Chapter IX
Computation of income from business
9.1 The computation of income from business is the most important head of income having profound implications for the Revenue. Therefore, the Code has rationalized the provisions relating to computation of income from business.
9.2 Every business will constitute a separate source and, therefore, income will be computed separately for each business. With a view to reducing the scope for litigation, a business will be treated as distinct and separate from another business if there is no interlacing or interdependence or unity embracing the two businesses.
9.3 There are two models for computation of income under this head. The first is the model where the taxable income is equal to business profits with specified adjustments. However, this model does not provide for items of receipts which form part of business profit and deductions to be made therefrom. As a result, there are frequent disputes about taxability of receipts and deductions for expenses. The second model is the income-expenses model which is now followed in countries like U.S.A., Canada, Australia and most Asian countries. The computation of income from business under the Code will be based on the income-expenses model where the taxable income under this head will be equal to gross income minus allowable deductions. To the extent possible, the items of receipts and deductions for expenses are enumerated to reduce the scope for litigation.
9.4 The new framework for computation will be as follows :—
(i) All assets will be classified into business assets and investment assets. The business assets will be further classified into business trading assets and business capital assets.
(ii) The income from transactions in all business assets will be computed under the head "Income from business". The income from transactions in all investment assets will be computed under the head "Capital gains".
(iii) The profits from business will be equal to gross earnings from the business minus the amount of business expenditure incurred.
(iv) Income from business will be equal to the profits from business.
(v) Ordinarily, all accruals and receipts derived from, or connected with, business will form part of the "gross earnings" irrespective of whether they are derived from business trading assets or business capital assets. These will, inter-alia, include the following :—
(a) Profit on sale of business capital assets. (This will no longer be treated as capital gains).
(b) Profit on sale of an undertaking under a slump sale. (This will no longer be treated as capital gains).
(c) The reduction or remission of any liability by way of loan, deposit or advance (other than those which are received by an individual from his relative, as defined).
(d) Consideration accrued or received in respect of transfer of any business asset self generated in the course of the business.
(e) Amount accruing to, or received by, the assessee on account of the cessation, termination or forfeiture of any agreement entered into in the course of business.
(f) Amount accruing to, or received by, the assessee, whether as advance or security deposit or otherwise, from the long term leasing or transfer of the whole or part of, or any interest in, any business asset.
(g) Amount accruing to, or received by, the assessee as reimbursement of any expenditure incurred by him.
(vi) The new items which are to be excluded from "gross earnings from business" are :—
(a) income by way of interest other than the interest accruing to permitted financial institutions. (This will be treated as income from residuary sources).
(b) income from letting of any property consisting of any building or lands appurtenant thereto, of which the assessee is the owner, other than income from letting of any property in the course of running a hotel, convention centre or cold storage. (This will be treated as income from house property).
(vii) Business expenditure is classified into three mutually exclusive expenditure categories : (i) operating expenditure ; (ii) permitted financial charges ; and (iii) capital allowances.
(viii) Operating expenditure is defined to include all expenditure laid out or expended wholly and exclusively for the purposes of business. This category covers all expenses which do not fall under "permitted financial charges" or "capital allowances". The provision also contains a positive list of items of business expenditure which shall be treated as operating expenditure and a negative list of items of business expenditure which shall not be treated as operating expenditure.
(ix) Permitted financial charges are defined as expenses on account of interest payable on borrowed capital. These include interest payable to any creditor, discount on bonds/ debenture, etc. and also other incidental charges payable for obtaining any loan. The deduction in respect of interest payable to banks/ financial institutions shall continue to be allowed on "actually paid basis".
(x) Capital allowance relates to deduction in respect of capital cost. It includes depreciation and initial depreciation on business assets and allowance for scientific research and development.
(xi) Depreciation on business capital assets will be allowed with reference to the adjusted written down value of the block of assets. The rates of depreciation presently prescribed in the Income-tax Rules will be specified in the Schedule to the Code. Further, the depreciation regime will also be extended to expenses hitherto amortised.
(xii) Scientific research and development allowance will be allowed with reference to expenditure on scientific research and development since such expenditure generates positive externalities. The salient features of the allowance are :
(a) 100 per cent. deduction for any revenue expenditure laid out or expended on scientific research related to the business.
(b) 100 per cent. deduction for any capital expenditure, other than expenditure on land.
(c) 150 per cent. deduction for any expenditure (both revenue and capital) incurred on in-house research and development by a company, excluding expenditure on land.
(d) The scope of the weighted deduction of 150 per cent. will be extended to all industries.
(e) The term "scientific research" will be comprehensively defined.
(xiii) Loss on sale of business capital assets, which is treated as capital loss under the 1961 Act, will be treated as intangible asset and depreciation will be allowed at the same rates applicable to the relevant block of assets. Effectively, therefore, a taxpayer will be allowed to set off only a fraction of the loss every year. This will, accordingly, serve as a disincentive for asset stripping and loss manipulation.
(xiv) The determination of profit of certain businesses on presumptive basis will continue. These include :—
(a) Business of civil construction.
(b) Business of supplying labour for civil construction.
(c) Business of plying, hiring or leasing of heavy goods vehicle.
(d) Business of plying, hiring or leasing of light goods vehicle.
(e) Business of retail trading.
(f) Business of civil construction in connection with a turnkey power project approved by the Central Government in this behalf.
(g) Business of erection of plant or machinery or testing or commissioning thereof, in connection with a turnkey power project approved by the Central Government in this behalf.
(h) Business of providing services or facilities in connection with the prospecting for, or extraction or production of, mineral oil.
(i) Business of supplying plant and machinery on hire used, or to be used, in the prospecting for, or extraction or production of, mineral oils.
(j) Business of operation of ships (including an arrangement such as slot charter, space charter or joint charter)
(k) Business of operation of aircraft (including an arrangement such as slot charter, space charter or joint charter)
(xv) Separate income determination regimes are provided for the following :—
(a) Business of insurance.
(b) Business of operating a qualifying ship.
(c) Business of mineral oil or natural gas.
(d) Business of generation, transmission or distribution of power.
(e) Business of developing a special economic zone.
(f) Business of operating and maintaining a hospital.
(g) Business of processing, preserving and packaging of fruits or vegetables.
(h) Business of developing, or operating and maintaining, or developing, operating and maintaining, any infrastructure facility.
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