Deductions under Chapter VI-A of the Income-tax Act, 1961, cover important benefits like tax holiday provisions. These deductions are generally based on the profits earned, eg. under sections 80-IA, 80-IB, etc. All these deductions are available from the gross total income.
The moot question which arises is whether the gross total income can be made into a positive figure by not claiming depreciation which is generally a substantial charge on the profits of an industrial undertaking during the initial years. The Supreme Court of India has held in CIT v. Mahendra Mills (243 ITR 56) that it is optional for an assessee to claim the depreciation under section 32 of the Act.
In this regard, it may be pointed out that under Explanation 5 to section 32(1)(ii) it has been provided, with effect from the assessment year 2002-03, that the depreciation would have to be allowed whether or not the assessee has claimed it while preparing his return of income. However, as far as deductions under Chapter VI-A are concerned, the question which has to be considered is whether the deductions under this Chapter can be claimed where the gross total income has been shown at a positive figure by not claiming the depreciation allowance, even in respect of earlier assessment years when Explanation 5 was not in force.
This point was considered by the Full Bench of the Bombay High Court in Plastiblends India Ltd. v. CIT (318 ITR 352). This case pertained to the assessment year 1997-98. The assessee computed the deduction under section 80-IA by not deducting depreciation from the profits of the industrial undertaking. This resulted in a positive figure of gross total income which enabled the company to claim the deduction under section 80-IA. This was done so that the depreciation would be available in the subsequent years after the tax holiday benefit expired because the actual cost would remain at its original figure as a result of depreciation not being claimed in the earlier years.
The assessee-company relied on the decision of the Supreme Court in the case of Mahendra Mills which laid down that if the assessee does not claim depreciation, it cannot be thrust on it. The assessee-company also relied on the fact that Explanation 5 to section 32(1)(ii) would only apply for the assessment year 2002-03 and subsequent years. Hence, for the earlier years, the assessee was free not to claim depreciation and inflate its gross total income so that deduction under section 80-IA would be available.
On the other hand, the Department contended that the decision in the case of Mahendra Mills had not laid down any proposition of law that, by not claiming depreciation, the assessee can claim enhanced deduction allowable under another provision of the Act.
The Bombay High Court considered the decisions of the Supreme Court in Liberty India v. CIT (317 ITR 218), CIT v. Williamson Financial Services (297 ITR 17) and CIT v. Doom Dooma India Ltd. (310 ITR 392), in which it was held that section 80-IA is a code by itself and the deduction allowable is a special incentive which is linked to profits. The apex Court has held that this section contains both substantive and procedural provisions and any device adopted to reduce or inflate the profits of the eligible business has to be rejected.
The High Court held that the assessee in the case of Plastiblends India Ltd. was inflating its profit-linked incentive under section 80-IA by not claiming the depreciation. The Bombay High Court rejected the argument of the assessee that the ratio of the Supreme Court?s decision in the case of Distributors (Baroda) P. Ltd. v. Union of India (155 ITR 120) supported its contention that, where depreciation is not claimed, the profits included in the gross total income are eligible for deduction under section 80-IA. In this case, the issue was whether deduction under section 80-M was to be computed after deducting the interest payable on monies borrowed for earning dividend.
The Supreme Court held in this case that the benefit of deduction under section 80-M had to be with reference to the dividend computed in accordance with the provisions of the Act, and not with reference to the full amount of dividend. Hence, the interest paid on the monies borrowed which was invested in shares for earning dividend, was to be allowed as a deduction and only the net dividend was eligible for deduction under section 80-M. The Supreme Court, in this case, also held that section 80-M cannot be interpreted in a manner so as to confer additional benefit than what is contemplated under Chapter VI-A of the Act.
Thus, the Bombay High Court concluded that the decision of the apex Court relied on by the assessee was, in fact, in favour of the revenue because the gross total income had to be determined after claiming all the deductions allowable under sections 30 to 43-B of the Act. Any device to reduce or inflate the profits of a business has got to be rejected.
The Bombay High Court further held that its earlier decisions in the cases of Grasim Industries Ltd. v. CIT (245 ITR 677), and in Indian Rayon Corporation Ltd. v CIT (261 ITR 98) supported the view which was taken in Plastiblends India Ltd. that the deductions under Chapter VI-A are linked to profits. Further, the profits, for the purpose of deduction under Chapter VI-A, have to be determined after allowing all deductions under sections 30 to 43-B. Hence, the deduction under section 80-IA is not dependent upon the assessee claiming or not claiming depreciation, because the quantum of this incentive has to be determined by computing the total income from business after allowing all deductions under sections 30 to 43-B.
Consequently, though the assessee had the option not to claim the depreciation for an assessment year prior to assessment year 2002-03 in view of the judgment of the Supreme Court in the case of Mahendra Mills, for the purpose of claiming the deduction under Chapter VI-A, the tax department would be entitled to compute the depreciation and allow it as a deduction for computing the gross total income. The deductions under Chapter VI-A would then be restricted to the figure of the gross total income and, in case the gross total income was negative, no deduction would be allowable under Chapter VI-A.
Needless to add, the aforesaid Full Bench decision is likely to be challenged in the Supreme Court which would set at rest the controversy in respect of incentive-based deductions claimed prior to the assessment year 2002-03.