UNIT - II

IMPORTANT DEFINITIONS

There are certain terms and expressions, used in the Income-Tax Act, 1961, which require clarification. In order to understand and interpret the legal provisions, it is necessary to have the conceptual clarity of these terms and expressions. These have been defined in Sections 2 and 3 of the Act as follows :

I. Agricultural Income

Definition :

1. Any rent or revenue derived from the land which is situated in India and is used for agricultural purposes;

2. Any income derived from such land by –

a) agriculture; or

b) the performance by a cultivator or receiver of rent-in-kind or any such process ordinarily employed by him to render the produce raised or received by him fit for sale in the market; or

c) the sale by a cultivator or receiver of rent-in-kind of the produce raised or received by him in respect of which only the process as referred to in (ii) above has been performed.

3. Any income derived from any building owned and occupied by the receiver of the rent or revenue of any such land or occupied by the cultivator or receiver of rent-in-kind, provided that –

a) the building is on or in the immediate vicinity of the land and is used as a dwelling house, store house or other out-building by the receiver of rent or revenue or by the cultivator or by the receiver of rent-in-kind; and

b) the land is either assessed to land revenue in India or is subject to a local rate assessed and collected by officers of the government. If the land is not so assessed to land revenue or subject to a local rate, if should not be situated within the following limits, i.e. urban areas–

i) within the jurisdiction of a municipality or a cantonment board having a population of 10,000 or more; or

ii) Within 8 kilometers from the local limits of any municipality or cantonment board. The Central Government is empowered to extend this limit of 8 kilometers.

Essential Elements : From the analysis of the above definition it is clear that following essential conditions should be fulfilled before an income is treated as agricultural income –

1. Income Must be Derived from Land : Income here means any rent or revenue. Rent means any payment made to the owner of land for its use. Revenue means

any income, yield or return to the owner or the land. It may be in form of sharing in agricultural produce. Rent or revenue may, thus be derived in cash or in kind. But the land revenue imposed by State Government or a local rate imposed by Local Government will not be agricultural income. Derived from land means received or to be received in connection with land. Any income is deemed to have been derived from land if it is directly related with land. Thus, arrear of rent is directly related with land but any interest thereon is not. Similarly, dividend received by a shareholder of an agricultural company or remuneration received by a firm manager are not directly related with land. Hence, these are not agricultural income.

2. Land Must be Situated in India : It is necessary that land must be situated within the territorial jurisdiction of India. Thus, any income from land situated outside India cannot be regarded as agricultural income.

3. Land Must be Used for Agricultural Purpose : Agricultural purpose means cultivation of land for raising crops and other products and incurring some expenditure on labour and skill upon it. Agricultural operations are divided into two basic and subsequent operations. Basic operations include tilling of land, sowing of seeds, watering the land, manuring etc. Subsequent operations are performed after basic operations. These include weeding, pruning, cutting, harvesting and rendering the produce fit for the market. Performance of basic operations is must for agricultural activity. Any income which has arisen only due to subsequent operations will not be regarded as agricultural income.

II. Assessee : According to Section 2 (7) of the Income-tax Act, “Assessee” means a person by whom any tax or any other sum of money is payable under the Act. Any other sum of money may include a fine, penalty or interest. Thus, an assessee includes the following–

1. Every person by whom any tax is payable under the Act;

2. Every person by whom any other sum of money (fine, penalty or interest) is payable under the Act;

3. Every person in respect of whom assessment proceeding under the Act has been taken;

4. Every person on whom an assessment proceeding in respect of income, belonging to some other person, has been taken under the Act;

5. Every person on whom an assessment proceeding of the loss, sustained by him or by such other person for whom he is liable to be assessed, has been taken under the Act;

6. Every person who is deemed to be in assessment proceeding of the amount of refund, due to him or such other person for whom he is liable to be assessed, has been taken under the Act;

7. Every person who is deemed to be an assessee under any provision of this Act;

8. Every person who is deemed to be an ‘assessee in default’ under any provision of this Act;

9. “Assessment” includes reassessments.

III. Assessment Year : According to section 2(9) of the Income-tax, Act, assessment year means the period of twelve months commencing on the Ist day of April every year. Thus, a period beginning from Ist April and ending on 31st March next is called assessment year. This is the financial year of the Government. The current financial year is the assessment year.

IV. Income : ‘Income’ is the subject matter of the Income-tax Act. Every proceeding under the Act, whether it be in connection with tax, refunds or penalty etc. is carried on in relation to income. It is, therefore, necessary to understand the term ‘income’ properly. The term ‘income’ has not been defined in the Act. The definition of income as given in section 2(24) of the Act is inclusive and not exhaustive. This means that ‘income’ shall include not only those items which are specifically mentioned in this section, but also includes such items as can properly be called income as per the interpretation of the section. As per section 2(24) the term income has been defined as follows–

“Income” includes :

1. Profits and gains;

2. dividends;

3. voluntary contributions received by a trust created wholly or partly for charitable or religious purposes or by an institution established wholly or partly for such purposes or by an institution or a fund referred to in section 10(21); 10(23); 10(23C) (iv) (v).

4. the value of any perquisite or profit in lieu of salary taxable under the head salaries;

5. any special allowance or benefit specifically granted to the assessee to meet expenses wholly, necessarily and exclusively for the performance of his duties;

6. any allowance granted to the assessee either to meet his personal expenses at the place where he performs his duties or at a place where he ordinarily resides or to compensate him for the increased cost of living;

7. the value of any benefit or perquisite obtained from a company by a director or by a person who has a substantial interest in the company or by a relative of the director or of such person.

Important Principles of Income : In different leading cases courts have laid down a few important principles which will be helpful in understanding the concept of income. These are as follows –

1. Income should be Received from Outside : Income must come from any outside source. A person cannot make a taxable profit out of a transaction with himself. Thus, excess of revenue over expenditures in a club, in which the revenue comes through the subscription from members only, cannot be considered as income of the club because this excess is not the receipt from outside but it is from within the club itself. But the subscription received from non-members and the income accrued on account of the capital assets of the club will be the income. Similarly, if a person revalues his assets and shows the profit on revaluation in his book, such profit will not be income.

2. Legality of Income : Income may be legal or illegal, both are taxable under the Act. In this way income from black marketing or smuggling will be taxable under the Act and the confiscation of currency notes by custom authorities will be a loss and allowed as deduction in computing the income from smuggling.

3. Income may be in Cash or in Kind : Income may be in cash or in kind, both are taxable under the Act. If the income is received in kind, it will be valued in terms of money.

4. Income in Installments or Lumpsum : It is not necessary that income should flow slowly or gradually. A single receipt may be income.

5. Regular or Irregular Income : Income may flow regularly, for example, daily, weekly, quarterly, monthly etc. It may also be received only once in a year. In both the cases income is taxable.

6. Permanent or Temporary Income : It is not necessary that the income should be permanent. It may be temporary i.e. may be or may not be. Incomes from salary, house property, interest on securities etc. are of permanent nature. But incomes from auction, business or profession or capital gains etc. are not of permanent nature. Income from these sources may be or may not be. Temporary nature of an income will not render it non-taxable. It is taxable irrespective of its stable or instable nature.

7. Received or Accrued Income : Income received or income accrued both are taxable as per income-tax Act, 1961. The assessee may pay tax either on receipt basis or on accrual basis. Accrued income, if taxed at the time of accrual, will not be taxed when it is received. Similarly, income received, if taxed at the time of its receipt, will not be taxed when it is accrued. The assessee will have to select a basis- accrual basis or receipt basis - for his taxability. Once the basis is selected, he will have to strictly follow the basis. If he pays tax on accrual basis, he will not include the income received in his total income.

8. Relief from Expenses or Loans : Relief or reimbursement of expenses is not treated as income. For example, reimbursement of the actual travelling expenses of the employee by the employer is not income. Similarly, if a person is relieved from paying any loan due to him it will not be treated as income.

9. Personal Gifts : If any gift is received by a person on account of natural love and affection or personal relations, it will not be treated as income for income-tax purpose. But if a person gets gifts from his pupils, it will be treated as income.

10. First Receipt Determines the Nature of Income : Whether a particular receipt is income or not, is decided at the time of its first receipt. If an amount is not income at the time when it is received for the first time, it cannot be treated income subsequently under the changed circumstances. For example, an advance received for sale of a property will not be treated as income when it is forfeited due to non-fulfilment of obligation by the buyer.

11. Disputed Title : If there is a dispute regarding the title of an income, its assessment cannot be held up or postponed. It will be assessed in the hands of the person who has received it. The recipient shall pay the tax on it.

12. Diversion or Application of Income : There is a minor difference between diversion of income and application of income. But this minor difference is very significant. It decides the taxability of a particular income. If the income has been diverted, there will be no tax-liability but if the income has been applied, there will definitely be tax-liability of the original recipient of such income. In case the income has been diverted, the tax on such income will be paid by the person in whose favour it has been diverted. Diversion of income, here, means diversion by over-riding title.

Diversion may be any of the following forms –

1. the income is diverted on account of a legal obligation which is enforceable in court of law;

2. the source of income has been alienated or assigned in favour of some other person; the person alienating or assigning is said to have diverted his income;

In these cases, the income is said to have been diverted. But if the income is applied by the recipient in discharging his obligations, which are not enforceable in court of law or voluntary obligations, it is the application of income. Thus, unless and until there is an over-riding obligation, the amount received from the assessee cannot be treated as income of the person receiving the amount.

V. Person : According to section 2(31). Person includes–

1. an individual,

2. a Hindu undivided family,

3. a company,

4. a firm,

5. an association of persons or a body of individuals, whether incorporated or not, e.g., a club, a co-operative society etc,

6. a local authority such as Municipality, Cantonment Board, District Board, Port Trust etc., and

7. every artificial juridical person, not falling within any of the above, for example, a Hindu idol or a deity (Balaji etc.) or God or Allah. It also includes all artificial persons with a juridical personality such as a corporation, Bar Council etc.

VI. Total Income : “Total Income” as per section 2(45) of the Income tax Act, 1961 means the total income as referred to in section5, computed in the manner laid down in this Act. Total income of an assessee is computed head-wise keeping in view his residential status and allowing all deductions, he is entitled to, under Section 80. This is the income on which income-tax liability is determined. In common parlance it is called as taxable income or total income. Numerically, total income will be :-

Total Income = Total of the taxable incomes from all the heads ofIncome-Deduction under section 80

OR= Gross total income - Deduction u/s 80

VII. Gross Total Income :

1. Salaries;

2. Income from house property;

3. Profits and gains of business or profession;

4. Capital gains;

5. Income from other sources.

Taxable income of each head is computed by aggregating the incomes falling under the head, as per provisions of the Act, and deducting therefrom the deductions of the head allowed under the Act. Taxable income of one head is called net taxable income of the head, Net taxable income of all the heads are added. The total of the net taxable incomes of all the heads is termed as ‘Gross total income’.

VIII. Previous Year : As per section 2 (34B) of the Act, “previous year” means the previous year as defined in section 3. The concept of previous year is very important to know. It is the income of previous year which is charged to income-tax during the current year. According to section 3(I) of the Act, ‘previous year’ means the financial year immediately preceding the assessment year. For every assessee and for every income there shall be uniform previous year. For the current year 2001-02 the previous year would be 2000-01 i.e. a period from Ist April, 2000 to 31st March, 2001. Thus, for every current year, the immediately preceding financial year shall be the previous year. Provisions given in Section 3 of the Act are sumarised as below –

1. Preceding Financial Year : Previous year is the financial year immediately preceding the assessment year. For example, in relation to assessment year 2001-02, immediately preceding financial year is 2000-01 beginning from Ist April, 2000 and ending on 31st March, 2001. Thus, for the assessment year 2001-02, previous year will be the preceding financial year i.e. 2000-01.

2. Previous Year for Newly Set-up Business or Profession : If a business or profession is newly set-up in any financial year, its first previous year will be the period beginning from the date of its set-up and ending with the close of that financial year. For example, if a new business is set-up on 5th January 2001 i.e. during financial year 2000-01, its first annual accounts must be closed on 31st March, 2001 i.e. during financial year 2000-01, its first annual accounts must be closed on 31st March, 2001 and the period from 5th January, 2001, to 31st March, 2001 will be previous year for the assessment year 2001-02. Similarly, if a new business is commenced on 27th June, 2000 i.e. in the financial year 2000-01, its first annual accounts must be closed on 31st March, 2001. The period from 27th June, 2000 to 31st March, 2001 will be previous year for assessment year 2001-02. Thus, the previous year for newly set-up business or profession starts with the date of its set-up and ends on the immediately following 31st March.

SALARIES

Note : As per Section-14 of the Income-tax Act, 1961, all incomes, for the purpose of charge of income-tax and computation of total income, are classified under the following 5 heads –

1. Salaries (Section 15, 16 and 17);

2. Income from house property (Section 22 to 27);

3. Profits and gains of business or profession (Section 28 to 44-D);

4. Capital gains (Section 45 to 55);

5. Income from other sources (Section 56 to 59)

‘Salaries’ is the first head amongst the five heads of income. Generally, salary is the payment made by employer to the employee in consideration of his services rendered in favour of the employer. In general sense, income under the head ‘Salaries’ comprises of the remuneration (including valuation of perquisites) due or received by any person for the personal services rendered by him under an express or implied contract of employment or service.

Some Important Rules with Regard to ‘Salaries’ : Before the salary head is discussed as per law, it is necessary to understand and study some important principles regarding ‘salaries’. These principles are given here below –

1. Relationship of Employer and Employee : A payment will be regarded as salary only when there exists the relationship of employer and employee, or master and servant between the payer and the payee. If there does not exist the relationship of employer and employee between the payer and the payee, any payment made by the payer will not be taxed as ‘salaries’, such as fees or commission received by a director, examinership remuneration received by a teacher, salaries and allowances receivable by M.P.’s, M.L.A.’s etc. Such payments will be taxed under the head Income from other sources. It may be noted that employment may be a full-time or part-time, may be in India or outside India, may be of a nature involving only mental faculties or involving only physical labour, any payment or perquisite received from it, is taxed under the head ‘salaries’. The employer may be an individual, a firm, an association of persons, Central Government, State Government, a local authority, a trust, a club or any type of body, organization or artificial person.

2. More Than One Source of Salary : An assessee may receive salary from more than one employer during the same previous year. It may be either due to change in employment or due to employment with more than one employer at one time. For example, he may be a part-time employee with several employers. Salary received from each employer is taxed under the head ‘salaries’.

3. Salary and Wages : In principle and in law, there is no difference between salary and wages. Wages receivable by a labourer and the salary receivable by the Prime Minister of India, are taxable under the head ‘salaries’ generally, any amount paid in connection with manual labour is termed as wages whereas salary is regarded as payment for mental or non-manual type of work. From income-tax point of view, there is no difference between the two terms. Both salary and wages are taxed under the head ‘salaries’.

4. Voluntary Payments : Every payment, in cash or in kind, made by an employer to his employee in consideration of his services, under a contract of service or voluntarily is taxed under the head ‘salaries’. Thus, salary, perquisite or allowance may come as a gift to an employee, yet it would be taxable. Any payment made by the employee to his employer will not be excluded from his salary income merely because the employer made it voluntarily.

5. Tax-Free Salary : If an employer pays tax-free salary to his employer, income-tax on such salary is paid by the employer on behalf of his employee. In such a case the amount of tax paid by the employer is regarded as perquisite in the hands of the employee. The employee shall pay income-tax on the salary, perquisites (including the payment of income-tax by the employer) and allowances received by him from his employer. Payment of tax-free salary does not mean that the employer, who receives salary as such, is made free from his tax-liability. The employee’s tax-liability is ascertained by including the income-tax, paid by the employer on his behalf, in his salary income. Out of the total tax-liability of the employee, the tax paid by the employer is deducted and the remaining amount is paid by the employee. Thus, the tax paid by employer is the payment of employee’s obligation by the employer and is, therefore, perquisite in the hands of the employee. The tax paid to the department is deemed as tax paid on behalf of the employee.

What includes Salaries?

For computing taxable income under the head ‘salaries’, gross salaries shall first be ascertained. ‘Gross salaries’ includes the following –

1. Salary;2. Allowances;3. Perquisites; and4. Profit in lieu of salary.

I) Salary : This can be explained through the chart given follows –

Transferred balance

These have been discussed in detail hereinafter in this unit.

II) Allowances : All monetary payments made by an employer to his employee, other than salary, are termed as allowances. From the income-tax view point, all the allowances have been classified under the following three categories, as is evident from the following chart–

Taxable Portion = Actual Allowance – Exempted Portion of the Allowance : Such allowances are as follows :

House Rent Allowance [Sec. 10(13-A)] : Any special allowance, by whatever name called, granted by the employer to his employee (assessee) to meet the expenditure actually incurred by the employee on payment of rent of the residential accommodation occupied by the employee (assessee) is known as “Home rent allowance”. The whole of the house rent allowance is not exempt. The exempt portion is calculated as per provisions given in rule 2-A of Income-tax Rules, 1962.

As per this rule, least of the following is exempt from tax –

1. Actual house rent allowance received by the employee in respect of the relevant period; or

2. Rent paid by the employee in excess of 1/10 of the salary due to him in respect of the relevant period; or

3. An amount equal to 1/2 or 50% of the salary due to him in respect of the relevant period if the accommodation is situated at Mumbai, Kolkata, Delhi or Chennai; or

4. An amount equal to 2/5 or 40% of the salary due to him in respect of the relevant period, if the accommodation is situated at any other place.

III) Fully Exempted Allowance : The following allowances are fully exempted from income tax–

1. Car or Conveyance Allowance : Car or conveyance allowance, not being the transport allowance granted to meet the expenditure for commuting between the place of his residence and the place of his duty, given by the employer to an employee for the purpose of performance of his duties, will be exempt to the extent it is actually spent in performing his duties. Any amount saved will be taxed.

2. Foreign Allowance : Foreign allowance or perquisites received by an Indian citizen, being government employee, from the Government during his service in a foreign country is fully exempt from tax u/s 10 (7) of the Act.

3. Allowance to High-Court Judges : Any allowance paid to a Judge of a High Court under section 22-A (2) of the High Court Judges (conditions of service) Act. 1954 is fully exempted from income-tax.

4. Allowance received from United Nations Organization : All allowances paid by the UNO to its employees are exempted from income-tax by virtue of section 2 of the UNO (Privileges and Immunities) Act, 1974.

5. Passage Money Received by a Non-Citizen [Sec. 10(6-i)] : Passage money or the value of any free or concessional passage received by a foreign national, working in India, will be exempted from tax, if it is received by him or his employer for himself, his spouse and children in connection with his proceeding on home leave out of India or in connection with his proceeding to his home country out of India after retirement from service in India or after termination of such service.

6. Compensatory Allowance Received by a Judge : Compensatory allowance received by a Judge under article 222 (2) of the constitution is exempt from tax, since it is neither salary nor perquisite.

7. Sumptuary Allowance : Sumptuary allowance given to a High Court Judge under section 22-C of High Court Judge (conditions of service) Act, 1954 and to a Supreme Court Judge under section 23-B of the Supreme Court Judges (conditions of service) Act, 1958 is exempted from tax.

8. Special Allowance [Sec. 10(14) (i)] : Following allowances as prescribed u/s 10 (14) (i) of the Act are exempted in full :- (i) Allowance for travel on tour or transfer; (ii) Daily allowance; (iii) Conveyance allowance; (iv) Helper allowance; (v) Academic allowance; and (vi) Uniform allowance.

IV) Perquisites : Any casual receipt or gain available to a salaried employee from his employer, in addition to regular salary or wages, is called ‘Perquisite’. Generally, the term perquisite means any casual emolument, fee or profit attached to an office or position, in addition to salary or wages. It may be given in cash or in kind. For example, rent - free accommodation, free electricity, water, gas, servants, education, car etc. provided by the employer to his employee and any payment by the employer made on behalf of an employee are perquisites. Actually perquisite is not mere reimbursement of any expenditure incidental to the employment but it is an additional personal advantage that benefits an employee by ‘going into his own pocket’. Perquisites are taxable under the head ‘Salaries’. A perquisite, to be taxable under the head ‘Salaries’, must fulfil the following conditions–

1. Perquisite must be received by an employee from his employer (may be former, present or prospective) Perquisites received from a person other than the employer, are taxable either under the head ‘Profits and gains of business or profession’ or Income from other sources.

2. Perquisite must directly be related with the employment.

3. Perquisite must have been given during the course of employment. Benefits received after termination of the service are not perquisites.

4. Perquisite must have a legal origin, i.e. it has been received by an employee with his employer’s consent and authority. If an employee takes an advantage or benefit without his employer’s authority, such benefit or advantage would not amount as ‘perquisite’.

It is not necessary that ‘perquisite’ should be regular or of recurring nature. It is also not necessary that it must be under a contract.

INCOME FROM HOUSE PROPERTY

Chargeability : ‘Income from house property’ is the second amongst the five heads of income. Sections 22 to 27 of the Income-tax Act, 1961 are related to this head of income. According to section 22, “The annual value of property consisting of any buildings or lands attached thereto of which the assessee is the owner, shall be chargeable to income-tax under the head ‘Income from house property’. But if any portion of such property is occupied for the purposes of any business or profession carried on by him the profits of which are chargeable to income-tax, the annual value to such portion is not chargeable to income-tax under this head.”

Thus, an income to be chargeable under the head ‘Income from house property’ must satisfy the following conditions–

1. Income from Buildings or Lands Attached Thereto : Income-tax is payable by an assessee on the income of any building or land appurtenant thereto. Income from an open land not attached to any building is not chargeable to income-tax under this head. Income from open land will be taxed under this head only when it is attached to a building. Open land attached to a building may be in the shape of courtyard or a

compound or playground or a lawn or a parking place etc. The word ‘building’ has not been defined in Income-tax Act, 1961. Building, as defined in different leading cases by courts, means a place surrounded by walls, even if they may be mudwalls. Existence of roof is not necessary for a structure to be regarded as building. An enclosure without roof may be regarded as building such as a stadium, an open air swimming pool, music house, dancing home etc. But a residential house without a roof and without doors cannot be called building. Land attached to building means, in case of residential building the way to the house, chowk, gallery, kitchen-garden, play-ground, garage, a place for keeping animals etc. Income from building whether situated in India or outside India is taxable under the head ‘Income from house property’. Tax on foreign buildings is chargeable from residents only. Any stall permanently affixed with land is considered as building. If any house property is lying as stock-in-trade with an assessee (when he deals in purchase and sale of house properties or he has indulged in the trade of letting them on hire) the income from such house property shall be charged under the head ‘Income from house property’.

2. Assessee Should be the Owner of the Property : An assessee is chargeable to income-tax on income from buildings or lands attached thereto if he is the owner of such buildings or lands attached thereto. Ownership means the legal ownership and not beneficial ownership. The owner is that person who can exercise the rights of the owner not on behalf of the owner but in his own right. It is not necessary that the owner of a house must also be the owner of the land on which the house is constructed. Thus, the person constructing a house on land taken on lease is deemed to be the owner of the house. Similarly, if an assessee is in occupation of a building as owner as a matter of fact, though the sale-deed may not, yet, have been executed, he would still be deemed as owner of the building and liable to tax on its income. If the property is in the name of one person whereas its real owner is somebody else. Assessing Officer may find out the real owner and fix on him the tax-liability. A receiver appointed by the court to manage a property cannot be assessed as the owner of the property.

3. Annual Value : It is not the rent received which is chargeable to tax under the head ‘Income from house property’ but it is the annual value of the house property which is subject to tax under this head. Annual value is that notional rent for which the property can reasonably be let out from year to year. Thus, the annual value to house property does not mean the rent received but it means the expected rent which can reasonably be taken from the house property. Annual value of the ownership of property is charged to tax, irrespective of the fact whether or not any income was either actually received or had accrued to the assessee.

4. Property in Occupation or Owner’s Business or Profession : If an assessee used his own house property or any portion of it for purposes of any business or profession carried on by him, the profits of which are chargeable to income-tax, the income from such house property or from any portion of such house property will not be chargeable to income-tax. Thus, two things are important in order to exempt the income from house property on this ground:—(i) The business or profession must be owned by the owner of house property, and (ii) The profits of such business or profession must be chargeable to income-tax under Income-tax Act, 1961. If in any year, there is loss in the said business or profession, the income from house property will not be chargeable to income-tax. But if any house property has been let out for the purposes of business or profession, the income from such house property shall be taxable under the head ‘Income from house property’. But if the letting out of the property is beneficial, incidental and necessary to

the main objects of the business, such house property will be treated as house property used by the assessee for the purpose of business and accordingly, annual value thereof will not be chargeable to income-tax under this head. The property belonging to the assessee company and used by its directors for the purpose of their residence should be treated as used for the purpose of the assessee’s business. Similarly, a house property occupied as residence by the employees or directors etc. and letting out as subservient and incidental to the main business of the assessee – such use of the property shall be regarded for the purpose of the assessee’s business.

Some Important Facts : The following important facts needs special attention –

1. Disputed Ownership : If the ownership of a house property is under dispute in a court of law, the assessment proceedings in respect of the income from such house property will continue and the decision of ownership shall rest on the income-tax department. The income-tax department has prima facie the power to decide whether the assessee is the owner and chargeable to tax under this head (section-22), without waiting for judicial judgement of any suit filed in respect of the property. Generally, the person who is receiving any rent or profit from the disputed property or who is in occupation of such property or who resides in such property, is deemed to be the owner, for the purpose of income-tax liability of the disputed property, by the department. It should be remembered that decision of the Income-tax Department on the fact of ownership shall not, in any way, affect the ownership decision of the court.

2. Splitting up of a Composite Rent : If the owner of a house property receives a composite rent for the property as well as for the amenities or services rendered, the house property is to be assessed under this head. The amenities or services provided alongwith the property are:—electricity facility, facility of furniture, air conditioned plants, fans, cooler, lift facility etc. The amount of rent which relates to these facilities is taxable under the head ‘Income from business or profession’ (if it is the business of the assessee to provide these facilities) or under the head ‘Income from other sources’. If the composite rent is not separable, the entire income would be assessable under the head ‘Income from other sources’ or ‘Income from business or profession’. Charges received for services rendered in providing electricity, use of lifts, supply of water, maintenance of staircase and watch and ward, are assessable as ‘Income from other sources’ since such services are not incidental to letting out property.

3. Two or More Co-Owners of Property : According to section 26, where property consisting of building or buildings and lands appurtenant thereto, is owned by two or more persons and their respective shares are definite and ascertainable, such persons shall be assessable separately for their respective shares of income in the house property. If the property is jointly used, managed and constructed or developed and the income of such property is also used jointly, then income from such property shall be assessed separately as per the share of each co-owner provided their respective share is definite and ascertainable. The deductions, in respect of such property, provided for by section 23 (2) have to be allowed to each co-owner separately from out of his share in annual value of house property. Share of each co-owner shall be a separate unit and its annual value shall be determined as a separate unit as per the rules applicable to each of them. But a house property belonging to a Dayabhaga HUF is not treated as property belonging to two or more persons. Therefore, the entire income of such house property is assessable in the hands of such HUF.

4. Income from House Property Taxable Under the Head ‘Income from Business or Profession’ or ‘Income from Other Sources’ : The following Income from house property is not taxable under the head ‘Income from house property’–

i) Income from letting out of the property to the assessee’s employees if such letting out of the property is beneficial, incidental and necessary to the main business of the assessee;

ii) Income from such house property which is let out alongwith some machinery or furniture fitted with it and the rental value of property cannot be separated from the rental value of the machinery or furniture so fitted such as cinema, theatre, factory, hotel etc., will be taxable under the head “Income from other sources’. But if letting out of cinemas, theatres, factories or hotels has been the business of the assessee, such income shall be taxable under the head ‘Income from business or profession’.

iii) Income to non-owners from sub-letting of a house property under his occupation, will be taxable under the head ‘Income from other sources’.

iv) Income from letting out of open land not attached to a building is taxable under the head ‘Income from other sources’.

Annual Value : It is worth noting that the income chargeable to tax under the head ‘Income from house property’ is not the rental income of the property rather, it is the notional income of the house property. This notional income represents the inherent capacity of the property to earn. The income chargeable to tax under this head is termed as ‘annual value’.

Definition : According to section 23 (1), the annual value of any property shall be deemed to be –

a) the sum for which the property might reasonably be expected to let from year to year; or

b) where the property is let out and the annual rent received or receivable by the owner in respect thereof, is in excess of the sum referred to in clause (a), the amount so received or receivable.

The words ‘might reasonably be expected to let’ make clear that the term annual value is a hypothetical figure and has no physical existence. It is a reasonable or fair rent, not being the factual rent. In determination of this hypothetical figure of reasonable or fair rent, several factors, such as actual rent, municipal value, rental value of similar property in the nearby locality, cost of construction of property, specific location of the property and the historic or artistic importance of the property etc., are to be taken into consideration.

Determination of Annual Value : Annual value is determined on the basis of the following four factors:—(1) Rent received, (2) Municipal valuation, (3) Fair rent, and (4) Standard rent.

1. Rent Received or Defacto Rent : It is the actual amount of rent received from a rented property. But sometimes the owner of the property provides some facilities, under the terms of tenancy, to the tenant at his own cost such as gardener, maintenance of lift, facility of electricity and water, arrangement for scavenging parking facility etc. In such a case the rent received is a composite rent. Out of this composite rent the amount spent by the owner on the above facilities must be deducted. But the expenditure incurred on provision of air conditioners, furniture and fans for use of the tenant, cannot be taken into account in determining the annual value of the property on grounds of improvement to

property. Likewise the salary paid to caretaker (chowkidar) by the owner of the house cannot be taken into account in determination part of the composite rent. In brief,

De facto Rent = Actual rent received for let out portion of the propertyor

Composite rent – expenses borne by the owner in connectionwith facilities provided with the property

except the facility of caretaker.

Thus, de facto rent is the real rent of the property and it is something different from actual rent. Sometimes, actual rent received will be the de facto rent when landlord does not undertake any obligation towards the tenant’s facilities. But, if the tenant has undertaken to bear the cost of repairs, amount spent by the tenant cannot be added to rent received to arrive at the annual value.

2. Reasonable or Fair Rent : Fair rent is that notional rent which may be received in connection with a property. It is different from the actual rent. Any property may be let out on a rent less than the fair rent (where owner and tenant are closely related or where the tenant is a person of status) and sometimes it may be let out on a rent higher than the fair rent (where tenant’s requirement is very intensive and acute). Thus, actual rent and fair rent should be distinguished. The fair rent is determined on the basis of the location of property, cost of property, rental value of neighbourhood properties of similar type and historic or artistic importance of the property etc. Thus, fair rent may be taken as rent of a similar property in the same or similar locality.

3. Standard Rent : Standard rent means the rent fixed or determinable under the Rent Control Act. Any landlord cannot receive a rent more than the standard rent under the Rent Control Act. It is, thus, very clear from the judgement that if a property is covered under the Rent Control Act, its gross annual value cannot exceed the standard rent. But section 23 (1) (b), provides that if actual rent of a property is more than the sum for which the property might reasonably, be expected to let from year to year, actual rent shall be gross annual value. This clause has the effect that if actual rent of a property is more than the standard rent, actual rent shall be the gross annual value. Thus, the following principles are applicable –

a) In the case of a self-occupied house property, gross annual value cannot exceed the standard rent determined or determinable under the Rent Control Act.

b) In the case of a let out property, gross annual value cannot exceed the standard rent or the actual rent, whichever is greater.

PROFITS AND GAINS OF BUSINESS OR PROFESSION

‘Profits and gains of business or profession’ is the third amongst the five heads of income. Sections 28 to 43-D of the Income-tax Act, 1961 relate to this head of income. According to section 28, the following income shall be chargeable to income-tax under the head ‘Profits and gains of business or profession’–

1. Profits and Gains of Business or Profession : The profits and gains of any business or profession which was carried on by the assessee at any time during the previous year, is taxable under this head. Section 28(i) elucidates the following facts –

a) Profit and Gains Must Relate to Business or Profession : It means that they should be revenue profits or gains resulting from the business or profession which was carried on, in India or outside India, at any time during the previous year.

b) Business or Profession was Carried on During the Previous Year at any Time : It means that a single transaction of business or profession will amount to as carrying on the business or profession at any time during the previous year. Thus, profits or gains from a single transaction are also taxable under this head.

c) Business or Profession was Carried on by the Assessee : It means that assessee is the owner of the business or profession. Manager or agents, though carrying on the entire business or profession, are not chargeable to tax on the profits or gains of such business or profession. It is only the owner who is chargeable to tax on its profits. Actual carrying on of the business or profession does not matter. The only thing that matters is the right to carry on and this vests in the owner only.

2. Any Compensation or Other Payments Due or Received : As per section 28 (ii), any compensation or other payment due to or received by any of the persons mentioned below is chargeable to tax under this head–

a) Any person managing the whole or substantially the affairs of an Indian company, at or in connection with the termination of his services or the modification of the terms and conditions relating thereto;

b) Any person managing the whole or substantially the whole of the affairs of any other company in India, at or in connection with the termination of his office or the modification of the terms and conditions relating thereto;

c) Any person, holding a business agency in India, at or in connection with the termination of the agency or the modification of the terms and conditions relating thereto;

d) Any person, for or in connection with the vesting in the Government, or in any corporation owned or controlled by the Government, under any law for the time being in force, of the management of any property or business.

3. Income of Trade or Professional Associations : As per section 28 (iii), income derived by a trade, professional or similar association from specific services performed to its members, is chargeable to tax under the head ‘Profits and gains from business or profession’. In order to charge the income under this section two conditions be satisfied–

a) Income should be derived by a trade, professional or similar association; and

b) It should be from specific services performed by it to its members.

It must be noted here, that ‘trade association’ is an association of tradesmen, businessmen or manufacturers for the protection and advancement of their common interest. Thus, an association formed for carrying on business is not a trade association, rather it is a trading association. Similarly, social clubs are also not trade association. Any income derived by a club, even from rendering specific services to its members is not chargeable under this section.

Income from a commercial asset is also included in business. For example, cinema is a commercial asset and any profit derived therefrom by letting out the same would be assessable as business profits. Similarly, income arising from letting out other commercial or business assets is also assessable as profits and gains from business or profession.

‘Business’ includes ‘trade’, as it is clear from section 2 (13); trade means buying and selling of the goods or exchange of goods for money on other goods. The primary object of these activities of buying and selling and of exchanging the goods or money is to earn profits. Justice Shah has defined the term as, ‘Trade in its primary meaning is exchanging of goods or for money; in its secondary meaning it is repeated activity in the nature of business carried on with a profit motive, the activity being manual or mercantile, as distinguished from the liberal arts or learned profession or agriculture.

‘Business’ also includes ‘manufacture’. Manufacture means making or producing goods or commodity etc. by manual or mechanical force. Making or producing goods or commodity means transforming the shape of commodity or goods in such a way that it becomes a new commercial commodity for trading purposes. Thus, when raw material is changed into finished goods, it is manufacture. The term has been elaborated in a leading case in the following words. ‘Manufacture is a process which results in an alteration or change in goods which are subjected to such manufacture. A commercially new different article is produced, may be that is produced by manual labour or mechanical force or even by nature’s own process, such as drying by heat of the sun as in saltpan or formation of toddy. The essential question is whether a commodity which, in commercial sense, is different from raw material, has resulted. Changing the or form cloth by sewing it is also manufacture. The tailoring shop is the place of manufacture or factory and the process of tailoring is the manufacturing process. It must be noted that not only making something from raw material or changing the form of an article but also extraction of minerals from the earth, or construction of roads, dams, houses etc., are also termed as ‘manufacture’.

Business also includes any adventure in the nature of trade, commerce or manufacture. It means any activity that is undertaken with a view to earn profits. But the profit motive is not the sole criterion of deciding an adventure as trade, commerce or manufacture. To determine whether a transaction is an adventure in the nature of trade, the court in each case has to determine the nature of transaction, its volume, frequency, continuity and regularity and there is hardly any abstract rule, principle or test for application. No individual or single fact can be taken as decisive in finding out the correct character of the transaction. The cumulative effect of all the facts and circumstances has to be taken into consideration for the said purpose. Thus, where the transactions of purchase and sale are in large numbers and the commodity purchased is such which is neither capable of yielding income nor capable of being used as an asset and if such commodity is kept in stock-in-trade for the purpose of trading, it is treated as an adventure in the nature of trade.

Profession : As per section 2 (36) profession includes vocation. This definition is not clear and it does not give any idea about the term ‘profession’. Ordinarily, profession refers to all such human activities which are undertaken to earn a living and which are performed on account of one’s intellectual skill or knowledge, acquired only after patient study and application. For example, Chartered Accountants, Advocates, Engineers, Architects, Management Advisers, Financial Managers and Accounts Advisers etc. are the persons whose activities are termed as profession. ‘Vocation’ includes such activities which are performed by a person on account of his natural ability for some particular work. A person can have more than one vocation. Vocation need not be for making any income, nor need it involve any systematic and organized activity. If an assessee is giving discourses on vedanta philosophy without any motive or intention of making a profit out of such activity, this giving of discourses is a vocation. Actually the primary

object of vocation is not always to earn profits. But if a person passes his life by such activities for which he has natural abilities and some profits arise therefrom, such profits are treated as professional income such as income of singers, artists, actors, worshippers etc.

Distinction Between ‘Business’, ‘Profession’, or ‘Vocation’ is Insignificant : Any income or profit due to or receivable by an assessee from the exercise of any business or profession or vocation is chargeable to tax under the head ‘Profits and gains of business or profession’. Therefore, the distinction between these three is insignificant. What does not amount to ‘profession’ may amount to ‘business’ and what does not amount to ‘business’ may amount to ‘vocation’.

Basic Principles : The following general principles are to be kept in mind by the assessee while computing income chargeable under the head ‘Profits and gains of business or profession –

1. Business or Profession Carried on by the Assessee : As per section 28 of the Act, profits and gains of only those businesses or professions are chargeable under the head ‘Profits and gains of business or profession’ which are carried on by the assessee. Carrying on by the assessee means the ownership of the assessee. It is not necessary that the assessee should actually carry on the business or profession but he must have legal right to carry it on. He may carryon the business or profession through his agents, employees and managers. The very essence is that the assessee has right to carry on the business or profession. If this right of the assessee has been terminated by the court, the assessee would not be chargeable to tax as he does not have right to carry on his business or profession. But the guardian or trustee or receiver of a minor or, of a person of unsound mind or, of an insolvent has right to carryon his business or profession. Hence, they are chargeable to tax under the Act. Thus, if the non-owner has the right to carry on the business or profession he would be taxable under this head and if the owner, by virtue of his incapacity or depriving him of this right to carry on the business or profession, does not have right to carry on the business or profession, he would not be chargeable to tax under this head.

2. Legal or Beneficial Ownership : Under section 28, not only the legal ownership but also the beneficial ownership is to be considered. Beneficial ownership means the receiver of the profits. The person who actually receives or enjoys the profits of a business or profession shall be chargeable to tax on such profits and gains. For example, the pre-incorporation profits of a company, earned through its business carried on by its promoters during pre-incorporation period, belong to the company after incorporation. Thus, the company is the beneficial owner of such pre-incorporation profits and therefore, chargeable to tax under the Act.

3. Business or Profession Should be Carried on During the Previous Year : As per section 28, the profits and gains of only those business or professions are chargeable to tax under this head, which were carried on at any time during the previous year. It is not necessary that the business or profession should be carried on throughout the previous year or upto the end of the previous year. It is sufficient that it was carried on at any time during the previous year.

4. Illegal Business or Profession : For tax-incidence, it is sufficient that any business or profession was carried on and profits were earned out of it. The income-tax law is not concerned with the legality or illegality of such a business or profession. Profits of even illegal business or profession are chargeable to tax under the Income-tax Act.

5. Real, Anticipated or Notional Profits : As per section 28, only real profits are chargeable to tax. Anticipated or notional profits are not subject to tax liability, but anticipated losses are deducted. For example, stock is valued at cost price or market price (whichever is less). This valuation automatically adjusts the anticipated losses but ignores the anticipated profits. Notional Profits are the profits which are shown in the books as profits, although they are not actual profits such as profits arising from trading with himself. An assessee purchased some commodities from his own business. The profit arising on this transaction is not real profit as it has not arisen from any outside source. Thus, Profits should not only be real but they must also accrue or arise from an outside source.

6. Profits From All Business or Professions of an Assessee to be Taxed Under One Head : An assessee may own several businesses or professions. Every business or profession is a separate source of income under the head ‘Profits and gains from business or profession’. Profits of every business or profession are computed separately and, then, aggregated in one head. If there is loss in any business or profession it will be adjusted from profits of other businesses or professions. The assessee does not pay tax on the profits of every business separately but the profits (after adjusting losses) of all the businesses are aggregated and taxed under the head “Profits and gains from business or profession’. However, the profits and losses of speculation business are treated separately.

7. Speculation Business : As per explanation 2 to Section 28, speculative transactions are like other business transactions and profits from speculation business are taxable under the head ‘Profits and gains business or profession’. But the profits or losses of speculation business are treated and taxed separately.

8. Business or Profession Established Outside India : Profits and gains of a business or profession, established outside India, are taxable in the hands of a resident assessee and are also chargeable to tax under the head ‘Profits and gains from business or profession’. Profits of a business established in India or established outside India are equally taxable under section 28 of the Act.

9. The Purpose of Business or Profession is not Necessarily to Earn Profit : It is not necessary that the purpose of a business or profession carried on by an assessee, is to earn profits or that such business or profession yields profit. Co-operative societies and mutual insurance companies come under the perview of business, though they may or may not earn profit.

10. Profit of Closed Business or Profession : Where a business or profession is closed down, any profit, arising on the sale of the assets of such business or profession, is not business profit, rather it is capital gains. But if the assets include stock, the profit arising on the sale of stock shall be business profit.

11. Computation of Profits on Commercial Principles : Profits or losses of a business or profession should be computed on the basis of general commercial principles. Generally, accepted accounting and commercial principles should be followed while calculating business or professional profits. Capital gains and capital expenditures should be separated from revenue profits and revenue expenses. Actual due amount of expenses should be recorded and considered whether it is actually paid or not. Expenses relating to earlier years and not relating to business or profession should not be deducted whereas the outstanding expenses should be deducted. Personal expenses, non-trading expenses should not be deducted. Thus, only such profits from

business or profession are chargeable to tax as are computed after keeping the generally accepted commercial and accounting principles. It is sufficient that profits have accrued. It is immaterial that they are received or not received.

12. Business Incomes not Taxable Under This Head : The following income, though arisen from business, are not taxable under the head ‘Profits and gains of business or profession.

a) Rent from house property is taxable under the head ‘Income from house property’ even if the assessee is dealing in the business of buying, selling, constructing or letting on hire of houses and the house property is kept with him as stock. But income derived by the company by letting out its property to its employees is considered as business income, because letting out property to the employees of the business is treated as incidental to the business carried on by the assessee company.

b) Dividend on share is taxable under the head ‘Income from other sources’ even if the assessee is dealing in purchase and sale of such shares on which dividend has arisen.

13. Interest on Securities : If the securities are kept by the assessee as stock-in-trade (when he deals in the purchase and sale of securities), any interest on such securities will be taxed under the head ‘Profits and gains of business or profession’. Generally, interest on securities is taxable under the head ‘Income from other sources’.

14. Rewards to Players : Any reward received by a professional player is his income from profession and taxable under this head. Any reward received by a non-professional player is deemed to be a personal gift and is not taxable.

15. Underwriting Commission : Commission received or receivable by an underwriter on shares subscribed by him is not his business or professional income. The cost of shares subscribed by him is reduced by the amount of commission earned by him. Hence, it is not treated as his income chargeable under this head.

16. Conversion of Agricultural Land for Commercial Purposes : If an agricultural land is divided into commercial plots which are sold for construction of houses on it, the additional profit arising from such activity is treated business profits and not capital profits.

What is Included in Business or Profession?

Business : According to Section 2 (13) of the Act, ‘business’ includes any trade, commerce or manufacture or any adventure or concern in the nature of trade, commerce or manufacture. This definition of business is neither exhaustive nor complete. Although it covers every aspect of a transaction carried on by the assessee with a view to earn profit, there are so many aspects which are not covered by this definition. The term ‘business’ is a wide term which includes all such functions, activities or efforts which are meant to earn profits. The word ‘business’ connotes some real, substantial, systematic or organised course of activity or conduct with set purposes of earning profits. Business does not include the activities of trade, commerce or manufacture only but it also includes the activities of rendering services. It should be remembered that no person can trade with himself. Business arises out of commercial transactions between two or more persons. Profits or gains cannot arise by trading with oneself. Generally, continuity of transactions or activities is required in order to constitute business, but even a single activity or transaction may be called a business. The only criterion is the profit

motive. But sometimes this criterion is also not the main test for business. For example, mutual concerns and societies do carry on business, but they seldom have profit motive.

1. The debit side may show the expenses which are not admissible under the Income-tax Act;

2. Any expenditure may have been debited by more or less the admissible amount;

3. Such expenses may have been debited to profit and loss account, which does not relate to the previous year or the concerned business or profession or which relate to any earlier year other than the previous year;

4. Capital expenses may have been debited;

5. Personal expenses may have been debited;

6. Expenses expressly disallowed under the Income-tax Act, may have been debited;

7. Incomes not taxable under this head may have been credited;

8. Incomes taxable under this head may not have been credited;

9. Such losses may have been debited which are not allowed; and

10. Such receipts may have been credited which are of capital nature.

These anomalies are to be rectified in order the arrive at the profits or losses chargeable to tax under the Income-tax Act. According to section 29, profits chargeable to tax as per section 28 shall be computed in accordance with the provisions contained in sections 30 to 43-D. These sections contain the deductions to be allowed, the deductions not to be allowed and also other points to be taken into account while computing the taxable income from a business or profession.

CAPITAL GAINS

Chargeability : ‘Capital gains’ is the fourth head of income. Sections 45 to 55-A of the Income-tax Act deal with this. According to section 45 any profit or gain arising from transfer of a capital asset effected in the previous year shall be chargeable to income-tax under the head ‘Capital gains’, and shall be deemed to be the income of the previous year in which the transfer took place. Thus, from a plain reading of section 45, capital gains may be defined as ‘profits or gains arising from the transfer of a capital asset’. As per this section, following are included in capital gains –

1. Profit on Direct Transfer of Capital Asset [Sec. 45 (1)] : Profit or gain arising from transfer of a capital asset effected during the previous year shall be chargeable to tax under the head ‘capital gains’. Such capital gains shall be income of the previous year in which the transfer has taken place.

2. Capital Gains in Respect of Insurance Claims [Sec. 45 (1-A)] : If during any previous year, any person receives an insurance claim on account of damage to, or destruction of, any capital asset, then any profit or gain arising on account of such claim shall be chargeable to tax under the head ‘Capital Gains’. It shall be deemed to be the income of such person of the previous year in which the insurance claim is received in cash or in assets. The damage or destruction may due to the following factors –

a) Flood, typhoon, hurricane, cyclone, earthquake or other convulsion of nature; or

b) Riot or civil disturbance; or c) Accidental fire or explosion; ord) Action by an enemy or action taken in combating an enemy (whether with or

without a declaration of war).

For computing capital gains value of any money or the fair market value of other assets received from the insurer as insurance claim shall be the full value of consideration received or accruing as a result of the transfer of such capital asset.

3. Profit on Conversion of Capital Asset into Stock [Sec. 45 (2)] : When the owner of a capital asset has converted it into stock-in-trade of business carried on by him or he had sold such capital asset treating it as stock-in-trade, any profits or gains arising to him from such transfer or sale shall be chargeable to income-tax as his income of the previous year in which such capital asset is converted into stock-in-trade or such stock-in-trade is sold. In order to calculate the amount of capital gains arising on conversion of capital asset into stock-in-trade, the fair market value of the asset on the date of such conversion shall be deemed to be the full value of the consideration received or accruing as a result of such conversion.

4. Profit on Transfer Made by the Depository [Sec. 45 (2A)] : If a person had at any time during the previous year, any beneficial interest in any securities and a transfer is made by the depository or participant of such beneficial interest in respect of such securities, then, any profits or gains arising from such transfer shall be chargeable to tax as the income of the beneficial owner of the previous year in which such transfer took place. The depository is not assessed to capital gains, although he is deemed to be the registered owner of the securities. The cost of acquisition and the period of holding of any security shall be determined on the basis of first-in-first-out method.

5. Profit on Transfer of Capital Asset to a Firm Etc. [Sec. 45 (3)] : When a person transfers his capital asset to a firm, or other association of persons or body of individuals (not being a company or co-operative society) in which he is or becomes partner or member, as his share of capital or otherwise and some profit arises from such transfer, the profits so arising shall be chargeable to tax as his income of the previous year in which such transfer takes place. In order to calculate capital gains on such transfer, the amount recorded in the books of account of the firm, association or body as the value of the capital asset shall be deemed to be the full value of consideration on such transfer.

6. Profits on the Distribution of Capital Assets on the Dissolution of Firms Etc. [Sec. 45 (4)] : When a firm, association of persons or body of individuals is dissolved and the capital assets are distributed among partners or members on such dissolution, the profits or gains arising from such distribution, shall be chargeable to tax as capital gains of the firm, association of persons or body of individuals of the previous year in which the said distribution is made. Fair market value of the assets on the date of distribution shall be deemed to be the full consideration on such transfer.

7. Solitary Transaction of Purchase and Sale of Shares : Where an assessee purchased some shares in a block with the intention to invest his funds and earn a profit out of it and sold the entire share holding in one block as he could not get the expected profits on them, any profit arising as a result of such sale are liable to be assessed as capital gains and not as business income.

8. Profit on Compulsory Acquisition of Assets [Sec. 45 (5)] : Where a capital asset is compulsorily acquired under any law or is transferred for a consideration determined or approved by the Central Government or the Reserve Bank of India, and the compensation or the consideration for such acquisition or transfer is enhanced or further enhanced by any court, tribunal or other authority, the capital gains arising as a result of such acquisition or transfer shall be dealt with as follows :-

9. Profit on Re-purchase of Units Issued Under Mutual Fund or Equity Linked Savings Scheme of UTI [Sec. 45 (6)] : Where an assessee has purchased units of a mutual fund or of Equity Linked Saving Scheme of UTI and such fund or UTI has repurchased such units or the assessee has returned them to the fund or UTI on termination of such scheme, the re-purchase price or the price at which such units are taken back by the fund or UTI, is the consideration for such units. If the consideration received on such units exceeds the amount invested in such units, the excess is the capital gain. In brief,

Capital gain = Consideration on transfer of units – amount invested in units

Capital gain is chargeable to tax during the previous year in which such units are repurchased or the scheme is terminated.

Meaning of Capital Asset : According to section 2 (14), ‘Capital asset’ means property of any kind held by an assessee, whether or not connected with his business or profession, but does not include the following –

1. Any stock-in-trade, consumable stores or raw materials held for the purposes of his business or profession.

2. Personal effects, that is to say, movable property (including wearing apparel and furniture, but excluding jewellery) held for personal use by the assessee or any member of his family dependent on him.

3. Agricultural land in India, not situated under the following limits –

a) Within the jurisdiction of a municipality, municipal corporation, notified area committee, town area committee, or a cantonment board which has a population of not less than 10,000 according to the last preceding census; or

b) Within 8 kilometers, from the local limits of any municipality or cantonment board (referred as above).

It must be noted here that agricultural land which is situated in urban area (i.e., within the jurisdiction of a municipality or a cantonment board having a population of 10,000 or more or within 8 kilometers of their local limits) is a capital asset. But other agricultural lands in India, not situated in any area falling in above (a) or (b) are not capital assets. Thus, agricultural lands situated in rural areas are not capital assets.

4. 6.5% Gold Bonds, 1977; or 7% Gold Bonds, 1980; or National Defence Gold Bonds, 1980, issued by the Central Government.

5. Special Bearer Bonds, 1991, issued by Central Government.

6. Gold Deposit Bonds, 1999 issued under the Gold Deposit scheme, 1999 notified by the Central Government.

Note : ‘Jewellery’ includes the following –

a) Ornaments made of gold, silver, platinum or any other precious metal or any alloy, whether or not containing any precious or semi-precious stone, and 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.

Personal Effects : Personal effects means the personal assets in the personal use of the assessee or any other person dependent upon the assessee and which have been purchased for personal use only, and not for sale, such as furniture, refrigerator, motor-car, scooter or other vehicle and personal library etc. But gold and silver coins and bars used for puja of deities as a matter of pride or ornamentation and normally not intended for personal or household use are not ‘personal effects’ and are, therefore, treated as ‘capital assets’.

The value or price of an asset is immaterial for determining whether or not such asset is a personal asset. If an asset is for personal use, it shall be deemed to be a personal asset even though it is very costly. Any personal asset will not be treated as capital asset merely because it is very costly. Thus, silver utensils, beds made of silver, chairs and stools of silver etc. are personal assets and any profit on their transfer shall not be treated as ‘capital gain’. Similarly, profit arising on sale of silver utensils is also not capital gain.

‘Capital assets’ as per different legal decisions are as follows–

1. Goodwill is capital asset. Any amount received or receivable on sale of goodwill in excess of its book value is capital gain.

2. Right to purchase share.

3. Share of a partner in the firm.

4. Leasing rights in mines and a licence to produce any article.

Types of Capital Assets and Capital Gains : There are two types of capital assets. These are explained as follows –

1. Short-Term Capital Asset : According to section 2(42-A), short-term capital asset means a capital asset held by an assessee for not more than 36 months immediately preceding the date of its transfer. But in the case of a share held in a company or any other security listed in a recognized stock exchange in India or a unit of the Unit Trust of India or a Unit of a Mutual Fund specified u/s 10 (23-D), the period of 36 months has been reduced to 12 months. Thus, share, listed security or unit held by an assessee is a short-term capital asset if it is held by him for not more than 12 months immediately preceding the date of transfer. If an asset is transferred within 36 months of its date of acquisition or a share, a listed security or a unit is transferred within 12 months of its date of acquisition, it is the transfer of short-term capital asset. According to section 2 (42-B), ‘Short-term capital gain’ means capital gain arising from the transfer of a short-term capital asset.

2. Long-Term Capital Asset : An asset which is not a short-term capital asset as per section 2 (42-A), may be called a long-term capital asset. Thus, an asset acquired before more than 36 months immediately preceding the date of transfer or a share, a listed security or a unit acquired before more than 12 months immediately preceding the date of transfer, is termed as long-term capital asset.

‘Long-term capital gain’ means capital gain arising from the transfer of a long-term capital asset.

Transfer

Meaning : According to section 2 (47), ‘transfer’ in relation to a capital asset, includes–

1. the sale, exchange or relinquishment of the asset; or

2. the extinguishments of any right therein; or

3. the compulsory acquisition thereof under any law; or

4. the conversion or treatment of the asset into stock-in-trade; or

5. any transaction allowing the possession of any immovable property in part performance of a contract (Under section 53-A of the Transfer of Property Act, 1882), even though the legal ownership may not have been transferred under the general law of the land; or

6. Any transaction which has the effect of transferring or enabling the enjoyment of any immovable property (by becoming a member of, or acquiring shares in, a co-operative society, company or other association of persons or by way of any agreement or any arrangement or in any other manner whatsoever).

‘Capital gains’ are chargeable to tax in the year in which the capital asset is transferred, even though its compensation is settled later on. Sale by a commissioner or receiver under the court’s order is also deemed to be transfer. Purchase of a firm’s running business by a company is also deemed to be transfer.

Computation of Capital Gains

According to section 48, the income chargeable under ‘Capital gains’ shall be computed by deducting the following amounts from the full value of the consideration received or receivable on the transfer of a capital asset–

1. Expenditure Incurred in Connection with Such Transfer : Expenditure incurred wholly and exclusively in connection with the transfer of capital assets shall be deducted from the full amount of consideration received on such transfer such as commission on sales, brokerage, advertising expenses, traveling expenses, stamp expenses, legal expenses and any other expenses which are incurred wholly and exclusively in connection with such transfer.

2. Cost of Acquisition and Improvement : The cost of acquisition of the asset transferred and the cost of any improvement thereto shall also be deducted from the full value of consideration.

Note: Where shares, debentures or warrants are transferred, under a gift or an irrevocable trust, by a company to its employees under the Employee’s stock option scheme or employees’ stock purchase scheme, the market value on the date of such transfer shall be deemed to be the full value of consideration received or accruing as a result of such transfer for computing capital gains.

Cost of Acquisition of an Asset : Capital gain is computed after deducting from the full value of consideration of capital asset, the cost of acquisition thereof. Cost of acquisition is the amount which has been actually spent by the owner of a capital asset in acquiring that asset. Cost of acquisition under different circumstances is as follows–

1. Cost to the Previous Owner : According to section 49(1), where the assessee has acquired the capital asset under any of the following circumstances, the cost of acquisition of the asset shall be deemed to be the cost for which the previous owner of the property acquired it. It will be increased by the cost of any improvement to the asset incurred or borne by the previous owner or the assessee, as the case may be :-

a) Assets acquired on any distribution of assets on the total or partial partition of a Hindu Undivided Family; or

b) Assets acquired under a gift or will; or

c) Assets acquired by succession, inheritance or devolution; or

d) Assets acquired on any distribution of assets on the dissolution of a firm, body of individuals, or other association of persons, if such dissolution had taken place before 1st April, 1987; or

e) Assets acquired on any distribution of assets on the liquidation of a company; or

f) Assets acquired under a transfer to a revocable or an irrevocable trust; or

g) Assets acquired by a fully owned Indian subsidiary company from its holding company; or

h) Assets acquired by an Indian holding company from its fully owned subsidiary company; or

i) Assets acquired by an amalgamated Indian company, under a scheme of amalgamation from amalgamating company; or

j) Share of an Indian company acquired by a amalgamated foreign company from an amalgamating foreign company; or

k) Conversion by a HUF member of his self-acquired property into HUF property.

Note : ‘Previous Owner’, as per explanation to this section, means the last previous owner of the capital asset who actually acquired it by a mode other than the modes discussed above. Thus, the last person who acquired the capital asset by purchase or construction is the last previous owner. The cost of acquisition to the last previous owner would be that actual cost of purchase or construction incurred or borne by such previous owner. According to section 55 (3), if such cost of acquisition to the previous owner is not ascertainable, the cost to the previous owner would be the market value of the capital asset on the date he became the owner thereof.

2. Cost of Share in Amalgamated Company : According to section 49 (2), where the capital asset acquired by an assessee are shares in an amalgamated Indian company in consideration of his shares in amalgamating company, the cost of acquisition of such capital asset shall be the cost of acquisition to him of the shares in the amalgamating company.

3. Cost of Converted Shares or Debentures : According to section 49 (2-A) where bonds or debentures, debenture-stock or deposit certificates of a company are converted into shares or debentures of that company, the cost of acquisition of such shares or debentures to the assessee shall be the amount for which the assessee had acquired such bonds or debentures, debenture-stock or deposit certificates before conversion.

4. Cost of Acquisition of Shares, Debentures or Warrants Allotted to Employees by a Company : According to Section 49 (2AA), the cost of acquisition of shares, debentures or warrants, the value of which has been taken into account while computing the value of perquisite u/s 17 (2), shall be the value under that clause. It means the value of such shares, debentures or warrants for the purpose of perquisite shall be the cost of its acquisition for capital gains, if these are transferred.

5. Cost of Acquisition of Shares in the Resulting Company : As per section 49 (2-C), cost of acquisition of the shares in the resulting company shall be the amount which bears the cost of acquisition of shares held by the assessee in the demerged company the same proportion as the net book value of the assets transferred, in a demerger, bears to the net worth of the demerged company immediately before such demerger.

6. Cost of Acquisition of Original Shares : As per section 49 (2-D), the cost of acquisition of the original shares held by the shareholder in the demerged company shall be deemed to have been reduced by the amount so arrived in (5) above.

7. Cost of Capital Assets Transferred in Between Holding and Subsidiary Companies : According to section 49 (3), where the capital assets have been acquired by a holding company from its subsidiary company or vice versa, and the subsidiary company is not fully owned by the holding company or the transferee company is not an Indian company, the cost of acquisition of such assets to the transferee company shall be the cost for which such assets have been acquired by such transferee company.

8. Cost of Acquisition of Depreciable Assets Forming Part of a Block of Assets : According to section 50 (1) and (2), cost of acquisition of depreciable assets is the sum of the following–

a) Written-down value of all the assets in the block of assets in the beginning of the previous year; and

b) Actual cost of the assets acquired, during the previous year, within the block of assets.

Thus, the cost of acquisition of a block of assets is the sum of the cost of acquisition of individual assets within the block of assets. If a particular asset within the block of assets is sold during the previous year, the cost of acquisition of that particular block of assets shall be reduced by the amount of selling price of the assets sold. In brief, the cost of acquisition of depreciable assets will be:-

Cost of acquisition of W.D.V. of all assets within the block the block of assets = the beginning of the previous year.

+Actual cost of assets acquired during the previous year within the block

–Selling price of the assets sold within the block during the previous year.

Note : Capital gains arising on the transfer of depreciable assets are short-term capital gains. The date of acquisition of assets is immaterial.

9. Cost of Acquisition in Case of Depreciable Asset : According to section 50-A, where the capital asset is an asset for which depreciation u/s 32 (1) (i) has been obtained by

the assessee in any previous year, its cost of acquisition for the purpose of computation of capital gain shall be its adjusted written down value as defined in section 43 (6).

Note : Assets which are depreciated u/s 32 (1) (i) are –

a) buildings, machinery, plant or furniture, being tangible assets;

b) know-how, patents, copyrights, trade marks, licences, franchises or any other business or commercial rights of similar nature, being intangible assets.

10. Cost of Acquisition in Case of Slump Sale : As per Section-50 B, if a capital asset being an undertaking is transferred by way of slump sale, the ‘net worth’ of the undertaking shall be deemed to be the cost of acquisition and the cost of improvement. Thus, benefit of indexation will not be available to the assessee.

11. Cost of Acquisition in Case of Advance Money Received : According to Section 51, if, on any previous occasion, some negotiations were carried for transfer or sale of any capital asset and any advance or other money, received in respect of such negotiations, was forfeited by the assessee, the cost of acquisition of such asset would be the cost for which the asset was acquired or the written-down value or the fair market value of the asset, as the case may be, as reduced by the amount of advance so forfeited. Thus,

Cost of acquisition = Actual cost or written-down value or fair market value of the asset – Advance money forfeited by the assessee

12. Cost of Acquisition of Goodwill : According to section 55 (2) (a), if the goodwill has been acquired by the assessee by purchase from a previous owner, its cost of acquisition shall be the purchase price of it but if it is self-generated in the business, its cost of acquisition shall be taken to be Nil.

13. Cost of Acquisition of a Right to Manufacture, Produce or Process any Article or Thing, or of Tenancy Rights, Route Permits or Loom Hours : According to section 55 (2) (a), cost of acquisition of a capital asset being a right to manufacture, produce or process any article or things, or of tenancy rights, route permits or loom hours shall be:-

a) where such asset has been acquired by the assessee by purchase from a previous owner, the amount of the purchase price;

b) where the previous owner has transferred such asset to the assessee under section 49 (1) (i) to (iv), the cost for which the previous owner had acquired such asset; and

c) in any other case, it shall be taken to be Nil.

14. Cost of Acquisition of Asset Acquired Before April 1, 1981 : According to section 55(2)(b), if any capital asset (including a financial asset but excluding depreciable assets) has been acquired by the assessee before April 1, 1981, its cost of acquisition to the assessee would be the actual cost of acquisition of the asset to the assessee or the fair market value of the asset on April 1, 1981 at the option of the assessee.

But when the assessee has acquired the capital asset by any of the modes as given in section 49 (1), i.e., on partition of HUF, by succession or inheritance, on dissolution of firm or body of individuals, on liquidation of company, under a revocable or irrevocable trust etc., and such capital asset became the property of the previous owner before April 1, 1981, the cost of acquisition of such asset would be the actual cost of acquisition to

the previous owner or the fair market value of the asset as on April 1, 1981 at the assessee’s option.

15. Cost of Acquisition of the Capital Asset Acquired on Liquidation of Company : According to section 55(2) (b) (iii), if the assessee has acquired the capital asset on the distribution of the capital assets of a company on its liquidation and the assessee has been assessed to income-tax under the head ‘capital gains’ in respect of that assets, the cost of acquisition of that asset would be its fair market value on the date of distribution.

16. Cost of Acquisition of a Share or a Stock of a Company Acquired in Certain Circumstances: According to section 55 (2) (b) (v), if the assessee has acquired the capital asset in the form of a share or a stock of a company under any of the following circumstances, its cost of acquisition would be the cost of acquisition of the share or stock for which such a share or a stock has been acquired –

a) The consolidation of shares of smaller amount into the shares of larger amount;

b) The conversion of shares into stock;

c) The re-conversion of any stock into shares;

d) The sub-division of shares of larger amount into shares of smaller amounts;

e) The conversion of one kind of shares of the company into another kind.

17. Cost of Acquisition of Bonus Shares : According to section 55 (2) (aa) (iii-a), where some financial asset has been allotted to the assessee without any payment and on the basis of holding of any other financial asset, the cost of acquisition of such financial asset shall be taken to be Nil in the case of such assessee. Thus, if an assessee has acquired bonus shares in relation to his present shareholdings, the cost of acquisition of such bonus shares shall be taken as Nil.

But, where any bonus shares were acquired before April 1, 1981 the assessee shall have the option to adopt the fair market value as on April 1, 1981 of such shares as their cost of acquisition and the benefit of indexation shall also be available.

18. Cost of Acquisition of Right Shares or Right Entitlements termed as Additional Financial Assets : According to section 55(2)(aa), where, by virtue of holding a share or any other security, i.e., financial asset, the assessee becomes entitled to purchase any additional financial asset (right share or right entitlement), the cost of such additional financial asset shall be as below–

a) Cost of the original financial asset (a share or a security), on the basis of which the assessee becomes entitled to any financial asset, shall be the amount actually spent by the assessee for acquiring such asset;

b) Cost of the right entitlement to subscribe the financial asset, shall be taken to be Nil for the assessee;

c) Cost of the financial asset (a right share), to which the assessee has subscribed on the basis of his right entitlement, shall be the amount actually paid by him for acquiring such asset;

d) Cost of any financial asset (right share or security), purchased by any person in whose favour the right to subscribe to such asset has been renounced, shall be the aggregate of the following –

i) the amount paid for purchasing the right entitlement, i.e., the amount paid by him to the person who has renounced such right; and

ii) the cost of the right share or security, i.e., the amount paid by him to the company or institution for acquiring such financial asset.

19. Cost of Acquisition in Case of Devaluation of Rupee : Where a capital asset has been purchased from outside India for a certain specific amount, but before making the full and final payment of such an agreed amount, the Indian rupee is devalued and the assessee has to pay more than the agreed amount, the excess payment, thus, made by the assessee would be added to the cost of acquisition of such asset.

Cost of Improvement : As per Section 55 (1) (b), cost of any improvement in relation to a capital asset will be as follows –

1. Cost of improvement in relation to goodwill of a business or a right to manufacture, produce or process any article or thing shall be taken to be Nil.

2. In relation to any capital asset which became the property of the previous owner or the assessee before April 1, 1981, and the fair market value of the asset as on that date is taken as the cost of acquisition, the cost of improvement would be the sum of all expenditures of a capital nature, incurred by the previous owner or the assessee on any additions or alterations to the capital asset on or after the said date, i.e., April 1, 1981.

3. In relation to any other capital asset, the cost of improvement would be the sum of all expenditure of a capital nature incurred by the assessee or the previous owner on any additions or alterations to the capital asset after the date such capital asset became the property of the assessee of the previous owner, as the case may be.

Thus, every expenditure which increases the value of property or which improves the property by additions or alternations is termed as cost of improvement. But this does not include any such expenditure which is allowable as deduction in computing the income chargeable to tax under the head ‘Income from house property’, ‘Profits and gains of business or profession’, or ‘Income from other sources’.

Fair Market Value : As per section 55-A, with a view to ascertaining the fair market value of a capital asset, the Assessing Officer may refer the valuation of the capital asset to a Valuation Officer under the following circumstances –

1. Where the value claimed or declared by the assessee, though it is in accordance with the estimate of a registered valuer is, in the opinion of the Assessing Officer, less than its fair market value.

2. Where in the opinion of the Assessing Officer–

a) The fair market value of the asset exceeds by 15% or more of the value claimed or declared by the assessee or by Rs. 25,000; or

b) It is necessary to refer the asset to the Valuation Officer looking into the nature of the asset and other relevant circumstances. Opinion of Assessing Officer is necessary before referring to the Valuation Officer.

Indexed Cost of Acquisition : Long-term capital gain is computed by deducting from the full value of consideration, received or receivable on transfer of a long-term capital asset (except long-term capital asset being bonds and debentures), the indexed cost of acquisition and not the actual cost of acquisition. This is done for the benefit of the assessee, because there is, generally, a long gap between the date of acquisition and the date of transfer and during this gap period the real value of the rupee falls down due to increase in price. Therefore, the original cost of acquisition of an asset is linked with the cost inflation index of the year of transfer and indexed cost of acquisition is ascertained. This ‘indexed cost of acquisition’ means an amount which bears to the cost of acquisition the same proportion as Cost Inflation Index for the year of transfer bears to the Cost Inflation Index for the year of acquisition or for the year 1981-82, whichever is later. In brief –

In the case where the asset is acquired before April 1, 1981

In the case where the asset is acquired after April, 1, 1981

Here,

Year of transfer, means the year in which the asset is transferred

Year of acquisition, means the year in which the asset is acquired,

purchased or constructed etc.

Note : If an asset is acquired before April 1, 1981, then, the fair market value of the asset as on April 1, 1981 shall be the cost of acquisition, at the option of the assessee. But if it is acquired, or constructed after April 1, 1981, its cost of acquisition shall be the actual cost for which it is acquired, purchased or constructed.

Indexed Cost of Any Improvement : Indexed cost of improvement is ascertained by linking the actual cost incurred on improvements in the assets transferred with the Cost Inflation Index of the year of transfer. It means an amount which bears to the cost of improvement the same proportion as Cost Inflation Index of the year of transfer bears to the Cost Inflation Index of the year of improvement or years of improvements. Thus, actual cost of improvement is converted into the indexed cost of improvement by using the following formula:-

In the case where the asset is acquired before April 1, 1981

In the case where the asset is acquired after April 1, 1981

Here, Year of improvement, means the year in which improvement in the asset takes place. Year of transfer, means the year in which the asset is transferred.

INCOME FROM OTHER SOURCES

‘Income form other sources is the fifth and the last head amongst the five heads of income. Section 56 to 59 of the Income-tax Act, 1961 deal with this head. According to section 56 (1), income of every kind which is includible in the total income under this Act, but which is not chargeable to income-tax under any of the four heads discussed in the preceding chapters, shall be chargeable to income-tax under the head ‘Income from other sources’. Thus, any income which satisfies the following two conditions will be taxed under this head:-

1. Income is chargeable to tax under this Act; and

2. Such income is not chargeable to tax under any of the following four heads–

Income from salaries; Income from house property; Profits and gains of business or profession; or Income from capital gains.

Chargeability : Income chargeable under this head shall be computed either on ‘due’ basis or ‘receipt’ basis depending upon the method of accounting regularly employed by the assessee. The assessee may keep his accounts either on mercantile or cash basis. The assessee must also follow the Accounting standards notified by the Central Government.

According to Section 56 (2), the following income shall be chargeable to income-tax under the head ‘Income from other sources –

1. Dividends;

2. Incomes of casual nature such as winnings from lotteries, crossword puzzles, races including horse races, card games and other games of any sort or income from gambling or betting of any from or nature etc.;

3. Any of the following sums received by the assessee from his employees, if such sum is not chargeable to income-tax under the head ‘Profits and gains of business or profession –

a) Contribution to any provident fund,

b) Contribution to Superannuation fund,

c) Contribution to any fund set up under the provisions of the ‘Employee State Insurance Act, 1948,

d) Contribution to any other fund set up for the welfare of such employee.

4. Income by way of interest on securities if such income is not chargeable to income-tax under the head ‘Profits and gains of business or profession’. If the assessee is engaged in the business of purchase and sale of securities any income by way of interest on securities shall be chargeable under the head ‘Profits and gains of business or profession’;

5. Income from letting on any machinery, plant or furniture, belonging to the assessee, if such income is not chargeable under the head ‘Profits and gains of business or profession’;

6. Income from letting on any machinery, plant or furniture, belonging to the assessee, alongwith the buildings where the letting of the buildings cannot be separated from the letting of the said machinery, plant or furniture provided such income is not chargeable to income-tax under the head ‘Profits and gains from business or profession’. Such

incomes are from letting of a factory, rice or pulse mills, restaurants, fully equipped hotels, cinema halls etc.

7. Income in the nature of family pension. Family pension means a regular monthly amount payable by the employer to a person belonging to the family of an employee in the event of his death. Such income is chargeable to tax under the head ‘Income from other sources.

Description of Some Important Income

I) Dividends :

Meaning of Dividend : Dividend in common parlance means the amount paid by a company to its shareholders in proportion to their shareholdings in the company. Dividend receivable by a shareholder is taxable in his hands under the head “Income from other sources’. Even where shares constitute stock-in-trade of the business of an assessee, dividend from such share shall be chargeable under this head. But, where a money-lender acquires shares in lieu of advances made, dividends form such shares is assessable as his business income. Company pays dividend out of its current profits, undistributed profits of the previous years and the amount provided by the Central or State Government for the payment of dividends in pursuance of guarantee given by the Government. Generally, dividend is paid in cash, but it can also be paid in the from of shares or commodity. Dividend payable in the form of shares is termed as ‘Capital bonus’ or ‘Capital dividend’ and shares received as such are called ‘Bonus shares’. Dividend income is taxable irrespective of the fact that it is paid in cash or in kind or it is paid out of taxable income or tax-free income of the company. Thus, dividend paid out of agricultural income is also taxable in the hands of recipient. Similarly, it is also immaterial whether the dividend is paid out of revenue profits or capital profits.

Income-tax Act, 1961 does not define dividend. But under section 2 (22), the following are included in dividend–

1. Any distribution of accumulated profits, whether capitalized or not, by a company to its shareholders if it entails the release of all or any part of its assets;

2. Any distribution of debentures, debenture stock or deposit certificate in any form, whether with or without interest, made by a company to its shareholders to the extent of its accumulated profits (whether capitalized or not);

3. Any distribution of bonus shares made by a company to its preference shareholders to the extent of its accumulated profits (whether capitalized or not);

4. Any distribution made by a company to its shareholders on its liquidation to the extent to which the distribution is attributable to the accumulated profits (whether capitalized or not) of the company immediately before its liquidation;

5. Any distribution by a company to its shareholders on the reduction of its capital to the extent to which the company possesses accumulated profits, whether capitalized or not;

6. Any payment by way of loan or advance, made by a closely held company after 31st May, 1987 to a shareholder who is the beneficial owner of at least 10% equity shares of the company, or to any concern (HUF, firm, company, AOP or BOI), in which such shareholder is a member or a partner or has substantial

interest (beneficial owner of at least 20% profits of the concern), or any payment by any such company on behalf of or for the benefit of such shareholder, to the extent of the company’s accumulated profits.

Dividend does not include the following –

1. Any distribution made by a company out of its accumulated profits in the event of winding up or reduction of capital, in respect of preference shares issued for full cash consideration, as these shareholders are not entitled to participate in surplus assets in the event of liquidation;

2. Any distribution made by a company in the event of winding up or reduction of capital if such distribution is attributable to the capitalized profits of the company representing bonus shares allotted to its equity shareholders during the financial year 1964-65;

3. Any advance or loan given to a shareholder by a company in the ordinary course of its business where money-lending is a substantial part of the business of the company;

4. Any dividend paid by a company which is set-off by the company against the whole or any part of any sum previously paid by it and treated as dividend as per provisions of this Act, to the extent to which it is so set-off. But if the dividend is not so set-off, rather, it is paid to a shareholder, even when the loan is outstanding against him, it would be treated as dividend.

5. Any loan taken by an assessee, who is shareholder in a company doing only money lending business, cannot be treated as deemed dividend even though the company had accumulated profits.

Assessment of Dividends : Dividends may be of three types–

1. Dividends declared by a domestic company.

2. Dividends declared by a foreign company.

3. Dividends declared by a body corporate or any other concern other than a domestic company such as UTI, Co-operative Society etc.

II. Winnings from Lotteries, Crossword Puzzles, Races, Card Games Etc. : Any income by way of winnings from lottery or crossword puzzles or race including horse race or card game or game of any sort or from gambling or betting of any form or nature is ‘casual income’ and is, therefore, exempt from tax upto the aggregate of Rs. 5,000 or Rs. 2,500 if such casual income is related to a race including horse race. If such income exceeds Rs. 5,000 or Rs. 2,500 as the case may be, the excess shall be chargeable to tax under the head ‘Income from other sources’. It should be noted that as per section 58 (4), no deduction is allowed in respect of any expenditure or allowance in connection with such income. But in the case of an assessee having income from activity of owning and maintaining race horses, any expenditure incurred by him in the maintenance of race horses, shall be allowed as deduction from such income.

III. Interest on Securities :

Meaning of ‘Securities’ : The word ‘security’ has not been defined in the Act. In common parlance security is meant by safety of a commodity or loan or guarantee for repayment of a loan, debt or liability. But from income-tax point of view, ‘security’ is a documentary evidence of a debt which is issued by a debtor in favour of his creditor in which the amount of loan, rate of interest, conditions for the repayment of loan and the time of repayment are specifically and clearly noted and which is signed by the debtor himself or any other person authorized on his behalf. Governments, companies, corporations, banks, insurance companies and co-operative societies obtain loan from time to time from the public by issuing several types of securities such as debentures, bonds or promissory notes etc. Thus, security is an acknowledgement of a debt in writing. A mere debt, not secured by a document in writing, is not a ‘security’.

‘Share’ is not a security because –

a) it is an acknowledgement of ownership in the company and not an acknowledgement of debt.

b) the amount of share is not refunded during the life time of the company (except the preference shares), and

c) there is no certainty of regular income on shares.

‘Interest on securities’ is chargeable to tax under one of the following two heads–

1) Under the Head ‘Profits and Gains of Business or Profession’ : If assessee is indulged in the purchase and sale of securities and securities are held by him as ‘stock-in-trade, interest thereon shall be chargeable to tax under the head ‘Profits and gains of business or profession’.

2) Under the Head ‘Income from Other Sources’ : If the securities are held by an assessee as investment, interest from such securities shall be chargeable to tax under the head ‘Income from other sources’.

Kinds of Securities : From income-tax point of view, the securities may be classified as under–

1. Government Securities : Any security issued by the Central Government or a State Government is known as Government security. Government securities can be classified into two categories –

a) Tax-free government securities : Tax-free Government security means the security, issued by the Central Government or a State Government, the interest on which is fully excluded from the total income u/s 10 (15) of the Act– There are certain securities interest on which is not chargeable to tax u/s 10 (5) of the Act. Interest on these securities is neither included in the total income nor any tax is paid thereon.

b) Less-tax Government Securities : All the securities issued by the Central Government or a State Government except those the interest on which is exempt from tax u/s 10 (15) or which are declared as tax-free, are less-tax Government securities.

Interest on such securities is taxable in the hands of the assessee. It is included in his total income and chargeable to tax. But As per section 193 (iv), no tax shall be deducted from any interest payable on any security of the Central Government or a State Government. Hence, interest received on Government securities is the gross interest.

2. Non-Government Securities : Any security which is not a Government security is known as Non-Government security. These are also known as ‘commercial securities’. These are issued by or on behalf of any local authority, or a corporation established by a Central, State or Provincial Act or by a company etc. These may be listed or unlisted. Securities which are registered in a recognized stock exchange for their purchase and sale are known as listed or registered commercial securities. The securities which are not so registered are called unlisted commercial securities. Both the securities are known as commercial securities. Commercial securities may be of two types –

a) Tax-Free Non-Government Security : Income-tax is levied and collected by the Central Government. No authority, body, institution or concern except the Government can issue security bearing tax-free interest. Only the Government can issue tax-free security. In case any non-Government body issues such security, it simply means that the security issuing authority shall pay income-tax to the Government from its own pocket on behalf of the security-holder on the amount of the interest paid or payable to him. The following provision should be kept in mind in this connection –

The entire interest due is paid to the security-holder without making any deduction of tax at source therefrom. Thus, the amount of interest due and interest received is the same.

b) Less-tax non-Government security : Such security is similar to less-tax Government security. Any security which is not issued as tax-free, is known as less-tax regarding chargeability of interest on such security–

Interest due (% interest) is the gross interest.

Deduction of Tax at Source : According to section 193 of the Act, the person who pays any interest on security to any person must deduct income-tax there from. Such deduction of tax is called ‘deduction of tax at source’. Such amount deducted as income-tax at the time of the payment of interest is deposited in Government treasury. Tax so deducted and deposited is treated as tax deposited on behalf of the person from whose interest it has been deducted at source. Such person at the time of his own assessment gets rebate of this amount from his income-tax liability. The person responsible for deduction of tax at source issues a certificate, mentioning therein the amount of tax deducted, to the person from whose interest such deduction is made. The rates of deduction of tax at source are determined by the Finance Act passed every year. The following provisions relate to the deduction of tax at source–

1. As per section 193, the person responsible for paying any income by way of interest on securities shall deduct income-tax, at the rates given in Part II of the First Schedule to the Finance Act, on the amount of interest payable at the time–

a) When such interest is credited to the account of the payee, or

b) When such interest is paid in cash or by issue of a cheque or draft or by any other mode (whichever is earlier).

2. As per section 203, every person who deducts tax at source shall furnish to the person from whom such deduction is made, a certificate to the effect that tax has been deducted specifying therein the amount so deducted, the rate at which the tax has been deducted and such other particulars as may be prescribed. Such certificate is issued in Forms 16 and 16-A.

3. When there are two or more joint owners of a security, the payment of interest and the deduction of tax at source shall be deemed to be in the proportion of their ownership.

IV. Contributions Received from Employees : According to the section 2(24)(x), if an assessee receives any of the following amounts from his employees, he is chargeable to tax on such amount under the head ‘Income from other sources’ –

1. Contribution to any provident fund;2. Contribution to superannuation fund; 3. Contribution to any fund set up under the Employees’ State Insurance Act, 1948; 4. Contribution to any other fund for the welfare of employees.

The employer deducts some amount from the salary of his employee and deposits the same to any one or more of these funds. The amount so deducted is deemed income of the employer under the head ‘Income from other sources’. But, when the employer deposits the amount within the prescribed time in the fund, for which it is deducted, he becomes entitled for claiming deduction of such amount. Thus, the amount which is first included in the total income is, thereafter, deducted from the total income when it is deposited within the prescribed time, in the fund for which it has been deducted.

V. Income from Machinery, Plant or Furniture Let on Hire : As per section 56(2)(ii), any income arising to an assessee from letting on hire of any machinery, plant or furniture belonging to the assessee is chargeable to tax under the head ‘Income from other sources’, if such income is not chargeable to income-tax under the head ‘Profits and gains of business or profession’. If the assessee trades in letting on hire of machinery, plant or furniture, any income arising therefrom shall be chargeable to tax under the head ‘Profits and gains of business or profession’. In any other case, it is chargeable under the head ‘Income from other sources.’

If the assessee lets on hire the building also, alongwith the machinery, plant or furniture belonging to him and the letting of the buildings is inseparable from the letting of the said machine, plant or furniture, the income from such letting shall be chargeable to tax under the head ‘Income from other sources’, provided such income is not chargeable to income-tax under the head ‘Profits and gains of business or profession’. For example, income from letting a factory, restaurant or hotel, theatre or cinema hall, rice or pulse mill, etc. is taxable under the head ‘Income from other sources’. Such hired income includes the hire of buildings as well as of plants, machinery and furnitures equipped within such buildings. The rent of buildings cannot be separated from the rent of machinery, plant or furniture. It is, therefore, taxable under the head ‘Income from other

sources’. If an assessee carries on a business of letting on hire of factories, cinemas, restaurants or hotels, such income would be taxable under the head ‘Profits and gains of business or profession’.

VI. Interest on Kisan Vikas Patra : Interest on Kisan Vikas Patra is included in the total income of the assessee under this head. Interest accrued every year on these Vikas Patra is calculated on the basis of a table issued by the Department of Economic Affairs. Such interest is not eligible for deduction u/s 80-L.

VII. Interest on Social Security Certificates : These certificates are issued in denominations of Rs. 500 and Rs. 1,000 for 10 years. On expiry of maturity period of 10 year, the holder of a certificate of Rs. 500 gets Rs. 1,500 and a holder of Rs. 1,000 certificate gets Rs. 3,000 inclusive of interest. Interest accrued every year is chargeable to tax under this head. But deduction u/s 80-L is available.

VIII. Interest on Indira Vikas Patra : Interest on Indira Vikas Patra is included in the assessee’s total income under the head ‘Income from other sources’. Interest, accrued every year, is calculated on the basis of a table. Deduction u/s 80-L is not available to such interest.

IX. Interest on National Savings Certificates : Interest on NSC is chargeable to tax under the head ‘Income from other sources’. Interest, accrued every year, is calculated on the basis of a table. Such interest is entitled to deduction u/s 80-L.

X. Receipt under Keyman Insurance Policy : Any sum received under a keyman insurance policy including the sum allocated by way of bonus on such policy is chargeable under ‘Income from other sources’ if not charged under the head ‘Income from salaries’ or ‘Profits and gains of business or profession’.

Deductions : According to section 57, the income chargeable under the head ‘Income from other sources’ is computed after making the following deductions–

1. In the Case of Dividends or Interest on Securities : ‘Dividends’ and ‘interest on securities’ are chargeable to income-tax under this head. Gross dividends and gross interest on securities are first included in assessee’s total income and then, the following deductions are allowed there from:-

a) Collection Charges : Any reasonable sum paid by way of commission, remuneration or any other expenditure paid to a banker or any other person for the purchase of realizing such dividend or interest on behalf of the assessee shall be allowed as deduction. For example, bank commission for collecting the money or cheque or bank draft, salaries due to employees engaged in the collection of interests or dividends and expenses of the collection office, if the assessee maintains it separately etc. Collection charges are allowable as deduction only when these have been actually incurred. If the assessee himself collects his interests or dividends, he is not entitled to this deduction.

b) Interest on Loan : Where the assessee has taken loan specifically to purchase shares or securities, the interest on such loan shall be allowed as deduction even though the shares or securities purchased out of this loan do not yield any income by way of interest or dividend.

Exception : Any interest chargeable under the Act which is payable outside India, on which tax has not been paid or deducted in India and there is no legal representative of the recipient of such interest who may pay tax on such interest, shall not be allowed as deduction.

c) Any other expenditure, not being of a capital nature and specifically incurred to earn such interest or dividend.

2. In Case of Contribution Received from Employees : Where any sum, received by the assessee from his employees as contributions to any provident fund or superannuation fund or any other fund set up for the welfare of employees, is included in his total income under this head, a deduction equal to the sum credited by the assessee to the employee’s relevant fund account on or before due date, shall be allowed. Thus

Income = contribution received from his employees towards these funds.

Deduction = The amount deposited by the assessee to the employee’s relevant funds on or before due date.

Due date means the date, by which the assessee is required to credit employee’s contribution in the fund, as per the Act by which the fund is governed.

3. In Case of Income Derived from Letting : When the assessee is in receipt of the income from letting on hire of any machinery, plant or furniture along with the buildings where the letting of the buildings, cannot be separated from the letting of the said machinery, plant or furniture, the following deductions shall be allowed in respect of such income–

a) Current repairs to the plant, machinery, furniture or building;

b) Insurance premium paid to get these assets insured against risk of damage or destruction;

c) Depreciation and unabsorbed depreciation as per Income-tax Act.

4. In the Case of Income in the Nature of Family Pension : If the assessee is in receipt of an income in the nature of family pension, he shall be entitled to a deduction of a sum equal to 1/3 of such income or Rs. 15,000 whichever is less.

5. In the Case of Other Incomes : Any other expenditure, not being in the nature of capital expenditure, incurred wholly and exclusively for the purpose of making or earning such income, shall be allowed as deduction. Thus, the following conditions should be fulfilled in order to allow an expenditure as deduction under this head–

a) Expenditure is incurred wholly and exclusively for the propose of earning income or making profit;

b) It is not of a capital nature;

c) It is not a personal expenditure;

d) It should relate to the accounting year to which the relevant income belongs. It should not be incurred prior to or after that accounting year;

e) There must be a clear nexus between the expenditure incurred and the income sought to be earned.

If any expenditure has been incurred to make or earn an income chargeable to tax under this head, but no income is earned, such expenditure shall be allowed as deduction under this head. Thus, interest on loan taken to invest in shares is an allowable deduction even if the shares do not yield any dividend income.

SET OFF AND CARRY FORWARD OF LOSSES

Meaning of Set Off and Carry Forward of Losses : It is not necessary that there should, necessarily, be income from every source of income or under every head of income. If there is loss from any source and profit from the other source or sources under the same head, the loss of a source is adjusted or written-off against the income of the other source or sources under the same head. The net result of the head (profit or loss) is obtained after adjusting inter-source losses against inter-source profits. Similarly, if there is a loss in any head and profit in the other head or heads, such loss is adjusted against the income of other heads. This process of adjusting or writing-off of losses against income is termed as ‘set off of losses’. When loss of one source is set off against the income of other source or sources within the head, it is termed as ‘set off of losses within the sources’. When loss of one head is set off against the income of any other head or heads, it is termed as ‘set off of losses within the heads’. Where the losses of any previous year are greater than the profits/incomes of that previous year, the entire loss cannot be written-off against the profits of the previous year. The losses not written-off, i.e., excess of losses over income, shall be carried forward and written-off against the income of the subsequent years. This process is termed as ‘carry forward of losses’.

Provisions Regarding Set Off of Losses : The law relating to set off of losses is given hereunder–

1. Inter-Source Set Off : If there is a loss in any source falling under any head of income, the assessee shall be entitled to set off such loss against his income from any other source under the same head of income. For example, A is the owner of two businesses– cloth business and foodgrains business. He incurred a loss of Rs. 20,000 in his foodgrains business and earned a profit of Rs. 50,000 from his cloth business. He can set off his loss of Rs. 20,000 against the profits of Rs. 50,000 and thus, the taxable income of the head ‘Profits and gains of business or profession’, after setting off of loss of one source against the income of other source under the same head, will be Rs. 30,000. If the business revealing loss was carried on only for a few months during the previous year and thereafter it was closed down, even then its loss will be set off against the profits of other businesses during the same previous year.

Exception –

a) Loss from a speculation business can be set off only against the profits in a speculation business.

b) Loss from a source whose income is tax-free cannot be set off against profits in any other source. For example, agricultural loss cannot be set off against income in any other source.

c) Loss from activity of owning and maintaining race horses cannot be set off against any income from any other source or business except income from such

business. Loss from this source can be set off against income from such source only.

It should be noted that losses of non-speculation business can be set off against profits of speculation business; and losses of other businesses can be set off against the income of the business of owning and maintaining race horses.

2. Inter-Head Set Off [Sec. 71] : If there is loss in any head of income, the assessee is entitled to set off such loss against his income, if any, assessable for that assessment year under any other head of income. The law in this respect is as under–

a) Loss under the head ‘Income from house property’ can be set off against incomes under other heads of income.

b) Speculation losses cannot be set off against other incomes. Losses of a speculation business can be set off against the profits of speculation business.

c) Losses under the head ‘capital gains’ cannot be set off against income under other heads of income.

d) Losses from the business of owning and maintaining race horses cannot be set off against any other income.

e) Any loss cannot be set off against winnings from lotteries, crossword puzzles, races (including horse races), card games and other games of any sort or from gambling or betting of any form or nature.

f) Loss from a source, income of which is exempt from tax, cannot be set off against income chargeable to tax. For example, agricultural loss cannot be set off against any other income.

g) Losses of the head whose income is taxable can only be set off.

3. Set Off of Losses of General Business [Sec. 72] : General business, here, means any non-speculation business. If there is any loss under the head ‘Profits and gains of business or profession’, not being a loss of a speculation business, such loss can be set off against income under other heads of income. Thus, losses of non-speculation business can also be set off against speculation profits.

If any business is discontinued during the previous year, the loss of such discontinued business can be set off from the income of any other business or profession of the same year or of any other subsequent assessment year.

Losses of illegal business can only be set off against profit of illegal business. Losses of illegal business can not be set off against profits of a legal business.

4. Set-Off of Losses in Speculation Business (Sec. 73) : Any loss of a speculation business, carried on by the assessee, can be set off only against the profits of another speculation business. But loss incurred in speculation business in banned items (illegal speculation business) cannot be set off against the profits of a legal speculation business.

As per explanation to this section, if a company [other than a company whose gross total income consists mainly of income which is chargeable under the heads ‘Income from

house property’, ‘Capital gains’ and ‘Income from other sources’, or a ‘Company’ which is engaged principally in the business of granting of loans and advances], is engaged in the purchase and sale of shares of other companies, such company shall be deemed to be carrying on a speculation business to the extent to which the business is related with the purchase and sale of shares.

5. Set Off of Losses Against Taxable Income and not Against Exempt Income : The losses can only be set off against income chargeable to tax. These cannot be set-off against tax-free or exempt income.

6. Set-Off of Losses under the Head ‘Capital Gains’ [Sec. 74] : If there is any loss under the head ‘capital gains’ (long-term or short-term) such loss can be set off against the ‘capital gains’ assessable for that assessment year. ‘Capital loss’ cannot be set off against income under any other heads.

7. Set Off of Losses from Activity of Owning and Maintaining Race Horses [Sec. 74-A (3)] : If an assessee is the owner of race horses and any loss is incurred by him in the activity of owning and maintaining race horses in any assessment year, such loss cannot be set off against any income from any source or head. It shall be set off only against the income, if any, from the activity of owing and maintaining race horses assessable for that assessment year.

8. Set Off of Losses of Lottery, Crossword Puzzles, Gambling, Cardgames or Betting Etc. : These losses cannot be set off against any other income.

9. Set Off of Losses of Firm [Sec. 75] : If the assessee is a firm, any loss arising to a firm shall be set off by the firm itself. The rules regarding set off of firm’s losses shall be the same as have been discussed in respect of non-firm assesses.

Carry Forward and Set Off of Losses : Where the loss of any previous year cannot be set off against the income of the said previous year, the loss not so set-off is carried forward to be set off against the income of subsequent year of years. This is termed as ‘Carry forward and set-off of losses’. The following points are worth noting–

1. The following losses can only be carried forward and set off in the subsequent assessment years –

a) Loss under house property;

b) Business loss;

c) Speculation loss;

d) Capital loss;

e) Loss from the activity of owning and maintaining race horses.

2. Only the assessee who has suffered the loss is entitled to carry forward such loss. Any other person or successor of business cannot carry forward the loss. However, in the following circumstances successor or any other person can also carry forward the business loss for the purpose of set off–

a) If succession of the business is by inheritance.

b) When sole proprietorship business is converted into a partnership firm, and the sole proprietor is a partner in the firm.

c) If the loss belongs to an amalgamating company.

d) Loss of partnership firm.

The provisions relating to carry forward and set off of loss are discussed as below –

1. Loss from House Property [Sec. 71B] : If there is a loss under the head ‘Income from house property’ and such loss cannot be or is not wholly set off in the same assessment year from income under any other heads, then the amount of loss not so set off shall be carried forward for 8 assessment years immediately succeeding the assessment year for which the loss was first computed. Such carried forward loss from house property can be set off only against the income under the head ‘Income from house property’ in subsequent years.

2. Losses of General Business [Sec 72] : General business here, means any non speculation business. If there is any loss in any general business or profession of an assessee which cannot be set off against the profits of another general business or profession or incomes under other heads, such ‘not set-off losses’ can be carried forward and set off against the profits of subsequent year or years.

3. Accumulated Loss and Unabsorbed Depreciation in Certain Cases of Amalgamation [Sec. 72-A] : The accumulated loss and the unabsorbed depreciation of the amalgamating company shall be deemed to be the loss or allowance for depreciation of the amalgamated company for the previous year in which the amalgamation was effected. The provisions of set off and carry forward of losses and depreciation shall apply accordingly in a case of amalgamation of a company provided the following conditions are fulfilled–

a) Amalgamating company owns an industrial undertaking or a ship;

b) Amalgamated company holds continuously for 5 years from the date of amalgamation at least three-fourth (3/4) in the book value of fixed assets of the amalgamating company acquired in amalgamation.

c) Amalgamated company continues the business of the amalgamating company for at least 5 years from the date of amalgamation.

d) Amalgamated company fulfils such other conditions as may be prescribed to ensure the revival of the business of the amalgamating company or to ensure that the amalgamation is for genuine business purpose.

If the above conditions are not complied with, the set off of loss or depreciation made in any previous year by the amalgamate company shall be deemed to be the income of the amalgamated company of the year in which such conditions are not complied with.

4. Accumulated Loss and Unabsorbed Depreciation in Certain Cases of Demerger [Sec. 72-A] : In the case of a demerger the accumulated loss and the unabsorbed depreciation allowance of the demerged company shall be allowed to be carried forward and set off in the hands of resulting company, if such accumulated loss or allowance for unabsorbed depreciation is directly relatable to the undertakings transferred to the resulting company.

If such loss or unabsorbed depreciation is not directly relatable to the undertakings transferred to the resulting company, then it will be apportioned between the demerged company and the resulting company in the same proportion in which the assets of the undertakings have been retained by the demerged company and transferred to the resulting company, and it will be allowed to be carried forward and set off by the demerged company or the resulting company, as the case may be.

5. Accumulated Loss and Unabsorbed Depreciation in Case of Succession of a Firm or a Proprietary Concern by a Company [Sec. 72A (5)] : If a firm or a proprietary concern is succeeded on account of reorganization of business by a company fulfilling the conditions of section 47 (xiii) (xiv) [Discussed herebefore], then the accumulated loss and the unabsorbed depreciation of such firm or the proprietary concern, as the case may be, shall be deemed to be the loss or the allowance for depreciation of the successor company for the previous year in which the reorganization was effected. Other provisions of this Act relating to set off and carry forward of loss and allowance for depreciation shall apply accordingly.

But in case any of the conditions laid down in section 47 (xiii) (xiv) are later on not complied with, the set off of loss or depreciation made in any previous year by the successor company shall be deemed to be the income of the company chargeable to tax in the year in which such conditions are not complied with.

6. Set Off of Losses of Discontinued Business [Sec. 41 (5)] : According to section 72(1)(i), the business or profession for which the loss was originally computed may or may not be continued to be carried on by the assessee in the previous year in which not-set-off loss is to be set off. If such business or profession is discontinued, its not set off losses can be set off out of the profits or gains of any other continued business or profession. Similarly, not-set-off losses of discontinued business can also be set off out of its following deemed profits–

a) When there is any recovery of any allowance or deduction which was allowed previously [Sec. 41(1)];

b) When there are deemed profits on sale of capital asset used for scientific research, without having been used for other purposes [Sec. 41(3)];

c) When there are deemed profits arising on recovery of a debt which was allowed as bad debts previously [Sec. 41(4)];

d) When there are deemed profits arising on account of withdrawal from special reserve created previously [Sec. 41(4A)].

It must be made clear that not-set-off losses of discontinued business can be set off out of any other profits or gains or a continued business or profession, or out of the deemed profits of the discontinued business or profession.

6. Losses in Speculation Business [Sec. 73 (2)] : If any loss of a speculation business cannot be fully set off against the profits of another speculation business, such are to be set off against the profits of speculation business of those assessment years. Such losses may be carried forward for a maximum period of 8 assessment years immediately succeeding the assessment year for which the loss was first computed. But losses of speculation business in banned items cannot be carried forward to be set off against the profits of a legal speculation business.

7. Capital Losses [Sec. 74] : If ‘capital loss’ of any previous year cannot be set off against the capital profits of the same previous year in which such loss is first computed, such loss may be carried forward to be set off against the ‘capital gains’ arising in eight (8) subsequent years. Capital loss means the capital loss as computed under the head ‘capital gains’ after setting-off of long-term or short-term capital gains.

8. Losses From the Activity of Owning and Maintaining Race Horses [Sec. 74-A (3)] : If any loss is incurred by the assessee in the activity of owning and maintaining race horses which cannot be set off out of the profits of another same business or activity, such not set off losses may be carried forward for a maximum period of 4 assessment years immediately succeeding the assessment year in which such loss was first computed. Such carried forward loss can be set off, during the subsequent assessment years, only out of the profits from the activity of owning and maintaining race horses. But the business whose loss is being carried forward must have been continued till the losses are carried forward. As soon as the business is discontinued losses of such discontinued business cannot be carried forward.

9. Carry-Forward of Losses in Case of Change in Succession of Business by Inheritance : If the business or profession of any person is succeeded by another person by inheritance, the successor can carry forward and set off the losses incurred by the concern before such succession.

10. Losses Relating to Lottery, Crossword Puzzles, Gambling, Betting Etc. : These incomes are chargeable to tax separately at 40%. As per section 58 (4), no allowance or deduction is admissible in respect of these incomes. Hence, any loss from any of these sources cannot be set off against any other income except the income from any of these sources. Thus, there does not arise any question of carry forward of the losses.

11. Submission of Return of Losses [Sec. 80] : Any loss cannot be carried forward and set off unless it is determined in pursuance of a return filed before the Assessing Officer within the time prescribed for it or within the extended time.

IMPORTANT QUESTIONS

Q.1. Give the definitions of the following –

a) Agricultural income

b) Assessee

c) Assessment year

d) Previous year

Q.2. What are the different heads which are liable for income tax?

Q.3. What includes salaries under the Income Tax Act?

Q.4. What are the exemptions in the salaries for Income Tax?

Q.5. Discuss the concept of income from house property for the purpose of Income Tax.

Q.6. What do you mean by capital gains?

Q.7. Discuss the concept of goodwill with regard to capital gains under the Income Tax.

Q.8. What do you mean by income from other sources in the Income Tax?

Q.9. Discuss the status of dividend under the head of income from other sources.

Q.10. What do you mean by set off and carry forward of losses?

Q.11. What includes business and professions for the purpose of Income Tax?