Understanding section 28 with latest case laws

The usage of section 28 to justify any expenditure or loss is rarely found. We try to substantiate the same under section 36 or 37 and sometimes not able to get the deduction due to limitations and conditions laid down in that section. That’s why we should now also try to substantiate the same under section 28 also. If you look into the section  28 it says that all kind of business profit are included and business profit also include business loss. Hence, if we prove that expenses incurred is a pure business loss then we may able to take claim of the same.

Now let us see the summary of the latest judicial decision’s in this regard:

1. Compensation : In the case of Eastern book company 322 ITR 605, it was held that Amount received as compensation for infringement of copy right assessable as business income.  Again, Assessee having admitted the liability in respect of outstanding trade advances received against exports which was enforceable under the law and eventually repaid the amount with RBI’s permission, there was no cessation of liability and therefore the same cannot be treated as assessee’s income, even though the assessee had utilized the said money for other purposes i.e. investment in real estate during lull period. Refer, ITO v Eurostar Distilleries (P) Ltd. In the case of Tulip Hotels, 132 TTJ 633, it was held that Assessee having received 150 free room right vouchers as part of compensation on termination of arrangement for operating the resort belonging to another party following a settlement made during the year under consideration .The value of free room night vouchers accrued to the assessee in the relevant year even though these vouchers could not be utilized. The loss on account of non user of vouchers can be considered only in subsequent year and not in the year under consideration. In the case of Wall Fort Financial Services Ltd. vs. Addl. CIT it was held that No doubt that section 28(va) considers a receipt of non compete fee as income but it would not by itself lead to a conclusion that any payment of like nature would be on revenue account only.  Again, in the case of ION Exchange (India) Ltd v ITO it was held that If receipt of compensation for cancellation of a contract does not affect trading structure of business of assessee then such compensation has not be treated as revenue receipt.  

The payment received as a non competition fee under a negative covenant was always treated as a capital receipt till AY 2003-04. There is a dichotomy between receipt of compensation received for loss of agency, which is treated as revenue receipt and receipt of compensation  attributable to negative / restrictive covenant which is treated as capital receipt. It should be noted that it is only by section 28(va) inserted by Finance Act 2002 w.e.f. 1/4/2003, which is amendatory and not clarificatory that the said capital receipt is now made taxable. Refer, Guffin Chemicals. Again, Subsidy received by Government to meet the part of the expenditure to be incurred for rectification and improvement of power line damaged due to cyclone will be revenue in nature.( Asst year 1987-88). Refer, AP State electricity board, 130 ITD 1.

2. Waiver of Loan :  Waiver or write off of part of principal amount of loan by sister concern is not taxable as Benefits or perquisites under section 28(iv) as benefits should be of the nature other than cash. Refer,  Jindal Equipments Leasing & Consultancy Services Ltd. 37 DTR 172. Similarly, Amount initially received as loan for setting up  business would not became business income chargeable to tax by its being taken to reserve and surplus account by assessee by forfeiture. Refer, Velocent Technologies Ltd 120 TTJ 659.

The payment received as a non competition fee under a negative covenant was always treated as a capital receipt till AY 2003-04. There is a dichotomy between receipt of compensation received for loss of agency, which is treated as revenue receipt and receipt of compensationtributable to negative / restrictive covenant which is treated as capital receipt. It should be noted that it is only by section 28(va) inserted by Finance Act 2002 w.e.f. 1/4/2003, which is amendatory and not clarificatory that the said capital receipt is now made taxable. Refer, Logitronics Pvt. Ltd. vs. CIT 333 ITR 386.

3. Forex Forward Cover :  Benefit arising out of business - Capital gains  - Transfer  - Forex forward contract for discharging borrowings for machinery and equipments  - profit on cancellation - No transfer of asset - Not taxable as not falling under definition of sec 28. Refer, Garden Silk Mills Limited, 320 ITR 720. 

4. Forex Transaction : Group companies of assessee situated abroad incurred certain expenditure on its behalf, at time of repayment, due to fluctuation in exchange rate amount payable became more than what was accounted for in terms of dollar rate on date of incurring. Since transactions of assessee with group companies were on trading account loss incurred on account of fluctuation in foreign exchange rate is allowable deduction. Refer, C. B. Richard Ellis Mauritius Ltd. vs. Dy. DIT 38 SOT 236.  Further, Gains on account of foreign exchange fluctuations in respect of share capital collected in foreign exchange is capital receipt. Refer, Jagajit Industries Limited, 32 DTR 168. Again, Payment made by assessee to bank for cancellation of forward foreign exchange contract being in the nature of damages for non performance of contract is allowable as business loss and it can be treated as a speculative loss as there is no settlement of contract and s. 43(5) is not attracted. Refer, Voltas International Limited, 126 TTJ 702.  

5. Future Option :  In the case of G.K. Anand Bros. Build Well (P) Ltd. 34 SOT 439, it was held that Loss arising in future and option transactions carried out in a recognized stock exchange is to be treated as business loss and not as loss in peculation.(Asst year 2006-07).  Editorial - Shree Capital Services Ltd. v Asstt CIT (2009) 121 ITD 498 (SB)(Kol). considered.

6. Shares as stock in trade : Securities held by bank in the nature of current investments automatically became the stock-in-trade of the bank and therefore, loss arising from the sale of “current investments” is a business loss. Refer, Dy. Director IT vs. Chohung Bank, 40 DTR 75.  Further, The loss incurred by the assessee on the sale of  shares held by the assessee should be treated as business loss of the assessee. Refer, Malabar Industrial Co. Ltd.320 ITR 486. Again, in the case of Ankita Deposits & Advances (P) Limited, 43 DTR 92,  Assessee company having reflected its entire shareholding in various shares, including the shares in question, as stock-in-trade all along in the past and the revenue authorities having come to the finding of fact that the shares of the same company were purchased by the assessee by way of trading and not by way of investment, income derived from sale of shares is to be treated as business income and not as capital gains. Same was again confirmed for the case of Rakesh J Sanghvi v DCIT and Immortal Financial Service (P) Limited v DCIT. Again, Where the assessee had dealt in more than 300 scripts during the year and turnover of delivery based transactions is about Rs. 3,500 crores and the assessee had regularly dealt in purchase and sales of shares with high frequency and volume with repetitive purchases and sales in the same script, with no shares being held for more than one year, considering the entirety of facts and circumstances, profit earned from delivery based transactions in shares was rightly treated as business income as declared earlier as against short term claimed by the assessee.  Refer, Wall Fort Financial Services Ltd. vs. Addl. CIT,  

7. Write Off :  Deposit given to Calcutta Stock Exchange to become corporate member of exchange was written off as business loss. The assessee entitled to deduction as business loss. Refer, Parlight Securities Ltd. vs. ACIT 3 ITR 628.(ITAT). Further, Assessee a share broker writing off amounts due from clients in the course of business as irrecoverable, same is allowable as business loss u/s. 28(i).Refer, Kotak Securities Limited, 24 DTR. In the case of Popular Vehicle and Services Limited, 326 ITR 387, Amount should have been shown in Accounts of earlier Year to be Written off in later years is a  Business loss. In the case of ITO v Reliance Engineering Associations (P) Limited it was held that When deposits made for residential accomodation of employees of assessee company  become irrecoverable it is allowbale as business loss u/s 28.  In the case of Dy. CIT vs. Edelweiss Capital Ltd Mumbai ITAT held that The assessee, engaged in investment activities, advanced Rs. 27.97 lakhs for development of a website. As the advance was not recoverable, the assessee wrote off the amount and claimed it as a “bad debt” even though the conditions of section 36(1)(vii) & 36(2) were not satisfied. HELD, that (i) Though the claim as a ‘bad debt’ is not allowable, the assessee is entitled under Rule 27 to support the CIT(A)’s order on the ground that the amount should be allowed as a ‘business loss’. Further as the expenditure was abortive, no capital asset has in fact been acquired and even if the website had materialized, it does not result in  an advantage of an enduring nature or in the capital field as it is only for the day-to-day running of the business and provision of information. 

8. Mutual Concern :  Where the Association or company trades with its members only and the surplus out of the common fund is distributable among the member, there is mutuality and the surplus is not assessable to tax as profit. Refer, Prabhashankar Plaza v ITO. 

9. Setting up of business : Receipts up to the stage of setting up of business would go to reduce the cost of setting up of business. It would be travesty of justice if the assessee’s expenditure up to the stage of setting up is treated as capital in nature but not the receipts during the same period. Refer, Shapoorji Pallonji Tower Co. Ltd. 28 DTR 12.

10.  Penalty : Where assessee executed a security transactions, in violation of provisions of s. 15 of Security Contacts (Regulation) Act, 1956 and loss generated out of said transaction were undisputedly, borne out of books of assessee, such a loss would be allowable loss. Refer, Bank of America, 27 SOT 97.

11. DEPB : Amount Equivalent to face value of DEPB as well as amount received in excess of DEPB would constitute Profits of Business under section 28(iiid). Refer, CIT v Kalpataru Colours and Chemicals.

12. Custodian : Where assessee is merely a custodian of amount in the special fund created as per instructions and rules framed by REC for administration of special fund and ownership of funds continues with REC Interest accrued on special fund amount including FDS made therefrom does not accrue to assesseee and assessee is accordingly not liable to pay tax thereon. Refer, Co-operative electrical supply limited v ACIT.

13. Anticipated Loss : Anticipated loss in respect of trading in derivatives  cannot be treated as a contingent liability. Refer, Edelweiss Capital v ITO.

14.  Interest on NPA : No interest income would accrue to an NBFC on ICD which has become an NPA in accordance with provisions of section 45Q of RBI act and prudential norms issued by RBI in exercise of ITS statutory powers. Refer, CIT v Vasisth Chay Vyapar Limited.

15.  Advance : Fee received by a Coching institute at the time of admission of students for entire couse, is an advance & not Income for purpose of IT Act. Refer, CIT v Dinesh Kumar Goel.

16. PMS Transactions : Gains arising from PMS transactions are capital gains & not business profits. Refer, ITO vs. Radha Birju Patel.

In case of any further clarification, please mail me at mr_manish_ca@yahoo.com and also you can see daily tax updates at  http://taxbymanish.blogspot.com/.