WHETHER REMISSION OF TRADING LIABILITY SEPARATELY TAXABLE WHERE INCOME FROM BUSINESS HAS BEEN DECLARED ON PRESUMPTIVE BASIS U/S 44AD, 44ADA OR 44AE OF THE INCOME TAX ACT, 1961- AN IN DEPTH ANALYSIS
Lots of confusion remain in situations where an Eligible Assessee as defined under section 44ADA or an Assessee as defined under section 44ADA or Section 44AE of the Income Tax Act, 1961 is declaring his/her Income from Business or Profession on Presumptive basis under any of the Section 44AD, or 44ADA or 44AE of the Income Tax Act, 1961 and also there is remission of Trading Liability during the same year against which the expenses were claimed in any earlier year as to whether that Remission will be separately TAXABLE OR NOT. This article has made an attempt to discuss the paradox at length and should be considered an Independent Observation of the Author and should not be considered a Legal advice. Any reliance on the discussion by any one will be at respective own risk of the user of the discussion.
SECTION 44AD:
“44AD. (1) Notwithstanding anything to the contrary contained in sections 28 to 43C: in the case of an eligible assessee engaged in an eligible business, a sum equal to eight per cent of the total turnover or gross receipts of the assessee in the previous year on account of such business or, as the case may be, a sum higher than the aforesaid sum claimed to have been earned by the eligible assessee, shall be deemed to be the profits and gains of such business chargeable to tax under the head “Profits and gains of business or profession” :
Provided that this sub-section shall have effect as if for the words “eight percent”, the words “six per- cent” had been substituted, in respect of the amount of total turnover or gross receipts which is received by an account payee cheque or an account payee bank draft or use of electronic clearing system through a bank account [or through such other electronic mode as may be prescribed] during the previous year or before the due date specified in sub-section (1) of section 139 in respect of that previous year.
2) Any deduction allowable under the provisions of sections 30 to 38 shall, for the purposes of sub-section (1), be deemed to have been already given full effect to and no further deduction under those sections shall be allowed.
………………………………………………………………..”
SECTION 44ADA:
“Section 44ADA. (1) Notwithstanding anything contained in sections 28 to 43C”……………………………………………
2) Any deduction allowable under the provisions of sections 30 to 38 shall, for the purposes of sub-section (1), be deemed to have been already given full effect to and no further deduction under those sections shall be allowed.
……………………………………………………………………………….”
SECTION 44AE:
“Section 44AE (1) Notwithstanding anything contained in sections 28 to 43C” …………………………………
2) Any deduction allowable under the provisions of sections 30 to 38 shall, for the purposes of sub-section (1), be deemed to have been already given full effect to and no further deduction under those sections shall be allowed.
………………………………………………….”
A plain deep reading of Sections 44AD, 44ADA and 44AE clearly spell out the fact that all deductions laid down in Sections 30 to 38 shall be deemed to be allowed. Now if we read this with the initial words “Notwithstanding anything to the contrary contained in sections 28 to 43C” or “Notwithstanding anything contained in sections 28 to 43C” of the Income Tax Act, 1961, we must correlate the words and phrases in the context of allowance or disallowance of expenses otherwise mentioned in Section 30 to 38 and even if something contrary or elsewise is stated in Sections 28 to 43C of the Income Tax Act, 1961 which might have overriding impact on the issue of allowance of expenses laid down in Section 30 to 38 of the Income Tax Act, 1961, still all the deductions laid down under Sections 30 to 38 of the Income Tax Act shall be deemed to be allowed in case of Income being declared under Presumptive System may it be U/S 44AD or 44ADA or 44AE of the Income Tax Act, 1961. The core issue here is of allowance of disallowances of expenses from Total Turnover or Gross Receipts and not for considering the taxability of any other income accruing in the relevant year.
Now when we read Section 41 (1) of the Income Tax Act, 1961, the same speaks of certain deemed Income and not about expenses. When we talk about something “Deemed to be allowed”, the same has a connotation with “EXPENSES” and not with “INCOME”. Many authorities are of the view that since the law provides the words and phrases “Notwithstanding …………………………………….. Section 28 to 43C”, all the stated provisions of Sections 28 to 43C including Section 41 (1) of the Act stands overridden by Sections 44AD, Section 44ADA and Section 44AE. There is no doubt about that but one must also keep in mind that this overriding nature is applicable only on the issue of allowability of expenses laid down in Section 30 to 38 of the Act and not on the issue of considering certain benefit as Income. In so far as the matter of considering some GAIN or BENEFIT as Income is concerned, one must go by the extent specific taxability provisions of law governing that particular gain or benefit. Let us take the case of Section 41 (2) which speaks about Income in case of sale of Depreciable Fixed Assets and says that the Income to the extent of difference between Actual Cost and Written Down Value shall be considered as Income from the Business during the year in which the moneys payable for the said Fixed Asset is becoming due. If we go by the opinions of the learned authorities on the subject, then in case of presumptive income, the said Income cannot be separately taxed whereas Section 50 makes the same taxable by virtue of Sub Section 1 and 2 of the said Section 50 of the Act. Therefore while interpreting any section, we must not forget the context and spirit with which the said Section has been drafted. Substance and spirit of the Section will have to prevail over the Form and language of the Section.
Before we further proceed in the matter, we need to understand the meaning of certain terms like “TRADING LIABILITY”, “REMISSION OF TRADING LIABILITY”, “GROSS TURNOVER or GROSS RECEIPTS” of Business or Profession. Let us explain them one by one as under:
MEANING OF TRADING LIABILITY: The Words and Phrases “Trading Liability” means an OBLIGATION of a person (Customer od Debtor) TO PAY to another person (Supplier or Service Provider) against purchase of Goods or Services the amount of which purchase has been claimed and allowed as an ELIGIBLE REVENUE EXPENDITURE in the Income Tax Return of the said Customer or Debtor.
REMISSION OF TRADING LIABILITY: Once it is an established fact that a particular Liability is a Trading Liability, there may be situations when some benefit is derived by the Customer or the Debtor Entity in the form of Remission or Cessation or Waiver of the said Trading Liability, then the same is to be named as “REMISSION OF TRADING LIABILITY”.
TOTAL TURNOVER OR GROSS RECEIPTS:
As per our independent understanding of the Guidance Note on Terms used in Financial Statements of the Institute of Chartered Accountants of India, the words and phrases “Sales Turnover” shall be the aggregate of amount for which the sales are effected by the business entity. Following should be deducted from the Sales Turnover:
1. Trade Discount or Turnover Discount if the same is allowed in the Sales Invoice.
2. Rebates
3. Sales Returns
4. Sale Proceeds from Sale of Fixed Assets
5. Sale of Scraps unless the assesse is engaged in the business of dealing in scraps.
Gross Receipts shall include the following:
1. Out of Pocket Expenses recovered as Consolidated Fees
2. Cash Assistance received or receivable by any person against exports under any Govt Scheme
3. Any duty Drawback against exports under specified schemes
4. Interest Income received by a Money Lender, Commission, Brokerage, Service and other incidental charges received in the case of business of chit fund
5. Reimbursement of expenses incurred like Packing, Forwarding, Freight, Insurance, Travelling if the same is part of consolidated receipts. However if separate account is kept for the same, then only net surplus under each category should form part of gross receipts or turnover.
6. Hire charges of cold storage
7. Liquidated damages.
8. Insurance claims except those which are linked with the fixed assets.
9. Lease rent in the business of operating lease.
10. Finance income to reimburse and reward the lessor for his investment and services.
11. Hire charges and instalments received in the course of hire purchase.
12. Advance received and forfeited from customers.
13. The value of any benefit or perquisite, whether convertible into money or not, arising from business or exercise of a profession.
Following receipts shall be excluded from the scope of gross receipts and taxability of each shall have to be decided by specific provisions of law:
1. Out of pocket expenses recovered separately from the client shall not form part of gross receipts.
2. Where a professional received an advance for services which are yet to be rendered, it will not form part of the gross receipts till the services are rendered.
3. Sale proceeds of fixed assets including advance forfeited if any.
4. Sale proceeds of assets held as investments.
5. Rental income unless the same is assessable as business income.
6. Dividends on shares except in the case of an assessee dealing in shares.
7. Income by way of interest unless assessable as business income.
8. Reimbursement of customs duty and other charges collected by a clearing agent.
9. The amount received by travel agents from clients for payment to airlines, railways etc. is excluded if received by way of reimbursement of expenses incurred on behalf of the client. If, however, the travel agent is conducting a package tour and charges a consolidated sum for transportation, boarding and lodging and other facilities, then the amount received from the members of the group tour should form part of gross receipts.
10. The Amount of advertising charges recovered by an advertising agent from his clients by way of reimbursement shall be excluded. However, if he books the advertisement space in bulk and recovers the charges from different clients, the amount recovered by him will form part of his gross receipts.
11. Share of profit of a partner in the total income of the firm shall be excluded from the total turnover of the partner.
12. Write back of amounts payable to creditors or provisions for expenses or taxes no longer required.
As such, one thing is crystal clear that Total Turnover or Gross Receipts are to include all the receipts or receivables accruing during the year which are in the nature of Inflow during the year and pertaining to the year or inflows pertaining to the year but receivable afterwards other than reimbursement of expenses billed and recorded as such.
Remission of Trading Liability cannot by any means be considered as Inflow rather it is a reversal of expenses which was incurred in some earlier year. The turnover against the same must have been already effected in some earlier year and simply a remission of earlier trading liability cannot again form part of turnover. There might be situation when the purchase was made in the same year and part of the liability of the said purchase has been written back in the same year. In that case, the same can be netted to purchases and liability can be extinguished from books. But that cannot be the situation when liability was incurred in an earlier year (and the relevant amount of purchase of goods or services was claimed as expense in that year) and Remission or cessation arises in a subsequent year, than actually the same is a reversal of expense of earlier year and NOT TURNOVER IN TRUE SENSE OF THE TERMS.
SECTION 41(1) OF THE INCOME TAX ACT, 1961: Section 41(1) deals with considering ceased trading liability as deemed profits of business or profession.
“1) Where an allowance or deduction has been made in the assessment for any year in respect of loss, expenditure or trading liability incurred by the assessee (hereinafter referred to as the first-mentioned person) and subsequently during any previous year –
a. the first-mentioned person has obtained, whether in cash or in any other manner whatsoever, any amount in respect of such loss or expenditure or some benefit in respect of such trading liability by way of remission or cessation thereof, the amount obtained by such person or the value of benefit accruing to him shall be deemed to be profits and gains of business or profession and accordingly chargeable to income-tax as the income of that previous year, whether the business or profession in respect of which the allowance or deduction has been made is in existence in that year or not; or
b. the successor in business has obtained, whether in cash or in any other manner whatsoever, any amount in respect of which loss or expenditure was incurred by the first-mentioned person or some benefit in respect of the trading liability referred to in clause (a) by way of remission or cessation thereof, the amount obtained by the successor in business or the value of benefit accruing to the successor in business shall be deemed to be profits and gains of the business or profession, and accordingly chargeable to income-tax as the income of that previous year.
Explanation 1 – For the purposes of this subsection, the expression “loss or expenditure or some benefit in respect of any such trading liability by way of remission or cessation thereof” shall include the remission or cessation of any liability by a unilateral act by the first mentioned person under clause (a) or the successor in business under clause (b) of that sub-section by way of writing off such liability in his accounts.
Explanation 2 – For the purposes of this subsection, “successor in business” means –
i. where there has been an amalgamation of a company with another company, the amalgamated company;
ii. where the first-mentioned person is succeeded by any other person in that business or profession, the other person;
iii. where a firm carrying on a business or profession is succeeded by another firm, the other firm;
iv. where there has been a demerger, the resulting company.
The words used in Section 41 (1) of the Act speaks clearly that such Remission of Trading Liability shall be deemed to be profits and gains of business or profession and accordingly chargeable to income-tax as the income of that previous year, whether the business or profession in respect of which the allowance or deduction has been made is in existence in that year or not.
The above clearly indicates that such Remission of Trading Liability shall be considered as INCOME of the relevant year and as such, the same is directly taxable as Income and cannot form part of Total Turnover or Gross Receipts. So there is nothing as such in Section 41 (1) of the Act which stands Contrary to the provisions of Section 44AD, 44ADA or Section 44AE of the Income Tax Act, 1961. Section 44AD or Section 44ADA speaks that prescribed minimum percentage of profit shall be applied on Total Turnover or Gross Receipts and if some gain or benefit in business is outside the scope of Total Turnover or Gross Receipts and the said Gain or Benefit is otherwise taxable as per the provisions of law, the word “NOTWITHSTANDING” used in Section 44Ad or 44ADA or 44AE cannot give immunity from taxation to the specific gain or benefit not forming part of Total Turnover or Gross Receipt, whether the business continues to exist or not and also whether the Assessee applies presumption or Not.
To be more clear in the matter, let us take certain possible scenarios:
SCENE 1: Total Turnover or Gross Receipt Rs. 2 Lac. Remission of Trading Liability Rs. 2 lacs. Business continues to exist.
SCENE 2: Total Turnover or Gross Receipts Rs. 40 Lacs, Remission of Trading Liability Rs. 2 Lacs Business Continues to exist.
SCENE 3: Turnover during the year Rs. NIL. Remission of Trading Liability Rs. 2 Lacs. Business Continues to exist.
Let us take up the Scene 3 first. Every layman who has the basic knowledge of taxability will say that entire Rs. 2 Lacs shall be directly taxable as Business Income for the year in which remission takes place. Now let us come to Scene 1 and Scene 2 where the Assessee is applying for presumption either U/S 44Ad or 44ADA as the case may be. Simply that the scene has changed cannot change the manner of taxability of said Rs. 2 Lac against Remission of Trading Liability.
Let us stretch the same further and change the Scene 1 and Scene 2 keeping the Total Turnover or Gross Receipt as the same respective figures and change the figure of Remission of Trading Liability to Rs. 200 Lac from Rs. 2 Lac. I would like the matter of taxability of Remission of Trading Liability to the readers of the Article.
Let us take one more scenario where there is only Total Turnover or Gross Receipts and no remission of Liability e.g Turnover Rs 40 lacs (Cash) covered by 44AD and the Assessee declared Presumptive Income of Rs. 320000/- @8% of turnover. Now let us suppose that there was a Remission of Trading Liability of Rs. 2 Lacs during the year. Now if I conclude that the Profit of the Assessee in the changed situation is same, the same sounds grossly contrary to legal position. The sections say actual profit or deemed profit whichever is higher need to be declared. Now in the given case, in the changed situation the Presumptive profit is Rs. 320000/- and extra profit is Rs. 2 Lacs so the Assessee’s business Income will be the higher one i.e, Rs. 520000/- and not simply Rs. 320000/-
To conclude, I am of the view that Remission of Trading Liability cannot form part of Turnover or Receipts used in Section 44Ad, or 44ADA in whatever form and shall be separately taxable as Business Income and no presumption can be applied thereto U/S 44Ad, or 44ADA or 44AE of the Income Tax Act, 1961.
The matter is more clear in a case where in year 1 in which the said liability was incurred, the Assessee had two businesses say one medicine shop (U/S 44AD) and one Transport of Goods by Roads (U/S 44AE). In the year 3 in which the Remission of Trading Liability for Medicine Shop accrues, the medicine business was already closed but the liability was carried in books and now being written off. The Business of Transportation of Goods by Road continues to be carried in Year 3. Now if one argues that since the Assessee is applying for presumptive Income U/S 44AE in year 3, the Remission of Trading Liability arising in Year 3 against closed medicine business is not taxable, the same sounds grossly illogical and is to be subjected to judicial scrutiny.
My final observation is that when Section 44AD, or Sec 44ADA or Section 44AE speaks of deemed allowance of expenses U/S 30 to 38, the same should be restricted to Expenses only while reading the words “NOTWITHSTANDING” in all the three sections. Something which speaks of ALLOWABILITY OR DEDUCTIBILITY OF EXPENSES cannot be extended to mean NON TAXABILITY OF OTHER BUSINESS INCOME not forming part of Total Turnover or Gross Receipts which is the edifice of the two Sections. Section 44AE does not speak of Turnover or Receipts but provides a flat rate of income per Ton per month per Vehicle and Remission of Trading Liability in case of Goods Transport Business by Road cannot be considered as Income from Transportation as indicated in Section 44AE and will be separately taxable.
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AUTHOR: CA RATAN KUMAR AGARWALA, B.Com., FCA, DISA (ICA)
DISCLAIMER: The author is a Practising Chartered Accountant. The information contained in this Article is merely to provide an independent analysis of the provisions in a nutshell to the reader. The reader should not consider it as any expert or legal opinion in any matter raised herein. The reader is always advised to seek independent professional advice from his respective consultant before taking any action on specific issues.
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