unabsorbed depreciation  can be carried forward indefinitely.

DESPITE the many amendments, clarifications and court cases, depreciation allowance remains a contentious issue between companies and the Revenue Department.

Normal depreciation is considered a legitimate deduction in determining profits. If profits are not adequate, the unabsorbed depreciation allowance can be carried forward to the next assessment year. In this respect, it is similar to unabsorbed business loss.

However, a business loss will have to be determined by the assessing officer (AO) in pursuance of a return filed. As per Section 139(3) of the Income-Tax Act, 1961, a return must have been filed and an assessment made for the year in which the company incurred the loss. The AO has to inform the assessee by an order in writing that the amount of business loss which the assessee is entitled to carry forward. Is it the same rule for unabsorbed depreciation allowance?

The courts have been divided over this issue. For instance, the Madras High Court, in the Rajarathinam Transport (P) Ltd vs CIT (1993 199 ITR 203 Madras) case, ruled that if unabsorbed depreciation was not determined for being carried forward and set off, it cannot be allowed to be set off in a subsequent assessment year. There should be a specific order from the assessing authority determining the depreciation not only for assessment, but also for its being carried forward from one assessment to another.

Dissenting from this view, the Punjab and Haryana High Court, in the recent CIT vs Haryana Hotels Ltd (276 ITR 521) case, pointed out that the unabsorbed depreciation of previous years formed part of the current year's depreciation and allowance for depreciation comes from the current year's income.

Unabsorbed depreciation is deemed in law to be part of current depreciation. It has to be added to the depreciation of current year and the aggregate unabsorbed and current year depreciation had to be deducted from the total income of the assessment year.

In respect of business losses of earlier years, the law requires notification by way of an assessment order to enable the assessee carry forward the unabsorbed business losses for being set off against the current year's income. There is no provision in the Act that makes it mandatory for the assessee to a file return for carry forward and set off of unabsorbed depreciation which is to be notified by the AO, as in the case of unabsorbed business loss.

There is a clear distinction in the law with regard to the set off and carry forward of unabsorbed depreciation and unabsorbed business loss.

The Central Board of Direct Taxes had issued a Circular in June 1969 clarifying that the carry forward of unabsorbed depreciation and unabsorbed development rebate will not fall within the ambit of Section 139(3).

This circular was not brought to the notice of either the Madras High Court or the Punjab and Haryana High Court. Is depreciation allowance optional or compulsory? Courts had decided that it is optional. This helped tax planners to so devise the return as to adjust the taxable profits since depreciation allowance can be claimed any time. To nullify the effect of these decisions, the law was amended from assessment year 2002-03 by inserting Explanation 5 to Section 32 (1) providing that depreciation shall be allowed whether or not claimed by the assessee.

The Explanation starts with the words "for the removal of doubts". The courts have held that it is not a mere clarification amendment, and applied only from assessment year 2002-03, not earlier.

The scheme of carry forward and set off of unabsorbed depreciation was amendment by substitution of a new sub-section 2 in Section 32. From assessment year 1997-98 onwards, unabsorbed deprecation was placed on a par with unabsorbed business loss and the legal fiction about carried forward unabsorbed depreciation being part of current depreciation was buried. A limit of eight years was placed for carrying forward such unabsorbed depreciation.

The amendment applied even to depreciation allowances of earlier years remaining unabsorbed as on April 1, 1996. This position prevailed up to assessment year 2001-02. The Finance Act, 2001 again amended Section 32 (2) restoring the position prevailing before April 1, 1997.

It needs to be emphasised that the carried forward depreciation of earlier years remaining unabsorbed as on April 1, 2001, would be governed by the current position in the law.

The position today is that unabsorbed depreciation allowance can be carried forward indefinitely.

(The author is a former Chief Commissioner of Income-Tax.)