The Karnataka High Court (“KHC”)
has recently pronounced an important decision enunciating the principles for
computing relief under section 10A of the Income Tax Act, 1961 (“the Act”).
In a batch of appeals filed by
the Revenue Authorities (“RA”) against Yokogawa India Limited and other related
cases, the KHC has ruled that although section 10A has been amended to indicate
the tax holiday to be a deduction from the total income as against the
exemption, it would need to be read as being a deduction in the computation of
total income. Consequently, it continues to retain the character of an
exemption. Correspondingly, the profits eligible for relief under section
10A of the Act are to be computed, prior to giving effect to the carry forward
and set off provisions under section 72 of the Act.
In this special edition of Tax
Edge, we have summarized the facts of the case and the decision delivered
by the KHC.
Facts of the case
Yokogawa India Limited (“the
taxpayer” or “the Company”), had two separate business divisions, one of which
was a unit registered under the Software Technology Park of India scheme
(hereinafter referred to as “STPI Unit”). The Company had claimed a
relief under section 10A of the Act in respect of the said STPI
unit, prior to setting off of brought forward losses and depreciation.
However, during the course of the
assessment proceedings the Assessing Officer (“AO”) held that relief under
section 10A of the Act is to be provided after setting off all brought forward
losses within the context of section 32(1) read with section 72(2) of the
Act. Accordingly, the relief under section 10A was recomputed at Nil,
after setting off the losses under section 72 of the Act.
In appeals, the Commissioner
of Income tax (Appeals) [CIT (A)] ruled in favour of the Company by holding
that total income used in the provisions of section 10A refers to the global
income of the Company and the income eligible for exemption has to be excluded
at source even before arriving at the gross total income. Consequently, losses
of non 10A unit cannot be set off against the income of the 10A Unit
On further appeals, the Income
Tax Appellate Tribunal (“ITAT”), upheld the order passed by the CIT(A) and
directed the AO to provide relief under section 10A of the Act without setting
off losses from non 10A Units.
The RA preferred an appeal with
KHC seeking a ruling on the following substantial question of law on the basis
of the amended provisions of the Act with effect from April 1, 2001:
“Whether the ITAT was correct in
holding that section 10A/10B deduction should be allowed in the current year
without setting off unabsorbed depreciation/business losses, either brought
forward from earlier years or pertaining to the current year, either in the
case of a non-STP/EOU unit or in the case of the very same unit”
Contention of the Revenue
·
Section 10A [and Section 10B(1)] of the Act
provides for profits and gains derived by an undertaking from exports shall be
allowed as a deduction from the “total income of the assessee” in accordance
with the computation formula laid down under section 10A(4).
·
Subsequent to April 2001, based on a harmonious
reading, the carry forward losses of business have to be set off against
profits of the undertaking before arriving at total income of the assessee and
consequently, the CIT(A) and ITAT’s interpretation is contrary to the statutory
provisions.
Taxpayer’s Contention
·
Section 10A of the Act finds a place in Chapter-III
of the Act which deals with incomes which generally do not form part of
the total income.
·
Under section 72(1), what could be set off against
the profits earned is the carry forward losses or depreciation, which is to be
taken into consideration at the stage of computation of income under Chapter VI
of the Act.
·
Consequently, the order passed by the ITAT and the
CIT(A) is in conformity with the scheme of the Act and does not call for
interference.
Ruling of the KHC
The KHC has upheld the order of
the ITAT in favour of the taxpayer, with the following observations:
10A being
an exemption vs Deduction section
·
Even subsequent to the amendment with effect from
April 1, 2001, sections 10A/10B of the Act, providing a deduction of profits
and gains of an eligible undertaking (as against exemption, pre amendment) are
placed in Chapter III which pertain to “incomes which do not form part of total
income”.
·
A literal reading requires a deduction from the
total income. The scheme of the Act provides for deduction
in computing total income, but the Act does not contain any mechanism
for any deduction from the “Total Income” as defined under the Act and the
only next step envisaged at this stage is determination of the tax liability.
·
The phrase “total income” has been used in the Act
in several places with different connotations and shades. The relief
under section 10A/10B is with reference to the STPI undertakings and not to the
assessee. The relief travels with the undertaking, irrespective of who
owns the same and consequently the computation of relief is also with reference
to the undertaking. The phrase total income used in section 10A(1) is
therefore to be understood as the total income of the STPI unit.
·
The placement, language and setting of section 10A
cannot mean the total income computed in accordance with the provisions of the
Act, and instead means profits and gains of the STPI undertaking as understood
in its commercial sense.
·
The relief under section 10A of the Act, is in the
nature of exemption, although termed as a deduction and the said relief is in
respect of commercial profits. Such income is neither subject to charge of
income tax nor is includible in the total income and accordingly such income is
not liable to be computed under Chapter IV of the Act. Hence, the correct
view would be that relief under section 10A will have to be given prior to
Chapter IV, dealing with computation of income under various heads
·
To summarise, income of the 10A unit has to be
excluded before arriving at the gross total income and the said income of the
Unit has to be deducted at source itself, and not after computing the gross
total income. Total income in context of section 10A means the global
income, rather than the total income as defined under the Act.
On setting off the brought
forward losses prior to tax holiday claim under section 10A /10B of the Act
·
On the second substantial question of law dealing
with setting off the losses, the KHC observed that provisions of section 10A
and 10B of the Act were amended with an intention of providing the benefit of
carry forward of depreciation and business losses relating to any year of the
tax holiday period to be set off against income of any year, post the tax
holiday. This has been also clarified vide Circular 7 of 2003 issued by
the Central Board of Direct Taxes.
·
Consequently and in order to give effect to the
legislative intention of allowing the carry forward of depreciation and loss
suffered in respect of any year during the tax holiday period, for being
set off against income post tax holiday, it is necessary that notional
computation of business income and depreciation as per the Act be made for each
of the tax holiday years.
·
While so computing, the amount of business loss and
depreciation remaining unabsorbed at the end of the tax holiday period, needs
to be determined to enable set off post tax holiday.
·
Reliance has been placed on the Mumbai High Court’s
ruling in the case of Hindustan Unilever Ltd Vs Deputy Commissioner of Income
tax and Others (325 ITR 102) and the Madras High Court in the case of Madras
Machinery Tools Maintenance Ltd vs CIT ( 75 98 ITR 119) and the Forms listed in
Income Tax Rules 1962 to conclude that where an assessee has more than one
undertaking for the purposes of section 10A, it is the profit derived from
exports from the business of the undertaking alone that has to be taken
into consideration and such profit is not to be included in the total income.
·
As the income of the 10A unit has to be excluded at
source itself, before arriving at the gross total income, the loss of non 10A
unit cannot be set off against the income of the 10A unit under section 72 of
the Act. Similarly, the question of unabsorbed business loss being
set off against profits and gains of the undertaking would not arise.
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