Set off of losses Overview and important issues

Transcription

1 Set off of losses Overview and important issues

2 Table of Contents 1 Overview of Chapter VI 2 Is set off mandatory 3 Business loss 4 Set off in certain special cases 5 Unabsorbed Depreciation 6 Losses on amalgamation / demerger / business reorganization 7 Restriction on carry forward of losses 8 Carry forward of loss on succession of business

3 Overview of Chapter VI 1

4 Introduction Section 1 Overview of Chapter VI Concept of set off and carry forward of losses Set-off It means adjustment of losses against the profits from another source in same or another head (subject to exceptions as provided in the Act) in the same Assessment year). Carry forward If losses cannot be set-off in the same year due to inadequacy of eligible profits, then such losses are carried forward to the next assessment years for adjustment against the eligible profits of that year. 2

5 Overview of Chapter VI Section 1 Overview of Chapter VI Snapshot of sections Flow of computation Overview of Chapter VI Section Subject Computation of income from a source Inter head adjustments (section 71) Intra head adjustments (section 70) Set off of brought forward losses 70 Intra head adjustments 71 Inter head adjustments 71B Carry forward and set off of loss from house property 72 Carry forward and set off of business losses 72A Amalgamation / Demerger / Reorganization 73 Speculative business 73A Losses of specified businesses Computation of total income / loss to be carried forward 74 Capital loss 74A Loss from owning and maintaining horses 78 Change in constitution of firm 79 Carry forward and set off of closely held companies 80 Submission of return for losses 3

6 Overview of Chapter VI Section 1 Overview of Chapter VI Intra-head set off Various sources of income under the same head Income from Salary Dual employment Income from House Property House 1 Self occupied House 2 Let-out Income from Capital gains LTCG STCG Profits and gains from business/profession Speculative business Specified business Non-speculative business Income from Other Sources Interest income Business of owning and maintaining race horses Casual income 4

7 Overview of Chapter VI Section 1 Overview of Chapter VI Exceptions to Intra-head set off Current year Loss from speculation business cannot be set of against profit from a non speculation business. Loss from business specified under section 35AD cannot be set off against any other income except income from specified business LTCL can only be set off against LTCG and cannot be set off against STCG. Loss from the business of owning and maintaining race horses can only be set off against income from same business No loss can be set-off against casual income and it is fully taxable Section 58(4) No expenses can be claimed against casual income Loss from an exempted source cannot be set off against taxable Income 5

8 Overview of Chapter VI Set off of current year losses Head adjustment summary Section 1 Overview of Chapter VI Business / Profession Capital Gains Other Sources Heads Salary House Property Non Speculative 35AD business Speculative Long term Short term Owning & maintaining race horses Casual Income* Others House Property loss Speculative biz loss Loss from 35AD biz Non speculative biz loss Long term capital loss Short term capital loss X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X X Loss from business of owning horse X X X X X X X X X * Includes income from winnings from lotteries, crossword puzzles, race including horse race, card game, and any other game of any sort or from gambling or betting of any form or nature. 6

9 Overview of Chapter VI Section 1 Overview of Chapter VI Set off of brought forward losses Type of Loss brought forward Income of current year Years House property loss Income from house property 8 years Speculation loss Speculation profits 4 years Non speculation business loss: o Loss from business specified u/s 35AD o Unabsorbed depreciation o Scientific research o Family planning expenditure o Other business losses Income from business specified u/s 35AD Any income except Income from Salaries and casual income Any business income - Speculative/non speculative/35ad No time limit No time limit 8 years Short term capital loss Short and long term gains 8 years Long term capital loss Long term capital gains 8 years Loss from activity of owning & maintaining race horses Income from such activity 4 years 7

10 Overview of Chapter VI - Illustration Section 1 Overview of Chapter VI Setting off of STCL(taxed at lower rate) against STCG (taxed at higher rate) Particulars Tax Rate Amount STCG (Equity MF) 15% 75 STCG (Debt MF) 30% 200 STCL (Equity MF) - (50) Options available for set-off: Option 1: The STCL can be set off against the STCG ( Debt MF) Beneficial to the assessee; or Option 2: The STCL can be set off against the STCG (Equity MF). Case laws allowing the issue in favor of the assessee Diamond Co. Ltd. (ITAT Kolkata) (2016) (76 taxmann.com 127) M/s. T.Rowe Price International Discovery Fund (ITAT Mum) (2013) (ITA 7627/2011) First State Investment (Hong kong) Ltd. reported in 33 SOT 26 (ITAT Mum) (2009) 8

11 Overview of Chapter VI - Capital Loss Section 74 Section 1 Overview of Chapter VI Long term capital loss v. Gain on sale of depreciable asset Manali Investments v. ACIT (Bom HC) (ITA No / Mum. / 2008) Issue Permissibility to set off long term capital loss against capital gains arising on sale of depreciable assets deemed as short term capital gain by virtue of deeming provision under section 50 of the Act. Facts The assessee sold certain depreciable assets which were held for more than 36 months. The gain on such sale was shown as long term capital gain and was set off against the brought forward long term capital loss. Department s contention Tribunal s decision AO did not accept the claim of the assessee by treated it as short term capital gain and disallowed the set off of losses from long term capital assets. CIT(A) also rejected the claim of the assessee and confirmed the order of the AO. The deeming provision of Section 50(2) of the Act can be extended only up to the computation of depreciable assets. The fiction created by the deeming provisions cannot be extended beyond the object for which it was enacted (i.e.) computation of capital gains on disposal of depreciable assets. Tribunal held that the assessee is entitled to set off long term capital loss against the gain on sale of depreciable assets. 9

12 Overview of Chapter VI - Capital Loss Section 74 Section 1 Overview of Chapter VI Set off of brought forward business loss against gain on sale of depreciable asset Digital Electronics Ltd vs. ACIT, ITA No.1658 (Mum.) 2009 (ITAT) Issue Whether gain on sale of depreciable assets can be adjusted against brought forward business losses? Facts Decision The taxpayer claimed set off of b/f business losses against STCG on sale of depreciable assets. The AO being of the view that as per section 72 b/f business losses can be set off only against profits and gains of business or profession, issued SCN to the assessee. In reply, the assessee contended that profit realized on sale of business assets, being business income, unabsorbed business loss could be set off against the said profit. Section 72 provides that where for any assessment year, if there is an unabsorbed business loss, not being a loss sustained in a speculation business, such unabsorbed business is allowable for being set off 'against the profits, if any, of any business or profession carried on by him and assessable for that assessment year'. Thus for setting off the income there is no requirement of the gains should be taxable under the head 'Profits and gains of business or profession. As long as gains are 'of any, business or profession carried on by the assessee and assessable to tax for that assessment year', the same can be set off against business loss carried forward from earlier years. 10

13 Overview of Chapter VI Section 1 Overview of Chapter VI Set off of brought forward losses Return filing compliance Type of Loss brought forward Whether return of income is required to be filed within the due date mentioned u/s 139(1) to carry forward the losses House property loss No Speculation loss Yes Non speculation business loss: o Unabsorbed depreciation No o o Scientific research Family planning expenditure o Loss from business specified u/s 35AD Yes* o Other business losses Yes Short term capital loss Yes Long term capital loss Yes Loss from activity of owning & maintaining race horses Yes Yes CIRCULAR 9/2015 [F.NO.312/22/2015-OT], DATED Delay in filing claim for refund/ carry forward of losses may be condoned by Principle CIT/CCIT/CBDT on application being made, subject to criteria and guidelines prescribed *Amendment brought about in the Finance Act

14 Overview of Chapter VI Set off of brought forward losses Section 1 Overview of Chapter VI Order of set off for business losses* Order of set off against the current year business income Current year expenditure on Scientific research 35(1) and family planning 36(1)(ix) Current year depreciation 32(1) Because this is the first charge on the receipt in the P&L account Brought forward business loss 72(1) Unabsorbed family planning expenditure Unabsorbed Depreciation 32(2) Unabsorbed capital expenditure on Scientific research 35(4) The Supreme Court in the case of CIT v. Mother India Refrigeration Industries (P.) Ltd. (1985) 155 ITR 711 (SC) has taken a contrary view that UD should be given preference over unabsorbed business losses 12

15 Is set off mandatory 13

16 Is set off mandatory Option to the assessee Section 2 Is set off mandatory Unabsorbed depreciation must have been carried forward without interruption Hiralal Jeramdas v. CIT (1965) 58 ITR 1 (Bom.) The unabsorbed losses must enter the assessment of every following year for ascertaining whether they could be set off against profits and gains of any business, profession or vocation. It is only when it is found in each year that they could not be so absorbed then they are allowed to be carried forward to the next year and so on. Section 72 provides for carry forward of loss only when such loss cannot be set off against the income under any head. There is no provision under the Act which gives option to the assessee to show the profit as income and carry forward the loss from another source to the next year for set off. Assess does not have option to defer the set off CIT v. Milling Trading Co. P Ltd. (1994) 76 Taxman 389 (Guj.) Partial set off and partial carry forward G. Atherton & Co. v. CIT (1989) Tax LR 13 (Cal.) The section does not permit the assessee to have only part of the loss to be set off against income from other heads and carry forward the balance. Such a principle would be contrary to accepted principles of accounting and will not reflect the correct income of the assessee in any particular year. 14

17 Is set off mandatory Section 2 Is set off mandatory Option to the Assessing Officer AO must allow set off even if it is not claimed CIT v. Mahalakshmi Sugar Mills Co. Ltd. (1986) 160 ITR 920 (SC) There is a duty cast on AO to apply the relevant provisions of the Act for the purpose of determining the true figure of the assessee s taxable income and the consequential tax liability. Merely assessee has not claimed set off of losses does not relieve the AO from his duty to set off the losses. Right to carry forward to be decided by AO in year of set -off CIT v. Manmohan Das (1966) 59 ITR 699 (SC) Whether a loss can be carried forward to the subsequent year and set off against the profits and gains of business under section 72 has to be determined by AO dealing with the assessment of subsequent year. In other words, a decision recorded by the AO who computed the loss in the PY that the loss cannot be set off against the income of the subsequent year is not binding on the assessee. Duty on AO to rectify Kanaka Films P Ltd v ITO (1989) 177 ITR 88 (Mad HC) If c/fd is later allowed in revision or as a result of a reference and by that time assessment for the following years are completed, the AO is duty bound to rectify the subsequent assessments by allowing proper set off. It is understood from the above precedents that set off of losses is a mandatory exercise in computation of income. Neither the assessee nor the tax authorities have any option to defer the set off of losses unless the same cannot be absorbed by the current year s income. 15

18 Is set off mandatory Section 2 Is set off mandatory Set off of loss from exempt sources against taxable income Raptakos Brett & Co Ltd vs DCIT, (Mum ITAT) ( June 2015) Issue Whether the long-term capital loss from sale of equity shares (STT paid) can be set off against longterm capital gain from sale of land. Facts The taxpayer, in its computation of income, had set off long-term capital loss on sale of shares and mutual funds units against the long-term capital gains arising from sale of land. The Assessing Officer held that the losses claimed could not be allowed to be set off since the income from long-term capital gain on sale of shares and mutual funds which was exempt under section 10(38). Decision The concept of income includes loss will apply only when entire source is exempt or is not liable to tax and not in the case where only one of the income falling within such source is treated as exempt. Section 10(38) excludes in expressed terms only the income arising from transfer of long-term capital asset being equity share or equity fund which is chargeable to STT and not entire source of income from capital gains arising from transfer of shares. It does not lead to exclusion of computation of capital gain of long-term capital asset or short-term capital asset being shares. Accordingly, long-term capital loss on sale of shares would be allowed to be set off against long-term capital gain on sale of land in accordance with section 70(3). 16

19 Is set off mandatory Section 2 Is set off mandatory Applicability of set-off to clubbed income Losses can be set off against income included under section 64 CIT v. J.H. Gotla (1985) 156 ITR 323 (SC) Issue Whether the clubbed income / loss can be set off against the income / loss of the person in whose hands such income is clubbed. Facts X has brought forward losses of earlier years. During the year, the assessee set of such losses against his income and also the income of his spouse which was clubbed in his hands. Decision Where section 64 operates, profit / loss from business of spouse included in total income of assessee should be treated as profit / loss of business carried on by him for carry forward and set off of loss under section 72 of the Act. The provisions of set off and carry forward of losses also applies to clubbed income 17

20 Business loss 18

21 Business Loss Section 72 Section 3 Business loss Eligible undertaking under section 10A, 10AA, 10B and 10BA CBDT Circular (File No. 279/Misc./M-116/2012-ITJ dated 16 July 2013) Controversy Issue CBDT Clarification The issues of set off and carry forward of losses in relation to section 10A, 10AA, 10B and 10BA of the Act. Permissibility to set off the losses of undertaking not eligible to deduction under section 10A / 10AA / 10B / 10BA ( ineligible undertaking ) against the profits of undertaking eligible for deduction under section 10A / 10AA / 10B / 10BA ( eligible undertaking ) The following income/losses would need to be aggregated: The income / loss from various sources (i.e.) eligible and ineligible units under the same head (in accordance with section 70 of the Act); and The income from one head with the income / loss of another head (in accordance with the provisions of section 71 of the Act). CBDT circular binding on the department. However, they are not binding on the assessee and Courts. Resultant loss from eligible unit after aggregation Eligible for carry forward and set off in accordance with section 72 of the Act Resultant income from eligible unit after aggregation Eligible for deduction in accordance with Chapter VI-A or section 10A, 10AA, 10B or 10BA of the Act 19

22 Business Loss Section 72 Section 3 Business loss Eligible undertaking under section 10A, 10AA, 10B and 10BA CIT v. Yokogawa India Ltd. & Ors. ITA No. 78 of 2011 (Kar.) ACIT v. Karle International P Ltd ITA No. 381 / Bang / 2012 Issue Business loss and unabsorbed depreciation of the same year or brought forward from earlier years could not be set off against the income of the unit eligible for tax holiday benefit under section 10A/10B Facts The exemption u/s 10A of the Act was computed before set off of brought forward business loss and unabsorbed depreciation by the taxpayer. The AO recomputed the section 10A benefit to adjust the b/fd business loss and unabsorbed depreciation of non-10a unit and the AO held that the taxpayer was not entitled to exemption u/s 10A of the Act. Decision It is clear that the intention of the legislature was to provide benefit of c/fd of depreciation and business loss relating to any year of tax holiday period and set off against income of any year post tax holiday. This is also supported by the Circular No. 7 of 2003 issued by the CBDT. In order to give effect to the aforesaid intention, it is necessary that the normal computation of business income and the depreciation as per the provisions of the Act should be made for each year of tax holiday period. The amount of depreciation and business loss remaining unabsorbed at the end of tax holiday period should be determined so that the same may be set off against the income post tax holiday period. Since the income of 10A unit has to be excluded from the total income of the taxpayer, the question of unabsorbed business loss/depreciation being set off against such profit and gains of the undertaking would not arise. 20

23 Business Loss Section 72 Section 3 Business loss Eligible undertaking under section 10A, 10AA, 10B and 10BA Himatasingike Seide Ltd. v. CIT Supreme Court (September 2013) Facts Decision The assessee set up a 100% EOU in AY For want of profit, it did not claim 10B benefit in AY B exemption is claimed from AY In AY , assessee computed profits of EOU without adjusting brought forward unabsorbed depreciation of AY It claimed 10B exemption for entire profits of EOU and adjusted brought forward unabsorbed depreciation against other income The intention of the Legislature is only to provide 100 per cent exemption for export income and not for other income. The assessee, by dividing depreciation contrary to section 32, had virtually taken exemption from payment of tax even for other business income Special income were required to be computed as per provisions of section 29 to 43A which included section 32(2) of the Act. Therefore, one cannot exclude depreciation allowance which computing profits of undertaking. Hence, the Karnataka High Court reversed the decision of Tribunal and held that brought forward depreciation loss had to be adjusted against profits of EOU before computing 10B exemption. The Supreme Court was of the opinion that Civil appeal filed by the assessee, being devoid of merits deserves to be dismissed and dismissed the appeal accordingly, ruling in favour of the Revenue. 21

24 Business Loss Section 72 Section 3 Business loss Eligible undertaking under section 10A, 10AA, 10B and 10BA - Summary Section amendment 2003 Section 10A(6) restricting carry forward of business losses and unabsorbed depreciation of eligible undertakings was amended w.r.e.f 01 April 2001 Kar HC decision 2012 Yokogawa : Losses of ineligible units not to be set off with eligible units, carry forward of losses of eligible and ineligible units to be set off after tax holiday period CBDT Circular July 2013 Aggregation of CY losses against income of eligible/ineligible units and only net income eligible for 10A/ net loss eligible for carry forward Contrary SC decisions Himatasingike : Unfavourable ruling (2013) Yokogawa : Upheld Karnataka HC decision (2016) Current Scenario: Section was amended by Finance Act 2017 w.e.f AY Deduction under section 10AA shall be allowed from total income of the assessee; deduction shall not exceed total income 23

25 Business Loss Section 72 Section 3 Business loss Eligible undertaking under section 80-IA of the Act Set off of losses of eligible units against non eligible units Issue Mumbai Tribunal Set off of loss from eligible unit against income of non eligible units and Notional set off of such losses already set off against the income of eligible unit in the year in which 80-IA deduction is claimed. The initial AY would be the year in which the eligible unit commences production and not year in which deduction is first claimed by the taxpayer. Losses of eligible units can be set off against the other income. However, despite the above set off, loss has to be aggregated and notionally set off against the future profits of eligible unit. Facts Year 1 - Loss Notional set off of initial years losses Year 2 - Loss Year 3 - Profit Year 4 - Loss Year 5 - Profit Issue Chennai ITAT, Kar & Mad HC Notional set off of initial years losses against the income of eligible unit in the year in which 80- IA deduction is claimed. If the initial AY is considered to be the year of commencement of business, the purpose of providing the option would be defeated. Therefore held that the initial AY would be the year in which the deduction is first claimed by the taxpayer. Losses of past years (prior to initial AY ) are not required to be notionally set off against the profits earned in the first year of the claim for deduction. 24

26 Business Loss Section 72 Section 3 Business loss Eligible undertaking under section 80-IA of the Act Year Income from eligible unit (A) Income from non eligible unit (B) Adjustment of b/f losses Gross total income 80-IA deduction Total income Loss to be c/f Year 1 (4,000) 2, (2000) Year 2 (3,000) 5,000 2, Year 3* 2,000 3,000-5,000 2,000 3,000 Year 4 (1,000) 2,000-1,000-1,000 Year 5 1,000 2,500-3,500 - ** 3,500 * First year of 80-IA claim ** 80-IA deduction not available on account of notional set off of loss of Year 4 against income of Year 5 25

27 Set off in certain special cases 26

28 Set off in certain special cases Section 4 Set off in certain special cases Set off of losses against undisclosed income Section 115BBE Amendment: Benefit of set off of losses will not be available against income added back under section 68/69/69A/69B/69C/69D Finance Act 2016 has been amended to not allow offsetting of losses against income charged to tax as unexplained credit/investments/money/expenditure. This amendment will take effect from 1st April, 2017 and will, accordingly, apply in relation to the assessment year and subsequent years Decisions allowing set off Undisclosed income would form part of IFOS Chensing Ventures (291 ITR 258) (Mad HC) (2007) CIT v. Shilpa Dyeing & Printing Mills (P.) Ltd. [2013] 219 Taxman 279 (Guj HC) K.R.Automobiles V ACIT (ITAT Ahm)(2014) Decisions denying set off Undisclosed income does not fall under any head of income Kerala Sponge Iron Ltd. vs. CIT (2015) (Ker HC) Fakir Mohamed Haji Hasan v. CIT [2001] 247 ITR 290/[2002] (Guj.) 27

29 Set off in certain special cases Income under section 115BBD of the Act Section 4 Set off in certain special cases Section 115BBD(2) of the Act Notwithstanding anything contained in this Act, no deduction in respect of any expenditure or allowance shall be allowed to the assessee under any provision of this Act in computing its income by way of dividends referred to in sub-section (1). Issue Meaning of the term allowance. Whether the provisions intend to curtail the set off of losses and unabsorbed depreciation against the dividend received from foreign company. Possible view The term allowance includes current year depreciation and unabsorbed depreciation as depreciation is referred as an allowance under section 32 of the Act. However, the term expenditure or allowance in non obstante clause u/s 115BBD(2) of the Act does not extend to include business loss. Hence, a view is possible that unabsorbed depreciation cannot be set off against the income taxable u/s 115BBD of the Act. But current year business losses can be set off against such income. Alternatively, where losses are set off against the subsequent year s business income, it could lead to a tax shield of 30% as against 15% in case the same is set off against dividend income. Hence, set off of losses against subsequent year s income could be subjected to contention. Finance Bill 2016 : Section 115BBDA : No deduction in respect of any expenditure or allowance or set off of loss shall be allowed to the in computing the income by way of dividends (exceeding INR 10 lakhs) 28

30 Unabsorbed Depreciation 29

31 Unabsorbed Depreciation Section 5 Unabsorbed Depreciation Legislative evolution Till AY Carry forward for indefinite period Set off against any head of income permitted From AY to AY Carry forward only for 8 assessme nt years Set off only against business income From AY to till date Carry forward for indefinite period Set off against any head of income permitted 30

32 Unabsorbed Depreciation Section 5 Unabsorbed Depreciation Change in law DCIT v. Times Guarantee Ltd. (2010) 4 ITR 210 (Mum. ITAT) Till AY AY AY AY Till date Facts Unabsorbed depreciation could be set off against any head of income. Unabsorbed depreciation could be set off only against any business income. Unabsorbed depreciation could be set off against any head of income (original position restored). Issue Whether the unabsorbed depreciation relating to AY to could be set off against non business income? Decision Section 32(2) of the Act uses the present tense to refer to allowance to which effect cannot be and has not been given. If the intention of the legislature had been to allow such b/f unabsorbed depreciation of earlier years at par with current depreciation for the year u/s 32(1), section 32(2) would have used past or past prefect tense and not the present tense. Unabsorbed depreciation of the earlier period is allowable under the new provision but has to be dealt with in accordance with the old provision and is subject to the limitation of being eligible for set-off only against business income and for 8 years. 31

33 Unabsorbed Depreciation Section 5 Unabsorbed Depreciation Change in law DCIT v. General Motors India P Ltd. TS-641-HC-2012 (Guj) Issue Whether the unabsorbed depreciation relating to AY to could be set off against non business income? Decision Second amendment Unabsorbed Depreciation is allowed to be carried forward for an indefinite period. Any Unabsorbed Depreciation available to a taxpayer, as at the beginning of tax year , would become part of current depreciation of tax year If the legislative intent was to restrict set off of Unabsorbed Depreciation of tax year for eight subsequent years only, even after the second amendment, the Legislature would have incorporated a specific provision to that effect. The purpose of the second amendment was to dispense with the restriction of eight years for carry forward and set off of Unabsorbed Depreciation. In the absence of a specific restriction provided by the Legislature and further, having regard to the clear language of the provision as applicable from tax year , the Taxpayer is entitled to benefit of indefinite carry forward of Unabsorbed depreciation. 32

34 Unabsorbed Depreciation Section 5 Unabsorbed Depreciation Change in law Set off of UD against business income only Particulars Brought forward UD View 1 (As per Times Guarantee case) View 2 (As per General Motors case) AY (20) (20) AY (Limitation period) (40) (40) AY (20) (20) Computation of total income for AY Income from business Set off of UD AY (20) AY (30) (10) AY Income from other sources Set off of UD AY (20) AY (30) AY (20) (20) Taxable income after set off 10 - Limitation on set off of UD only against business income No limitation on set off of UD against particular head. (Restoration of original position) 33

35 Unabsorbed Depreciation Section 5 Unabsorbed Depreciation Change in law Carry forward of UD limited to 8 years Particulars Brought forward UD View 1 (As per Times Guarantee case) View 2 (As per General Motors case) AY (20) (20) AY (Limitation period) (40) (40) AY (20) (20) Limitation to carry forward UD for 8 years Computation of total income for AY Income from business Set off of UD AY (20) (20) AY (40) AY (20) (20) Taxable income after set off No time limit for carry forward UD (Restoration of original position) 34

36 Losses on amalgamation / demerger / business reorganization 35

37 Carry forward of losses of amalgamating companies Section 72A Section 6 Losses on amalgamation / demerger / business reorganization Provisions of the section Section 72A - Losses and unabsorbed depreciation of transferor company can be carried forward by the transferee company Available if Transferor company is Company owning an industrial undertaking, ship, hotel Banking company Public sector company or companies engaged in the business of operation of aircraft (Amalgamation should be with a company engaged in similar business) Industrial undertaking Manufacture/processing of goods Manufacture of computer software Business of generation or distribution of electricity/power Telecommunication services Mining, Construction of ships, aircrafts or rail systems 36

38 Carry forward of losses of amalgamating companies Section 72A Section 6 Losses on amalgamation / demerger / business reorganization Conditions to be satisfied Conditions vis-à-vis Amalgamating company Conditions vis-à-vis Amalgamated company Engaged in business with accumulated losses for > = 3 Years Holds continuously for minimum 5 Years from the date of amalgamation, at least 3/4th of the book value of fixed asset Held continuously as on the date of amalgamation at least 3/4 th of the book value of fixed asset held by it for 2 years prior to the date amalgamation Continues business of amalgamating company for at least 5 years from the date of amalgamation To achieve production of at least 50% of the installed capacity before the end of 4 years from the date of amalgamation and to maintain the said minimum level till the end of 5 years from the date of amalgamation 37

39 Carry forward of losses of amalgamating companies Section 72A Section 6 Losses on amalgamation / demerger / business reorganization Conditions to be satisfied not in aggregate Bayers Material Science P Ltd. v. ACIT (ITA No & 6667 / Mum. ) ( 2013) X P Ltd. (Amalgamated company) Issue Conditions for carry forward and set off of accumulated loss in amalgamation are required to be complied in relation to each amalgamating company and not in aggregate. Y P Ltd. (Amalgamating company) Z P Ltd. (Amalgamating company) Facts Amalgamation of Y P Ltd and Z P Ltd with X P Ltd. X P Ltd carried forward only losses of Y P Ltd. AO contends that X P Ltd does not comply with the provisions of section 72A(2)(b)(i) of the Act (i.e.) sold assets acquired under amalgamation. In computing the asset holding acquired under amalgamation, AO included disposal of assets acquired from Z P Ltd. also. Decision The requirement of 75% fixed asset holding acquired under the scheme of amalgamation for minimum period of 5 years should be complied in relation to each amalgamating companies. In the present case, X P Ltd sold only 10% of assets acquired from Y P Ltd and had rightly claimed set off of losses of Y P Ltd alone. The order of AO including the disposal of assets acquired from Z P Ltd also and disallowing the set off of losses is not sustainable. 38

40 Carry forward of losses of amalgamating companies Section 72A Section 6 Losses on amalgamation / demerger / business reorganization Set off of losses of cooperative societies Rajasthan R.S.S. & Ginning Mills Fed. Ltd. v. DCIT (2014) 45 taxmann.com (SC) Issue Whether the amalgamated society could claim the set-off of losses of amalgamating co-operative societies against its profits? Facts Department s contention Amalgamation of 4 cooperative societies into 1 by transfer of assets and liabilities. The AO disallowed the claim of transfer and set off of accumulated losses against profits of amalgamated society. Registration of the amalgamating societies had been cancelled upon the amalgamation and were not in existence at the time when the taxpayer was assessed. As per the conjoint reading of Section 72 and 72A of the Act only company could avail the benefit of set off of losses. The tax statute should be interpreted very strictly as there is no equity in tax matters. Decision Carry forward of losses has been made only with regard to amalgamation of companies and later on similar provisions were made with regard to banks, etc. There was no such provision, which would permit the amalgamating co-operative society. The societies and companies belong to different classes. Simply because both have a distinct legal personality, it could not be said that both ought to have been given the same treatment. The amalgamated society could not claim the set-off of losses of transferor societies. 39

41 Carry forward of losses of amalgamating companies Section 72A Meaning of industrial undertaking Section 6 Losses on amalgamation / demerger / business reorganization ACIT v. Apollo Hospitals Enterprises 300 ITR 167 (Mad.) (2008) Issue Whether amalgamation of hospitals constitutes industrial undertaking eligible for carry forward of losses in the hands of amalgamated hospital? Facts Amalgamation of hospital with another hospital. Carry forward and set off of losses of amalgamating hospital by amalgamated hospital. Decision When the term 'industrial undertaking' has been well defined in the Act, which is the matter on hand, the contentions of the respondent based on the judgments delivered prior to the introduction of such amendment to the Income-tax Act and the definition rendered for the same term under the Industrial Disputes Act, 1947, cannot be accepted. Since admittedly, both the amalgamating and amalgamated enterprises are only 'hospitals', and when hospitals are not brought into the folder of 'industrial undertakings' by Section 72A(7)(aa), neither the amalgamating and amalgamated enterprises, which are only hospitals can be termed as 'industrial undertakings', so as to make them eligible to claim the benefits under Section 72A of the Act. 40

42 Carry forward of losses of amalgamating companies Section 72A Section 6 Losses on amalgamation / demerger / business reorganization Determination of period for which amalgamating company engaged in business CIT v. KBD Sugars & Distilleries Ltd. (2016) (Kar HC) Issue Facts Department s contention Whether the period of three years as prescribed u/s. 72A(2)(a)(i) of the Act has to be computed from the period of setting up of business or from the date of commencement of actual production? A Ltd engaged in the business of manufacture of sugar since It started work for establishment of power generation business in 2000 and commenced business from A Ltd amalgamated with B Ltd w.e.f and amalgamated company claimed b/f losses of amalgamating company for the relevant AY. AO contended that condition prescribed u/s. 72A(2)(a)(i) of the Act was not complied with since A Ltd commenced the business of power generation only from the year Hence disallowed the set off brought forward losses related to the power generation business of the amalgamating company. Decision The phrase used in the section 72A(2)(a)(i) is engaged in business not commencement of business. A Ltd engages itself in power generation business from the day when it gets involved in setting up of the business. Even otherwise, a perusal of sub-section (2) of Section 72A of the Act would go to show that it is the loss of the amalgamating company as a whole, which is set-off or c/f, and not of a particular unit or division of that amalgamating company. In that case it is evident that A Ltd is engaged in the business since Set off of b/f losses allowed to the assessee. 41

43 Restriction on carry forward of losses 42

44 Restriction on carry forward of losses Section 79 Section 7 Restriction on carry forward of losses Deemed public company Meredith Traders P Ltd v. ITO (ITA No and 3436 Mum / 2010) Y (P) Ltd 45% Y (P) Ltd Year of loss X (P) Ltd 50% 50% Year of set off X (P) Ltd Transfer of shares Z (P) Ltd Z (P) Ltd A Ltd 55% Facts X (P) Ltd had incurred certain business loss in Year 1. In Year 2, A Ltd., a public company, became a shareholder of X (P) Ltd, holding more than 51% of shares as at end of Year 2. Losses incurred in Year 1 was not allowed to be carried forward for set off against income of Year 2 on the grounds that there was change in shareholding for more than 51%. Decision In order to be categorized as a company in which the public are substantially interested, it is sine qua non that not only should it fulfill the conditions specified under the Act but also that it should not be a private company as per the Companies Act. As definition of public company under the Companies Act, 1956, public company includes a private company which is a subsidiary of a company which is not a private company. Once a company is found to be not a private company as per the Companies Act, it cannot be treated as a private company for purposes of Section 79 read with Section 2(18) of the Act and hence it would be allowed to carry forward and set of the losses of the earlier years. 43

45 Restriction on carry forward of losses Section 79 Section 7 Restriction on carry forward of losses Change in shareholding within the same shareholders Sunanda Capital Services Ltd. v. JCIT (2009) 28 SOT 484 (Mum.) Year 1 X (P) Ltd 40% 60% Y (P) Ltd Z (P) Ltd Year 2 X (P) Ltd 75% 25% Y (P) Ltd Z (P) Ltd Facts The shareholding of the Company in the year of loss was 40:60 for Y (P) Ltd and Z (P) Ltd. respectively. However, shareholding of the Company had subsequently changed to 75:25 for Y (P) Ltd and Z (P) Ltd. respectively. AO has invoked section 79 on the grounds that change in shareholding led to change in control and management. Decision In the instant case, AO had himself affirmed the claim of the assessee that there was no change in the ownership of 51 per cent of the shareholders from Year 1 to Year 2. Clause (a) of section 79 does not specify change in directorship or change in management as a test. The Assessing Officer, instead of applying this test of seeing whether there was a change in position of 51 per cent of shareholders, had gone on the basis of change in shareholding pattern and the change in management which were not the tests to be applied for coming to the conclusion whether clause (a) to section 79 applied to the facts and circumstances of the case. Hence, the assessee s case fell under exception to clause (a) of section 79 and impugned order passed by AO was to be set aside 44

46 Restriction on carry forward of losses Section 79 Section 7 Restriction on carry forward of losses Beneficial ownership for intra group share transfers 10% 12.6% A A Year of loss X (P) Ltd 10% 80% B C (P) Ltd D Year of set off X (P) Ltd 0.4% 3.2% 35% B C (P) Ltd Others D 48.8% 51% Just Lifestyle P Ltd v. DCIT (ITA No / Mum / 2012) Facts The shareholding of the taxpayer had changed by more than 51 percent. C (P) Ltd. holding 80 percent shares had transferred their holding. Even after the change in shareholding, the same group continued to control the shares of X (P) Ltd. The reference of share holders in Section 79 of the Act relates to the beneficial holding in shares. Decision D held controlling shares in C (P) Ltd. However, C (P) Ltd. being a separate legal entity, it cannot be construed that the shareholding pattern of the taxpayer has not changed in spite of transfer of shares from C (P) Ltd. to D as the holding remains within the group. The provisions of Section 79 of the Act are clearly applicable to the facts of thepresent case. Accordingly, the Tribunal denied carry forward of loss to the taxpayer. 45

47 Restriction on carry forward of losses Section 79 Section 7 Restriction on carry forward of losses Beneficial ownership for intra group share transfers A(P) Ltd X(P) Ltd 100% Year of loss Y (P) Ltd 100% 100% Year of set off 100% X(P) Ltd Z(P) Ltd Y (P) Ltd 100% 100% A(P) Ltd Z(P) Ltd Yum Restaurants India P Ltd v. CIT (ITA No. 388 / Del / 2015) Facts Z(P) Ltd is the ultimate holding company of Y (P) Ltd whose shares were initially held by X (P) Ltd. Pursuant to restructuring within the group shares of Y (P) Ltd was transferred to A (P) Ltd which is also a subsidiary of Z (P) Ltd. AO disallowed the claim of b/f loss for the relevant AY. Decision X (P) Ltd and A (P) Ltd are distinct entities even though they are AEs of Z (P) Ltd. There is nothing to show that there was any agreement or arrangement that the beneficial owner of such shares would be the holding company, Z (P) Ltd. The question of 'piercing the veil' at the instance of Y (P) Ltd does not arise. It was concluded that Y (P) Ltd cannot be permitted to set off the carry forward accumulated business losses of the earlier years. 46

48 Restriction on carry forward of losses Section 79 Beneficial ownership for intra group share transfers Section 7 Restriction on carry forward of losses AMCO Power Systems Ltd v. CIT (Kar HC) (2015) (ITA No /Bang / 2008) Year 1 X (P) Ltd 100% Y (P)Ltd Year 2 X (P) Ltd 100% 55% 45% 100% Y (P) Ltd Year 3 X (P) Ltd 45% 49% 6% Z (P) Ltd Z (P) Ltd Y (P) Ltd Z (P) Ltd A (P) Ltd Facts The shareholding of the taxpayer had changed by more than 51 percent. Y (P) Ltd. holding 100 percent shares had transferred their 45 percent holding to Z (P) Ltd (Subsidiary of Y (P) Ltd) in the year 2 and 49 percent of holding to A (P) Ltd in the year 3. For year 3, the assessee filed its return claiming set off of losses of previous years. The assessing officer denied the claim with a view that assessee was not entitled to set-off of brought forward losses, as there was change in beneficial shareholding of 51 per cent or more, as provided under section 79. Decision Since the Y (P) Ltd was having complete control over the Z (P) Ltd, which is the wholly owned subsidiary of Y (P) Ltd, even though the shareholding of Y (P) Ltd may have reduced to 6 per cent in the year in question, yet by virtue of being the holding company, owning 100 per cent shares of Z (P) Ltd, the voting power of Y (P) Ltd cannot be said to have been reduced to less than 51 per cent, because together, both the companies had the voting power of 51 per cent which was controlled by Y (P) Ltd. Accordingly, the court upheld the decision of tribunal allowing taxpayer the benefit of set off of brought forward loss to taxpayer. the 47

49 Restriction on carry forward of losses Section 79 Section 7 Restriction on carry forward of losses Applicability of Section 79 for unabsorbed depreciation Swiss Re Healthcare Services P. Ltd. vs. PCIT, [TS-175-ITAT-2016(Bang ITAT)] Issue Whether section 79 of the Act applies to both business loss and unabsorbed depreciation? Facts Decision The shareholding of the taxpayer had changed by more than 51 percent during the relevant AY. Taxpayer claimed unabsorbed depreciation which was denied by AO invoking the provisions of Section 79. Taxpayer contended the decision of AO on the grounds that Section 79 applies only to business losses and not to unabsorbed depreciation. Set-off of unabsorbed depreciation allowed to assessee, held that Sec 79 is not applicable for unabsorbed depreciation Observed that unabsorbed depreciation is not a loss but allowances under section 32 of the Act, therefore Sec 79 is inapplicable for set off and carry forward of unabsorbed depreciation. Also relied on SC ruling in CIT vs Shri Subhulaxmi Mills Ltd wherein it was held that in applying section 79 of the Act, only the business loss should be taken into account. and not the unabsorbed depreciation or unabsorbed development rebate 48

50 Restriction on carry forward of losses Section 79 Section 7 Restriction on carry forward of losses Interplay between section 79 and 72A Case Study 1 XYZ (P) Ltd ABC (P) Ltd XYZ (P) Ltd ABC (P) Ltd 100% 100% 51% 49% XY Co- Loss INR 50 crs Merger AB Co- Loss INR 100 crs AB Co XY Co and AB Co has losses Losses Available in AB Co post merger of XY Co with AB Co INR 50 crs 49

51 Restriction on carry forward of losses Section 79 Section 7 Restriction on carry forward of losses Interplay between section 79 and 72A Case Study 2 XYZ (P) Ltd ABC (P) Ltd XYZ (P) Ltd ABC (P) Ltd 100% 100% 51% 49% XY Co- Loss INR 50 crs Merger AB Co- Loss INR 100 crs XY Co XY Co and AB Co has losses Losses Available in XY Co post merger of AB Co with XY Co INR 150 crs 50

52 Carry forward of loss on succession of business 51

53 Carry forward of loss on succession of business Section 78 Section 8 Carry forward of loss on succession of business Carry forward and set off of losses in case of change in constitution of firm or on succession In case of change in constitution of firm Where a change has occurred in the constitution of a firm, the firm cannot carried forward and set off so much of the loss proportionate to the share of a retired or deceased partner as exceeds his share of profits, if any, in the firm in respect of the previous year. In case of succession Where any person carrying on any business or profession has been succeeded in such capacity by another person otherwise than by inheritance, the another person will not be entitled to carried forward and set off against his income. 52

54 Carry forward of loss on succession of business Section 78 Section 8 Carry forward of loss on succession of business Change in entity structure CIT v. Madhukant M Mehta [2001] 247 ITR 805 (SC) Y (Son 1) X (Proprietary concern) YZ (Partnership firm) Z (Son 2) Facts X was carrying on proprietary business of speculation in shares and other commodities. He died leaving behind 2 son. The two heirs of X entered into a partnership wherein they agreed to carry on the said business of speculation. The profits earned by partnership firm was set off against the losses incurred by the deceased in his proprietary business. Decision The partnership deed clearly evidenced the intention of the legal heirs to succeed the business of X. The constituents of the firm's business were the same as those of the business of X. The nature of the business was identical to the business which was being carried on by X. The business name continued to be the same and was carried in the same premises. 53

55 Carry forward of loss on succession of business Section 78 Section 8 Carry forward of loss on succession of business Change in entity structure Pramod Mittal v. CIT [2012] 205 Taxmann 444 (Del) XY & Co (Partnership firm) Dissolution of firm and take over of business X (Partner) Facts X was a partner in XY & Co. who succeeded the business of XY & Co. by way of dissolution of firm and take over of assets and liabilities. The profits earned by X from the succeeded business was set off against the prior year losses incurred by the dissolved firm. Decision As per section 170(1) of the Act, the partnership firm has to be assessed in respect of profit and gains from the business till the date of dissolution. After that date, the sole proprietor has to be assessed in respect of profits and losses. The income earned by X, as an individual, would include his share of loss as an individual but not the losses suffered by the partnership firm. The losses suffered by XY & Co. cannot be set off from the income of X, in the absence of any specific provision under the Act. Section 170(1) and 78(2) operates under different footing. Section 78(2) of the Act only provides that it is only the person who incurred or suffered the loss who will be entitled to carry forward the same and set it off and no other person. An exception to this rule is the case of succession by inheritance 54

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