26,000 40,000 60,000 1,75,500 45,000 50,000 3,89,250 1,20,000 60,000

---------------------------------------------------------Net income 1,46,000 2,20,500 479250

-----------------------------------------------------------

Tax on net income(b)

nil

6,232

51,346

Total tax liability of each Partner [(a) + (b)] (c)

10,506

30,798

1,25,738

------------------------------------------------------------

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TAX LIABILITY WHEN SAME INCOME IS EARNED AS A SOLE PROPRIETOR CASE 1 Tax income of the firm Number of partners Income earned by each individual Income from other sources 600000 3 200000 60000 CASE 2 1200000 4 300000 50000 CASE 3 6000000 8 750000 60000

-------------------------------------------------------Net income(after 80c deduction) 180000 300000 720000

--------------------------------------------------------Tax on each individual Tax saving when income is earned as sole proprietor 8446 16378 2138 2060 14420 123600

TO AVOID HIGH TAX INCIDENCE ON FIRMS, FIRMS MAY BE CONVERTED INTO SOLE PROPRIETORSHIP.

88. A comparative study is made below of tax incidence (ignoring surcharge) on firm and private limited company. Partnership firm- the following basic assumptions have been made: a. there are two partners X and Y with an equal share of profit b. They want to draw the maximum permissible amount as salary. Both the partners will draw equal salary. c. Income is from business (not from profession). d. They are entitled to simple interest at the rate of 12% on the capital contribution of Rs 10, 00,000.e. partners do not have any income. On the aforesaid assumptions, the following will be tax incidence on the firm/partners at different income structures: TABLE 1

200

Tax incidence on firm and partners Taxable income before deduction of salary and interest (1) RS 500000 1000000 1500000 2000000 2500000 3000000 Interest on capital to partners Salary payable to X and Y Taxable income of firm after salary and interest Tax liability on the firm Tax liability of the partners Total tax as percentage of income (5 +6) As % of 1 (7) RS 6.26% 14.62% 17.72% 21.01% 22.92% 24.31%

(2) RS 120000 120000 120000 120000 120000 120000

(3) RS 318000 618000 918000 1218000 1518000 1818000

(4) RS 62000 262000 462000 662000 862000 1062000

(5) RS 19158 88958 142758 204558 266358 328158

(6) RS 12154 57268 122982 215682 308382 401082

PRIVATE LIMITED COMPANY- on the same date, tax incidence is computed in the case of a private limited company. The following assumptions have been made: I) X and Y will be the two shareholders and directors of the company. ii) They withdraw salary. As there are no maximum ceilings under the income tax act, they will draw salary @ 90% of profit up to rs 300000 of profit and 60% of balance. It is assumed that provisions of section 40A (2) are not attracted. The results are given in the table2. TABLE 2 TAX INCIDENCE ON PRIVATE LIMITED COMPANY AND DIRECTORS SALARY TO DIRECTORS X and Y TAXABLE INCOME OF THE COMPANY (3) RS 110000 310000 510000 710000 910000 1110000 TAX TAXABLE TAX TOTAL LIABILITY INCOME LIABILITY TAX OF OF THE OF X OF THE THE COMPANY COMPANY COMPANY X AND Y X AND Y (4) (5) (6) (7) RS RS RS RS 33990 195000 3605 41200 95790 345000 23690 143170 157590 495000 54590 266770 219390 645000 100425 420240 281190 795000 146775 574740 342990 945000 193125 729240 (7) AS % OF (1)

AXABLE NCOME(BEFORE AYMENT OF ALARY TO IRECTORS) (1) RS 0000 00000 00000 00000 00000 00000

(2) RS 390000 690000 990000 1290000 1590000 1890000

(8) 8.24% 14.32% 17.78% 21.01% 22.99% 24.31%

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ANALYTICAL STUDY OF DATA- from the data presented in table 1 and table 2, tax incidence is lower in the case of small firms. 88.1 The aforesaid results are subject to the following propositions:

88.1-1 in all the cases, a simple model of two partners / directors is taken. Tax incidence of companies would go down if the number of directors (as well as total remuneration to them) is increased. For instance if in the data presented in tables 1 and 2, the following modifications are made, then tax incidence would be lower in the case of a private limited company than that of a firm. FIRM PRIVATE LIMITED COMPANY 1. PARTNERS ARE INCRESED TO 1. Directors are increased to five FIVE 2. Total salary payable to directors is 2. Total salary payable to partners increased to 90% of the total remains the same (maximum company(there is no maximum limit permissible) on remuneration payable to directors) After making the aforesaid modifications, the results are tabulated in tables 3 and 4

TABLE 3 TAX INCIDENCE ON FIRM AND FIVE PARTNERS Taxable income before deduction of salary and interest (1) Rs 500000 1000000 1500000 2000000 2500000 3000000 INTEREST Salary CAPITAL payable to TO 5 partners PARTNERS Taxable income of firm after salary and interest Tax liability of the firm tax liability of the partners Total tax as % of income (5+6) as % of (1)

(2) RS 120000 120000 120000 120000 120000 120000

(3) RS 318000 618000 918000 1218000 1518000 1818000

(4) RS 62000 262000 462000 662000 862000 1062000

(5) RS 19158 80958 142758 204558 266358 328158

(6) RS NIL NIL 24514 55414 100528 162328

(7) RS 3.83% 8.10% 11.15% 13% 14.68% 16.35%

202

203

TABLE 4 TAX INCIDENCE ON COMPANY AND FIVE DIRECTORS Taxable income(before payment of salary to directors) (1) RS 500000 1000000 1500000 2000000 2500000 3000000 Salary to five directors Taxable income of the company (3) RS 50000 100000 150000 200000 300000 350000 Tax liability of the company (4) RS 15450 30900 46350 61800 77250 92700 Taxable income of one director (5) RS 90000 180000 270000 360000 450000 540000 Tax of one director Total tax of the company and five directors (7) RS 15450 41200 103000 195700 303850 432600 (7)% of (1)

(2) RS 450000 900000 1350000 1800000 2250000 2700000

(6) RS NIL 2060 11330 26780 45320 67980

(8) 3.09% 4.12% 6.87% 9.79% 12.15% 14.42%

88.1-2 AS THERE IS NO EMPLOYER-EMPLOYEE RELATIONSHIP in the case of the firm and partners, the allow ability of expenses incurred in providing perquisites to partners is highly doubtful. Even if such expenses are allowed as deductions, the same will be taxable in the assessment of individual partners (the concessional tax treatment of perquisites given by rule 3 will not be applicable in the absence of employer-employee relationship). In the case of companies, expenses on perquisites extended to directors are allowable as deduction. Moreover, perquisites in the hands of directors are taxable as per section 17 and rule 3.

CASE STUDY
The aforesaid proposition is examined in the following case study: Firm 1. Number of members=4 2. Taxable income before interest= rs 1400000 3. Interest on capital to partners On total capital contribution of Rs 1500000@12%: rs 180000 4. Remuneration payable to partners at The maximum level: rs 822000 private company no. Of members=4 taxable income before payment rs 1400000 remuneration payable to directors rs 1200000 salary to each being rs 300000 payable in cash and kind as Follows.

Basic pay Education allowance

120000 2400

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Free residential house at Delhi Transport allowance

168000 9600

FIRM INCOME Less: interest on capital Book profit Less : remuneration Net income of the firm Tax liability of the firm rounded off

1400000 180000 -----------------1220000 822000 ------------------398000 122980 ------------------

PARTNER SALARY Interest Net income Tax rounded off Tax liability of firm and four partners Tax incidence as percentage of income 205500 45500 -----------------250500 -----------------9320 160260 -------------------11.45% -------------------

PRIVATE LIMITED COMPANY Income Less: salary and perquisites to four directors Net income Tax @ 30.9% DIRECTOR BASIC SALARY Education allowance Valuation of rent free house at Delhi Transport allowance Gross salary Less: standard deduction Salaries 1400000 1200000 --------------200000 61800 ---------------120000 nil 18000 nil ---------------138000 nil ---------------138000

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138000 ----------------Tax on net income nil Tax liability of company and four directors 61800 -----------------Tax incidence as percentage of income 4.41% ----------------As the tax liability is lower in the case of companies, tax payers are advised to convert firm into companies to reduce their tax bill. LIMITED LIABILITY PARTNERSHIP 89. A Limited liability partnership (LLP) is governed by the limited liability partnership act, 2008. A LLP is a body corporate formed and incorporated under the limited liability partnership act, 2008 and it is a legally separate entity from that of its partners. A LLP has perpetual succession. Any change in the partners of an LLP will not have any impact on its existence or rights and liabilities of the LLP. LLP is an alternative corporate business form that gives the benefits of limited liability of a company and the flexibility of a partnership. LLP is liable to the outsiders to the extent of its assets. However liability of the partners is limited to their agreed contribution in the LLP. Thus, LLP contains elements of both a corporate structure as well as a partnership firm structure. LLP may be called a hybrid between a partnership and a company. 89.1 Under the income tax act, a LLP is taxable like traditional partnership firm. LLP pays tax on its taxable income at the rate of 30.9%. Remuneration and interest to partners are deductible if conditions of sections 40(b) and 184 are satisfied. Interest on capital is deductible at the maximum rate of 12% per annum. Remuneration to partners is deductible if such remuneration is payable to working partners according to the provisions of partnership deed. The aggregate remuneration payable to all working partners cannot exceed 90% of first rs 300000 of book profits and 60% of balance of book profit. Share of profit of partners in LLP is not taxable in the hands of partners .however remuneration and interest are taxable under section 28 under the head profits and gains of business or profession in the hands of partners to the extent these are allowed as deduction in the hands of LLP. 89.2 The table given below compares tax benefits available to a firm, LLP and company FIRM LLP COMPANY TAX RATES 30.9% FOR THE 30.9% FOR THE 30.9% IF INCOME ASSESSMENT ASSESSMENT DOES NOT YEAR 2010-11 YEAR 2010-11 EXCEED RS 1 CRORE OR 33.99%, IF INCOME EXCEED RS 1 CRORE FOR THE ASSESSMENT YEAR 2010-11 APPLICABILITY NOT APPLICABLE NOT APPLICABLE APPLICABLE FOR OF SURCHARGE FOR THE FOR THE THE ASSESSMENT ASSESSMENT ASSESSMENT YEAR 2010-11,IF YEAR 2010-11 YEAR 2010-11 NET INCOME

Net income

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MINIMUM ALTERNATE TAX

NOT APPLICABLE

NOT APPLICABLE

EXCEEDS RS 1 CRORE APPLICABLE IF NORMAL TAX LIABILITY IS LOWER THAN 15.45%( 16.995% BOOK PROFIT EXCEEDS RS 1 CRORE) OF BOOK PROFIT

Dividend tax

FIRM Not applicable

LLP Not applicable

Tax treatment in the Share of profit in hands of shareholders firm is not taxable in or partners the hands of partners

Share of profit in firm in firm is not taxable in the hands of partners

Interest on capital to partners or shareholders

Remuneration to partners or shareholders

Deductible if permitted by the partnership deed and rate of interest does not exceed 12%. Conditions of section 184 should be satisfied. Deductible if condition of sections 40(b) and 184 are satisfied .aggregate amount deductible cannot, however exceed 90% of first rs 3 lakh of book profit and 60% of the

Deductible if permitted by the partnership deed and rate of interest does not exceed 12%. Conditions of section 184 should be satisfied Deductible if condition of sections 40(b) and 184 are satisfied .aggregate amount deductible cannot, however exceed 90% of first rs 3 lakh of book profit and 60% of the

COMPANY Dividend declared distributed or paid is liable for dividend tax at the rate of 16.995%. however ,deemed dividend under section 2(22)(e) is an exception Dividend in the hands of shareholders is not taxable .however ,deemed dividend under section 2(22)(e) is an exception. Shareholders cannot be paid interest on share capital. Shareholders get dividend on shares ,dividend payment is not a deductible expenditure. Shareholders can join the company as employees. Remuneration can be paid. There is no maximum ceiling. However, section 40A(2) is applicable.

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Applicability of sections 78 and 79 in case there is a change in constitution of the firm or change in the list of shareholders of a company Loan to Not taxable as partners/shareholders income

balance Section 78 is applicable

balance Section 78 is applicable

Not taxable as income

Applicability of presumptive tax schemes under sections 44AD,44AE,and 44AF up to the assessment year 2010-11 Applicability of presumptive tax schemes under sections 44AD up to the assessment year 2011-12 Whether expenditure for family planning for the benefit of employees is deductible under section 36(1)(ix) Whether weighted deduction under section 35 (2AB) is available.

applicable

applicable

Section 79 is applicable, if the company is a company in which the public are not substantially interested. Treated as deemed dividend in the hands of shareholders 2(22)(e),if a few conditions are satisfied and the company in which the public are not substantially interested. Applicable

applicable

Not applicable

Not applicable

Cannot be claimed as deduction under section 36(1) (ix).however deduction can be claimed under sections 32 and 37. Not available

Cannot be claimed as deduction under section 36(1)(ix).however deduction can be claimed under sections 32 and 37 Not available

Can be claimed as deduction under section 36(1)(ix).

Available

89.3 liability of a partner of LLP is limited to his agreed contribution. There is no personal liability of a partner except in the case of a fraud. Moreover a partner is not liable on account

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of the independent or unauthorized acts of other partners and there is no joint liability created by other partners wrongful acts or misconduct in the case LLP. Besides, a LLP has the following tax advantages as compared to a company. 1. Tax rates- A LLP is taxable at the rate of 30.9% for the assessment year 2010-11. However a company is taxable at the rate of 33.99% if taxable income exceeds rs 1 core. 2. Minimum alternate taxes minimum alternate tax is not applicable in the case of LLP. 3. Tax on distribution of dividend- a company is liable for dividend tax. A LLP is not subject any such tax. 4. Provisions of section 79- A LLP is not subject to provisions of section 79. 5. Provisions of section 2(22) (e) - a LLP is not liable for the deeming provisions of section 2(22) (e). 6. Wealth tax- a company is liable for wealth tax. There is no wealth tax on LLP. Moreover, a LLP is liable for audit under the LLP act, 2008 only if its turnover exceeds rs 40 lakh or its capital contribution exceeds rs 25 lakhs. A LLP can adopt cash system of accounting. A company has to adopt mercantile system of accounting. A private limited company cannot have more than 50 members. There is no such ceiling on in the case of LLP. In the case of a company internal governance structure is regulated by the companies act, whereas in the case of LLP, it is regulated by contractual agreement between by partners and /or between partners and LLP. Because of these advantages, existing companies may be converted into LLPS. Enabling provisions are given in LLP act, pusuant to which a private company or unlisted company (incorporated under companies act) would be able to convert themselves into LLPS.

MULTIPLE CHOICE QUESTIONS Q1. A limited liability partnership is subject to provision of minimum alternate tax a. True b. False Q2. Since dividend tax is not payable by a limited liability partnership, share of profit in the hands of partners is chargeable to tax a. True b. False Q3. Between a limited liability partnership and a private limited company, from tax point of view a. b. c. d. Limited liability partnership or private limited company Private limited company is better than limited liability partnership Tax liability is same Tax liability is not same as it depends on factors like remuneration to directors

Q4. A proprietorship is better alternatives in small cases

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a. True b. False Q5. Within legal parameters, in which case it is possible to reduce tax liability to a Minimum level (assume income is rs 50 lakh) a. b. c. d. Partnership firm Limited liability partnership Private limited company Sole proprietorship

CAPITAL STRUCTURE DECISION

90.Before commencing a new project a vital managerial decision regarding selecting right type of capital structure has to be taken. An optimum capital structure is one which maximizes shareholders return. The advantages of having an optimum capital structure are two-fold. It maximizes the value of the assets of the company and wealth of its owner and minimizes the cost of capital which, in turn, raises its ability to find inbuilt additional investment opportunities. Problem of planning capital structure is of crucial importance and has long-term implications. The tax planner should properly balance risk, cost, control and tax consideration. In capital structure decisions, the cost of capital is an important consideration along with risk factor. One of the main reason for raising finance through borrowing (as against issue of equity shares) is to increase earning on equity share capital. But excessive use of debt capital increases the financial risk of the company.

Under the tax laws, dividend on shares is not deductible and distributed profit is subject to dividend tax. On the other hand, interest paid on borrowed capital is allowed as deduction under section 36(1)(iii). Cost of raising finance through borrowing is deductible in the ear in which it is incurred (if, however, it is incurred during pre-commencement period, it has to be capitalized). Cost of issue of share is allowed as deduction in 5 years under section 35D. because of the aforesaid provisions, corporate taxation plays an important role in determining the choice between different sources of financing.

CASE STUDIES
90-P1- X Ltd. is a widely-held company. It is currently considering a major expansion of its production facilities and the following alternatives are available:

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Alternative One Rs. Share Capital Debentures (14%) Loan from financial institution/bank (18%) 5,00,00,000 -----

Alternative Two Rs. 2,00,00,000 2,00,00,000 1,00,00,000

Alternative Three Rs. 1,00,00,000 1,50,00,000 2,50,00,000

Expected rate of return (before tax) is 25%. The rate of dividend of the company since 1980 is not less than 20% and the date of dividend declaration is June 30 every year.

Answer. Capital Structure Decision Alternative One Rs. Return on Rs. 5 crore Less: Interest on debenture Interest on loan --------------------1,25,00,000 Taxable profit 28,00,000 18,00,000 21,00,000 45,00,000 1,25,00,000 Alternative Two Rs. 1,25,00,000 Alternative Three Rs. 1,25,00,000

---------------- --------------79,00,000 59,00,000

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Tax @ 30%(plus 10% of tax as surcharge Plus 3% of tax & surcharge as education cess And secondary and higher education cess) 42,48,750 24,41,100 18,23,100

---------------Return on equity share capital before Dividend tax (a) Rate of return on equity share capital

---------------

-------------40,76,900

82,51,250 --------------16.51%

54,58,900 --------------27.29%

------------40.77%

The company should, therefore, opt for the third alternative.

90-P2- The directors of a company propose to expand and modernize its business for which an additional investment of Rs. 50 crore would be needed. They feel confident about raising the entire sum of Rs. 50 crore either by making a further issue of equity shares or by borrowings from financial institution at 18% per annum. They decide in favour of raising the additional capital by issue of equity shares. The companys present-paid-up equity share capital is Rs. 50 crore and it has been declaring dividend at 20% (ignoring dividend tax) on September 30 every year for the last 5 years though, considering the proposed expansion, there is desire to raise it to 25%. As a tax consultant do you approve of the proposal to raise the entire additional capital through issue of equity shares or would you advise differently? Answer in detail, giving reasons.

Answer. Rate of return is not given in the problem. The following calculations are given on the assumption that the rate of return is x (Rs. In crore)

If entire Rs.50 cr. Is raised Through

If Rs. 25 cr. is raised

If Rs.35 cr. is raised

If entire Rs.50 cr is raised through

through equity through equity and Rs.25 and Rs.15

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Equity

through debt

cr. through Debt

debt

-------------Return on Rs.50 cr. Less: interest on Debt @ 18% --------------Balance Less: corporate tax @ 33.99% Balance 50x 16.995x --------------33.005x 50x

------------------ ------------------ ------------50x 50x 50x

4.5

2.7

----------------- ----------------- -----------50x- 4.5 50x- 2.7 50x- 9

16.995x-1.53 16.995x-0.92 16.995x-3.06 ----------------- ------------------ ---------------33.005x-2.97 33.005x-1.78 33.005x-5.94

Add: distributable profit Before expansion (I.e., 20% of Rs.50 cr.) Total profit available 10 -------------10+ 10 ---------------7.03+ 10 10

----------------- --------------8.22+ 4.06+

For distribution (a)

33.005x

33.005x

33.005x

33.005x

Expected rate of dividend 25% 25% 25% 25%

Expected dividend [i.e., 25% of (Rs.50 cr.+ new issue Of capital)](dividend tax is Included @ 16.995%) (b) 25+4.25 18.75+3.19 21.25+3.61 12.5+2.12

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Rate of return (i.e., value Of x) to pay dividend [i.e., Finding out value of x if (a) = (b)] 58.32% 45.17% 50.42% 32%

Conclusion- if the entire additional finance is raised by issue of capital, the company will be able to raise dividend to 25% only if rate of return on the new project is 58%. On the other hand, if the entire additional finance is raised by taking a loan @ 18% per annum, then the company will be able to raise dividend rate to 25% if the rate of return on the new project is 32%.

90-P3- XYZ Ltd. Is contemplating an expansion programme. It has to make a choice between debt issue and equity issue for its expansion programme. Its current position is as under: Rs. In crore 10% debt Equity share capital (Rs. 10 per share) Reserves and Surplus 80 200 120 -------Total capitalization 400 -------Sales Less: Total Costs 1200 1076 -------EBIT Less: Interest 124 8 -------EBT 116

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Less: Tax @ 33.99%

39.428 --------

EAT

76.572 ---------

The expansion programme is estimated to cost Rs. 200 cr. If this is financed through debt, the new rate of debt will be 10% and price-earning ratio will be 6 times. If the expansion programme is financed through equity, new shares can be sold getting Rs. 25 per share; and the price-earning ratio will be 7 times. The expansion will generate additional sales of Rs. 600 crore with a return of 10% on sales before interest and taxes. If the company is to follow a policy of maximizing the market value of its shares, which form of financing should it choose?

Answer. Determination of market value of a share under different financial alternatives (Rs. In crore) Financial plan 10% debt issue EBIT (see Note 1) Less: Interest 184 28 ------EBT Less: Tax @ 33.99% 156 53 ------EAT EPS (EAT/N) (see Note 2) Price-earnings ratio Market value of share (EPS X P/E ratio) 103 5.15 6 times Rs.30.9 Equity issue 184 8 -----176 60 -----116 4.14 7 times Rs.30

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The company should choose debt form of financing to maximize the market value of its shares. Working notes: 1. Calculation of EBIT Present EBIT Plus: Expected EBIT Rs in crore 124 60 -----Total expected EBIT 184 -----2. EPS- in debt financing, the number of ordinary shares outstanding would remain unchanged, i.e., 20 crore (Rs.200 crore/Rs.10). However, in the case of equity form of financing this figure will go up by 80 crore (Rs.200 crore/Rs.25), i.e., new equity share issued.

90-P4 When tax rates are falling, it is better to increase the financial leverage. Explain the truth of this statement using the following model which has three alternatives: Equity (20% dividend): 60% or 50% or 40% Tax rates are likely to be 35%, 30% and 25% in the next three years. Average cost of debt is 12%.

Answer. Gross cost Alternative I Comp. Cost Equity Debt 20% 12% 60% 40% 12 4.80 -----Total cost 16.80 -----Tax saved at 35% on 1.68 Alternative II Comp. 50% 50% Cost 10 6 -----16 -----2.10 Alternative III Comp. 40% 60% Cost 8 7.2 -----15.2 -----2.52

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Debt cost Net cost (a) Tax saved at 30% on Debt cost Net cost (b) Tax saved at 25% on Debt cost Net cost (c) 15.60 14.50 13.40 15.36 1.20 14.20 1.50 13.04 1.80 15.12 1.44 13.90 1.80 12.68 2.16

It may be seen from the above table that for each of the three alternatives I, II, III, as tax rates decline, the tax saved falls and the net cost (a), (b) and (c) rises. But, net cost of the mix declines at any given tax rate as the debt component increases. Therefore, there is truth even in the statement even when tax rate are constant, it is better to increase the debt equity ratio. As the net cost of alternatives II and III is lower than for alternative I, the statement in the question is also true.

DIVIDEND POLICY
91.The following tax consideration one has to keep in mind a. b. c. d. meaning of dividend under section 2(22) tax treatment in the hands of shareholders tax deduction at source under section 194 tax on dividend

MEANING OF DIVIDEND [SEC.2 (22)]

92.Section 2(22) gives the definition of deemed dividend. However, the definition laid down by section 2(22) is inclusive and not exhaustive. If, therefore, a particular distribution is not regarded as dividend within the extended meaning of the expression in section 2(22), it may still be dividend for the purpose of the Incometax Act.

Under section 2(22), the following payments or distributions by a company to its shareholders are deemed as dividends to the extent of accumulated profits of the company: a. any distribution entailing the release of companys assets

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b. c. d. e.

any distribution of debenture, debenture-stock, deposit certificates and bonus to preference shareholders distribution on liquidation of company distribution on reduction of capital any payment by way of loan or advance by a closely-held company to a shareholder holding substantial interest provided the loan should not have been made in the ordinary course of business and moneylending should not be a substantial part of the companys business.

If dividend comes under (a) to (d) (supra), then the payer-company will pay dividend tax under section 115-O and in the hands of recipient shareholders, it is not chargeable to tax.

Conversely, if dividend comes under (e) (supra), then it is taxable in the hands of shareholder. In such case, the payer-company will not pay dividend tax.

The following shall not be treated as dividend a. any payment made by a company on purchase of its own shares in accordance with the provisions contained in section 77A of the Companies Act; or b. any distribution of shares made in accordance with the scheme of demerger by the resulting company to the shareholders of the demerged company whether or not there is a reduction of capital in the demerged company.

ACCUMULATED PROFITS
92.1 Any payment or distribution under the aforesaid clauses is treated as dividend. However, the payment or distribution under the aforesaid clauses can be treated as dividend only to the extent of accumulated profits of the company. Therefore, it is essential to discuss the meaning and scope of the expression accumulated profits.

Explanations 1 and 2 to section 2(22) throw light on the meaning of accumulated profits.

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1. It is expressly provided that it does not include capital gains arising before April 1, 1946 and after March 31, 1948 but before April 1, 1956 2. In case of a company, which is not in liquidation, it includes all profits of a company up to the date of distribution or payment. 3. In the case of a company in liquidation, it includes all profits of the company up to the date of liquidation. Where, however, the liquidation is consequent on the compulsory acquisition of a companys undertaking by the Government or the Government Company, accumulated profits do not include any profits of the company prior to the three successive years immediately preceding the previous year in which such acquisition took place. For instance, if accounting year of a company is financial year and compulsory acquisition took place on March 13, 2007, its accumulated profits will exclude profits accumulated up to March 31. 2007.

WHETHER ACCUMULATED PROFITS INCLUDE CURRENT PROFITS

92.1-1 Accumulated profits include all profits (accumulated or current) up to the date of distribution or payment (or up to the date of liquidation in case of liquidation).

COMPUTATION OF ACCUMULATED PROFITS

92.1-2 Whether on the basis of commercial profits or assessed profits- In a number of cases it has been held that accumulated profits are computed on the basis of commercial profits.

DISTRIBUTION OF ACCUMULATED PROFITS ENTAILING RELEASE OF COMPANYS ASSETS [SEC. 2(22) (A)]
92.2 Under sub-clause (a) of section 2(22), any distribution by a company of its accumulated profits (whether capitalized or not) is dividend if it entails the release of companys assets. In other words, there are two conditions prescribed by this clause- first, distribution should be from accumulated profits (not from capital) and secondly, such distribution must in the release of the assets by the company. As no specific mode of distribution is prescribed by the clause, distribution may be in the form of the payment in cash or kind.

Bonus Shares- One of the conditions laid down in sub-clause (a) of section 2(22) is that distribution must entail the release of assets by the company to its shareholders. When, therefore, a company distributes ordinary or equity bonus by capitalizing its profits, then there is no release of assets and, consequently, bonus shares are not taxable as dividend. If, however, bonus shares are issued to preference shareholders, it amounts to distribution of dividend by virtue of sub-clause (b) of section 2(22).

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DISTRIBUTION OF ACCUMULATED PROFITS IN THE FORM OF DEBENTURES, DEBENTURE STOCK [SEC. 2(22) (B)]
92.3 Under this clause the following two distributions are treated as dividend to the extent of accumulated profits (whether capitalized or not) of the company: a. Distribution by a company to its shareholders (whether equity or preference shareholders) of debentures, debenture stock or deposit certificates in any form, whether with or without interest; and b. Distribution by a company to its preference shareholders of bonus shares.

It is worthwhile to note that under the aforesaid circumstances distribution amounts to dividend in the hands of recipient even if there is no release of assets at the time of distribution.

DISTRIBUTION OF ACCUMULATED PROFITS AT THE TIME OF LIQUIDATION [SEC. 2(22) (C)]

92.4 Under sub-clause (c), any distribution made by a company to its shareholders on its liquidation is treated as dividend to the extent to which such distribution is attributable to the accumulated profits (whether capitalized or not) of the company immediately before its liquidation. Under sub-clause (c), the following are, however, not treated as dividend: a. Any distribution in respect of preference shares issued for full cash consideration; and b. Any distribution in so far as such distribution is attributable to the capitalized profits of the company representing bonus shares allotted to its equity shareholders after March 31, 1964, but not before April 1, 1965.

DISTRIBUTION OF ACCUMULATED PROFITS ON THE REDUCTION OF ITS CAPITAL [SEC. 2(22) (D)]
92.5 Any distribution by a company to its shareholders on the reduction of capital is treated as dividend to the extent the company possesses accumulated profits (whether capitalized or not). However, the following are not treated as dividend under this clause: a. Any distribution out of accumulated profits which arose up to the previous year 1932-33 or up to the previous year ending 1932-33; b. Any distribution in respect of preference shares issued for full cash transaction; and c. Any distribution insofar as such distribution is attributable to the capitalized profits of the company representing bonus shares allotted to its equity shareholders after March 31, 1964 but before April 1, 1965.

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If there is only reorganization of capital and it, in fact, results in splitting up of capital of the company into two companies, and there is no reduction of capital in the aggregate, section 2(22)(d) would not apply.

DISTRIBUTION OF ACCUMULATED PROFITS BY WAY OF ADVANCE OR LOAN [SEC. 2(22)(E)]

92.6 Under sub-clause (e), any loan or advance to a shareholder or concern is treated as dividend in certain cases.

CASE 1 1. Loan or advance is given by a closely- held company. 2. Such loan is given to a registered shareholder. 3. The share holder (getting the loan) beneficially holds 10% or more of equity shares in the company (giving the loan) 4. Such loan or advance is treated as dividend in the hands of shareholder

CASE 2 1. Loan or advance is given by a closely-held company (say X Ltd.). 2. Such loan is given to a concern (say Y) [see Note 3]. 3. One of the shareholders, beneficially holding 10% equity shares capital in X Ltd., has substantial interest [see Note 4] in Y. 4. Such loan or advance is treated as dividend in the hands of Y.

Notes: 1. Such loan or advance is treated as dividend to the extent of accumulated profits (excluding capitalized profits). 2. Loan or advance for the above purpose may be given to a shareholder (Case 1) directly or may be given for the benefit of shareholder or on behalf of shareholder. 3. Concern for this purpose may be a HUF, a sole proprietor, firm, AOP, BOI or a company. 4. A person shall be deemed to have a substantial interest in a concern, if he is (at any time during the previous year), beneficially entitled to at least 20% of income of such concern (if such concern is a company, then he should beneficially hold at least 20% equity share capital of the company). Share held by a person in two different capacities, i.e., as individual and as HUF, cannot be clubbed for the purpose of deciding whether a person has substantial interest in concern- CIT v. Kunal Organics (p.) Ltd.[2007] 164 Taxman 169 (Ahd.) . 5. Where money lending is a substantial part of the business of the company (giving loan), the above provisions are not applicable. For this purpose, the factual position as its stands during relevant previous year alone is supposed to be taken into consideration to decide issue whether lending of money is substantial part of business of concerned company- Rekha Modi v. ITO[2007] 13 SOT 512 (Delhi) 6. If after giving loan or advance to a shareholder, the company declares normal dividend and such dividend is set off against outstanding loan/advance, the amount so set off will not be taken as dividend.

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TAX TREATMENT IN THE HANDS OF SHAREHOLDERS

92.7 Tax treatment of dividend is as follows

DIVIDEND RECEIVED FROM A DOMESTIC COMPANY

92.7-1 If dividend is covered by section 2(22) [not by clause (e)of section 2(22)] and declared, distributed or paid during April 1,1997 and March 31, 2002 or after March 31, 2003, then it is not taxable in the hands of shareholders by virtue of section 10(33) or 10(34). On such dividend the company declaring dividend will pay dividend tax under section 115-O. If a loan or advance is given after May 31, 1997 which is deemed as dividend under section 2(22)(e), then such loan or advance is taxable under section 56 as dividend in the hands of recipient.

DIVIDEND RECEIVED FROM A NON-DOMESTIC COMPANY

92.7-2 If dividend is received from a company other than a domestic company it is chargeable to tax in the hands of recipient.

BONUS SHARES
93. Tax consideration is given below-

BONUS SHARES TO EQUITY SHAREHOLDERS

93.1 The table given below highlights the tax consequences-

Situations At the time of issue of bonus shares At the time of sale of bonus share by shareholder At the time of redemption of bonus share or at the

Tax treatment in the hands of company issuing bonus shares No tax liability No tax liability

Tax treatment in the hands of shareholders No tax liability See para below on capital gain on bonus shares Out of the amount received at the time of redemption or

Under section 2(22)(a) or 2(22)(c), it will be treated as dividend

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time of liquidation of the company

distribution to the extent of accumulated profit and, consequently, the payer company will pay dividend tax

liquidation, amount treated as dividend under section 2(22)(a)/(c) will be exempt in the hands of shareholders, balance will be sale consideration to compute capital gain

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CAPITAL GAIN ON BONUS SHARES

93.1-1 Section 55 specifies that the cost of acquisition of any additional financial asset as bonus shares or security or otherwise which is received without any payment by the assessee on the basis of his holding any financial asset shall be taken to be nil.

Moreover, in the case of a capital asset being a share, security or unit which is allotted without any payment on the basis of holding of any other financial asset, the period for treating such share, security or unit, as the case may be.

Effect of the above provision may be summarized as follows:

If original shares and bonus shares are acquired before April 1, 1981

If original shares are acquired before April1, but bonus shares are allotted after April 1, 1981 If original and bonus shares are acquired after April 1, 1981 Period of holding bonus shares

Cost of acquisition of original and bonus shares Original shares- Actual cost or fair market value on April1, 1981, whichever is more Bonus shares- Fair market value on April1,1981 Original shares- Actual cost or fair market value 1981 on April 1, 1981, whichever is more Bonus shares- Nil Original shares- Actual cost Bonus shares- Nil The period of holding shall be determined from the date of allotment of bonus shares (and not from the date of acquisition of original shares)

Notes: 1. The above rules given in the table are also applicable in respect of shares, securities, debentures, bonds, units allots without any payment on the basis of holding of any other financial assets. 2. If securities transaction tax is applicable at the time of transfer, long-term capital gain is not chargeable to tax and short-term capital gain is taxable @15% + surcharge + education cess + secondary and higher education cess.

CASE STUDIES
93.1-1P1 - X purchases 1,000 equity shares in A Ltd. at the rate of Rs. 16 per share (brokerage: 1%) on December 10, 1979. He gets 500 bonus shares (by virtue of his holding of 1,000 shares) on January 10, 1984. Fair market value of shares of A Ltd. on April 1, 1981 is

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Rs.24. On March 13, 2009, he transfers 1,000 original shares @ Rs.81 per share (brokerage 1.5%). On March 15, 2009, he transfers 500 bonus shares @ Rs.87 per share (brokerage: 1.5%). Find out the amount of capital gains on the assumption the securities transaction tax is not applicable.

Answer. Assessment year 2009-10 Sale proceeds of 1,000 original shares (i.e., Rs.81 X 1,000) Less: Indexed cost of acquisition (i.e., Rs.24, 000 X 582 / 100) Less: Brokerage on transfer Rs. 81,000 (-) 1, 39,680 (-) 1,215 --------------Long-term capital gain on transfer of 1,000 original shares (-) 59,895 --------------Sale proceeds of 500 bonus shares (i.e., Rs.87 X 500) Less: Cost of acquisition Less: Brokerage on transfer 43,500 Nil (-) 653 -------------Long term capital gain on transfer of bonus shares 42,847 --------------

93.1-1P2- X purchases 1,100 equity shares in A Ltd. on June 11, 1979 @ Rs.30 per share (brokerage: 1%). On May 23, 1984, he gets 550 bonus shares. Fair market value of shares in A Ltd. on April 1, 1981 is Rs.46. He sells 1,100 original shares on March 10, 2009 @ Rs.116 per share (brokerage: 1%). Further on March 29, 2009, he sells 550 bonus shares @ Rs.131 per share (brokerage: 2%). Find out the amount of capital gains on the assumption that securities transaction tax is not applicable.

226

Answer. Rs. Sale proceeds of 1,100 original shares Less: Indexed cost of acquisition (i.e., Rs.46 X 1,100 X 582 / 100) Less: Brokerage on sale (1% of Rs.1, 27,600) 1, 27,600 (-) 2, 94,492 (-) 1,276 ----------------Long-term capital gain (-) 1, 68,168 ----------------Sale proceeds of 550 bonus shares Less: Cost of acquisition Brokerage on sale (2% of Rs.72050) 72,050 Nil 1,441 ---------------Long-term capital gain 70,609 ---------------Income under the head Capital gain (-) 81,873 ----------------

BONUS SHARES TO PREFERENCE SHAREHOLDERS

227

Rarely bonus shares are issued to preference shareholders. Tax treatment is given below-

Situation

At the time of issue of bonus shares

Issued before June 1, 1997 or during 2002-03 Company Shareholders No tax It will be deemed liability as dividend under section 2(22)(b)

At the time of sale by shareholder At the time of redemption or liquidation (if the amount is equal to face value)

No tax liability No tax liability

See para capital gain on bonus shares above No tax liability

Issued after May 31, 1997 but not during 2002-03 Company Shareholders Under section No tax liability 2(22)(b) it will be deemed as dividend and chargeable to dividend tax No tax liability See para capital gain on bonus shares above No tax liability No tax liability

228

TAX PLANNING WITH REFERENCE TO SALE OF SCIENTIFIC RESEARCH ASSETS

SALE OF SCIENTIFIC RESEARCH ASSETS

116. If the asset is sold without having been used for other purposes, sale proceeds or deduction allowed, whichever is less, is chargeable to tax as business income of the previous year in which the sale took place [section 41(3)]. The excess of sale proceeds over deduction allowed is, however, chargeable to tax as capital gains according to the provisions of section 45.

CASE STUDY
XYZ Ltd., a paper manufacturing concern, purchases a machine on March 1, 2002 for Rs.6, 10,000 for its laboratory with a view to improving the quality of art paper manufactured by the company. 1. What will be the amount of deduction under section 35 on account of capital expenditure of Rs.6,10,000 for the assessment year 2002-03 2. If the research activity for which the aforesaid machine is purchased ceases in 2007 and the machinery is brought into business proper on November 1, 2007 (market value of the machine: Rs.2,30,000); depreciation is admissible at the rate of 15%; depreciated value of the relevant block of assets on April 1, 2007, is Rs.14, 07,860, the scientific research machine is sold for Rs.1, 90,000 on April 4, 2008, what will be the amount of depreciation and amount of chargeable profit under section 41(3). 3. If the research activity for which the machine was purchased ceases on November 1, 2007 (market value of the machine: Rs.2, 30,000) and the machine is sold on April 4, 2008 without using it for another purpose, sale price being Rs.1, 90,000, or Rs.5, 40,000, or Rs.8, 10,000 or Rs.15,00,000.

Answer. 1. As the scientific research is related to the business of assessee, the whole of capital expenditure of Rs.6, 10,000 is allowable as deduction under section 35(2)(ia) for the assessment year 2002-03. 2. The machine is brought into business proper on November 1, 2007. Profit arising on sale of machinery is, in this case, not chargeable under sub-section (3) of section 41. Provision of sub-section (3) of section 41 would not apply as the section covers only such assets which are represented by expenditure of capital nature on scientific research that is sold without having been used for any other purpose.

229

Tax treatment of depreciation will be as under: Rs. Depreciated value of the block of assets on April 1, 2007 14, 07,860

Add: Cost of machine transferred from laboratory on November 1, 2007 [i.e., Rs.6, 10,000- deduction of Rs.6, 10,000 claimed under section 35] -------------Written down value Less: Depreciation for the previous year 2007-08 [15% of Rs.14, 07,860] Depreciated value of the block on April 1, 2008 Less: Sale proceeds of machine sold on April 4, 2008 14, 07,860 2, 11,179 ------------11, 96,681 1, 90,000 ------------Written down value Less: Depreciation for the previous year 2008-09 10, 06,681 1, 51,002 ------------Depreciated value of the block on April 1, 2009 8, 55,679 ------------There will be no capital gain or loss in this case. Nil

3. Tax treatment should be as under:

Rs.1.90 lakh Rs. Amount chargeable under section 41(3) (i.e., sale proceeds but subject to maximum of

If sale price is Rs.5.40 lakh Rs.8.10 lakh Rs. Rs.

Rs.15 lakh Rs.

230

deduction claimed under section 35 for the assessment year 2002-03) Capital gain under section 35 Sale proceeds Less: Indexed cost of acquisition [i.e., Rs.6, 10,000 X 582 /426] Long-term capital gain or loss

1, 90,000 1, 90,000

5, 40,000 5, 40,000

6, 10,000 8, 10,000

6, 10,000 15, 00,000

8, 33,380 (-) 6, 43,380

8, 33,380 (-) 2, 93,380

8, 33,380 (-) 23,380

8, 33,380 (-)6, 66,620

Note: It can be seen from the above computation that when the capital asset is transferred for Rs.1.90 lakh without putting it to some other use, the taxpayer can claim long-term capital loss of Rs.6, 43,380 apart from claiming deduction under section 35- Pharmson Pharmaceuticals Ltd. v. CIT [2003] 87 ITD 668 (Delhi).

PURCHASE OF ASSET
100. The factors which determine effective tax savings are: A. rate of depreciation; and B. marginal tax rate.

Case study
An assesses, who carries on a business, acquires a plant and machinery costing Rs. 1, 00,000. This plant and machinery is utilised for the business of the company till the year ten when it is discarded and sold at the depreciated rate. In this case the taxpayer can claim depreciation from year one to year ten under section 32. Effective tax benefits depend upon maximum marginal rate of tax. For this purpose, it is assumed that the maximum marginal rate of tax is 33.99 percent. Tax savings are discounted at the rate of 10 percent to find out the present worth/value. This case study is based on two plans, namely, (i) when owned funds are invested, and (ii) when 75 percent cost of plant is financed by deposit taken from public. When own funds are invested in plant and machinery: - table 1 presents tax savings on the account of deductions available under different circumstances, when own funds are invested in plant and machinery. One can finance 18.84 percent of investment in plant and machinery by tax savings. TABLE 1

231

Tax savings under the scheme of depreciation at 15 percent ( Tax rate : 33.99 percent)

Year

Amount of depreciation (investment: Rs. 1,00,000) 15,000 12,750 10,838 9,212 7,830 6,656 5,657 4,089 4,087 3,474

Tax saving on depreciation

Present worth of tax savings (discount rate : 10 percent) 4,635 3,579 2,767 2,138 1,652 1,275 986 763 589 456 18,840

Year one Year two Year three Year four Year five Year six Year seven Year eight Year nine Year ten

5,099 4,333 3,684 3,131 2,661 2,262 1,922 1,635 1,389 1,181

When borrowed funds are invested in plant and machinery: Table 2 and 3 give data regarding the extent of tax savings when Rs. 75,000 is borrowed from public by accepting deposit at the rate of 9 percent per annum to finance the investment of Rs. 1, 00,000 in plant and machinery. While interest is paid annually, principal is repaid in year ten. One can finance 23.17 percent of investment by tax savings. Therefore, purchase out of own funds is better. TABLE 2 Present value f differential outflows on purchase of plant and machinery with borrowed funds (Amount of investment: Rs. 1, 00,000 amount borrowed: Rs. 75,000)

232

Year

Interest at the rate of 9 percent

Own investment and principal repaid

Present value of total outflow on principal and interest (discount rate: 10 percent)

Present value of total outflow on principal and interest net of tax (discount rate: 10 percent) tax rate: 33.99 percent (5) 25,000 4,050 3,681 3,346 3,043 2,767 2,513 2,286 2,081 1,889 30,670 81,326

(1) Year zero Year one Year two Year three Year four Year five Year six Year seven Year eight Year nine Year ten Total

(2) ----------6,750 6,750 6,750 6,750 6,750 6,750 6,750 6,750 6,750 6,750 67,500

(3) 25,000 -------------------------------------------------------------------75,000 1 ,00,000

(4) 25,000 6,136 5,576 5,069 4,610 4,192 3,807 3,463 3,152 2,862 31,556 95,423

Notes:
1. 2. 3. Present worth of Rs. 6750: Rs. 2,606 + present worth of Rs. 75,000: Rs. 28,950 66.01% of column (4). 66.01% of Rs. 2,606 + Rs. 28,950.

TABLE 3

233

Contribution of deduction under section 32 when borrowed funds are invested in plant and machinery (Tax rate; 33.99 percent)
a. b. c. Present worth of total outflow on principal and interest net of tax Present worth of tax savings on account of deductions under section 32 (b) as % of (a)

Rs. 81,326 Rs. 18,840 23.17%

LEASE VS. PURCHASE

101. With the concept of leasing gaining immense popularity in recent times, any business management is faced with the choice to purchase assets or to go in for leasing the asset. One must resolve this issue on economic consideration taking into account the different tax shield effects. If asset is purchased, the assessee can claim depreciation. Besides interest n capital is borrowed to finance investment in plant and machinery can also claim as deduction. If, however, asset is obtained on lease, deductions can be claimed in respect of lease rentals and lease management fees.

CASE STUDY
For this purpose a case study on the following data has been made. A plant is to be purchased for Rs. 1, 00,000. The depreciation rate is 15% and the corporate tax is 33.99%. The weighted average cost of capital is 10%. The life of the machine is 10 years. A loan of Rs. 75,000 can be held by accepting public deposits at the interest of 18% for financing the investment in plant. It is assumed that the public deposits are repaid after 10 years. On the other hand, the asset can be obtained on lease. The lease rentals are at the rate of Rs. 34,000 per annum for the primary lease period of 5 years. Beyond this peppercorn rentals of Rs. 600 per annum are to be paid. A lease management fee of Rs. 1,000 is payable on inception of the lease. In all, three situations have been studied: Situation I: purchase with own funds The following results one can obtain on the basis of data presented on table 1[Para 100]. Present value of outflow of cash when plant is purchased out of own funds

Investment in plant and machinery

Rs. 1 ,00,000

Tax savings on account of depreciation

Rs. 18,840

Outflow of cash

Rs. 81,160

234

Situation II: purchase with borrowed funds to finance purchase of plant and machinery, a loan (by way of public deposit) of Rs. 75,000 is obtained at the rate of 9%. While interest is paid annually, principal is repaid in year ten. The following results one can obtain on the basis of information presented in table 3 [para 100]: TABLE 5 Present value of outflow of cash when plant is purchased out of the borrowed funds

Present value of total outflow on principal and interest net of tax

Rs. 81,326

Present worth of tax savings on account of deduction under section 32

RS. 18,840

Outflow of cash (net of taxes)

Rs. 62,486

Situation 3- taking asset on lease : table 6 presents the data when plant is obtained on lease from own funds. TABLE 6 Present value of differential cash outflow on leasing with own funds Year Lease management feee Lease rentals Tax saving on fee and rentals (tax rate: 33.99%) Differential cash outflow Present value of differential cash outflow (discount rate: 10%) 23,103

Year zero

1000

34,000

11,897

23,103

Year one

-------

34,000

11,557

22,443

20,401

Year two

-------

34,000

11,557

22,443

18,538

Year three

-------

34,000

11,557

22,443

16,855

Year four

-------

34,000

11,557

22,443

15,329

Year five

-------

600

204

396

245

Year six

-------

600

204

396

223

235

Year seven

-------

600

204

396

203

Year eight

-------

600

204

396

185

Year nine

-------

600

204

396

168

Year ten

-------

-----

-----

-----

-----

Total

95,250

Conclusion from the above it wolud be evident that purchase of plant out of own fund is the best altenative.

Purchase by instalment vs hire

102. if an asset is purchased by instalments, then the taxpayer claim depreciation under section 32. Besides interest payable on unpaid purchase price can also be claimed as deduction. In the case of obtaining an asset n hire, deduction can be claimed in respect of hire charges. By comparing present value of cash outflows a correct decision can be taken.

Case study
X ltd., an Indian company, engaged in the business of manufacture of transformers and switchgears, negatiates for the purchase or taking on hire a machine from a concern in U.K. If it acquires the machine, then the total cost will be Rs. 60,00,000 payable in 5 annual (interest-free) talments of Rs. 12,00,000 each, the payments to be made on July 1 each year beginning with year 2009. If it takes the machine on hire, it has to pay an annual rent of Rs. 8,00,000 also payable on July 1 each year starting from the same year 2009. The company proposes to use the machine for 10 years from 2009. The following assumptions have been made: 1. The company is a widely-held company and tax rate is 33.99 per cent. 2. Rate of depreciation on machinery is 15 per cent. 3.Cost of capital is assumed as 10 per cent. The following chart highlights the tax implication under the two alternatives:

236

Purchase Present value of cash flow on account of payment of installments Tax saving on account of depreciation (i.e. 18.84% of Rs. 60,00,000) Present value of cash outflow Hire: Present value of cash outflow on account of payment of rent

Rs. (-)50,02,800 (+)11,30,400 (-)38,72,400 Rs. (-)54,06,400

Present value of tax saving on account of payment of rent

18,37,635 --------------(-) 35,68,765 ----------------

Conclusion: the machine should be taken on hire. Note1 : present value of cash outflow on accountof installments: Date of payment July 1, 2009 July 1, 2010 July 1, 2011 July 1, 2012 July 1, 2013 TOTAL Amount of instalments(Rs.) 12,00,000 12,00,000 12,00,000 12,00,000 12,00,000 60,00,000 Discounted value at 10% (Rs.) 12,00,000 10,90,800 9,91,200 9,01,200 8,19,600 50,02,800

Note 2: present value of cash outflow on account of payment of hire charges: Date of payment July 1, 2009 July 1, 2010 July 1, 2011 Hire (Rs.) 8,00,000 8,00,000 8,00,000 Discounted value @ Tax @33.99% (Rs.) 10% (Rs.) 8,00,000 7,27,200 6,60,800 2,71,920 2,47,175 2,24,606

237

July 1, 2012 July 1, 2013 July 1, 2014 July 1, 2015 July 1, 2016 July 1, 2017 July 1, 2018 TOTAL

8,00,000 8,00,000 8,00,000 8,00,000 8,00,000 8,00,000 8,00,000 80,00,000

6,00,800 5,46,400 4,96,800 4,51,200 4,10,400 3,73,600 3,39,200 54,06,400

2,04,212 1,85,721 1,68,862 1,53,363 1,39,495 1,26,987 1,15,294 18,37,635

Sale of assets used for scientific research 103. See para 116.

Make or buy
104.

Many costing or non-costing considerations guide the decision relating to "make or buy.

Some of these considerations are - (a) utilisation of capacity, (b) inadequacy of funds, (c) latest technology, (d) variable cost of manufacturing vis-a-vis purchase price, (e) dependence upon supplier, (f) labour problem in the factory, etc. The following tax consideration one has to keep in mind while taking "make or buy decision1. Establishing a new unit - If the decision to manufacture a part or component involves setting up a separate industrial unit, then tax incentives available under sections lOA, lOB, 32, 80-IA, 80IB and 80-IC one has to keep in mind. 2. Sale of plant and machinery- If buying is cheaper than manufacturing and the assessee decides to "buy" parts/components for a long period of time, he may like to sell the existing plant machinery. Tax implications, as specified by section 50, one has to consider for taking the decision.

'

Case study
l04-Pl X Ltd. manufactures electric pumping sets. The company has the option to either make or buy from the market component Y used in manufacture of the sets. The following details are available: The component will be manufactured on new machine costing Rs. 1 lakh with a life of 10 years. Material required cost Rs. 2 per kg. and wages Re. 0.30 per hour. The salary of the foreman employed is Rs. I,5O0 month and other variable overheads include Rs. 20,000 for manufacturing 25,000 components per year. Material requirement is 25,000 kgs. and requires 50,000 labour hours.

238

The component is available in the market at Rs. 4.30 per piece. Will it be profitable to make or to buy the component? Does it make any difference if the component ca manufactured on an existing machine?

The cost estimate of manufacture will be : Material @ Rs. 2 kg. (25,000 X Rs. 2) Labour @ 0.30 hour (50,000 X Re. 0.30) Foreman's salary (Rs. 1,500 X 12) Variable overhead Total variable cost Cost per unit (i.e., Rs. 1,03,000 +- 25,000) (a) Fixed cost Cost of new machine (net of Taxes) [see Table 4, para 101] Net fixed cost per unit (i.e., Rs. 81.160 +- 2,50,000 units to be manufactured in 10 years) (b) Total [(a) + (b)] Conclusion
If new machine is required (Rs.) 4.45 4.30 Buy If existing machine can be used (Rs.) 4.12 4.30 Make

50,000 15,000 18,000 20,000 1,03,000

412

81,160
0.325 4.45

104- P2 XYZ Ltd. needs a component in an assembly operation. It is contemplating the proposal to either make or buy the aforesaid component. 1. If the company decides to make the product itself, then it would need to buy a machine for Rs. 8 lakh which would be used for 5 years. Manufacturing costs in each of the five years would be Rs. I2lakh, Rs. 14lakh, Rs. 161akh, Rs. 20 lakh and Rs. 25 lakh respectively. The relevant depreciation rate is 15 per cent. The machine will be sold for Rs. 1 lakh at the beginning of the sixth year. 2. If the company decides to buy the component from a supplier the component would cost Rs. 18 lakh , Rs.2o lakh, Rs. 22 lakh, Rs. 28 lakh and Rs. 34 lakh respectively in each of the five year. The relevant discounting rate and tax rate are 14 per cent and 33.99 per cent respectively. Additional depreciation is not available. Should XYZ Ltd. make the component or buy from outside? Alternative 1- make the component Year 1 2 3 4 5 Depreciation (Rs.) 1,20,000 1,02,000 86,700 73,695 62,641 WDV (Rs.) 6,80,000 5,78,000 4,91,300 4,17605 3,54,964

239

Computation of short term capital loss Sales consideration Less: cost of acquisition Short term capital loss Year Manufacturing cost (Rs.) Depreciation (Rs.) Rs. 1,00,000 3,54,964 (-) 2,54,964 Tax saving (Rs.) Cash outflow from operations (COFO) Rs. 7,51,332 8,89,470 10,26,691 12,95,151 16,28,958

1 2 3 4 5

12,00,000 14,00,000 16,00,000 20,00,000 25,00,000

1,20,000 1,0,2000 86,700 73,695 62,641

4,48,668 5,10,530 5,73,309 7,04,849 8,71,042

Discounted cash flow analysis of make proposal: Year Investment Cash outflow Cash outflow Cash outflow Cash outflow Cash outflow Sale of machine 0 1 2 3 4 5 6 PVF/A 1 0.877 0.769 0.675 0.592 0.519 0.519 Cash outflow 8,00,000 7,51,332 8,89,476 10,26,691 12,95,151 16,28,958 1,00,000 PV (Rs.) 8,00,000 6,58,918 6,84,002 6,93,016 7,66,729 8,45,429 (-)51,900 43,96,194 Alternative 2: buy the component Year Purchase cost (Rs.) 1 2 18,00,000 20,00,000 Tax saving (Rs.) 6,11,820 6,79,800 Cash outflow from operations (Rs.) 11,88,180 13,20,200

240

3 4 5

22,00,000 28,00,000 34,00,000

7,47,780 9,51,720 11,55,660

14,52,220 18,48,280 22,44,340

Discounted cash flow analysis of buy proposal Year Cash outflow Cash outflow Cash outflow Cash outflow Cash outflow 1 2 3 4 5 PVF/A 0.877 0.769 0.675 0.592 0.519 Cash outflow (Rs.) 11,88,180 13,20,200 14,52,220 18,48,280 22,44,340 PV (RS.) 10,42,034 10,15,234 9,80,249 10,94,182 11,64,812 52,96,510
Decision- The above analysis shows that there are considerable savings in making the component, amount~ to Rs. 9,00,316 (i.e., Rs. 52,96,510 - Rs. 43,96,194). Hence, it is beneficial to manufacture the compone~ Moreover, XYZ Ltd. will have a short-term capital loss of Rs. 2,54,964 after the end of the

fifth year. Assumin,g that, it has an equal amount of short-term capital gain also this will result in tax savings of Rs. 86,663 at t~ current corporate tax rate (i.e., Rs. 2,54,964 X 33.9996).

Repairs, replace, renewal or renovation

105. The main tax consideration which one has to keep in mind is whether expenditure on repair, replace or renewal is deductible as revenue expenditure under section 30, 31, or 37(1). If the

expenditure is deductible as revenue expenditure under these sections, then cost of financing such expenditure is reduced to the extent of tax saved. For instance, if tax rate is 33.66 % and a "renewal" expenditure of Rs. 1,00,000 is allowed as deduction under section 30, 31 or 37(1), then effective out of pocket expenditure is Rs. 66,340 [i.e., Rs. 1,00,000 minus 33.66 per cent of Rs. 1,00,000]. On the other hand, if such expenditure is not allowed as deduction under section 30,31 or 37(1), then it may be capitalised and on the amount so capitalised depreciation is available if certain conditions are satisfied.

Case study lOS-PI XYZ Ltd is considering the purchase of a new machine costing Rs. 60,000 with an e.xpected life or:; years with salvage value of Rs. 3,000, in replacement of an old machine purchased 3 years
ago for Rs. 30,OJ) with expected life of 8 years. The present market value of this old machine is Rs. 35,000. Because of l!~ purchase of new machinery, the annual profits before depreciation are expected to increase by Rs. 12,000. relevant depreciation rate for the machine is 15 per cent on written down value basis and the tax rate is 33.9 per cent. Assume the after ta:>; cost of capital (discounting rate) to be 14 per cent. Advise the company suitab.

r~

Assumptions:

241

1. It is assumed that the old machine is sold and the new machine is purchased at the beginning of
fourth yea: of the purchase of old machine. Working note

2. There is no other asset in the block. Computation of the written down value of the old machine (after providing three years depreciation)
Year Depreciation Rs. 1 2 3 4,500 3,825 3,251 WDV Rs. 25,500 21,675 18,424
18,424

WDV of the old machine (in the beginning of the fourth year

Add : Purchases Total Less : Sales WDV at the beginning of fourth year for old machine (or first year for new machine)

60,000 78,424 35,000 43,424

Future years

Change in depreciation (Rs.)

25,000 X 0.15 = 3,750 (60,000 - 35,000)

Change in WDV (Rs.)

21,250 (25,000-3,750) 18,062 (21,250-3,188) 15,353 (18,062 - 2,709)

1 2 3 4 5

21,250 X 0.15 = 3,188

18,062 X 0.15 = 2,709 15,353 X 0.15 = 2,303 10,050 Short-term capital loss (13,050 - 3,000) Change in profit Change depreciation (Rs.) (Rs.)

13,050 (15,353 - 2,303)

Future years

in Change in tax (Rs.)

Change in cash flow (Rs.)

242

1 2 3 4 5

12,000 12,000 12,000 12,000 12,000

3,750 3,188 2,709 2,303 10,050

2,804 2,995 3,158 3,296 662

9,196 9,005 8,842 8,704 11,338

Discounted cash flow analysis of the project

Year Net investment Cash inflow from operations Cash inflow from operations Cash inflow from operations Cash inflow from operations Cash inflow from operations Sale of scrap Net present value 0 1 2 3 4 5 6 PVF/A 1 0.877 0.769 0.675 0.592 0.519 0.519 Cash flow (Rs.) - 25,000 +9,196 + 9,005 + 8,842 + 8,704 + 11,338 + 3,000 Present value (Rs.) - 25,000 + 8,065 + 6,924 + 5,968 + 5,152 + 5,884" + 1,557 + 8,523

Decision - Since the net present value on the basis of the above stated analysis
is positive, the old machine should be replaced with the new machine.

TAX PLANNING WITH REFERENCE TO SALE OF SCIENTIFIC RESEARCH ASSETS

243

SALE OF SCIENTIFIC RESEARCH ASSETS

116. If the asset is sold without having been used for other purposes, sale proceeds or deduction allowed, whichever is less, is chargeable to tax as business income of the previous year in which the sale took place [section 41(3)]. The excess of sale proceeds over deduction allowed is, however, chargeable to tax as capital gains according to the provisions of section 45.

CASE STUDY
XYZ Ltd., a paper manufacturing concern, purchases a machine on March 1, 2002 for Rs.6, 10,000 for its laboratory with a view to improving the quality of art paper manufactured by the company. 4. What will be the amount of deduction under section 35 on account of capital expenditure of Rs.6,10,000 for the assessment year 2002-03 5. If the research activity for which the aforesaid machine is purchased ceases in 2007 and the machinery is brought into business proper on November 1, 2007 (market value of the machine: Rs.2,30,000); depreciation is admissible at the rate of 15%; depreciated value of the relevant block of assets on April 1, 2007, is Rs.14, 07,860, the scientific research machine is sold for Rs.1, 90,000 on April 4, 2008, what will be the amount of depreciation and amount of chargeable profit under section 41(3). 6. If the research activity for which the machine was purchased ceases on November 1, 2007 (market value of the machine: Rs.2, 30,000) and the machine is sold on April 4, 2008 without using it for another purpose, sale price being Rs.1, 90,000, or Rs.5, 40,000, or Rs.8, 10,000 or Rs.15,00,000.

Answer. 4. As the scientific research is related to the business of assessee, the whole of capital expenditure of Rs.6, 10,000 is allowable as deduction under section 35(2)(ia) for the assessment year 2002-03. 5. The machine is brought into business proper on November 1, 2007. Profit arising on sale of machinery is, in this case, not chargeable under sub-section (3) of section 41. Provision of sub-section (3) of section 41 would not apply as the section covers only such assets which are represented by expenditure of capital nature on scientific research that is sold without having been used for any other purpose.

Tax treatment of depreciation will be as under: Rs. Depreciated value of the block of assets on April 1, 2007 14, 07,860

Add: Cost of machine transferred from laboratory on November 1, 2007 [i.e., Rs.6, 10,000- deduction of Rs.6, 10,000 claimed under section 35] -------------Nil

244

Written down value Less: Depreciation for the previous year 2007-08 [15% of Rs.14, 07,860] Depreciated value of the block on April 1, 2008 Less: Sale proceeds of machine sold on April 4, 2008

14, 07,860 2, 11,179 ------------11, 96,681 1, 90,000 -------------

Written down value Less: Depreciation for the previous year 2008-09

10, 06,681 1, 51,002 -------------

Depreciated value of the block on April 1, 2009

8, 55,679 -------------

There will be no capital gain or loss in this case.

6. Tax treatment should be as under:

Rs.1.90 lakh Rs. Amount chargeable under section 41(3) (i.e., sale proceeds but subject to maximum of deduction claimed under section 35 for the assessment year 2002-03) Capital gain under section 35 Sale proceeds Less: Indexed cost of acquisition [i.e., Rs.6, 10,000 X 582 /426] Long-term capital gain or loss

If sale price is Rs.5.40 lakh Rs.8.10 lakh Rs. Rs.

Rs.15 lakh Rs.

1, 90,000 1, 90,000

5, 40,000 5, 40,000

6, 10,000 8, 10,000

6, 10,000 15, 00,000

8, 33,380 (-) 6, 43,380

8, 33,380 (-) 2, 93,380

8, 33,380 (-) 23,380

8, 33,380 (-)6, 66,620

Note:

245

It can be seen from the above computation that when the capital asset is transferred for Rs.1.90 lakh without putting it to some other use, the taxpayer can claim long-term capital loss of Rs.6, 43,380 apart from claiming deduction under section 35- Pharmson Pharmaceuticals Ltd. v. CIT [2003] 87 ITD 668 (Delhi).

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Multiple choice questions

Q1.

A company want to purchase a plant (cost: Rs. 80 crore). It can out rightly purchase it. Alternatively, can take the plant on lease.The following factors are taken into consideration to find out which one is better-

a. Corporate tax rate; b. Corporate tax rate and depreciation rate; c. Corporate tax rate, depreciation rate, lease rent, cost of capital and useful life of plant; d. None of above. Q2. If corporate tax rate is reduced the tax saving on account of depreciation will increase a.True b. False. Q3. If rate of depreciation is reduced the tax saving on account of depreciation will increasea.True; b.False. Q4. If borrowed funds are used for purchase of a plant and tax rates are reduced, the tax saving will increasea. True; b. False. Q5. Depreciation is not available in the case of machine acquired under hire purchasea.True;. b.False. Q6. X Ltd. is considering a proposal to manufacture a component itself or purchase from market. No fresh investment in plant and machinery will be required if it decides to manufacture the component within its factory. Total variable cost of manufacturing is Rs. 74 per unit of component. Net fixed cost of use of plant and machinery comes to Rs. 20 per unit of component. The component is available in market at Rs. 79 per unit of component. It is better to purchase the component from marketa.True; b. False. Q7. y Ltd. has an option to purchase a machine out of own funds or alternatively a bank can finance it. At the current rate of corporate tax, the tax saving in the later option is higher. If the corporate tax rate reduced, the second option will become less attractivea.True; b. False. Q8. To find out which one is better-repair or replace, the main tax consideration is whether expenditure" on repair or replace is deductible as revenue expenditure under section 30, 31 or 37a. True; b. False.

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MODULE III : WEALTH TAX

Wealth Tax

The basis of the charge is given below-

1. Net wealth is chargeable to wealth tax.Net wealth for this purpose is computed as followsAssets[Sec.2(ea)] Add: Deemed assets[Sec. 4] Total Less: Exempted assets[sec.5] Assets chargeable to wealth tax Less: Debt owned[Sec.2(m)] Net wealth XXXX XXXX XXXX XXXX XXXX XXXX XXXX

2. Net wealth on valuation date is chargeable to wealth-tax in the immediately following assessment year.

3. Only an individual, hindu, undivided family and a company is chargeable to wealth-tax. by virtue of section 45,no wealth-tax is chargeable in respect of net wealth of-

a. any company registered under section 25 of the companies act, 1956;

b. any co-operative society;

c. any social club;

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d. any political party;

e. a mutual fund specified under section 10(23D) of the income tax Act.

4.net wealth in excess of Rs. 15,00,000(Rs. 30,00,000 from the assessment year 2010-11) is chargeable to wealth tax @ 1 per cent(no surcharge, education cess and secondary and higher education cess).

Assessment year

441. Assessment year means a period of 12 months commencing from the first day of April every year falling immediately after the valuation date.

Valuation date [sec.2 (q)] Valuation date is March 31 442.valuation immediately preceding the assessment year.

Change of the ownership on the valuation date 442.1 since the valuation date is a continuous period starting at the first moment and ending at the last moment of a certain date,net wealth shall be taken at the last moment of the valuation date.

Net wealth how computed

443. The term net wealth means taxable wealth. Broadly speaking, it represents the excess of assets *see para 445] over debts [see para 448].Assets include deemed assets [see para 446] but do not include exempt assets [see para 447]

444. Incidence of tax in the case of an individual depends upon his residential status and nationality, whereas in the case of a Hindu undivided family and company it depends upon residential status. For the purpose of wealth-tax, residential status will be that which an individual, a Hindu undivided family or a company, enjoys under the income

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tax act for the previous year ending on the valuation date. The following table summarizes tax incidence under the act:

Resident and ordinarily Resident resident in India(or ordinarily resident in the case of a India company)

but not Non resident resident in

In the case of an Taxable wealth individual who is an Indian national, every =(x-y)+(p-q) Hindu undivided family and company In the case of individual who is a foreign national

Taxable wealth =(x-y) Tax-free wealth =(p-q)

Taxable wealth =(x-y) Tax-free wealth =(p-q)

Taxable wealth =(x-y) Tax-free wealth =(p-q)

Taxable wealth =(x-y) Tax-free wealth =(p-q)

x denotes all assets *see para 445+ located in India, including deemed assets*see para 446+ but excluding assets*see para 447]

y denotes aggregates value of all the debts (whether located in India or outside India) owed by the assessee on the valuation date which have been incurred in relation to the assets included inx supra.

p denotes all assets *see para 445+ located out of India including deemed assets*see para 446+ but excluding exempted assets[see para 447]

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q denotes aggregate value of all the debts(whether located in India or outside India) owed by the assessee on the valuation date in relation of the assets included in p supra.

444.1 The question as to where an asset is located is essentially one of fact and will have to be decided in the light of evidence. The following guidelines may, however, be used for this purpose:

Tangible immovable property is situated in India, if the property lies in India.

Rights or interest in or over immovable property(otherwise than by way of security)or benefits arising out of immovable property are located in India if the immovable property to which the rights are attached, or out of which the benefits arise, lies in India. Right or interest (otherwise than by way of security) in or over tangible movable property are located in India if such property is located in India. Debts secured or unsecured (other than those dealt with below) are located in India if they are contracted to be repaid in India or if the debtor is residing in India. Ships or aircraft are located in India, if they are registered in India. Goods on high seas in transit to India are located India.

It is not possible to give an exhaustive list of assets and the principles to be applicable in determining the location of all such assets. for assets which are not covered above, the location has to be fixed having regard to the nature of the assets.

Assets [sec. 2(ea)]

445. The term assets means the assets given in para 445.1 to 445.6

1. Any building or land appurtenant thereto whether used for commercial or residential purposes or for the purpose of guest house.

2. A farm house situated within 25 kilometers from the local limits of any municipality (whether known as a municipality, municipal corporation, or by any other name) or a cantonment board.

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445.1.1 The following are not included in assets: Exception one- a residential house[sec.2(ea)(i)(1)]-a house if the following conditions are satisfied is not treated as an asset-

a. it is meant exclusively for residential purposes

b. it is allotted by a company to an employee or an officer or a director who is in whole-time employment.

c. the gross annual salary of such employee, officer or director is less than Rs. 5,00,000*the term gross salary is not defined; as per common parlance it could mean salary,bonus,commission including dearness and other allowances(whether taxable or not),but excluding perquisites and before giving standard deduction].

Exception two - a house held as stock-in-trade [sec.2(ea)(i)(3)]-any house(may be residential house or used for commercial purposes) which forms part of stock-in-trade of the assessee is not treated as asset. Exception three - a house used for own business or profession [sec.2(ea)(i)(3)-any house which the assessee may occupy for the purposes of any business or profession carried on by him is not treated as asset. Exception four-a let out property [sec.2 (ea)(i)(4)]- a residential property which is let out for a minimum period of 300 days in the previous year is not treated as an asset. Exception five- a commercial complex [sec.2 (ea)(i)(5)]- any property in the nature of commercial establishments or complex is not treated as an asset.

445.1-1P1 Discuss whether the following are assets-

1. A commercial multi-storeyed building given on rent by X (not being held as stock-in-trade).

2. a commercial house property used by a Hindu undivided family for the purpose of carrying on own business. 3. Y owns a house property which is occupied by a firm in which he is a partner for its business purposes.

4. Z owns a residential house property.It is given by him as rent-free house to his general manager A who looks after the business of Z.Annual salary of A is Rs.4,80,000.Z claims that since the house is used for business purposes, it comes in section 2(ea)(i)(3) and it is not an asset.

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1.A commercial multi-storeyed building given on rent(not being held as stock-in-trade).

2.A commercial house property by a Hindu undivided family for carrying on a business or profession is not an asset*i.e. exception three+

3. a building occupied by a person for the purpose of any business or profession carried on by him is not an asset*i.e,exception three covered by section 2(ea)(i)(3)].this condition is satisfied when a person who being the owner of certain premises, makes the same available to the firm, in which he is a partner, for carrying on business.the assessee can be held to be carrying on business when that business is a business of a partnership firm and he is a partner in that firm since the firm as a partnership firm has no legal entity and, it is a compendious expression for all the partners-CIT v. K.N. Guruswamy[1984]47 Taxman 108 (ker),CIT v. K.M. jagannathan[1989] 180 ITR 191 (Mad.). v. P.T.Mannel[1989]47 Taxman 108(Ker.),CIT v. K.N. Guruswamy[1984]146 ITR 34.

4. The house owned by Z is a residential house.A residential house is covered by section2(ea)(i)(l) and since it is not owned by a company, the benefit of exemption is not available and is an asset.

As the house is used for business purposes,one may argue that is covered by the exception three given under section(ea)(i)(3) and it is not an asset.

In the case of a residential house,section2(ea)(i)(1) is a special provision.the maxim generalia specialibus non derogant is regarded as a cardinal principle of interpretation-state of Gujarat v. Ramjibhai AIR 1979 SC 1098.The literal meaning of the expression is that if there is an apparent conflict between two independent provisions of law,the special provision must prevail-union of India v. Indian fisheries(P.)ltd.[1965]57 ITR 331(SC).The general provision,however controls the cases where the special provision does not apply as the special provision is applicable to the extent of its scope-south India corpn. (P)Ltd.v.Board of revenue AIR 1964 SC 207.In other words,a special rule or cuts down the general provision-Bengal Immunity v. State of Bihar AIR 1955 SC 661.

Consequently section2(ea)(i)(1)[i.e,exception three] covers a house and section 2(ea)(i)(3)[i.e,exception three]covers a house used for carrying on a business or profession but other than a residential house.

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In the given problem,the house owned by Z is an asset,as the conditions of section 2(ea)(i)(3) are not satisfiedfloatglass India ltd. v. CWT[2004]89 ITD 542 (Mum.).

Motors cars [sec. 2(ea)(ii)]

445.2 Except the following two,any other motor car is an asset: a. motor cars used by the assessee in the business of running them on hire; b. motor cars treated as stock-in-trade. For this purpose, motor car covers all motor vehicles other than heavy vehicles-southern roadways ltd. v. CWT[2002] 122 Taxman 126(Mad.). In the case of a leasing company, motor car is an asset.

Jewellery,bullion,utensils of gold,silver,etc.[sec.2(ea)(iii)] 445.3 Jewellery, bullion,furniture,utensils and any other article made wholly or partly of gold,silver,platinum or any other precious metal or any alloy containing one or more of such precious metals are treated as assets.

Jewellery which is misappropriated by a third person and which never came in possession of assessee,cannot be included in assessees net wealth.

MEANING OF JEWELLERY

445.3-1 For this purpose, jewellery includes the following : a. Ornaments made of gold,silver,platinum or any other precious metal or any alloy containing one or more of such metals,whether or not worked or sewn into any wearing apparel; b. Precious or semi-precious stones,whether or not set in any furniture,utensils or other article or worked or sewn into any wearing apparel.

STOCK-IN-TRADE NOT AN ASSET 445.3-2 where any of the above assets(i.e, jewellery,bullion,utensils of gold etc.) is used by an assessee as stock-in-trade,then such asset is not treated as assets under section 2(ea)(iii).

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GOLD DEPOSIT BONDS ARE NOT ASSET 445.3-3 jewellery does not include the gold deposit bonds issued under the gold deposit scheme,1999 notified by the central government.

Yachts,boats and aircrafts[sec.2(ea)(iv)] 445.4 yachts,boats and aircrafts(other than those used by the assessee for commercial purposes) are treated as assets.

Urban land[sec.2(ea)(v)] 445.5 urban land is an asset.

MEANING OF URBAN LAND

445.5-1 Urban land means land situated in the following area:

1.Land situated within municipality-land situated in any area which is comprised within the jurisdiction of a municipality and which has a population of not less than 10,000 according to the last preceding census of which relevant figures have been published before the valuation date.

2. land situated outside municipality but within notified area- land situated in any area within such distance(not being more than 8 kilometres) from the local limits of any municipality referred urbanisation of that area and other relevant considerations,specify[Notifications No. SO 871(E), dated November 9,1993Taxmanns direct taxes circulars,vol 2,2009 edition].

Municipality for the above purpose, municipality includes municipal corporation ,notified area committee,town planning committee,town committee or a municipality known by any other name.

URBAN LAND WHEN NOT TREATED AS ASSET

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445.5-2 In the following cases land is not treated as assets:

1. land on which construction of a building is not permissible under any law for the time being in force in the area in which such land is situated.for instance,the excess urban land in possession of an assessee on which construction is not permissible,cannot be treated as an asset-Lalita Dalmia v. CIT[2004]85 TTJ(Delhi) 690.

2. land occupied by any building which has been constructed with the approval of the appropriate authority.

3. any unused (i.e,not put to any use) land held by the assessee for industrial purposes for a period of 2 years from the date of its acquisition by him.

Cash in hand[sec.2(ea)(vi)]

445.6 the following is treated as assets: Assesses Individual and Hindu undivided families Assets Cash in hand on the last moment of the valuation date in excess of Rs.50,000 Any amount not recorded in books of account. Any other person

445.7 To have a better understanding of the meaning of assets under section2(ea),the following examples are given :

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fferent properties owned on the valuation date(i.e,March 31,2009)

Whether assets section2(ea) No Yes

under

Guest house held as stock-in-trade by a property dealer

Guest house(not held as stock-in-trade) for entertaining personal guests

farm house which is not situated within 25 kilometres of any municipality or a No antonment board

farm house which is situated 30 kilometres from local limits of Delhi but within 6 Yes lometres from faridabad

factory building,office building and godown building used for the purpose of carrying on wn business or profession No

factory building and godown building given on rent

residential house owned by an individual (or Hindu undivided family) and allotted to No ne of his full-time employees whose salary(including commission,bonus and allowances) Yes Rs. 41,665 per month

residential house owned by a company and allotted to a part-time director whose salary Rs. 1,00,000 per annum

residential house owned by a company and allotted to one of its ficers/employees/full-time directors whose salary(including commission,bonus and lowances) is : Yes Rs. 41,666.66 per month Rs. 41,666.67 per month

0.a residential or commercial building held as stock-in-trade No

1.residential house owned by a company and allotted to an employee/full-time rector(or managing director)whose salary is less than Rs.5,00,000 per annum and who Yes wns 90 No No

er cent equity share capital in the company

2. a commercial complex having 20 offices given on rent by the owner

3. a multi-storey office complex given on rent

4.a residential house given on rent for 300 days during 2008-09

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5.Motor car(Indian as well as foreign) held as : stock-in-trade No No No

fixed assets

personal asset by salaried employee

personal asset by businessman No Yes Yes Yes Yes

Fixed asset by a company and given for business use to full-time employee or a director rawing less than Rs. 5,00,000 per annum

6.Motor cars used by a person in the business of running them on hire to tourists(Indian r foreign citizens) or to other persons

7.Silver,gold,jewellery,bullion owned by a jeweler(as stock-in-trade)

8.Gold owned by an individual (not as stock-in-trade)

9.Gold/silver furniture held by a company(not as stock-in-trade)

0.Aircraft used by a manufacturing company having turnover of Rs. 400 crore for use by s directors

No No Yes Yes No

1.Aircraft held by Air India

2.Aircraft owned by an individual(not as stock-in-trade)for giving it on lease to others

3.urban land on which a building(residential or commercial) is constructed: with the approval of an appropriate authority

without the approval of an appropriate authority No No

4.urban land on which construction is not permitted

5.vacant urban land(on which construction is permissible)owned by a person since 1960

6.urban land held as stock-in-trade and which was acquiredon june 1,1998 on june 1,1999 No

7. urban unused land held by an assessee,for industrial purposes(whether or not Yes onstruction is started)and which was acquired: No on April 1,2007

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on March 31,2007

Yes

Yes No

8.Urban land held by an assessee for industrial purposes(as construction of factory will e started durind November 2009 ,it is used for agricultural purposes on temporary asis)and it was acquired onApril 1,2007 March 31,2007 Yes

No

9. Land acquired in 1965 (it may be used for construction of any buildingsituated within the jurisdiction of a municipality having a population of less than 10,000 situated within the jurisdiction of municipality having population of 10,000 or more

situated within 6 kilometres[i.e, the notified distance vide notification no. SO 871(E)] om Amritsar

0. shares,debentures,fixed deposits in bank,plant and machinery,units of a mutual fund mount recoverable from government ,sundry debtors,goodwill,stock-in-trade Yes

1. in the cash book of an individual/HUF opening balance on March 31,2009 is Rs. 85,000,out of which the assessee deposits Rs. 1,35,000 in his current account with Yes tibank before the close of banking hours on March 31,2009(no other inflow or outflow cash during March 31,2009)

No Yes

Yes

No

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No

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Assets must belong to the assessee[sec. 2(ea) read with sec. 2(m)]

445.8 even if a property is an asset under section 2(ea),it will not be includible in net wealth unless it belongs to the asseessee on the relevant valuation date.the following points should be noted-

1. the expression belong has been defined as follows in the oxford English dictionary: to be the property or rightful possession of.so it is the property of a person,or that which is in his possession as of right,which is liable to wealth-tax. 2. the liability to wealth-tax arises out of ownership of the asset,and not otherwise. Mere possession,or joint possession,unaccompanied by the right to(or ownership of),property would,therefore,not bring the property within the definition of net wealth for it would not then be an asset belonging to the assessee.

Deemed assets[sec.4] 446. in computing the net wealth of an assessee,the following assets are included as belonging to that assessee by virtue of section 4:

Assets transferred by one spouse to another [sec.4(1)(a)(i)] 446.1 The provisions of section 4(1)(a)(i) are given below-

CONDITIONS 446.1-1 Section 4(1)(a)(i) is applicable if the following conditions are satisfied-

1. The asset is transferred by an individual after March 31,1956. 2. It is transferred to his or her spouse. 3. The transfer may be direct or indirect. 4. The asset is transferred otherwise than for adequate consideration or in connection with an agreement to live apart. 5. the asset may be held by the transferee on the relevant valuation date in the same form in which it is transferred or otherwise.

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If all these conditions are satisfied then the asset is included in the net wealth of the transferor.

Provisions illustrated- To have better understanding, the following examples are given-

1. X gifts a house property to his wife on April 26,1976.it shall be included in the net wealth of X. 2. X gifts 2,000 gms. Og gold to his wife on April 6,1984.Mrs. X sells gold for Rs.7,00,000 on june 16,1988 and purchases a house from the sale proceeds.value of house on March 31,2009 is Rs. 26 lakh .it shall be included in the net wealth of X. 46.1-2 provision to section 4(1)(a) provides an exception to the aforesaid rule.

Conditions- the following two conditions should be satisfied to get the benefit of exception : 1. an asset was transferred by an individual to his on her spouse during the accounting years relevant to the gift-tax assessment years 1964-65 to 1971-72. 2. the assets so transferred was either chargeable to tax under the gift-tax act or was not chargeable under section 5 of the act. Consequences when the two conditions are satisfied- both the conditions are cumulative and if they are satisfied,the value of the assets cannot be included in the net wealth of the transferor under section 4(1)(a) for all times to come-Malti Harshey v.CWT[1980]121 ITR 676(MP),CWT v. Seth Nand lal Ganeriwala[1977] 107 ITR 758(Punj.),M.G. kallankulam v. CIT[1978] 115 ITR 160(Ker.).

Provision illustrated- X gifts a house to his wife on April 26, 1968.it was chargeable to gift-tax(or exempt under section 5 of the gift-tax assessment year 1969-70.as it was chargeable to gift-tax(or exempt under section 5 of the gift tax act) during the assessment years 1964-65 to 1971-72,it shall not be included in the net wealth of X for any assessment year.

446.1-3 one should also keep in view the following points1. if an asset is transferred by an individual to his/her spouse,under an agreement to live apart,the provisions of section 4(1)(a)(i) are not applicable.the expression to live apart is of wider connotation and even the voluntary agreements to live apart will fall within the exceptions of this sub-clause.

2. provisions of section 4(1)(a)(i) are not applicable to a case where HUF effects a transfer in favour of one of its members.

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3. if an asset is transferred for adequate consideration,section 4(1)(a)(i) is not applicable.the expression adequate consideration cannot be equated to sufficient consideration,good consideration or valid consideration;it means something more than good or valid consideration. adequate consideration,within the meaning of section 4(1)(a)(i),must be constructed as valuable consideration capable of being compared and measured with money or moneys worth-CWT v.Khan Saheb Dost Mohd. Alladin[1973]91 ITR 179(AP).

4. spouse means lawfully wedded person only.relationship between husband and wife should subsist between transfer and transferee both on date of transfer and on valuation date-CWT v. Khan Saheb Dost Mohd. Alladin(supra).a widow or widower is not a spouse-Vinodkumar Ratilal v. CIT[1975]100 ITR179(AP).

5.The assessee gifted Rs. 90,000 to his wife and with the said moneys the latter constructed a house in which both of them resided.for the purposes of wealth-tax assessment,the assessee claimed that the value of the asset to be included in the assessment was Rs. 90,000 only and not the actual value of the house as on the valuation date.it was held that the sum of Rs.90,000 which was transferred by the assessee to his wife had now been converted into the existing asset,i.e,the house,and it was the value of the house alone had to be included in the net wealth of the assessee-V. Vaidya Subramaniam v. CWT[1977]108 ITR 538 (Mad.).

6. if the properties held by the spouse are assets under section 2(ea) on the valuation date if they are found to have been transferred by the assessee to the spouse(directly or indirectly) otherwise than for adequate consideration,the requirements of section 4 are satisfied and,accordingly,value of such assets would be included in the net wealth of the transferor.However,it is not necessary that the properties concerned should have been assets*under section 2(ea)+ on the date of the transfer-M.G. Kallankulam v.CIT[1978] 115 ITR 160 (Ker.).

For instance gifts 1,000 shares of Rs. 20 lakh to Mrs. X on March 12,2009 and purchases a residential house property fro the sale proceeds of shares.the value of the residential house property on March 31,2009 shall be included in the net wealth of X under section 4(1) for the assessment year 2009-10,as on March 31,2009,the residential house property is an asset under section 2(ea)-CWT v. Kishan Lal Bubna[1993] 204 ITR 600(SC).On the other hand,if X transfers a residential house property to Mrs.X without consideration and Mrs. X purchases shares out of the consideration of the house property on March 12,2009,shares shall not be included in the net wealth of X on March 31,2009 because shares are not assets under section 2(ea) on the valuation date (i.e, March 31,2009).

7. if an intimate connection is established between the two transactions,they would fall within section 4,even though they may be prima facie separate transactions-S.C. Varshnei v. CWT1976 TLR 261(Pat.)

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8. Though direct or indirect transfers are covered by section 4, accretions to the assets transferred do not come within the scope of section 4. for instance, if X gifts a residential house property to Mrs. X,house property shall be taxable in the hands of X.if out of rental income of the property ,Mrs. X purchases a car, then the value of the car cannot be included in the net wealth of X.see CWTv. T.Saraswathi Achi[1980] 4 Taxman 356(Mad.).

Assets held by minor child [sec. 4(1)(a)(ii)] 446.2 In computing the net wealth of the individual, there shall be included in the value of assets which on the valuation date are held by minor child(including step child/adopted child but not being a married daughter) of such individual. One should also keep in view the following points: The net wealth of minor child will be included in the net wealth of that parent whose net wealth[excluding the assets of minor child so includible under sec.4(1)] is greater.where,however,the marriage of parents does not subsist, the net wealth of the minor child shall be included in the net wealth of that parent who maintains the minor child during the previous year ending on the valuation date. Where any such assets are once included in the net wealth of either parent, any such asset shall not be included in the net wealth of the other parent in any succeeding year unless the assessing officer is satisfied(after giving that parent an opportunity of being heard) that it is necessary to do so. The aforesaid provision of clubbing of net wealth of minor with the wealth of his parent is not applicable in respect of following assets held by a minor child on the valuation date. a. Assets acquired by the minor child out of income which arises (or accrues) to him on account of any manual work done by him;and b. Assets acquired by the minor child out of income which arises(or accrues) to him on account of any activity involving application of his skill,talent or specialized knowledge and experience. The aforesaid rule of clubbing of net wealth of minor child with the wealth of his parents is not applicable in the case of minor child who is suffering from any disability of the nature specified in section 80U of the Income-tax act. The aforesaid provisions of clubbing are not applicable, if on the valuation date child has become major. If it provided under a trust deed that to long as the beneficiaries are minor,the assets are not being held for their benefit but for the benefit of a charitable trust,the aforesaid clubbing provisions are not attractedseeCWT v.H.H. Yeshwant RaoGhorpode[1978]115 ITR 232(kar.).

Assets transferred to a person or an association of persons[sec.4(1)(a)(iii)]

446.3 The provisions of section 4(1)(a)(iii) are given below-

CONDITIONS

446.3-1 One has to satisfy the following conditions-

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1. An asset is transferred by an individual after march 31,1956 to a person or an association of person. 2. The transfer may be direct or indirect. 3. It is transferred for the benefit of the transferor,his or her spouse. 4. It is transferred for the immediate or deferred benefit of persons mentioned in 3 supra. 5. It is transferred otherwise than for adequate consideration. 6. The asset may be held by the transferee on the relevant valuation date in the same form in which it was transferred or otherwise.

If all these conditions are satisfied,then the asset is included in the net wealth of the transferor.

Provisions illustrated-X gifts a house property to a trust for the benefit of his wife on April 26,1977.it shall be included in the net wealth of X.

Exception 446.3-2 see para 446.1-2

Provisions illustrated-X gifts a house to a trust for the benefit of his wife on April 26,1969.it was chargeable to gifttax(or exempt under section 5 of the gift-tax act) for the gift-tax assessment year 1970-71.as it was chargeable to gift-tax(or exempt under section 5 of the gift-tax act) during the assessment year 1964-65 to 1971-72,it shall not be included in the net wealth of X for any assessment year.

Assets transferred under revocable transfers[sec 4(1)(a)(iv)] 446.4 The provisions of section 4(1)(a)(iv) are given below-

CONDITIONS

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446.4-1 Section 4(1)(a)(iv) is applicable if the following conditions are satisfied-

1. The asset is transferred by an individual. 2. It is transferred to a person or an association of person. 3. It is transferred after March 31,1956. 4. It is transferred under a revocable transfer. 5.the asset may be held by the transferee on the relevant valuation date in the same form in which it is transferred or otherwise.

If all the conditions are satisfied,then the asset is included in the net wealth of the transferor. Revocable transfer-for this purpose,the following transactions are treated as revocable transfers[clause (b) of explanation to section 4]: a. If the transfer is revocable within a period of 6 years or if it is revocable during the lifetime of the beneficiary;or b. If the transferor derives any benefit,directly or indirectly,from the assets transferred; or c. If the transferor has a right of re-transfer,directly or indirectly,in respect of the whole or any part of the assets or income from the assets so transferred; or d. If the transferor has the right to re-assume power,directly or indirectly,over the whole or any part of the assets or the income from the assets so transferred.

EXCEPTION 446.4-2 See para 446.1-2

OTHER POINTS

446.4-3 apart from what is discussed in para 446.1-3,one should also keep in view the following pointsThe rule of section 4(1)(a)(iv) is based upon the general principle that there is no transferor of assets when a person purports to give and at the same time retains the right of revoking the transfer at his will. The value of any assets transferred under an irrevocable transfer shall be liable to be included in computing the net wealth of the transferor as and when the power to revoke arises to him (irrespective of the fact whether such a power is exercised).

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Assets transferres to sons wife*sec.4(1)(a)(v)+

446.5 the provisions of section 4(1)(a)(v) are given below-

446.5-1 the following conditions should be satisfied-

1. The asset is transferred by an individual. 2. The transfer should take place after May 31,1973. 3. The asset is transferred to sons life. 4. The transfer may be direct or indirect. 5. The asset is transferred by otherwise than for adequate consideration. 6. The asset may be held by the transferee on the relevant valuation date in the same form in which it is transferred or otherwise. If these conditions are satisfied,then the asset is included in the net wealth of the transferor.

EXCEPTION 446.5-2 There is no exception to the aforesaid rule.

OTHER POINTS

446.5-3 apart from what is discussed in para 446.1-3, one should also keep in view the following points-

1. The relationship between father-in-law/mother-in-law and daughter-in-law should subsist between transferor and transferee both on the date of transfer and on valuation date.

2. any gift made prior to june 1,1973 is not covered by section 4(1)(a)(v).

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Assets transferred for the benefit of sons wife 446.6 the provisions for section 4(1)(a)(vi) are given below-

CONDITIONS

446.6-1 one has to satisfy the following conditions :

1. the asset is transferred by an individual after May 31,1973. 2. it is transferred to a person or an association of the immediate or deferred benefit of sons wife. 3. the transfer may be direct or indirect. 4. the transfer is without adequate consideration. 5. the asset may be held by the transferee in the same form in which it is transferred or otherwise. If all these conditions are satisfied,then the asset is taxable in the hands of the transferor.

EXCEPTION 446.6-2 There is no exception to the aforesaid rule.

OTHER POINTS 446.6-3 See paras 446.1-3 and 446.5-3.

Interest of partner [sec. 4(1)(b)]

446.7 where the assessee (may or may not be an individual) is a partner in a firm or a member of an association of persons, the value of his interest in the assets of the firm or an association shall be included in the net wealth of the partner/member. for this purpose, interest of partner/member in the firm or association of persons should be determined in the manner laid down in Schedule III to the wealth-tax act.

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Conversion of self-acquired property into joint family property [sec.4 (1A)] 446.8 The provisions of section 4(1A) are given below-

CONDITIONS

446.8-1 section 4(1A) is applicable if the following conditions are satisfied-

1. An individual is a member of a Hindu undivided family. 2. He converts his separate property into property belonging to his Hindu undivided family through the act of impressing such property with the character of property belonging the family or throwing into common stock of the family, directly or indirectly, without adequate consideration. 3. The property is converted or transferred after December 31, 1969. Consequences before partition- If all the aforesaid conditions are satisfied, then the converted or transferred property shall be deemed to be the property is includible in his net wealth. Consequences after partition- if all the aforesaid conditions are satisfied and the converted or transferred property becomes the subject-matter of a total or a partial partition among the members of the family,the converted or transferred property or any part thereof,which is received by the spouse of the transferor,is deemed to be the asset of the transferor and is includible in his net wealth.

Gifts by book entries[sec. 4(5A)] 446.9 where a gift of money from one person to another is made by means of entries in the books of account maintained by the person making the gift,or by an individual,or a Hindu undivided family,or a firm or an association of persons,or a body of individuals with whom he has business connection,the value of such gift will be included in the net wealth of the person making the gifts unless he proves to the satisfaction of the wealth-tax officer that the money had actually been delievered to the other person at the same time the entries were made.

Impartible estate[sec.4(6)] 446.10 for the purpose of the wealth-tax act,the holder of an impartible estate shall be deemed to be the owner of all the properties comprised in the estate.

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Property held by a member of a housing society [Sec.4 (7)] 446.11 Where the assessee is a member of a co-operative housing society and a building or part thereof is allotted or leased to him, the assessee is deemed to be the owner of such building and the value of such building is includible in computing his net wealth. In determining the value of such building, any outstanding installments, payable by the assessee to the society towards the costs of such house, are deductible as debts owed by the assessee.

The above rules are also applicable if the assessee is a member of a company or an association of persons.

Property held by a person in part performance of a contract [Sec.4 (8)] 446.12 The assets given below are taxable in the hands of beneficial owners, in the same manner in which they are taxed under the Income-tax Act:

a. a person who is allowed to take or retain possession of any building or part thereof in part performance of a contract of the nature referred to in section 53A of the Transfer of Property Act, 1882. b. a person who acquires any rights, excluding any rights by way of a lease from month to month or for a period not exceeding one year, in or with respect to any building or part thereof, by virtue of any such transaction as is referred to in clause (f) of section 269UA of the Income-tax Act.

Assets exempt from tax [Sec. 5] 447. The following assets are exempt from wealth-tax

The burden of proving that the assets of the assessee are exempt from tax is upon the assessee --CWT v. Hyderabad Race Club [1978] 115 ITR 453 (AP)

Property held under a trust [Sec. 5 (i)] 447.1 The provisions of section 5(1) (i) [read with section 21A] are given below:

GENERAL RULE

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447.1-1 Any property held by an assessee under a trust or other legal obligation for any public purpose of charitable or religious nature in India is totally exempt from tax. However, this rule is subject to two special provisions given below.

SPECIAL RULE ONE BUSINESS ASSETS 447.1-2 Business assets of a charitable / religious trust are exempt (or taxable) as follows:

When business assets are exempt The following business assets held by an assessee under a trust (or other legal obligation) for any public charitable / religious trust are exempt from tax:

a. where the business is carried on by a trust wholly for public religious purposes and the business consists of printing and publication of books or publication of books or the business is of a kind notified by the Central Government in this behalf in the Official Gazette; b. the business is carried on by an institution wholly for charitable purposes and the work in connection with the business is mainly carried on by the beneficiaries of the institution; c. the business is carried on by an institution, fund or trust referred to in clause (23B) or (23C) of section 10 of the Income-tax Act.

When business assets are taxable Any other business assets of a public charitable / religious trust is not exempt.

SPECIAL RULE TWO ASSETS OF A TRUST WHEN INCOME / PROPERTY IS DIVERTED [SEC.21A] 447.1-3 See para 450.1

Coparcenary interest in a Hindu undivided family 447.2 If the assessee is a member of a Hindu undivided family, his interest in the family property is totally exempt from tax.

Residential building of a former ruler 447.3 The value of any one building used for the residence by a former ruler of a princely State is totally exempt from tax.

Former rulers jewellery *Sec.5 (iv)+

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447.4 Jewellery in possession of a former ruler of a princely State, not being his personal property which has been recognized as a heirloom by the Central Government before April 1, 1957, or by the Board after that date, is totally exempt from tax.

Assets belonging to the Indian repatriate 447.5 Under section 5(v) exemption is available if the conditions given in para 447.5-1 are satisfied:

CONDITIONS 447.5-1 The following conditions must be satisfied:

1. Exemption is available in the case of an assessee who is a person of Indian origin if he, or either of his parents or any of his grand-parents, was born in undivided Indian. 2. Such person was ordinarily residing in a foreign country. 3. On leaving such country, such person has returned to India with the intention of permanently residing in India.

EXEMPTION 447.5-2 If the above conditions are satisfied, then the following shall not be chargeable to tax for 7 successive assessment years (commencing with the assessment year next following the date on which such person returned to India):

a. moneys brought by him into India ; b. value of assets brought by him into India ; c. moneys standing to the credit of such person in a Non-resident (External) Account in any bank in India on the date of his return to India ; and d. value of assets acquired by him out of money referred to in (a) and (c) supra within one year prior to the date of his return and at any time thereafter. The exemption under section 5(v) does not extend to the income or interest earned out of the use of the aforesaid funds in India after the date of return CWT v. Dr. (Mrs.) Issac [2002] 125 Taxman 417 (Mad.). Moreover, exemption is not available in respect of assets purchased by an assessee out of money remitted from abroad by othersCWT v. Noorjahan Jamal [2003] 127 Taxman 594 (Mad.).

CASE STUDY

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447.5-2P1 X, an Indian citizen, was ordinarily residing in Canada. He comes to India every year during September for 3 weeks. He comes to India permanently on July 9, 2008. He owns the following assets:

1. A residential house (not being let out) at Bombay gifted by his father-in-law. 2. A self-occupied house at Calcutta purchased out of money remitted from Canada on April 6, 2007 (this house is sold on August 7, 2009 to purchase debentures and silver utensils). 3. A house at Bangalore purchased out of money remitted from Canada on August 3, 2007. 4. Two kilograms gold brought at the time of transfer of residence on July 9, 2008. 5. Out of money brought into India at the time of return and out of his Non-resident (External) Account, he acquires the following during July-September 2008: two cars, air-conditioners and shares in companies. 6. On December 10, 2008, after selling one kilogram of gold, he purchased a boat. # 1. House at Bombay is chargeable to tax [see also 2 infra]. 2. Exemption under section 5(v) is not available in respect of house at Calcutta, as it is purchased before July 10, 2007. The assessee can, however, claim exemption under section 5(vi) either in respect of the Bombay house or the Calcutta house. Silver utensils, purchased from the amount of sale proceeds is taxable on the valuation dates falling after August 7, 2009. Debentures are, however, not assets and, consequently, they are not chargeable to tax. 3. As the house at Bangalore is purchased after July 9, 2007, it is not taxable for the assessment years 2009-10 to 2015-16 (exemption is not available for the assessment year 2008-09). 4. One kilogram gold (which he has not sold) is not chargeable to tax for the assessment years 2009-10 to 2015-16. 5. Air conditioners and shares are not assets and not chargeable to tax. Two cars purchased out of moneys brought into India are not taxable for the assessment years 2009-10 to 2015-16. 6. Boat purchased out of sale proceeds of gold is exempt under section 5(v). Exemption is available in respect of assets purchased out of money remitted into India or out of money standing to his credit in a Non-resident (External) Account.

Even if assessee has converted assets, which were brought by him from outside India, into money, and has used that money for acquisition of other assets which is acquired with sale consideration of original asset, is also eligible for exemptionCWT v. K.O. Mathews [2003] 133 Taxman 418 (Ker.).

One house or part of a house [Sec. 5(vi)] 447.6 The following shall be exempt under section 5(vi) in the case of an individual or a Hindu undivided family

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a. a house or a part of house, or b. a plot of land not exceeding 500sq. metres in area. A house is qualified for exemption, regardless of the fact whether the house is self-occupied or let out. In case a house is owned by more than one person, exemption is available to each co-owner of the house.

Debt owed 448. From the aggregate of all assets (i.e., including deemed assets but excluding exempted assets), the value of debts owed on the valuation date shall be deducted. The following two conditions should be satisfied to get deduction of debt owed:

1. Only debt owed by the assessee on the valuation date is deductiblesee CWT v. Gwalior Rayon Silk Mfg. (Wvg.) Co. Ltd. [1981] 131 ITR 140 (MP). 2. Debts should have been incurred in relation to those assets which are included in net wealth of the assessee.

Debt owed - Meaning of

448.1 The following are the other judicial rulings which are relevant to the subject:

# Meaning The expression debt owed within the meaning of section 2(m) may be defined to pay in present or in future an ascertainable sum of money. The word owe means to be under an obligation to pay; it does not really add to the meaning of the word debtKesoram Industries & Cotton Mills Ltd. V. CWT [1966] 59 ITR 767 (SC).

# Existing liability The concept of debt postulates an existing liability, a liability which has accrued, as distinguished from a liability which is contingent, to pay a sum of money in the present or in the future. An ascertained present liability constituting a debt owed by the assessee on a valuation date will be deductible in computing its net wealthCWT v. Associated Cement Co. Ltd. [1981] 128 ITR 626 (Bom.). But existing liability quantifiable on future date is also a debtV. Chandramani Pattamaha Devi v. CWT [1967] 64 ITR 147(AP). Similarly, liability accrued but not quantified is also debt owedDevi Raj Chawla v. CWT [1971] TLR 1444 (All.).

WEALTH-TAX LIABILITY IS IT DEDUCTIBLE

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448.1-1 According to the Central Board of Direct Taxes the liability under the Wealth-tax Act is not a debt owed by the assessee incurred in relation to the assets taxable under the Wealth-tax Act. The liability of wealth-tax is personal liability of the assessee. Moreover, this liability is not a debt incurred by the assessee but is created by the statute. Therefore, no deduction is to be allowed for the wealth-tax liability in the computation of the taxable net wealth of the assesseeCircular No. 663, dated September 28, 1993.

CASE STUDY

448.1-1P1 Discuss the following:

1. X wants to claim deduction of outstanding income-tax and wealth-tax liabilities of preceding years of Rs.1, 76,000. 2. Y owns three cars and silver / gold furniture (value of these assets being Rs. 24 lakh). He takes a loan of Rs.3 lakh by pledging these to invest in shares of companies. 3. By taking a bank overdraft of Rs. 20 lakh, Z purchases diamonds on April 10, 2008 (fair market value of diamonds on March 31, 2009 is Rs. 24 lakh). 4. A has the following assets on March 31, 2009:

Asset

Market value March 31, 2009 Rs.

on Loan outstanding March 31, 2009 Rs. 6 lakh 3 lakh 4 lakh 38 lakh

on Security

Gold and silver Shares Residential House A Residential House B

80 lakh 10 lakh 50 lakh 42 lakh

Shares House B Gold Personal

Asset

Market value on Loan outstanding March 31, 2009 March 31, 2009 Rs. Rs.

on Security

275

Commercial House C [used for carrying on own business]

95 lakh

5 lakh

Personal

Boat 8 lakh Motor cars 11lakh Bank deposit 1 lakh Let out (throughout 2008-09) residential House D 1 lakh House C 1 lakh Silver 12 lakh Gold

Commercial complex (having 55 lakh 20 offices)

40 lakh

House D

190 lakh

100 lakh

Commercial complex

Besides A took a loan of Rs. 75,000 from his bank (against security of his car) for his friends marriage. Moreover, out of loan of Rs. 12 lakh taken by him for purchasing boat, he utilized Rs. 1 lakh for financing expenses on his foreign visit.

1. Income-tax and wealth-tax liabilities are not deductible.

2. Net wealth of Y shall be computed as under:

Rs.

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Car, silver and gold furniture

24, 00,000

Shares (not assets)

-_________

Gross wealth

24, 00,000

Less: Debts (loan of Rs. 3 lakh is not deductible as it is taken to purchase shares which are not assets) -_________ Net wealth 24, 00,000 _________

3. Bank overdraft of Rs. 20 lakh is a debt owed. Net wealth of Z will include Rs. 4 lakh.

4. Net wealth of A shall be determined as under:

Assets (Rs. in lakh)

Debts owed (Rs. in lakh)

277

#Gold and silver

80

#Shares(not an asset)

--

--

#House A [exempt under section 5(vi)]

--

--

#House B

42

38

#House C (commercial building used for own business purposes is not an asset)

--

--

#Boat

11

#Cars

11

#Bank deposit (not an asset)

--

--

#House D (not an asset)

--

--

#Commercial complex (not an asset)

--

--

#Loan for friends marriage (not deductible)

--

--

#Loan utilized for foreign visit (not deductible)

--

--

Total

141

56

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Net wealth (Rs.141 lakhRs. 56 lakh): Rs. 85 lakh

VALUATION OF ASSETS [SEC.7] 449. For the purpose of wealth-tax, the value of an asset (other than cash) shall be its value as on the valuation date determined in the manner laid down in Schedule III [see paras 449.1 to449.7].

Valuation of a building 449.1 Value of any immovable property (being a building or land appurtenant thereto, or part thereof) is to be made in accordance with Part B of Schedule III to the Wealth-tax Act.

First step Find out gross maintainable rent 449.1-1 The first step is to find out gross maintainable rent. Gross maintainable rent is:

a. annual rent received/receivable by the owner or annual value of the property as assessed by local authority, whichever is higher (if the property is let out); or b. annual rent assessed by the local authority or if the property is situated outside the jurisdiction of a local authority, the amount which the owner can reasonably be expected to receive as annual rent had such property been let (if the property is not let).

Meaning of annual rent Where the property is let throughout the year ending on valuation date (hereinafter referred to as previous year), the actual rent received/receivable by the owner in respect of such rent is annual rent. If, however, the property is let and was vacant during the previous year, the annual rent means the amount which bears the same proportion to the amount of actual rent received or receivable by the owner for the period for which the property is let as the period of 12 months bears to such period. For instance, where a person receives Rs. 8400 as rent of a house which is let for a period of 7.5 months during the relevant previous year, annual rent will be Rs. 13, 440 (being Rs. 8, 400 X 12/7.5).

Adjustments

449.1-1a In the following cases actual rent shall be increased in the manner specified below:

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# Where the property is in occupation of a tenant and municipal taxes in respect of the property are borne (wholly or partly) by the tenant, the amount of taxes borne by the tenant will be added to the rent paid/payable by the tenant.

# Where the property is in the occupation of a tenant and expenditure on repairs in respect of the property is borne by the tenant, one-ninth of the actual rent shall be added to actual rent.

# Where the owner has accepted deposit of any amount (not being advance payment towards rent for a period of three months or less), actual rent shall be increased by the amount calculated at the rate of 15 percent per annum on the amount of deposit outstanding from month to month, for the number of months (excluding part of a month) during which such deposit was held by the owner in the previous year. If, however, the owner is liable to pay interest on such deposit, the increase to be made shall be limited to the sum by which the amount calculated as aforesaid exceeds the interest actually paid.

# Where the owner has received any amount by way of premium or otherwise as consideration for leasing of the property (or any modification of the terms of the lease), the amount obtained by dividing the premium or other amount by the number of years of the period of the lease shall be added to actual rent.

# Where the owner derives any benefit or perquisite, whether convertible into money or not, as consideration for leasing of the property (or any modification of the terms of the lease), the value of such benefit or perquisite shall be added to actual rent.

Meaning of rent received or receivable Rent received or receivable shall include all payments for the use of the property (by whatever name called), the value of all benefits or perquisites (whether convertible into money or not), obtained from a tenant or occupier of the property and any sum paid by a tenant (or occupier of the property) in respect of any obligation which, but for such payment, would have been payable by the owner.

Default by Tenant

449.1-1b Where the tenant commits default in the payment of rent and makes part payment of the rent, then the gross maintainable rent shall be determined not on the basis of actual rent received by the landlord, but on the basis of the amount payable under the agreementCIT v. Bhagawati Ammal [2003] 262 ITR 622 (Mad.).

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Second step Find out Net Maintainable Rent

449.1-2 Net maintainable rent is determined by deducting the following from the gross maintainable rent:

a. the amount of taxes levied by any local authority in respect of property (deductible on accrual basis, deduction is available even if these are to be borne by the tenant); and b. a sum equal to 15 percent of gross maintainable rent.

Third step Capitalize Net Maintainable Rent

449.1-3 The third step is to capitalize net maintainable rent. This can be done by multiplying the net maintainable rent by 12.5. In case such property is constructed on leasehold land, net maintainable rent is to be multiplied by 10 when the unexpired period of lease of such land is 50 years or more (8 where the unexpired period of lease of such land is less than 50 years).

Properties acquired/constructed after March 31, 1974

449.1-3a If a property is acquired/constructed after March 31, 1974, then the following rule will be applicable:

# Computation 1- Find out the value of the house property as determined under para 449.1-3 # Computation 2 Find out original cost of construction /acquisition plus cost of improvement of the house property.

The higher of Computation 1 or Computation 2 is taken as capitalized value of net maintainable rent under Step Three as stated in para 449.1-3.

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Exemption

449.1-3b The rule given in para 449.1-3a is not applicable if the following conditions are satisfied #Condition 1- The exemption is applicable in respect one house property (or a part of one house property). In case of more than one house property, the assessee may select any one house property for the purpose of this exemption. # Condition 2 The house property given above is acquired / constructed after March 31, 1974.

# Condition 3 The assessee exclusively uses the house property for his own residential purpose throughout the period of 12 months immediately preceding the valuation date. If a house property is acquired/constructed during the financial year ending on the valuation date and thereafter it is used for own residential purposes, the benefit of this exception is available even in the first assessment year (the time gap between the date of acquisition/ construction and the first valuation date is less than 12 months and, consequently, it cannot be for own residential purposes throughout the period of 12 months ending on the first valuation date)Bharatbhai Vithalbhai Patel (HUF) v. WTO [2002] 77 TTJ (Ahd.) 142. Moreover, Condition 3 nowhere states that assessee is required to use the house throughout the period of 12 months as owner thereofManharkumar R. Bhansali v. ITO [2004] 91 ITD 493 (Mum.).

# Condition 4 The cost of acquisition/construction (plus cost of improvement) does not exceed Rs. 50 lakh, if the house is situated at Bombay, Calcutta, Delhi and Madras (Rs. 25 lakh at any other place).

If the above four conditions are satisfied, the rule given in para 449.1-3a is not applicable. To put it differently, if the above conditions are satisfied, the original cost of acquisition/ construction plus cost of improvement is not taken into consideration.

Fourth step Add Premium

449.1-4 Fourth step is to add a premium to the capitalized value determined under the third step if unbuilt area of the plot of land on which the property is built exceeds the specified area. For calculating the premium, it is necessary to understand the meanings of the expressions aggregate area, unbuilt area and specified area. While the expression aggregate area, in relation to the plot of land on which the property is built, refers to the aggregate of the area on which property is built as well as the unbuilt area, the term unbuilt area means that part of such aggregate area on which no building has been erected. The expression specified area is defined as:

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a. where the property is situated at Bombay, Calcutta, Delhi or Madras, 60 percent of the aggregate area; b. where the property is situated at Agra, Ahmedabad, Allahabad, Amritsar, Bangalore, Bhopal, Cochin, Hyderabad, Indore, Jabalpur, Jamshedpur, Kanpur, Lucknow, Ludhiana, Madurai, Nagpur, Patna, Pune, Salem, Sholapur, Srinagar, Surat, Tiruchirapalli, Trivandrum, Vadodara or Varanasi, 65 percent of the aggregate area; and c. where the property is situated at any other place, 70 percent of the aggregate area.

Where, however, the minimum area of the plot required to be kept as open space, for the enjoyment of the property exceeds the specified area, such minimum area is deemed to be the specified area.

The amount of premium, to be added to the capitalized value, is determined as follows: The excess of unbuilt area over specified area Not more than 5 percent of the aggregate area Nil More than 5 percent but not more than 10 percent of the aggregate area Premium

20 percent of capitalized value

449.1-5 Fifth step is to deduct the amount of unearned increment payable. If in the case of property
built on leasehold land any part of the unearned increase in value is payable to the government or any other authority at the time of transfer of the property, the value of such property, as determined above, will be reduced by the amount liable to be sp paid if the property has been transferred on the valuation date or 50% of the value of the property as so determined, whichever is less.

449.1-6 The aforesaid rules of valuation are not applicable in the following cases:
a) if the Assessing Officer, with the previous approval Deputy Commissioner, is of opinion that it is not practicable to apply aforesaid provisions to a particular case; b) where the unbuilt area exceeds the specified area by more than 20% of the aggregate area; or c) where the property is built on leasehold land and the lease expires within a period of not exceeding 15 years from the relevant valuation date and the lease deed does not give an option to the lessee for the renewal of the lease. For the valuation of the property in these three cases, see para 449.7.

449.1-6P1

X owns a commercial house property which is situated at Pune. While annual value of the property as per

municipal records is Rs 80000, rent received from the tenant is Rs 70000. Municipal taxes are paid partly by X(Rs 2000) and

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partly by tenant(Rs 3500). Repair expenses are borne by the tenant(Rs 2600). The tenant has deposited Rs 50000 with X as refundable security. It does not carry any interest. The difference between unbuilt area and specified area does not exceed 5%. Determine the value of the property on March 31,2009, being the valuation date of X for the assessment year 20092010, on the assumption that the house is built on (a) freehold land (b) leasehold land (unexpired period of lease of such lands is more than 50 years). Find out the value on two assumptions (a) the property is acquired on May 10,1988 for Rs 1250000, (b) the property is acquired on March 10,1973.

Rs Gross maintainable rent Annual value (being municipal value)(a)

Rs

80000 Annual rent

Actual rent paid by tenant Add: One ninth of Rs 70000 as per repair expenses borne By the tenant Municipal taxes paid by the tenant 15% of Rs 50000 (being interest of deposit) 7500 7777

70000

3500

-----Annual rent (b) 88777 -------Gross maintainable rent[(a)or(b),whichever is higher] Less: Municipal taxes (Rs 2000+Rs 3500) 15% of Rs 88777 Net maintainable rent Capitalised value If property is constructed on freehold land(i.e. Rs69961x12.5) If property is constructed on leasehold land(i.e. Rs 69961x10) Value of property: If it is acquired on May10,1988 874514 699610 If it is acquired on May10,1973 5500 13316 69961 88777

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For Rs 1250000

If it is constructed on Freehold land If it is constructed on Leasehold land

Rs 1250000

Rs 874513

Rs 1250000

Rs 699610

449.1-6P2 Continuing case study 449.1-P1,what will be the valuation of the property if area of plot on which the house is
built is 800sq. metres. FSI permissible is 1.4 and FSI utilized is 1088sq. metres (i.e. 136 metres x 8 storeys).

Area of plot FSI permissible (1.4x800) FSI utilized (136x8) Balance potential (1120-1088) Area on which house is constructed Unbuilt area (i.e. 800-136) Aggregate area Specified area (65% of 800 sq. mts.) Excess of unbuilt area over specified area (664-520 sq.mts.) 144 sq. mts. As percentage of aggregate area

800 sq. mts. 1120 sq. mts. 1088 sq. mts. 32 sq. mts. 136 sq. mts. 664 sq. mts. 800 sq. mts. 520 sq. mts. 144 sq. mts. 18%

As the difference between unbuilt area and specified area is 18% of aggregate area, a premium at the rate of 40% will be added to the capitalized value, even if the balance of potential area is 32 sq. mts.

If it is acquired on May 10,1988 for Rs 1250000 Leasehold land Rs Freehold land Rs

If it is acquired on May 10,1973 Freehold land Rs Leasehold land Rs

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1250000 500000 1750000

1250000 500000 1750000

874513 349805 1224318

699610 279844 979454

Value as per working 449.1-P1 Add: 40% Valuation of property

449.1-6P3 Continuing case study 449.1-P2, what will be the valuation in the case of property built on leasehold land if 40% of unearned increase is payable to the Government. Assume, for the purpose of calculating unearned income, that lease rent capitalisation rate is 7%, annual lease rent is Rs 1000, the original lease was for 99 years, out of which 27 years have expired on the valuation date, and the present net maintainable rent of the land is Rs 35000. Rs Valuation of leasehold land (capitalisation factor @ 7% for 99 years is: 14.268xRs1000 ) Capitalised value of present net maintainable rent (capitalisation factor @ 7% for 72 years, i.e., 99-27 years: 14.176)(14.176xRs35000) Unearned increase, i.e., Rs 496160-Rs 14268 Amount payable to the Government, i.e., 40% of Rs 481892 (a) 481892 192757 496160 14268

If it is acquired on May 10,1988 for Rs 1250000 If it is constructed on freehold land If it is constructed on leasehold land 1250000 1250000

If it is acquired on May, 1973

874513 699610

449.1-6P2 Continuing case study 449.1-P1, what will be the valuation of the property if area of plot on which the house is built in 800 sq. metres. FSI permissible is 1.4 and FSI utilised is 1088 sq. metres (i.e., 136 metres x 8 storeys).

Area of plot FSI permissible (1.4x800)

800 sq. mts. 1120 sq. mts.

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FSI utilised (136x8) Balance potential (1120-1088) Area on which house is constructed Unbuilt area (i.e. 800-136) Aggregate area Specified area (65% of 800 sq. mts.) Excess of unbuilt area over specified area (664-520 sq. mts.) 144 sq. mts. as percentage of aggregate area As the difference between unbuilt area and specified area is 18% of aggregate area, a premium at the rate of 40% will be added to the capitalised value, even if the balance of potential area is 32 sq. mts.

1088 sq. mts. 32 sq. mts. 136 sq. mts. 664 sq. mts. 800 sq. mts. 520 sq. mts. 144 sq. mts. 18%

If it is acquired on May 10,1988 for Rs 1250000 Freehold land Rs 1250000 Leasehold land Rs 1250000

If it is acquired on May 10,1973

Freehold land Rs 874513

Leasehold land Rs 699610

alue as per working

49.1P1 500000 1750000 500000 1750000 349805 1224318 279844 979454

dd:40%

aluation of property

49.1-6P3 Continuing case study 449.1-P2, what will be the valuation in the case of property built on leasehold land if 40% f unearned increase is payable to the Government. Assume, for the purpose of calculating unearned income, that lease ent capitalisation rate is 7 %, annual lease rent is Rs 1000, the original lease was for 99 years, out of which 27 years have xpired on the valuation date, and the present net maintainable rent of the land is Rs 35000. Rs

287

Valuation of leasehold land (capitalisation factor @ 7% for 99 years is : 14.268xRs1000)

14268 496160

apitalised value of present net maintainable rent(capitalisation factor @7% for 72 years,

e.,99-27 years: 14.176xRs35000) 481892 192757

Unearned increase, i.e., Rs 496160-Rs 14268

Amount payable to the Government, i.e., 40% of Rs 481892 (a)

If construction of property If construction completed completed on May 10,1988 on May 10, 1973 875000 489727

50% of valuation in the case of

leasehold land as per working given in problem 449.1P2 (b) 1750000 979454

Valuation of the property:

As per calculation given in problem 449.1-P2 192757 192757

Less: deduction on account of unearned

Increase, i.e.,(a)or(b), 1557243 786697

Valuation of property

49.2 The provisions of section 7(2) are given below-

onditions- Section 7(2) is applicable if the following conditions are satisfied-

. The assessee owns a house (or a part of the house), being an independent residential unit. . It is used by the assessee exclusively for the residential

onsequences when the above conditions are satisfied- If the above conditions are satisfied, the assessee can adopt any one f the following-

Option one- He can take value of the house as determined under para 449.1 on the valuation date relevant for the current ssessment year.

Option two- Alternatively, he take value of the house, as determined under para 449.1, on the first valuation date next ollowing the date on which he became the owner or the valuation relevant for the assessment yaer 1971-72, whichever is ater.

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49.3 If the assessee is carrying on a business for which accounts are maintained by him regularly, the net value of the ssets of the business as a whole, having regard to the balance sheet of such business on the valuation date, is taken as alue of such assets.

49.3-1 The provisions are given below-

tep One- Find out the following-

Assets Depreciable assets Non-depreciable assets (other than stock-in-trade) Closing stock

Value Written down value Book value Value adopted for the purpose of income-tax.

Step two- To the value given in table (column 2)(supra) add 20% of it. Step three- Find out the value of the individual asset as per provisions of Schedule III. Rules of valuation of individual asset as per Schedule III are given in this book as follows-

House property Life interest Jewellery Any other asset

Para 449.1 Para 449.5 Para 449.6(it is generally taken as market value) Para 449.7(it is generally taken as market value)

Step four- If the amount computed under Step Three is more than the amount determined under Step Two, then the amount determined under Step Three is take the value of asset for wealth-tax purposes. Conversely, however, if the amount computed under Step Three is less than (or equal to) the amount determined under Step Two, then the amount given under Step One is taken as value of the asset for wealth tax purposes.

Provisions illustrated- the following assets are taken from the balance sheet of X Ltd. As on

March 31,2009-

289

Assets

Step one balance sheet amount

(2)+20%of(2)

Individual asset value Value per to be schedule III taken for wealth tax purpose

Building I Building II Car Building III Gold Urban land

30 40 5 50 100 90

36 48 36 60 120 108

29 48 4 61 147 106

30 40 5 61 147 90

449.3-2 The value of asset not disclosed in the balance sheet should not be taken into the account, namely:
a. any amount paid as advance tax under the assessee according to the balance sheet(or part thereof) which has been allowed as a deduction under section 36 (1)(7) of the income tax act for the purpose of assessment for the previous year relevant to the corresponding assessment year under that act. c. the value of an asset in respect of which wealth tax is not payable under this act. d. any amount shown in the balance sheet including debit balance in the profit and loss account or profit and loss app account which does not represent the value of any asset; e. any asset shown in the balance sheet not really pertaining to the business. It may be noted that as per definition of asset given under section 2(ae),the asset (a) ,(b),(d) mentioned above are not asset and consequently these points does not have any practical utility.

449.3-4 The following amounts shown as liability in the balance sheet shall not be taken into account, namely:
a. capital employed in the business other than attributes to borrowed money; b. reserves by whatever name called (provision for any purpose other than taxation shall be treated as a reserve); c. any provision made for meeting any future or contingent liability; d. any liability shown in the balance sheet not really pertaining to the businesss; e. any debt owed by the assessee to the extent to which it has been specifically utilised for acquiring an asset in respect of which wealth tax is not payable under this act.

290

449.4

first determine the net wealth of the firm on the valuation date. For determining the net wealth of the firm, no

account shall be taken of exemptions given in section 5. That portion of the net wealth as is equal to the amount of the capital of the firm is allocated amongst the partners in the proportions in which capital has been contributed to them. The residue of the net wealth is allocated amongst the partners in accordance with the agreement of the partnership or associations of persons for distribution of assets in the event of dissolution of the firm or association or in the absence of such agreement, in the proportion in which the partners are entitled to share profits. Following points should also be kept in view: If the net wealth of the firm includes the value of any assets located outside India , the value of interest of any partner in the assets located in India shall be determined having regard to the proportion which the value of assets located in India bears to the net wealth of the firm or association If the net wealth of the firm includes the value of any assets which are exempt from inclusion in the net wealth under section 5 shall apply to the partners/members accordingly cwt v. TS. Sundaram [2000]108 Taxman 178 (SC). 449.4-P1 X, Y and Z are three partners (1:2:3) of a firm engaged in manufacturing activities. The following is the balance sheet of the firm as on March 31, 2009 : Liabilities Assets Book value Value as per Schedule III to WT act Capital X Y Z 16 28 21 Land situated in rural area Land situated in urban area Outside India in 1980 for factory Loan against security of gold 2 for working capital Loan for paying sales tax Loan for purchasing gold 1 3 which is yet to be constructed) Motor cars (WDV : Rs 5 lakh) Plant and machinery (WDV: Rs14 lakh) 16 8 3 20 29 6 90

Loan for purchasing residential house. 6 Loan for purchasing rural 4

291

land Provision for loss Provision for tax Sundry creditors 1 6 30 Office building (WDV ; Rs 34 lakh) Residential house not being letr let out (WDV ;Rs 3 lakh) Gold and silver Shares Sundry debtors Advance tax for the Assessment year 2008-09 Pre- incorporation expenses 118 1 118 7 8 13 6 3 18 62 30

esidential house is provided to a production manager whose gross salary is Rs 1.50 lakh per annum.

As per partnership deed in the event of dissolution of firm, the assets shall be disturbed among X,Y and Z in the ratio of :8:5.

Value of personal assets (as per Schedule III) and amount of debt owned of X,Y and Z on March 31,2009 are as follows:

Assets

X Rs

Y Rs 20000

Z Rs 1340000 145000

Residential house 71000 2600000 81000

Car

Gold

1200000 50000

1000000 10000

Cash in hand

Debts

292

Loan taken to purchase car

10000 200000

30000

Loan taken on security of gold for 1600000 investing in firm

Loan taken on personal security

6000

60000

For purchasing residential house

Valuation of assets of the firm

(Rs in lakh) -

and situated in rural area (not an asset)

Urban land [book value Rs 20lakh;as Schedule III valuation is higher than Rs 24lakh 29

.e., Rs 20 lakh plus 20% of it), Schedule III valuation is taken]

Motor cars [WDV : Rs5 lakh; as Schedule III valuation is not more than Rs 6 lakh 5 -

.e., Rs 5 lakh plus 20% of it), written down value is taken]

lant and machinery

Office building

esidential house [written down value: Rs 3 lakh; as Schedule III valuation is higher 18

han Rs 3.60 lakh(i.e., Rs 3 lakh and 20% of it), Schedule III valuation is adopted]

Gold and silver[Schedule III value is taken as it is higher than Rs 9.60 lakh 62 114

.e., Rs 8 lakh plus 20% of it)]

hares (not an asset)

undry debtors (not an asset)

Gross wealth

ess: 3 6 105

oan for purchasing gold

oan for purchasing residential house

Net wealth of the firm

293

Allocation of net wealth among the partners.

X Rs 1600000 1400000 3000000

Y Rs 2800000 1600000 4400000 (502857)

Z Rs 2100000 1000000 3100000 (354286)

Net wealth to the extent of share capital

Remaining net wealth in ratio 7:8:5

Share of partners in the net wealth of firm (a)

[out of which proportionate value of residential (342857) house,i.e,12/105 of (a)]

Computation of the net wealth of partners: 3897143 2745714

Share in net wealth of firm (excluding share in 2657143 residential house of the firm) 342857

Share in residential house of the firm

502857 20000

354286 1340000 145000

Personal residential house 71000 2600000 31000 5702000

Car

Gold

1200000

1000000

Cash in hand

Total

5620000 502857

5585000 1340000

Less: Exemption under section 5(vi) in respect of 342857 one residential house property 5359143

Gross wealth

5117143

4245000

Less: Debt owed 10000 1600000 200000 6000 3749100 4911100 4215000 30000

Loan for purchasing car

Loan for investing in firm

Loan for purchasing personal residential house

Net wealth (rounded off)

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49.4-P2 In case study 449.4-P1, assume that X is a non-resident for the assessment year 2009-2010.

ince X is a non-resident, assets located outside India (i.e., urban land) is not chargeable to tax in his case.

Net wealth of X will be determined as under: Rs 3749140

Net wealth of X as determined earlier

ess: Share of X in the urban land situated outside India 828571 2920600

Rs 30lakh x Rs 29lakh / Rs 105 lakh)

Net wealth (rounded off)

49.5 The value of life interest of an assessee shall be determined as follows:

. Average net annual value- First find out average net annual income of the assessee derived from the life interest uring 3 years ending on the valuation date. While computing net annual income, expenses incurred on the collection of uch income (subject to the maximum of 5% of the average of annual gross income) shall be deducted.

. Multiplier- Average net annual income shall be multiplied by 1/(p+d)-1

Where

=Annual premium for a whole life insurance without profit on the life tenant for unit sum assured as specified in the Appendix to Schedule III to the Wealth Tax Act.

= i/(1+i),I being rate of interest which is 6.5% per annum. In other words d=6.5/106.5.

As mentioned earlier, the average net annual value shall be multiplied by 1/(p+d)-1. The multiplier depends on the remium for unit sum assured and age of the person having life interest.

. Different value in some cases- The Assessing Officer may, if he is of the opinion that in the case of a life tenant, a life insurance company would not take risk of insuring his life at normal premium rates in force but would demand a higher premium. . Value of life interest in an asset cannot excess value of the asset- The value of the life interest so determined shall, in no case, exceed the value as on the valuation date as determined under Schedule III of the corpus of the trust from which the life interest is derived.

449.5-P1 X is aged 35 years. His father has settled a house property in trust giving whole life interest therein to X. The ncome from the property for the years 2005-2006 to 2008-2009 was Rs70000, Rs84000, Rs80000 and Rs86000 espectively. The expenses incurred each year were Rs3000, Rs5000, Rs6000 and Rs16000 respectively. Calculate the value

295

f life interest of X in the property so settled on the valuation date March 31,2009 on the assumption that the value of ouse as per Schedule III is (a) Rs 15lakh, or (b) Rs 6 lakh.

ituation (a)- X has a life interest in the property which has been settled by his father. The value of the life interest has to e determined under rule 17 of Schedule III to Wealth-tax Act. The multiplier at the age of 35 is given 10.804.The value of fe interest, therefore, comes to Rs 855317 (i.e.,79166.67x10.804). The value of life interest of X in the house will be taken s Rs 855317.

Note: The average annual income from one property for the years 2006-07 to 2008-09 is determined as under:

Years

2006-07 Rs

2007-08 Rs 80000 4000 76000

2008-09 Rs 86000 4300 81700

Income Less:expenses Net income

84000 4200 79800

Average annual income is Rs 79166.67 (i.e., Rs 237500/3)

ituation (b)- The value of life interest is Rs 885317. However, value of the house in respect of which X has interest is Rs 00000. Therefore, value of life interest shall be taken as equal to Rs 600000.

49.6 The value of jewellery is estimated to be the price which it would fetch if sold in the open market on the valuation ate. The following points should also be kept in view: Statement to be submitted along Reference to valuation officer with return of wealth The assessing officer may refer the valuation to a valuation officer, if he is of the opinion that the fair market value of the jewellery exceeds the value of jewellery as declared in the return by more than 33 1/3 % of the returned value or Rs 50000. In such case the value of jewellery shall be the fair market value as estimated by the valuation officer.

Where the value of jewellery A statement in Form No. O-8A does not exceed Rs 500000

296

Where the value of jewellery A report of a registered valuer in The assessing officer may refer the valuation to a valuation officer, if he is of the opinion exceeds Rs 500000 Form No O-8 that the value of the jewellery declared in the return is less than its fair market value.

49.6-1 The value of jewellery determined by the valuation officer for any assessment year shall be taken

o be the value of such jewellery for the subsequent 4 assessment years subject to the following adjustments:

. where the jewellery includes gold, the market value of such gold on the valuation date relevant to the concerned subsequent assessment year will be taken in place of the market value of such gold on the valuation date relevant to the first assessment year. . Where any jewellery is sold by the assessee or any jewellery is acquired by him, on or before the valuation date relevant to the concerned subsequent year,the value of jewellery determined for the first assessment year shall be reduced or increased, as the case may be, and the value as so reduced or increased shall be the value of the jewellery for such subsequent assessment year.

49.6-2 Report of the registered valuer obtained for one assessment year can also be used in subsequent four assessment ears subject to the following adjustments, namely

. where the jewellery includes gold, the value of such gold on the valuation date relevant to the concerned subsequent ssessment year shall be taken in place of the value of such gold on the valuation date relevant to the first assessment ear.

. where any jewellery is sold by the assessee or any jewellery is acquired by him on or before the valuation date relevant o the concerned subsequent year, the value of the jewellery determined for the first assessment year shall be reduced or ncreased, as the cause may be, and the value as so reduced or increased shall be the value of the jewellery for such ubsequent assessment years.

n such subsequent four assessment years, the requirements specified under para 449.6 can be taken to have been omplied if the report of the registered valuer for the initial assessment year along with the chart showing adjustment made as above is enclosed along with the return of the net wealth furnished by the assessee-vide Circular No 646, Dated March 15,1993.

49.7 The value of nay asset, other than cash shall be estimated either by the assessing officer himself or by the valuation fficer if reference is made to him under section 16 A. In both these cases, the value shall be estimated to be the price which it would fetch if sold in the open market, on the valuation date. If the asset is not saleable in the open market, the alue shall be determined in accordance with guidelines or principles specified by the Board of Directors from time to time y general or special order.

297

or the purpose of determining market value under any provision of Schedule III the price or other consideration for which he property may be acquired by or transferred to any person under the terms of a deed of trust or through or under any estrictive covenant in any instrument of transfer, shall be ignored. In CWTv.TV Sundaram Iyengar and Sons Ltd (2007) 161 axman 140, the Madaras High Court held that written down value of vehicles and not the insured value should be taken t market value for purpose of wealth tax.

50 Provisions regulating taxation of charitable/religious trust, and association of persons are discussed in the following aras:

50.1 Where any property is held under trust for any public purpose of a charitable or religious nature in India, tax shall be eviable upon and recoverable from the trustee and manager in respect of the property held by him under trust at the rate f tax applicable to an Indian citizen, resident in India, if the trust forfeits exemption by reason of any of the factors mainly:

) any part of the trusts property or any income of the trust, including income by way of voluntary contributions enures irectly or indirectly, for the benefit of any of the persons referred to in section 13(3) of income tax act or,

) any part of the income the trust created on or after April 1,1962, including income by way of voluntary contributions nures directly or indirectly for the benefit of any of the persons preferred to in any of the sections 13(3) of the income ax act,or

) any funds of the trust are invested or deposited or any shares in a company are held by the trust in contravention of he investment pattern for trust funds laid down in section 11(5) of the income tax act.

he aforesaid provisions are not applicable in the following cases: 1. In the cases of scientific research association [sec 10(21) of income tax act] the provisions mentioned at (a) and (b) above would not apply. In provisions mentioned at (c) tax will be chargeable in the like manner and to the same extent as if property were held by an Indian citizen resident in India at the rates mentioned in section 3(2). 2. In the case of any institution, fund or trust referred to in section 10(22), (22A), (22B), (23C) of the income tax act provisions mentioned at (a ) to (c) above will not apply. In other words, section 21A of the wealth act will not be applicable to such institution.

450.20 The provisions of section 21AA are given below

450.2-1 Section 21AA is applicable for the following-

1. Assets chargeable to wealth tax are held by an association of persons.

2. The individual shares of persons in income or assets of association are unknown.

298

The shares are intermediate or unknown either at the time of formation of association or at any time thereafter.

450-2-2.If the above two conditions are satisfied wealth tax is levied to the same extent as it would be leviable upon and recoverable from an individual who is citizen of India and resident in India. Even exemption under section five available to an individual would be considered CIT .v. K. Santhanam Trust [2003] 126 Taxman 484(Mad.).

450.3.Section 20A does not recognise partial partition of Hindu undivided families affected after Dec 31 1978. Salient features of the scheme of section 20 A are as under: In case where a partial partition of a hindu undivided family as if no such partial partition had taken place i.e. the property will be deemed to continue to belong to the hindu undivided family and no member will be deemed to have separated from the family.

451 Every person is required to file with the wealth tax officer a return of net wealth in from BA, if his net wealth or net wealth of any other person in respect of which he is assessable under the act on the valuation date is of such an amount to render him liable to wealth tax.

451.1 In the case of any person who, in the opinion of wealth tax officer , is assessable to wealth tax, the wealth tax officer may issue a notice requiring him to furnish, within 30 days from the date of service of such notice, a return of net wealth in the prescribed from.

451.2 A return which shows a net wealth below the maximum amount which is not chargeable to tax shall be deemed never to have been furnished.

451.3 if any person has not furnished return within time allowed under section 14(1) or under section 16(4)(i) or having furnished a return discovers any omission or wrong statement therein, he may furnish a return or revise return. Late return or revised return can be submitted within one year from the end of the assessment year or before completion of the assessment.

451.4 Where wealth tax is payable on the basis of return to be furnished, the assessee is required to pay before filling of the return and such return is to be accompanied by the proof of such payment.

452 One is liable for interest or penalty under different sections as follows:

299

Section (1)

Nature of default (2) INTEREST

Penalty (3)

17B

Failure to submit return under section 14(1), 15, Interest @ 1% per month 16(4)(i),17(1) within due date.

31(2)

Failure to pay the amount specified in notice of Interest @ 1% per month demand under section 30.

PENALTIES Failure to pay tax or interest payable on self assessment. Liable for penalty by deeming assessee to be in default Failure to comply with notice under section 16(2) 18(1)(ii) Or (4) without reasonable cause. Minimum Rs 1000 for each failure Maximum Rs 25000 Concealment of wealth. 18(1)(iii) Minimum 100% of tax sought to be evaded Maximum 500% of tax to be evaded. Minimum Rs 500 Failure to answer questions (i) legally bound, or (ii) sign statements legally required or Maximum Rs 10000 18A(1)(a), (b),and (c) (iii) comply with summons under section 37(1) without reasonable cause.

15B(3)

Failure to furnish in due time statement/information Minimum Rs 100 required under section 38 without reasonable cause Maximum Rs 200 18A(2)

300

Committing default in payment of tax. Not exceeding 100% of tax in arrears.

32

PROSECUTIONS

Wilful attempt to evade tax, penalty or interest: 6 months rigorous imprisonment In case amount sought to be evaded exceeds Rs 10000. which may extend to 7 years and fine without prejudice to penalty imposable under any other provision of the Act 3 months rigorous imprisonment which may extend to 3 years and fine without prejudice to penalty imposable under any other provision of the Act.

35A(1)

In any case.

35A(2)

Wilful attempt to evade payment of tax, penalty or 3 months rigorous imprisonment which may extend to 3 years and interest. fine without prejudice to penalty imposable under any other provision of the Act.

35B

Wilful failure to furnish in due time return of wealth in 6 months rigorous imprisonment which may extend to 7 years and terms of section 14(1) or 17(1)fine. a. in case where tax sought to be evaded exceeds 3 months rigorous imprisonment Rs 100000. which may extend to 3 years and fine b. In any other case. upto 1 year rigorous imprisonment or fine between rs. 4 and rs. 10 for everyday of Wilful failure to produce accounts/records in terms of default or with both. section 16(4)

301

35C Filing of false statement in verification (other than under section 34AB regarding registration of valuers) / 6 months rigorous imprisonment delivering false statement which may extend to 7 years in a. in case where tax sought to be evaded exceeds fine. 100000. 3 months rigorous imprisonment which may extend to 3 years and b. In any other case fine. Imprisonment upto 6 months or fine or both. Making false statement in verification mentioned in section 34AB. Rigorous imprisonment upto 2 years and fine Failure without reasonable cause, to furnish particulars under section 34ACC regarding intimation by registered valuer his conviction of any offence. 35E Making contravention of order made under section Rigorous imprisonment upto 2 37A(1)/(3A) years and fine

35D

35EE

Abetting or including another person to make and Deliver false accounts, statement or declaration relating to net wealth chargeable to taxa. in case where tax sought to be evaded exceeds 6 months rigorous Rs 100000. imprisonment which may extend to 7 years and fine. b. In any other case. 3 months rigorous imprisonment which may extend to 3 years and fine. Second and subsequent offences under section 6 months rigorous 35A(1), 35B, 35D or 35F imprisonment, extendible to 7

35EEE

35F

302

years and with fine.

35G

Notes: 1. Where any offence has been committed by a Hindu undivided family, the karta shall be deemed to be guilty of the offence and shall be liable to be proceeded against and be punished. If the karta proves that the offence was committed without his knowledge or that he has exercised all due diligence to prevent the commission of offence, he is not liable to any punishment. 2. Where any offence has been committed by a company, every person who was in charge of, and was responsible to the company for the conduct of the business of the company would be liable to be prosecuted. For the purpose of section 35HA, company means a body corporate, and includes a firm, an association of persons or body of individuals. 3. Prosecution has to be initiated with the previous sanction of specified wealth tax authority who has also power to compound offences vide section 35-I.

303

453 Net wealth in excess of Rs 1500000 is taxable at rate of 1 %.

454-P1 X purchased a house in April 2008 for Rs 3547000. He was not able to take the possession of the house as the validity of the sale was questioned by the vendors wife and litigation ensued and was pending on the valuation date. In his wealth tax return the assessee showed the payment as advance against the property. The assessing officer seeks ti include a sum of Rs 3800000 being the market value of the house as on march 31,2009. examine the case.

A acse on the similar effects was examined by the mysore high court in US. Nayak vs CWT 68 ITR 171, wherein it was held that the facts that the assessee may lose the property if the suit was decided against him and the wealth tax may not be refunded were not relevant in fixing the market value. Therefore, in the given problem disputed title and lack of possession will have to be taken into consideration. The opinion of the madras high court is still applicable even after the amendment in the Wealth Tax Act. In such case the property will be valued under rule 8(a) read with rule 20 of schedule III.

454-P2 A is a coparcener of the Hindu undivided family ABC. There was a partition in the family in July 1993 and under the terms of the partition deed certain assets of the family were allotted to the wife and minor child of A. the assessment officer included these assets in As individual assets under the provision of sub-clauses (i) and (ii) of section 4(a) of the Wealth Tax Act. Is the assessing officer justified in his action?

Section 4(1)(a) of the Wealth Tax Act is applicable only if assets are transferred by the individual. Since in the given case, assets are transferred by the Hindu undivided family the action of the assessing officer is not tenable in law. However, clubbing under section 4(1)(a) (ii) cannot be avoided.

454-P4 X has net wealth exceeding Rs 40 lakh and income of over Rs 4lakh. He proposes to provide further postgraduate education of his children who are at present very young. In view of his high income and wealth he feels that there may be no benefit in making outright gift to his children. He seeks your written opinion in the best manner in which it would be so arranged that sufficient income is accumulated without the provisions of clubbing becoming applicable.

X should create a trustful benefit of his children with a direction that income during minority of children will be accumulated and added to the corpus and income from the increased corpus would be given to the children after attaining their majority. Provision of section 64 of the Income Tax Act would not be attracted in this case. Moreover,

304

section 4 of the Wealth tax Act will not be applicable. Income of the trust during the minority will be taxable in accordance with the provisions discussed in para 451. after the children attained majority income of the trust will be taxable in the hands of the beneficiary.

454-P6 while computing the net wealth of A an Indian resident in India for the assessment year 2009-10. the following facts are noted-

1. Since his marriage in 1976 A had made gifts of jewellery and ornaments to his wife from time to time the value whereof at the material time aggregated to Rs 40000. but now on the valuation date stands for rs 2lakh. Mrs A had pledged the ornaments and jewellery to take loans for his personal use out of which loan of Rs 60000 were outstanding on the valuation date.

2. A became a member of co-operative housing society which under a house building scheme of the society allotted to him a flat in 1974 for a sum of Rs 850000. the flat has been throughout used by A for his own residence. Its value on March 31 2009 was Rs 13lakh. The consideration was payable in instalments and on valuation date a sum of Rs 25000 was still outstanding.

3. A became a member of similar cooperative society in 1982 and made a deposit of Rs 200000 with it for allotment to him of a flat.

4. A took out a policy of his own life for the sum of Rs 100000 in the year 1990 the maturity being 2009. if he survives till 2009 eight annual premiums are payable.

5. A had two cars for his personal use each being of value Rs 95000.

6. By profession A is an architect and the value of the tools and instruments required by him for his professional use is Rs 70000.

Discuss how the items are to be treated for the purposes of assessment.

305

1. In view of section 4(1)(a), Rs 200000, value of gift on valuation date, is includable in the wealth of A. Rs 60000 is not deductible under section 2(m). 2. Under section 4(7), A is deemed as owner of house property. As the house is self occupied for residential purpose, its valuation would be market value on March 31,1974 or on March 31,2009. Assuming that market value on march 31,1974 is rs 850000 amount includible in net wealth of A will be Rs 825000. however one house is exempt from tax under section 5(vi). 3. Amount of deposit of Rs. 2,00,000 is not chargeable to wealth-tax. 4. Value of the policy on the valuation date is not taxable. 5. Rs. 1,90,000 is chargeable to wealth-tax. 6. Tools and instruments are not taxable.

454-P7 Discuss in respect of the following items, the manner'of treatment for Mrs. X's wealth-tax assessment for the assessment year 2009-10.

1. A house property at Calcutta was given to her as a gift by her husband on October 1, 1965. She, with her husband and children, is living in the house for the last 15 years. Its value on March 31, 2009 was Rs 2,50,000.

2. She has another house property at Nainital given to her as a gift by her father on January 1, 1971 on the occasion of her birthday. This house is also used by her as her own residence where she lives during summer vacations only. The value of the house on March 31, 2009 was Rs25,00,000.

3. Jewellery received from her father at the time of her marriage in 1956 was of the value of Rs 1,30,000 on March 31,2009.

1. As a gift of the house was made on October 1, 1965, section 4(1)(a) is not applicable (assuming the gift was chargeable to gift-tax or exempt from gift-tax under section 5 of the said Act for the assessment year 196667). Therefore, value of the house would be includible in the net wealth of Mrs. X, who can, however, opt for valuation under section 7(2) [see para 449.2].

2. Value of the house is to be included in the net wealth of Mrs. X. She can, however, claim exemption under section 5( VI).

3. Jewellery received in 1956 is outside the purview of section 4. Therefore, it will be included in the net wealth of Mrs. X.

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454-P8 X made a gift of a house property to Mrs. X on April 1, 2008. The value of the house property as on the date of gift was Rs21,50,000. Mrs. X, in her turn, made a gift of that property to her friend Mrs. Yon October 30,2008. The valuation date for the purposes of wealth-tax assessments of both Mr. and Mrs. X happens to be March 31. In whose net wealth will the value of the house be included? What would have been the position if-

a. the house had been gifted by Mrs. X to her daughter-in-law; or

b. the house had been sold to her daughter-in-law for a sum of Rs 20,00,000 and she had lost the entire sale proceeds by gambling in horse races; or

c. the house had been sold by Mrs. X to her major son for Rs 21,50,000 and she had purchased another house property with the sale proceeds, the value of the new house property as on March 31, 2009 being Rs 21,95,000.

1. In case house property is gifted by Mrs. X to her friend Mrs. Y before the valuation date of March 31, 2009, the property will not be included in net wealth of X or Mrs. X for the assessment year 2009-10. If the house property is gifted by Mrs. X to her daughter-in-law, it would amount to an indirect transfer from X to his daughter-in-law and, consequently, by virtue of section 4( 1) (a) (v), the value of the house on March 31, 2009 will be includible in the net wealth of X for the assessment year 2009-10. Exemption may, however, be claimed under section 5(vi) .

2. If Mrs. X sells the house property to her daughter-in-law for Rs. 20,00,000 and loses the entire sale proceeds by gambling, no property is held by her in any form whatsoever on the valuation date. As the property is not in existence on March 31,2009, there would be no question of wealth-tax incidence. 3. If Mrs. X sells the house property for Rs. 21,50,000 and acquires another house from sale proceeds, the value of new house on the valuation date (i.e., Rs. 21,95,000) is includible in the net wealth of X for the assessment year 2009-10. Exemption may be claimed under section 5( vi).

454-P9 XYZ is a charitable society registered under the Societies Registration Act. On the ground that it was pursuing an objective that involved the carrying of an activity for profit, the Assessing Officer wants to levy wealthtax on it. Is such a society liable to wealth-tax? Under section 3 of the Wealth-tax Act, the only taxable entities are individuals, Hindu undivided families and companies. A society registered under the Societies Registration Act is neither an "individual" nor a "Hindu

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undivided family". Moreover it is not an association of persons or body of individuals, or body of trustees that can, by stretching the Supreme Court rulings in Trustees of Gordhandass Govindram Family Charity Trust v CIT[1973] 88 ITR 47 or CWTv. Kripashankar Dayashankar Worah [1971] 81 ITR 763, be treated as individual. A society acquires an artificial juridical character which is separate from its members.

454-P10 X settles for the benefit of Y his minor son, certain house properties appointing M and N as trustees. The settlement deed provides that the beneficiary would get the net income of the trust till he reached 30years of age when the entire corpus or the remainder thereof would vest in the beneficiary. Till then the trustees have absolute discretion to expend the money out of the corpus of the trust fund and the annual income there from for the benefit of Y for any of the various purposes enumerated in the deed. For the assessment year 2009-10 when Y was 14 years of age, the Assessing Officer wants to add to the entire value of the corpus in the wealth-tax assessment of Yon the ground that Y held a vested interest in the corpus . In the given problem the trustees have absolute discretion to spend the trust fund for the benefit of Y, the beneficiary. The only right of Y, the assessee, during the previous year in question is the contingent right to receive the corpus or such part thereof as remained on his completing the age of 30 years, the right being contingent, depending on the assessee completing the age of 30 years. In other words, Y has only a contingent interest in the corpus of the trust till he reaches the age of 30 years. Hence, no portion of the corpus can be included in the net wealth of Y-CWTv. Master Jehangir H.e. Jehangir[1982] 137 ITR 48 (Born.).

454-P 11 X, belonging to the Northern School of Mitakshara law, inherited certain ancestral house properties from his father. His mother was alive when he married under the Special Marriage Act and subsequently solemnised this marriage according to Hindu rites. Subsequent to this, after the birth of two sons, X gifted the aforesaid family properties to his wife and minor sons and claimed exclusion of the gifted properties in the wealth-tax assessment of his HUF. His mother was dead then. He claimed before the Assessing Officer that his marriage under the Special Marriage Act amounted to severance of his joint family status making the inherited properties his separate property which he could deal with in any manner he liked. Discuss the liability to wealth-tax of the properties in HUF's hands . Though after the death of X's father, the entire property of the family devolves on X as the sole coparcener he still constituted a joint Hindu family along with his mother. His marriage under the Special Marriage Act would have normally resulted in his severance from the joint family, but for the fact that he had later solemnised his marriage in accordance with the Hindu rites also. This being the position, as a coparcener of the family, the gift made by him in respect of any part of the joint property is an illegal and invalid transaction. Moreover, the minor sons have already acquired a right in this property by birth and their father cannot confer any better right on them by making the gift. Thus, the value of the property gifted away by X is liable to be assessed in the hands of X's HUF-Rai Satya Varta v. CWT [1982] 10 Taxman 316 (All).

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454-P12 X furnishes the following particulars for the compilation of his wealth-tax return for assessment year 200910:

1. Gifts of jewellery made to wife from time to time aggregating Rs. 60,000 market value on valuation date 2. Flat purchased under instalment payment scheme in 1972 for Rs. 7,50,000, used for purposes of his residence and market value as on March 31,2009 (instalment remaining unpaid: Rs. 50,000) Rs 1000000 Rs 200000

3. Urban land transferred to minor handicapped child valued on March 31,2009 Rs 500000 Explain how you will deal with these items. Make suitable assumptions, if required.

Computation of net wealth of X Jewellery held by wife Flat: Rs. 7,50,000

Less: Debt due Rs.50,000 Balance Rs. 7,00,000 ,.

[*exempt under section 5( vi)]

Urban land held by minor child (not to be included as the minor child is handicapped] Net wealth Rs 200000

454-P13 Under what circumstances can the Assessing Officer make a reference to the Valuation Officer for the purpose of making an assessment under the Wealth-tax Act?

Under section 16A, a reference to a Valuation Officer may be made by the Assessing Officer, where the market value of any asset is to be taken into account in a wealth-tax assessment under section 7 read with Schedule III. Such reference can be made in the following cases-

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a. where the valuation has been made by a registered valuer, the Assessing Officer is of the opinion that the value returned is less than its fair market value;

b. any other case, the fair market value in the opinion of Assessing Officer exceeds the value of the asset as per return), by 33-1/3% or Rs. 50,000; or

c. having regard to the nature of the asset and other relevant circumstances, the Assessing Officer is of the opinion that it is necessary to make a reference.

454 P14 X Lid is a company carrying on business in the construction and sale of residential flats. It furnishes the following data and requests you to compile wealth-tax return and determine the tax payable for assessment year 2009-10.

1. Land in rural area (it is within 5 kilometres of Ajmer; construction is permissible; land was purchased in 1988) 9278600

2. land in urban area (construction not permitted as per municipal laws) 3. land in urban area (held as stock-in-trade since 2000, construction will be commenced during June 2009) 4. motor cars (one of them is imported: Rs. 4,00,000; none of them is held as stock in trade) 5. jewellery (not being held as stock in trade) 6. aircraft for use of directors and auditors. 7. bank balance 8. cash in hand as per cash book 9. Guest house and land appurtenant thereto situated in rural area

2300000

4950000

1130000 1800000 15800000 310000 170000 800000

10. Residential flats of identical size provided to 6 employees for their use near factory which is situated in rural area (salary of two of them exceeds Rs. 5,00,000) 1500000 11. Residence provided to Managing Director (salary exceeds Rs. 5,00,000) 1000000

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12. flats constructed and remaining unsold (not being held as stock-in-trade)

3000000

13. Residence provided to a whole-time director (salary: Rs. 4,20,000, the director owns 25 per cent equity share capital) 1700000 14. Three let out residential houses given on rent (value of each being Rs. 50 lakh; one of them is let out for only 50 days during 2008-09) The company has taken a loan of Rs. 6,00,000, Rs. 7,00,000, Rs. 50,000 and Rs. 90,000 for acquiring property numbers 5,6,12 and 13, respectively. Find out the wealth-tax liability of the company for the assessment year "'0910.

Computation of net wealth and wealth-tax

1. land in rural area within 5 kilometres of Ajmer 2. land in urban area (not taxable as construction is not permitted) 3. land in urban area (not taxable for 10 years in case of stock-in-trade) 4. motor cars 5. jewellery

9278600 1130000 1800000

6. aircraft not taxable as per Garware Wall Ropes LId v. CIT[2004] 89 ITD 221 (Mum.)7. Guest house 8. four residential flats given to the employees (salary not being in excess of Rs. 5,00,000) 9. two residential flats given to the employees (whose annual salary exceeds Rs. 5,00,000) 10.residential house given to the managing director remaining unsold 12.residential house given to whole-time director (not taxable as salary less than Rs. 5,00,000) 13.one let out residential house given on rent for 50 days during 2007-08 14. two let out residential houses given on rent throughout the year nil 5000000 500000 1000000 3000000 11.flats nil 800000

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(not treated as "asset") Goss wealth less : Loan taken to acquire properties numbers 5, 6 and 12

nil 22508600 650000 net wealth 21858600 203586.

Tax [i.e., 1 % on the amount in excess of Rs. 15,00,000]

23,00,000 ....

Multiple Choice Question

1. At what rate wealth tax shall be charged for every assessment year in respect of the net wealth on the corresponding valuation date to HUF and companya. 1% of amount by which net wealth exceeds Rs. 150000

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b. 1% of amount by which net wealth exceeds Rs. 1500000 c. 2% of amount by which net wealth exceeds Rs. 1500000 d. 1% of amount by which net wealth exceeds Rs. 2500000 2. No wealth tax shall be levied under the act in respect of net wealth of which of the followinga. b. c. d. Co-operative society Social club Political party All the above

3. A farmhouse is not an asset if it is situateda. b. c. d. Within 8km of local limits of municipality Within 25km of local limits of municipality Outside 25km of local limits of municipality None of the above

4. Motor cars used for the purpose of business shall not be considered as an asset ifa. b. c. d. Such motor cars are held as stock-in-trade Leased out by a leasing co. Hire purchase None of the above

5. Under which of the following jewellery would not be considered as an asseta. b. c. d. Ornaments made of gold ,silver, platinum or any other precious metal, Precious or semi Precious stones whether or not set in any furniture ,utensil etc Jewellery held as stock in trade All of the above

6. A vacant land would be considered an asset if a. Within 8km of local limits of municipality b. Within 25km of local limits of municipality c. Outside 25km of local limits of municipality d. None of the above 7. An urban land means a vacant land would be included as an asset under which of the following a. Land on which construction of a building is not permissible under any law

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b. Land occupied by any building which has been constructed with the approval o the appropriate authority c. Any unused land held by the assessee for industrial purposes for the period of 2 years from the date of its acquisition by him d. An agricultural land used for farming 8. A plot of land is purchased by the assessee for industrial purpose on 1st Jan 2006 construction of the factory is started on 30th June 2006 and is completed on 31st Dec 2009. Under which of the valuation date would this land be considered as an asseta. b. c. d. 31st Mar 2006 31st Mar 2007 31st Mar 2008 None of the above

9. Which of the under following would not be considered as an asseta. b. c. d. Aircraft for use by executives of the company Gold biscuit held by the assessee Motor cars used for the transport of employees Factory building is in which production is carried on

10. Assessee purchased gold of Rs.10lakh by taking a loan of Rs. 10lakh. The schedule 2 value on gold as on 31st Mar 2009 is Rs. 11lakhs. Other assets are Rs 50lakhs. What would be the total wealth taxa. b. c. d. 36000 34000 58000 60000

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MODULE IV: INDERECT TAXATION

BACKGROUND AND JUSTIFICATION
530. In the old sales tax structure, there were problems of double taxation of commodities and multiplicity of taxes, resulting in a cascading tax burden. For instance, in the old structure, before a commodity is produced, inputs are first taxed, and then the commodity is produced with input tax load, output is taxed again. This results an unfair double taxation with cascading effects.

JUSTIFICATION OF VAT
530.1 The VAT not only provides full set-off for input tax as well as tax on previous purchases, but it also abolishes the burden of several other taxes, such as turnover tax, surcharge on sales tax, additional surcharge, special additional tax, etc. In addition, Central Sales Tax is also going to be phased out. As a result, the overall tax burden will be rationalized, and prices, in general, will fall. Moreover, VAT has replaced the existing system of inspection by a system of built-in self-assessment by traders and manufacturers. The tax structure has become simple and more transparent. This will significantly improves tax compliance and will also help increase revenue growth. VAT is base on the value addition to the goods, and the related VAT liability of the dealer is calculated by deducting input tax credit from tax collected on sales during the payment period. The essence of VAT is to providing set-off for the tax paid earlier, and this is given effect through the concept of input tax credit/rebate. This input tax credit in relation to any period means setting off the amount of input tax by a registered dealer against the amount of his output tax. In the old sales tax structure in several states, multiplicities of taxes (such as turnover tax, surcharge on sales tax, additional surcharge etc.) were imposed. With the introduction of VAT, these other taxes will be abolished.

CASE STUDY
530.2 The following examples are given to give a birds eye view of VATIllustration 1 Assume the goods are taxable at the rate of 12.5 per cent and all the goods have been purchased and sold within the States by a VAT dealer. He will put two nails in the wall and will place all the purchase vouchers in one nail and the sail vouchers in other nail. SupposeTotal of tax element in respect of sales voucher Total of tax element in respect of purchase voucher VAT payable by dealer A B A minus B

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Illustration 2 VAT is calculated by deducting tax credit from tax collected during the payment period. Purchase price Tax paid on purchase (i.e. input tax ) at the rate (assumed) of 10 per cent Sale price Tax on sale price (i.e. output tax) at the rate (assumed) of 12.5 per cent VAT payable (Rs. 22.5 Rs. 10) Rs. 100 10 180 22.5 12.5

Illustration 3 X Ltd. is a manufacture company. It purchases raw material from P and Q. Manufactured goods are sold by X Ltd. to a wholesaler Y Ltd. sells goods to retailer Z. Retailer Z sells goods to consumers. Price without VAT Rs. Raw material supplied by P to X Ltd. (VAT charged by P @ 12.5%) Q to X Ltd. (VAT charged by Q @ 4%) Manufactured goods sold by X Ltd. to Y Ltd. (VAT charged by X Ltd. from Y Ltd. @ 12.5%) Less : VAT credit available to X Ltd. (Rs. 125 + Rs. 240) Goods sold by wholesaler Y Ltd. to Z (retailer) (VAT charged by Y Ltd. from Z @ 12.5%) Less : VAT credit available to Y Ltd. Goods sold by retailer Z to consumers (VAT charged by Z from consumers @ 12.5%) Less : VAT credit available to Z 1,000 6,000 Gross VAT Net VAT payable by dealer to the government Rs. 125 240

Rs. 125 240

10,000

1,250 365 875

17,000

2,125 1,250

875

22,000

2,750 2,125

625

In the above case, VAT collected by the Government is as follows Rs. Who will pay VAT to the Government P Q X Ltd. Y Ltd. Z Total VAT collected by the Government 125 240 885 875 625 2,750

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TAX ON VALUE ADDED

530.3 As commonly levied, the value added tax constitutes a method of taxing final consumer spending in the economy by installments or in stages. The method consists of levying a tax on value added to a product ( or service) at each stage of its production and distribution, for this purpose value added is taken as the difference between the sales and purchases of intermediate products or goods for resale of a business. Like the turnover tax VAT is a multi- stage tax but with the difference that it is levied on the value added at each stage and not on the gross turnover of the dealer. This ensure that each input that goes into a final product is taxed once and only once, and not cumulatively as under a turnover tax and thus avoid causing cascading associated with turnover taxes. On the face of it the simplest way to levy a VAT is to tax the value added in a business process embodied in the difference between businesss sales and purchases.

WHAT ARE THE BENEFITS OF VAT IN BRIEF

531. The benefits of VAT are as follows a. b. c. d. e. f. g. Set-off will be given for input tax as well as tax paid on previus purchases; Other taxes, such as turnover tax, surcharge, additional surcharge, etc. will be abolished; Overall tax burden will be rationalized Prices will be general fall; There will be self assessment by dealers; Transparency will be increase, and There will be higher revenue growth.

NEED FOR INTRODUCING VAT

532. The following points highlight the critical emergent need for introducing VAT VAT is more equitable way of taxing as all dealers share the tax burden. VAT is more transparent as easy procedures exist under it and only two rates are there. Simpler easy computation and easy compliance. Credit for input taxation leading to cost efficiency. Better compliance through self-policing Prevent cascading effects by providing input rebate. Avoids distortions in trade and economy due to uniform tax rates.

WHAT ARE THE MERITS OF VAT

533. VAT structure is superior to the sales tax system because of the following advantages/ benefits

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1. Eliminates multiple tax It eliminates cascading effect of sales tax system by setting off the tax paid earlier at every stage of sale (i.e. a set off will be given for input tax as well as tax paid on previous purchases). 2. Simple VAT helps in simplifying the indirect tax system. Because it is based simply on transactions and not on a base that requires complicated definition like income or wealth. VAT has the merit of certainty and is relatively easy to understand. When levied on a broad base and applied to all sales in business there is little room for differing interpretations. In most countries, the pre- VAT commodity tax systems are found to be very complicated. In fact, all the countries that have gone in for VAT had a genuine need for simplifying their tax system. 3. Lowering of tax burden VAT reduces tax burden and helps reduce prices. 4. Fairness VAT is a move towards more efficiency, equal competition and fairness in the taxation system. VAT helps common people, trade, industry and also the Government. Other taxes, such as turnover tax, surcharge, additional surcharge etc. will be abolished as a result of introduction of VAT. Overall tax burden is rationalized. 5. Tax evasion will be reduced The adoption of VAT helps in reducing evasion of tax. There is self- assessment and therefore, better tax compliance being less chances of tax evasion. It has the merit of self-policing in that it induce businesses to demand invoice from their supplier to enable them to obtain credit for the tax paid on their purchases against their total tax liability. Under a system where the tax is levied only at one stage, primarily at the first point of sales has been predominant practice under the state sale tax, shifting the value added to subsequent stage can reduce tax liability. VAT serves to counter this by bringing the value added at all stages under the tax. While the evasion can still occur, compared to single-stage sales tax VAT provides a built-in mechanism, to counter evasion because of audit trail it creates. The application of tax at each point of sales if the tax is evaded at one stage then the tax is realized at the other stage. Evasion can occur only when all companies in the production and distribution chain act collusion to conceal their sales.

The sales tax system has the considerable amount of evasion. Studies related to evasion of sales tax in India, for instance, indicate that evasion range between 5 and 85 percent of the tax base depending upon the type of commodity. As again the system of administration of sales tax, VAT requires that all the dealers must issue the tax invoices. The subsequent dealer must maintain these invoices in other to benefit from tax deduction. This would enable the tax authority to cross check the decorated transaction between the taxpayers, consequently reducing the propensity to evade tax. In fact, the requirement to maintain the vouchers (invoices) works as self- policing the evasion of tax.

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6. Tax transparency VAT has a novel feature of tax transparency. That is, the total burden of tax on particular commodity is clearly seen from the transactions. Hence, the economic analysis of the tax structure is convenient. Also, in international trade, this enhances tax neutrality. Under the sales tax system it is difficult to estimate the exact amount of refund for export/. In most cases, the statistical evidence suggests that the tax on inputs and raw material or on capital goods is under-compensated. 7. Higher tax revenue There is higher revenue growth. 8. Uniformity There is a greater uniformity in this system. 9. Simpler VAT system is comparatively simpler that the sales tax system of taxation as there would be no dispute regarding taxable stage of sale and classification of goods taxable at a particular rate of tax and there would be minimum requirement of declaration forms. 10. Neutral The greatest virtue of VAT lies in its neutrality that is, non interference with the choices or decisions of economic agents in matter of location of business, as well as business organization. Under VAT, the tax liability does not depend on the number of times a product is traded before reaching the final consumer or how much of the value is added at what stage in vertically or for shunning specialization unlike under a regimes of turnover tax or a sales tax that makes no allowance for taxes paid at earlier stages. Under VAT, the allocation of resources is left to be decided by the free play of market forces and competition and not driven by tax considerations. 11. Stable source of revenue Because consumption is less volatile than income, it provides a stable and flexible source of Government revenue. In OECD countries it was found that every 1 percentage point of VAT yields 0.4 percent of GDP in revenue.

IS THERE ANY DEMERIT OF VAT

534. To get maximum benefits (as given by Cnossen, S.) VAT should a. b. c. d. e. Extends through the production and distribution chain right up to the retail stage; Has its base as board as possible; Permits registered firms to obtain full and immediate credit for vat paid on inputs; Limits the extent of rate differential; and Follows the destination principle.

DEMERITS IN INDIAN CONTEXT

534.1 The design of VAT that has been adopted by the states in India meets of the criteria of the good VAT as defined above but is deficient in some crucial respects. Some of these are given below 1. It does not cover goods as well as services While VAT extends to the retail stage, its base is not comprehensive enough to compromise all goods and services that go into final

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2.

3.

4.

5.

6.

consumption. A grievous shortcoming of base is non inclusion of services. The Union government taxes services, while VAT is governed by State Governments. The Central Government may delegate the powers to tax some services to the states. But that is yet to come. Besides whether the base of states VATs, which now extends only to goods, can be integrated fully with the tax on services eventually in not clear. Hence, as of now, the states VAT base suffers from major drawback. Exceptions As power the scheme of the state VATs was expected to be fairly comprehensive as exemptions were supposed to be few. Besides, various concessions extended under the erstwhile sales tax regime for new industries and so on were also to be eased out. However, under continuous pressure from various quarters the number of commodities, which are now being exempted from VAT in various states, is not that small. Floor rate the other deficiency of the design of VAT being implemented by the states is the one embedded in the structure of the rates. The states have two basic rates; general rate of 12.5 per cent and reduced rate of 4 percent (and 1 percent for gold, etc.). These are supposed to be applied uniformly in all states and so although they are described as floor rates, the States will have no discretion to go below or above the prescribed rates, contrary to what a floor rate ordinary implies. There is also an exempted category, which will bear no tax, but no rebate will be given for taxes paid on their purchases at the time of sale to a final consumer. General rate of 12.5 percent is too high - the general VAT rate of 12.5 percent is unduly high. This is supposed to be a revenue neutral rate, through it is difficult to see how a uniform rate could be reserve neutral for all states. Presumably it was chosen to accommodate the concerns of states with high levels of sales taxation about potential revenue loss from VAT. A high rate became all the more necessary on revenue considerations because a large number of commodities and industrial inputs have been included in the 4 percent categories. Many (not all of them basic necessities) are in the exempt category. Classification of capital goods classification of goods under different lists is, in many instances, arbitrary- and leaves wide room for doubts and disputes as to whether a particular item comes within the lower rate category or not. This is bound to give rise to distortions and inequalities in the application of the tax (e.g., a crutch or wheelchair is exempt as an aid for handicapped, but not a hearing aid or a heart valve). Even a simple product like paper, which occurs in the 4 % list, requires definition. Otherwise, one may wonder, does it include tissue paper, gift-wrap, writing paper or pad, and drawing paper? Another major flaw of the rate structure is the inclusion of Capital Goods and Industrial inputs in the 4 percent list. No country in the world where VAT is in operation permits concessional rate for inputs, expect in special circumstances. This goes against the basic tenet of VAT that the end use of a product by the customer should not affect the VAT to be charged and paid by a seller; if it is used as business input, for the set-off takes care of

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that. Reduced rate of tax on inputs also increases revenue loss from undeclared sales of finished products. Capital Goods are also not defined and dealers may not know whether a particular product sold will be used by the ultimate user as a capital good. 7. The application of VAT on MRP at the first point, e.g., on drugs in West Bengal and Maharashtra, on the plea that there can be no taxable value addition at the subsequent stages, once the MRP is taken as a base in problematic. This is completely misconceived idea and defeats the purpose of VAT, which is to tax sales at all stages with credits for inputs/purchase taxing commodities at the first stage on the MRP also results in from the consuming states to the producing states where the first point sellers are located.

WHAT IS INPUT TAX CREDIT

535. The essence of VAT is in providing set-off for the tax paid earlier, and this is given effect through the concept of input tax credit/rebate. This input tax credit in relation to any period means setting off the amount of input tax by a registered dealer against the amount of his output tax. The Value Added Tax (VAT) is based on the value addition to goods, and the related VAT liability of dealer is calculated by deducting input tax credit from tax collected on sales during the payment period (say, a month).

CASE STUDY
Examine the following illustrations 1. X purchases input worth Rs. 15,00,0000 and records sales of 22, 00,000 in the month of January 2008. Input tax rate and output tax rate is 12.5 percent. Input tax credit/set-off shall be computed as follows Rs. Input procured within the State in a month Output sold in the month Input tax paid @ 12.5% on (a) Tax collected 12.5% on (b) VAT payable during the month [(d)-(c)] (a) (b) (c) (d) (e) 15, 00,000 22, 00,000 1, 87,500 2, 75,000 87,500

2. X purchased input worth Rs. 16, 00,000 and records sales of Rs. 21, 00,000 in the month of January 2008. Input tax rate and output rate are 12.5 percent respectively. Input tax credit/set-off shall be calculated as follows Rs. Input purchased during January 2008 (a) 16, 00,000

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Output sold in the month of January 2008 Input tax paid @ 4% of (a) Output tax collected during January 2008 @ 12.5% of (b) VAT payable for January 2008 after set-off/input tax credit [(d)-(c)]

(b) (c) (d) (e)

21, 00,000 64,000 2, 62,000 1, 98,500

COVERAGE OF SET-OFF INPUT TAX CREDIT

535.1 Input tax credit is generally given for entire VAT paid within the State on purchases of taxable goods meant for resale/manufacture of taxable goods. However, generally no credit is available in respect of purchases given below 1. 2. 3. 4. 5. 6. 7. Goods purchased from unregistered dealers. Goods purchased from other States/countries. Purchase of goods used in manufacture of exempted goods. Purchase of capital goods (in some cases credit is available in installments). Purchase of goods used as fuel in power generation. Purchases of goods to be dispatched as branch transfers outside States. Purchases of goods used in manufacture of goods to be dispatched outside any State as branch transfer/consignments. 8. Purchases of goods in cases where the dealer does not have invoices showing amounts of tax charged separately by the selling dealer. 9. Purchases of non-creditable goods (these goods may be defined in the law regulating VAT in a particular set). 10. Purchases from dealer who has opted for composition scheme (these schemes may be specified in the law regulating VAT in a particular set).

CARRYING OVER OF TAX CREDIT

535.2 If the tax credit exceeds the tax payable on sales in a tax period, it shall be carried over the next tax period. If there is any excess unadjusted input tax credit at the credit at the end of the financial year, it shall be eligible for refund. In some cases, if VAT collected in a tax period is lower than input tax credit in respect of local purchases and inter State purchases, only the balancing amount is carried forward to the next tax period and it will be adjusted in the next tax period on the same basis. However, unadjusted tax credit at the end of financial year is generally refunded. Input tax credit on capital goods is also be available for traders and manufactures. Tax credit on capital goods may be adjusted over a maximum of 36 equal monthly installments. The States may at their option reduce this number of installments. Generally, there is a negative list for capital goods not eligible for input tax credit.

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Provision illustrated the following data pertains to X Ltd., a manufacturing company situated in State A where tax period is monthly. Input VAT credit on capital goods is State A is available in 36 months. However, in state A input tax credit in respect of capital goods is not available in some cases. X Ltd. purchases input from State A as well as States B. Manufactured goods are sold by X Ltd. in State A as well as State C. Rs. VAT paid on procurement of input/supplies within State A in January 2008 CST paid on procurement of input/supplies within State B in January 2008 VAT paid on procurement of capital goods within State A in January 2008 VAT paid on procurement of capital goods in January 2008 from State A as well as other State (bit not eligible for tax credit) VAT collected in respect of sale within State A during January 2008 CST collected in respect of inter-State sales to dealers in State C during January 2008 Input tax credit for January 2008 [i.e., (a) + 1/36 of (c) CST and VAT payable by X Ltd. in State A for January 2008 if no tax credit is available [(e) + (f)] CST and VAT payable by X Ltd. in State A for January 2008 after adjusting tax credit [(h) (g), since it is negative no CST and VAT is payable in State A for January 2008] (i) Surplus which is carried over as tax credit for set-off during February 2008 [(g) (h)] Notes 1. CST paid by X Ltd. on procurement of input supplies from State B (i.e., Rs. 3, 00, 000) is not eligible for tax credit. 2. The surplus of Rs. 76,000 as calculated above will be available for tax credit in February 2008. 3. Any surplus at the end of March 2008 will be refunded to X Ltd. 76,000 (j) (h) Nil (f) (g) 4,60,000 3,84,000 (d) (e) 3,12,000 72,000 (a) (b) (c) 4,00,000 3,00,000 21,60,000 9,10,000

TREATMENT OF EXPORT
535.3 For all exports made out of the country, VAT paid within the State will be generally refunded in full within a stipulated period (generally it is 3 months). Moreover, units located in

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SEZ and EOU will be generally granted either exemption from payment of input tax or refund of the input tax paid within the aforesaid period.

INPUTS PROCURED FROM OTHER STATES

535.4 Taxes paid on inputs procured from other States through inter State sale and stock transfer will not be eligible for credit. However, it appears that a decision has been taken for duly phasing out central sales tax.

WHAT ARE VARIANTS OF VAT

536. Theoretically, VAT could be levied with three specific variants, viz, (a) Gross product variant, (b) Income type variant, and (c) Consumption type variant. These variants could be further distinguished through their methods of calculation, viz, addition method and subtraction method. The subtraction method could be further analyzed into (a) direct, (b) intermediate, and (c) indirect subtraction method.

GROSS PRODUCT VARIANT

536.1 This variant allows deductions for all purchases of raw materials and components but no deduction is allowed for capital inputs. In this way capital goods such as plant and machinery are not deductible from the tax base in the year of purchase and depreciation on the plant and machinery is not deductible in the subsequent years. One may say that the economics base of gross product variant is equivalent to GNP (gross national product). Under this system, capital goods carry a heavier tax burden as they are taxed twice. Modernization and upgrading of plant and machinery is delayed due to this dual tax treatment.

INCOME VARIANT
536.2 in this variant of VAT, deduction are allowed for purchases of raw materials and components as well as depreciatio0n on capital goods. The economics base of the income variant is equivalent to net national product. However, in practice, there are many difficulties connected with the specification of any method of measuring depreciation, which basically depend on the life of an asset as well as on the r\ate of inflation.

CONSUMPTION VARIANT
536.3 Under this variant, deduction is allowed for all business purchases including capital assets. In other words, the economics base of the tax is equivalent to total private consumption. It does not distinguish between capital and capital expenditures. Moreover, under this system, there is no need to specify the life of asset or depreciation allowance for different assets. This form is neutral between different modes of production. In other words, there will not be any effect on tax liability due to method of production.

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Among the three variants of VAT stated above, the consumption variant is widely used in Europe and other continents (in our country generally income variant is adopted). The reason for preference of consumption variant is that it does not affect decision regarding investment because the tax on capital goods is also set-off against VAT liability. The tax is neutral n respect of techniques of production. The consumption variant is more in harmony with the destination principle. In the foreign trade sector, this variant relieves all the exports from taxation while imports are taxed. Finally, this variant is convenient from the point of the administrative expediency as it simplifies tax administration by obviating the need to distinguish between purchases of immediate or capital goods on the one hand and consumption goods on the other.

WHAT ARE DIFFERENT MODES OF COMPUATION OF VAT

537. As stated earlier VAT is nothing but a form of sales tax only and is charged at each stage of sale on the value added to the goods. Value Added is the difference between sale and purchase of a business. A straight forward way to compute the base of a VAT for given period, says a quarter, is, in the case of a manufacturer, to deduct the total cost of the inputs used in the production from the amount for which the manufactured goods are sold. Theoretically, VAT is computed by adopting three alternative methods. These are (i) addition method (ii) subtraction method (iii) tax credit or invoice method. These methods can be used to arrive at the VAT liability.

ADDITION METHOD.
537.1 This method is based on the identification of value-added, which can be estimated by summation of all the elements of value- added (i.e., wages, profits, rent and interest). This method is known as addition method or income approach. This is in line with the income method of calculating national income. The chief drawback of this method is that it does not require matching of invoices in order to check tax evasion.

SUBTRACTION METHOD
537.2 The subtraction method estimates value-added by means of difference between outputs and inputs [i.e. T= t (output input)]. This is also known as product approach and has further variants in the way subtraction is attempted from among (a) direct subtraction method, (b) intermediate subtraction method, and (c) indirect subtraction method . Direct subtraction method is equivalent to a business transfer tax whereby tax is levied on the difference between the aggregate tax- exclusive value of sales and aggregate tax exclusive value of purchases. Intermediate subtraction method is based on deduction of aggregate tax-inclusive value of purchases from the aggregate tax inclusive value of sales and taxing the difference between them.

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TAX CREDIT METHOD

537.3 Under the tax credit method, the tax on inputs is deducted from the tax on the sales to arrive at the VAT payable by the dealer. The indirect subtraction method entails deduction of tax on inputs from tax on sales for each tax period [i.e. t (output) t(input)]. This method is also known as tax credit method or invoice method. In practice, most countries use this method and employ net-consumption VAT. VAT payable = Total tax charged on the output or sales minus Total tax paid to the supplies on inputs or purchases

Tax Credit to invoice method has been adopted universally because of the inherent advantages in the credit method of calculating tax liability. The other methods namely addition method and subtraction method are not calculating tax liability. The other methods namely addition method and subtraction method are not worldwide in the case of a manufacturer when the rate of tax is different in respect of inputs and outputs.

ADVANTAGES AND ADOPTION OF TAX CREDIT METHOD

573.3.1 The following points may be noted in this regard: 1. It makes cross checking of tax paid at earlier stage, more amenable, as dealers are required to state the amount of tax in invoices. 2. Tax burden being dependent upon the tax rate at the final stage, dealers at intermediate stages do not have any incentive to seek treatment in tax rate. 3. Under the invoice method, exports can easily be relieved of domestic indirect taxes through zero rating of exports.

Provision illustrated
537.4 The following examples are given to understand the implication under the aforesaid methods

A COMPARISON OF INPUT TAX CREDIT METHOD SUBTRACTION METHOD WHEN TAX RATE IS SAME

AND

537.4.1 In the able given below value addition is 100percent in the hands of a manufacturer, 30 percent in the hands of a wholesaler and 20 percent in the hands of retailer. A uniform tax rate of VAT of 12.5 percent is adopted

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Computing VAT by two methods with uniform tax rate of 12.5 % Raw materials supplier Rs. The economy Purchase value Value added Sales value Input tax credit method Sales value Tax on sales (a) Purchase value Tax on purchase (b) VAT [i.e. (a) (b)] Subtraction method Sales inclusive of tax (c) Purchases inclusive of tax (d) Difference [i.e. (c) (d)] (e) VAT [i.e. (e) * 12.5/112.5] 0 0 100 100 12.5 0 0 12.5 112.5 0 112.5 12.5 Manufacturer Rs. 100 100 200 200 25 100 12.5 12.5 225 112.5 112.5 12.5 Wholesaler Rs. 200 60 260 260 32.5 200 25 7.5 292.5 225 67.5 7.5 Retailer Rs. 260 52 312 312 39 260 32.5 6.5 351 292.5 58.5 6.5

Note it should be noted that under the invoice credit method credit for tax paid at earlier stages is available only when the good is purchased by a dealer registered as liable to pay VAT and the seller from whom it is purchased is also a registered dealer. In other words, the sale is from business to business or what is called B2B. No such credit is allowed in the case of the sale to an unregistered dealer or a final consumer, called B2C sale, going by the current jargon.

COMPARATIVE ANALYSIS OF THREE METHODS OF COMPUTING VAT

537.4.2 A comparative chart of the three methods of calculating VAT is given below when rate of tax is uniform (rate of VAT of 12.5 per cent is adopted in the illustration given below) Methods Manufacturer Rs. Addition Method Wages Rent Interest Profit 150 50 25 25 Wholesaler Rs. 300 100 75 25 Retailer Rs. 200 20 20 10 Total Economy Rs. 650 170 120 60

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Value added [(a)+(b)+(c)+(d)] VAT Subtraction method Sales Purchases Value added [(a)-(b)] VAT Invoice method Sales Tax on sales Purchases Tax on purchases VAT [(b)-(d)]

250 31.25 350 100 250 31.25 350 43.75 100 12.5 31.25

500 62.5 850 350 500 62.50 850 106.25 350 43.75 62.50

250 31.25 1100 850 250 31.25 1100 137.5 850 106.25 31.25

1000 125 2300 1300 1000 125 2300 287.5 1300 262.5 125

COMPARATIVE ANALYSIS WHEN RATE OF VAT IS NOT UNIFORM

537.4.3 Although all the methods are identical, these are not likely to yield the same revenue when tax rates vary according to commodities (i.e. the rates are different for inputs and that for outputs). As shown in the table given below, the yield would be Rs. 30 under the subtraction method while it is Rs. 25 only under the invoice method when the tax rate is 15 percent at wholesale stage and 10 percent at other stages. Calculation of VAT Sales (a) Purchases (b) Value added [(a) (b)] (c) Rate of VAT is 10% on all stages VAT under subtraction method [i.e., 10% of (c)] Tax credit or invoice method [i.e., 10% of (a) minus10% of (b)] Rate of VAT is 15% at wholeselling level and 10% at all other stages Subtraction method [15% of (c) in the hands of wholeseller and 10% of (c) at other stages] Tax credit or invoice method Manufacturer Rs. 100 0 100 Wholesaler Rs. 200 100 100 Retailer Rs. 250 200 50 Total Economy Rs. 550 300 250

10 10 0 = 10

10 20 1 = 10

5 25 20 = 5

25 55 30 = 25

10 10 0 = 10

15 30 10 = 20

5 25 30 = (5)

30 65 40 = 25

The invoice method is widely used in most VAT countries because of its inherent advantages in calculating tax liability. First, it makes cross-checking of tax paid at earlier stages more

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amenable, as dealers are required to mention the amount of tax on invoices. Second, tax burden being dependent upon the tax rate at the final stage, dealers at intermediate stages do not have any incentives to seek special treatment in the tax rate. Finally, it facilitates border tax adjustments. If exports are zero rated, it can be done easily under this method.

ADMINISTRATIVE PROCEDURES DIFFERENT STATES

GENERALLY

ADOPTED

BY

538. Generally the following procedures are adopted-

COMPULSORY ISSUE OF TAX INVOICE, CASH MEMO OR BILL

538.1 The entire design of VAT with input tax credit is crucially based on documentation of cash invoice, cash memo or bill. Every registered dealer, having turnover of sales above an amount specified, shall issue to the purchases serially numbered tax invoice with prescribed particulars. This tax invoice will be signed and dated by the dealer or his regular employee, showing the required particulars. The dealer shall keep the counterfoil or duplicate of such tax invoice duly signed and dated. Failure to comply with the above will attract penalty

REGISTRATION, SMALL DEALERS AND COMPOSITION SCHEME

538.2 Registration of dealers with gross annual turnover above a specified amount (say, Rs.5 lakh) is compulsory. Generally, there is a provision for voluntary registration. Moreover, all dealers under the old system of local sales tax have been automatically registered under the VAT Act. A new dealer is generally allowed 30 days time from the date of liability to get registered. Small dealers with gross annual turnover not exceeding a specified amount (say, Rs.5 lakh) are not generally liable to pay VAT. Small dealers with annual gross turnover not exceeding a specified amount (say,Rs.50 lakh) who are otherwise liable to pay VAT, shall however have the option for the composition scheme with payment of tax at a small percentage of gross turnover. The dealers opting for this composition scheme will not be entitled to input tax credit.

TAXPAYERS IDENTIFICATION NUMBER (TIN)

538.3 The taxpayers identification number consists of 11 digit numerals throughout the country. First two characters will represent the State Code as used by the Union Ministry of Home Affairs, Government of India (census code). The set-up of the next nine characters may. However, be different in different States. This will include 2 check digits.

RETURN
538.4 Under VAT, simplified form of returns has been notified. Returns are to be filed monthly/quarterly as simplified in the State Acts/Rules, and will be accompanied with payment

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challans. Every return furnished by dealer will be scrutinized expeditiously within prescribed time-limit from date of filling the return. If any technical mistake is detected on scrutiny, the dealer will be required to pay the deficit appropriately.

PROCEDURE OF SELF-ASSESSMENT OF VAT LIABILITY

The major contribution of VAT is simplification. VAT liability will be self-assessed by the dealers themselves. Voluntary return will be submitted after setting of the tax credit. There is no longer a compulsory assessment at the end of each year as was application under the old system. If no specific notice is issued proposing departmental audit of the books of the account of the dealer within a stipulated time, the dealer will be deemed to have self-assessed on the basis of returns submitted by him.

AUDIT
538.6 Correctness of self assessment will be checked through a system of departmental audit. A certain percentage of the dealers will be taken up for audit every year on a scientific basis. If, however, evasion is detected on audit, the concerned dealer may be taken up for audit for previous periods. This Audit Wing will remain de linked from tax collection wing to remove any bias. The audit report will be transparently sent to the dealer also. Simultaneously, a cross checking, computerized system is being worked out on the basis of coordination between the tax authorities of the State and those of central excise and income tax. This comprehensive cross-checking system will help reduce tax evasion and also lead to significant growth of tax revenue. At the same time, by protecting transparently the interests of tax-complying dealers against the unfair practices of tax-evaders, the system will also bring in more equal competition in the sphere of trade and industry.

DECLARATION FORM
538.7 there will be no need for any provision for concessional sale under the VAT Act since the provision for set-offs makes the input zero-rated. Hence, there will be no need for declaration form, which will be a further relief for dealers.

OTHER TAXES
538.8 A s mentioned earlier, all other taxes such as turnover tax, surcharge, additional surcharge and special additional tax (SAT) have been generally abolished.

PENAL PROVISIONS
538.9 Penal provisions under VAT are not more stringent than in the sales tax system.

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COVERAGE OF GOODS UNDER VAT

538.10 In general, all the goods, including declared goods will be covered under VAT and will get the benefit of input tax credit. However, there are a few goods which are outside VAT. Generally, exempted category includes liquor, lottery tickets, petrol, diesel, aviation turbine fuel and other motor spirit since their prices are not fully market determined. These will continue to be taxed under Sales Tax Act or any other State Act or even by making special provisions in the VAT Act itself, and with uniform floor rates.

VAT RATES AND CLASSIFICATION OF COMMODITIES

538.11 Under the VAT system covering about 550 goods, there will be only two basic VAT rates of 4 percent and 12.5 percent. Moreover, there is a specific category of tax-empted goods. Besides, a special VAT rate of 1 percent is applicable only for gold and silver ornaments, etc. Thus the multiplicity of rates under the old structure has been omitted. Exempted category generally includes natural and unprocessed products in unorganized sector, items which are legally barred from taxation and items which have social implication. Included in this exempted category is a set of commodities flexibility chosen by individual States from a list of goods (finalized by the Empowered Committee formed for the purpose of introduction of VAT) which are of local social importance for the individual States without having any interstate implication.

TAX RATES
ASSESSMENT YEARS 2009 10 AND 2010 11

TAX LIABILTY HOW TO FIND OUT

Tax liability for the assessment years 2009 20 and 2010 11 shall be calculated as follows: 1. 2. 3. 4. Find out gross total income Less : deductions under sections 80 C to 80 U Find out net income [(1) (2)] Divide the net income into the following 4.1 income subject to special tax rates mentioned in para 0.1.6 4.2 remaining income subject to normal rates Find out income tax on net income 5.1 tax on income specified in 4.1 (supra) at the rates given in para 0.1.6 5.2 tax on remaining income at the normal rate given in para 0.1.1 or 0.1.2 or 0.1.3 or 0.1.4 or 0.1.5 Add : Surcharge2 @ 0%, 10% or 2.5% Find out the total [(5)+(6)] Add : Education cess [ 2% of (7)]

5.

6. 7. 8.

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9. Add : Secondary and higher education cess [1% of (7)] 10. Find out the total [(7)+(8)+(9)] 11. Deduct: Rebate under section 86,89,90,90A or 91 12. Tax liability [(10)-(11)] 13. Add: Interest/penalty etc. 14. Less: Pre-paid taxes[i.e., advance tax, self-assessment tax, TDS, TCS] 15. Tax payable [(12)+(13)-(14)] Notes: 1. (2) cannot exceed (1). 2. Surcharge is applicable as a % of income tax [i.e.,(5)]. These rates are-

Assessment year 200910 Individual/HUF/BOI/AOP- If net income does not exceed Rs.10 lakh - If net income exceeds the above limit Artificial juridical person Firm - If net income does not exceed Rs.1 crore - If net income exceeds Rs.1 crore Domestic company - If net income does not exceed Rs.1 crore - If net income exceeds Rs.1 crore Foreign company - If net income does not exceed Rs.1 crore - If net income exceeds Rs.1 crore Co-operative society, local authority 0% 10% 10% 0% 10% 0% 10% 0% 2.5% 0%

Assessment year 201011 0% 0% 0% 0% 0% 0% 10% 0% 2.5% 0%

INDIVIDUALS, HINDU UNDIVIDED FAMILIES, AOPs, BOIs

Income-tax 0.1-1 The tax rates applicable to individuals are also applicable to a Hindu individual family, an association of persons, body of individuals or an artificial juridical person. The rates applicable for the assessment years 2009-10 and 2010-11 as follows:

ASSESSMENT YEAR 2009-10

0.1-1a For the assessment year 2009-10, tax rates are given below-

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For resident woman (who is below 65 years at any time during the previous year)Net income range Income-tax rates Surcharge [see note1] Education cess [see Note 3] Nil 2% of income tax 2% of income tax 2% of income tax 2% of income tax and surcharge Secondary and higher education cess [see Note 4] Nil 1% of income tax 1% of income tax 1% of income tax 1% of income tax and surcharge

Up to Rs.1,80,000 Rs. 1,80,000Rs. 3,00,000 Rs. 3,00,000Rs. 5,00,000 Rs. 5,00,000Rs. 10,00,000 Above Rs. 10,00,000

Nil 10% of (total income minus Rs.1,80,000) Rs.12,000 + 20% of (total income minus Rs.3,00,000) Rs.52,000 + 30% of (total income minus Rs.5,00,000) Rs.2,02,000 + 30% of (total income minus Rs.10,00,000)

Nil Nil Nil

Nil

10% of income tax [see Note 2]

For resident senior citizen (who is 65 years or more at any time during the previous yearIncome-tax rates Net income range Up to Rs.2,25,000 Rs. 2,25,000Rs. 3,00,000 Rs. 3,00,000Rs. 5,00,000 Rs. 5,00,000Rs. 10,00,000 Above Rs. 10,00,000 Nil 10% of (total income minus Rs.2,25,000) Rs.7,500 + 20% of (total income minus Rs.3,00,000) Rs.47,500 + 30% of (total income minus Rs.5,00,000) Rs.1,97,500 + 30% of (total income minus Rs.10,00,000) Surcharge [see note1] Education cess [see Note 3] Nil 2% of income tax 2% of income tax 2% of income tax 2% of income tax and surcharge Secondary and higher education cess [see Note 4] Nil 1% of income tax 1% of income tax 1% of income tax 1% of income tax and surcharge

Nil Nil Nil

Nil

10% of income tax [see Note 2]

For any other individual, every HUF/AOP/BOI/artificial juridical person-

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Income-tax rates Net income range Up to Rs.1,50,000 Rs. 1,50,000Rs. 3,00,000 Rs. 3,00,000Rs. 5,00,000 Rs. 5,00,000Rs. 10,00,000 Above Rs. 10,00,000 Notes: Nil 10% of (total income minus Rs.1,50,000) Rs.15,000 + 20% of (total income minus Rs.3,00,000) Rs.55,000 + 30% of (total income minus Rs.5,00,000) Rs.2,05,000 + 30% of (total income minus Rs.10,00,000)

Surcharge [see note1]

Education cess [see Note 3] Nil 2% of income tax 2% of income tax 2% of income tax 2% of income tax and surcharge

Nil Nil Nil

Secondary and higher education cess [see Note 4] Nil 1% of income tax 1% of income tax 1% of income tax 1% of income tax and surcharge

Nil

10% of income tax [see Note 2]

1. Surcharge surcharge is 10 percent of income tax if net income of an individual, Hindu undivided family, association of person, or body of individuals, exceeds Rs. 10, 00,000. In the case of an artificial juridical person, surcharge is 10 per cent of income tax, even if the net income is less than Rs. 10, 00,000. 2. Marginal relief in the case of the aforesaid person having a net income of exceeding Rs. 10,00,000, the net amount payable as income tax and surcharge shall not exceed total amount payable as income tax on total income of Rs. 10, 00, 000 by more than the amount of income that exceeds Rs. 10,00,000. 3. Education cess it is 2 per cent of income tax and surcharge. 4. Secondary and higher education cess it is 1 per cent of income tax and surcharge.

ASSESSMENT YEAR 2010-11

0.1-1B Tax rates for the assessment year 2010-11 are given belowFor resident woman (who is below 65 years at any time during the previous year)-

Net income range

Income-tax rates

Education cess

Up to Rs.1,90,000

Nil

Nil

Secondary and higher education cess Nil

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Rs. 1,90,000- Rs. 3,00,000 Rs. 3,00,000- Rs. 5,00,000 Above Rs. 5,00,000

10% of (total income minus Rs.1,90,000) Rs.11,000 + 20% of (total income minus Rs.3,00,000) Rs.51,000 + 30% of (total income minus Rs.5,00,000)

2% of income tax 2% of income tax 2% of income tax

1% of income tax 1% of income tax 1% of income tax

For resident senior citizen (who is 65 years or more at any time during the previous yearIncome-tax rates Net income range Up to Rs.2,40,000 Rs. 2,40,000- Rs. 3,00,000 Rs. 3,00,000- Rs. 5,00,000 Above Rs. 5,00,000 Nil 10% of (total income minus Rs.2,40,000) Rs.6,000 + 20% of (total income minus Rs.3,00,000) Rs.46,000 + 30% of (total income minus Rs.5,00,000) Nil 2% of income tax 2% of income tax 2% of income tax Education cess Secondary and higher education cess Nil 1% of income tax 1% of income tax 1% of income tax

For any other individual, every HUF/AOP/BOI/artificial juridical personIncome-tax rates Net income range Up to Rs.1,60,000 Rs. 1,60,000- Rs. 3,00,000 Rs. 3,00,000- Rs. 5,00,000 Above Rs. 5,00,000 Notes: 1. Surcharge- Nil. 2. Education cess- It is 2% of income-tax. 3. Secondary and higher education cess- It is 1% of income-tax. Nil 10% of (total income minus Rs.1,60,000) Rs.14,000 + 20% of (total income minus Rs.3,00,000) Rs.54,000 + 30% of (total income minus Rs.5,00,000) Nil 2% of income tax 2% of income tax 2% of income tax Education cess Secondary and higher education cess Nil 1% of income tax 1% of income tax 1% of income tax

FIRMS
0.1.2 A firm is taxable at the rate of 30 per cent for the assessment years 2009 10 and 2010 -11 [see also para 0.1.6].

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Surcharge (for the assessment year 2009-10):10 per cent of income tax if net income exceeds Rs. 1 crore (no surcharge if net income does not exceed Rs. 1 crore), subject to marginal relief given below Marginal relief in the case of a firm having a net income of exceeding 1 crore, the net amount payable as income tax and surcharge shall not exceed the total amount payable as income tax omn the total income of Rs. 1 crore by more than the amount of income that exceeds Rs. 1 crore. Surcharge (for the assessment year 2010 11): Nil Education cess it is 2 per cent of the income tax and surcharge. Secondary and higher education cess it is 1 percent of income tax and surcharge. COMPANIES 0.1.3 For the assessment year 2009-10 and 2010-11 the following rates of income tax are applicable: Company In the case of a domestic company In the case of a foreign company Royalty received from Government or an Indian concern in pursuance of an agreement made by it with the Indian concern after March 31, 1961, but before April 1, 1976, or fees for rendering technical services in pursuance of an agreement made by it after February 29, 1964 but before April 1, 1976 and where such agreement has, in either case, been approved by the Central Government Other income Surcharge surcharge is applicable at the rates given belowIf net income does not exceed Rs.1 crore Nil Nil If net income exceeds Rs.1 crore 10%* 2.5%* Rate of income-tax (per cent) [see also para 0.1-6] 30

50 40

Domestic company Foreign company

*It is 2.5% or 10% of income-tax. Marginal relief is available which is given belowMarginal relief- In the case of a company having a net income of exceeding Rs. 1 crore, the net amount payable as income-tax and surcharge shall not exceed the total amount payable as income-tax on total income of Rs. 1 crore by more than the amount of income that exceeds Rs. 1 crore. Education cess- It is 2% of income and surcharge.

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Secondary and higher education cess- It is 1% of income and surcharge.

MINIMUM ALTERNATE TAX

0.1-3a The following rate of minimum alternate tax shall be applicableAssessment year 2009-10 If book profit does not exceed Rs. 1 crore EC SHEC Total IT SC 10 0.2 0.1 10.30 10 0.2 0.1 10.30 10 ( as a % of book profit) If book profit exceeds Rs. 1 crore IT SC 1 10 0.25 0.205 0.1025 10.5575 EC 0.22 SHEC 0.11 Total 11.33

Domestic company Foreign company

Note- if book profit of a company exceeds Rs. 1 crore, the minimum alternate tax cannot exceed the following: (Rs. 10 lakh + Book profit Rs. 1 crore) + EC + SHEC Assessment year 2010-11 If book profit does not exceed Rs. 1 crore SHEC Total IT SC EC 0.3 0.15 15.45 15 0.3 0.15 15.45 15 ( as a % of book profit) If book profit exceeds Rs. 1 crore IT 15 SC 1.5 EC 0.33 SHEC 0.165 Total 16.995

Domestic company Foreign company

15 0.375 0.3075

0.15375 15.83625

Note- if book profit of a company exceeds Rs. 1 crore, the minimum alternate tax cannot exceed the following: (Rs. 15 lakh + Book profit Rs. 1 crore) + EC + SHEC

CO-OPERATIVE SOCIETIES
0.1-4 The following rates are applicable to a co-operative society for the assessment years 200910 and 2010-11Net income range Up to Rs.10,000 Rs. 10,000- Rs.20,000 Rs. 20,000 and above Rate of income-tax [see also 0.16] 10 20 30

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Surcharge- Nil. Education cess- It is 2% of income-tax. Secondary and higher education cess- It is 1% of income-tax.

LOCAL AUTHORITIES
0.1.5 Local authorities are taxable at the rate of 30 per cent. Surcharge- Nil. Education cess- It is 2% of income-tax. Secondary and higher education cess- It is 1% of income-tax.

TAX RATES SPECIFIED IN THE INCOME- TAX ACT

The following incomes are taxable at the rates specified by the Income-tax Act and not at the rates mentioned above. Section (1) 111A 112 115A(1) (a)(i) 115A(1) (a)(i) Income (2) Short-term capital gains Long-term capital gains Dividend received by a foreign company or a non-resident noncorporate assessee [*it is not applicable in the case of dividends referred to in section 115-O] Interest received by a foreign company or a non-resident noncorporate assessee from Government or an Indian concern on moneys borrowed or debt incurred by Government or the Indian concern in foreign currency 470 Royalty or fees for technical services received by a foreign company or non-resident non-corporate assessee from an Indian concern or Government in pursuance of an agreement approved by the Central Government and made aftera. March 31, 1976 but before June 1, 1997 b. March 31, 1997 but before June 1, 2005 c. March 31, 2005 Income of an overseas financial organization on transfer of units purchased in foreign currency being long-term capital gains Income from bonds or Global Depository Receipts or on bonds or Global Depository Receipts of a public sector company sold by the Government and purchased in foreign currency or long-term capital Income-tax rates (3) 15 20

20*

20

115A(1) (b)

30 20 10 10

115AB 115AC

338

gains arising from their transfer *[not applicable in case of dividends referred to in section 115-O] 115ACA Income from Global Depository Receipts held by a resident individual who is an employee of an Indian company engaged in information technology software/ services Dividend [other than dividend referred to in section 115-O] on Global Depository Receipt issued under employee stock option scheme and purchased in foreign currency Long-term capital gain on transfer of such receipts 115AD Income in respect of listed securities received by a Foreign institutional Investor as specified by the Government Short-term capital gain covered by the section 111A Any other short-term capital gain Long-term capital gain Other income [*not applicable in case of dividends referred to in section 115-O] 115B Profits and gains of life insurance business 115BB Winnings from lotteries, crossword puzzles, or race including horse race (not being income from the activity of owning and maintaining race horse) or card game and other game of any sort or from gambling or betting of any form or nature Section (1) Income

10*

10 10

15 30 10 20* 12.5

30 Income-tax rates (3)

(2) Income of a non-resident foreign citizen sportsman for participation 115BBA in any game in india or received by a way of advertisement or for contribution of articles relating to any game or sport in India or income of a non-resident sport association by way of guarantee money Anonymous donation 115BBC 115E Income from foreign exchange assets and capital gains of nonresident Indian a. Income from foreign exchange asset [*not applicable in case of dividends referred to in section 115-O] b. Long-term capital gain 115JB Tax on book profits of certain companies - Assessment year 2009-10 - Assessment year 2010-11 161(1A) Profits and gains of a business in case of trust 164 164A Income of a private discretionary trust where shares of beneficiaries are in determinant Income of an oral trust

10 30

20* 10 10% 15% 30 30 30

339

167A 167B 167B(2)

Income of a firm Income of an association of persons or body of individuals if shares of members are unknown Income of an association of persons or body of individuals if total income of any member (excluding share from the association or body) exceeds the maximum amount not chargeable to tax [*if total income of any member of an association or body is chargeable at tax at a rate higher than 33.99% for the assessment year 2009-10 or 30.9% for the assessment year 2010-11, than tax shall be charged on that portion of the total income of the association/body which is relatable to the share of such member at such higher rate and the balance of the total income is taxable at a rate 33.99% and 30.9% for assessment years 2009-10 and 2010-11 respectively]

30 30

30*

Notes: 1. Surcharge- the above income tax rates are subject to surcharge as follows Assessment year 200910 Nil 10% 10% Nil Nil 10% Nil 10% Nil 2.5% Assessment year 201011 Nil Nil Nil Nil Nil Nil Nil 10% Nil 2.5%

Individuals/HUF/AOP/BOI if net income does not exceed Rs.10 lakh Individuals/HUF/AOP/BOI if net income exceeds Rs.10 lakh Artificial juridical person Co-operative society, local authority Firm if net income does not exceed Rs.1 crore Firm if net income exceeds Rs.1 crore Domestic company if net income does not exceed Rs.1 crore Domestic company if net income exceeds Rs.1 crore Foreign company if net income does not exceed Rs.1 crore Foreign company if net income exceeds Rs.1 crore

However, in the case of sections 161(A), 164, 164A and 167B surcharge @10% is always applicable (for the assessment year 2009-10) irrespective of income. In the case of section 115B, surcharge is applicable only if book profit exceeds Rs.1 crore 2. Education cess 2% of sum total of income-tax and surcharge. 3. Secondary and higher education cess 1% of income-tax and surcharge.

COMPULSORY DEPOSIT
0.2 From the assessment year 1986-87, the scheme of compulsory deposit has been abolished.

WEALTH-TAX

340

0.3 1% of the amount by which net wealth exceeds Rs.15,00,000 for the assessment year 200910 and Rs.30,00,000 for the assessment year 2010-11 (applicable in the case of every individual, Hindu undivided family and company) [surcharge : Nil; education cess : Nil]

GIFT -TAX
0.4 Gifts made after September 30, 1998 are not chargeable to gift-tax.

ESTATE DUTY
0.5 The levy of estate duty has bee abolished in respect of estates passing on death occurring on or after March 16, 1985.

RATES FOR TAX DEDUCTION AT SOURCE

0.6 During the financial year 2009-10, tax is to be deducted at source at the following rates: Nature of payment TDS (SC: Nil, EC: Nil, SHEC: Nil) -

Sec. 192 - Payment of salary to a resident/non-resident [normal rate of tax is applicable see para 0.1-1b, SC: Nil, EC: 2% and SHEC: 1%] Sec. 193 interst on securities ta a residenta. Interest on (a) debentures/securities for money issued by or on behalf of any local authority/statutory corporation, (b)listed debentures of a company [not being listed securities in demat form], (c) any security of the Central or State Government [i.e.,8% Savings (taxable) Bonds, 2003, but not any other Government security] b. Any other interest on securities (including interest on non-listed debentures) Sec. 194 Dividend to a residenta. Deemed dividend under section 2(22)(e) b. Any other dividend Sec. 194A Interest other than interest on securities to a resident Sec. 194B Winnings from lottery or crossword puzzle or card game over or other game of any sort to a resident/non-resident Sec. 194BB Winnings from horse races to a resident/non-resident Sec. 194C Payment to a resident contractor/sub-contractor a. Payment/credit to a contractor (in case of advertising contracts) (up to September 30, 2009) b. Payment/credit to a contractor (other than an advertising contracts) (up to September 30, 2009) c. Payment/credit to a sub- contractor (up to September 30, 2009) d. Payment/credit to an individual or a Hindu undivided family (with effect from October 1, 2009) e. Payment/credit to any personothe than an individual or a Hindu

10 10 10 Nil 10 30 30

1 2 1 1

341

undivided family (with effect from October 1, 2009) Sec. 194D Insurance commission to a resident Sec. 194E Payment to a non-resident sportsman or sports association Sec.194EE Payment in respect of deposits under National Savings Scheme, 1987 to a resident/ non-resident Sec. 194F Payment on account of repurchase of units of MF or UTI to a resident/non-resident Sec. 194G commission of sale on lottery tickets to a resident/nonresident Sec. 194H commission or brokerage to a resident 473 Sec. 194I Rent to a residenta. Rent of plant, machinery or equipment (up to September 30, 2009) b. Rent of land, building or furniture to an individual and Hindu undivided family (up to September 30, 2009) c. Rent of land, building or furniture to person other than an individual and Hindu undivided family (up to September 30, 2009) d. Rent of plant and machinery (with effect from October 1, 2009) e. Rent of land or building or furniture or fitting (with effect from October 1, 2009) Sec.194J Fees for professional or technical services to a resident Sec. 194LA Payment of compensation to a resident on acquisition of certain immovable property

2 10 10 20 20 10 10 10 15 20 2 10 10 10

Nature of payment (1) Sec 195 payment of other sum to a non resident [See Note 2] a. Income from foreign exchange assets payable to an Indian citizen b. Income by way of long term capital gains referred to in section 115E c. Short term capital gains under section 111A d. Long term capital gains [not been covered by section 10 (33) , 10 (36) , 10 (38)

If the recipient is (a) a non resident non corporate person (payment / credit may or may not exceed 1 crore ) or (b) non domestic company and aggregate payment or credit does not exceed Rs. 1 crore (SC :Nil, EC : 2% SHEC : 1 %) IT SC EC SHEC Total (2) (3) (4) (5) (6)

If the recipient is a non domestic company and aggregate payment / credit subject to tax deduction exceed Rs. 1 crore (SC :Nil, EC : 2% SHEC : 1 %)

IT (7)

SC (8)

EC (9)

SHEC (10)

Total (11)

20

Nil

0.4

0.2

20.6

NA

NA

NA

NA

NA

10 15

Nil Nil

0.2 0.3

0.1 0.15

10.3 15.45

NA 15

NA 0.375

NA 0.308

NA 0.154

NA 15.84

20

Nil

0.4

0.2

20.6

20

0.5

0.41

0.205

21.12

342

e.

f.

g.

Income by way of interest payable by Government/Indian concern on money borrowed or debt incurred by Government or Indian concern in foreign currency Royalty [ see Note 5] Where the agreement is made before June 1,1997 Where the agreement is made after May 31, 1997 but before June 1 , 2005 Where the agreement is made on or after June 1,2005 Royalty [not (f)] Where the agreement is made after march 31, 1961 but before April 1, 1976 If recipient is a non resident non corporate person If the recipient is non domestic company Where the agreement is made after March 31, 1976 but before June 1, 1997 Where the agreement is made after May 31, 1997 but before June 1, 2005 Where the agreement is made on or after June 1, 2005

20

Nil

0.4

0.2

20.6

20

0.5

0.41

0.205

21.12

30

Nil

0.6

0.3

30.9

30

0.75

0.615

0.308

31.68

20

Nil

0.4

0.2

20.6

20

0.5

0.41

0.205

21.12

10

Nil

0.2

0.1

10.3

10

0.25

0.205

0.103

10.56

30 50

Nil Nil

0.6 1

0.3 0.5

30.9 51.5

NA 50

NA 1.25

NA 1.025

NA 0.513

NA 52.79

30

Nil

0.6

0.3

30.9

30

0.75

0.615

0.308

31.67

20

Nil

0.4

0.2

20.6

20

0.5

0.41

0.205

21.12

10

Nil

0.2

0.1

10.3

10

0.25

0.205

0.103

10.56

h.

Fees for technical services Where the agreement is made after February 29, 1964 but before April 1, 1976 If recipient is a non resident non corporate person If the recipient is non domestic company Where the agreement is made after March 31, 1976 but before June 1, 1997 Where the agreement is made after May 31, 1997 but before June 1, 2005 Where the agreement is made on or after June 1, 2005

30

Nil

0.6

0.3

30.9

NA

NA

NA

NA

NA

50

Nil

0.5

51.5

50

1.25

1.025

0.513

52.79

30

Nil

0.6

0.3

30.9

30

0.75

0.615

0.308

31.67

20

Nil

0.4

0.2

20.6

20

0.5

0.41

0.205

21.12

10

Nil

0.2

0.1

10.3

10

0.25

0.205

0.103

10.56

343

Any other income If recipient is a non resident non corporate person If the recipient is non domestic company Sec. 196B Income from units (including long term capital gains on transfer of such units) to offshore fund Sec. 196 C income from foreign currency bonds or GDR (including long term capital gains on transfer of such bonds) (not been dividend) Sec. 196D income of foreign institutional investors from securities (not been dividend, short term or long term capital gain)

i.

30 40

Nil Nil

0.6 0.8

0.3 0.4

30.9 41.2

NA 40

NA 1

NA 0.82

NA 0.41

NA 42.23

10

Nil

0.2

0.1

10.3

10

0.25

0.205

0.103

10.56

10

Nil

0.2

0.1

10.3

10

0.25

0.205

0.103

10.56

20

Nil

0.4

0.2

20.6

20

0.5

0.41

0.205

21.12

Notes1. Under section 192 tax is deductible from salary. The payer shall calculate salary taxable in the hands of recipient. The amount o determined is subject to tax deduction under section 192. Under section 195, tax is deductible only if income is taxable in the hands of recipient in India. In any other case, gross payment is subject to tax deduction. 2. Tax is deductible at source under section 195 at the above rates or rates specified in ADT agreements entered into by he Central Government under section 90 (whichever is lower) [section 2(37A)(iii)]. 3. Tax is not deductible under section 193, 194, 194A, or 194EE if the recipient makes a declaration in Form No. 15G/15H under the provisions of section 197A. 4. Under section 197 the recipient can apply the Assessing Officer in Form No. 13 to get a certificate of lower/ no tax deduction. This benefit is, however, not available if tax is deductible under section 194B, 194BB, 194E, 194EE, 194F, 194C or 194D. 5. Royalty payable by Government or an Indian concern in pursuance of an agreement made by non-resident with the Government or the Indian concern after March31, 1976, where such royalty is in consideration for the transfer of all or any rights (including the granting of a license) in respect of copyright in any book on a subject referred to in the first proviso to section 115(1A) to the Indian concern or in respect of computer software referred to in the second proviso to section 115(1A), to a person resident in India. 6. Not being royalty of nature referred to above, payable by Government or an Indian concern in pursuance of an agreement made by non-resident with the Government or the Indian concern and where such agreement is with an Indian concern, the agreement is approved by the Central Government or where it relates to matter included in the industrial policy, the agreement is in accordance with that policy. 7. Fees for technical services payable by Government or an Indian concern in pursuance of an agreement made by non-resident with the Government or the Indian concern and where such agreement is with an Indian concern, the agreement is approved by the

344

Central Government or where it relates to matter included in the industrial policy, the agreement is in accordance with that policy.

RATES FOR TAX COLLECTION AT SOURCE

0.7 During the financial year 2009 10, tax shall be collected under section 206 C at the following rates-

Nature of If the If the purchaser or licenser or goods/nature purchaser lessee is (a) a non resident non of contract or license corporate person (amount may or license or or lessee or may not exceed Rs. 1 crore) lease is a or (b) non domestic company resident and aggregate amount subject to (SC : Nil, tax collection does not exceed EC : Nil, Rs. 1 crore SHEC : [SC : Nil, EC : 2%, SHEC : 1%] Nil) IT Alcoholic liquor for human consumption Tendu leaves Timber obtained under a forest lease Timber obtained by any mode other than under a forest lease Any other forest produce (not being timber or tendu leaves) Scrap Parking lot, IT SC EC SHEC Total

If the purchaser or licensee or lessee is a non domestic company and aggregate amount subject to tax collection exceeds Rs. 1 crore (SC:2.5%, EC : 2%, SHEC : 1%)

IT

SC

EC

SHEC

Total

1 5

1 5

Nil 0.02 Nil 0.1

0.01 0.05

1.03 5.15

1 5

0.025 0.125

0.0205 0.1025

0.1025 0.05125

1.05575 5.27875

2.5

2.5 Nil 0.05

0.025

2.575

2.5 0.0625 0.05125 0.025625 2.639375

2.5

2.5 Nil 0.05

0.025

2.575

2.5 0.0625 0.05125 0.025625 2.639375

2.5 1

2.5 Nil 0.05 1 Nil 0.02

0.025 0.01

2.575 1.03

2.5 0.0625 0.05125 0.025625 2.639375 1 0.025 0.0205 0.01025 1.05575

345

toll plaza, mining and quarrying

Nil 0.04

0.02

2.06

0.05

0.041

0.0205

2.1115

DIVIDEND TAX UNDER SECTION 115 0 0.8 During the financial year 2009 10, dividend tax shall be charged as follows: Dividend tax Dividend* [other than deemed dividend under section 2(22)(e)] Deemed dividend under section 2(22)(e)** *not taxable in the hands of shareholder [sec. 10(34)]. **taxable in the hands of shareholders under section 56, without claiming any declaration under section 80L or 80M. The payer is deemed dividend is liable to deduct tax at source under section 194. TAX ON INCOME DISTRIBUTED BY UTI / MUTUAL FUND UNDER SECTION 115R IT Income distribution to unit holder of equity oriented funds or any income distributed by the administrator of the specified undertaking to unit holder. Money market mutual fund or a liquid fund Income distributed to any other unit holder - Unit holder is individual/HUF - Unit holder is any other person SC EC SHEC Total 15 NA SC EC SHEC Total

1.51 NA

0.33 NA

0.165 NA

16.995 NA

Nil 25 12.5 20

Nil 2.5 1.25 2

Nil 0.55 0.275 0.44

Nil 0.275

Nil 28.325

0.1375 14.1625 0.22 22.66

346

1. Mutual fun for the aforesaid purpose is a fund specified under section 10(23D). 2. Equity oriented fund means the Unit Scheme, 1964 of UTI. It also includes any such fund where the investible funds are invested by way of equity shares in domestic companies to the extent of more than 65 per cent of the total proceeds of such fund. The percentage of equity shareholding shall be computed with reference to the annual average of the monthly averages of the opening and closing figures. 3. Income distribution to a unit-holder of equity oriented funds shall not be chargeable to distribution tax under section 115R. 4. In the hands of unit-holders any income received in respect of units of UTI/Mutual Fund (whether it is equity oriented fund or otherwise) is exempt under section 10(35).

Multiple Choice Questions

Q.:- 1.VAT WAS FIRST INTRODUCED AS A TAX IN THE YEAR:-

(A). 1919 (B). 1921 (C ). 1948 (D). 1954

Q.:- 2.VAT WAS FIRST INTRODUCED BY THE:-

(A). FRANCE (B).GERMANY (C ).USA (D).UK

Q.:-3. TAX IN VAT IS LEVIES AT:-

347

(A). FIRST STAGE (B).SECOND STAGE (C ).LAST STAGE (D).EVERY STAGE

Q.:- 4.WHICH WAS THE FIRST INDIAN STATE INTRODUCING VAT SUCCESSFULLY:-

(A). RAJASTHAN (B).BIHAR (C ).HARYANA (D).GUJRAT

Q.:-5. A DEALER HAS PURCHASED RAW MATERIAL OF RS. 1 LAKH @ 4%, AND RS. 25000.00 @ 12.5%. HE SOLD THE GOODS AT RS.2 LAKHS AND THE TAX RATE IS 4%. WHAT IS THE TAX PAYABLE?

(A).RS.1725.00 (B).RS. 1345.00 (C ).RS. 875.00 (D).RS. 1545.00

Q.:-6.CENVAT IN OUR COUNTRY IS APPLICABLE ON :-

(A).CENTRAL EXCISE (B).CUSTOM DUTIES (C ).CENTRAL EXCISE AND SERVICE TAX (D).SERVICE TAX

348

Q.:- 7. IN INDIA VAT HAS REPLACED:-

(A).CENTRAL SALES TAX (B).STATE SALES TAX (C ).SERVICE TAX (D).CENTRAL EXCISE

Q.:- 8. WHICH IS MOST COMMON VARIANT OF VAT USED WORLD WIDE:-

(A).GROSS PROFIT VARIANT (B).CONSUMPTION VARIANT (C ).GROSS PRODUCT VARIANT (D).GROSS INCOME VARIANT

Q.:- 9:- WHICH VARIANT HAS BEEN INTRODUCED IN INDIA WHILE INTRODUCING THE VAT?

(A).CONSUMPTION VARIANT (B).GROSS PRODUCT VARIANT (C ).GROSS INCOME VARIANT (D).GROSS PROFIT VARIANT.

Q.:-10. : - TO CLAIM THE INPUT CREDIT OF TAX PAID WHAT IS MOST IMPORTANT DOCUMENT:-

(A).PERMISSION OF THE SALES TAX AUTHORITY. (B). PROPER VAT INVOICE

349

(C ).CASH BOOK (D).LEDGER

COMPANY CASE STUDIES

Intermediate Group Holding Company Telco Ltd., a company incorporated and managed in South Africa and engaged in telecommunication services, is going to invest in China. Its Chinese operations will be both manufacturing and providing services. Telco intends to penetrate the Chinese market for telecommunication and according to some market research carried out before, the operations will be highly profitable within a couple of years. How to structure Telco's investment in a tax effective manner? Suggested solution:

350

Dividends paid by the Chinese subsidiary to the South African parent will not trigger Chinese withholding tax if the South African investor qualifies as a "foreign investment enterprise" under Chinese law. This is the case, among others, if the Chinese company is wholly foreign-owned. Upon receipt of the dividends by the parent in South Africa, additional South African corporate tax may be due. The channelling of the dividends to a group holding company, and subsequently to the South African investor in such a way that South African tax due on the dividend received, could be an interesting solution. This could be achieved by structuring the investment through a Seychelles group holding company established as a CSL (special license company) under Seychelles law. The dividends received by this company are only subject to 1.5% tax in the Seychelles. Due to special provision in the treaty between the Seychelles and South Africa, no further tax is payable in South Africa upon redistribution of the dividends to the parent, if any. Therefore, the maximum tax burden is limited to 1.5%. If this would be preferred, the dividends received in the Seychelles can, of course, also be accumulated in the Seychelles.

Intermediate Finance Company

An Israeli investor is investing in the Czech Republic. A substantial part of the investment will be financed with debt. As the Czech withholding tax on interest paid to

351

Israel is 10%, he wonders whether this withholding tax can be avoided by structuring the loan through a third country. Suggested solution: Interest paid by a debtor in the Czech Republic to Israel is subject to a 10% interest withholding tax (as reduced by the tax treaty between the two countries). Interest received in Israel is subject to 36% income tax. A back-to-back loan via a Luxembourg intermediate company could be a tax-effective solution. The tax treaty between the Czech Republic and Luxembourg provides for a 0% withholding tax rate. In Luxembourg, a ruling can be obtained from the tax authorities, thus minimising exposure to Luxembourg tax. According to Luxembourg domestic law, there is no withholding tax on interest paid abroad. Therefore, the interest can be paid to any country (including offshore financial centres) without attracting any further tax.

Licensing company
Zoomcopter Ltd., a company established in Taiwan, has developed a new widget which is used as a spare part in the assembly of helicopters. By using this widget when producing the helicopters, the operational costs of the helicopters can be substantially reduced.

352

Zoomcopter holds the worldwide patents on this invention and it wonders how the exploitation of the patents can be arranged in a tax-effective manner. Suggested solution: The patent should be transferred to a company in a low tax country from which the patents are licensed to one or more licensing companies in countries with a dense tax treaty network and which does not levy a withholding tax on royalties paid abroad. The set-up of a licensing company in Mauritius could meet these objectives. Mauritius has an expanding network of double taxation treaties, thus substantially reducing the withholding taxes on royalties paid to the Mauritius company. Although the Mauritius company is subject to tax in Mauritius at a rate of 15%, the spread between royalties received and royalties paid to the offshore patent-holder can be minimised (Mauritius has not adopted any transfer pricing regulations which could have an impact on the amount of the spread). Royalties paid by the Mauritius company are not subject to a withholding tax in Mauritius. Note: If there is no double tax treaty between Mauritius and the country from which the royalties are paid, the set-up of a sub-licensing company in a third country might be considered, e.g. Luxembourg. Luxembourg has a good tax treaty with Mauritius.

353

354

Personal service company

Albert Smith is currently working in Luxembourg as an independent IT consultant through a Luxembourg management company. Therefore, he is currently paying Luxembourg taxes (rates up to 38%). Mr. Smith is going to conclude a new service contract to work in Italy for a US-company. The US company has a European office in the UK. It is contract work and the US company is using Albert's services by sub-contracting him out to one of its clients in Italy. Mr. Smith wonders whether he can reduce his Italian income tax exposure (rates up to 45%), for example, by using an offshore company which is directly or indirectly controlled by him.
Suggested solution:

Mr. Smith could set up a new personal service company in country which has a good tax treaty with Italy, thus ensuring - with some proper structuring - that any fees paid for Albert's work in Italy are taxed in the country of residence of the service company. The company makes Albert available for working in Italy. The personal service company is fully owned by a personal service company set up by Albert in an offshore jurisdiction. Thus, it is necessary that the service company is established in a country which does not levy a withholding tax on dividends paid abroad. A country meeting these conditions is Malta. Although the Italian-source fees received by the Maltese company are subject to tax at a rate of 35%, two-thirds of the Maltese tax will be refunded upon the distribution of the dividends offshore, thus reducing the tax burden in Malta to 11.67%. Malta does not levy a withholding tax on dividends.

355

International trading companies

Yuri Ivanov lives in Russia. He is purchasing and selling shoes. He buys the shoes from Italy and sells them to department stores in France, Germany and Spain. Mr. Ivanov wonders whether he can structure his business in a tax-effective manner, for example by using an offshore company. Suggested solution: Mr. Ivanov can set up a trading company in a low tax country, thus ensuring that his trading profits will not be taxed in Russia (his country of residence), nor in France, Germany or Spain (because the tax authorities argue that he has a taxable presence in these countries). As all the transaction concerned are European Union transactions, Mr. Ivanov must obtain a VAT registration. A good location for conducting trading activities where one can obtain such a registration is the Isle of Man. Thus, if such an Isle of Man company intends to ship the shoes from Italy to Spain, the Isle of Man company would inform the Italian company of its VAT number, so that the Italian Company could zero rate its sales invoice. The Italian company does not have to charge VAT to the Isle of Man company. The Isle of Man company would then obtain the Spanish company's VAT number and subsequently issue a zero rate invoice to the Spanish company. For setting-up the Isle of Man company, there are a couple of possibilities: an LLC (taxed as a transparent entity, so effectively no tax in the Isle of Man on the profits obtained) or

356

a resident company. An LLC distributes a share of profits and there is no withholding tax thereon. An Isle of Man company is not required to withhold tax on dividends where its owners are not resident in the Isle of Man.

International trading companies

Wolfgang Schmidt is a High Net-Worth individual and lives in Monaco. He wants to source products from the Far East for sale to one of his business associates in Brazil and wants to do this in a tax efficient manner. Suggested solution: Mr Schmidt can establish a United Kingdom Limited Liability Partnership whereby he and his wife are the members. The LLP can then source the products from the Far East and sell them on to the Brazilian buyer. Payment for the transaction would be received into a UK bank account because the UK LLP is treated for taxation as a Partnership. The profits derived from the trade (s) would be attributable to the Members and taxed accordingly in Monaco.

357

Real property companies

Ferenc Kiss, a Hungarian high net-worth individual living in Budapest, is investing substantial amounts of his wealth in real property, both in Hungary and in other Central and Eastern European countries. Mr. Kiss wonders how the return on his investment can be arranged for in a tax-effective manner. The same question arises in case he sells the property in these countries and he realises a gain.

Suggested solution: Assuming that Mr. Kiss is not engaged in developing real property, the nature of his income is rental income or, in the case of sale, a capital gain. In many countries, this is considered "passive income" for tax purposes. The acquisition of the real property in the countries concerned can be made through local companies directly or indirectly controlled by Mr. Kiss. These local companies can be wholly owned by a holding company in a country with a favourable holding company regime. Any dividends distributed by the companies in the countries where the real property is situated should:

358

1. Not be subject to withholding tax on dividends (or only at a low rate) 2. Not be subject to corporate income tax upon receipt by the holding company 3. Not be subject to withholding tax on dividends paid by the holding company Moreover, if the holding company sells the shares in the real property companies, any capital gains resulting therefrom should not be subject to corporate tax. A country meeting the above conditions for the holding company regime is Luxembourg. A Cyprus company holding the Luxembourg company and directly or indirectly owned by Mr. Kiss would be a tax-effective solution. See the diagram below.

Holding Company
Oscar Valdez, a Mexican high net-worth individual is planning to invest in new

359

recreational and tourist facilities (spa resort, golf links, holiday cottages, restaurant, etc.) in Portugal. Part of the investment will be wholly-owned by Mr. Valdez, part of the investments will be made together with local Portugal investors. The development of the various sites may take several years after the acquisition of land and property and hence, the business operations are expected to commence after the development of the sites has been completed (depending on the type of facility, after one to five years). Mr. Valdez is interested in structuring his investment in such a manner that: 1. the assets wholly or partly owned by him in Portugal are well protected against various business, economic or political risks; and 2. the return of his investment after the commencement of the business operations is tax effective. Suggested solution: Mr. Valdez could split the business operations and the real property by setting-up separate companies for the various business operations and for the real property. The real property companies are then renting out the property to the operational companies. The rental income will be subject to corporate tax in Portugal at a rate of 28%, regardless as to whether the real property company is resident in Portugal or not. Additional taxes will be due if the real property companies are established in "black-listed" offshore jurisdictions. During the development phase, the operational companies will have accumulated losses. If the real property companies are resident in Portugal, both the real property companies and the operational companies can be held by a Portuguese holding company. In this way, the entire group can claim group relief under Portuguese law, as a result of which the profits of the real property companies can be offset against the initial losses of the operational companies, thus minimising exposure to Portuguese tax. If the Portuguese holding company is owned by a foreign holding company under such conditions that dividends will 1. Not be subject to withholding tax on dividends 2. Not be subject to corporate income tax upon receipt by the holding company (or are qualifying for a credit for Portuguese underlying taxes) 3. Not be subject to withholding tax on dividends paid by the holding company then this would result in an effective tax planning solution. The effectiveness is further increased if the international holding company is owned by an IBC or a tax-exempt company in an offshore jurisdiction.

360

These conditions would be met if the Portuguese company is owned by a UK holding company, the latter being owned by a company on the BVI, as illustrated by the diagram below. Note: A holding company in, for example, Cyprus, would not work as long as Cyprus is black-listed under Portuguese law.

TRUST CASE STUDIES

Income arising overseas

Nancy Johnson, a Canadian individual, has acquired some luxury apartments in France along the coast of the Mediterranean. It is her intention that the apartments will be rented out to third parties. In case of sale of the apartments or when Nancy dies, capital gains taxes and inheritance taxes should be avoided or reduced as much as possible.

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In addition, Nancy wonders how high taxes on rental income and/or taxes on capital gains in case of the sale of the apartments can be avoided or reduced as much as possible. Suggested solution: It is not possible to avoid French taxation on any rental income derived from the apartments, as the apartments are situated in France. If Nancy owns the apartments as an individual, the tax burden may be as high as 49.58%. However, if the apartments are owned by a company directly or indirectly controlled by her, French corporate tax will be due at an effective rate of 34 1/3 %, regardless of whether the apartments are owned by a domestic or a foreign company. If the company owning the property is established in Luxembourg, French capital gains tax can be avoided due to a special provision in the tax treaty between France and Luxembourg. French inheritance taxes upon Nancy's death can, under certain conditions, be avoided if the apartments are directly or indirectly owned by a trust. This needs very careful structuring and in any case, the trust should be an irrevocable, discretionary trust. Moreover, none of the beneficiaries may be residents of France. Any dividends paid by the Luxembourg company to a trust will not qualify for tax treaty relief, thus resulting in 25% withholding tax. In order to avoid the withholding tax, the Luxembourg company should be owned by a offshore company (or a so-called Luxembourg 1929 company) which occasionally liquidates the regular Luxembourg company. Liquidation gains are not subject to Luxembourg withholding taxes. The offshore company (or the Luxembourg 1929 company) can distribute the liquidation gains received in the form of a dividend to the trust, wherever located (subject to Canadian anti-avoidance regulations).

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Estate Planning
Bernard Shaw, a widower of 65, is planning to remarry with a Canadian woman and emigrate to Canada. At present, Mr. Shaw is resident in the UK. He has two children; a son living in the Bahamas, and a daughter who married a German man and has been a resident of Germany for more than 10 years. His new wife also has two children from her first marriage; a son who lives in Brazil, and a daughter living in the United States. Before he remarries, Mr. Shaw wishes to come to a comprehensive, tax effective arrangement for the administration and the transfer of his property and the benefits derived there from after his death. Mr. Shaw wishes to keep control of his property during his life, and it should be possible to sell part of the assets if this should become necessary. In the case of the latter, it should also be possible to have the free use of the gain realised (if any), but not of the original acquisition price included in the sales price of the assets. However, after his death only his own children and their children (i.e. not his second wife's family) should be entitled to the benefits. His property consists, among others, of the following: Real property in the UK, worth 2 Million Real property in Spain, worth 1.5 Million Shares in UK companies, deposited with a bank in Switzerland (current value 1 Million), as well as an interest-bearing account with the same bank in Switzerland (current balance 0.5 Million) Shares in a Luxembourg mutual fund, deposited with a bank in Luxembourg (subsidiary of the Swiss bank), worth 1 Million How to develop a tax-effective structure?

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Suggested solution: This is a "classical" case of using trusts for estate planning, but as far as the tax implications (income tax, inheritance tax, capital gains tax) are concerned, it needs careful structuring. Points of attention include: Is Mr. Shaw domiciled for UK tax purposes? Will Mr. Shaw retain an interest in the trust, either as a trustee or as a beneficiary? If so, will this lead to UK income tax consequences for Mr. Shaw? What are the tax consequences for Mr. Shaw's daughter, being a resident of Germany, as a beneficiary? Will payments to the trust be subject to income tax or withholding tax in foreign jurisdictions? If so, can this be solved by setting-up intermediate holding companies? Will the trust be established in UK law or under foreign law? If under UK law, will it be a resident trust or an offshore trust? Will there be a transfer of assets for UK tax purposes upon setting-up the trust? What anti-avoidance measures in the UK should be taken into account? The answers of all these and other questions may be manifold. Therefore, it is not possible to give one clear solution to this case. In any case, it is recommendable that the trust is set up after Mr. Shaw has left the UK and that the trust is not set up under UK law or Canadian law.

Divesting of personal assets

Olga Barschefsky, an individual living in Moscow, is a chemical engineer and managing director of a Russian company engaged in the manufacturing of masks protecting against biological and chemical weapons. The Russian company has received a license for the production of these masks from Olga who holds the world-wide patents on a new revolutionary invention which is used when producing the masks. Production of the masks is concentrated in a factory in Moscow from where the masks are exported worldwide. Olga also holds 50% of the shares in the Russian company. Ms Barschefsky receives substantial amounts of royalties (and dividends) from the Russian company for which she is subject to tax in the Russian Federation. She wonders whether she can exploit the patents in a more tax-effective way by bringing the patents offshore. At the same time, she intends to use the proceeds for both charitable purposes and the education of her grandchildren (at this moment, Olga has only one daughter of 12 years old). Suggested solution:

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This is a typical example of using a trust for divesting of personal assets. If such a trust is set up, the first question to be examined is: will there be any Russian tax implications (in particular gift tax) regarding the transfer of the shares and the patent to a foreign trust? As there is no Russian gift tax liability as yet, the assets can be transferred abroad to an offshore trust set up in a low-tax country. The exploitation of the patents and the shareholding in the Russian company will probably have to be structured through separate intermediate holding companies.

Inheritance tax planning

Pierre Dubois, a French citizen and resident, owns valuable works of art situated in several galleries and museums in the UK. The value of these works of art would certainly exceed the inheritance tax threshold for UK inheritance tax purposes, if Pierre would die in the very near future. Pierre wonders how he can avoid exposure to UK inheritance tax. Suggested solution: If Pierre would die whilst owning these works of art in the UK, then UK inheritance tax liability will certainly arise. One way to avoid this is to create an offshore trust, for example in the Isle of Man. The offshore trustees can then establish an offshore company to take ownership of the works

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of art. If this two-tier structure is established, then the works of art concerned can be brought into and enjoyed in the UK without any exposure to UK inheritance tax as the trust property will consist of the shares in the offshore company. For UK tax purposes, these shares are exempt property, as they are situated outside the UK.

Pre migration planning

Mr. Abdullah, an executive working for a big oil company in Kuwait and also resident in Kuwait (0% income tax) is sent by his employer to Germany to become the CEO European operations of his company. It is expected that he will stay in Germany for a long period of time (at least 8 - 10 years) and he will take his family with him to Germany. Mr. Abdullah is concerned about the high personal income tax rates in Germany (up to 48.5%). He wonders whether his exposure to German tax can be mitigated as a result of pre-migration tax planning. Suggested solution: Mr. Abdullah might consider the transfer of funds and other property owned by him to a trust established by him prior to moving to Germany. The trust will then administer the property for beneficiaries as determined by Mr. Abdullah. From a point of view of German tax law, Mr. Abdullah himself should not be one of the beneficiaries, at least not as long as he is a tax resident of Germany. The same is true for the other beneficiaries.

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Bibliography Books : Text & References:

Text:
Corporate Tax Planning & Business Tax Procedure,Dr. Vinod K. Singhania & Monica Singhania, Taxmman Publication, New Delhi. Direct taxes law & practices, Singhania V.K. & Singhania Kapil, Taxmann Publication, New Delhi.

References: Corporate Tax Planning, Lakhotia, R.N. & Lakhotia, Vision books Students guide to Income Tax, Singhania, V.K., Taxmann st International dictionary of taxation by Indian Tax Institute, 1 Edition.

Videos :
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