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Wednesday, March 22, 2017

Profits and Gains from Business and Profession

Unit – 1: Profits and Gains from Business and Profession
Q. 1. WHAT IS THE MEANING OF “BUSINESS” & “PROFESSION” AS PER INCOME TAX ACT? What is the Basis of Charge [Sec. 28]
Ans: Business : “Business” simply means any economic activity carried on for earning profits. Sec. 2(3) has defined the term as “ any trade, commerce, manufacturing activity or any adventure or concern in the nature of trade, commerce and manufacture”. 
In this connection it is not necessary that there should be a series of transactions in a business and also it should be carried on permanently. Neither repetition nor continuity of similar transactions is necessary. 
Profession : “Profession” may be defined as a vacation, or a job requiring  some thought, skill and special knowledge like that of C.A., Lawyer, Doctor, Engineer, Architect etc. So profession refers to those activities where the livelihood is earned by the persons through their intellectual or manual skill.
The following income shall be chargeable to income-tax under the head “Profits and gains of business or profession”:
a)      the profits and gains of any business or profession which was carried on by the assessee at any time during the previous year;
b)      any compensation or other payment due to or received by,—any person, by whatever name called, managing the whole or substantially the whole of the affairs of an Indian company, at or in connection with the termination of his management or the modification of the terms and conditions relating thereto;

c)       income derived by a trade, professional or similar association from specific services performed for its members ;
d)      the value of any perquisite  or benefit  arising from business or profession , whether convertible into money or not,;
e)      any interest, commission , salary, remuneration , or bonus due to, or received by, a partner of a firm from such firm : 
f)       Any sum received under a Keyman insurance policy including the sum allocated by way of bonus on such policy.
g)      Income from speculative transactions.
h)      any sum, whether received or receivable, in cash or kind, under an agreement for:
a.       not carrying out any activity in relation to any business; or
b.      not sharing any know-how, patent, copyright, trade-mark, licence, franchise or any other business or commercial right of similar nature 
i)        any profit on the transfer of the Duty Free Replenishment Certificate
j)        any profit on the transfer of the Duty Entitlement Pass Book Scheme
k)      profits on sale of a license granted under the Imports (Control) Order, 1955, made under the Imports and Exports (Control) Act, 1947 (18 of 1947) 
Business Income not Taxable under the head “Profits and Gains of Business or Profession”
In the following cases, income from trading or business is not taxable under Sec. 28, under the head “Profits and Gains of Business or Professions” :
Nature of Income
Head under which it is chargeable to Tax
Rental income in the case of dealer in property
Rent of house property is taxable under Sec. 22 under the head “ Income from House Property” even if property constitutes Stock-in-trade of recipient of rent or the recipient of rent is engaged in the business of letting  properties on rent.
Dividend on shares in the case of a dealer-in-shares.
Dividend on shares are taxable under section 56(2)(i), under the head “Income from other sources” , even if they are derived from shares  held as stock in trade or the recipient of dividends is a dealer-in-shares. However, dividend received from an Indian company is not chargeable to tax in the hands of shareholders.
Winning from Lotteries etc.
Winning form Lotteries, races, etc. are taxable under the head “Income from Other Sources” ( even if derived as a regular business activity)

Q.2. List out the expenses which are deductible and not deductible while calculating PGBP?
Ans: EXPENSES DEDUCTIBLE FROM INCOME FROM BUSINESS/PROFESSION: All the expenses relating to business and profession are allowed against income. Following are few examples of expenditures which are allowed against income:-
a)      Rent rates and insurance of building.
b)      Payment for know-how, patents, copy rights, trade mark, licenses.
c)       Depreciation on fixed assets.
d)      Payment for professional services.
e)      Expenditures on scientific research for business purposes.
f)       Preliminary Expenses in case of Limited companies.
g)      Salary, bonus, commission to employees.
h)      Salary, interest and remuneration to working partners subject to certain conditions.
i)        Communication expenses.
j)        Traveling and conveyance expenses.
k)      Membership fees etc.
l)        Advertisement expenses in respect of promotion of business products.
m)    Discount allowed to customers.
n)      Interest on loans (Whether Private of Institutional).
o)      Bank Charges/Bank Commission expenses.
p)      Entertainment/Business Promotion expenses
q)      Staff Welfare expenses.
r)       Festival Expenses.
s)       Printing and stationery expenses
t)       Postage expenses.
u)      All other expenses relating to business/profession
Note: The above expenditures are allowed on the basis of actual payment as well as on accrual basis at the date of finalization accounts.
EXPENSES WHICH ARE DEDUCTIBLE ON ACTUAL PAYMENT ONLY: Following expenses will be allowed if these expenses have been paid before or on due date or before filing of income tax return:
a)      Any tax, duty, cess or fees by whatever name called.
b)      Contribution to provident fund, ESI premium, gratuity fund or other funds for welfare of employees.
c)       Bonus or commission or leave encashment payable to employees.
d)      Interest on loan from public financial institutions, state financial corporation or from scheduled bank.
EXPENSES NOT DEDUCTIBLE FROM BUSINESS/PROFESSION INCOME
a)      Expenditure on any type of advertisement of political party.
b)      Any interest, royalty, fees for technical services or other sums chargeable under this act, which is payable out side India or in India to non-resident or a foreign company on which tax has not been deducted or after deduction, not deposited in prescribed time.
c)       Any interest, commission, rent, royalty, professional or technical fees paid or payable to any resident of India or payment to contractor or sub-contractor on which TDS is not  deducted, or if deducted then not deposited before the due date of filing the return.
d)      Any tax calculated on the basis of profit of business.
e)      Any amount of Wealth Tax paid.
f)       Any payment of salaries payable outside India or to a non-resident on which tax is not deducted.
g)      Any tax actually paid by an employer on any income by way of perquisites, on behalf of the employee.
h)      Any remuneration paid to non working partner.
i)        Any remuneration paid to working partner other than specified in agreement or as per the specified limits by income tax act.
j)        Any interest to partner if not specified in agreement and not more than 12%.
k)      Any payment in cash exceeding Rs.20000/=. (Rs.35000/= in case of payment made for plying, hiring or leasing goods carriages) except when payments are made under circumstance specified in Rule 6DD of Indian income tax act.
l)        Where a deduction has been claimed on accrual basis during an assessment year and the payment is made in a subsequent year, and the payment or aggregate of payments made to a person in a day otherwise than by way of an account payee cheque/DD, exceeds Rs.20000/= (Rs.35000/= in case of goods carriages), such payments shall be deemed as profit of the assessee for the year in which the payment is made.
m)    Any provision for the payment of gratuity to the employees.
n)      Any personal expenditure.
o)      Expenses on defending in any proceedings for breach of any law relating to sales tax etc.
Q.3. Explain the Provisions of Income Tax Act, 1961 relating to the Depreciation on Assets.
Ans: DEPRECIATION ON ASSETS (Section 32)
Following assets are qualified for deduction under section 32(1):
a.       Tangible assets being building, machinery, plant or furniture
b.      Intangible assets being know-how, patents, copyrights, trademarks, licences, franchises or any other business or commercial rights of similar nature.
Building does not include land: Building means superstructure only and does not include land because there cannot be any question of the destruction of site.
METHODS OF DEPRECIATION: Depreciation under income tax is calculated by using the following methods:
1.       Written down value method;
2.       Straight line method.
Written down value method: Under this method the depreciation is charged every year at a fixed rate on the reducing balance of the block of assets. A certain percentage is applied to the previous year’s book value, to arrive at the current year’s depreciation/book value.
Straight line method: Under this method the depreciation is calculated at a fixed rate every year on the amount of actual cost of the asset. Block of assets concept is not applicable in this case. This method is applicable on certain assets of power generating units referred to in section 32(1)(i).
CONDITIONS FOR CLAIMING DEPRECIATION
a)      Asset must be owned (wholly or partly) by the assessee.         
b)      Asset must be used for the purpose of business or profession.
c)       Asset must be used during the relevant previous year.
d)      Depreciation shall be allowed on WDV of Block of asset at a prescribed rate.
1.       Asset must be owned (wholly or partly) by the assessee: For claiming depreciation on any asset, the assessee must me the owner (wholly or partly). Other relevant considerations are as under:
A)     Registered ownership is not necessary for claiming depreciation, what has to be seen beneficial ownership and not registered ownership.
B)      Tax treatments in case of lease and hire purchase of the asset: Following points should be noted:
Ø  If the transaction is treated as a lease, the lessor shall be eligible for depreciation on the asset. The entire lease rentals will be taxed as income of the lessor. The lessee, correspondingly, will not claim any depreciation and will be entitled to expense off the rentals.
Ø  If the transaction is a hire-purchase, the hirer (i.e. hire purchaser) will be allowed to claim depreciation. This is based on an old Circular issued in year 1943.
Ø  If assessee is the lessee of building and uses such building for his business or profession and incurs any capital expenditure on repairs of such building then, he can claim depreciation on such part.
2.       Asset must be used for the purpose of business or profession: For claiming depreciation the assets must be used by the assessee for the purpose of business or profession. Following other points should be noted:
a.       Proportionate depreciation for assets used for business as well as personal purpose-Section 38(2): Where an asset is partly used for the purpose of business or profession and partly for personal purpose then, under section 38(2), the depreciation under section 32(1)(ii) shall be restricted to a fair proportionate part thereof which the AO may determine, having regard to the use of such asset.
Note: While computing the WDV for next year, the depreciation actually granted to the assessee has to be taken into consideration and not the depreciation notionally allowed.
b.      Temple constructed inside the factory for the benefits of the employees eligible for depreciation.
3.       Asset must be used during the relevant previous year: It is not necessary that asset must be used throughout the year, even use during any part of the year would be sufficient to claim depreciation. Courts have held that, in certain circumstances, an asset can be said to be in use even when it is “kept ready for use”. For example, depreciation can be claimed by a transport company on spare engines kept in store in case of need, though they have not actually been used by the company. Hence, in such cases, the term “use” embraces both active use and passive use.  However, such passive use should also be for business purposes.         
4. Written down value method of charging depreciation: Under section 32(1)(ii), depreciation under income tax is allowed on the basis of written down value method. It is not computed on the basis of individual assets rather on the basis of a group of assets called Block of Assets which means a group of similar type of assets having same rate of depreciation.
Block of Assets: Under section 2(11), “Block of assets” means a group of assets falling within a class of assets comprising
(i)      Tangible assets, being buildings, machinery, plant or furniture.
(ii)    Intangible assets, being know-how, patents, copyrights, Trademarks, licences, franchises or any other business or commercial rights of similar nature, in respect of which the same percentage of depreciation is prescribed.
Each class of assets has been further divided into blocks with a particular rate of depreciation for each block. Intangible assets, however, have been grouped into one block only with a depreciation rate of 25%. Depreciation shall be allowed on the written down value (WDV) of the Block of asset at prescribed percentage
ACTUAL COST SECTION 43(1): Actual cost means the actual cost of the assets to the assessee as reduced by that portion of the cost thereof, if any, as has been met directly or indirectly by any other person or authority.
Expenses relating to acquisition of assets: The accepted accounting rule for determining cost of fixed asset is to include all the expenses directly relatable to acquisition of asset, the expenses necessary to bring the asset to site, install it and make it fit for use and expenses incurred to facilitate the use of the asset (e.g. cost incurred on its modification prior to use, training expenses of staff) and expenses on insurance power and fuel, incurred before commencement of business.
Interest: Supreme Court in case of Challapalli Sugars Ltd. v. CIT it has held that interest paid before the commencement of production on amounts borrowed by the assessee for acquisition and installation of plant and machinery forms part of the actual cost.
Interest on money borrowed for the purpose of acquiring a capital asset pertaining to the period after the asset is put to use cannot be added to the cost of the asset and therefore, it can be claimed as deduction under section 36(1)(iii). This rule is applicable whether the assessee is a new concern or an existing concern.
Proviso to section 36(1)(iii) provides that where interest is paid in respect of capital borrowed for acquisition of an asset for extension of existing business or profession of asset for the period beginning from the date on which capital was borrowed till the date on which SUCH asset was first put to use, shall not be allowed as deduction. It may be noted that this proviso is not applicable in case of newly started concern.
RATE OF DEPRECIATION
Block
Nature of Asset                                                                          Rate of Depreciation
Building
Block-1
Residential building other than hotels and boarding houses
5
Block-2
Office, factory, godowns or building-not mainly residential purpose
10
Block-3
Temporary erection such as wooden structures
100
Furniture
Block-4
Furniture-Any furniture/fitting including electrical fittings
10
Plant and machinery
Block-5
Any plant or machinery (not covered by block 6, 7,8,9,10,11 or 12) and motors cars (other than those used in a business of running them on hire) acquired or put to use on or after April 1, 1990
15
Block-6
Ocean-going ships, vessels ordinary operating on inland waters Including speed boats
20
Block-7
Buses, lorries and taxies used in business of running them on hire, machinery used in semi-conductor industry, moulds used in rubber and plastic goods factories
30
Block-8
Aero planes, life saving medical equipment
40
Block-9
Containers made of glass or plastic used as refill, new commercial vehicle which is acquired during Jan 1, 2009 and Sept 30, 2009 and is put to use before Oct 1, 2009 for the purpose of business / profession
50
Block-10
Computers including computer software. Books (other than annual
Publication) owned by a professional.
60
Block-11
Energy saving devices; renewal energy devices; rollers in flour mills,
Sugar works and steel industry
80
Block-12
Air pollution control equipments; water pollution control equipments; Solid waste control equipments, recycling and resource recovery System; (being annual publication) owned by assesses Carrying on a profession or books (may or may not be annual Publication) carrying on a business in running lending libraries
100
Intangible Assets
Block-13
Intangible assets (acquired after March 31, 1998) – know-how, Patents, copyrights, trademarks, licenses, franchises an other business or commercial rights of similar nature
25

CONDITION WHEN ONLY 50% DEPRECIATION IS ALLOWED
If any particular asset is purchased during the year and it has been put to use for less than 180 days during the year, in that case, depreciation is allowed at half the normal rate. If it is purchased during the year and is not at all put to use, depreciation shall not be allowed. But in the subsequent year whenever the asset is put to use, full depreciation shall be allowed irrespective of period of use.
“Put to use” does not mean putting the asset to actual use rather it means making an asset ready for use. So the all following conditions should be fulfilled:
a) An asset is acquired in the previous year and
b) It is put to use in this previous year and
c) Such put to use is for a period less than 180 days
CASES WHEN WDV OF A BLOCK IS REDUCED TO NIL: In following situations WDV of a block of assests is reduced to NIL
a)      When all the assets in the block including those acquired during previous year are sold. In such situation if Sale consideration including scrap is more than the value of the block then resulting figure will be SHORT TERM CAPITAL GAIN. If Sale consideration including scrap is less than the value of the block then resulting figure will be SHORT TERM CAPITAL LOSS.
b)      When part of block is sold and sale consideration including scrap received is more the WDV of the block:  In such situation WDV of block will be reduced to NIL and no Depreciation will be charged in relevant PY.
ADDITIONAL DEPRECIATION.  Section 32(1)(iia)
In the case of any new machinery or plant which has been acquired and installed after the 31.03.2005, by an assessee engaged in the business of manufacture or production, or in the business of generation or generation and distribution of power, additional depreciation at the rate of 20% of the actual cost of such machinery or plant shall be allowed if all of the following conditions must be fulfilled
Ø  Asset must be new
Ø  It must be installed after 31 March 2005
Ø  It must be for manufacturing or production
Ø  Power Generation and Distribution companies are also eligible for Additional Depreciation.
Additional depreciation is not allowed in the following cases:
(i)      Any machinery or plant which, before its installation by the assessee, was used either within or outside India by any other person or
(ii)    Any machinery or plant installed in any office premises or any residential accommodation, including accommodation in the nature of a guest-house or
(iii)   Any office appliances or road transport vehicles or ships and aircraft
(iv)  Any machinery or plant, the whole of the actual cost of which is allowed as a deduction (whether by way of depreciation or otherwise) in computing the income chargeable under the head “Profits and gains of business or profession” of any one previous year.
If the asset is purchased and put to use for less than 180 days, additional depreciation shall be allowed at 10% and remaining additional depreciation shall not be allowed in the subsequent year.
CARRY FORWARD AND SET OFF OF UNABSORBED DEPRECIATION SECTION 32(2): The current year depreciation for any assessment year shall be set off:
(a)    against the profit and gains of any business or profession carried on by the assessee assessable for that assessment year and
(b)   the balance, if any, against the income under any other head assessable for that assessment year,
Depreciation to the extent not set off being unabsorbed depreciation, shall be carried forward to the following previous year and added to the amount of allowance for depreciation for the following previous year and shall be deemed to be part of such allowance,
Or,
If there is no depreciation allowance for the following previous year, the unabsorbed depreciation shall be deemed to be the depreciation allowance for such previous year and so on for succeeding previous year. Unabsorbed depreciation can be carried forward indefinitely and set off against any other head of income.
Where there is carry forward of business loss or speculation loss also then, the order of set off shall be as under:
(a)    Set off of current year depreciation
(b)   Set off of brought forward business loss or speculation loss
(c)    Set off of unabsorbed depreciation
Set off will be allowed even if the same business to which it relates is no longer inexistence in the year in which the set off takes place. Depreciation can be carry forward by the same assessee. Except , the following cases:
(a)    A firm is succeeded by a company [ section 47(xiii)]
(b)   A proprietorship concern is succeeded by a company [ section 47(xiv)]
(c)    In case of amalgamation
(d)   In case of demerger
(e)   In case of amalgamation as given under section 72AA

Q.4. Explain the provisions of Sec. 40A, 40B and 43B.
Ans: EXPENSES NOT DEDUCTIBLE[Section 40A (2)]
AO may disallow payment made to relative if in his opinion it is excess of the market value.
Section 40A (3): Any payment exceeding Rs. 20000 or Rs.35000( in case of payment to a transporter engaged in plying, hiring, transporting etc.) in a day by an assessee will be allowed as a deduction only when payment is made by an account payee cheque.
EXCEPTIONS: This section is not applicable when
Ø  Payment is made to bank or financial institution,
Ø  Govt. Under required law
Ø  Payment on a Banking Holiday
Ø  Payment to employees not exceeding Rs.50,000 – Payment in a village not served by a bank
Ø  Book Adjustment
Ø  Payment for purchase of agriculture produce, Poultry farm produce, Dairy items, cottage industry(working without aid of power.
SALARY AND INTEREST ON CAPITAL TO PARTNERS (SECTION 40(b):
1. Interest, salary: Deduction as per provisions in partnership deed.
2. Interest on capital: Rate specified in partnership deed or 12% whichever is lower.
3. Salary: Allowed only to working partners. It should be lower of amount specified in partnership deed or following amount:-On First Rs.300,000 Of Book – 90% of book profits or Rs.150,000 Profits whichever is more
On Balance Of Book Profits – 60% of book profits
DEDUCTION UNDER SECTION 43B:
Section  43  B  mentions  some  cases  where  deduction  will  be  allowed  only  when amount is actually paid by the assessee before due date of filing return. In all these cases deduction of the expense is allowed on “paid” basis. However when expenditure is disallowed in one year, it will be allowed as a deduction in the previous year in which such expenses are actually paid.
Ø  Any sum payable by way of tax, cess, duty or fee under any law and by whatever name called.
Ø  Any sum payable by employer by way of contribution to provident fund or superannuation fund or any other employee benefit fund.
Ø  Any sum payable as bonus, commission to employees for services rendered.
Ø  Any sum payable as interest on loan borrowed from public financial institution or state financial institution.
Ø  Any sum payable as interest on loan taken from scheduled bank including co-operative societies.
Ø  Any sum payable by employer in lieu of leave salary to employee.
Q.5. Explain the provisions of the Income Tax Act relating to maintenance of books of accounts by persons carrying on Business and Profession.
Ans: MAINTENANCE OF BOOKS OF ACCOUNTS BY PERSONS CARRYING ON BUSINESS OR PROFESSION (SECTION 44AA AND RULE 6F):
Assessee carrying on Business or profession other than the profession notified under the rule 6F
Ø  Income Exceeds Rs. 120000 In Any Of 3 Preceding Previous Years or Likely to exceed Limit In Case Of Newly Set Up Business Or Profession Or If the turnover or sales or Gross Exceeds Rs.10 Lakhs In Any Of 3 Preceding Previous Years Or Likely To Exceed Limit In Case Of Newly Set Up Business Or Profession
Ø  In the case of Assessee carrying on profession of law, Company Secretary, Accountancy, medicine, architecture etc Gross Receipts Exceeds Rs.150,000 In All 3 Preceding Previous Years Or Likely To Exceed Limit In Case Of Newly Set Up Business
Specified Books: Cash Book, Journal (If Accounts On Accrual Basis), Ledger Carbon Copy Of Receipts Exceeding Rs. 25 And Original Copy Of Expenditure Exceeding Rs.50If The Assessee Falling Under Section 44ad, 44ae, 44bb, 44bbb Or Any Other Section Of Presumptive Income, Declares His Income Lower Than Specified In These Sections, He Is Required To Maintain Such Books As May Enable A.O. To Compute His Income. Failing to keep, maintain or retain books of accounts u/s 44AA read with rule 6F,will be levied a penalty of RS.250,000/-
COMPULSARY AUDIT OF ACCOUNTS UNDER SECTION 44AB
Business: In Case Gross Turnover or Total Sales Exceeds Rs.1core
Profession: In Case Gross Receipts Exceeds Rs. 25 Lakhs.

Filing of Report of Audit: An audit report duly verified by a CA on or before 30.09.yyyy of the relevant year has to be submitted.Sec.271B Failing to get accounts audited or furnish audit report required u/s44ABF, will be levied a penalty of RS.150, 000/- or Equal to HALF  OF  TOTAL  SALES   which ever IS  LESS.