A. Basic Understanding:

The government has notified various specified areas as Special Economic Zones (“SEZ”) or Free Trade  SEZones under the provisions of Section 3 and Section 4 of the Special Economic Zone Act, 2005 (“SEZ Act”). Section 27 of the SEZ Act provides that “the provisions of the Income-tax Act, 1961 (“the Act”), as in force for the time being, shall apply to, or in relation to, the Developer or entrepreneur for carrying on the authorized operations in a Special Economic Zone or Unit subject to the modifications specified in the Second Schedule (2nd Schedule)”. 2nd Schedule to SEZ Act provides the modifications made under the Income tax Act, 1961 for the purpose of giving some relaxations to the SEZ Unit. The same, inter-alia, includes the introduction of Section 10AA of the Income tax Act, 1961 w.e.f. financial year 2005-06. We will understand the provisions of Section 10AA of the Income tax Act, 1961 in this article and also the relaxations and exemptions given to SEZ under Income tax laws.

B. Entities eligible for deduction and Period of deduction under Section 10AA of the Act:

Eligible Entities:

An entrepreneur, who begins to manufacture or produce articles or things or provide any services during the period beginning from 1st April, 2005 to 31st March, 2020, shall be eligible to take a deduction under  section 10AA with respect to the export turnover of his unit located in SEZ.

Period of Deduction:

The deduction under Section 10AA of the Act if allowed to the eligible entities:

  • 100% of the Profits and Gains from exports from such unit – FOR FIRST FIVE YEARS;
  • 50% of the Profits and Gains from exports from such unit – FOR NEXT FIVE YEARS;
  • 50% of the Profits and Gains from exports from such unit – FOR NEXT FIVE YEARS provided that the same has been debited from Statement of Profit and Loss and credited to a reserve called “Special Economic Zone Re-investment Reserve Account”.

Analysis:

1. Deduction is available for a period of maximum 15 years from the year in which the entity has commenced the manufacturing or provision of services.

2. The deduction under Section 10AA of the Act is allowed to the assessee from the total income computed as per the Income tax provisions. Hence, the deduction is allowed to the maximum of total income of such assessee – Amendment made by Finance Act, 2017.

3. Units which have already availed the deduction under Section 10A of the Act for a consecutive period of 10 years are not eligible to claim this deduction.

4. Entities engaged in services in relation to Computer Software are also eligible. Further, the profits and gains derived from on site development of computer software (including services for development of software) outside India shall be deemed to be the profits and gains derived from the export of computer software outside India.

 C. Calculation of deduction amount under Section 10AA of the Act:

The amount of deduction allowed under Section 10AA of the Act will be computed as under:

Particulars

INR Amount

A. Profits derived from eligible unit

XXXX

B. Export turnover of such unit

XXXX

C. Total Turnover of such Unit

XXXX

D. Amount of deduction under Section 10AA

A/C*B

Notes:

1. Export turnover means the consideration in respect of export by the undertaking brought into India by the assessee but does not include freight, telecommunication charges or insurance attributable to the delivery of the articles or things outside India or expenses, if any, incurred in foreign exchange in rendering of services (including computer software) outside India.

2. The Income in relation to Export benefits will not be allowed as deduction under Section 10AA of the Act as per Supreme Court Judgment in case of Liberty India.

D. Utilization requirement of Special Reserve created:

Permitted Purposes:

Section 10AA (2) provides that the amount credited to the Special Economic Zone Re-investment Reserve Account is to be utilized:

  • for the purposes of acquiring machinery or plant which is first put to use before the expiry of a period of three years following the previous year in which the reserve was createdmeans within three years, the machine is required to be acquired and put to use; and
  • until the acquisition of the machinery or plant as aforesaid, for the purposes of the business of the undertaking other than for distribution by way of dividends or profits or for remittance outside India as profits or for the creation of any asset outside India.

AND

  • Form 56FF is required to be filed to the Income tax department duly verified by Chartered Accountant – Online Filing Available.

If above conditions not fulfilled

If the amount of reserve is not utilized within the prescribed time limit or utilized for any non-permitted purpose, then the amount not so utilized shall be deemed to be profits:

  • If amount is utilized for a non-permitted purpose – IN THE YEAR OF UTILIZATION.
  • If amount is not utilized within the time limit – NEXT YEAR TO THREE YEARS COMPLETION.

E. Other Conditions:

  • Unit of SEZ shall not be formed by splitting up or reconstruction of a unit already in existence.

Relaxation to Software Companies and ITeS (IT Enabled Services): Circular 14/2014 – 08.10.2014:

The Companies engaged in the development of Computer Software and ITeS can take the benefit of any of the below two options in order to transfer technical manpower (the same will not be deemed as formation of SEZ by splitting up of any existing unit):

  • 50% of the total technical manpower of the NEW SEZ UNIT can be the persons transferred from the old units (either in SEZ or not); OR
  • Any number of technical manpower can be transferred from OLD UNITS to NEW SEZ UNITS provided that the entity is required to demonstrate the total addition of technical manpower at the enterprise level being at least 50% of the total technical manpower of the SEZ unit.
  • It is not formed by transfer of old machineries to new business except that Second hand imported machinery can be used in the SEZ unit and other old machineries cannot be more than 20% of the total plant and machinery.
  • Where a deduction under this section is claimed and allowed in respect of profits of any of the specified business, referred to in section 35AD, for any assessment year, no deduction shall be allowed under the provisions of section 35AD in relation to such specified business for the same or any other assessment year.

F. Some Important Points:

  • Physical relocation of SEZ unit from one SEZ area to another will not debar any entity to get deduction under this Section.
  • Separate books of account are not required to be maintained. However, AO can call for the details separately for such SEZ unit.
  • In case the SEZ unit has been sold by way of slump sale, then also the deduction will be available to the buyer for the unexpired period.
  • Any R&D service embedded in the “Engineering and Design” with respect to Computer Software will be covered under “computer software”.
  • SEZ UNITS ARE LIABLE TO PAY TAX UNDER MINIMUM ALTERNATE TAX (MAT) UNDER SECTION 115JB OF THE INCOME TAX ACT, 1961.

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Tags : section 10a (94) SEZ (140)

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