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“Investment-linked tax incentives” for specified businesses under Admissible Deductions [Section 35AD] – Income Tax

“Investment-linked tax incentives” for specified businesses under Admissible Deductions [Section 35AD] :

(1) Although there are a plethora of tax incentives available under the Income-tax Act, 1961 they do not fulfill the intended purpose of creating infrastructure since these incentives are linked to profits and consequently have the effect of diverting profits from the taxable sector to the tax-free sector. Therefore, with the specific objective of creating rural infrastructure and environment friendly alternate means for transportation of bulk goods, investment-linked tax incentives have been introduced for specified businesses, namely–

  •  setting-up and operating ‘cold chain‘ facilities for specified products;
  •  setting-up and operating warehousing facilities for storing agricultural produce;
  •  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;
  • building and operating a hotel of two-star or above category, anywhere in India;
  • building and operating a hospital, anywhere in India, with at least 100 beds for patients;
  •  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 CBDT in accordance with the prescribed guidelines.
  •  developing and building a housing project under a notified scheme for affordable housing framed by the Central Government or State Government;
  •  production of fertilizer in India;
  •  setting up and operating an inland container depot or a container freight station notified or approved under the Customs Act, 1962;
  •  bee-keeping and production of honey and beeswax; and
  •  setting up and operating a warehousing facility for storage of sugar.
  •  laying and operating a slurry pipeline for the transportation of iron ore; and
  •  setting up and operating a semiconductor wafer fabrication manufacturing unit, if such unit is notified by the Board in accordance with the prescribed guidelines.

(2) 100% of the capital expenditure incurred during the previous year, wholly and exclusively for the above businesses would be allowed as deduction from the business income. However, expenditure incurred on acquisition of any land, goodwill or financial instrument would not be eligible for deduction.

(3) Further, the expenditure incurred, wholly and exclusively, for the purpose of specified business prior to commencement of operation 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 capitalized in the books of account of the assessee on the date of commencement of its operations.

(4) Weighted “investment-linked” tax deduction for certain specified businesses [Section 35AD(1A)]

The following “specified businesses” would be eligible for weighted deduction@150% of the capital expenditure (including capital expenditure incurred before commencement of operations and capitalized in the books of account on the date of commencement of operations) under section 35AD(1A), if they commence operations on or after 1 st April, 2012 –

(i) setting up and operating a cold chain facility;

(ii) setting up and operating a warehousing facility for storage of agricultural produce;

(iii) building and operating, anywhere in India, a hospital with at least 100 beds for patients;

(iv) developing and building a housing project under a scheme for affordable housing framed by the Central Government or a State Government. Such scheme should be notified by the CBDT in accordance with the prescribed guidelines; and

(v) production of fertilizer in India.

(5) For claiming deduction (whether 100% or 150%) under section 35AD, the specified business should fulfill the following conditions –

(i) it should not be set up by splitting up, or the reconstruction, of a business already in existence;

(ii) it should not be set up by the transfer to the specified business of machinery or pla nt previously used for any purpose;

In order to satisfy this condition, the total value of the plant or machinery so transferred should not exceed 20% of the value of the total plant or machinery used in the new business.

For the purpose of this condition, machinery or plant would not be regarded as previously used if it had been used outside India by any person other than the assessee provided the following conditions are satisfied:

(a) such plant or machinery was not used in India at any time prior to the date of its installation by the assessee;

(b) the plant or machinery was imported into India from a foreign country;

(c) no deduction in respect of depreciation of such plant or machinery has been allowed to any person at any time prior to the date of installation by the assessee.

(iii) In respect of the business of 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, such business,—

(a) should be owned by a company formed and registered in India under the Companies Act, 1956 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;

(b) should have been approved by the Petroleum and Natural Gas Regulatory Board and notified by the Central Government in the Official Gazette.

(c) should have made not less than 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. The common carrier capacity condition prescribed by the regulations of the Petroleum & Natural Gas Regulatory Board is –

(1) “one-third” for natural gas pipeline network; and

(2) “one-fourth” for petroleum product pipeline network.

(d) should fulfill any other prescribed condition.

(6) where a deduction under this section is claimed and allowed in respect of the specified business for any assessment year, no deduction under the provisions of Chapter VI-A under the heading “C.-Deductions in respect of certain incomes” or section 10AA is permissible in relation to such specified business for the same or any other assessment year.

Correspondingly, section 80A has been amended to provide that where a deduction under any provision of this Chapter under the heading “C – Deductions in respect of certain incomes” is claimed and allowed in respect of the profits of such specified business for any assessment year, no deduction under section 35AD is permissible in relation to such specified business for the same or any other assessment year.

In short, once the assessee has claimed the benefit of deduction under section 35AD for a particular year in respect of a specified business, he cannot claim benefit under Chapter VI-A under the heading “C.-Deductions in respect of certain incomes” or section 10AA for the same or any other year and vice versa.

(7) The assessee cannot claim deduction in respect of such expenditure incurred for specified business under any other provision of the Income-tax Act, 1961 in the current year or under this section for any other year.

(8) The benefit will be available –

(a) in a case where the business relates to laying and operating a cross country natural gas pipeline network for distribution, if such business commences its operations on or after 1st April, 2007;

[Consequently, profit-linked deduction provided under section 80-IA to the business of laying and operating a cross country natural gas distribution network has been discontinued. As a result, any person availing of this incentive can now avail of the benefit under section 35AD].

(b) in a case where the business relates to setting and operating “cold -chain” facilities for specified products or warehousing facilities for storing agricultural produce, if such business commences its operation on or after 1st April, 2009;

(c) in the case of the business of affordable housing projects and production of fertilizer in a new plant or in a newly installed capacity in an existing plant, if such business commences operation on or after 1st April, 2011;

(d) in the case of business of setting up and operating an inland container depot or a container freight station notified or approved under the Customs Act, 1962, beekeeping and production of honey and beeswax and setting up and operating a warehousing facility for storage of sugar, if such business commences operation on or after 1st April, 2012;

(e) in a case where the business relates to laying and operating a slurry pipeline for the transportation of iron ore or setting up and operating a semi conductor wafer fabrication manufacturing unit, if such business commences its operations on or after 1st April, 2014;

(f) in any other case, if such business commences its operation on or after 1st April, 2010.

Illustration
Mr. A commenced operations of the businesses of setting up a warehousing facility for storage of food grains, sugar and edible oil on 1.4.2015. He incurred capital expenditure of Rs 80 lakh, Rs 60 lakh and RS 50 lakh, respectively, on purchase of land and building during the period January, 2015 to March, 2015 exclusively for the above businesses, and capitalized the same in its books of account as on 1st April, 2015. The cost of land included in the above figures are Rs 50 lakh, Rs 40 lakh and Rs 30 lakh, respectively. Further, during the P.Y.2015-16, it incurred capital expenditure of Rs 20 lakh, Rs 15 lakh & Rs 10 lakh, respectively, for extension/ reconstruction of the building purchased and used exclusively for the above businesses. Compute the income under the head “Profits and gains of business or profession” for the A.Y.2016-17 and the loss to be carried forward, assuming that Mr. A has fulfilled all the conditions specified for claim of deduction under section 35AD and has not claimed any deduction under Chapter VI-A under the heading “C. – Deductions in respect of certain incomes”. The profits from the business of setting up a warehousing facility for storage of food grains, sugar and edible oil (before claiming deduction under section 35AD and section 32) for the A.Y. 2016-17 is Rs 16 lakhs, Rs 14 lakhs and Rs 31 lakhs, respectively.

Solution
Computation of profits and gains of business or profession for A.Y.2016-17

Particulars Rs (in lakhs)
Profit from business of setting up of warehouse for storage of edible oil (before providing for depreciation under section 32) 31
Less: Depreciation under section 32

10% of Rs 30 lakh, being (Rs 50 lakh – Rs 30 lakh + Rs 10 lakh)

 3
Income chargeable under “Profits and gains from business or profession” 28

Computation of income/loss from specified business under section 35AD

  Particulars Food Grains Sugar Total
                                                     Rs (in lakhs)
(A) Profits from the specified business of setting up a warehousing facility (before providing deduction under section 35AD)

Less: Deduction under section 35AD

 16 14 30
(B) Capital expenditure incurred prior to 1.4.2015 (i.e., prior to commencement of business) and capitalized in the books of account as on 1.4.2015 (excluding the expenditure incurred on acquisition of land) = Rs 30 lakh (Rs 80 lakh – Rs 50 lakh) and Rs 20 lakh (Rs 60 lakh – Rs 40 lakh) 30 20 50
(C) Capital expenditure incurred during the P.Y.2015-16 20 15 35
(D) Total capital expenditure (B + C) 50 35 85
(E) Deduction under section 35AD      
  150% of capital expenditure (food grains) 75    
  100% of capital expenditure (sugar)   35  
  Total deduction u/s 35AD for A.Y.2016-17 75 35 110
(F) Loss from the specified business of setting up and operating a warehousing facility (after providing for deduction under section 35AD) to be carried forward as per section 73A (A-E) (59) (21) (21)

Notes:
(i) Weighted deduction@150% of the capital expenditure is available under section 35AD for A.Y.2016-17 in respect of specified business of setting up and operating a warehousing facility for storage of agricultural produce which commences operation on or after 01.04.2012. Food grains constitute agricultural produce and therefore, the capital expenditure incurred for setting up a warehousing facility for storage of food grains is eligible for weighted deduction@150% under section 35AD.

(ii) Deduction of 100% of the capital expenditure is available under section 35AD for A.Y.2016-17 in respect of specified business of setting up and operating a warehousing facility for storage of sugar, where operations are commenced on or after 01.04.2012.

(iii) However, since setting up and operating a warehousing facility for storage of edible oils is not a specified business, Mr. A is not eligible for deduction under section 35AD in respect of capital expenditure incurred in respect of such business.

(iv) Mr. A can, however, claim depreciation@10% under section 32 in respect of the capital expenditure incurred on buildings. It is presumed that the bui ldings were put to use for more than 180 days during the P.Y.2015-16.

(v) Loss from a specified business can be set-off only against profits from another specified business. Therefore, the loss of Rs 80 lakh from the specified businesses of setting up and operating a warehousing facility for storage of food grains and sugar cannot be set -off against the profits of Rs 28 lakh from the business of setting and operating a warehousing facility for storage of edible oils, since the same is not a specified business . Such loss can, however, be carried forward indefinitely for set -off against profits of the same or any other specified business.

(9) “Cold chain facility” means a chain of facilities for storage or transportation of agricultural and forest produce, meat and meat products, poultry, marine and dairy products, products of horticulture, floriculture and apiculture and processed food items under scientifically controlled conditions including refrigeration and other facilities necessary for the preservation of such produce.

An “associated person” in relation to the assessee means a person—

(i) who participates directly or indirectly or through one or more intermediaries in the management or control or capital of the assessee;

(ii) who holds, directly or indirectly, shares carrying not less than twenty-six per cent of the voting power in the capital of the assessee;

(iii) who appoints more than half of the Board of directors or members of the governing board, or one or more executive directors or executive members of the governing board of the assessee; or

(iv) who guarantees not less than 10% of the total borrowings of the assessee.

(10) In respect of the business of hotels and hospitals, the word “new” has been removed from the definition of “specified business”. Therefore, “specified business” means the business of building and operating, anywhere in India, –

(i) a hotel of two-star or above category as classified by the Central Government;

(ii) a hospital with at least one hundred beds for patients.

Consequently, the loss of an assessee claiming deduction under section 35AD in respect of a specified business can be set-off against the profit of another specified business under section 73A, irrespective of whether the latter is eligible for deduction under section 35AD. As assessee can, therefore, set-off the losses of a hospital or hotel which begins to operate after 1st April, 2010 and which is eligible for deduction under section 35AD, against the profits of the existing business of operating a hospital (with atleast 100 beds for patients) or a hotel (of two-star or above category), even if the latter is not eligible for deduction under section 35AD.

Illustration
XYZ Ltd. commenced operations of the business of a new three-star hotel in Madurai, Tamil Nadu on 1.4.2015. The company incurred capital expenditure of Rs 50 lakh during the period January, 2015 to March, 2015 exclusively for the above business, and capitalized the same in its books of account as on 1st April, 2015. Further, during the P.Y.2015-16, it incurred capital expenditure of Rs 2 crore (out of which Rs 1.50 crore was for acquisition of land) exclusively for the above business. Compute the income under the head “Profits and gains of business or profession” for the A.Y.2016-17, assuming that XYZ Ltd. has fulfilled all the conditions specified for claim of deduction under section 35AD and has not claimed any deduction under Chapter VI – A under the heading “C. – Deductions in respect of certain incomes”. The profits from the business of running this hotel (before claiming deduction under section 35AD) for the A.Y.2016- 17 is Rs 25 lakhs. Assume that the company also has another existing business of running a four-star hotel in Coimbatore, which commenced operations eight years back, the profits from which are Rs 120 lakhs for the A.Y.2016-17.

Particulars Rs
Profits from the specified business of new hotel in Madurai (before providing deduction under section 35AD)   25 lakh
Less: Deduction under section 35AD    
Capital expenditure incurred during the P.Y.2015-16 (excluding the expenditure incurred on acquisition of land) = Rs 200 lakh – Rs 150 lakh 50 lakh  
Capital expenditure incurred prior to 1.4.2015 (i.e., prior to commencement of business) and capitalized in the books of account as on 1.4.2015 50 lakh  
Total deduction under section 35AD for A.Y.2016-17   100 lakh
Loss from the specified business of new hotel in Madurai   (75 lakh)
Profit from the existing business of running a hotel in Coimbatore   120 lakh
Net profit from business after set-off of loss of specified business against profits of another specified business under section 73A   45 lakh

(11) Where the assessee builds a hotel of two-star or above category as classified by the Central Government and subsequently, while continuing to own the hotel, transfers the operation of the said hotel to another person, the assessee shall be deemed to be carrying on the specified business of building and operating a hotel. Therefore, he would be eligible to claim investment-linked tax deduction under section 35AD.

Therefore, in effect, the assessee shall be deemed to be carrying on the specified business of building and operating hotel if –

(i) The assessee builds a hotel of two-star or above category;

(ii) Thereafter, he transfers the operation of the hotel to another person;

(iii) He, however, should continue to own the hotel.

(12) Where any goods or services held for the purposes of the specified business are transferred to any other business carried on by the assessee, or vice versa, and if the consideration for such transfer does not correspond with the market value of the goods or services then the profits and gains of the specified business shall be computed as if the transfer was made at market value.

For the above purpose, “market value” means the price such goods or services would ordinarily fetch in the open market, subject to statutory or regulatory restrictions, if any.

(13) The deduction shall be allowed to the assessee only if the accounts of the assessee for the relevant previous year have been audited by a chartered accountant and the assessee furnishes the audit report in the prescribed form, duly signed and verified by such accountant along with his return of income.

(14) Where it appears to the Assessing Officer that the assessee derives more than ordinary profits from the specified business due to close connection between the assessee and any other person, or due to any other reason, the Assessing Officer may consider such profits as may be reasonably deemed to have been derived from the specified business for the purpose of computing deduction under this section.

(15) Section 35AD(7A) provides that 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.

(16) If any asset on which a deduction under section 35AD has been claimed and allowed, is demolished, destroyed, discarded or transferred, the sum received or receivable for the same is chargeable to tax under clause (vii) of section 28. This does not take into account a case where asset on which deduction under section 35AD has been claimed is used for any purpose other than the specified business by way of a mode other than that specified above.

(17) Accordingly, sub-section (7B) provides that 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 income of the assessee chargeable under the head “Profi ts and gains of business or profession” of the previous year in which the asset is so used.

(18) However, the deeming provision under sub-section (7B) shall not be applicable to a company which has become a sick industrial company under section 17(1) of the Sick Industrial Companies (Special Provisions) Act, 1985, during the intervening period of eight years specified in sub-section (7A).

Illustration
ABC Ltd. is a company having two units – Unit A carries on specified business of setting up and operating a warehousing facility for storage of sugar; Unit B carries on non-specified business of operating a warehousing facility for storage of edible oil. Unit A commenced operations on 1.4.2014 and it claimed deduction of Rs 100 lacs incurred on purchase of two buildings for Rs 50 lacs each (for operating a warehousing facility for storage of sugar) under section 35AD for A.Y.2015-16. However, in February, 2016, Unit A transferred one of its buildings to Unit B.

Examine the tax implications of such transfer in the hands of ABC Ltd.

Solution
Since the capital asset, in respect of which deduction of Rs 50 lacs was claimed under section 35AD, has been transferred by Unit A carrying on specified business to Unit B carrying on non-specified business in the P.Y.2015-16, the deeming provision under section 35AD(7B) is attracted during the A.Y.2016-17.

Particulars Rs
Deduction allowed under section 35AD for A.Y.2015-16 50,00,000
Less: Depreciation allowable u/s 32 for A.Y.2015-16 [10% of Rs 50 lacs] 5,00,000
Deemed income under section 35AD(7B) 45,00,000

 

Income Tax | Lavish Dey |

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