The reason for the proposition to abolish income tax computation provisions is rooted in the computation provisions acting as a fountain-head of disputes and consequent litigation. The computation provisions for business income are very complex and spread over four chapters. These includes the provisions regarding deductibility of expenses, deductions and incentives accelerated allowance adjustment on cash basis for certain expenses and adjustment and treatment for losses. Most of these provisions have been in vogue for many years and some for many decades. These provisions are then supplemented by the rules. The provisions and rules, despite having been in practice for many years, have not matured on interpretation.
A quick research on the disputes on the interpretation of the provisions for the last ten years shows that over 37% of all reported cases during this period pertain to the computational provisions.
The result of application of all computational provisions yielded an effective tax rate (computed as a percentage of book profit as given in Part A of the revenue foregone statement) of 22.44% for FY13. A quick glance on the trend of the same over the last three years shows that it has moved from 22.44% to 24.10%, i.e., within a range of less than 2%.
On the other hand rate of minimum alternate tax (MAT) over the same period has been near-20%.
The research also shows that the MAT provisions, which have been there for over two and half decades, have achieved comparatively greater maturity in terms of interpretation. Over the same period, whereas computational provisions contributed over 37% of the litigation, the MAT provisions’ share in the disputes was less than 3%.
Clearly, the computational provisions result in more than ten times the litigation that MAT, which is based on book profits, does.
The proposition, therefore, is to abolish all the computational provisions for business income, which can then be substituted with the application of a book-profit-based tax. To achieve the revenue neutrality, MAT may be calibrated by the industry or any of the other classes of taxpayers.
It may be argued by another school of thought that book-profit-based tax may not be applicable to all earners of business income. In that case, it is recommended that the MAT be applied to all the cases where the taxpayers are anyway required to maintain accounts and get them audited under Section 44AB of the Income Tax Act. When the accounts are mandatorily required to be maintained and audited, it would not constitute additional administrative burden on taxpayers and, at the same time, it would be much simpler and easier both for the taxpayers and revenue to use the book profit as the tax base. Another argument against this proposition could be raised that the computation of book profit may give more than necessary flexibility (and therefore opportunity to avoid taxes) to the taxpayers. Here, two important aspects need to be noted. First, over an economic cycle (typically 5 to 7 years), the recognition of all income and expenses takes place even where differing accounting policies are followed. It is only acceleration or deferment of certain items that may impact the profit base of a particular year over the economic cycle of the business; such effects can be neutralised—for instance, if there is a higher depreciation in year one, in the subsequent years it would be less. Similarly, if the closing stock is valued less in year one, the next year, with the same being the opening stock, the impact would be reversed. In addition, the provisions regarding bringing to tax any unexplained
investment, expenses and credits
are recommended to be continued to safeguard the interest of Indian revenue and to act as a deterrent for any tax evasion.
To conclude, it is recommended that in the respect of the taxpayers with business income—who are any way required to get their accounts audited—the tax computation should be made on the book profit shown in profit-and-loss account after adjusting any book losses that remain unabsorbed from the past years. To align the taxation of businesses with the policy on tax holiday, the same may be built into, for a given period, the book-profit-based tax system as well. This would first make the tax computation for business income simple, easy to administer and consistent with the economic outcome of the businesses, making taxation less vulnerable to disputes and litigation.
The author is partner and leader (direct tax), PwC India.
Views are personal
Rahul Garg
