Applicability of provisions of Section 35AD of Income Tax Act, 1961

INCOME TAX QUESTIONS & ANSWERS SERIES PART -XXXIII

PROBLEM

Indian Gas Limited commenced its operation of laying and operating cross country gas pipeline network for distribution on 01.07.2017. The company incurred Capital Expenditure of Rs. 300 Lakhs ( including cost of land of Rs. 45 Lakhs and cost of financial instrument of Rs. 5 lakhs) during the period from 01/04/2016 to 30/06/2017. The company did not claimed deduction from such expenditure in the earlier assessement years. The entire expenditure was capitalised on 01.07.2017. Further during the previous year 2017-18 (from July 2017), the company has incurred Capital expenditure of Rs. 200 lakhs exclusively for that business.

1. Compute the amount of deduction allowable under Section 35AD assuming that the company has fulfilled all the conditions specified in Section 35AD ;
2. If the company has loss from such business in the Ay 2018-19, how the same is to be set off and carried forward?

SOLUTION

i. Section 35AD provides for investment-linked tax incentive for Specified Business. One such specified business of laying and operating a cross-country natural gas or cured or petroleum oil pipeline network for distribution, including storage facilities benign an integral part of such network. The benefit will be available in a case where business relates to lying and operating a cross country natural gas pipeline network for distribution.

Under section 35AD, 100% of the Capital Expenditure incurred during the previous yea, wholly and exclusively for the above business would be allowed as deduction from business income. However, expenditure incurred on acquisition of any land, goodwill or financial instrument or where the payment is made in a mode other than by A/c payee cheque or A/c payee draft or through ECS would not be eligible for deduction.

Further the expenditure incurred, wholly and exclusively, for the purpose of specified Business prior to commencement of operations would be allowed as deduction during the previous year in which the assessee commences operation of his specified business. A condition has been inserted that such amount incurred prior to commencement should be capitalised in the books of account of the assessee on the date of commencement of its operations.

The deduction admissible under Section 35AD for AY 2018-19 would be;

Amount in Lakhs

1. Capital Expenditure incurred during the FY 2017-18. Rs. 200
2. Capital Expenditure incurred during the period from Rs. 250

01/04/2016 to 30/06/2017 (i.e. prior to commencement of Business) and Capitalised in the books of account on 01/07/2017

(Rs. 300Lakhs - Land 45 Lakhs - Rs 5 Lakhs financial Instrument)
=========

Total Deduction under Section 35AD for AY 2018-19. Rs. 450
==========

However the actual deduction u/s. 35AD for AY 2018-19 would be restricted to the profits derived from specified Business for that year. The difference would be treated as loss from Specified Business to be carried forward according to provisions of Section 73A.

ii. Section 73A provides that any loss computed in respect of the Specified Business shall be setoff only against profits and aims, if any, of any other Specified Business. The unabsorbed loss, if any, will be carried forward for setoff against profits and gains of any Specified Business in the following Assessement Year and so on. There is not time limit specified for carry forward and set-off and therefore, such loss can be carried forward indefinitely for setoff against income from specified business.

Footnote:

1. TO WHOM DEDUCTION UNDER SECTION-35AD SHALL BE ALLOWED

CONDITIONS-1: SPECIFIED BUSINESS

Deduction under section 35AD shall be allowed to the assessee who is carrying on any of the following specified business:

1. setting up and operating a cold chain facility;
2. setting up and operating a warehousing facility for storage of agricultural produce;
3. laying and operating a cross-country natural gas or crude or petroleum oil pipeline network for distribution, including storage facilities being an integral part of such network;
4. the business of building and operating anywhere in India, a hotel of two-star or above category, as classified by the Central Government;
5. building and operating, anywhere in India, a hospital with at least 100 beds for patients;
6. developing and building a housing project under a scheme for slum redevelopment or rehabilitation framed by the Central Government or a State Government, as the case may be, and notified by the Board in this behalf in accordance with the guidelines as may be prescribed;
7. developing and building a housing project under a scheme for affordable housing framed by the Central Government or a State Government, as the case may be, and notified by the Board in this behalf in accordance with the guidelines as may be prescribed;
8. production of fertiliser in India;
9. setting up and operating an Inland Container Depot or Container Freight Station notified and approved under the Customs Act, 1962;
10. bee-keeping and production of honey and beeswax; and
11. setting up and operating a warehousing facility for storage of sugar.
12. laying and operating a slurry pipeline for the transportation of iron ore;
13. setting up and operating a semiconductor wafer fabrication manufacturing unit, if such unit is notified by the Board in accordance with the prescribed guidelines;
14. developing or maintaining and operating or developing maintaining and operating a new infrastructure facility

CONDITION-2

Specified business should be new business -

The specified business should not be set up by splitting up, or the reconstruction, of a business already in existence. Moreover, it should not be set up by the transfer of old plant and machinery.

• 20 per cent old machinery is permitted -

If the value of the transferred assets does not exceed 20 per cent of the total value of the machinery or plant used in the business, this condition is deemed to have been satisfied.

• Second-hand imported machinery is treated as new -

Any machinery or plant which was used outside India by any person (other than the assessee) shall not be regarded as machinery or plant previously used for any purpose, if the following conditions are fulfilled-

1. Such machinery or plant was not, at any time previous to the date of the installation by the assessee, used in India.
2. Such machinery or plant is imported into India from any country outside India.
3. No deduction on account of depreciation in respect of such machinery or plant has been allowed or is allowable under the Act in computing the total income of any person for any period prior to the date of the installation of the machinery or plant by the assessee.

CONDITION 3 - AUDIT OF BOOKS OF ACCOUNT

Books of account of the assessee should be audited.

2. NATURE AND AMOUNT OF DEDUCTION UNDER SECTION-35AD

100% Deduction shall be allowed an account of any expenditure of capital nature incurred wholly and exclusively for the purpose of the above specified business carried on by such assessee during the previous year in which such expenditure in incurred by him.

However, this is subject to the following 3 Propositions-

1. Expenditure incurred on the acquisition of any land or goodwill or financial instrument is not eligible for any deduction under section 35AD.
2. Deduction under section 35AD is not available (with effect from the assessment year 2018-19) pertaining to any expenditure in respect of which payment (or aggregate of payments) made to a person in a day (otherwise than by an account payee cheque/draft/use of electronic clearing system through a bank account) exceeds Rs. 10,000.
3. Expenditure incurred prior to the commencement of operation, wholly and exclusively, for the purpose of any specified business, shall be allowed as deduction during the previous year in which the assessee commences the operation of his specified business, if the amount is capitalized in the books of account of the assessee on the date of commencement of operation.

3. EXPENDITURE INCURRED PRIOR TO COMMENCEMENT OF OPERATION TO BE ALLOWED IN THE YEAR OF COMMENCEMENT OF OPERATION UNDER SECTION-35AD

The expenditure incurred, wholly and exclusively, for the purposes of any specified business, shall be allowed as deduction during the previous year in which he commences operations of his specified business, if-

4. CONDITIONS TO BE SATISFIED BY THE SPECIFIED BUSINESS TO APPLY THE SECTION-35AD

This section applies to the specified business which fulfils all the following conditions:

Further, if such asset is used for any purpose other than the specified business during the period of 8 years specified in section 35AD(7A), otherwise then by way of a mode referred to in section 28(vii), the total amount of deduction so claimed and allowed in any previous year in respect of such asset, as reduced by the amount of depreciation allowable in accordance with the provisions of section 32 as if no deduction had been allowed under section 35AD, shall be deemed to be income of the assessee chargeable under the head "Profits and gains of business or profession" of the previous year in which the asset is so used.

5. CONSEQUENCES OF CLAIMING DEDUCTION UNDER SECTION 35AD

The following consequences should be noted-

However, this provision will not apply to a company which has become a sick industrial company under section 17(1) of the Sick Industrial Companies (Special Provisions) Act within the time period of 8 years as stated above.

1. the expenditure is incurred prior to the commencement of its operations; and
2. the amount is capitalized in the books of account of the assessee on the date of commencement of its operations.
   1. it is not set up by splitting up, or the reconstruction, of a business already in existence;
   2. it is not set up by the transfer to the specified business of machinery or plant previously used for any purpose;
   3. where the business is of laying and operating a cross country natural gas or crude or petroleum oil pipelines network it should satisfy the following conditions also:
      1. it is owned by a Indian or by a consortium of such companies or by an authority or a board or a corporation established or constituted under any Central or State Act;
      2. it has been approved by the Notified Petroleum and Natural Gas Regulatory Board;
      3. it has made such proportion of its total pipeline capacity available for use on common carrier basis by any person other than the assessee or an associated person as prescribed by the Petroleum and Natural Gas Regulatory Board; and
      4. any other condition as may be prescribed.
   4. any asset in respect of which a deduction is claimed and allowed under section 35AD, shall be used only for the specified business for a period of eight years beginning with the previous year in which such asset is acquired or constructed.
   1. If deduction is claimed and allowed under section 35AD, the assessee shall not be allowed any deduction in respect of the specified business under the provisions of Chapter VIA under sections 80HH to 80RRB or under section 10AA for the same or any other assessment year.
   2. No deduction in respect of the expenditure in respect of which deduction has been claimed shall be allowed to the assessee under any other provisions of the Income-tax Act.
   3. Any sum received or receivable on account of any capital asset, in respect of which deduction has been allowed under section 35AD, being demolished, destroyed, discarded or transferred shall be treated as income of the assessee and chargeable to income-tax under the head “Profits and gains of business or profession”.
   4. Any loss computed in respect of the specified business shall not be set off except against profits and gains, if any, of any other specified business. To the extent the loss is unabsorbed, the same will be carried forward for set off against profits and gains from any specified business in the following assessment year and so on (no timelimit for carry forward of such loss).
   5. If the assessee owns two units one of them qualifies for deduction under section 35AD and the other one is not eligible for the same and there is inter-unit transfer of goods or services between the two units, then for the purpose of section 35AD calculation will be made as if such transactions are made at the market value.
   6. An asset (in respect of which a deduction is claimed and allowed under section 35AD) shall be used only for the specified business for a period of 8 years beginning with the previous year in which such asset is acquired or constructed. If such asset is used for any purpose other than the specified business, the total amount of deduction so claimed and allowed in any previous year in respect of such asset (as reduced by the amount of depreciation allowable in accordance with the provisions of section 32 as if no deduction had been allowed under section 35AD) shall be deemed to be business income of the assessee of the previous year in which the asset is so used.

DISCLAIMER: The write up produce here is only for information and knowledge of readers. In case of necessity do consult with professional for more clarification and understanding of subject matter.